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Indigo’s analyst call on 6th July was scheduled to allay investor concerns about the new direction the airline was taking after submitting the unsolicited bid for Air India.
One of the founders admitted, that without numbers, it was like “going to a corporate board meeting in a swim suit” and we wholeheartedly agree. If anything it added to the confusion on how exactly the bid makes sense.
Bangalore Aviation presents an opinion piece on why we think that the bid is bold but unconvincing. Some of us are investors in IndiGo. All of us, are investors in Air India.
The 4 Ps remain unanswered
Any acquisition of Air India will involve taking care of people, planes, planning, profitability and very importantly, politicians who will stand to lose a raft of benefits and privileged flying.
How will a generally slothful work-force work for the sexy (6E) company? How will IndiGo adapt its planning model which operates multiple daily flights for maximum costs optimisation at each destination to the Air India model which operates many a route purely on political instructions? The call failed to adequately address these and other issues.
For Indigo this poses specific questions as they have indicated that they are only interested in profitable induction and growth. On the planning side their strong domestic network was repeatedly mentioned and this will no doubt provide traffic feed to international flights. But planning would involve creating “bank structures” which means several flights feeding into a hub airport within a two hour time window, connecting to onward international flights.
No mention was made to people and planes and profitability except the statement that any acquisition has to be EPS accretive.
The whole of the sum of parts – or both?
Initially it was indicated that Indigo is only interested in Air India’s international operation (including Air India Express). It was also said that Indigo neither has the ability or the interest to assume any debt as a part of the transaction. However later on the call the founders indicated that if the Air India disinvestment comes with a proviso that it has to be bought as package they would also look at it. So which one will it be?
Giving Vistara the slots it needs
Full service Vistara is constrained by the airport saturation at the corporate capital of India, Mumbai.
By opting for just the international operations of Air India, IndiGo opens the field for Vistara to buy Air India domestic and get those vital prime-time slots at Mumbai and all other slot constrained airports across India. The icing on the cake would be the Air India A320neo fleet powered by CFM LEAP-1A engines, the same that Vistara is already using.
As investors we would liked seeing IndiGo combine its 40+% market share with the 17+% of Air India to take dominating control of the domestic market.
Confusing the business model
The Indigo success story is built on simplicity and consistency. Flying a single fleet type on point-to-point networks and in leading by capacity is what they have done and extremely successfully. One simply cannot see this model being replicated on international sectors. Any acquisition leads to a minimum five fleet types (Indigo has already gone in for the ATR order), a network-structure and limited ability to capture markets by capacity. The business model would have to become more complex which is against the core principles of the LCC model.
References were made to airlines like Norwegian, Ryanair, TWA and Pan American but each of these cases is unique and not a fair comparison. For instance, TWA acquired London rights from American Airlines for $300 million because London was critical to its growth. Pan Am’s Pacific rights were acquired by United Airlines to accelerate their international presence in the Pacific.
The revered Mr. Rakesh Gangwal spoke about Middle East carriers and the hubs they have built at the cost of Indian travelers. He elaborated that currently Indian travelers do not have an option to fly direct and non-stop to international destinations. He further alluded to the seventh freedom operations (taking passengers from one foreign country to another foreign country) which in itself is very complicated and other than some African countries – it is restricted by most countries.
Essentially the crux of the argument was that given Indigo’s strong domestic presence they can feed international non-stop flights from India. While his argument on the Middle East hubs prospering at the cost of Indian travelers is very valid, the direct-non-stop international flights argument leaves much unanswered. For instance take a Delhi-Madrid flight. Is the case being made that this flight would after feed from Indigo’s network would now to full and be profitable?
Low-cost-long-haul
The IndiGo founders have indicated they want to convert Air India in to an international long haul low cost carrier. A complete contradiction in terms. We do not see too many Indians travelling overseas on an eight plus hour flight with just a glass of water, that too, needing to be purchased on-board.
Operational considerations on long-haul are very different than short-haul point-to-point flying and these would have to be factored in. International is not point to point. It involves interlining and alliances. International trips are many time complicated, multi-city, single end or double end open-jaw. All these require the capabilities and expense of a Global Distribution System.
It is likely that the acquired Air India international operation would be kept under a separate Profit and Loss (P&L) and that itself could create a host of people issues.
In low cost markets like India, the full service carriers are already pricing very close to LCC fares.
Proponents will point to Norwegian, Scoot, Level, and AirAsia X, but they operate in high cost markets. Further, the Norwegian wide-body low cost model is yet to be proven and legacy carriers going in to create their own low-cost subsidiaries is an experiment that is ongoing. American and United both declared bankruptcy, Norwegian is facing headwinds already and the last round of legacy carriers starting low-cost arms is riddled with failures (Metro-jet for US-Airways, Ted-by United, Song-by Delta, Go by British Airways…
None of the three low cost airlines in the top ten most profitable list, Southwest, RyanAir, EasyJet, operate a wide-body long distance long-haul operation. AirAsia X has abandoned its plans for flights from Malaysia to Europe and the US West Coast.
Also, will the powers that are, used to privileged flying on-board the national carrier, allow the government to divest it and become a low cost carrier? Doubtful.
Planes, planes, planes
Currently: Indigo has one fleet type – the Airbus 320 soon to be 2 fleet types (after the introduction of the ATR). Majority of the A320s are on sale-and-leaseback (Indigo did purchase some for depreciation cover). The decision on the ATRs and whether they will also be on similar sale and leaseback tranactions is yet to be revealed. Compare this to Air India. Air India has sale-and-leasebacks on the 787 fleet. The 777 fleet is on its balance sheet. The 320 NEOs are on dry leases. Air India Express is a separate entity with dry-lease on 737s. Alliance Air has the older ATR version. So assuming a purchase Indigo suddenly would find itself with seven aircraft types, seven pilot types (trained on specific fleets) and separate parts, agreements, and contracts on each of these?!?! Deconstructing this would be an immense challenge. Doing this profitably would be extremely challenging. Does Indigo really want this challenge?
Unconvinced
As an investor, the call did little to allay concerns and left more unanswered questions than before. The intent of the bid and plan were it to go ahead were far from crystal clear. Confusion was the word of the day.
Either way, we wish Indigo all the best.
Share your thoughts on IndiGo’s bid? Write in a comment.
