Airlines survival kit: Slim down,merge or drop out

The demand is expected to remain weak for at least next two-three quarters (till December 2009). So,the capacity needs to be cut further immediately,especially by full-service carriers (FSCs), said Kapil Kaul,CEO,CAPA (South Asia). While the actual growth in demand required addition of three aircraft per month,airlines added 6-6.5 aircraft per month. Passenger load factor (PLF) remained below 65 per cent during 2009,making flying unsustainable,given Indias high cost-low fare environment.

In January 2009,when airlines cut fares by up to 50 per cent,there was marginal increase in traffic,but a dramatic decline in yields. PLF for LCCs showed some improvement in February 2009. However,as up to 40 per cent of these seats were sold during the promotional period,yields remained under pressure, said the report. The traffic level in March is expected to remain weak due to increase in fares.

In such a scenario,most effective way to cut capacity is to either go for consolidation through acquisition or market exit. The next round of consolidation,which as per the report may be strategic in nature,is most likely to occur in the LCC sector as the FSCs do not have the funds for acquisitions. The market and investors will support sensible consolidation which is designed to restore profitability rather than pursuing scale,and CAPA expects that activity will be seen on this front in first half of FY 2009-10, the report said. However,LCCs such as IndiGo and SpiceJet have significant capital requirements and will need further flows of funding,the report noted.

Citing reasons for failure of phase one of consolidation,report said that airlines continued to pursue aggressive but unachievable growth strategies despite early signs of distress. Second,airlines indulged in massive fleet induction programmes,stretching their balance sheets. Third,rapid increase in capacity led to congestion at yet-to-be modernised airports,escalating operational costs for airlines. Fourth,from a management and capital perspective,airlines failed to handle the growth rate of 25 per cent in the last few years. The report blamed below-the-cost pricing by Air Deccan as responsible for setting a bad precedent for an industry that was chasing market share.

Even after the first round of consolidation which saw Jet Airways-Sahara Airlines,Kingfisher Airlines-Air Deccan and Air India-Indian Airlines merger,the industry struggled to handle rising fuel prices,incurring operational losses. These FSCs,which fly around 120 aircraft around half the domestic fleet have limited demand beyond the six major metros,says the report.