Airlines from the Gulf Likely to Invest in RCS

“A smart guy can now earn Rs 100 crore a year from regional aviation” – Minister of State for Civil Aviation Jayant Sinha.

Major foreign airlines, including major air carriers from West Asia, have shown interest to invest in India’s regional aviation market. The investment could be in the form of a stake in an existing airline or opening a new regional airline in the country. Recent changes in FDI (foreign direct investment) rules, seem to be an encouraging factor. They have held negotiations with the government to fly on routes connecting the country’s metros to its tier-II and tier-III cities. A significant traffic to the Gulf comes from the smaller cities. India being a significant market for the Gulf majors, those airlines would want to have a feeder airline, which brings West Asia-bound traffic from tier-II and tier-III cities of India to the metro airports.  Having a joint venture with a current regional carrier like Air Costa or TrueJet can be captured as a thoroughfare product.

Air transport in a country like India puts in a huge value to its GDP. India’s air transport sector contributes $72 billion in GDP and supports nearly 8 million jobs. With such a scenario, India is expected to displace the UK to be the third largest aviation market by 2026 as per the recently made forecast by the International Air Transport Association (IATA). By 2035 IATA expects the Indian aviation market to serve over 442 million air passengers. Aviation in India is inspiring the Nation’s growth and development with more and more accessible air connectivity even though India’s air transport industry has been through harsh times. While many Indian airlines have now started to show profits, the aviation sector, as a whole, is still in a loss zone along with several perennial hiccups. These include colossal debt burdens, arduous regulations, high-priced and inadequate airport infrastructure and high taxes. Airlines face an arduous tax burden in India, including the imposition of service tax to services rendered outside of India, including those for over flight charges, global distribution systems, and international tickets. As per IATA, this is a breach of international principles established by governments through ICAO.

IATA has called for a renewed look at the reduction in taxation and for India to join international efforts on sustainability for air transport. This will be a key factor of a vitally important industry to India to be an even bigger catalyst for its socio-economic growth. For India to attain its true aviation potential, the sector needs to grow in a sustainable manner. In order to bring about that envisaged growth, the potential to have a capacity for 322 million new fliers will be needed in a period of less than 20 years. That will be a real challenge. The vigor of the growing aviation sector will be put at risk if significant changes are not introduced by the policy makers. Addressing these issues and resolving them will bring enormous relief to the aviation sector while simultaneously bringing in various social and economic benefits to the country. While many of those issues have been accounted for in the last couple of years, more will no doubt surface again.

On whose money does a plane fly? Is it of those who are in it or is it of those who are outside it ?

IATA has congratulated India for its first-ever Civil Aviation Policy containing building blocks, such as developments on open-skies, code-sharing, foreign direct investments (FDI) which are very heartening. In fact, allowing FDI of 100% in an Indian airline places India among the most progressive states in this regard. But, IATA has also raised concerns for the levy to cross subsidize regional flights.

India’s celebrated position as one of the world’s fastest-growing aviation market, however, masks some treacherous flaws. There are only few people who are seriously keen to invest in India. Even going by the government’s growth figures, private investment is shrinking at a rapid pace — by 1.9 per cent between January and March, and by 3.1 percent between April and June. Since 2000, there has been an FDI inflow of $288.6 billion in India – in sectors such as trading, pharmaceuticals, broadcasting, air transport, retail and defense. Of this, only $931 million has been in aviation. The government struggles to make up for this lack of assurance with its own money. It may seek parliamentary approval for $7.5 billion of additional spending over the next five months, which it hopes will increase growth by 0.4 percentage points. The government considers that boosting government expenditure would bring in more private investment, would raise investors’ spirits, fuel optimism and lead to major private-sector activity. But, unfortunately that has simply not happened so far. With half its term gone, the government seems unwilling to accept that its approach is flawed. And it has been a huge disappointment.

Investors have been burned in the past by such arbitrary government decisions; disputes over taxation or environmental regulations have stopped work on many projects. Infrastructure investment in particular continues to be held up — about half of India’s large projects are delayed — tying up capital and leading to big losses for investors. As a result, several airports over the years have remained defunct.

Airport Privatization. The awarding of airport concessions is intended to contribute to the development of India’s airport infrastructure. While the passenger experience improves, the impact for the airlines remains far less desirable.

Even IATA does not support the privatization of airports considering the experience of airport privatization – in India and elsewhere. A private sector mindset can add value to airport projects with efficiency, cost effectiveness, entrepreneurial spirit, and so on. There should be a stronger regulatory framework to ensure that there is a balance struck between commercial and national interests. IATA has called for a rethink at the results of Indian public-private partnership in airport privatization.

Airlines operating in India have faced huge costs escalations. This is partially due to the 46% concession fee that the private airport operators have to pay to the government. At the same time, the Airport Economic Regulatory Authority (AERA) has been unable to preserve its independence sufficiently and has not been able to implement its own tariff orders, such as the one to reduce Delhi’s charges by 96%.

Many potential investors openly say now that the desirable real change remains elusive, which is why companies have met government promises with their own promises, not money.

Taiwan-based Foxconn was to set up a plant in Maharashtra. More than a year has passed, but there is no sign of that investment.

Even companies that have committed money are having second thoughts. A new Ford plant was to come up in Gujarat. But Ford’s CEO Mark Fields said recently that the company was “reviewing alternatives” for India; he was more pessimistic about operations there than in any other emerging market. 

India’s recent aviation history has shown that entrepreneurs did try to start regional airlines. Most of them failed despite availing subsidy benefits from the government. Air Pegasus closed down finally. Ventura Airconnect continues to operate in a loss territory. VRL Logistics didn’t dare to start its Aviation business.

The government seems unmindful to such alarming signals. It has done too little to minimise the damage to the aviation sector’s competitiveness. Potential investors want to view concrete changes before they start putting money back into the aviation sector. The government has made a lot of noise about easing the task of doing business in India, a key element of PM Modi’s flagship Make in India program. The government has come up with an UDAN scheme which is replete with conditions and more conditions. There are sops, concessions and subsidies which, given past experiences, are arguably highly vulnerable to manipulation – a normal human trait found extensively in India. Foreign airlines intending to get into it will surely find out.

IATA does acknowledge that India is the fastest growing aviation market in terms of passenger traffic. Between January and September 2016, passenger traffic within India grew 23.17%. Presently, the businesses of all airlines can be termed as brisk which excites a potential foreign airline to invest. But, it is mainly due to low ATF prices currently prevailing. Even without any subsidy, airlines have operated more than their regional connectivity quota. It clearly reveals that market forces are strong enough to drive regional connectivity.

“Concessions cannot boost air traffic”.              “Sops cannot stimulate air traffic”.

Several aviation analysts endorse such views. State subsidies are best used elsewhere. Perhaps, Team Jayant Sinha should look at other areas which genuinely require help from the government. 

Though the intent is noble, the step is in the wrong direction. It is a typical case of government intervention in the market. Moreover, UDAN assumes that an airline is eligible for a subsidy for three years. Fuel cost is the most significant factor in an airline’s business model. If the fuel price increases during the three-year break-even period, if it is found that the resulting increased air fares are discouraging people to fly, if Rs 2500 start appearing to be too costly to a discerning flier, if it is found that RCS is becoming nonviable due to insufficient passenger numbers, then the various concessions being extended by the government in the form of subsidies will be rendered redundant and ultimately the government’s stated purpose – “Make flying affordable for the masses”- will be defeated .

The very idea of subsidy underlines the fact that there is no value addition in aviation business as such. In other words, the said business can not run on its own and so the government should step in and extend monetary support. Many observers will not endorse such a policy. In many ways, it is an affront of the plane maker, the operator and even for the beneficiary. A subsidy comes from tax-payer’s money. A plane should fly with the money of its own passengers. This subsidy model to apparently promote regional connectivity is not a wisely conceived policy.  If, for any reason, the money is not sufficient to operate a plane, then why should a person who is not flying in it be asked to pay tax (levy) for it ? 

UDAN : Concerns Raised by the Indian Aviation Industry

The final guidelines under the Regional Connectivity Scheme (RCS) as envisaged in the NCAP, which have been named as UDAN (Udey Desh ka Aam Nagrik) are set to be announced today by the Civil Aviation Minister Ashok Gajapathi Raju. The government believes that its ambitious UDAN will jump-start regional aviation in the country. This seems to be in sync with the IATA’s recent forecast: “In 10 years, the Indian aviation market will be the third largest in the world, overtaking the UK.”

“We are very hopeful of a positive response from the industry but our thinking is that with the scheme, we will in fact be jump-starting regional aviation,” Minister of State for Civil Aviation Jayant Sinha has said. 

He expressed his hope that the scheme would be “quite attractive” for consumers, carriers, small and regional airlines, lessors and other players in the ecosystem.

He said that the purpose of formulation of such a scheme is that regional carriers get the support they need both in terms of reducing their cost as well as in terms of viability gap funding so that they can serve tier-II and tier III cities.

The government had on July 1, 2016 unveiled the draft scheme which fixed all-inclusive fares at Rs 2,500 for one-hour flights in its attempt to make flying affordable for the common man. The complex scheme seeks to connect currently unlinked towns as well as extending viability gap funding (VGF) through a regional connectivity fund. There are 394 unserved and 16 under-served airports.

On one hand the government exudes optimism, while on the other hand, aviation experts have said they are not sure about how much of this projected growth will materialise considering several constraints currently plaguing the Indian aviation industry. They reckon legislative constraint is one major hurdle as far as Regional Air Connectivity is concerned. The established airlines grouping – the Federation of Indian Airlines (FIA) – who controls over 80% of India’s aviation, has asserted that the government does not have any authority or mandate to impose levy in nature of tax on scheduled flights. It has threatened to initiate legal action against the imposition of levy.

On its part, the government has defended the imposition of levy on scheduled flights from trunk routes to fund the scheme. The Minister of State for Civil Aviation Jayant Sinha has said that the government had a “very extensive” stakeholder’s consultation process prior to the formalisation of the RCS.

“We have already clarified from the ministry. Based on our own discussions with the Law Ministry, we think we can look forward to this kind of arrangement (imposition of levy) within the current legislation,” he said.

Apart from the upcoming legal battle, the country’s aviation industry has aired its various concerns about the regional connectivity scheme. A day ago, the Minister of state for Civil Aviation Jayant Sinha had hosted a round table in Delhi where the chief executives of airline companies, aircraft lessors and executives in the maintenance, repair and overhauling of aircraft businesses had been invited. Therein the executives voiced their fears. One serious concern is infra structure related – the non-availability of slots at major airports such as those at metros.

The majority of flights still operate from Delhi, Mumbai, Chennai, Bengaluru and Kolkata, airports. These metro airports today are running to capacity. Thus, they have very few slots available for each airline. Some of them like Mumbai have stopped allotting fresh slots altogether. The executives stressed that it was important that some slots be made available at the major airports. Slot constraints at the metro airports prevent the linking of smaller airports with the bigger ones. The hub and spoke model, thus, will not work. For effective execution  of the RCS, this is the basic requirement.

The aim of the NCAP has been – “Take flying to the masses.” The scheme entails capping of the fares at an affordable Rs 2,500 for flights of one-hour duration. (Although, one can travel by air for an hour in a scheduled LCC at less than Rs 1800 even today. Search a cheap air fare at this site now !) The government is aware that Rs 2500 does not fully cover the airplane’s operating costs. So, the government has proposed to indemnify the difference through subsidies which will be provided for a period of three years. The scheme is dependent upon VGF. So, the chief objective should be to rationalise the costs of aircraft operation. Unfortunately, that doesn’t seem to be happening because most of the overheads like landing costs, excise on fuel, user development fee, etc. are increasing. The proposed subsidy is very little for a small 10-20 seat air craft. The cost of seat per kilometer, their acquisition cost, is almost twice that of a regular 80-seater plane. Further, a potential investor will not like to run the business on “crutches of subsidies”.

Will the Government’s Regional Air Connectivity Plans Ever Take-off ?

The Ministry of Civil Aviation will soon unveil the final Regional Connectivity Scheme (RCS) as envisaged in National Civil Aviation Policy 2016. It is slated to be launched by October 21, 2016.

The government had released the draft RCS in July 2016 and it hopes that the first flight under the RCS will take off from January 2017.

The Centre has proposed to cap fares at Rs 2,500 for a one-hour flight under the RCS. Airlines operating under the RCS will get Viability Gap Funding (VGF) and a host of other benefits such as lower taxes and airport charges to promote RCS. The government will exempt service tax on tickets on RCS routes, and remove excise duty on ATF drawn by airlines. The government has already notified setting up of a Regional Air Connectivity Fund for providing VGF to aircraft operators. The Centre will share 80% of the cost of VGF while the states will share the remaining 20%.

The Centre has already signed memorandum of understanding with the states which include Gujarat, Maharashtra, Chhattisgarh, and Puducherry for implementing the RCS. Uttar Pradesh has its own air plans, offers tax sops for intra-state airlines. After securing approval for setting up three new airports in Andhra Pradesh, the state government will soon sign an agreement with the Centre and the Airports Authority of India (AAI) for enhancing air connectivity under RCS. The Centre has suggested the states to provide incentives to airlines to encourage them to fly on regional routes. In Kerala, creation of airstrips in major tourist destinations that still lack last mile connectivity had figured in the maiden budget of the state government. Airstrips that will facilitate the landing of small 50-seater aircraft are being planned. Kerala Tourism has commenced steps to execute the project and improve tourism prospects while creating tourism infrastructure in Kerala during the next five years.

Airports Authority of India, which is the implementing agency for the scheme, has already shortlisted 22 underserved and unserved airports, which are suitable for RCS flights. These airports include Bikaner, Jaisalmer, Warangal, Bhatinda, Pathankot, Jamnagar, Gwalior, Agra and Allahabad among others. There are a total of 394 unserved airports and airstrips across the country.

Civil aviation secretary R N Choubey.

The government plans to bid out the routes to participating airlines. It will invite bids from the participating airlines wishing to fly on regional routes, as per Civil aviation secretary Rajiv Nayan Choubey.

The bids for routes will be on “reverse auction” basis, Choubey has told media. This means an airline quoting the lowest amount of subsidy would get the right to fly on a particular route. Apart from bidding out a pair of routes, the government will auction a network of routes and also proposed a period of exclusivity on routes won by an airline during the auction. This was to ensure that the scheme is viable from a commercial viewpoint.

The civil aviation ministry has also proposed a levy on all domestic and international flights on metro routes, the collections from which will go into the RCS fund. 

Herein lies a hurdle. The government’s move to boost RCS has hit a legal obstacle. Some private airlines have termed it as “illegal”.

The Federation of Indian Airlines (FIA), comprising IndiGo, Jet Airways, SpiceJet and GoAir, has written to the Union Civil Aviation Ministry describing the proposed regional connectivity levy as “illegal” and “in contravention to the Constitution of India.” FIA members are the leading domestic airlines in the country. They have strongly opposed the proposal to charge a levy on flights on major routes to fund subsidies for regional flights and are likely to take the matter to the courts. 

As a part of its proposed RCS, the Union Civil Aviation Ministry had mooted amendments to the Aircraft Rules of 1937  to set up a regional connectivity fund to subsidise the losses of airlines that wanted to fly on regional routes. The fund was proposed to be financed by a levy on domestic flights along with contribution from states and credit proceeds from other sources. 

Rahul Bhatia of FIA

FIA’s views :

Levy is a burden on them.

Section 5(2) (ab) of the Aircraft Act of 1934 does empower the Centre to make rules for economic regulation of air services but it doesn’t authorise it “to introduce a levy in the nature of tax on air services.”

A levy in the nature of tax can only be levied having regard to the provisions contained in the Article 265 of the Constitution of India i.e. by authority of Law.

The government does not have the power to levy a tax on airlines to fund the regional connectivity scheme under the Aircraft Act of 1934.

The draft rules as published are therefore ultra vires the Constitution of India and would be illegal.

Imposition of a regional connectivity levy would require amendment to the Aircraft Act, 1934 and not the rule and until then the draft rules would be “beyond the authority of law and in contravention to the Constitution of India.”

“The draft rules may, therefore, tantamount to an attempt by the Central Government to usurp the powers or authority of the Parliament,”

Ministry’s stand :

Despite opposition from airlines, Civil aviation secretary R N Choubey has said, “The government is still going ahead with the move. We have got the approval of the Law Ministry. If someone wants to move the court, they are free to do so.”

The civil aviation secretary stated that it already charges levy in the form of passenger service fee on air tickets. The passenger service fee is levied to air passengers under rule 88 of the Aircraft Rules to meet the expenditure on airport security and passenger facilities at the airports.

The stage is now set for a prolonged legal battle. Both sides stick to their stands. There may be millions of willing fliers in India; but in all probability, the casualty will be the RCS because there are very few willing entrepreneurs and investors, the stories of Air Pegasus and Ventura had been very discouraging. Unless the flaws in the scheme are ironed out, RCS may not ever be realised. IATA sees with awe the emerging Indian middle-class, its diverging demographics and it does predict India’s civil aviation to become the world’s third largest by 2026, but given the constraints regarding legislation, infrastructure and investment plaguing the Indian aviation industry, one is not sure about how much of this growth will materialise. 

With major domestic players not evincing much interest so far in the ambitious RCS, the government is pinning its hopes on the wholly-owned subsidiary of Air India, Alliance Air, to make it a success. The state-owned regional airline, Alliance Air, the regional arm of Air India, is likely to sign a pact soon for leasing 10 new turbo-prop planes as the airline plans to fly to small towns under RCS. It is at the “final” stages of negotiations with lessors to lease these planes. Alliance Air currently has 10 ATRs in its fleet. Two of them are 42-seater ATRs. It operates 39 point-to-point air services daily to 34 tier-II and tier-III cities from its six base stations — Delhi, Kolkata, Mumbai, Hyderabad, Bengaluru and Bhopal.