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Surajeet Das Gupta: Dogfights over cheap fares

Source : BUSINESS_STANDARD
Last Updated: Fri, Feb 08, 2013 09:42 hrs

Globally, it’s been a simple model. Price your fares at least 30 per cent below full service carriers and draw in the price-conscious customer. To do so, you have to pare costs by operating from smaller airports, using aircraft for longer hours and saving on meals and other peripheral services.

This was the typical low-cost carrier (LCC) model that G R Gopinath, promoter of Air Deccan, replicated in India. By offering fares at half the cost of Jet Airways or Air India, he made it possible for millions of Indians to fly for the first time.

At that time, it certainly shook up the market, forcing all the full service carriers to launch low-fare offerings and attracting a host of low-cost competitors such as IndiGo and SpiceJet. (Click here for chart)

Now, as the chart shows, that LCC model is dead in India. Air India is hawking seats on most of its bread-and- butter routes at fares that are virtually on a par with those of IndiGo or SpiceJet. And Jet Airways, which revamped its business model last year, is now offering over 60 per cent of its flights as Jet Konnect, its low-fare brand.

Not surprisingly, this “convergence” is worrying LCCs who accuse the full service carriers of predatory pricing to gain market share since their operating costs are much higher. Such practices, they aver, are not sustainable and could cause the industry another phase of instability.

Equally unsurprisingly, full service carriers don’t see it that way. They have been steadily losing share to LCCs, which now enjoy 65 per cent of the market and, given that service standards are equally good on both varieties of airlines, the sole differentiator is cost. At their peak, the cost differential between full service and LCCs is over 50 per cent. 

A dwindling market share, in turn, is impacting the economics of their operations. Passenger load factor (PLF) for LCCs is 80 per cent compared to full service airlines’ 70 per cent. So, it makes sense for the latter to focus on filling unsold seats with low-cost fare-paying passengers and increasing revenue per flight rather than worrying about increasing revenue yield per passenger.

But that changes the game for LCCs. Since they will have to push PLFs beyond their current rates, the focus will, willy-nilly, shift to increasing yield per passenger — that is, cut costs. They have reasons to worry because they already operate on a bare-bones costing and lack the flexibility to lower them any further. And the space to increase yields is being crimped as well by copycat full service airlines.

Despite the significant operational efficiencies – especially in turnaround times and maximising employee productivity – LCCs have to contend with fuel and airport charges that constitute fully 60 per cent of their costs, the same as their full service competitors. They can do nothing about this either since, unlike the US, the United Kingdom or Malaysia, Indian LCCs do not enjoy cheaper airport charges in specially-designated LCC terminals.

Those differential charges determine the existence of two models elsewhere in the world — and, importantly, there is space for both. So, Jet Blue’s fares between, say, London and Glasgow, are over 30 per cent lower than British Airways’. Spirit Airlines in the US offers fares 40 per cent cheaper than Delta Airlines on the New York to Chicago route. In Malaysia, Air Asia sells tickets as much as 80 per cent below Malaysian Airlines on the Kuala Lumpur-Johor Bahru route.

But the Indian story is different. Five out of six passengers in India buy a ticket based on price rather than the brand or the service it provides, and there is no longer a difference.

So, that leaves the question of operating costs where differences range from over 16 to 35 per cent. For instance, LCCs have a cost per available seat kilometre (CASK) of around Rs 3.52. For India, it is Rs 6 (estimated by analysts, the state-owned airline does not reveal this figure). For Jet Airways, the CASK is Rs 4.96 to Jet Konnect’s Rs 4.11. 

So, are full service airlines headed for suicide by lowering their fares so sharply? Well, they too are focusing on costs. Air India is reducing its large surplus workforce, shifting 19,000 of its 31,000 employees to the two new subsidiaries in maintenance and engineering, which will be converted into joint ventures. This will give the company a cost saving of over Rs 1,500 crore annually in the wage bill. But opposition from unions is already creating problems in the grand plan. Full service carriers are also expanding their international operations where costs are much lower (owing to lower fuel costs at international airports), which offers scope to reduce the overall CASK, though there is a limit beyond which they can expand abroad.

But for the over 53 million passengers who travel by air in India every year, one thing can be guaranteed. A new kind of competition will emerge and it will not be fought on differential pricing.



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