Thanks to the $80 million (Rs 360 crore) inflow from a clutch of existing and new investors including the Tatas, the director of this low cost carrier can now look forward to taking delivery of 18 B737s over the next two years and putting up a fight in a market rife with excessive fare discounting and high fuel prices.
His company, though, is not the only one listed to get the attention from investors who do not want to be left out of the great LCC story unfolding over the Indian skies.
Deccan Aviation, India's largest LCC saw 3.5 per cent of its equity being lapped up by Reliance Mutual Fund over the past couple of months. The interest in these companies is not just limited to the Mallyas or the Wadias; institutional investors too want a piece of the action.
Banking on experience
Money managers and analysts seem confident that the LCC model, which has been successful in some other parts of the world, can be replicated in the country.
They say that the most efficient LCCs be it Ryan Air, Air Asia or Southwest Airlines have consistently delivered profits over the years and outperformed their full service counterparts.
While European and American skies are crowded with over 50 and 15 low cost carriers respectively, analysts believe that the Indian skies after rationalisation within the next two to three years could have four LCCs each operating at the national and regional levels.
What should have happened over the next one year (due to a shake out) will probably play out in FY09 as there is no dearth of investors to fund LCCs.
In addition to a proven business model, what investors look out for is, of course, growth numbers.
On a high growth trajectory
Foreign investors are expecting that the aviation sector will follow the telecom market and expand rapidly after a sluggish start. For the six-month period ended September 2006, domestic traffic increased by 45 per cent as compared to the same period last year.
Between 2003 when LCCs started operations and 2005, the sector, which was stuck in the 10-15 per cent range, took off with an annualised growth rate of 20 per cent.
With a higher expected growth rate of 30-35 per cent, passenger traffic could hit 60 million by FY09. A 20 per cent growth in tourism, conversion of passengers from rail to air and traffic from tier-2 cities will help expand the market further. This would not only boost revenues but also ensure a high load factor for airlines.
End of price wars?
While airlines have dropped prices to grab market share, investors are wary of excessive undercutting which keeps prices below operating costs.
Analysts believe that prices have bottomed out as passenger traffic has grown 50 per cent for half year ended June 2006 vis-a-vis last year despite the additional cost of nearly Rs 1,000 per ticket, comprising the Rs 750 fuel surcharge, congestion and transaction charges.
Though aviation fuel which accounts for nearly 40 per cent of an airline's cost is down to Rs 37 to a litre, carriers will probably wait for five months to see how crude prices play out before withdrawing it. If airlines are able to keep the discount fares below 10 per cent of the seats available (as is the case now), they will be able to break even with lower loads.
Cost reduction
This is perhaps the raison d'être of a low cost carrier and that is what keeps investors interested in the Indian aviation sector. While airlines cannot do much about fuel costs (arbitrage is not allowed for domestic carriers) and taxes, operational efficiencies will help pay up for high start-up costs.
The key requirement to bringing down cost per unit is a critical fleet size. While most low cost carriers have chosen the gradual scaling up of operations, Air Deccan has been the most aggressive and has totted up a 40 aircraft fleet in less than three years.
In addition to the size of the fleet, margin expansion is also aided by flying a single passenger class and aircraft to maximise capacity and save on maintenance and training costs.
Air Deccan has a mix of ATRs and A-320 family aircraft, which pushes up its cost per ASKM (available seat kilometre). A quick turnaround time for higher asset utilisation, web-based reservation and flying at off peak hours helps keep a tight control on costs.
Among the low cost carriers, SpiceJet has had an exceptional record of achieving highest load factor (86 per cent), asset utilisation (13 block hours per day) and low capital costs due to the sale and lease back of aircraft.
Profits?
While investors will be waiting for other LCCs to list on the bourses, how are the two listed LCCs faring and when can investors expect to see returns on their investments? While Air Deccan has been around for two years more than SpiceJet, the smaller rival has marched ahead of it on almost all parameters.
The company could be the first one across the tape if it manages to maintain a load factor in excess of 80 per cent, expand its fleet from the current ten to bring down costs and increase revenues from ancillary services like hotel reservation and car rental tie-ups, on-board advertising, courier services and sale of food.
SpiceJet could turn in profits at the operating level by FY07 and net profit in the fiscal after. At the current price of Rs 54.50 and on expanded equity, the stock trades at 16 times its estimated FY08 EPS of Rs 3.45.
On market share and size of operations, Deccan is the biggest in the LCC business and has a share of nearly 20 per cent and four times as many aircraft as SpiceJet.
But despite it size, promotional offers and network it is struggling to reach the 80 per cent load factor and has had to discontinue its Nashik and Kanpur operations.
Improvement in operational efficiency is the key for Deccan to salvage both the airline and its stock, which is languishing at Rs 124.65.
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