The 'Mid-life' crisis

The growth of Indian software industry is phenomenal. Companies are growing at an alarming rate of more than 30% an year on average for the past ten years. The industry has provided big job opportunities as every big company on average hires around 20,000 net employees per Annam. It is not just the growth rate that looks enviable, but the profit margin is one of the biggest in the world. IT majors such as TCS and Infosys have managed to achieve more than 25% operating margin consistently. That is 25 dollars profit after all expenditures on a 100 dollar revenue.

Most of the IT companies in India focus on low end consulting or the bottom of the pyramid. If a designed architecture is provided, these companies are very good in implementing high level designed applications that fits to the architecture using the standard and existing processes. The business models adopted by the IT majors enables them to cut cost for its customers and at the same time provides a bit of value. Also, the difference in productivity by employees of Indian companies are generally more than that of their customers. This allows customers to save money on routine tasks such as maintenance of code and support of critical applications. This market is so huge that most IT companies in India fight for it at cut throat price.

Some companies are trying to break away from the bottom of the pyramid strategy. IT global majors such as IBM and Accenture are well established at the top of the pyramid as they provide high end consulting services to its customers. Although the revenue from high end consulting for TCS is only around 2.5% of its overall revenue, it is growing at around 50% per annum. As the growth was enormous at the bottom, most companies settle down comfortably there. It requires a cultural and attitude shift to move upwards in the pyramid. The cultural shift should start right at the top and proliferate till the bottom of the organisation.

The non existence of this cultural shift can be explained in terms of productivity achieved per person in an organisation. There is more money to be made as one moves up the pyramid. I have taken previous four years of financial data from TCS and Infosys (listed in BSE) and Cognizant technology solutions (listed in NASDAQ but operates from India) for the analysis. After analysing the revenue per person per financial year, it was found that TCS scores the lowest whereas Infosys was able to earn more revenue per person for the same period. As companies recruit in thousands every year, i have only counted half the new additions for the years for the productivity per person calculation to consider induction time for the employee into the company.


From the graph above, two points for discussion emerge. First, for all three companies, the productivity per person stays almost stagnant which confirms that the earnings from every employee on average remained stagnant. Secondly, how does infosys manage to extract more out of its employees than its competitors? This is an important question as the business model, employee utilization and most other parameters fairly remain the same as its competitors over a five year period.

For any company, if the productivity of an employee increases, it is equivalent to adding new employee at little or no additional cost and it in turn means earning more revenue with existing resources. In most of the big offshore development centers of IT majors in India, employees work extended hours to meet the deadline. However, the difference between touching in and touching out is not an ideal parameter for measuring the productivity of an employee. If an employee is capable of writing 100 lines of code or solving 5 tickets per day in a production system on average, then if the same employee can write 120 lines of code or solve 7 tickets on average in a day on average in the next year, that is the real definition of getting more out of an employee.

Some of the big problems with big offshore development centers are its distance from the city (which means longer hours of travel everyday), crowded atmosphere and some admin policies that eat productivity. For example, if an employee takes a tea break, say at 11 AM in the morning, one has to share the crowded infrastructure to take a meaningful break and get back to work. This takes around 30 to 45 minutes of the morning time. Most of this time can be avoided if coffee machines are installed as close as possible to the work desk and allowing employees to take coffee and snacks to the desk. Also, at least 30% of the employees smoke 3 cigarettes a day on average. In big development centers, the smokers have to get out of the building for a smoke. This again takes an hour on average from an employee's productivity. The same applies for the overcrowded canteens during lunch. If the infrastructure and admin rules are employee friendly, then it allows the employee to stay at the desk for a longer period of time thereby increasing the chance of producing more in the same amount of time as before. In a typical offshore development center where around 10,000 employees work, these simple measures could save at least 8000 person hours worth lost productivity every day. This is only a conservative estimate. It is true that these 8000 person hours are performed after working hours. But, that is an additional cost to the company in terms of additional electricity, security, transportation and mental fatigue if this persists every day.

Employees should be given more choice on how they want to work and still can completely follow the code of conduct and all security rules and guidelines. It can even go to an extent of using the time in the office bus in the morning for performing some activities that do not require network connectivity. This ensures human capital empowerment, which is the most important assets of these organisations.

The problem with productivity is not even talked about in the industry till now. This is because Indian IT majors are able to grow at mouth watering rates with an enviable operating margin. But, this operating margin is achieved due to the large addition from the elastic pool of college graduates every year, who work for less money. But, the simple fact is inflation is India is around 10% over the last few years whereas inflation in the western developed nations from where Indian IT companies get business is around 2%. There is an 8% gap in the value of what we earn every year. The productivity has to increase by 8% every year to stay where we are in real terms. This gap in real terms is adjusted partly due to the addition of low wage collage graduates in thousands every year.

At the moment, Indian IT companies are just a blip in the radar for companies like IBM and Accenture in premium consulting services market. IBM and accenture are aggressive in entering into non premium services while the Indian majors are trying to move up the ladder. When they meet, the IBMs and the Accentures will be in a better position. So, if the top line growth for Indian IT company stalls, which might happen sooner than we think due to the debt crisis in Europe which threatens to take the work economy into a double dip recession, then there will be enormous pressure on operating margin. This could lead to the organisation getting middle heavy and in worst cases, this could lead to job losses as well. To stop this from happening, the IT majors have to think about increasing productivity both by entering into premium services and by finding ways to get more out of existing resources.

Productivity increase could be the difference between sustained growth and a "Mid-life crisis" for Indian IT companies.

Is A380 ban in India justified?

The civil aviation authority in India has banned any scheduled inbound A380 aircraft to land in India by any foreign carriers. Emirates is probably the worst affected carrier as it was planning to operate its large A380 fleet to the Indian market. Lufthansa was also planning for the same, though in small scale compared to Emirates. At the moment, none of the Indian carriers operate A380 super jumbo. Fly Kingfisher will be the first Indian carrier to operate the super jumbo in 2016.

Is this ban justified? What competitive advantage does A380 give to foreign carriers, especially Fly Emirates? An A380 can typically carry more than 500 passengers in a 3-seat configuration. This is 20% more than the largest aircraft Indian carriers operate (B747). With higher demand to the Middle East and the European markets, the capacity of A380 can bring significant cost advantages to the carriers operating them. At the moment, foreign carriers enjoy these advantages due to the investment choices they have made in the past few years. Also, Emirates competes directly with Air India for the Middle East market. Middle East is the major international market for the ailing national carrier. With A380 used by Foreign carriers, Air India would loose further competitive edge.

Apart from US, India do not have an open skies program with any other country or region. Aviation industry in India is still highly regulated by the Indian Government. This red tape prevents foreign operates to fully tap the potential of the Indian market. It is true that Aviation is a strategic business unit for the government. However, too much of regulation could prevent the future growth of the industry. Foreign ownership rules by the Government can be justified but more reforms are needed to open up the Indian aviation market to foreign carriers. Even the developing economies unions such as ASEAN have developed a strong Open Skies policy that enables carriers within the union to operate any number of flights to any destination within the union without any regulatory pressures from the Governments. A similar deal was established between EU and US in the previous decade that opened up the competition between trans Atlantic airlines.

The aviation policies that protect the local carriers, especially Air India will only hurt the local consumers. Opening up the market increases competition; competition increases customer focus and reduces fares. Protecting Air India from competition can never be justified. Air India is non-performing state run airline. Indian taxpayers are paying for its losses in the past decade. Government should clearly identify bust organisations and should help private airlines to gear up for competition.

The aviation fuel tax paid by the Indian carriers are one of the highest in the world. This makes Indian carriers at a competitive disadvantage to start with. Instead of creating protectionist policies, the aviation ministry should enable a proper level playing field to help Indian carriers to fight for market share with foreign competitors. Until then, A380 ban is not justified.

Can Iberia Express take off?

International airlines group (IAG) announced today that it is launching a low cost subsidiary airline Iberia express from summer 2012. This airline is expected to complete in the short and medium haul business against well established low cost carriers such as Easy Jet and Ryan Air. The short and medium haul business of Iberia airlines is making losses for a few years in a row now. This is mainly because Iberia is not cost effective and hence was unable to compete with the price other low cost carriers offer. The solution IAG proposes is to focus on this market segment through a fully owned subsidiary making use of the existing fleet and by recruiting new pilots and crew members at the market rate which is significantly lesser than the rates offered to Iberia airlines crew. However, will this idea help IAG beat its competitors in the short haul business?

Easy Jet, Ryan Air and Iberia airlines use the same hub airport in Madrid. Iberia express will also be using the same airport. Since the budget and the full fare airlines use the same airport, the cost advantage for the low cost airline is fairly limited. Generally, low cost airlines use less congested out of the city airports. From Madrid, for a customer, the difference between flying low cost and full fare is minimal when compared to other cities such as London. Now, Iberia express will also use the same airport. What difference will it make for a normal customer between flying Iberia airlines and Iberia express? With only four A320s, all from exiting Iberia fleet, are used for Iberia express for some of the short haul routes, Iberia may be in danger of cannibalising its main business, the full fare Iberia airlines. If Iberia express takes over all of short haul network, the idea might work better. With the current idea, three airlines belonging to the same group, Iberia airlines, Iberia express and Vueling airlines ( a low cost subsidiary of Iberia airlines), compete in the market. How much ever IAG can work out on the timetable, competing with Easy Jet and Ryan Air as three different airlines may not be effective

Iberia express will fly in a two class structure. No established low cost carrier operate this structure. According to IAG, Iberia express will compete with established low cost carriers. With two class structure, achieving this goal could be difficult. Also, Easy Jet and Ryan Air fly to less congested airports from Madrid. Iberia express, however, flies to congested airports like Iberia airlines does. With this arrangement, Iberia express might not be able to achieve aircraft utilisation as much as other low cost carrier does.

The main cost advantage for IAG with Iberia express is their new recruits. They will be paid significantly lower wages and are expected to be more productive then their peers in Iberia airlines. Spain's labour laws mean that most organisations recruit contract employees who can be easily hired and fired. Spain's youth employment is one of the highest in Europe. In this situation, IAG might recruit contract employees at a very good rate. If this works out well, then they might expand this model at the expense of Iberia airlines' short haul business.

Ryan air and Easy Jet are well established from Madrid. Iberia airlines, with the current plan, will find it very difficult to compete with these low cost giants. However, not taking any action with the ailing short haul business is not a solution as well. The news of Iberia express would have made Iberia's employees more anxious than other low cost carrier's bosses. In the short term, Iberia express should compete with Iberia airlines for a better market share, than competing with other low cost carriers.

The low cost aviation model in India

SouthWest airlines, the Texas based giant is a pioneer in low cost operation in North America. The success of this model was then replicated in Europe and then the model was introduced in Asia and Latin America. In India, the aviation industry started growing rapidly since the end of the previous century. With only one established, yet struggling, carrier in India till that time, a splurge of carriers such as Jet and Sahara entered the market. A few years later, low cost carriers, led by Air Deccan, started emerging in India.

With respect to the low cost operations, India and rest of the world had a lot of similarities such as the raise of the middle class in millions and who are ready to spend extra cash for quicker mode of travel. However, there are some glaring dissimilarities in the way low cost carriers are operated in the country. This paper discusses the opportunities and difficulties that arise from the dissimilarities between the way low cost carriers operate in India and in rest of the world.

In general, low cost carriers try to save money in whatever way they can. Revenue generated per passenger mile by these airlines is normally lesser that that of its full service peers. Hence it is important to concentrate on costs to stay afloat. In the late sixties, US had a handful of full service carriers. SowthWest airlines tried to tap the new middle class segment by flying them at low cost in a point to point service. These customers do not mind odd timings and airport location in exchange for cheaper fares. Thus a new model to run an airline emerged.

So, how does the low cost carriers manage to cut its cost so much, constantly? Almost all of the successful low cost carriers have used a single aircraft model. In this way, they can save money by effectively utilising the flight crew and cabin crew from a single pool. Also, the airline can manage the skill set of MRO and all other support staff. However, in India, some low cost airline does not follow single aircraft type strategy. This is because they are a part of the full service group that utilises multiple aircraft types.

During the aviation boom in India, the airlines wanted to cater for all the segments in the market. Full service airlines also had completely owned low cost subsidiary and some carriers integrated low cost operation within its full service operation. Even though low cost operation enticed price savvy customers who otherwise wouldn’t have taken to the air, it also entices some full fare customers. The growth of low cost operation cannibalised the full service operation in more way than one. Both the full service and low cost arm had to optimise their aircraft usage, routes and timetables so that they don’t compete against each other. In the end, the focus was on neither.

In the developed western markets, the low cost carriers operate point to point from a less congested out-of-the-city airport that charges less takeoff, landing and parking fees. But, in India, the low cost carriers operate from the same congested airports from which full service carriers also operate. Hence, the low cost operators do not save money from the takeoff, landing and parking fees. For a normal customer, the difference between flying a low cost and a full service airline is minimal when compared to Europe or US. For a short flight, the customer would be willing to sacrifice the additional services, such as IFE, for a lesser fare.

The pace of the growth in the aviation industry had outpaced the infrastructure growth that supports aviation industry. Airports became congested and hence the on-time performance of various airlines came under pressure. For a low cost airline, one of the major drivers for cost saving is higher aircraft utilisation and lower turnaround time. Since the low cost operation is also using the same congested ageing infrastructure, they were unable to utilise the aircraft as much as they would have hoped. Boarding is normally quicker in western low cost carriers as seats are not reserved for the customers. Early customers get better choice of seats. Due to the mandate from the Indian Government for mandatory allocation of seats, the Indian low cost carriers were unable to board passengers in quick time.

The “Low cost” brand image that the western airlines generated helped them to take some bold steps that no full service airlines even thought of. For example, the 100% usage of website for bookings, using own reservation system, minimal code share and loyalty programs were some of the innovations of the low cost industry. Also, these airlines in the western market de-bundle the fare they charge to fly a customer. A full fare airline charge fare that includes food, In Flight Entertainment (IFE), baggage handling and other services. The low cost carriers made all the additional services other than flying optional. If a customer wants to check-in a baggage or wants a priority boarding or wants an in-flight meal, the customer has to pay extra money along with the fare. This gives the customer extra benefit in terms of picking and choosing only the services that are required. Low cost airlines are looking for generating incremental revenue from these services in the coming years. Some airlines even think in terms of charging the customer for washroom usage on board and opening of casino on board. However, in India any such innovation drive from the low cost industry is yet to emerge.

In terms of generating auxiliary revenue, the low cost carriers in developed markets sell packages containing flights, hotels, car hire and other related services. For Indian carriers, these kind of packages may not look attractive now, but it is certainly an area to look at in the near future.

Generally, the fare structure for a low cost carrier in the European market is very simple. They only sell one way point to point fares. A return trip consists of two one way fares. The Indian low cost carriers, like their US peers, sell more than point to point fares. Carriers like IndiGo offer return fares with a discounted price. Also, it lets customer to book multi segment flights. With these types of fares, the revenue for each segment for that particular seat is lesser than that of point to point fares. In order to accommodate multi segment fares, the airline has to sacrifice some low cost point to point fares and hence is at the risk of not luring a price savvy customer who might opt other modes of transportation instead. This may not be a bad strategy as the load factor could be better in some regions by issuing multi segment fares rather then by issuing simple point to point fares. This calls for extreme proactiveness from the airline to dynamically change its fare structure based on the demand.

The growth potential for the airlines industry is enormous in India. Low cost airlines grow more than full service airlines in terms of passengers transported year on year. However, the cost saving potential of low cost carriers in India is limited as they share the same highly congested ageing infrastructure with full service airlines and are not as innovative as its western peers. Building the infrastructure takes years; so low cost airlines need to innovate more to compete among each other and with the full service airlines.

Kingfisher and low cost operation

Kingfisher is grounding its low cost operation 'Kingfisher Red' as it wants to focus on its full service model. After a little over four years, Kingfisher has realized the bitter truth that LCC and full service cannot co-exist. Big carriers like British Airways and Delta have tried LCC operations and have failed. In the FMCG market, a company like Unilever can produce and successfully market both Lux and Lifebuoy brands. But, in the aviation market, LCC and full service are different beasts and it requires different DNA to manage altogether.

However, there are a few important lessons to learn from this failure. Generally a low cost airline make money by cutting cost wherever possible. Hence, they do not provide any in flight entertainment, in flight meal and loyalty program. Also, most of the successful low lost airlines, such as Ryan air, have extensively used a single aircraft model strategy. For example, all of Ryan air's fleet comprises of B737 type aircraft. So, Ryan air only requires only one pool of pilots who are trained to fly B737. This applies to cabin crew, maintenance staff and load controllers, who only require training and license for a single aircraft type. A lot of money can be saved in MRO (maintenance, Repair and Overhaul) area. In the case of Kingfisher Red, they operate ATR42, ATR72, Airbus A319 and A320. So, Kingfisher Red was unable to take advantage of the cost synergies a single aircraft type can provide.

All the established low cost carriers make it clear that the more they fly, the more money they make. Hence, it is very important to utilise the aircraft efficiently. Kingfisher airlines have a bad on-time performance record and hence the aircraft utilisation is not as per the industry standards for a low cost carrier.

The average age of Kingfisher fleet is atleast two times more than that of Easy Jet and Ryan Air. With ageing fleet, the cost of maintenance is high. Most importantly, these aircrafts are average on fuel efficiency. With low aircraft utilisation and fuel efficiency, Kingfisher struggled to break even due to high operating costs.

The time between an aircraft touching down, deboarding passengers and baggage, boarding new passengers and taking off is called turnaround time. If the turnaround time is lower, and on-time performance is higher, the aircraft utilisation is better. SouthWest airlines, the most successful LCC, has the best turnaround time of all airlines. Hence, SWA enjoyed the best aircraft utilisation. Kingfisher was unable to turn its aircraft around like the way SWA did.

Kingfisher was also largely working on a hub and spoke model even for its low cost operation. LCC generally do not use hubs as they travel point to point across several cities within a day depending on the demand.

One of the most surprising piece of data is that the load factor in Kingfisher full service economy was better than the load factor in Kingfisher Red class. This fact is amusing because not a lot of people would buy tickets in full fare airline when they have the low cost option. For most of the domestic routes operated by Kingfisher airlines, there is pressure from LCC airlines such as SpiceJet and IndiGo. If Kingfisher airlines can compete with LCC better, why not Kingfisher Red compete in the same market ? There should be some other factors that should have influenced the poor performance of Kingfisher Red, such as poor selection of routes and timetables. Better routes and timetables could have saved Kingfisher Red from being in red since inception.

Kingfisher Red has multiple aircraft types, uses old leased aircrafts which are low on fuel efficiency, got a bad turnaround time and on-time performance. Running a low cost model calls for higher proactiveness and sadly KF had to exit from LCC market. The combined losses over the years have eroded the company's equity completely. It requires immediate cash injection, better aircraft utilisation, capacity cuts, closure of non-profitable routes among many other initiatives.

The demise of Kingfisher Red could be a great news for SpiceJet and IndiGo. Especially IndiGo is the airline to watch. It has brand new highly fuel efficient A320 fleet, operates on a point to point model with low turnaround time, high on-time performance and better Debt to Equity ratio among all Indian carriers.

Moreover, it uses only one type of aircraft. Indigo has a great vision for expansion. It ordered 180 A320 aircrafts last year, which was a record at that time.

The flamboyance of Vijay Mallya and miserness of LCC do not match. It was indeed a sad day for Indian LCC market. Focusing on full fare service is probably best suited for the airline for now. However, a better understanding of LCC could have saved Kingfisher Red. SpiceJet and IndiGo could do well in the near future to capture the additional market share.

The aircraft of dreams

The Boeing 787 or the "Dreamliner", developed by Boeing, is one of the hottest aircrats that is entering passenger service. The main difference between other aircraft and 787 is that most of the body of the aircraft is made of carbon composite material. This material has higher strength to weight ratio which means that the desired durability and strength of the body can be achieved with less weight.

This is a major breakthrough as the persistently high oil prices is hurting the airline industry. The growth in the aviation industry in the developed western market is feeble. However, due to higher growth rate of GDP in the developing world means higher demand for oil. Due to the new-found hunger for energy by the developing world, developed world has to pay higher prices for oil and energy even though their growth rate is close to zero. Hence, there is a greater need to run fuel efficient aircrafts to cut down the cost of running an airline. Fuel is the most expensive expense in an airline's income statement.

Therefore B787 is a highly welcomed aircraft as it provides higher fuel efficiency due to reduced weight. The components are more durable and hence the cost of maintenance is less as well. According to official statements, B787 is 20% more fuel efficient than similar sized aircrafts and it incurs 30% less maintenance cost. Apart from fuel and employee costs, MRO (Maintenance, Repair and Overhaul) is one of the major recurring expenses for the airline. If the Dreamliner can deliver the promise of reducing recurring MRO expense by 30%, it could potentially help the airline to break even with a lesser load factor than normal.

The dreamliner is 20% lighter than a similar sized aircraft, so it is 20% more fuel efficient, releases 20% less CO2, flies 20% more distance than an aircraft with similar sized fuel tank. On top of this, Dreamliner emits 60% less noise. Also, the cabin pressure at cruise altitude is 25% lower. This can help travellers to cope with jet lag better.

To counter B787, Airbus, the rival company for Boeing, is offering a similar aircraft called A350XWB (Extra Wide Body) in its product line. If the official records are to be believed, A350XWB delivers 8% reduction in the total costs than operating a B787. Most of the statistical figures are deceptive as no one clearly understands the underlying assumptions in the cost calculation. However, if A350XWB can deliver the same operating performance as B787, it is a great news for the airline industry.

ANA (All Nippon Airlines) operates the first Dreamliner on November 11, 2011. ANA deploys this aircraft on a domestic route in Japan and later it intends to operate the aircraft for Tokyo-Frankfurt service. This is not a surprise as airlines normally use the most fuel efficient aircraft for its longest route as more fuel can be saved.

What can an aircraft like the Dreamliner do to the airline industry in the near future? The dreamliner is a mid sized long range jet with the best fuel efficiency. This opens up the possibility of opening up routes for which the demand is average. For example, in the far east, for an airline like ANA, it opens up the possibility of starting direct services to less glamorous destinations like Glasgow or Manchester. The seating capacity in a 3 class configuration is around 210. It is almost half when compared to 777 jet.

Airlines make money when the load factor (the ratio of total occupied seats to total number of seats in an aircraft) is higher. This is because airline is a very high fixed cost industry. The incremental cost for carrying one additional passenger in an aircraft is very less. The cost of fuel, pilots, cabin crew, airport parking, take off and landing taxes are the same no matter how many traveler travel in an aircraft. The variable cost of taking an additional passenger is perhaps the cost of food and other services provided by the airline.

B787 provides an opportunity to start routes that seemed unprofitable earlier. With smaller capacity and higher range the problem with load factor can be resolved easily than other aircrafts. The problem with the capacity was probably one of the reasons why full fare airlines are operating in a hub and spoke model. For British Airways, London Heathrow is the hub airport. If a passenger wants to fly from Glasgow to New York in British Airways, then the customer is transported to London Heathrow hub in a smaller aircraft (A320) and then the customer is transported in a bigger 777 or a 747 aircraft to New York. In the hub, the airline uses smaller aircraft to get passengers from smaller locations, gather them and use bigger aircrafts to travel to longer distance cities.

In the above example, British Airways cannot deploy a 747 or a 777 aircraft to fly directly from Glasgow to New york as the demand wont match the available capacity. A smaller aircraft such as A320 cannot be deployed as the range for smaller aircraft is not enough to reach the destination. Hence the hub and spoke model works. The problem with the demand and range is one of the most important reasons for low cost long haul airline NOT to emerge.

Also, for an airline like British Airways, it is difficult to expand operations form the existing hub as the airport runs at a 99% capacity. At some point of time in future, the airline must break away from the main hub and establish secondary hubs in the same city or elsewhere. The merger with Iberia could solve the problem for now, but the airline would need a secondary hub at some time in the future. The airline could also pragmatically choose to fly point to point and slowly break away from the traditional model. The dreamliner or an A350XWB is well placed to solve this problem as well.

Air Asia X is the first airline to start a long haul low cost service. The airline is profitable and they use A330 and A340 aircrafts. According to official figures, B787 and A350XWB are smaller, more fuel efficient, and has higher range. Air Asia X has already ordered A350 for their operations in future. A few more airlines could potentially emerge with similar strategies.

On November 11, when all eyes are on ANA, there could be some airline thinking about starting a big low cost long haul point to point service in the near future. The unthinkable only about a few years ago, has now become thinkable. Exciting times ahead!!