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The financial health of Air India

May 31st, 2017 No comments

Recently there have been news reports about the NITI Aayog submitting its recommendations on improving the financial health of Air India to the Ministry of Finance.[1],[2]  The Civil Aviation Ministers have also mentioned that the Ministry will soon propose a roadmap for the rejuvenation of the national airline.  While the NITI Aayog report is not out in the public domain yet, we present a few details on the financial health of the airline.

Finances of Air India

In 2015-16, Air India earned a revenue of Rs 20,526 crore and registered losses of Rs 3,837 crore.  As of March 31, 2015, the total debt of Air India was at Rs 51,367 crore.[3]  This includes Rs 22,574 crore outstanding on account of aircraft loans.  The figure below shows the losses incurred by Air India in the last few years (2007-16).

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According to the Ministry of Civil Aviation, reasons for Air India’s losses include: (i) the adverse impact of exchange rate variation due to the weakening of Indian Rupee, (ii) high interest burden, (iii) increase in competition, especially from low cost carriers, and (iv) high fuel prices.[4]  The National Transport Development Policy Committee (NTDPC), in its report in 2013, had observed that with the increase in the number of airlines in the market, Air India has been struggling to make a transition from a monopoly market to a competitive one.[5]  These struggles have been primarily regarding improving its efficiency, and competing with the private airlines.

Turnaround Plan and Financial Restructuring

In order to bail out the company, the government had approved the Turnaround Plan (TAP) and Financial Restructuring Plan (FRP) of Air India in April 2012.[6]  Under the plans, the government would infuse equity into Air India subject to meeting certain milestones such as Pay Load Factor (measures capacity utilisation), on time performance, fleet utilisation, yield factor (average fare paid per mile, per passenger), and rationalisation of the emolument structure of employees.7  The equity infusion included financial support towards the repayment of the principal, as well as the interest payments on the government loans for aircraft acquisition.  Under the TAP/FRP, the central government was to infuse Rs 30,231 crore till 2020-21.  As of 2016-17, the Ministry has infused an equity amount of Rs 24,745 crore.[7]

In 2017-18, the Ministry has allocated Rs 1,800 crore towards Air India which is 67% of the Ministry’s total budget for the year.[8]  However, this amount is 30% lower than the TAP commitment of Rs 2,587 crore.3  In 2016-17, while Air India had sought and equity infusion of Rs 3,901 crore, the government approved Rs 2,465 crore as the equity infusion.[9]  The Standing Committee on Transport, Tourism, and Culture examining the 2017-18 budget estimates noted that reducing the equity infusion in Air India might adversely affect the financial situation of the company.[10]  It recommended that the government must allocate the amount committed under TAP.  The Ministry had also observed that due to reduction of equity infusion, Air India has to arrange funds through borrowing which costs additional amount of interest to be paid by the government.[11]

As per the Ministry, Air India has achieved most of the targets set out in TAP.[12]  Despite running into losses, it achieved an operating profit of Rs 105 crore in FY 2015-16.[13]  Air India’s performance in some of the segments are provided in the table below.

Table 1: Air India’s performance

2011-12 2014-15
Overall Network On Time Performance (measures adherence to time schedule) 68.2% 72.7%
Passenger Load Factor (measures capacity utilisation of the airline) 67.9% 73.7%
Network Yield achieved (in Rs/ RPKM)* 3.74 4.35
Number of Revenue Passengers (in million) 13.4 16.9
Operating Loss (in Rs crore) 5,139 2,171

* Note: RPKM or Revenue Passenger Kilometre performed refers to number of seats for which the carrier has earned revenue.

Sources: Lok Sabha Questions; PRS.

The NTDPC had observed that with its excessive and unproductive manpower, failure to invest in the technology required to keep it competitive, and poor operations, Air India’s future looks risky.  It had also questioned the rationale for a national airline.  It had suggested that the government must frame a decisive policy with regard to Air India, and clarify its future accordingly.5  It had recommended that Air India’s liabilities should be written off and be dealt with separately, and the airline should be run on complete operational and financial autonomy.5

Need for competitive framework in the sector

With the entrance of several private players in the market, the domestic aviation market has grown significantly in the last decade.  The market share of an airline is directly related to its capacity share in the market.  While private carriers have added capacity in the domestic market, the capacity induction (adding more aircrafts) of Air India has not kept up with the private carriers.  This has resulted in decrease in market share of Air India from 17% in 2008-09 to 14% in 2016-17.[14]

The Committee looking at the competitive framework of the civil aviation sector had observed that the national carrier gets preferential treatment through access to government funding, and flying rights.[15]  It had recommended that competitive neutrality should be ensured between private carriers and the national carrier, which could be achieved by removing the regulations that provide such preferential treatment to Air India.  The NTDPC had also noted that the presence of a state-owned enterprise should not distort the market for other private players.6  It had recommended that the Ministry should consider developing regulations that improve the overall financial health of the airline sector.

While Air India’s performance has improved following the TAP, along with the equity infusion from government, its debt still remains high and has been gradually increasing.  In light of this, it remains to be seen what the government will propose with regard to the rejuvenation of the national airline, and ensure a competitive and fair market for all the players in the airline market.

[1] “Govt to prepare Air India revival plan within 3 months, amid calls for privatization”, Livemint, May 31, 2017, http://www.livemint.com/Politics/0koi5Hyidj1gVD3wOWTruM/Govt-says-all-options-open-for-Air-India-revival.html.

[2] “Air India selloff: Fixing airline’s future is more important than past”, Financial Express, May 31, 2017, http://www.financialexpress.com/opinion/why-fixing-air-indias-future-more-important-than-past/693777/.

[3] Lok Sabha Questions, Unstarred question no 382, Ministry of Civil Aviation, February 25, 2016, http://164.100.47.194/Loksabha/Questions/QResult15.aspx?qref=28931&lsno=16.

[4] Lok Sabha Questions, Unstarred question no 353, Ministry of Civil Aviation, November 17, 2016, http://164.100.47.194/Loksabha/Questions/QResult15.aspx?qref=40733&lsno=16.

[5] “Volume 3, Chapter 3: Civil Aviation”, India Transport Report: Moving India to 2032, National Transport Development Policy Committee, June 17, 2014, http://planningcommission.nic.in/sectors/NTDPC/volume3_p1/civil_v3_p1.pdf.

[6] “Government Approves Financial Restructuring and Turn Around Plan of Air India”, Press Information Bureau, Cabinet Committee on Economic Affairs (CCEA), April 12, 2012, http://pib.nic.in/newsite/PrintRelease.aspx?relid=82231.

[7] Lok Sabha Questions, Unstarred question no 472, Ministry of Civil Aviation, April 6, 2017, http://164.100.47.194/Loksabha/Questions/QResult15.aspx?qref=51752&lsno=16.

[8] Notes on Demands for Grants 2017-18, Demand no 9, Ministry of Civil Aviation, http://indiabudget.nic.in/ub2017-18/eb/sbe9.pdf.

[9] Lok Sabha Questions, Unstarred question no 4809, Ministry of Civil Aviation, March 30, 2017, http://164.100.47.194/Loksabha/Questions/QResult15.aspx?qref=51108&lsno=16.

[10] “244th report: Demand for Grants (2017-18) of Ministry of Civil Aviation”, Standing Committee on Transport, Tourism and Culture, March 17, 2017, http://164.100.47.5/newcommittee/reports/EnglishCommittees/Committee%20on%20Transport,%20Tourism%20and%20Culture/244.pdf.

[11] “218th report: Demand for Grants (2015-16) of Ministry of Civil Aviation”, Standing Committee on Transport, Tourism and Culture, April 28, 2015.

[12] Lok Sabha Questions, Unstarred question no 307, Ministry of Civil Aviation, February 25, 2016, http://164.100.47.190/loksabhaquestions/annex/7/AU307.pdf.

[13] Lok Sabha Questions, Unstarred question no 1566, Ministry of Civil Aviation, March 9, 2017, http://www.loksabha.nic.in/Members/QResult16.aspx?qref=47532.

[14] Lok Sabha Questions, Unstarred question no 312, Ministry of Civil Aviation, March 23, 2017, http://164.100.47.194/Loksabha/Questions/QResult15.aspx?qref=49742&lsno=16.

[15] Report of the Committee Constituted for examination of the recommendations made in the Study Report on Competitive Framework of Civil Aviation Sector in India, Ministry of Civil Aviation, June 2012, http://civilaviation.gov.in/sites/default/files/moca_001870_0.pdf.

GST rates and anti-profiteering

May 24th, 2017 No comments

Over the last two months, the centre and over 15 states have passed laws to levy the Goods and Services Tax (GST).  Under these laws, tax rates recommended by the GST Council will be notified by the government.  The Council met in Srinagar last week to approve rates for various items.  Following this decision, the government has indicated that it may invoke provisions under the GST laws to monitor prices of goods and services.[1]  This will be done by setting up an anti-profiteering authority to ensure that reduction in tax rates under GST results in a fall in prices of goods and services.  In this context, we look at the rates approved by the GST Council, and the role of the proposed authority to ensure that prices of various items do not increase under GST.

Q. What are the tax rates that have been approved by the Council?

The Council has classified various items under five different tax rates: (i) 5%, (ii) 12%, (iii) 18%, (iv) 28%, and (v) 28% with an additional GST compensation cess (see Table 1).[2],[3],[4]  While tax rates for most of the goods and services have been approved by the Council, rates for some remaining items such as biscuits, textiles, footwear, and precious metals are expected to be decided in its next meeting on June 3, 2017.

Table 1: Tax rates for goods and services as approved by the GST Council

 

5% 12% 18% 28%

28% + Cess

Goods o Tea and Coffee

o Medicines

o Edible Oils

o Butter and Cheese

o Sanitary Napkins

o Mobile Phones

o Dry Fruits

o Tractors

o Agarbatti

o Toothpaste

o Soap Bars

o Computers

o Chocolate

o Shampoo

o Washing Machine

o Air Conditioner (AC)

o Aerated Drinks + 12% Cess

o Small Cars + 1% or 3% Cess (depending on petrol or diesel engine)

o Big Cars + 15% Cess

Services o Transport by rail

o Air transport by economy class

o Air transport by business class

o Non-AC Restaurant without liquor license

o Restaurant with liquor license

o AC Restaurant

o Other services not specified under any other rate (such as telecommunication and financial services)

o Entertainment (such as cinemas and theme parks)

o Gambling

o Restaurants in 5 star hotels

Source: GST Council Press Release, Central Board for Excise and Customs.

 

Q. Will GST apply on all goods and services?

No, certain items such as alcohol for human consumption, and petroleum products such as petrol, diesel and natural gas will be exempt under GST.  In addition to these, the GST Council has also classified certain items under the 0% tax rate, implying that GST will not be levied on them.  This list includes items of daily use such as wheat, rice, milk, eggs, fresh vegetables, meat and fish.  Some services such as education and healthcare will also be exempt under GST.

Q. How will GST impact prices of goods and services?

GST subsumes various indirect taxes and seeks to reduce cascading of taxes (tax on tax).  With greater efficiency in the supply of products, enhanced flow of tax credits, removal of border check posts, and changes in tax rates, prices of goods and services may come down.[5],[6],[7]  Mr Arun Jaitley recently stated that the Council has classified several items under lower tax rates, when compared to the current system.[8]

However, since some tax rates such as VAT currently vary across states, the real impact of GST rates on prices may become clear only after its roll-out.  For example, at present VAT rates on smart phones range between 5-15% across states.  Under GST they will be taxed at 12%.[9]  As a result while phones may become marginally cheaper in some states, their prices may go up in some others.

Q. What happens if tax rates come down but companies don’t reduce prices?

Few people such as the Union Revenue Secretary and Finance Ministers of Kerala and Jammu and Kashmir have expressed concerns that companies may not lower their prices despite a fall in tax rates, in order to increase their profits.  The Revenue Secretary also stated that the government had received reports of few businesses increasing their product prices in anticipation of GST.[10]

To take care of such cases, the GST laws contain a provision which allows the centre to constitute an anti-profiteering authority.  The authority will ensure that a reduction in tax rates under GST is passed on to the consumers.  Specific powers and functions of the authority will be specified by the GST Council.[11],[12]

Q. Are there any existing mechanisms to regulate pricing of products?

Various laws have been enacted over the years to control the pricing of essential items, or check for unfair market practices.  For example, the Essential Commodities Act, 1955 controls the price of certain necessary items such as medicines, food items and fertilisers.[13]

Parliament has also created statutory authorities like the Competition Commission of India to check against unfair trade practices such as cartelisation by businesses to inflate prices of goods.  Regulators, such as the National Pharmaceutical Pricing Authority, are also responsible for regulating prices for items in their sectors.

Q. Could there be some challenges in implementing this mechanism?

To fulfil its mandate, the anti-profiteering authority could get involved in determining prices of various items.  This may even require going through the balance sheets and finances of various companies.  Some argue that this is against the idea of prices being determined by market forces of demand and supply.[14]

Another aspect to consider here is that the price of items is dependent on a combination of factors, in addition to applicable taxes.  These include the cost of raw material, technology used by businesses, distribution channels, or competition in the market.

Imagine a case where the GST rate on a category of cars has come down from the current levels, but rising global prices of raw material such as steel have forced a manufacturer to increase prices.  Given the mandate of the authority to ensure passing of lower tax rates to consumers, will it also consider the impact of rising input costs deciding the price of an item?  Since factor costs keep fluctuating, in some cases the authority may find it difficult to evaluate the pricing decision of a business.

Q. Have other countries tried to introduce similar anti-profiteering frameworks?

Some countries such as Malaysia have in the past introduced laws to check if companies were making unreasonably high profits after the roll-out of GST.[15]  While the law was supposed to remain in force for a limited period, the deadline has been extended a few times.  In Australia, during the roll out of GST in the early 2000s, an existing authority was entrusted with the role of taking action against businesses that unreasonably increased prices.[16]  The authority also put in place a strategy to raise consumer awareness about the available recourse in cases of price exploitation.

With rates for various items being approved, and the government considering a mechanism to ensure that any inflationary impact is minimised, the focus now shifts to the implementation of GST.  This includes operationalisation of the GST Network, and notification of rules relating to registration under GST and payment of tax.  The weeks ahead will be crucial for the authorities and various taxpayers in the country to ensure that GST is successfully rolled out from July 1, 2017.

[1] After fixing rates, GST Council to now focus on price behaviour of companies, The Hindustan Times, Ma 22, 2017, http://www.hindustantimes.com/business-news/after-fixing-rates-gst-council-to-now-focus-on-price-behaviour-of-companies/story-fRsAFsfEofPxMe2IXnXIMN.html.

[2] GST Rate Schedule for Goods, Central Board of Excise and Customs, GST Council, May 18, 2017, http://www.cbec.gov.in/resources//htdocs-cbec/gst/chapter-wise-rate-wise-gst-schedule-18.05.2017.pdf.

[3] GST Compensation Cess Rates for different supplies, GST Council, Central Board of Excise and Customs, May 18, 2017, http://www.cbec.gov.in/resources//htdocs-cbec/gst/gst-compensation-cess-rates-18.05.2017.pdf.

[4] Schedule of GST Rates for Services as approved by GST Council, GST Council, Central Board of Excise and Customs, May 19, 2017, http://www.cbec.gov.in/resources//htdocs-cbec/gst/Schedule%20of%20GST%20rates%20for%20services.pdf.

[5] GST rate impact: Here’s how the new tax can carry a greater punch, The Financial Express, May 24, 2017, http://www.financialexpress.com/economy/gst-rate-impact-heres-how-the-new-tax-can-carry-a-greater-punch/682762/.

[6] “So far, the GST Council has got it right”, The Hindu Business Line, May 22, 2017, http://www.thehindubusinessline.com/opinion/the-gst-council-has-got-it-right/article9709906.ece.

[7] “GST to cut inflation by 2%, create buoyancy in economy: Hasmukh Adhia”, The Times of India, May 21, 2017, http://timesofindia.indiatimes.com/business/india-business/gst-to-cut-inflation-by-2-create-buoyancy-in-economy-hasmukh-adhia/articleshow/58772448.cms.

[8] GST rate: New tax to reduce prices of most goods, from milk, coal to FMCG goods, The Financial Express, May 19, 2017, http://www.financialexpress.com/economy/gst-rate-new-tax-to-reduce-prices-of-most-goods-from-milk-coal-to-fmcg-goods/675722/.

[9] “Goods and Services Tax (GST) will lead to lower tax burden in several commodities including packaged cement, Medicaments, Smart phones, and medical devices, including surgical instruments”, Press Information Bureau, Ministry of Finance, May 23, 2017.

[10] “GST Townhall: Main concern is consumer education, says Adhia”, Live Mint, May 24, 2017.

[11] The Central Goods and Services Tax Act, 2017, http://www.prsindia.org/uploads/media/GST,%202017/Central%20GST%20Act,%202017.pdf.

[12] Rajasthan Goods and Services Tax Bill, 2017; Madhya Pradesh Goods and Services Tax Bill, 2017; Uttar Pradesh Goods and Services Tax Bill, 2017; Maharashtra Goods and Services Tax Bill, 2017.

[13] The Essential Commodities Act, 1955.

[14] “GST rollout: Anti-profiteering law could be the new face of tax terror”, The Financial Express, May 23, 2017, http://www.financialexpress.com/opinion/gst-rollout-anti-profiteering-law-could-be-the-new-face-of-tax-terror/680850/.

[15] Price Control Anti-Profiteering Act 2011, Malaysia.

[16] ACCC oversight of pricing responses to the introduction of the new tax system, Australia Competition and Consumer Commission, January 2003, https://www.accc.gov.au/system/files/GST%20final%20report.pdf.