Warren Buffet admitted he had made a mistake. The famed investor early May told shareholders of Berkshire Hathway he had sold his entire stake in the “big four” US airlines, making a loss. Buffet said he would not fund companies that chew up money.

Buffet hasn’t invested in airlines in India, but the reality is no different for those who have made bets in this industry. Indian carriers are in trouble as they bear fixed costs but earn little in a national lockdown that has banned air travel to contain the coronavirus disease (Covid-19). The market price of airline stocks gives a sense of the trouble: SpiceJet shares fell by 38 per cent between March 6 and May 7, while IndiGo fell in the same period by 20 per cent.

CAPA, the international aviation consultancy firm, has said assuming that airlines take off in June the domestic market will be of 55 million to 70 million passengers in financial year 2020-21 (FY21) as compared to the 140 million who travelled in the last financial year. The international travel market will have 20 million to 27 million passengers in (FY21), compared to 70 million in the year before.

Airlines would have to shrink operations and fleet size by around half, return planes, and defer accepting deliveries of new aircraft. The country has over 650 planes, but it would require not more than 350 for the low demand. The industry’ total revenue loss would be to the tune of Rs 25,000 crore for the fiscal year.

The cost of not flying

Airlines risk huge losses: estimates say that the number could be as high as $1.75 billion in the first quarter of FY21 (please confirm period). The International Air Transport Association (IATA) has said most airlines have used up two months of their three-month cash reserves in paying for fixed without earning revenue.

Airlines every month averagely earn Rs 7,500 crore in revenue but spend 25 per cent of it on fixed costs, mainly leasing rentals and employee wages. Crisil estimates that the total revenue loss would be to the tune of Rs 25,000 crore for the fiscal year. "This is a preliminary estimate and the losses could increase if the lockdown is extended beyond first quarter. As and when operations resume operational, capacity will hover around 50-60 per cent for the rest of the fiscal. Consequently mergers and acquisitions of airlines will be a possibility," said Jagannarayan Padmanabhan, director and practice leader for transport and logistics in Crisil Infrastrcuture Advisory.

Demand is expected to be low when flights resume, so revenues will be a trickle and not enough to meet even an airline's variable cost of flying. The industry (except IndiGo, with its healthy cash reserves, and Vistara, with its financially strong shareholders) will require between $2 billion to $3 billion for recapitalisation, analysts estimate. Money will be hard to come by though, as lenders and investors are not interested in the sector.

The result will be that some airlines will fold up, leading to a consolidation or shrinkage of capacity. “…our expectation is that domestic demand will take at least 6-9 months to normalize and that of international surely more than a year. So none of us will acquire a weak airline. They will rather allow it to die so that capacity shrinks,” said a top executive of a leading Indian carrier.

Airlines disagree on how quickly the Indian industry will recover. Some big carriers say it may do better than international airlines, citing pent up demand from consumers waiting to fly at reasonable fares. Others don’t see such signs. Travel agents, for instance, are not seeing any demand for forward bookings. Skyscanner, a search engine, has reported a 90 per cent dip in queries for travel in the next four months compared to last year.

When the government allows flights to take off, the economics of the business will depend on the restrictions it imposes. The government has disallowed middle seating, so a narrow-bodied aircraft with 180 seats will fly at 60 per cent of its capacity.

Even if this reduced capacity were to be filled up, passenger load factor (PLF) would be 40-50 per cent compared to 80-90 per cent on in normal circumstances. (Passenger load factor is a measure of how much of an airline's passenger carrying capacity has been utilised.)

Airlines estimate they would have to increase average fares by anything between 50-100 per cent to break even. “The question is will we have consumers willing to pay this price to travel especially when their incomes have also taken a severe hit. Also, they will be risking their lives. So should we even look at break even or just manage to recover our variable cost at least for the next few months and woo passengers by concentrating on safety and hygiene so that they are secure to fly again” said the senior executive of a low-cost carrier (LCC).

Ticket to survive

It is a call which every airline has to take. CAPA estimates that on the Delhi-Mumbai route, a flight ticket must sell at Rs 9,700 if an airline wants to meet the costs for meeting norms on social distancing and empty seats. The ticket price is assumes that crude would be at $40 a barrel (it is at $32 a barrel now) and PLF at 60 per cent. For that fare, there would be very few takers in the post-coronavirus market.

A ticket could go down to Rs 5,300 if an airline decides to recover its costs for social distancing and reduced utilisation. If an airline is fine with recovering just the cost of social distancing, ticket price could go down to an affordable Rs 3,900. Airlines can either charge a high fare to get passengers who can pay or they fill up seats with cheaper tickets--it’s a difficult choice.

Strong airlines can sustain a low average price. IndiGo, with $1.3 billion in cash reserves, is best placed to take on the challenge but if the ban on flying continues the airline will be under pressure, say experts.

Airlines can save on aviation fuel, which constitutes for 35-40 per cent of their costs.

Airlines are re-negotiating their lease rentals and some have decided not to pay till they resume flying. They are considering returning planes as they move to trim fleets. The second fixed cost under focus is the wage bill. GoAir has announced it will only part pay and defer salaries of most of its staff. SpiceJet said will pay part salaries to over 92 per cent of its employees in April. Indigo said it was reinstating pay cuts of up to 25 per cent for its senior employees, but then clarified it would take a decision on restoring original salary "closer to the end of this financial year".

Some airlines are considering shelving their turbo prop small jets, as social distancing norms would require a maximum PLF of 42 per cent. Grounding the jets would hurt regional air connectivity and UDAN, the government’s ambitious programme to connect India’s small places.

Airlines have pressed the government to help them by waiving off taxes, bring aviation fuel under GST, and subsidise wages. The US has given more than $70 billion as relief to its airlines they but that’s unlikely to happen in Indian.

The government is burdened with Air India, the national carrier whose strategic sale is becoming difficult to achieve. The deadline for submitting bid documents has been extended to June 30 and it may again be pushed further, perhaps to the end of the year. Air India will need a fresh cash infusion of at least $1.5 billion to be kept afloat, say analysts.

With the industry in turmoil, airlines would rather organise their affairs than make fresh ventures. Surely, it is going to be a tough world for aviation.

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