CEO confident of SriLankan Airlines’ route to profitability
Monday, 30 December 2013 01:18
Operating margins being improved though still negative
Explains major reasons for losses in recent past but urges stakeholders to look beyond mere profit factoring in catalytic role in tourism development and GDP contribution
5-year revival plan on course with key efficiency and revenue improvements; Business class passenger numbers up 48%
$ 215 m of $ 500 m capital infusion received; 10-year fuel-efficient modern re-fleeting plan being rolled out
Formal entry to prestigious and crucial oneworld alliance slated for early 2014
By Nisthar Cassim
SriLankan Airlines CEO Kapila Chandrasena is confident and optimistic of the national carrier’s route to profitability in the medium term, having put in place a host of key measures – including fuel efficient re-fleeting as well as revenue optimisation.
Seeds for a turnaround were placed two years ago as part of a five-year revival plan. With three more years to go, Chandrasena expressed confidence that SriLankan Airlines can indeed fly profitably by the financial year 20017/18.
"Introduction of new, fuel efficient, wide-body fleet with delivery starting from Oct. 2014nSix Airbus A330-300 from 2014 (6-8% fuel cost saving)nFour Airbus A350-900 from 2017 (12-15% fuel cost saving)"
“All indicators confirm we are on track though challenges remain,” Chandrasena told the Daily FT in an interview.
A significant achievement by the airline is that its operating margin has improved to a negative 24% in 2012/13, from a negative 30% in 2011/12. This is a six percentage basis point saving or a 20% improvement though five years ago the operating margin was around negative 20% and lowest 13% in 2010/11.
The target is to reduce it to a negative 22% this financial year (2013/14) and to 18% next year and more sharply to 8% and 2% by 2015/16 and 2016/17. A positive 1% landmark is being eyed by 2017/18.
To put the loss and the improvement in context, in 2011/12, the operating loss was $ 213 million whilst in 2012/13 it has been reduced to $ 208 million. The aim is to breakeven on airline operations by 2016/17 and post a modest profit by 2017/18.
In FY13, revenue grew by 28.75% to Rs. 119.5 billion whilst expenditure grew by 28.8% to Rs. 144 billion. Net loss widened to Rs. 21.7 billion from Rs. 19.77 billion in FY12.
High fuel costs, less than satisfactory yields due to the recession in Europe, and competition from other airlines were major causes for the widening of the loss. Significant investments in acquiring additional capacity and enhancement of supporting services including the cabin upgrade program was another, though benefits of the latter will be derived over the coming years.
Future improvement is likely to be faster with efficiencies gained from the incoming brand new Airbus fleet and continuous improvement through revenue increases. Chandrasena said a lower-than-expected fuel price can indeed accelerate the route to profitability. In its forecasts, however, SriLankan has been more realistic in its pricing of fuel and an actual lower figure can be a bonus.
There is a conscious effort to fly smarter by SriLankan Airlines in the medium term. This is manifested by the fact that it will not carry more passengers (estimates are 4.88 million passengers by 2017/18 as against 4.26 million passengers in the current year) and the number of destinations will remain at 22 as opposed to 21 at present.
"Aviation sector is worth $ 539 billion or 3.5% of world GDP relies on aviation
If aviation were a country, it would be the 19th largest in the world
Return on capital invested is a low 5-6 and below pharmaceuticals which is 25% despite its contribution to global GDP being $ 445 billion and IT services which is 20%
Airlines ROIC is a very low 4% as opposed to 44% for travel agents, 20% for GDS, 15% for freight forwarders and 6% for airports
Air transport sector’s multiplier in Asia Pacific is 13 times"
However, Chandrasena is emphatic that the nation needs to look beyond mere profitability aspect when analysing the performance of the national carrier. “The catalyst role played by SriLankan Airlines ever since the end of the war is far greater,” he says, adding that the Lankan aviation industry has contributed 3.8% to GDP whilst the national carrier’s input was 2.2%. (See separate box story)
Global aviation dynamics
According to him, globally aviation remains a unique industry with 24,000 commercial aircraft operating over 80,000 flights daily offering 10 million seats. This makes air transportation the mode with the highest load factor in the world. Aviation is also a major contributor to the global economy, with an estimated 3.5% share or $ 539 billion of global GDP. It is said that if the aviation industry were a country, it would be the 19th largest in the world. Aviation, however, is below food and beverage, which commands a $ 1.1 trillion share of world GDP, but above automotive ($ 484 billion) or pharmaceuticals ($ 445 billion).
Air transport’s contribution has a high (a high 13 times in Asia Pacific) multiplier effect on any economy. It is a globally-established fact that aviation plays a catalytic and direct impact on tourism and related industries. Its induced role is spending by direct and indirect suppliers and employees within the industry. Indirect contribution is output of direct and indirect suppliers in addition to the direct output of aviation sector companies.
Despite this burgeoning contribution, unfortunately aviation industry’s returns are very thin, with global average being just above 5% as opposed to 25% by the relatively smaller pharmaceuticals industry or 20% in IT services. Within the aviation sector, airline returns are the lowest, with Return On Invested Capital (ROIC) being 4%. In this league freight forwarders enjoy a 15% return, global distribution systems 20% and travel agents take the cake with 44% return. Airports fortunes are a 6% return.
The low 4% return is due to intense competition, high risk of fuel cost and most contributions not being directly measurable such as tourist arrivals, facilitation of trade and contribution to the economy.
Profitability also remains elusive for airlines. For example, in 2012, worldwide airline revenues were $ 228.26 per passenger whilst costs were $ 225.70 per passenger, leaving a meagre $ 2.56 per passenger net profit. Of the revenues, airfare’s share was $ 181.91 per passenger. The real price of air transport has declined over the years as well whilst real unit cost which is higher has also waned. Profits created by efficiencies have been passed on to passengers by way of reduced air fares. In relation to cost growth, airlines haven’t raised fares.
These dynamics, both positive and negative, give the air transport industry a status that creates tremendous value for its users, passengers and shippers and others in the value chain, but destroys value for equity investors of airlines.
“SriLankan Airlines and its operating environment aren’t different either,” points out Chandrasena, who took the reins as CEO in August 2011. With the end of the conflict in May 2009, expectations of the national carrier rose in tandem with post-war momentum.
Rising fuel cost clips
“With the dawn of peace, we expanded the airline in order to stimulate tourist arrivals into Sri Lanka – since this was our responsibility as the national carrier,” recalls Chandrasena, adding that route frequencies and some destinations were maintained even amidst a difficult operating environment to support the rebuilding of tourism.
He noted that the airline’s operating costs continued to rise, with the price of jet fuel being the biggest thorn. According to the CEO, jet fuel accounts for 47% of SriLankan’s operating expenditure and globally jet fuel prices have risen by 261% during the past decade.
Jet fuel is locally expensive given the taxes and other levies applied. “We procure 65% of the jet fuel locally at high cost whereas our operations transcend markets where fuel is cheaper and compete with airlines enjoying same,” explains Chandrasena.
Fuel, which used to cost US Cents 301 per gallon in 2008/9, had grown to US Cents 339 per gallon by 2011/12. The airline has made its financials forecast with fuel at US Cents 337 per gallon.
In the financial year ended on 31 March 2013, SriLanka’s aircraft fuel cost was Rs. 63.75 billion, up by Rs. 15 billion or 31% from the previous year.
The 5% Port and Airport Levy slapped on jet fuel is to be removed from 2014 onwards following representations made. This is will have a beneficial impact on SriLankan Airline’s cost structure, the CEO said.
“We are endeavouring to hold on to our costs, if not reduce and maximise revenue streams as well as optimise revenue,” he said. Around 60% of SriLankan Airlines’ revenue comes from passenger business and the airline is focusing on increasing the yield via revenue optimisation. One measure is last minute post-sale seat upgrades. “Revenue to loss differential is 25% and this is what we are focused on narrowing.”
Research has revealed that seat comfort, in-flight entertainment and connectivity are the highest priority wants of passengers. “Our planned re-fleeting (as opposed to an overhauling) will improve our attractiveness on those needs. The new fleet can help drive yields better, whilst growing demand for our Business class is a major plus point. We will also rely more on real-time market information and analysis tools to improve revenue optimisation,” Chandrasena said.
“Our pilots are also using iPads as opposed to bulky, weighty printed manuals. This helps improve productivity and achieve weight and fuel savings,” the SriLankan CEO added.
He also said the SriLankan management was not being wasteful but remains committed to improve efficiency. “Most of our costs, such as fuel, aircraft leases, maintenance, landing charges, etc., are fixed. Our wage cost is around 10%, which is not very high, and our head count is comparable to full service airlines. One needs to compare apples with apples,” Chandrasena said, adding that financing cost for SriLankan is higher in comparison to some of the regional and Middle Eastern airlines.
The CEO noted that SriLankan Airlines’ ageing fleet and the resultant uncompetitive product offering saw the national carrier’s revenue lagging behind though costs (especially fuel) rose sharply. Despite this handicap, Chandrasena is of the view that SriLankan Airline’s current unit cost is competitive compared to some of the carriers in the region including those State-owned.
He also said that the new fleet coming on stream from 2014 will help in reducing the fuel cost. For example, the AS330-300s have a fuel efficiency of 5 to 6% whilst with A350s it is around 12-15%.
"With the dawn of peace, we expanded the airline – route frequencies and some destinations were maintained even amidst a difficult operating environment in order to stimulate tourist arrivals into Sri Lanka and support the rebuilding of tourism since this was our responsibility as the national carrierJet fuel accounts for 47% of SriLankan’s operating expenditure and globally jet fuel prices have risen by 261% during the past decade. We procure 65% of the jet fuel locally at high cost, whereas our operations transcend markets where fuel is cheaper and compete with airlines enjoying same The investment of US$ 500 million from the Government will see not only the airline growing, but also increasing its contribution to the economy whilst continuing to play an active role in facilitating the tourism and trade growth of Sri LankaAll indicators confirm we are on track though challenges remain… I am upbeat on the future outlook of SriLankan Airlines as well as post-war revival in tourism, barring any unforeseen major global calamity, which naturally affects global aviation and tourism. We are making the right investments and we are on the right direction, which will benefit all stakeholders"
First-ever capital infusion
in two decades
It is from this position of competitiveness and to increase unit revenue that SriLankan Airlines took a conscious decision to explore a major investment drive.
The fact that the airline hadn’t had a major investment since 1993 is appalling. Chandrasena noted that there was no capital infusion since 1993 whilst business was sustained through sale and lease-back of assets and one-off gains.
He said it was President Mahinda Rajapaksa’s Government, based on a five-year business plan presented by the SriLankan Airlines Board, which made an explicit commitment of capitalisation.
“The investment of US$ 500 million from the Government will not only see the airline growing, but also increasing its contribution to the economy whilst continuing to play an active role in facilitating the tourism and trade growth of Sri Lanka,” Chandrasena said. In 2011, the Government in principle approved a $ 500 million investment over five years starting from 2012. So far $ 225 million has been contributed.
Among priority focus under the business plan is improvement in earnings before interest, taxes, depreciation, amortisation and rent or widely known in financial circles as EBITDAR. This is an important metric to measure the airline’s performance as the capital structure and the way they finance aircraft differs from airline to airline. This has been reduced to the lower end of a double digit figure though negative from a mid level in 2011/12. Another facet is improving the revenue management function by introducing new systems, fare-class realignment and adopting industry best practices. These measures helped to boost passenger yield by 4% from 2011/12 to 2012/13.
Investing in better data and tools to understand market developments and to forecast accurately was another measure, along with the launch of new value-added revenue streams, such as Upgrade, to increase ancillary revenue.
The introduction of the latest Amadeus Altéa Passenger Service System (APSS) was a key development and SriLankan Airlines became the first airline in the region to adopt this industry-leading technology platform.
Improvements in FY2013 and
major re-fleeting plan
Passenger load factor in FY13 was 81.34%, up from 79% in the previous year. Passenger capacity rose to 15.94 million Available Seat Kilometres (ASK) from 14.25 million ASK whilst revenue passenger kilometres (RPK) grew to 12.97 million from 11.27 million in FY11.
The airline has also focused on phased introduction of an upgraded Business Class product, to increase the Business Class load factor. This saw Business Class passenger numbers increase by 48% from 2011/12 to 2012/13.
In June 2013, SriLankan Airlines signed a Memorandum of Understanding (MoU) for six A330-300s and four A350-900s. The airline, an all Airbus operator, has chosen the highly-reliable A330 and the latest generation A350 XWB aircraft as part of its long-haul fleet renewal. Three more A350s are to be sourced from the leasing market.
Delivery of the first A330-300s will be from October 2014 onwards and the plan is to phase out the 18-year-old and fuel-guzzling A340s.
Each of the new aircraft on order offers significant cost improvement from the current fleet in both trip and seat costs. Chandrasena said the new aircraft would put SriLankan’s wide body fleet on a highly-competitive platform. “Enhancing the passenger experience by offering a state-of-the-art on-board product and using latest technology to offer a seamless end-to-end journey is also planned,” he added.
“I remain upbeat on the future outlook of SriLankan Airlines as well as post-war revival in tourism, barring any unforeseen major global calamity, which naturally affects global aviation and tourism. We are making the right investments and we are on the right direction, which will benefit all stakeholders,” SriLankan CEO Chandrasena said.
Board of Directors of SriLankan Airlines comprises Nishantha Wickremasinghe (Chairman), Kapila Chandrasena (Director/CEO), Susantha Ratnayake, Sanath Ukwatte, Nihal Jayamanne, PC, Shameendra Rajapaksa, Manilal Fernando and Lakshmi Kumari Sangakkara.