DGCA made a bad financial decision in shutting down Kingfisher Airlines

Earlier this month, now shutdown Kingfisher Airlines, once India’s largest private domestic carrier, reported a huge net pre-tax loss of Rs. 1115.5 Crore for the second quarter of Fiscal Year 2012-13. The performance was by far and away the poorest quarterly financial performance out of any Indian airline in the last few years, though that is to be expected given their shutdown at the end of the quarter.

Revenue performance was abysmal, falling 87.1% on a year over year basis (keeping in mind that FY 11-12’s Q2 was the last quarter of full Kingfisher operations – the first really big capacity cuts hit in November of that year). Fuel expenses were better year over year on a per ASM basis (mirroring the performance of the general industry), and operating margins as a whole did not decline as much as one would have expected (from -98% to -127.5%), though they were obviously atrocious. The main culprit was, as usual, interest, finance, and restructuring charges which contributed the remaining 850 odd Crores worth of net loss. But at this point, the drivers behind Kingfisher’s poor financial performance are well known.

What is more interesting to consider is the question of whether the DGCA made the correct move in shutting down Kingfisher pending a recovery plan. Keep in mind that the Indian government, through its network of state owned banks, is the primary holder of Kingfisher’s more than US $1.4 billion worth of debt. Thus it is in the government’s best interest for Kingfisher to minimize its losses, thereby limiting the further accumulation of debt as well as making Kingfisher slightly more attractive (though still a money pit) for foreign investors. While the DGCA is not operating in response to the same incentives as the general government of India (GOI) and State Bank of India, the two can certainly act in concert to minimize the impact on the public. First, let us simply throw away the ridiculous assertion that financial troubles would drive safety concerns at Kingfisher; this sort of event rarely occurs outside of the hellholes of the Third World, and the incentives for Kingfisher to skimp on safety are simply not in place. Notice that even as it cut the rest of its expenses by hook or crook, the level of maintenance expenses per available seat kilometer remained constant for Kingfisher over the past year. Any airline knows that the minute it compromises safety is the minute it loses viability as an airline in the eyes of the public. But even absent this factor, it would still make sense for the DGCA to shut down Kingfisher if the airline loses more money operating than shut down.

Since the financial and “restructuring” costs will remain regardless of whether Kingfisher carries passengers or not, we can focus our analysis entirely on the operating results on the balance sheet. Based on the data presented in the quarterly results, we can conclude that shutting down has cost Kingfisher around Rs. 220 Crore worth of revenue for Q3 (typically among the strongest Indian quarters). On the flip side, Rs. 160 Crore worth of fuel expenses are no longer accrued, as are a certain percentage (around 35% based on the auditor’s notes to Kingfisher’s financial statement) of the “other operating expenses.” Remaining expenses, including aircraft lease rentals, maintenance, depreciation and amortization, and longer term ground leases will still be accrued. So the total savings that Kingfisher gets from not operating is around Rs. 215 Crore, whereas they are forgoing Rs. 220 Crore worth of potential revenue, not to mention the benefits of operating in increasing the attractiveness to foreign investors. Thus the math suggests that the DGCA made a bad financial decision in shutting down Kingfisher.