Karnataka

Country’s aviation industry caught in turbulence Business sense

Businessmen often behave like children. They are euphoric when things are going well, but turn sullen as they approach a downturn. The slowdown in business, now evident for over six months, is a good example of the way business reacts to bad news. The information technology industry is a good case in point, but it is by no means the only one.

Another example of an industry in denial mode even as it is slowing down definitely is the airline industry. The first reaction to the slowdown was to blame it on something over which the industry had little control over — oil prices, particularly that of aviation turbine fuel. Although it appears to be the most plausible reason for the slowdown, there are several missing links in this simplistic narration.

For one, it is important to understand that the slowdown is itself caused by other more dramatic changes in the environment in which airlines operate. For instance, the load factor in airlines has been declining because of an overall slowdown of business.

Business travellers are after all one of the most important segments of air travellers. The overall economic downturn, it appears, has had an impact, just as it has in many other industrial segments.

Several industry analysts have been pointing to other — and much bigger — issues happening in the background. For instance, the recent collapse of AIG (American Insurance Group), which, on the verge of a collapse, was bailed out by Federal Reserve through a $85 billion package, has had an impact on the Indian aviation industry that has missed the attention of many.

AIG, one of the largest insurance companies in the world, through its subsidiary the International Lease Finance Corporation (ILFC), operates the largest aircraft leasing company in the world in terms of value of leases. Among its Indian customers are Air India, Jet Airways, Kingfisher Airlines and Spice Jet.

During the height of the boom in the aviation industry in the last few years, the new private airline companies acquired new aircraft. A little over one-third of the 370 commercial aircraft registered in the country are new, many of which are leased rather than bought outright from Boeing or Airbus typically. More significantly, they had structured the acquisition in ingenious ways to take advantage of tax breaks that facilitate acquisition of assets. Ironically, these companies may now have to pay heavily for their ingenuity.

Many of the companies bought the aircraft — invariably through borrowed funds — and then sold the aircraft to lessors such as the ILFC, which then leased the aircraft back to the airline company. Typically, the lease rates were fixed with reference to the LIBOR (London Interbank Offer Rate). When the interest rates in the international markets rise — as they have in recent weeks following the international credit and liquidity crises — the higher costs are passed on to those leasing the aircraft. Obviously, airlines would try and pass them on to passengers in the form of higher fares.

Seen in this light, it is easy to understand why airline companies have clamoured about higher fuel prices rather than higher lease rentals. The focus on fuel prices makes them appear to be innocent victims of factors beyond their control, rather than a backlash caused by the ingenious, and possibly reckless, financial methods they adopted at the height of the boom.

There is little doubt that private Indian airline companies will have to pay higher interest charges for leasing the aircraft.

In fact, the terms of the Federal Reserve’s bailout package imply that it will charge AIG (and therefore ILFC as well) an interest rate of 11.5 per cent. Speaking to The Hindu, Mark Martin, senior adviser, KPMG, said: “This will definitely have an impact, but how severe it will be only time will tell.” He advised that speculation on the fate of the airline companies be “put on hold for a few weeks.”

Significantly, Kingfisher, which has catapulted to the top-spot among private airlines, has recently shed 300 employees.

The company has stated that following “rationalisation,” it has “returned surplus aircraft which are redundant” back to the lessors.

Recent developments have exposed the underbelly of an industry that has been nurtured on euphoric projections.

The bailout it expects now from the Government must be placed in this context.

V. SRIDHAR

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