SPICE JET STRATEGY

India is one of the fastest growing tourism destinations in the world. The World Travel & Tourism Council has estimated that India's tourism economy will emerge as the world’s 3rd fastest growing over 2007-16, growing at over8% per annum in real terms. Robust economic growth, higher disposable incomes, and growth in tourism & business travel, are the major demand drivers.The advent of low-cost carriers (LCCs) has revolutionized the Indian aviation industry. Corporate travellers have historically formed the majority of the domestic air travel market in India. However, the emergence of LCCs has resulted in middle-income people and self-employed shifting from premium class travel in trains to air travel.The number of domestic air passengers grew at a healthy 38.5% with 35.3million passengers flying in FY07 against 25.5 million in FY06. The Centre for Asia Pacific Aviation (CAPA) has predicted that the domestic traffic would grow at 25%-30% annually until 2010, taking the overall market to more than70 million passengers. Aircraft manufacturer Boeing has raised its 20-yearmarket forecast for Indian commercial aircraft purchases to $86 billion from$72 billion last year.Domestic passenger traffic, which increased at a CAGR of 4% over FY97-04, has moved into high growth trajectory with a 30% CAGR during FY04-07. A 26%

CAGR in demand is expected for domestic air travel over the next 5 years.

Aviation Turbine Fuel (ATF) forms a major part of the overall cost for airlines in India. It accounts for 40%-50% of total operating costs, the highest in the world. ATF prices in India are 60% higher than international prices. The major component of the ATF prices is taxes , which account for 53%of the base price.ATF prices in India are based on the "International Import Parity Prices", and directly linked to the benchmark of Platt's publication of FOB Arabian Gulf ATF prices (AG); and do not relate to the actual cost of producing ATF in India.ATF prices for domestic operations also include freight charges from the Gulf to India, customs duty of 10% ad-valorem (which adds up to an effective rate of approx 20% inclusive of the CVD and cess), domestic transportation and other charges, excise duty of 8.24% (including cess), sales tax (levied by state governments) averaging across the country at 25% as add-ons to the AG prices, besides the oil companies' marketing margin, and throughput charges paid to the Airports Authority.

Spice Jet is the second largest low-cost airline in India. Spice Jet is one of India’s most dynamic low-cost airlines, with 19 aircraft flying to 18 destinations across the country.

Spice Jet is one of the focussed low-cost carriers (LCC) in India. With its headquarters in Gurgaon, the company employs 2,500 people, and focuses on delivering the best possible value for business and private travel. The company was originally promoted by the SK Modi Group under the name ModiLuft. It was acquired by Royal Holding Services (Kansagra family) in 2000 and re-started operations in May 2005.

The airline’s new fleet of aircraft is backed by cutting-edge technology, and infrastructure. It has maintenance support from KLM and state-of-the-art technology from world leaders like Star Navigation, Russel Adams and Tech Log. Spice Jet has a partnership with Navitaire, the world’s renowned low-cost support system for reservations and revenue management for providing e-booking and e-ticketing services. Spice Jet aims to evolve from the price-centric positioning to that of a mature brand.

Spice Jet follows the pure LCC model. This has helped it achieve the lowest cost in the industry – its per unit cost is 20% lower than peers in the LCC segment, and 40% lower than players in the full-service carrier (FSC)segment.

Spice Jet needed to run on a lean operating model. So it integrated processes and technology to save operating cost and one of the best ways of doing that was enabling customers to book tickets online. Today, about 70 percent of the carrier's business comes via online credit card transactions. Spice Jet invests in cutting-edge technology – from its fleet of Boeing 737-800 aircraft down to its operational IT systems. The company manages its airline-specific business processes using Star Navigation, Russell Adams, Tech Log and Navitaire systems. We expect the company to post profits at the net level by FY09E as an optimal fleet size is achieved, and fixed costs are absorbed over a higher capacity (ASKM). It has unveiled a phased capacity expansion plan which will see the addition of 15 aircrafts by FY10E, and another 8 in FY11-12E, taking its total fleet size to 34 aircrafts. Spice Jet flies a single aircraft type fleet (Boeing 737), which allows for greater efficiency in maintenance, and supports its low-

cost structure. Currently, it has a fleet of 14 Boeing 737-800aircrafts in single-class configuration with 189 seats.

The company has already secured financing arrangement for the next phase of its expansion. In December 2005, it raised US$ 80 million through an FCCB (foreign currency convertible bonds) issue, proceeds of which are being utilised for the Pre-Delivery Payments (PDP) of first ten aircrafts. The subscribers to the bond issue include Goldman Sach, and Istithmar, the private equity arm of Government of Dubai.The company also has a sale and lease back arrangement with Babcock &Brown Aircraft Management and Nomura Babcock & Brown, for all 16 aircrafts to be purchased during 2007-09. The deal is valued at over US$ 1.1 billion based on the manufacturer’s list prices.Further, in January 2007, the company raised US$ 67 million (Rs 297crore) through preferential equity allotment to strategic investors like the Tata Group, Istithmar, KBC Financial Products (UK) and BNP Paribas.

Spice Jet is a low cost airline in an intense competition industry where profit margins are low. To survive in this scenario they are using some strategies, which are as follows-1. They fly at a height of 38000 feet which increase their fuel efficiency by 10%.2. Spice jet is paying to oil companies and flight operators before due date, so that they can avail discount and minimize their cost. 3. It has a tie-up with KLM Royal Dutch airlines for the maintenance support of its fleet. KLM is the oldest airline in the world and is well-known for the maintenance of fleets. Through thisSpice Jet is getting fuel efficiency which further allows them to offer lowest fares.4. Spice Jet has launched its own Cadet Pilot Program to save itself from the shortage of Pilots.But this strategy is not working up to expectation.5. It has tie-up with Star Navigation, Russell Adams and Tech Log for state of the art technology.6. It also announces some promotional schemes to recognize itself in customers such as it announced that on the occasion of 60th Republic Day it will give a 100% discount to defence personnel from 26 January 2010 to 26 March 2010.

Spice Jet aims to become an efficient airline that offers value for money. To build the brand positioning in that manner, Spice Jet seldom does price-only promotions. The more you cue in price, the more the tendency to come across as a “cheap airline”.

Some of their recent promotions have read, “It’s not lonely at the top anymore” for a buy one-get-one-free ticket scheme. On Children’s Day, any child flies for free. Again, parents often accompany their children. The idea is to get people to buy the two adult tickets. The most successful promotions are about value, not just the price.

Spice Jet’s strategy of leasing aircraft rather than outright purchase has helped it to keep its debt under control. With demand growing 13-15 per cent and supply at only five per cent, Spice Jet and Indigo (being the most profitable) are the only two players that are adding to their capacity.

India’s largest carriers, Kingfisher Airlines and Jet Airways, have either reduced their aircraft strength or are adopting the lease route to cut down costs. This leaves the field open to the most efficient companies to

grow their market share, with Spice Jet expected to increase its share to about 15 per cent in 2010-11 from about 12 per cent in 2008-09.

The company plans to lease eight aircraft over the next two years and could opt to buy two planes going ahead to strengthen its asset base.

On the business front, the company has delivered good results, registering its first ever annual profit of Rs 61crore in 2009-10. Revenues were up 29 per cent year-on-year at Rs 2,181crore. In line with the robust growth in domestic demand for the sector since December (an average four million passengers a month), the company has been consistently recording load factors in excess of 80 per cent.

These high loads, coupled with better control on costs, have helped deliver higher revenues and profits. Given the better demand prospects and limited competition, analysts believe the company will be in a strong position to reap the gains.

Since its launch in May 2005, SpiceJet has single-mindedly focused on becoming a key player in the highly-competitive low-cost airline segment. And today SpiceJet is India's second largest low-cost carrier in terms of market share.

To get to its current position, Spice Jet needed to run on a lean operating model. So it integrated processes and technology to save operating cost and one of the best ways of doing that was enabling customers to book tickets online. But with incidents of credit card fraud increasing steadily, Spice Jet saw danger to its business: the revenue loss from such fraud was making a dent in its thin profit margins.

Alarmed by the scourge, Spice Jet began scouting around for an automated, advanced and flexible online risk management solution that could screen online transactions efficiently. There was only so much the company's manually operated fraud control unit could cover. They were losing between Rs 50-60lakh per month. And when operating in a fiercely competitive low-margin segment, such a significant revenue loss

can make you bleed. This also impacted the credibility of their website.

Real-time verification of credit card transactions was needed.

Based on a set of rules Spice Jet defines, Decision Manager examined each transaction and determined whether an online order should be accepted, reviewed or rejected. In addition, the rules can be updated at any time using a simple interface, allowing Spice Jet to continually adapt its strategies as scam artists change theirs.

Spice Jet began looking for a modern, centralized ERP solution that would improve transparency and business agility while reducing manual workload. The company evaluated various options, including solutions from vendors such as Oracle, before deciding on a solution from IBM called Airline Office, which is based on the SAP ERP application.

IBM Global Business Services worked closely with business and IT teams from Spice Jet to map out the requirements for the new solution and create a blueprint

for the project that would accelerate deployment and minimize risk. The decision was taken to implement the solution in two phases: first, to install the SAP applications for financial accounting, controlling, materials management and human resources, and second to integrate the solution with the existing airline-specific systems such as Russell Adams.

But the Rs 10-lakh project went live in February 2008 and the implementation helped Spice Jet automatically screen credit card transactions reducing the burden of manual intervention.

Within two months of the project's deployment, Spice Jet's chargeback rates plummeted from between 4 to 5 percent to 0.002 percent.

It has not only secured online transactions but also boosted the credibility of the website.

The company’s existing back-end systems included a number of separate applications for financial management, procurement and inventory control. The lack of integration between these systems created a large quantity of manual workload for reconciliations: staff in the finance department spent too much time capturing information and too little analyzing it.

The user interface of the old system was complex and

inflexible. As a result it was difficult to generate reports in different formats for internal and external audiences. When there was a need to change or customize something, they had to go to the software provider, which took time and was expensive.

The new SAP ERP applications have already delivered a number of important improvements to Spice Jet’s core business processes. Day-to-day accounting processes have been simplified, and a powerful search function has been added to help staff find specific transactions, suppliers and customers easily. Reporting has also been improved, since the SAP applications are flexible enough to generate customizable reports without any need for technical intervention.

Another very important benefit is the increased ability to analyze, plan and forecast. With a single repository for financial and inventory data, a much greater financial transparency is achieved. The profitability of individual routes can be assessed and much greater control over purchasing – which is particularly important as oil prices continue to fluctuate.”Spice Jet has seen considerable improvement in a number of routine back-office processes, such as the

monthly financial close.

The monthly close used to be an almost entirely manual process, so it took 20 to 25 days to complete. With SAP ERP the monthly financial close can be completed within just seven days – so a better understanding of how the business is doing can be achieved, and they can react more quickly to a changing business environment.”

At Spice Jet, the customer continues to be the core of the business and all attempts were made to ensure the highest level of customer satisfaction. Based on customer feedback, Spice Jet implemented the following initiatives during FY 2009-10:

• New menu comprising of hot Indian delicacies• Pre-ordering refreshment at the time of booking at a discount• Revamped in-flight magazine•Spice Jet Privilege Pass programme wherein passengers could use the Spice Jet boarding pass and gain great value offerings from hotels, online retail, insurance and wellness partners.• Roving check-in facility at airports•In-flight music while boarding and deplaning composed in-house• Gift bags for kids on board

As recognition of these service improvements, Spice Jet has received several awards and recognitions during this year, prominent amongst them being:

• India’s best low-fare airline in a survey conducted by MaRS on behalf of Hindustan Times (Dec 2009)• Smart Travel Asia’s Top 10 Best Budget Airlines in Asia for two consecutive years (Aug 2008 & Sept 2009)• World Travel Market Award for multi-channel approach in distribution (Nov 2009)• Employer Branding Institutes’ Best Employer Brand Award for our employee best practices (Dec 2009)• Award for Best Website at the ‘World Low Cost Airlines Asia Pacific Conference’ at Singapore (Jan 2010)• Outlook Traveller’s Best Low Cost Airline (Feb 2008 & Feb 2010) India• Class of Travel and Tourism’s ‘Best Domestic Low Cost Airline award (Mar 2010)

The airline continues to focus all efforts on ensuring that Spice Jet maintains a healthy On-Time Performance track record. Flight cancellations are a key measure of on-time performance and Spice Jet has one of the lowest cancellation rates amongst domestic airlines.

In 2009-10, Spice Jet reported a healthy on-time performance of 78.8% - ahead of most of its

competitors. Constant efforts are on to improve the on time performance.

Spice Jet was conceptualized as an airline that will always provide safe, value-for-money, comfortable and hassle-free air travel. The brand challenge was to connect and position Spice Jet as a brand that offers more than others in its competitive set.

Brand stimuli employed during the year included advertising through print, outdoor and television media and the campaign to establish ‘Get More When You Fly Spice Jet’ was carried out.The campaign has been received very well and evidence of this lies in the overall growth of ‘direct’ business on www.spicejet.com. In pre and post campaign analysis, the brand has fared very well on key parameters such as top-of-mind and total recall, imagery and other key attributes.

Passengers carried increased by 44% against the industry growth of 16.5% reflecting greater traction for the Spice Jet business model.

During the year FY’10, capacity deployment increased by 21%. This is due to increase in average aircraft availability and increase in aircraft utilization.Spice jet’s load factor increased from 67% in FY’09 to 78% in FY’10.

Spice Jet has partnered with University of Petroleum and Energy Studies to provide its employees full-time MBA and BBA programme in Aviation Management, as part of it human resource strategy to train, empower and retain its staff. 

This programme is a fully sponsored opportunity from Spice Jet to its employees and also includes free facilities like travel and stay while employees attend classes at Gurgaon campus. This is the second major step towards employee empowerment announced by the airline, the first being ESOP offerings to all its employees. Programmes like these, offer opportunities to young talents and help them groom to become Managers.Spice Jet has selected first batch comprising of 15 students who have qualified for the MBA programme. The objective of starting this programme is to provide managerial education to junior and middle level managers and enable them to develop skills and talent required for higher managerial positions in the organization. The Aviation Management programme imparts knowledge to the candidates on application of modern

management concepts, methods and tools to the challenges of aviation industry. The curriculum is oriented towards brand management, customer satisfaction, passenger services and fleet management, allied services and fuelling management.

Strong growth in earnings in the recent quarter that ended in June, the low cost airline based in Delhi, Spice Jet announced on Tuesday that it had ordered as many as 30 Boeing 737-800 aircrafts which will take its fleet size to 75 by the year 2018. This deal is valued at 2.7 billion dollars based on list prices and the deliveries from Boeing are expected to begin by 2014. The company reported a full year of profit ending on March 31st. It had also witnessed the net profit doubling to 55.2crore rupees in the first quarter of the fiscal year ending in June. The net sales were up by 35% reaching 708crore rupees. Over the last 3 months ending in June, the total load of passengers increased massively by 88% which was a steep rise over the 76% year on year percent. The airline company expects to post a revenue growth of around 15-20% during this financial year.In the first 3 months, the airline company had witnessed a passenger traffic growth of 29%.

It was also in news because 37% stake in it was recently bought by Kalanithi Maran the media baron. Starting September, the airline company with 125 million dollars in cash reserves is planning to start international flights to Kathmandu, Male and Dhaka followed soon by Colombo which will be the 4th destination.

It follows a single aircraft type, point-to-point service, and quick turnaround time for higher asset utilisation. It has positioned itself as a niche player focusing on profitability rather than chasing market share.Spice Jet operates most of its flights between profitable metro routes to optimise its load and yield (average revenue per passenger). It currently operates from 22 destinations with more than 700 flights a week. 56% of these flights originate from Delhi, Mumbai, Hyderabad and Bangalore. Spice Jet focuses on a few destinations, and maximises frequencies between them. This helps the company amortise the fixed costs of setting up bases at airports over a larger number of seats. Spice Jet follows the pure LCC model used globally. This has helped it in achieving the lowest cost in the industry. Its per unit cost is 20% lower than other LCC competitors, and 40% lower than players in the FSC segment. Going

ahead, we expect the cost per unit to reduce further on account of fleet expansion, which would absorb the high fixed cost over a larger base.

Spice Jet’s strategy is to provide safe, reliable travel at low cost from point-to- point by maximising the efficiency of all resources, keeping processes simple and without incurring expenditure on components which do not support the basic function of travel.

The airline has a single aircraft type fleet, the Boeing 737-800, which allows for greater efficiency in maintenance, and supports its low-cost structure. Theairline has a fleet of Boeing 737-800 aircrafts with advanced technology and added features like blended winglets.The 737-800 is the most technologically advanced airplane in the single-aisle market. With a new wing and more powerful engines, the 737 can fly higher, faster and farther than previous models. The advanced-technology ‘Blended Winglets’ allows the airline to save on fuel, extend range, carry more pay-load and reduce engine maintenance costs.The 737-800s can spend more hours flying, as the new jets do not need to spend much time in maintenance.Spice Jet’s aircraft are configured in a single economy class having 189 seats, which is among the highest in the industry. This is possible as the airline focuses on maximum space utilisation for generating more revenue per aircraft. Spice Jet accommodates 21% more seats

than a dual (business and economy) configuration. With costs like fuel, lease, maintenance remaining same per aircraft, its per-seat costs comes down by around 20%.

The airline sells its tickets via the Internet or call centre route. This helps it bypass travel agents who work on commissions.

The mechanism also helps in reducing working capital requirements as the company receives the money in advance prior to travel. There are no receivables, and also controls bad debts. Overall it helps the company cut its distribution costs by 10% of the revenues. A carrier aiming for the lowest possible cost of operation has to develop a schedule that would give a high annual utilisation of each aircraft in its fleet.Such a policy will lower cost as the fixed costs of the aircraft ownership or lease rentals can be spread over higher quantity of output. Spice Jet has been consistently reporting high aircraft utilisation (around 12 hours a day), in line with international benchmarks. This is possible because of its high on-time performance (82% within 15 minutes) and a low turnaround time of 20-25 minutes as compared to 40-45 minutes takes by FSC. No loading of meals or complex cargo and faster check-in system helps in reducing turnaround time. Overall it reduces fixed cost absorption by 15-20%.

Ever since its launch, Spice Jet has maintained the highest load factor in the industry. In FY06, the company achieved a PLF (passenger load factor) of 86%, which declined to 78% in FY07. Heavy discounting by airlines led to this decline, even as Spice Jet continued to sell fewer tickets at very low prices.Addition of new fleet by the company and increase in the overall industry capacity also laid pressure on load factor.

The company is expected to maintain PLF in the range of 74%-75% relatively higher than industry levels of 65%.

RISK AND CONCERNS:

Rising ATF prices

Rising global crude prices result in higher ATF prices. This would impose a threat to the profitability of airlines. Over the last year, ATF prices have increased by 20%. Any significant rise in its price will impact the company’s bottom-line significantly. Also, the high tax structure on ATF needs to be rationalised so as to make Indian carriers globally competitive.

Inadequate infrastructure to have a negative impact

The aviation industry is currently facing huge infrastructure constraints. Over 40% of the passenger traffic is concentrated in the two main airports of Delhi and Mumbai. Both the airports have inadequate capacities to handle aircraft and passenger movement. This along with limited terminal capacity, increased congestion, outdated infrastructure, inadequate ground handling systems and poor passenger amenities have a great impact on the operations of airlines.Further, for a total fleet size of 310 aircrafts in the country, there are only around 250 parking bays.

Though the government has initiated plans for infrastructural developments, any delay in infrastructure development would aggravate the problem.

Availability of skilled personnel

Rapid growth in the industry has led to a sustained shortage of pilots and other trained personnel in the industry. This is aggravated by the high gestation period (more than 3 years) required for acquiring a commercial pilot’s license.The training period for a cabin crew ranges from 6 months to one year. This shortage is driving the cost of high-skilled staff. Also, the limited availability of the required ground & maintenance staff could adversely affect growth plans of the company.

 OPPORTUNITY AND OUTLOOK

The Indian aviation industry is one of the fastest-growing in the world with private airlines accounting for more than 80 per cent of the domestic aviation market. With a compounded annual growth rate (CAGR) of 18 per cent over the last 5 years, upgraded airport infrastructure at the 4 important metro cities of Delhi, Mumbai, Hyderabad and Bangalore and more investments underway to upgrade Chennai and Kolkata apart from 13non-metro airports, the domestic aviation sector is poised to continue the growth momentum.

Potential for Growth

The Indian Civil Aviation market grew at a compound annual growth rate (CAGR) of 18 percent during the last 5 years.Passengers carried by domestic airlines during the 4th quarter of FY 2009-10stood at 11.85 million as against 9.82 million in the corresponding period of 2009 –a growth of 20.6 per cent, according to the traffic data available with the Directorate General of Civil Aviation (DGCA). With the economy recovering from the lows of 2008 &2009, a sustained annual growth in the 15-16% range can be expected for the next 2-3years.This growth hinges on the availability of adequate airport infrastructure to support this pace of expansion. On this front, the Airports Authority of India (AAI) is

set to spend over US$ 1.02 billion in 2010, towards modernisation of non-metro airports. AAI is also planning the city-side development of 24 airports, including those at Ahmadabad and Amritsar. Additionally, 11 new green field airports have been identified to reduce passenger load on existing airports. With infrastructure expansion expected to keep pace with the traffic growth (except for Mumbai), the future definitely does look bright.

Road Ahead

A report from the Centre for Asia Pacific Aviation (CAPA), forecasts that by2020 Indian domestic air traffic will reach 160-180 million

passengers per annum and international traffic will exceed 80 million. Today less than 2% of Indians fly in any given year.In forecasting substantial growth over the next ten years, the report notes that India’s domestic air travel market is currently just 20% that of China. In order to meet predicted growth over the next ten years airlines will need to invest $120 billion in new aircraft and a further $20 billon in the airport sector.The Indian aviation sector is likely to see clearer skies ahead in the years to come.• The Vision 2020 statement announced by the Ministry of Civil Aviation, envisages creating infrastructure to handle 280 million passengers by 2020.

• Investment opportunities of US$ 110 billion envisaged up to 2020 with US$ 80billion in new aircraft and US$ 30 billion in development of airport infrastructure.• Associated areas such as maintenance repair and overhaul (MRO) and training offer high investment potential.

 FUTURE OUTLOOK FOR SPICEJET

Spice Jet is the only listed airline in India to declare an annual profit. In its five years of operations, the company’s practices have become industry benchmarks for best cost management, aircraft utilization, service quality and brand image.

Besides excellent flight loads in the first quarter, demand outlook for the traditionally low July-August-September quarter looks encouraging. The higher brand salience and improved brand image attributes have resulted in Spice Jet becoming a brand of choice carrying more passengers per departure than any other carrier in India.With the planned induction of 7 new aircraft in 2010-11, the Company will continue to plug the gaps in its current domestic network and increase frequency on high potential routes. Spice Jet is evaluating international destinations in the SAARC region and looks forward to even better utilization of its aircraft and increased revenues.Spice Jet is confident that the airline will make a difference to customers, excite employees to do more with less, turn vendors into our partners and create value for investors.Crude oil prices and demand will continue to determine the financial situation of the industry. Other key challenges include the weakness of the Rupee versus the US dollar (30%of airline costing is incurred in US dollars), the outsourcing policies in India, airport fees and airport/airspace congestion.

5. ROLE OF THE GOVERNMENT

The airline industry continues to look for support from the government to ensure that the domestic industry is

structurally stable and the domestic airlines are globally competitive.

To extend support to the industry by classifying ATF as ‘declared goods’ which will bring about a reduction in Sales Tax rates from the current levels of around24-25%.

Tax exemptions from fringe benefit tax, service tax on input/ output services, customs/excise duty on ATF/ other spares can help make Indian carriers more cost competitive as they look to spread their wings.

Infrastructure development is critical to the growth of the industry. However, this should lead to lowering of costs for the airlines.

A favourable outsourcing policy is critical to ensure cost competitiveness of the Indian carriers.

Increasing the FDI limits for the sector will allow funds and expertise to come into India and allow the aviation industry to mature and be more competitive.