The Best & the Worst

In India, civil aviation has the potential to create a revolution similar to the one seen in mobile telephony. This is possible with the right vision, roadmap, regulatory framework and relentless focus on quality and cost.

In the mid-nineteenth century, Charles Dickens in his novel A Tale of Two Cities had described the situation before the French Revolution as, “It was the best of times; it was the worst of times”. More than a century and a half later, this quote fits well to draw a narrative about India’s civil aviation sector. It is the worst of times because the sector is reeling with several challenges. Bleeding airlines, falling passenger and cargo traffic, rising fares, high airport charges, frequent strikes and worried financiers have grabbed headlines in the last few months.

It is also the best of times. The situation has gradually led to a consensus within the government and most stakeholders that there is an urgent need for fundamental policy changes. It has been realised that the aviation sector which is a major facilitator of economic growth and employment generation cannot be left in such a volatile disposition. Some of the recent policy decisions by the Ministry of Civil Aviation (MoCA) are in line with this realisation.

The untapped potential of the sector can be gauged from the fact that India’s air travel penetration (domestic traffic divided by total population) stands at five per cent. It is negligible compared to the United States and the European Union at 230 per cent and 150 per cent respectively. Even among the Brazil, Russia, India and China (BRIC) countries, India is far behind Russia, Brazil and China having 50, 40 and 20 per cent respectively. KPMG believes that the unconstrained traffic potential for 2011-12 could be nearly 290 million as compared to the actual number of 162 million. To realise this true potential, progressive policies and a collaborative approach is required between the government, the industry and the public at large.

Airports

There has been a significant augmentation of airport infrastructure in the last five years with the passenger handling capacity rising from 72 million to 233 million. Although passenger traffic is projected to have a negative growth this fiscal, it has a compound annual growth rate (CAGR) of 13 per cent during the last decade. In anticipation of such a trend, significant investments would be required for construction of new airports, expansion and modernisation of existing airports, improvements in connecting infrastructure (road and metro) and better airspace management. As per estimates, Indian airports would require an investment of Rs. 65,600 crore during the Twelfth Five Year Plan (2012-17), of which around Rs. 50,000 crore is being expected from the private sector.

Significant challenges that confront this industry today are:

• Policy and Regulations: A stable, transparent, predictable and investor-friendly regulatory regime with a mechanism of time-bound resolution of issues is necessary for attracting investors. The recent decision of the government to disallow airport development fee (ADF) for Delhi and Mumbai airports from January 1, 2013, jolted everyone. It may be tough for the airport operators to bring in fresh equity and debt in these difficult times. Passengers may also have to shell out more in terms of higher user development fee (UDF) charges if the ADF is abolished. Such issues need to be deliberated on before a final decision. The number of airports and aeronautical services which fall under the Airport Economic Regulatory Authority (AERA) need to be rationalised. Nowhere in the world does an airport tariff regulator handle 15 airports and aeronautical services.
• Innovative Funding Mechanisms: Lenders are being increasingly cautious when issuing long-term debt to airport operators. Financial support, especially for Tier-III and Tier-IV airports is critical. Following ideas can be evaluated:
  — Allowing greater external commercial borrowings (ECBs) for the sector.
  — Allowing airport companies to issue tax free infrastructure bonds.
  — Facilitating ADF for pre-funding of airports. This reduces the returns that need to be provided to airport developers and hence helps keep tariffs down.
  — Creating an Aviation Infrastructure Development Fund (AIDF) to provide viability gap funding to airports and airlines serving Tier-III and Tier-IV cities.
• Facilitation by Government: This would help in swiftly clearing new airport projects which require a large number of institutional clearances. The delays at Navi Mumbai International Airport are a case in point. The proposed National Investment Board (NIB) may help. A successful example of such facilitation is Terminal 3 at the Indira Gandhi International Airport (IGIA), Delhi, where the National Facilitation Committee (NFC) under the Cabinet Secretary played a key role. Support from the state governments is also critical. This would come in the form of multi-modal connectivity, utilities, state security and lower tax on aviation turbine fuel (ATF).

Airlines

Indian domestic passenger traffic has grown with a CAGR of 15 per cent during last five years and now all the domestic carriers, except GoAir, also fly on international routes. Despite this significant growth, apart from IndiGo, all other airlines are reeling under losses and have large debt. Kingfisher Airlines’ licence has been suspended and Air India is being supported by Rs. 30,000 crore of taxpayer’s money. The recent decision of the government to allow foreign direct investment (FDI) by foreign airlines in the sector is extremely positive and related activity may be seen in the next few months either through some stake sales or incorporation of new airlines.

There are many structural issues plaguing this industry:

• Rationalisation of ATF: The high cost of ATF (45 to 55 per cent of an airline’s operating cost) is a formidable challenge for the financial health of airlines. Despite being an input fuel, ATF is subjected to sales tax as high as 28 to 34 per cent which renders it nearly 60 per cent costlier than its price in competing hubs such as Dubai, Singapore and Kuala Lumpur. To offset the high costs, the government has allowed direct import of ATF. This may not really work for want of ATF transportation network. What really needs to be done is that the government needs to notify ATF under the ‘declared goods’ category with a uniform application of sales tax of four per cent all over the country. This will result in significant benefit to the airlines and help expand the passenger base.
• The 5/20 Rule: The mandatory and unilateral restriction on Indian carriers of having ‘five years of operational experience and a 20 aircraft fleet’ before being allowed to operate on international routes is discriminatory. This rule should be reconsidered, particularly in the absence of similar restriction in other countries. Else nothing prevents an Indian carrier to get registered abroad and start flying into India from day one.
• Bilateral Rights: The government has taken a good reform measure by opening up bilateral rights to all the domestic carriers in India. Earlier an unwritten right of first refusal resided with Air India. This is a welcome step and all efforts should be made to ensure that Indian carriers utilise the full quota of seats available to them on international routes.
• Regional Connectivity: Most of the current traffic is at Tier-I & Tier-II airports. The next wave of growth would come from Tier-III and Tier-IV locations. Airlines must be supported by way of fare subsidies at such airports till the time traffic reaches a reasonable level. Creating an Essential Air Services Fund (EASF) to support air access to Tier-III & IV locations is one such option. This could be on similar lines as the Airport Improvement Programme (AIP) in the US or the India Infrastructure Project Development Fund (IIPDF) that is used to support other infrastructure sectors in India. The fund would facilitate regional connectivity and enhance traffic flying into metro airports also.