Managing Change in Civil Aviation in India

www.capaindia.com

New Delhi, 21 October 2011

South Asia’s largest aviation consulting, research and knowledge practice

About CAPA India

Leadership: CAPA India is the leading aviation consulting, research and knowledge practice in South Asia.

Influence: Established in 1990, we help to shape the direction of the aviation industry through strategic analysis and advisory services. We have advised more than 550 global and Indian clients, and connect with the leaders of industry and government on a continual basis.

Applied Research: Our research division has produced over 8,000 reports for the global aviation community across all areas of the aviation value chain. Recent and forthcoming reports include: Global Low Cost Airline Outlook; India Travel Retail Report; Global Airport Privatisation Report; White Paper on Corporatisation of Air Traffic Management; White Paper on Aviation & Technology – with SITA; Growth Prospects for General Aviation; Skills Crisis in Indian Aviation; Trends in Airline Distribution; Outlook for Maintenance, Repair & Overhaul.

About CAPA India

CAPA Aircraft Advisory: India’s first professional, transparent and comprehensive, end-to-end aircraft advisory service, covering business jets and helicopters.

CAPA-GVIC Aerospace & Helicopter City: CAPA is to co-develop general aviation and helicopter enclave, at the proposed GVIC SEZ being developed by the State Government of Gujarat and the Korea Land Corporation.

CAPA Knowledge Process Outsourcing: establishing a JV to provide high performance outsourced analytics to the aviation industry, based on the use of database mining.

CAPA Ventures: established to assist clients with raising debt or equity funding for aviation and tourism projects in South Asia.

CAPA AeroPark: an integrated aviation education and training campus, in partnership with the leading providers in the world. First campus launching in Bangalore, Q1 2012.

CAPA AeroPark

World class aviation university and training campus providing academies for pilots, engineers, cabin crew, air traffic controllers, regulators and management.

Will include courses dedicated to the business and general aviation sector.

Flagship campus in Bangalore with satellite academies in New Delhi and Mumbai.

Launching Q1 2012

CAPA Research & Development Centre

Unique global initiative to develop solutions for critical aviation issues;

A centre of excellence to position India at the forefront of industry thought and practice, investigating issues such as:

o Aviation and the environment;

o Aircraft noise;

o Efficient use of fuel;

o Innovation in air traffic management;

o Sustainable business models;

o Travel technology;

Complemented by venture funding to incubate new ideas and businesses;

Led by a former MIT Professor, supported by leading global researchers;

Located in Bangalore at the CAPA AeroPark campus.

Peter Harbison Executive Chairman & Regulatory Affairs

Derek Sadubin COO & China Specialist

Elizabeth Thompson Head of Research, LCCs and Asia Pacific

Simon Elsegood Aerospace Desk

Ron Kuhlmann International Affairs Desk

David Bentley Airport Research Desk

Sharon Dai Head of Aviation Research

Global Research

Our analyst team covers a comprehensive range of global issues, with high level contacts and regular interaction across the industry:

Kathryn Creedy North America & Regional Airlines Desk

Brendan Sobie ASEAN and Latin America Desk

Geoffrey Tudor Japan & North Asia Desk

Melissa Stuart Europe Desk

Jackson Flint Europe Desk

Shannon Swainston Africa Desk

Janet Kim Traffic & Capacity Desk

CAPA’s Global Research clients include…

CAPA’s Global Consulting clients include…

CAPA Forecast

Growth Ahead will Dwarf Recent Experience

Domestic Airline Pax

Int’l Airline Pax

Airport Pax Growth Multiple

Absolute Growth

2000/01 14m 14m 42m

2010/11 52m 37m 142m 3.4x 100m

2020/21 178m 90m 452m 3.2x 310m

* CAPA Forecast

Forecast is based on a GDP growth assumption of just over 8% per annum, however the Planning Commission has a more optimistic target of 9% until 2027.

Several forecasts – Airbus, Boeing, Airports Council International - project that India will have the fastest growth rate in the world in air traffic over the next 20 years (close to 10% p.a.)

CAPA believes that the growth in traffic and aircraft movements over the next decade may be even stronger and more sustained than anticipated.

India is expected to emerge as the 3rd largest aviation market in the world within 7 years.

The last decade stretched the system to its limits at times. The task ahead is more than 3 times the scale – are we up to the challenge?

India will be the 3rd largest aviation market

before the end of this decade

Source: India forecasts (CAPA); Other markets (Airports Council International 2008) ACI forecasts for China have proven to be very conservative, China has already far exceeded the 2012 forecast, reaching 564 million in 2010).

Ranking Country Passengers (m) 2012

Ranking Country Passengers (m) 2017

1 USA 1,552 1 USA 1,790

2 China 497* 2 China 792*

3 UK 282 3 India 327

4 Spain 251 4 UK 324

5 Japan 228 5 Spain 294

6 Germany 218 6 Japan 259

7 India 176 7 Germany 252

8 France 168 8 Brazil 224

9 Brazil 165 9 France 192

10 Italy 154 10 Italy 180

And what about beyond 2020?

* CAPA Forecast

Aviation is a capital intensive industry that requires long lead times for investment in infrastructure, equipment and people.

Decisions that we make today will have implications in 10 and 20 years from now. We already need to be thinking beyond 2020.

Post-2020, airport traffic could be growing at 50 million pax per annum – almost equivalent to adding a current Delhi and Mumbai airport every year.

CAPA forecasts domestic passengers numbers to grow to 907 million per annum by 2037 (1.8 billion airport pax!), 15x current levels, and the domestic fleet alone to reach 3,230 aircraft.

These are staggering numbers, but they reflect market demand. Failure to act could result in traffic being choked and/or serious stresses on the system.

Safety could be a casualty.

We need to move ahead from the current pre-occupation with short-term thinking towards building a genuine vision for the sector.

Domestic Pax (m)

Domestic Fleet

2002 13

2007 35

2012F 61 276

2017F 113 456

2022F 202 735

2027F 349 1,240

2032F 575 2,051

2037F 907 3,230

CAPA India Domestic Forecasts to 2037

Source: CAPA India Aviation Masterplan

2037

Our Objectives

CAPA believes that we should be working towards a framework where:

Government’s role is to focus on policy and strategic issues, and to create confidence in an environment where;

Private sector is enabled to develop and grow the industry in an equitable manner and to earn a reasonable return on investment;

Consumers have access to a safe, efficient and professional aviation system that represents fair value for the service provided;

Economy benefits from connectivity that supports trade, tourism and social flows.

CAPA recognises that the government shares the above goals and has serious intentions to achieve it, but we are concerned that progress has slowed dramatically in the last 10 months.

What we should be doing?

Policy: Prepare a civil aviation policy and national aviation agenda;

Bilaterals: Allow private Indian carriers to expand overseas;

Long Term Masterplan: Develop a 20-30 year masterplan for airspace, airport infrastructure and human resources;

Regulator: Strengthen the regulatory regime and create a unified regulator with expertise in safety, economics, airspace and consumer protection (changing the name of the DGCA to a CAA will of itself achieve nothing);

Public Sector: Restructure PSUs in aviation, government ownership of Air India and AAI creates a structural impediment that distorts policy;

Fiscal Framework: Remove the negative fiscal regime, particularly with respect to fuel;

Economic Regulation: Ensure clarity with respect to the regulatory framework to provide certainty to investors and to allow airlines to operate according to market forces;

Investment: Encourage FDI and allow foreign airline ownership;

Security: BCAS to be restructured to reflect the rapidly evolving requirements for efficient security operations.

What we are doing?

Policy: Pre-occupation with protecting AI has created policy paralysis since 2008, which is damaging for all carriers;

Bilaterals: Holding private carriers hostage to Air India’s inefficiencies, with implications for business and tourism, jeopardising India’s hub potential. Ironically, foreign carriers may be the winners of this approach;

Long Term Masterplan: There is no defined vision for the sector beyond the next 5 years, limited strategy for developing skills and training;

Regulator: Strengthening of the DGCA which had commenced last year has slowed considerably in the last 10 months, increasing safety challenges. Increasing and unnecessary interference in issues such as wheelchair charges, pricing of exit row seats, international operations at IGIA T1D;

Public Sector: Failure to take decisive actions to prepare AI or AAI for the realities of the future;

Fiscal Framework: No concerted action in progress;

Economic Regulation: the framework remains unclear which will continue to impact investment in airports and ancillary services. Meanwhile airlines are prevented from increasing fares at times of high demand, but there is no intervention to stop AI from engaging in predatory pricing.

How are we performing?

Safety challenges and industry viability will overwhelm us if we don’t take action

Indian Aviation’s Financial Performance is Bleak

Airlines

Airline losses are headed for unprecedented levels

Fuel, already at high levels globally is exacerbated by taxes

Weak Rupee is impacting dollar denominated costs

Air India continues to price below cost, destabilising market

Airports

DIAL is reporting losses, MIAL is increasingly challenged;

Most AAI airports are loss-making – relies on revenue share from DEL/BOM and ANS profits;

General Aviation

Most GA operators are in the red, except Pawan Hans.

Others

Only suppliers and aircraft manufacturers are profitable.

India cannot develop an effective aviation system if the core players are unviable – this critical issue is largely unaddressed.

US$5+ bn Accumulated losses of Indian

carriers since 2006

US$2.5 bn Projected losses of private carriers

(excl IndiGo) in FY2011/12

US$20 billion Projected debt levels of Indian

carriers by end FY2011/12

Global Issues in ATC

Air traffic management will play a critical role in the growth story of Indian aviation.

Significant investment will be required to expand and upgrade infrastructure, technology and skills.

These are global issues, although the key challenges vary by market.

Europe

European airspace encompasses 39 different countries – resultant inefficiencies are estimated to cost the aviation industry EUR4-5 billion per annum. Single European Sky program (SESAR) aims to achieve the following by 2020:

Triple system capacity;

Reduce unit costs by 50%;

Reduce environmental of each flight by 10%;

Reduce delays by 8-14 minutes per flight.

However airlines are concerned that targets are not ambitious progress is not fast enough and that the program is falling behind schedule. Seeking to impose penalties for ANSPs that fail to meet targets.

Global Issues in ATC

USA

Projected investment of US$11-12 billion in NextGen ground infrastructure by 2018;

Airlines will invest US$5-7 billion to equip aircraft with technology.

Over the next 8 years this investment is expected to:

o Generate US$23 billion in benefits

o Reduce airline delays by 35%

o Reduce fuel consumption by 1.4 billion gallons

China

China has an opportunity to demonstrate strong leadership in ATM practice, given certain advantages over Europe and the US:

Unlike fragmented Europe it has a large single sky;

Unlike the US it is not burdened with dated infrastructure and can leapfrog technology.

China’s greatest challenges are:

o keeping pace with double digit growth;

o shortage of air traffic controllers;

o opening up more airspace for civil use (currently 70% is restricted for military);

o incorporating private and general aviation which has in the past been very limited.

Growth in Air Traffic Movements - India

At Delhi and Mumbai annual air traffic movements are around 250,000 per annum. Delhi has recently overtaken Mumbai.

At the other four metros, movements fall in the range of 80,000 to 110,000 per annum.

All metros experienced strong growth between 2005 and 2008. Hyderabad saw the strongest expansion with movements increasing 133% in 3 years. Mumbai saw the least at 58%.

At all airports movements have remained steady over the last 3 years due to the downturn in 2008/09. The recent recovery was met in part through higher load factors.

However, with load factors reaching 85-90% in high season, future traffic expansion will see a resumption in movements growth.

The recent respite in movements growth should not lead to complacency, the challenges are imminent.

-

50,000

1,00,000

1,50,000

2,00,000

2,50,000

3,00,000

2005 2006 2007 2008 2009 2010 2011

BOM DEL MAA BLR CCU HYD

0

50

100

150

200

250

2005 2006 2007 2008 2009 2010 2011

BOM DEL MAA BLR CCU HYD

Annual Air Traffic Movements FY05-11

Indexed Air Traffic Movements FY05-11

Source: CAPA, AAI

Efficiency of Runway Operations

Indian airports lag global best practice in the efficiency of airside operations. London Gatwick is able to achieve 50 aircraft movements per hour in a single runway operation. Delhi achieves a similar rate with 3 runways.

At Mumbai, runway capacity issues limit hourly movements to under 40. Unless this can be increased to close to 50, the airport will not be able to maximise use of its terminal capacity.

Our commercial capital is being choked by ATC constraints.

LGW: Scheduled Hourly Movements 19 October 2011

Source: CAPA, Innovata

BOM: Scheduled Hourly Movements 19 October 2011 DEL: Scheduled Hourly Movements 19 October 2011

A New Model - Corporatisation

The challenges ahead are significant and will require two key elements to be addressed:

Huge capital requirements to invest in technology, people and training;

Need for a completely new culture which will require a focused approach.

This is an appropriate time for change, to develop a new model rather than ad hoc revisions to the existing structure. It is a situation which has been faced in several countries before.

The most common response has been corporatisation (or commercialisation) of ANSPs.

Corporatisation was recommended by the Justice Lahoti Committee in 1996 and again by the Naresh Chandra Committee in 2003.

Both ATM and ANS activities should be corporatised if it is to be effective.

Corporatised entity must sit independently of the AAI – establishment as a subsidiary will not facilitate the necessary restructuring of the AAI. AAI restructuring is critical.

Airlines will demand performance targets in terms of lower costs, increase in overall capacity and efficiency. Effective and decisive corporatization is essential.

Benefits of Corporatisation

A US government survey of five commercialised ANSPs – Australia, Canada, Germany, New Zealand and the UK found the following characteristics:

Operate as a business and carry out their own strategic, operational and financial decisions;

Generate and manage their own revenue to cover its costs (including raising debt if required);

Retain safety as the primary goal and – and in no cases have safety incidents increased, and in fact in 2 out of the 5 examples they have decreased;

Invest in new technologies and equipment;

Lower costs through modernisation and efficiency – some have reduced prices to airlines;

Consult in a structured manner with their stakeholders.

The success achieved in markets such as the UK - where NATS has improved on virtually all operational and financial indicators since its partial privatisation – is leading to discussion about whether to proceed to an IPO or a trade sale.

1. National Agenda: A long term, structured national plan

2. Regulator: A modern, unified, professional regulator

3. Public Sector: Decisions on the future role of PSUs are critical

4. HR & Training: World class education & training infrastructure is essential

5. Safety: Implementation of safety systems and culture

6. Liberalisation: Liberal access but level playing field for Indian operators.

7. Taxation: A less punitive fiscal regime which recognises that airlines must be viable

8. Investment: Private sector capital should be encouraged in airport development.

9. Profile: Enhanced profile and recognition of aviation within central and state government.

10. Vision: Ministry to concentrate on policy and providing strategic leadership.

10 Key Success Factors for the Next Decade

Everything that we do should be guided by what Indian aviation has the potential to be.

Aviation can play a critical role in ensuring our economic competitiveness, enabling trade and tourism, generating millions of jobs and thereby contribute to our larger socio-economic objectives.

India’s full service airlines could become global mega-carriers serving not only the Indian market, but as sixth freedom carriers of choice, recognised as the best in the world, hubbing passengers over world class airports.

A vibrant aerospace sector could be established in-country, not only providing outsourcing capabilities for international manufacturers, but also developing an indigenous aircraft.

India could provide competitive and high quality services such as MRO and education/training to the global industry, based on our lower cost base.

All this is possible, but it will not happen automatically

It certainly will not happen if we continue with an ad hoc approach which lacks direction.

We need a transformational mindset, to have a vision and a stable policy and regulatory regime which is consistent with achieving the long term objectives.

We must at all times maintain a national perspective which is independent of the leadership.

We cannot open the sector( 92-95), control ( 95-03), open ( 03-08) and control( 08-11). Such frequent changes have damaged the sector significantly.

A Vision for the Future

Thank You www.capaindia.com