India Aviation 2014 - Enhancing Air Connectivity

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Published on March 13, 2014

Author: kpmgindia

Source: slideshare.net

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India has the potential to become the third largest aviation market by 2020 and the largest by 2030. There is large untapped potential for growth due to the fact that access to aviation is still a dream for nearly 99.5 per cent of its population. The report highlights the significant growth in the Indian aviation sector over the last decade.

The report points out that development of air transportation services and socio-economic development are highly correlated. According to the International Civil Aviation Organisation (ICAO), an additional dollar invested in air transport leads to a benefit of around three dollars to the local economy. Moreover, every additional job created in the air transport results in creation of over six new jobs.

Indian aviation has a huge untapped potential – we need to recognise it and go for it.

Ministry of Civil Aviation Government of India th 4 International Conference on Civil Aviation 13 March 2014 - Hyderabad Enhancing Air Connectivity Knowledge Partner

Ministry of Civil Aviation Government of India India Aviation 2014

Contents 1. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 01 2. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 03 2.1 Socio - economic benefits of air transport services . . . . . . . . . . . . . . . . . . . 03 2.2 Trends in the global aviation industry. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 04 3. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 09 4. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 15 4.1 Enhancing regional connectivity . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 15 4.2 Rationalizing taxes . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 26 4.3 Redesigning the regulatory landscape . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 27 4.4 Supporting the MRO industry . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 30 4.5 Corporatization of ANS. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 32 4.6 Abolition of 5/20 rule . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 33 4.7 Addressing requirements for skilled manpower. . . . . . . . . . . . . . . . . . . . . . . 34 4.8 Innovative IT interventions . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 38 5. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 41 6. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 44 7. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 45 Executive Summary Introduction to the Aviation Industry Indian Aviation Industry Unlocking the Indian Aviation Sector The Way Forward List of Figures List of Tables India Aviation 2014

Ministry of Civil Aviation Government of India India Aviation 2014

01 Executive Summary T he Indian civil aviation industry is on a high growth trajectory, albeit with minor hiccups. India has a vision of becoming the third largest aviation market by 2020 and is expected to be the largest by 2030. Despite facing a reduced growth rate in the past few years, the Civil Aviation Industry in India has ushered in a new era of expansion driven by factors such as Low Cost Carriers (LCC), modern airports, Foreign Direct Investments (FDI) in domestic airlines, cutting edge Information Technology (IT) interventions and a growing emphasis on regional connectivity. Simply going by the market size, the Indian civil aviation industry is amongst the top 10 in the world with a size of around USD 16 billion. However, in order to achieve the vision of becoming the third largest aviation market by 2020, a lot more needs to be done. The Asia Pacific region along with other emerging economies of Latin America and Eastern Europe are projected to lead the growth of the global aviation sector in the next few decades. Steady economic development of China and India would lead to higher spending power and increased need to travel. With one third of the world's population residing in these two nations, there is a huge untapped potential. As per the 12th Five Year Plan (2012-2017), improving air connectivity in tier-2 and tier-3 cities in India is one of the key priorities of the government. This expansion will not only add a much needed boost to the industry, but also increase the viability of new trends like low cost airports and airlines in the country. With the unfortunate downgrade of India to Category 2 by USA's Federal Aviation Administration (FAA), expansion in the global routes may be constrained. That too will lead to greater focus on the domestic market in the short run. All this will have a multiplier effect in terms of higher growth of local economic activities, tourism and employment. India sells one of the costliest Aviation Turbine Fuel (ATF) in the world, nearly 60% costlier than competing nations in the Middle East and ASEAN regions. This is thanks to myopic tax policies at the central and state level. The raw material - ATF - accounts for nearly half of the operating cost of Indian carriers. This explains why domestic flight tickets in India are often costlier than a 3 days weekend package in Thailand and Malaysia. No wonder tourism traffic in India is a fraction of its immense God-gifted potential. The irony is that the common man in whose name high taxes are imposed on ATF, is himself prevented from flying due to high travel costs! According to a rough estimate, nearly 99.5 percent of the world's third largest economy, have NOT seen the insides of an aircraft. Most Indian carriers therefore are facing financial ruin and are hoping for a white knight to bail them out. 1 India Aviation 2014

Ministry of Civil Aviation Government of India 02 Some recent initiatives such as allowing import of ATF are a step in the right direction, but more proactive measures are needed in order to make the industry more competitive and investor friendly. The positive implications of allowing 49% FDI in Indian airlines are slowly becoming evident. Removal of the unwritten ban on A380s will help bring down cost of travel and increase tourist arrivals. The 5/20 rule and other regulatory hurdles in approval of new airlines and import of aircrafts need to be abolished at the earliest. The regulatory regime governing Maintenance, Repair and Overhaul (MRO) of aircrafts is another classic case of tax and procedural overkill. Not a single commercial aircrafts of Indian carriers undergoes repairs in India. Empty aircrafts are flown to MRO facilities in our neighboring countries and paid for in foreign exchange. The loss of revenue, foreign exchange, employment and direct taxes is immense. All this is thanks to the short-sighted policies regarding indirect taxes (Service Tax and VAT) and cumbersome Customs procedures regarding import of aircraft parts and consumables. With the growth of air traffic in the region, focused efforts to upgrade the Air Navigation Services (ANS) has become imperative. Segregation of ANS directorate from Airport Authority of India (AAI) into a world class organization with latest infrastructure and well trained professionals is key. Government is expected to decide on the matter soon. In pursuit of becoming a strong aviation player, India perhaps did not put the right emphasis on development of human capital and regulatory frameworks. The FAA downgrade has been fallout of the same. India needs to put its act together to address these issues. The creation of a financially and operationally independent Civil Aviation Authority (CAA) and the National Aviation University (NAU) need to be undertaken on a war-footing. There is a large untapped potential for growth in the Indian aviation industry due to the fact that access to aviation is still a dream for nearly 99.5 percent of its large population, nearly 40 percent of which is the upwardly mobile middle class. It is critical for the industry stakeholders to engage and collaborate with the policy makers to come up with efficient and rational decisions that will shape the future of Indian civil aviation industry. With the right policies and a relentless focus on quality, cost and passenger interest, India would be well placed to achieve its vision of becoming the third largest aviation market by 2020 and the largest by 2030. India Aviation 2014

03 Introduction to the Aviation Industry 2 A ir transportation services have evolved into a crucial building block for the world's socio-economic growth. In the last four decades, the air travel across the world has grown by more than 1000% and the air freight has increased by over 1400% while the national economies have grown only three to four times. This phenomenal growth is due to a combination of three key global drivers, namely, increase in disposable incomes, accelerated globalization and deregulation of the aviation industry. Increasing competition, technological advancements and improved operational efficiencies have enabled the cost of air travel to remain relatively low despite severe volatility of global fuel prices and leading currencies. Air transport is essential for global business and tourism because of the growing value of time and money. Aircrafts transported around 3.1 billion passengers and over 51.6 1 million tonnes of freight in 2013 . Over 35% of the inter-regional exports of goods by value and 51% of international tourists are served by air transport services. 2.1 Socio-economic benefits of air transport services Figure 1- Key global drivers of aviation industry Increase in Disposable Incomes Accelerated Globalization Deregulation of the Aviation Industry Increased spending power Many nations have opened up the sector to private players and this has led to explansion of the aviation market Increased competition, use of latest technologies for both operational and passenger services have kept travel costs relatively low Greater accessiblity to global business and tourism hubs Rise in demand for air travel Increased propensity to travel 1 IATA - Estimated as of December 2013. India Aviation 2014

Ministry of Civil Aviation Government of India 04 The development of air transportation services and socio-economic development are highly correlated. According to the International Civil Aviation Organization (ICAO), an additional dollar invested in air transport leads to a benefit of around three dollars to the local economy. Moreover, every additional job created in the air transport results in creation of over six new jobs in the local economy. Figure 2 describes the distribution of employment generated by aviation services around the world. 7.6, 13% 0.8, 1% 9.3, 17% 4.4, 8% 34.5, 61% 56.6 Mn - Global Employment by Aviation Airline, Airports and Navigation Services Civil Aerospace Sector Air Transport Supply Chain Spending by Industry Employees Tourism facilitated by Air Transport Figure 2- Distribution of global employment in the aviation sector Source: IATA (December 2013) 2.2 Trends in the Global Aviation Industry Year on Year (YoY) comparison of key parameters for the global aviation industry are represented in the following table. Table 1 Global passenger and cargo growth trends (2013 vs 2012) Passenger Traffic Cargo Traffic Routes International Domestic Total RPK ASK PLF FTK AFTK FLF 5.4% 4.9% 79.3% 1.2% 2.6% 49.0% 4.9% 4.6% 79.9% 2.5% 2.3% 30.8% 5.2% 4.8% 79.5% 1.4% 2.6% 45.3% (All Figures are expressed in % change Year on Year except PLF and FLF which are the load factors for the Year 2013) Source: IATA Note: RPK: Revenue-Passenger-Kilometers; ASK: Available-Seat-Kilometers; PLF: Passenger-Load-Factor; FTK: Freight-Tonne- Kilometers; AFTK: Available Freight Tonne Kilometers; FLF: Freight Load Factor India Aviation 2014

05 The growth in passenger traffic has been led by a strong progress made by the Middle East countries supported by the other emerging economies of Latin America, Africa and Asia-Pacific. The developed economies of North America and Europe lagged behind in terms of growth in passenger traffic. The cargo traffic growth rate has recovered from a decreasing trend during 2012. While Middle East nations have managed a strong growth during 2013, Asia-Pacific and North America showed a decline. The details regarding regional passenger and cargo traffic are presented in the following table. Table 2 - Regional international passenger and cargo traffic growth trends (2013 vs 2012) Passenger Traffic Cargo Traffic Region Africa Asia-Pacific Europe Latin America Middle East North America Total International RPK ASK PLF FTK AFTK FLF 5.5% 5.2% 69.0% 1.5% 6.6% 30.4% 5.3% 5.2% 77.7% -1.6% 0.1% 58.7% 3.8% 2.8% 81.0% 1.7% 1.8% 48.7% 8.1% 7.4% 79.2% 1.3% 2.3% 43.9% 12.1% 0.1% 77.3% 12.9% 12.1% 45.0% 3.0% 2.2% 82.8% -1.5% 0.8% 38.8% 5.4% 4.9% 79.3% 1.2% 2.6% 49.0% (All Figures are expressed in % change Year on Year except PLF and FLF which are the load factors for the Year 2013) Source: IATA Note: RPK: Revenue-Passenger-Kilometers; ASK: Available-Seat-Kilometers; PLF: Passenger-Load-Factor; FTK: Freight-Tonne- Kilometers; AFTK: Available Freight Tonne Kilometers; FLF: Freight Load Factor It has been observed that during economic upswing, airline traffic grows roughly around twice the rate of growth of GDP. The following figures display the trend of scheduled passengers and cargo during the last decade. The recession caused by the Global Financial Crisis in 2008 has led to a negative growth in both passenger as well as cargo traffic. Figure 3 - Global scheduled air passenger traffic, 2004-2013 (in Millions) Source: Airbus Outlook 2,014 2,157 2,277 2,478 2,515 2,479 2,681 2,845 2,977 3,129 2013 (est.) 201220112010200920082007200620052004 India Aviation 2014

Ministry of Civil Aviation Government of India 06 As the economies develop, especially in the Asian region, the aerospace industry is expected to continue on its growth path. This is reflected in the order books of the aircraft manufacturing companies. The global passenger aircraft fleet is expected to grow from the existing size of 16,094 (in 2012) to 33,651 (in 2032). The number of dedicated freighters is expected to grow from 1,645 to 2,905 over the same period. While some of the existing passenger aircrafts will be reconfigured as dedicated freighter, 871 new freighters are projected to be introduced. Around 28,355 new 2 aircrafts are expected to be added to passenger fleet . The following figures show the breakup of new deliveries by region and by type of aircraft. 2 Airbus Global Market Forecast – (2013-2032) 38.4 39.4 41.8 44.4 42.9 42.6 50.7 51.4 51.1 51.6 2004 2005 2006 2007 2008 2009 2013 (est.) 2010 2010 2010 Figure 4 - Global air freight tonnage, 2004-2013 (in Millions) Source: Airbus Outlook 20,242 , 69% 7,273 , 25% 1,711 , 6% Single Aisle Twin Aisle Very Large 29,226 New deliveries globally during 2013-2032 by aircraft type Figure 5- Global aircraft deliveries by aircraft type Source: Airbus Outlook India Aviation 2014

07 Regional distribution of 29,226 new deliveries during 2013-2032 Figure 6- Regional distribution of aircraft deliveries The distribution of the new aircraft deliveries, showcased in the figures above, strongly support the expected trend in the aviation sector. Middle income groups in emerging economies increasingly want to travel by air. During the period of next 20 years, the RPK in these countries is expected to grow at a rate of around 6%, while it is expected to grow at a rate of 4% in the advanced economies of Western Europe, North America 3 and Japan . While large aircrafts would be required to serve the routes between pairs of cities with heavy passenger and cargo traffic, smaller aircrafts are expected to grab the lion's share. The Asia Pacific region is expected to emerge as the largest aviation market by 2032. Middle East and Latin America are expected to enhance their share at the cost of North America and Europe. 970 , 3% 10,664 , 36% 6,922 , 24% 2,279 , 8% 1,999 , 7% 5,521 , 19% 871 , 3% Africa Asia -Pacific Europe Latin America Middle East North America Freighters Table 3- Forecasted change in pattern of region-wise distribution of RPK Region Share of 2012 RPK Share of 2032 RPK Asia Pacific Europe North America Middle East Latin America Africa Total 29% 34% 30% 26% 25% 18% 8% 12% 5% 7% 3% 3% 100% 100% Source: Airbus Global Market Forecast – (2013-2032) 3 Airbus Global Market Forecast – (2013-2032) India Aviation 2014

Ministry of Civil Aviation Government of India 08 6809, 64% 3233, 30% 622, 6% The proportion of the new deliveries of the aircraft in Asia Pacific region is in line with the global trend where single aisle aircrafts having a share of over 60%. The share of the smaller aircrafts is increasing due to the growing dominance of Low Cost Carriers (LCC). LCCs have driven the growth of the aviation market in this region through low fares, introduction of new routes and periodic discount offers. Single Aisle Twin Aisle Very Large 10,664 New deliveries in Asia Pacific during 2013 - 2032 by aircraft type Figure 7- Aircraft deliveries by aircraft type, Asia Pacific Source: Airbus Global Market Forecast – (2013-2032) India and China, accounting for around one third of the world's population, are well poised to contribute to and benefit from the growth of the aviation sector. The following figure displays the projected 20-year GDP growth rate of various regions across the world. This highlight the high growth in aviation expected in the two Asian giants. Figure 8- Regional GDP Growth - 20 year CAGR Source: : Airbus Global Market Forecast – (2013-2032) Japan Europe NorhtAm erica Pacific CentralAm ericaM iddleEast Asia South Am erica Africa China India 7% 6% 5% 4% 3% 2% 1% 0% World GDP 20 Yr CAGR India Aviation 2014

09 Indian Aviation Industry 3The Indian aviation sector is experiencing a mix of exciting and challenging times. On one hand, mounting losses of domestic airlines, high cost of ATF, slow growth in passenger and cargo traffic, rising fares, high airport charges, pitiable state of the MRO sector, etc are crippling industry growth. On the other hand, the long term growth prospects of the industry are attracting international players to invest in India. The size of Indian civil aviation industry is amongst the top ten in the world at USD 16 4 billion . Despite market fluctuations especially with regard to ATF prices, the Indian aviation sector is growing, albeit slowly. Indian carriers plan to double their fleet size by 2020 to around 800 aircrafts. In order to cope up with the growing demand of air travel, India's Ministry of Civil Aviation (MoCA) has introduced some far-reaching reforms. These include: a) Handing over airport management of leading airports to private players on a PPP basis b) Foreign airlines allowed to invest upto 49% in Indian carriers. This would not only facilitate funds infusion, but will also bring in global best practices and synergy benefits. c) In addition to the Greenfield airports at Navi Mumbai, Goa, Kannur and Kushinagar, six AAI airports have been identified for handover to private management under the PPP route following the successful implementation of PPP models like Delhi, Mumbai, Bangalore, Hyderabad, Cochin. There are reports of another 14 AAI airports being considered for PPP. d) All Indian carriers are now allowed to fly to foreign locations subject to the 5/20 Rule. The discriminatory 5/20 Rule itself is likely to be abolished. This has led to an increase in share of Indian carriers in the growing international traffic to and from India. e) 51 new low-cost airports in tier 3-4 cities have been planned in order to improve regional connectivity f) Direct import of ATF to offset the high sales tax imposed on it. g) Introduction of 24x7 customs facility at the cargo terminals at leading airports. h) Extension of duty-free period for parts and testing equipments imported for Maintenance, Repairs and Overhaul (MRO) from three months to one year. 4 Source: Report of Working Group on Civil Aviation Sector, National Transport Development Policy Committee (NTDPC), June 2012; KPMG analysis India Aviation 2014

Ministry of Civil Aviation Government of India 10 i) Maintenance, Repairs and Overhaul' operations included under the airport infrastructure category, in a view to facilitate external commercial borrowings (ECB) for the sector 5 However, global comparison of air travel penetration shows that India (at 0.04 air-trips per capita per annum) stands far behind the developed countries like US and Australia (2 air-trips per capita per annum). China's air travel penetration is five times the size of India's despite having a population around 10 percent higher. 5 Air trips per capita per year = Domestic passengers carried in a year/ Total population Table 4- Air travel penetration for key countries, 2012 Source: World Bank, FAA, DGCA India, CAAC, Malaysia Ministry of Transport, BTRE Australia, ANAC Brazil As India's economy grows, disposable incomes rise and the value of time increases, the air travel penetration is expected to grow exponentially. In the last decade, India has made significant growth in aviation. As per data from Airports Authority of India (AAI), passenger throughput grew to 159 million (FY 13) and cargo throughput to 2.19 million MT (FY 13) registering an impressive growth of 13% and 10% CAGR respectively for the period FY 03-13. In the last five years, the passenger handling capacity of airports in India has risen from 72 million to 233 million. This capacity growth has been possible because of the proactive steps taken by the government and the private sector. India is poised to be among the top three aviation markets by 2020, from its ninth position currently. Evolution of the Indian Aviation Industry S.N. Country Air Trips Per Capita 1. U.K. 320% 2. U.S. 220% 3. Australia 200% 4. Germany 100% 5. Malaysia 54% 6. Brazil 25% 7. China 20% 8. India 4% Table 4 - Air travel penetration for key countries, 2012 India Aviation 2014

11 Investments worth 50 billion USD envisaged Key highlights of the expected investment over the next five years are mentioned below: a) Airlines: Indian carriers plan to increase their fleet size to reach 800 aircrafts by 2020 b) Airports: Private operators expected to contribute more than three-fourth of the investment in next 5 years; including investment in cargo handling and other non- aero infrastructure c) ATC: Investments in CNS / ATM/ Meteorology equipment upgradation; augmentation of training infrastructure; induction of satellite navigation GAGAN (GPS aided geo-augmented navigation) to harmonize with leading global initiatives as SESAR and NextGen d) General Aviation: USD 4.3 billion investment planned to augment the GA infrastructure. 300 business jets, 300 small aircrafts and 250 helicopter expected to be added to the current fleet in next 5 years 6 http://www.aai.aero/traffic_news/traffic_news.jsp ; Airports Authority of India Traffic News, March 2013 7 AAI traffic Report, KPMG analysis 8 Report of Working Group on Civil Aviation Sector, National Transport Development Policy Committee (NTDPC), June 2012 49.4 30.0 14.1 0.9 4.3 Airlines Airports ATC General Aviation Total Figure 9 - Expected investment in Indian Aviation (billion USD), 2012-2017 Source: MoCA, AAI, KPMG Analysis Passenger traffic growth In FY 13, Indian aviation industry witnessed a contraction in passenger traffic, due to combination of general slowdown in the economy and high prices of air tickets. The total passenger traffic in FY 2013 was 159 million as compared to 162 million in FY 6 2012 . Despite the contraction in domestic air traffic, international traffic to and from 7 India has been strong, growing at a CAGR of 9 percent between FY 2010 to FY 2013 . According to MoCA, overall air traffic is expected to grow at an annual average growth rate of 10.1 percent in this decade. Domestic traffic is expected to grow at 11.4 percent and international traffic is expected to grow at 9.5 percent for the next ten 8 years . India Aviation 2014

Ministry of Civil Aviation Government of India 12 It has been observed that during economic upswing, airline traffic grows roughly around twice the rate of growth of GDP. The following figures display the trend of scheduled passengers and cargo during the last decade. The recession caused by the Global Financial Crisis in 2008 has led to a negative growth in both passenger as well as cargo traffic. 87.1 77.3 89.4 105.5 121.5 116.329.8 31.6 34.4 37.9 40.8 43.0 116.9 108.9 123.8 143.4 162.3 159.3 FY - 08 FY - 09 FY - 10 FY - 11 FY - 12 FY - 13 Domestic International TOTAL Figure 10 - Growth in passenger traffic (millions) handled at Indian airports, 2008-2013 Source: AAI traffic Report Cargo traffic growth The total cargo throughput for the FY 13 was 2.19 mmtpa as compared 2.3 mmtpa in FY 2012. While the domestic cargo traffic has increased by 7.2% CAGR from FY 2006 to FY 2013, international cargo traffic has grown by a CAGR of 6.2% over the same period. 0.57 0.55 0.69 0.85 0.81 0.78 1.15 1.15 1.27 1.50 1.47 1.41 1.72 1.70 1.96 2.35 2.28 2.19 FY - 08 FY - 09 FY - 10 FY - 11 FY - 12 FY - 13 Domestic International TOTAL Figure 11 -Growth in air cargo volume (million tons) at Indian airports, 2008-2013 Source: AAI traffic Report India Aviation 2014

13 The corresponding number of air traffic movements (ATMs) has been as dispayed in the following graph. Figure 12 - Growth in ATM Traffic (million), 2008-2013 Source: AAI traffic Report 1.06 1.04 1.05 1.09 1.24 1.17 0.25 0.27 0.28 0.30 0.31 0.31 1.31 1.31 1.33 1.39 1.55 1.48 FY - 08 FY - 09 FY - 10 FY - 11 FY - 12 FY - 13 Domestic International TOTAL Increasing share of low cost carriers in the Indian market The airline landscape in India has transformed radically in recent years. In 2003, there were just 4 carriers – Air India, Indian Airlines, Jet Airways and Air Sahara, all operating full service models. The private carriers in those days were limited to operating domestic routes only. In 2013, there are five airlines namely – Air India, Jet Airways (including Jet Lite), IndiGo, SpiceJet and GoAir. All carriers except GoAir fly on international routes. The most significant development in the Indian domestic market is the growing dominance of the low-cost carrier model, which in FY 2013 accounted for almost 70 percent of the domestic capacity. Some full service carriers plan to shift more seats to their low cost offerings in line with market trends. Figure 13- Market share of key domestic airlines (October-2013) Source: DGCA traffic statistics, 2013 Indigo, 30% Air India Domestic, 19%Jet Airways, 17% Jet Lite, 5% Spice Jet, 20% Go Air, 9% India Aviation 2014

Ministry of Civil Aviation Government of India 14 Thus, overall the sector outlook is promising. However, certain progressive policy decisions by the government are the need of the hour. These include: a) Enhancing Regional Connectivity b) Rationalization of ATF taxes c) Elimination of discriminatory taxation policy for domestic MRO players d) Segregation of ANS functions from AAI e) Abolition of the 5/20 Rule f) Human Resource Development India Aviation 2014

15 Unlocking the Indian Aviation Sector 44.1 Enhancing regional connectivity The growth of civil aviation in India has not led to a homogenous increase in air connectivity. Despite the doubling of the passenger traffic over the last five years, several Tier 2/3 cities are unconnected or underserved by airlines. With the existing economic centers reaching a saturation point, business activities are bound to move to newer destinations. Air connectivity to these new economic centers will not only provide a fillip to the local economy but also bring in incremental traffic to existing airports. Analysis of ATMs operated in 21 leading states of India vis-a-vis total state population and total passenger flown is stated in the figure below. It highlights the disparity in air connectivity especially in North, East and North East regions of India. Figure 14 - Distribution of population, passengers & ATMs across all Indian States, 2012-2013 Source: AAI , Population Census 2011 data increased at 2.4% to arrive at 2013 population 25 20 15 10 5 0 % of total population % of total passenger flown % of total ATMs M aharashtra Delhi Tam ilNaduKarnataka AndhraPradesh W estBengalKeralaGujarat GoaRajasthan UttarPradesh M adhyaPradesh Punjab Jam m u and Kashm irOrrisa Bihar Chhattisgarh TripuraM anipurAssamJharkhand India Aviation 2014

Ministry of Civil Aviation Government of India 16 Air connectivity Most places in North-East India are inaccessible due to inadequate road/rail facilities. The only viable means of transportation in many areas is by air. The flight frequency per week available to and from 9 airports in the North-Eastern Region by domestic scheduled carriers is shown in the figure below: Figure 15 - Air connectivity across North Eastern States, (2012-2013 vs 2013-2014) Source: DGCA, as per the winter schedule published in DGCA website, 2012-2013 and 2013-2014 (Considered flights operating to/from north eastern airports) From the above figure, this has been observed that the leading airports in the North East airports are experiencing nearly double the frequency in FY 2014 as compared to the previous year. Dimapur, Jorhat and Shillong are still underserved. Data reveals that Air India, Jet Airways and IndiGo are aggressively expanding their services to North East. DGCA has laid down separate guidelines to operate regional air transport service in India. Although many airlines received a no-objection certificate from the Government to operate regional services in the past few years, none of them have been able to take-off. Paramount, MDLR, and Air Mantra are some examples. Air taxi operator Ventura is struggling and Deccan Shuttles closed down within months of starting. The recently launched Air Costa connects southern cities like Hyderabad, Chennai, Bengaluru and Vijaywada to Ahmedabad and Jaipur. Some more regional carriers are on the way. MoCA has held interactions with industry stakeholders in the past regarding relaxation on some of the DGCA norms and the existing route dispersal guidelines (see box Regulations for regional airlines 800 700 600 500 400 300 200 100 0 2012-2013 2013-2014 Guwahati Agartala Imphal Dibrugarh Silchar Aizwal Dimapur Jorhat Shillong India Aviation 2014

17 below). The Route Dispersal Guidelines (RDG), introduced in 1994, make it mandatory for domestic scheduled carriers to deploy a certain proportion of their capacity to regional and remote airports. These guidelines are being revised. MoCA is also evaluating a seat-trading system which will allow domestic carriers to do code shares with regional airlines and use the credits thereof to meet their RDG obligations. Statutory DGCA requirements for Regional Air Transport Service in India Definition: Regional Airline is a Scheduled Air Transport service that operates primarily in a designated region (North, South, West, and East/Northeast). Regional airlines are not permitted to operate on Category I routes (between two metros). If operating in southern region, the regional airlines are allowed to operate between the three metros, namely Bangalore, Chennai, and Hyderabad. Since scheduled regional airlines do not fall under the purview of Route Dispersal Guidelines, they are not allowed to trade their Available Seat-Kilometer (ASKM) on Category II, IIA, and III routes with Scheduled Domestic Airlines. Minimum Requirements:- A Scheduled Regional Air Operator's permit for operating regional airlines can be granted only to: nA citizen of India nA company or a body corporate lProvided that it is registered and has its principal place of business within India lProvided that its chairman and at least two-thirds of its directors are citizens of India lProvided that its substantial ownership and effective control is vested in Indian nationals The applicant shall acquire a fleet of a minimum three aircraft/multiengine helicopters, either by outright purchase or through lease, within a period of two years. At the end of five years, the airline shall be required to operate with a minimum five aircraft. Investment required:- Paid-up capital for the applicant, confirmed with a certificate from the banker or chartered accountant, is as follows: India Aviation 2014

Ministry of Civil Aviation Government of India 18 a) Airlines operating with aircraft with takeoff mass equal to or exceeding 40,000 kg. nUp to 3 aircraft – Rs 30 crores nFor each additional aircraft, additional equity investment of Rs 10 crores will be required, subject to a maximum of Rs 50 crores after which no further equity enhancement is required. b) Airlines operating with aircraft with takeoff mass not exceeding 40,000 kg. nUp to 3 aircraft – Rs 12 crores nFor each additional aircraft paid-up capital of Rs 4 crores will be required subject to a maximum of Rs 20 crores, after which no further equity enhancement is required. Other requirements:- nThe aircrafts shall be of maximum certified take-off mass of more than 5,700 kg. Multi-engine helicopters shall be of maximum certified take-off mass of more than 3,180 kg. nThe operator shall have on his regular employment a sufficient number of flight crew and cabin crew, but not less than three sets of crew per aircraft. Foreign pilots are allowed, but foreign cabin crew members are not permitted. Route dispersal guidelines: an overview Formulated by DGCA in 1994, all routes were divided into three categories. Category II and II-A routes provide connectivity to remote areas. It is mandatory for domestic scheduled airlines to deploy a specified percentage of capacity deployed in category-I routes, on Category – II, IIA and III routes, as per the following: Categorization of routes Regions covered Capacity to be deployed I Metro cities None II North-Eastern region, At least 10% of the Jammu and Kashmir, capacity deployed on Andaman & Nicobar routes in Category - I and Lakshadweep IIA Jammu and Kashmir, At least 10% of the Andaman & Nicobar capacity deployed on and Lakshadweep routes in Category - II India Aviation 2014

19 Under the proposed new guidelines: n moved from Category-III. This means an operator has to fly additional flights on category-II and IIA routes as well. nSome of the Category-III airports (Pantnagar, Kangra, Dehradun, and Gaya etc) may be brought under a separate category of RDG to improve air connectivity and traffic growth there. Category-I routes may have 10 to 12 airports (including Pune, Goa etc.) Source: MoCA, DGCA Excess supply vs lower demand Regional airports suffer from underutilization of existing resources. These include the following. Underutilized parking bays Indian airports allocate parking stands to cater to all types of aircrafts. These airports provide customized bay to park Boeing, Airbus and ATR aircrafts according to their width and size. The chart below illustrates the underutilization of the parking stands for the airports in 2013. Figure 16 - Number of parking bays utilized and vacant at airports with watch hours of 24 hours IST, 2013 Source: MoCA 8 2 9 1 22 5 11 10 Ahmedabad Coimbatore Jaipur Trivandrum Utilized bays Vacant bays India Aviation 2014 III Other cities and routes those are not included capacity deployed on in Category - I and routes in Category - I. Category - II. At least 50% of the

Ministry of Civil Aviation Government of India 20 Runways The minimum runway length in most of the Indian regional or remote airports varies between 1400 meters to 1700 meters which are capable of handling 40-70 seater aircrafts. Around eight non-metro airports have a runway length of more than 2300 meters which is sufficient to handle narrow body aircrafts like A320s and B737s. Around ten non-metro airports have night landing facility. A 20-40 seater aircraft can operate at most of the existing regional airports. However, as can be seen from the figure below many of these airstrips are either non-operational or grossly underutilized. They require monetary, fiscal and policy support till they achieve self- sufficiency. Figure 17 - Non Operational Airports in India Source: AAI Maintenance, repair and overhaul services The unused apron and hangars at regional airports can be utilized in providing Maintenance, Repair and Overhaul (MRO) services to airlines. The Airworks facility at Hosur Airport is one such example. Indian carriers today send their entire fleet out of India at a high cost. Supported with the favourable fiscal policies, the same MRO facilities can be set up in India over a 5-8 year period. It would be win-win for airlines, regional airports and the local economy. This requires deep foresight on part of the state governments. Fleet analysis Indian domestic scheduled carriers operate ATR, Bombardier and Embraer aircrafts on Analysis of fleet and airport infrastructure in regional and remote routes India Aviation 2014

21 regional routes. Till date, there are less than 50 small and medium sized aircrafts in India with seating capacity between 40-100 seats. The major players flying regional routes are Jet Airways with ATR 72-500 and Air India with their ATR 42-300 aircrafts. SpiceJet introduced Bombardier Q-400 aircrafts for flying regional routes. Indigo and GoAir operate their A320s on regional routes. Air India Regional with its four Bombardier CRJ700s has been the country's only operator of regional jets so far. Paramount Airways had used jets earlier on regional routes but could not continue. Air Costa started serving regional routes in October 2013 with Embraer jets. Analyzing the opportunity at airports Due to the congested nature of and high airport charges in metro airports, there is an opportunity to consider non-metro airports as hubs for new or existing carriers. For instance the new airline Air Costa is headquartered in Vijaywada and plans to set up an MRO facility there in future. Operating regional routes attract various cost advantages on operational, regulatory and infrastructure front. Regional aircrafts, in general, have a low break-even seat factor and have a shorter turnaround time due to their smaller size. Indian carriers with aircraft weight below 40 MT are exempt from paying navigation and airport charges. No landing charges are applicable for aircraft less than 80 seats. The landing and parking charges at Category II and Category II airports (including non-defense airports in North-East Region, Jammu & Kashmir, Andaman & Nicobar Islands and Lakshadweep) is reduced by 25 per cent of the current rate for domestic scheduled airlines. For an airline operating between 2200 and 0600 hrs, the night parking charges are 50 percent of the existing parking charges at all airports except Chennai and Kolkata. As the air travel demand in remote and regional areas is currently low, these markets may require limited frequencies and small sized aircrafts. Deploying larger aircrafts on these routes may result in losses. One option is to maintain a fleet of two aircraft sizes and alter the fleet mix based on the market response. The downside is the additional cost of maintaining separate crews, spares and maintenance infrastructure. In the Indian scenario, on an average, an aircraft (with seating capacity more than 70) operating around 11-12 hours day is considered to be well utilized. The operating hours may reduce while operating a small type of aircraft on the regional routes due to factors such as airport infrastructure, navigational aids, night flying facilities, weather patterns and runway operational hours, etc. Since regional carriers operate on a different business model, it becomes imperative to Cost advantages of regional routes Choice of aircraft for regional air connectivity is the key Slot allocation India Aviation 2014

Ministry of Civil Aviation Government of India 22 study the slot allocation parameters in advance. There have been extensive competitions between Indian carriers to get their preferred time slot that may affect regional carriers' ability to add frequencies, especially to metro airports. Airports prefer larger aircrafts since the airport tariffs are linked to the size of the aircrafts. Prior to 2007, the slots were allocated according to the International Air Transport Association (IATA) scheduling guidelines. However, certain amendments in the policy have been made and are likely to be implemented soon. The new policy gives preference for slot allocation to airlines: a) With better On-Time performance record b) Consistency in utilization of slots c) Clean payment record of an airline with no dues certificate d) Priority to airline with new flights to connect new stations e) Priority to airline flying within restricted “watch hour” MoCA should consider reserving some slots during peak hours for regional carriers under the category “Priority to airline with new flights to connect new stations”. Owing to the growing regional sector demand, India is realizing the need to develop an indigenous Regional Transport Aircraft (RTA), a la Brazil and China. RTA-70 aircraft is an initiative by Hindustan Aeronautics Limited (HAL) and National Aerospace Laboratories (NAL). Care should be taken that the best talents of India's private sector are leveraged in a spirit of PPP, a la the successful space program of ISRO. Care should also be taken that no wheels are reinvented and we utilize key aircraft parts and technologies that have already been perfected are available off-the-shelf at a reasonable price. Development of an indigenous low cost RTA would certainly provide a great fillip to regional aviation in India. There are various initiatives taken by MoCA and AAI for the development of airports in remote areas. These include: a) Development of 15 low cost airports has been approved by MoCA. b) AAI has carried out upgradation of 31 non-operational airports in the last four years. c) Operations and Maintenance of six brown-field airports has been planned to be handed over to private players on a PPP basis. Of the six brown-field airports, four of them are non-metro airports. d) Another 14 airports of AAI are being planned to be handed over to private operators. Developing own regional aircraft Airport development initiatives India Aviation 2014

23 State government initiatives Regional connectivity in India - way forward Various state governments are realizing the importance of aviation and are taking proactive measures to provide fiscal, monetary and policy support. Some of the reform steps undertaken are as follows: a) West Bengal: State government has announced 0% VAT on ATF at Bagdogra and Durgapur airports and 15% VAT on additional flights starting from Kolkata Airport. West Bengal is the only state to have 0% VAT on ATF at regional airports and 15% VAT on a metro airport. Other States are expected to follow suit. b) Andhra Pradesh, Gujarat and Maharashtra: They have set up a dedicated aviation agency with the objective of promoting intra-state air connectivity in their respective States. c) Maharashtra: With its dedicated agency Maharashtra Air Development Corporation (MADC), Maharashtra is in the process of developing five Greenfield airports in the State. d) Gujarat: Formed Aviation Turbine Fuel Trading Company to cut down import parity, marketing expenses, creating a price advantage for aviation activities in Gujarat. e) Karnataka: Drafted a Civil Aviation Plan to develop the low cost airstrips and Helipads in the State. f) Odisha and Jharkhand: Reduced VAT on ATF to 5% and 4% respectively. g) Madhya Pradesh: Entered into a Seat Underwriting arrangement with Non- scheduled operators to enhance the viability of their operations. Reduced VAT on ATF to 5%. h) Chhattisgarh: Offered exemption of landing and parking charges on the conditional operations of flights as per the published schedule. Reduced VAT on ATF to 4%. Many Indian states have started taking pro-active measures to promote air connectivity in their states. Their initiatives are largely in the field of development of airports, reduction in VAT on ATF, promotion of flying schools and provision of subsidies to airlines. States have gradually realized that reduction in airlines' operation costs is the only way to incentivize the airlines to serve their states. The actions required to enhance regional connectivity are: a) State governments have to play a vital role: State governments need to take the initiative in the field of development of low cost airports, provision of multi-modal connectivity to the airport and promotion of flying schools, etc. Suggested measures to be undertaken by State Governments to facilitate promotion of regional air connectivity in their states:- India Aviation 2014

Ministry of Civil Aviation Government of India 24 nFormation of an independent department for civil aviation nZero rating of VAT on ATF nUnderwriting seats on new routes nProvide security and fire services by local police and fire stations subject to necessary approvals from Bureau of Civil Aviation Security (BCAS) and DGCA. nMake provisions of land and extension of roads & utilities (power and water connections) for development of low-cost airports. nWaive off stamp duty, property tax, electricity duty for a 10 year period. b) Reduction of sales tax on ATF: Since Airline Turbine Fuel (ATF) accounts for 40- 50% of an airline operating cost, reduction of sales tax on ATF is considered to be one of the most critical needs of the aviation industry. As discussed earlier, many states have already done this. Larger states like Delhi, Maharashtra, Andhra Pradesh, Karnataka and Tamil Nadu need to do this on priority, else the ATF uplift will shift to other states anyways. c) Helipad development throughout the country: Helicopter operations are a cost effective mode of providing air connectivity. Efforts should be made to develop heliports in every district of the country. Heliports can come in handy during natural or man-made disasters. This may be done through the PPP route in collaboration with other ministries like home, defence, industry and tourism. d) Development of low cost airports: The next generation of aviation growth in India is expected to be triggered by regional airports. At present, there are around 450 used/ un-used/abandoned airports and airstrips spread all over the country. About 225 of them are owned by State Governments or by private operators. Efforts must be undertaken to activate these airports through PPP, subject to their long term financial viability. e) Relaxation on regulations to operate regional air services: As per Directorate General of Civil Aviation (DGCA) guidelines, Indian carriers looking to commence regional air services have to undertake operations in one of the designated regions — north, south, west, or east/northeast. They are not allowed to operate between two metro cities, except in the southern region. This policy needs to be liberalized. f) Revising the security service requirement: The regulations laid down by MoCA and Bureau of Civil Aviation Security (BCAS) for the 24 hours of airport security service for regional airports should be reviewed in order to reduce the operating expenses of smaller airports. Physical deployment of security guards can be replaced with CCTV based smart security. g) Essential Air Services Fund (EASF): The proposed EASF by MoCA needs to be implemented which can boost tourism and promote tier-2 and tier-3 air connectivity. Greater private sector investment in airports should be encouraged instead of rerouting heavy fees collected from privately operated airports for other government operated airports. India Aviation 2014

25 h) Code sharing concept to be introduced: Concept of code sharing should be introduced between regional/ non-scheduled operators and scheduled airlines that will allow the airlines to leverage each-other's network and marketing strengths. This also prevents wastage of costly ATF when large aircrafts of scheduled airlines operate on regional routes with low seat factors, just in order to meet their obligations under RDG. i) Slot allocation: During slot allocation, slots should be reserved for small aircrafts flying from regional destinations. j) Route dispersal guidelines to be restructured: Regional carriers are not permitted to operate on category-I routes. Further, these carriers are not able to operate during night time at regional airports that lack night landing facilities. This policy needs to be reviewed in order to ensure higher aircraft utilization per day by regional airlines. In most of the leading aviation markets, air connectivity is promoted by the Government. Some of the best practices followed are as follows: a) Supporting airlines by sharing risks to add a new destination to their flight routes. nBy providing incentives to the airline for adding new destinations to their routes. These payments are made by the beneficiary airport operator or the government under a Route Development Fund (RDF) mechanism nPayment to carriers for marketing the destination (e.g. Singapore Airlines promoting Australia as a tourism destination). nOffering discounts on airport charges (Indian airports do this). nBy sharing demand related uncertainties and providing guarantee for a certain number of seats per flight. b) Providing regulatory mechanism to boost regional connectivity nProviding restrictions on number of operators on particular routes nMaking it mandatory for airline operators to provide capacity on low traffic routes and providing them rights to operate on trunk routes in exchange (India does this). nPromoting regional air connectivity through a combination of regulated and deregulated routes as done in Western Australia. International best practices to promote regional and remote area connectivity India Aviation 2014

Ministry of Civil Aviation Government of India 26 Essential Air Services Fund (EASF) Mechanism Ministry of Civil Aviation in India has proposed an Essential Air Services Fund (EASF) for the development of low cost airports and to promote regional air connectivity in the country. This funding scheme can be seen as a best practice initiative taken by the Indian aviation ministry after realizing its success globally. This could be on similar lines as the Airport Improvement Program (AIP) in USA, or the India Infrastructure Project Development Fund (IIPDF) used to support other infrastructure sectors in India. In India, EASF will be created with the help of Central & State Governments and the airport operators. The fund will be collected from passengers flying in Category- I & III routes as defined in Route Dispersal Guidelines (RDG). The funds so collected will be deployed on Category II and III routes which are commercially unviable for air service operations. This might continue for a period of 3-5 years until these routes reach a level of maturity. Further, the EASF funding scheme will be used to boost tourism by utilizing the funds for promotion of air operations at destinations with high tourism potential. 4.2 Rationalizing taxes It is a well known fact that the Indian aviation industry is overtaxed and this is being reflected in the industry's lack of competitiveness on the global level. The proactive steps being taken by several progressive state governments on the VAT front have been highlighted earlier. The 12.36% Service Tax on air tickets and services that airlines purchase such as landing and air navigation, contravenes global norms and handicaps the Indian industry. Domestic fuel (Aviation Turbine Fuel) attracts 8.24% excise duty and in addition to this state taxes may go up to 30%. Globally, fuel accounts for around 34% of an airline's cost. In India, the additional taxes and duties bring up this percentage around 45%. Figure 18 - Operating expenses of the listed private Indian carriers, 2013 Source: Annual reports of the private listed airlines, KPMG Analysis Note: 'Other operating costs' include Aircraft insurance, in-flight amenities, sales and distribution costs, IT costs Aircraft Fuel, 42% Aircraft Lease Rentals, 12% Airport Charges, 9% Maintenance, 8% Staff Costs, 12% Other Operating Costs, 17% India Aviation 2014

27 It is important for India to acknowledge the devastating impact of high taxes. Most domestic airlines have become loss making ventures and the high cost of connectivity would impose a penalty in the form of lower growth of economy and employment. Some of the avoidable taxes/charges that need immediate attention are as follows; a) Service tax on tickets as well as landing and navigation charges. b) Taxes on Aviation Turbine Fuel - an excise duty of 8.2% (The average fuel cost is around 45% for Indian carriers which is well above the global average of 33%). c) Domestic/State charges (20-30%). d) Taxes on MRO Long term benefits - Increase in base- load of aircraft and investments in allied businesses will have long term income and employment benefits. Increase in fuel uptake at an airport due to lower cost Air traffic increase due to lower air ticket prices Socio - economic benefits - Increased employment and revenues More incentive for more airlines to enter the market, thus making the industry more competitive Benefits of Tax/Duty Reduction Figure 19 - Benefits of Tax/Duty reduction Source: KPMG Analysis 4.3 Redesigning the regulatory landscape In 2009, Airport Economic Regulatory Authority (AERA) was set up to determine the tariff of aeronautical services at major airports, passenger fees to be levied and monitor service standards. As per the AERA Act 2008, major airports have been defined as the airports which have or are designated to have an annual passenger throughput of more than one and a half million. Currently, 15 major airports are under the ambit of the AERA. However, thee are a few fundamental gaps in the functioning of the AERA. While it has the authority to fix the tariff for major airports, its charter does not mandate it to create an enabling environment for investment in airport infrastructure. Also the non- India Aviation 2014

Ministry of Civil Aviation Government of India 28 major airports which are not under the purview of AERA, do not currently have any policy for economic regulation. Hence, the Government has to come up with a philosophy of tariff regulation at these airports, in order to balance the interest of passengers and investors. Regulatory Till Approaches used globally for tariff fixation There are a number of approaches for fair economic regulation that can serve as models for the Indian aviation industry; Single Till Approach The Single-Till approach considers the entire airport as one system. The aeronautical tariffs under this approach are determined in a way to ensure that the sum of aeronautical and non-aeronautical revenues provides a pre-determined rate of return to the airport operator, over and above his operating costs, depreciation and taxes. Effectively, single till uses profits/ losses from non-aeronautical activities at an airport to offset the aeronautical cost base for determining airport charges. Under this approach, the allocation of costs between aeronautical and non-aeronautical services is less significant, given that the allowable revenue figure is based on total costs. Dual Till Approach The Dual-Till approach considers the entire airport as two independent systems - the aeronautical and non-aeronautical. The aeronautical tariffs under this approach are determined in a way to ensure that the aeronautical revenues provide a pre-determined rate of return to the airport operator, over and above his aeronautical operating costs, depreciation and taxes. The airport operator's profit or loss in the non-aeronautical business has no bearing on the aeronautical tariffs. Hybrid-Till Approach The Hybrid-Till is a combination of Single-Till and Dual-Till approaches. It is developed on the premise that a part of the non-aeronautical revenues are contributed by passengers and hence a part of the profits thereof need to be ploughed back into the aeronautical till. The aeronautical tariffs under this approach are determined in a way to ensure that the aeronautical revenues provides a pre-determined rate of return to the airport operator, over and above his operating costs, depreciation and taxes, cross-subsidized by a certain fraction of the non-aeronautical revenues. In case of Delhi and Mumbai airports, 30% of the non-aeronautical revenues are used to subsidize the aeronautical expenses. India Aviation 2014

29 The way forward for the Indian regulatory landscape There are different perspectives on economic regulation of airports in India. This is mainly due to a wide diversity in the airports. While uniformity of policy is necessary to create a level playing field, it may be noted that each type of airport has unique challenges associated with it. It is therefore necessary to develop a regulatory approach that addresses these unique challenges while ensuring financial viability of the airport and public interest. The regulatory philosophy should encourage the world's best airport developers to invest in India's airports. Regulatory uncertainties and excessive focus on tariff cutting discourages investors. Excessive profit booking by investors leads to adverse reactions from users and society at large. It may also jeopardize India's aspiration to become a leading aviation hub. While airports can be treated as monopoly assets from a geographical perspective, global experience shows that airports cannot charge tariff to the passenger at their will. The profitability of airports comes from traffic volumes and the origin-destination traffic does not suffice. Airports compete with each other to become a preferred hub for transfer and transit passengers. This gives them additional landing and parking charges, passenger fees and revenues from retail sales. Thus, while proposing the regulatory approach for airports, the impact of market forces cannot be ignored. If airports charge excessively and create an adverse impact on the passenger throughput, airlines may reduce or stop their flights to the said airport, putting the significant investments to risk. Companies may cut down on corporate travel and use alternative approaches like video conferences, etc. Airport owners are cognizant of this threat. Further, to reduce the impact of the aeronautical charges, the airport operator should undertake all possible mitigating measures, like lean capital expenditure, lower operating costs, exploitation of the non-aeronautical revenue streams and enhanced benefits to the airlines and air passengers in order to achieve higher aeronautical revenue. According to the ICAO, the regulatory approach for airports should derive from the specific objectives and situation of each nation. Therefore, India's policy framework for airports should be aligned to the country's vision of becoming the third largest aviation market by 2020. There is need for a stable, transparent, predictable and investor-friendly regulatory regime with a mechanism for time-bound resolution of issues to create a sense of certainty in the sector. India needs to consider tariff determination on case to case basis. Application of single till system at an airport may hurt its financial viability and may discourage investments in airport infrastructure. On the other hand, applying the dual till approach to the Airports may not be fair to passengers who do contribute to non-aeronautical revenues accruing from retail, advertising, car parking, etc. The hybrid till approach, therefore, appears to be the best suited for India. The extent India Aviation 2014

Ministry of Civil Aviation Government of India 30 of cross subsidization (e.g. 30% in case of Delhi and Mumbai Airports) of aeronautical expenses by non-aeronautical revenue can be determined through discussions between stakeholders. India's current MRO market size is estimated to be around USD 700 million. By 2020, the total Indian fleet would double in number, making it critical to have a strong domestic MRO industry. As per Boeing, the market is expected to grow at 7% CAGR for the next 8 years to reach USD 1.5 billion by 2020. The figure below shows the break-up of the MRO market in India. Engine overhaul is the largest segment of the MRO market. 4.4 Supporting the MRO industry Figure 20 - MRO market Size in India (USD billion), 2011-2020 Source: MRO monitor, Ascend Database $0.10 $0.20 $0.30 $0.30 $0.40 $0.60 $0.10 $0.20 $0.30 $0.10 $0.10 $0.30 2011 2015 2020 Airframe Engine Components Line Maintenance The Indian MRO industry is facing significant challenges which are slowing down the growth of this industry. Some of these factors include un-friendly taxation structure, cumbersome procedures for import of components and movement of foreign experts, and inadequate infrastructure. According to industry sources, merely 5-10% of the MRO work for domestic scheduled carriers is carried out in India and most of the maintenance activity work is outsourced to third-party service providers outside the country. This marks a lack of competitiveness in the Indian MRO sector. It is critical that both the taxation and policy related bottlenecks are thoroughly examined and addressed to put the Indian MRO industry on a high growth trajectory. One main issue that needs to be tackled on an urgent basis are the unnecessary taxes on the industry which drive down the domestic MRO industry's competitiveness and reduce investors' interest in it. India Aviation 2014

31 Rationalize Value Added Tax ( and Service Tax on MRO MRO is critical to the growth of the aviation sector in India. It generates employment, revenue and government taxes. A close collaboration between the government, airlines, airports and the MRO industry would be crucial for addressing the high taxation in the form of VAT and Service Tax along with other policy level issues. The following chart addresses some of these key issues surrounding high taxation of the MRO industry in India. VAT) Figure 21 - Key issues surrounding high taxation of the MRO industry in India Source: KPMG Analysis The actions required to make India a global MRO hub are as follows: a) Elimination of discriminatory taxation policy for domestic MRO players: Due to discriminatory tax policy, Indian MRO players have to suffer an additional tax burden of nearly 40% over foreign MROs. These are in terms of import duties, VAT and service tax. This has led to a strange situation. India carriers prefer to fly their aircrafts and crew at a high cost to other MRO locations like Dubai, Singapore, Malaysia, Sri Lanka etc, since it still works out to be more cost-effective than doing the repairs nZero rating of VAT would enable development of MRO infrastructure in India. The government would earn significantly larger revenues from the multiplier effect of MROs, generation of local employment spend and growth of ancillaries. nThis would ensure uniformity of a low VAT rate across the country. If the size of the MRO pie is made ten times larger, a smaller percentage of VAT would yield much higher revenue for the State than by imposing a higher tax rate on a miniscule pie. nCurrently, MRO services qualify as ‘Works Contract Service’, which attracts Service tax @12.36% on 70% of the service portion of the work. The present rate of abatement should be increased from 30% to 95% to reduce the Service tax incidence. nIn case MRO repairs are undertaken outside India, Service tax is not charged which makes Indian MRO industry uncompetitive with respect to other neighboring countries Apply zero rate of VAT on MROs Alternatively, if zero rate of VAT on MRO is not possible, aircraft parts and consumables can be brought under declared goods category If zero rating of service tax is not possible, the abatement should be increased to 95% Provide zero rated Service Tax structure to the Indian MRO sector India Aviation 2014

Ministry of Civil Aviation Government of India 32 in India. There is an urgent need for rationalization of this anomalous taxation policy that has only weakened India's competitiveness as an aviation hub. b) Abolishing of import duties for spare parts: Due to high import duties, (not applicable to foreign MROs) local MROs are not able to maintain an inventory of key spare parts. This, at times, leads to Indian aircrafts being grounded for longer periods. Abolition or reduction of import duties for spare parts will cut short the timelines for servicing the aircrafts. c) Treatment as import substitution: Given that the aerospace and MRO industry in India is in its infancy, and that there is a heavy dependence of Indian carriers on MROs in foreign countries, the domestic MRO industry should be supported as a means of import substitution. For instance, manufacturing of power sector equipment for domestic industry is treated as deemed exports and receives significant tax benefits. d) Impetus on MRO joint ventures: The Government should incentivize airlines to consider setting up their dedicated MRO hubs in India through three-way joint ventures with MRO service providers and airport operators. This assures sustained business for the venture as well as cost advantage for the airlines. e) Streamlining of licensing and security clearance procedures: According to industry players, receiving approvals for an MRO establishment is extremely challenging. Currently the license is given out as a ground handler instead of a MRO player which suggests that the authorities are not distinguishing between these two very distinct services. In case of urgent repairs of a grounded aircraft, requiring foreign specialists to be flown in at short notice, the amount of

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