On Solid Ground

It’s half past noon at Udyog Vihar, Phase IV, in Gurugram. There is a continuous bustle in the narrow lane leading to 319, a non-descript building that houses the country’s second-most profitable airline. The contours of the eight-storied structure aptly epitomises the company’s credo — low cost and no-frills. The spartan reception is teeming with crew members who have come to attend a training workshop. As the decibel level ups with the constant chatter of the crew, the receptionist requests them to vacate the reception. “Sir is on his way”, she says. Within seconds the crew dissipates as Ajay Singh, steps out of his Mercedes and walks into the building.

It would be easy to deduce that the 52-year-old founder, clad in blue jeans and a red t-shirt, is feared by his employees, but conversing with chief financial officer Kiran Koteshwar reveals the deep sense of respect that the staff has for Singh, who owns 60% of the airline. It’s not surprising given that a majority of the 8,000 employees owe their jobs to the IIT-Delhi alumnus, who resurrected the airline from a near-death experience four years ago. Having joined in 2005 when Singh had teamed up with Bhupendra Kansagra to run what was then called ModiLuft, later renamed SpiceJet, Koteshwar has seen it all. “I respect [Kalanithi] Maran but the unfortunate truth is that this is an industry that needs a hands-on promoter who is equally passionate about the business. The idea of a professional management is still utopian in the Indian context, especially for a sector that’s as nascent and evolving as aviation,” says Koteshwar. The owners of Sun TV group had in June 2010 bought out Wilbur Ross and other investors in a Rs.7.46 billion deal that saw the politically-affiliated businessman acquiring close to 38% stake, which subsequently rose to 66%. After a decade of losses piling up to Rs.6.87 billion, the airline had turned the corner with a profit of Rs.614 million in FY10. But things began unraveling after FY11 with the airline slipping into the red over the next three years with losses totting up to Rs.18 billion.

The new owners had little understanding of the airline business and it was further compounded by a professional management.“We had no control over our revenue. Just because someone in the top management had a fancy concept of manpower ratio per aircraft, a lot of things were outsourced, including cargo and reservations,” mentions Koteshwar. Instead of looking at where demand was originating from, the management chose to chart out routes based on the aircraft being ordered. “The routes were forced down the throats of the sales guys,” recalls Koteshwar, who took over as chief financial officer in May 2015. Besides, to save on costs, maintenance contracts were signed with major exclusions that increased costs whenever there were aircraft snags. Low utilisation of new planes owing to longer turnaround time at airports exacerbated the situation as just in a year since Maran’s entry, SpiceJet’s fleet had more than doubled from 22 planes to 51. June 2013 was the last quarter in which the airline made a profit and it kept bleeding as outstanding dues rose to around Rs.20 billion in 2014. Some lessors began impounding jets following delayed payments. Even salaries and tax arrears were piling up. Of the 37 Boeings, lessors took back 16 and some were grounded for lack of spares. With just over 10 Bombardier Q400s in service, the airline reduced daily flights to 100 from its peak of 345. Things came to a head in mid-December when 1,800 flights got cancelled with peak vacation Christmas season round the corner.

In fact, even before things had turned bleak, the management summoned Singh, who still held a minority stake, and a meeting was fixed with Maran in September 2014. At the meeting, Maran revealed his intention to shut down the airline. “We can’t handle it anymore and want to shut it down. Would you like to buy it back?” asked Maran. At this point, Singh offered to step in but on the condition that a due diligence was conducted.“I told them you have to give me a month because I don’t know what the issues are and during this one month you should not shut it down because it becomes very difficult to revive a shuttered business, especially an airline,” says Singh. But things had already gone out of control on the ground. G Asok Kumar, the then joint secretary in the aviation ministry and now principal resident commissioner at Telangana Bhavan, remembers how the events unfolded. “On December 15, 2014, Sanjiv Kapoor, the then SpiceJet COO, and three other officials burst into my room and informed me that Maran was is in no position to extend further funds to run the airline as he had already funded nearly Rs.8 billion over the past two months to keep the airline afloat,” recalls Kumar.

The joint secretary informed the then civil aviation minister Ashok Gajapathi Raju about the crisis, but the minister initially took the view that since it was a private airline he couldn’t really do much about it. The enormity of cancellations was not understood until flyers turned up at airports protesting the move. “At holiday destinations such as Port Blair and Goa, the situation was threatening to spiral out of control as there was no space to accommodate stranded passengers. DGCA informed other carriers to onboard the passengers of the cancelled SpiceJet flights, to the extent possible. But since it was vacation season, most fights were going full,” mentions Kumar.

Even as the due diligence was on, Singh was informed just 10 days after the meeting that the owners couldn’t keep pumping in more money and were going to shut the airline. On December 16, Maran suddenly pulled the plug and cancelled all flights. “I had the option of either walking away or going ahead,” recalls Singh. He approached the ministry with a bailout plan stating that he did not want SpiceJet to go the Kingfisher way. For a government that had just come into power, yet another blowout in aviation after Kingfisher went bust in 2013 would not have made for a great headline. DGCA had already barred the airline from selling tickets. “It was akin to constricting oxygen supply to a gasping patient,” says Kumar, who saw nobody in the ministry willing to take a decision given that some colleagues were either being charge-sheeted or questioned by enforcement agencies in the Kingfisher bankruptcy case. However, after a lot of deliberation on December 16, the aviation ministry issued a formal press release on steps taken to ease SpiceJet’s liquidity crisis. “On December 17, I walked into this office with no documentation and completely shattered morale all around me. I told the employees that this airline is dead anyway, andnobody thinks we have a hope in hell of coming through this. But just imagine if we are able to pull this off, it’s a story worth telling your kids,” reveals Singh. Though the pep talk flowed easy, the task ahead was an onerous one.

The ministry had eased the deadline for fuel payments, AAI charges and directed the DGCA to open up booking till March 2015. Also, the move to cancel 186 airport slots was put on hold till mid January 2015. As a priority, Singh worked on reducing the cancellations and the next big task was to convince the lessors that their dues would be paid in full even as rival airlines were ensuring that SpiceJet stayed grounded. Kumar recalls speaking with a DGCA official who mentioned that executives from rival airlines were keen to know when they were going to shut down the airline. Singh, too, was aware of that. “You can only expect those benefitting to make efforts to ensure that there is demise, right?” The only way out for Singh was to come clean about his rescue plan, especially with the lessors. “Credibility and honesty are two hugely underrated traits and their importance is never taught in B-Schools. I told my lessors that if you drive the airline to bankruptcy, it is tough to recover money and Kingfisher was a testimony to that. I told them I have done this before, so give me a chance and I will pay you in full but it will take time,” recalls Singh. The confidence also sprung from the fact that Singh had walked the path before.

Learning curve

Coming from a business family, Singh was an outlier having pursued higher education and chosen a career path of his own. Back from the US after completing his MBA in finance from Cornell University, Singh wanted to work in the public sector. He got his break when he was appointed as director of the then ailing Delhi Transport Corporation (DTC) in 1995. The public transport company had a 300-bus fleet with 40,000 employees on its rolls. “One interesting learning from being in public sector units was how difficult things can be sometimes and how constrained you might feel because of all the rules, regulations and political compulsions,” says Singh, who spearheaded a turnaround with the support of Delhi’s then transport minister, Rajendra Kumar Gupta. Singh exited after a stint of two and a half years as a chance meeting with then telecom minister, Pramod Mahajan saw him being inducted as an officer on special duty and later as an advisor. The stint also brought Singh closer to the BJP and he became a part of the party’s election campaign teams in 1998, 1999, 2004, and again in 2014, when the slogan, Ab ki baar Modi Sarkar, went viral. Singh though points out that it was just a remake of a previous election slogan, Ab ki baari Atal Bihari. It was in telecom that Singh got to see first hand how pricing can translate into exponential growth. The state-owned BSNL had laid dark fibre across the country but had poor utilization owing to high tariffs. “It’s here that I got to see the tremendous impact tariff stimulation can have on a business, the moment BSNL cut tariffs there was a 40x growth in mobile phone connections. It went well over and beyond what the National Telecom Policy had at that time envisaged,” mentions Singh, who moved back into business after the change in regime post 2004. It was around this time that he found the opportunity in aviation and believed that just like telecom, a similar growth was waiting to explode in aviation. He teamed up with Bhupendra Kansagra to take over ModiLuft. It was in the early 1990s that industrialist SK Modi had floated ModiLuft in partnership with German flag-carrier Lufthansa. However, after two years of operations the airline shut in 1996 and continued to stay defunct until 2004.

After personally investing Rs.100 million and raising an additional Rs.1.50 billion from the market and investors such as the Dubai-based Istithmar World Capital, ModiLuft took off again in 2005 as SpiceJet by offering tickets at a base price of Rs.99. “I remember having seen one-way fares above Rs.10,000 as a student. So I felt that if we can stimulate fares then we could increase the size of the market,” explains Singh, who along with his small team moved into the current building as it was the cheapest available property near to the airport. “We had no money to advertise and lot of our publicity was word of mouth. On May 16, when we switched on the call centre, located in the basement, at 4.30 am, our phones started ringing immediately and by noon we had sold off all the tickets. It was clear that there was space for a low-cost airline,” says Singh. However, even as revenue went up 4x to Rs.17 billion between FY06 and FY09, SpiceJet’s losses expanded from Rs.414 million to Rs.3.5 billion as crude played spoilsport hitting an all-time high of $147 per barrel by July 2008. In need of capital, Singh through his friend Ranjeet Nabha, Ross’ man on the ground in India, convinced the distressed investing specialist to pump in $80 million (Rs.3.45 billion) for a 30% stake. Goldman Sachs, too, invested $20 million (Rs.840 million) in the airline. In 2010, Singh decided to exit SpiceJet as the new owners wanted to run the airline their way. “It was amicable and I stepped out,” says Singh, who exited retaining a little over 2% stake from the 5% he held. Incidentally, when he sold out, the airline had over Rs.8 billion in cash reserves, and when he returned four years later there was just Rs.10 million left.

Operation comeback

As he fortified his second innings, the next step for Singh was to lower the airline’s cost of operations and to increase its revenue and load factor. The cost per available seat kilometre (CASK), a metric that measures maintenance and operating cost of each seat, was hovering around Rs.4.37 in March 2014. Singh also decided not to draw any remuneration till the airline turned profitable even as he told the employees that they would not get any wage increase in the interim. The exit of senior executives, drawing huge salaries, and other employees also resulted in the company’s wage bill coming off from Rs.5.75 billion in FY14 to Rs.4.92 billion in FY16. More importantly, around 70% of the flight network was re-jigged. “We had to revamp the route structure by knocking off unviable domestic and international destinations,” says Koteshwar. Over the course of this one year, revenue improved and cost fell, thanks to falling crude prices. The airline reported a profit of Rs.2.38 billion for the December 2015 quarter — the highest-ever in its history then — and has since gone on to achieve 13 record consecutive quarters of profit. In fact, in 2015, when the airline had already started showing signs of improvement, reportedly, Maran rang up Singh and applauded him for the turnaround. The media baron asked him, “Where did we go wrong?” to which Singh replied, “We are just trying to get back to the basics.” The efforts have paid off. The passenger load factor of the airline has been over 90% for 35 months, even as it has held on to its market share (see: In cruise mode). “Coming back from the brink with 14 litigations and $340 million dues to be paid, and to clear the entire liability without a haircut is no mean feat,” opines Koteshwar. Agrees Kumar, adding, “While Singh has done a good job in resurrecting the airline, the turnaround also came on the tailwind provided by a supportive bureaucracy, and strong political will.”

The culmination of the turnaround was marked when the airline in January 2017 placed a $22-billion order for 205 aircraft, one of the largest orders in Boeing’s history. The order comprises 100 new 737 MAX 8s, SpiceJet’s existing order of 42 MAXs, 13 additional 737 MAXs and purchase rights for 50 additional airplanes. The delivery of the first such aircraft, the Boeing 737 MAX, is expected by August, and another 14 MAX airplanes by March 2019. The fuel-efficient 737 MAX planes are expected to bring down fuel and maintenance costs by 10-15% for the airline. The airline followed up the Boeing deal with an order for 50 Bombardier Q400s — the single-biggest order for Q400s in Bombardier’s history. The entire purchase is on sale-and-leaseback basis. Though rival IndiGo has mentioned that it will be buying aircraft outright since it saves on operating costs and results in higher profitability, Koteshwar believes only an airline which has excess free cash reserves can do it. IndiGo, as of March 2018, had a cash balance of Rs.137 billion, of which Rs.70.6 billion was free cash and Rs.66.50 billion tied down to lease rental liability with lessors. “When you have cash beyond a threshold it makes sense to invest in an asset that’s productive as the cost of finance comes down and the asset on the book can be leveraged. It’s a zone that everyone aspires to be in but we cannot afford it today because we have just come off a turnaround phase. But two years down the line we can do it,” explains Koteshwar. SpiceJet, whose current fleet comprises 36 Boeing 737 NGs and 22 Bombardier Q400s, has a cash balance of Rs.15 billion, of which Rs.10 billion is tied up for securing aircraft leases and bank guarantees. Though the airline may not have the cushion that IndiGo does, in all other parameters it has managed to come neck-and-neck with the market leader (see: In August company). According to Gagan Dixit, analyst, Elara Capital, an analysis of the data on revenue per kilometer shows, that SpiceJet’s strategy is to look at revenue growth by adding newer routes, while IndiGo tries to gain market share on existing routes. 

A new route 

Today, the airline flies close to 54,500 passengers across 44 domestic and seven overseas destinations with 405 flights a day. Given the massive growth potential, as only 3% of the population travels by air, Singh believes it’s here that the government’s regional connectivity scheme UDAN will play a transformational role. “I think it is incredibly smart of the government to say that instead of spending money on trying to build airports that nobody uses, we want to spend money on airports that people want to use,” mentions Singh. SpiceJet was the first airline to bag all the routes in Phase I of the scheme. “People told me you are just being stupid but all our flights have done exceedingly well with 90%-plus load factor,” reveals Singh. In FY18, the airline added five destinations: Kandla, Porbandar, Puducherry, Jaisalmer and Adampur and plans to add Kanpur and Hubli soon. It has already bagged 20 routes in Phase II of UDAN. Some of the exclusive routes awarded to SpiceJet include Delhi-Darbhanga, Mumbai-Darbhanga, Delhi-Pakyong, Chennai-Tanjore, Delhi-Kishangarh among others. Koteshwar says, “I can play the cost-plus game in UDAN as there is no competition for three years. I am not deprived of demand, and that allows a carrier to build a route.” Dixit agrees, “SpiceJet’s strategy for UDAN makes sense given that it can price a majority of its seats above the minimum cap fixed by the government. Since the routes are short-distance and catered by 80-seater aircraft, it can price itself higher on some busy routes such as Delhi-Kanpur, Mumbai-Porbandar. Also, the subsidy by the government and cost savings on infrastructure offer a huge advantage.”

In the current fiscal, the airline will induct 19 737 MAX aircraft which will reduce costs by 8%-9% compared with the previous generation and 8 new generation Q400s with additional seating capacity which will improve the operating economics of the aircraft by 15%-18%. Not surprising that Dixit is bullish on the airline. “SpiceJet is our top pick given its anticipated yields outperformance and upcoming fuel-efficient Boeing 737 MAX 8 fleet and growth in regional markets, where it has the highest capacity.” While SpiceJet does fly overseas, connecting Bangkok, Dubai, Muscat, Kabul, Colombo and Male, the carrier is looking at its first foray into Europe. Singh wants Boeing and Airbus to come up with proposals to minimise costs for long-haul, but he believes domestic carriers are not on an even keel as far as fuel prices are concerned. “Foreign airlines are paying next to nothing as they get input credit. In India, we are paying, on average, 40% on aviation turbine fuel (ATF). If we can get the taxation right, it will make sense for us to fly directly overseas.”

Till recently the airline was enjoying the benefit of a benign crude price but that cushion is no longer available. Crude has gone up 40%over the past one year. In Q4, despite an increase of 12.7 % in crude oil prices that impacted the bottomline by Rs.814 million, an 8% increase in yield helped it in maintaining profitability (see: Riding the tailwind). However, Koteshwar cautions that margin risk will kick in if crude hits $85-90 dollars per barrel, and anything above $90 would pose a demand risk. “It won’t be just SpiceJet, the whole economy will feel the pinch as people will drop spending. However, it’s a far-off risk,” says Koteshwar, adding that unlike in the past where all quarters were profitable, there could be the odd loss.

It is not surprising that the airline is looking to de-risk its core business from demand vagaries bybuilding up its ancillary businesses, which currently account for 8%-9% of revenue. “Airline is not a cost-plus model; it’s a revenue-minus cost model. Today, if a two-hour sector’s average fare is Rs.4,200 then that’s the price, you cannot price yourself higher. Hence, you have to look at other avenues to grow revenue,” says Koteshwar. The management is looking at ancillary to bring in 20% of revenue by ramping up the cargo business. “We are already using belly space to carry cargo, but we believe the freight business will expand as the economy grows,” mentions Singh. 

As the airline looks set to fly high with its fleet expansion, it is also battling a court case where Maran has dragged Singh and the airline to the Delhi High Court over non-issuance of convertible warrants that formed part of the takeover deal. While the warrants if converted to equity would give Maran and his entity KAL Airways around 20% stake, the airline’s FY15 annual report states lack of regulatory approval as a reason for non-issuance of warrants. While Singh chose not to elaborate on the issue as the case is sub judice, its FY17 report states that “based on assessment and legal advice obtained, the company is of the view that any possible consequential effects, including penal consequences and any compounding thereof, does not have a material impact on the financial results of the company.”

While analysts see that as a risk, Singh is not too worried. The big worry for him is that as the 58-aircraft fleet touches 100, he will run out of spices as the airline names each aircraft after a distinct spice. “My concern is what after 100,” smiles the founder turned saviour.