India Ratings and Research (Ind-Ra) believes that the draft aviation policy will benefit regional airlines, maintenance, and repair and overhaul (MRO) providers and air cargo players but falls short of addressing structural issues to ensure long-term viability of major players i.e. full service carriers (FSCs) and low cost carriers (LCCs).
Ind-Ra however believes that any significant improvement in the regional market will result in FSCs and LCCs entering aggressively into the segment, thereby putting pressure on the profitability of regional players.
The success of the policy is contingent on the support from states and while it entails significant impetus for development of regional airports and provides incentives for airlines to operate on regional routes availing viability gap funding (VGF), it fails to address structural issues such as air turbine fuel (ATF) taxation in the metros and provide clarity on the 5/20 rule for operating overseas. Ind-Ra therefore expects the private LCCs and FSCs such as Interglobe aviation (Indigo), Jet Airways India, Go Airlines India (Go Air) and Spice Jet to take a cautious stance to expand in the regional areas and to enter this arena only after assessing the performance and profitability of regional airlines. Consequently, capacity additions in the regional markets will initially remain limited and will pick up only once FSCs and LCCs have an opportunity to expand in this market.
Ind-Ra further believes that the government of India’s target to increase domestic passenger traffic to 300 million by 2022 from 70 million in FY15, is aggressive, as the industry would have to register an annual CAGR of 23% which appears challenging in the midst of a global slowdown. The passenger traffic at the existing airports grew at a CAGR of 7.6% between FY10-FY14. Even in the years of booming domestic passenger traffic, FY04-FY10, the industry clocked an annual CAGR of 18.4%. A VGF of Rs 15 billion/ year for affordable regional ticket fares as stated in the draft policy, would be able to support passenger traffic to the extent of 12.5 million passengers annually. This expected improvement in the regional traffic in Ind-Ra's view would still be a marginal contributor to the overall passenger traffic.
Ind-Ra believes that regional players such as Air Costa Aviation Private (Air Costa), Abc Aviation And Training Services Private (FlyEasy), Air Pegasus Private (Air Pegasus), and Turbo Megha Airways Private (TruJet) would benefit the most from the policy as they would be exempt from airport charges, would not need to pay service tax, and would get free police and fire services.
This coupled with the lower MRO cost will further benefit the players. Furthermore, these players will benefit in the event of the abolition of the 5/20 rule and introduction of domestic flying credit (DFC), as a majority of these players are new entrants into the sector. Revenue from trading and sale of DFC would be an incremental source of revenue for the regional players. However, state support would be crucial for the Regional Connectivity Scheme to be successful, as the most important incentive of the policy - the decision to reduce tax on ATF to less than 1% rests with the state.
The tax on ATF presently ranges between 4%-30%. The state would also have to provide free land and security, as well as water and power at concessional rates. Ind-Ra believes that non-compliance/ resistance by states may result in higher fuel costs and therefore make the entire model unviable. Additionally, the regional players face inherent challenges. The technology for low capacity aircrafts, which seat fewer than 100 passengers, has become obsolete and less efficient. The model also involves a high cost for training pilots for multiple destinations, since the passenger turnout is less and the same aircraft is used to fly to multiple destinations in order to maintain efficiency.
The policy which aims at transforming India into a MRO hub, introduces several incentives and rebate to develop an Rs 50 billion MRO business in India. A significant part of the MRO business is the redelivery check of aircrafts at the time of termination of the lease period. Currently the Indian MRO players are non-competitive due to the high tax regime whereby they cater to less than 10% of the total redelivery business in India. However, Ind-Ra believes that the government's proposal of service tax exemption on Indian MRO services could prove to be a game changer for the aircraft redelivery business. This will help MRO players to capture the diversion of aircrafts availing services overseas and also help airline companies to reduce their expenditure of flying abroad.
The policy to allow foreign aircrafts (brought to India for MRO work) to stay for the entire period of maintenance or up to six months as against 60 days presently will provide new business avenues for the MRO players. Another positive move is that these aircrafts would be allowed to carry passengers at the beginning and end of the stay period in India, turning them into revenue flights. Thus the new policy will not only attract domestic players flying in and around India but also pull other international players flying across Asia and the Middle East to avail MRO service in India. Ind-Ra expects international aircrafts to form around 30% of the total aircraft mix being serviced by the Indian MROs in the long run, in the event the policy is implemented well.
The policy however remained silent on its promise to address the core issues plaguing the sector, such as concession on the ATF fuel cost for metros which accounts for 40%-50% of the total cost. Furthermore the policy remains ambiguous on the continuation of the 5/20 rule. This rule states that a domestic flier should operate in a domestic market for a minimum of five years and should have at least 20 aircrafts to be eligible to fly in the international market. Established LCCs and FSCs will not be willing to do away with the rule as they have already adhered to the majority of this rule, and its abolishment would give an undue advantage to the new players.
