Wide ranging discussions underline the degree of shortfall between the funding available and the money needed to restore the sector (2,141 words)

Published: 9/26/2001

The Russian aerospace and air transport industry was out in force on 24th September as the Duma committee for transportation held wide-ranging hearings into the future financing of both the aerospace industry and the air transport sector. The discussions precede the final votes on the 2002 budget and according to Yury Koptev, Director General of the Russian Aerospace Agency (RAKA), should establish an understanding of the situation within the industry. The session touched on a variety of issues and rehashed some of the recurrent themes of the sector in Russia: too little money for both the producers and operators and everyone, to varying degrees, struggling to survive, even if the airlines or at least the largest of them, have a slightly more favourable outlook. Presentations were made to the committee by Koptev and Karl Ruppel, the Deputy Minister of Transport and the Deputy Head of GSGA, along with representatives of the aerospace industry, airlines and aviation organisations. Opening the assault on the government's level of support to the industry was Koptev, who claimed that the current $72m allocation in the budget for the aerospace industry is "like pouring a little water onto a big fire". He urged the Duma's members to take heed of RAKA's and the industry's calls to increase state aid to the industry by understanding its current condition and urgent financing requirements. According to Ruppel, the GSGA believes that the state should focus its support on a small number of programmes, although the list appears to be pretty comprehensive with little focus of what would actually be viable: · Il-96-300, Tu-214, Tu-204 as long-range aircraft · Tu-204 and Tu-234 (shorter fuselage Tu-204) as medium-range aircraft · Tu-334 (now undergoing certification tests) as short-range aircraft · Tu-324 (prototype currently being built at KAPO) as a regional aircraft Ruppel said the GSGA believes that priority should be given to regional aircraft and in Q4 the government plans to discuss how to help interregional transportation, addressing specifically the issue of ageing fleets of fuel inefficient aircraft, including the Mi-8 and Tu-134. These two aircraft, in particular, are causing regional routes to be closed by airlines, unable to sustain the heavy losses incurred as a result of a combination of low traffic and high operating costs. Air Transport Ruppel said that Russia now has 284 airlines, operating 6,085 aircraft. In terms of customers, the bulk of the market has increasingly consolidated, with almost 90% of traffic attributable to 30% of the airlines: a trend that the GSGA and its predecessor, the FSVT, has sought to encourage since 1998, with an average annual reduction of 25 airlines for failing to meet federal standards. Ruppel added that, in the period January-June, the airlines reported a total profit of Rb 5.1 billion ($170m) under Russian Accounting Standards (RAS). Even so, 30% of the airlines still recorded losses, with the implication that, if the companies had reported under the less generous International Accounting Standards (IAS), this percentage might double. Despite the relatively poor performance of the sector, in terms of profitability, Ruppel was encouraged that, in 2000, the industry had its best top line performance since 1990. He asserted that this trend would continue in 2001 and cited the GSGA's expectation that the airlines would carry 24m passengers and 540,000 tonnes of cargo in 2001: an increase of 11% and 9.2% respectively on 2000. Ruppel attributed the recovery in volumes to the measures taken by the GSGA and Ministry of Transportation to halt increases in tariffs. In 2000 tariff increases averaged 114% in ruble terms over 1999, compared to an increase of only 19% in the period between January-June 2001 over the same period in 2000. He observed, however, that the average fare, at $125, is 23% more than the average Russian monthly salary, making air transport largely unaffordable for most Russians compared with the early 1990s, when average fares represented 12% of the monthly wage. Some elements of Ruppel's statements ring true, but his comments on the cost of fares in terms of the average wage, are less convincing, given the Russian practice of paying large portions of employees' wages outside of the reported tax system. He also appears to ignore the recovery in Russian real wages since the disaster of the 1998 financial crisis: a recovery that has kept real wage growth in the range of 8-10% over the last 18 months and has seen rises in disposable income above 15%. The minister has also taken a little too much credit for the slowdown in fare rises, since one of the major drivers of prices in the 1999-2000 period was fuel price hikes. In addition, Ruppel ignores the fact that the liberalisation of transport tariffs on the railway system, the airlines' major competitor, has eroded the price differences between the two, so increasing airlines' competitiveness. Commenting on the ability of the airlines to finance new aircraft, Ruppel made the observation that even the airlines' combined profits of $177m plus depreciation of $31m would barely cover the cost of replacing aircraft, given the price of a new Il-96-300 at $45m or Tu-204 at $20m. He considers that the fleet remains a substantial problem for many, both in terms of competition with airlines with more modern and efficient fleets and also in terms of the encroaching impact of the implementation of ICAO and other aviation bodies' regulations relating to pollution, noise and equipment. Ruppel says these regulationshave already forced Russian aircraft back into the domestic market. In April 2002, the introduction of the new ICAO third round of environmental regulations, may mean that Russian airlines will have to ground 1,611 out of 2,059 aircraft currently used on international routes. Ruppel said that potentially 241 out of the 1,611 could be upgraded to meet the regulation through the installation of sound reducing panels, but he claims that the Europeans are reported to be against the acceptance of such modification as a means of compliance. For the balance of the fleet - particularly the Il-86, Il-76, and Tu-134, the standards can only be met with the replacement of current engines. Ruppel says this is a prohibitively expensive process, given that engine replacement on an Il-76 can cost $13-15m and on a Tu-134, $5-6 m. Since many of these aircraft are approaching their end of frame lives, the economics of such an overhaul has prompted the Russian authorities in the form of Alexander Neradko, head of the GSGA, to discuss a more liberal approach with the ICAO secretariat in Montreal. The potential ramifications of the rigid applications of the new regulations could be dramatic in a sector that currently operates only 26 new aircraft (11 Il-96-300, 14 Tu-204 and 1 Tu-214) which meet the new regulations and a financial environment in which, at least in the short term, few airlines can muster sufficient capital to acquire new aircraft without leasing being available. The recently announced government guaranteed structures are in the early stages and, according to Ruppell, still require substantial changes in the legal system to be totally effective. Victor Livanov, General Designer of the Ilyushin Design Bureau, stated that the reform of the laws governing leasing should be made "as soon as possible": particularly the requirement to obtain notary registration of an aircraft that costs 1.5% of the value of the aircraft value. Livanov believes this sum is a disincentive for leasing companies to acquire aircraft, given the high costs involved. Commenting on the recent leasing tender, Igor Leiko, President of Leader Group, reiterated his previously stated concerns over how the tender was conducted and Leader's failure to win, despite putting up what Leiko considers the most competitive bid, asking for only $10.6m for interest rate subsidies, in contrast to the substantial capital sought by Ilyushin Finance and Financial Leasing Company. He added that, while Leader still had to find its investors/financiers, while the others had been provided with a large proportion of the required capital by the government, the return on investments from its project would be significantly higher and quicker than that of Ilyushin Finance and Financial Leasing Company. He said that the state had recommended that the Ministry of Transportation assist Leader, but the ministry did not have the resources to do, hence his direct appeal to the Duma. Safety On the issue of safety, Ruppel commented that the 18 accidents involving Russian airlines in the first eight months of the year had seen six fatal crashes with the loss of 172 lives: a marked deterioration on the same period in 2000. Ruppel largely attributed this worrying trend to pilot error and said that the GSGA was therefore focussing on improving pilot training and checking the skills of those currently operating. As a result of this procedure, due to finish in November, 20 airlines that have failed to make the grade have had operating licences suspended. According to Ruppel, the low pay of those responsible for the enforcement of regulations has meant that it is difficult to find people to do the job and also those who are employed are vulnerable to bribery from unscrupulous operators. He said that the state must consider spending more money for staff to ensure both independence and high standards. In terms of the current condition of the aerospace industry, Koptev reported that only 22% of the industry's capacity is currently utilised. In contrast to the 500 aircraft produced by Airbus and Boeing, Russian plants are currently building less than 20 aircraft per year. He also commented that state aid to the industry as currently proposed was "wholly inadequate", with the Rb2 billion ($70m) derisorily low. "For Rb2 billion, Russian plants can build 1.5 aircraft". Koptev added that, when Airbus develops aircraft, it gets state support, with the partner countries in Airbus providing 100% of the A-300 development, 90% of A-310 and 75% of A-320 with continuing assistance for the A-380. By contrast, the Russian aviation programme, with Rb150 billion funding, only provided 21% of the sum actually needed. Alexander Inozemtsev, General Director of Aviadvigatel, also expressed concern that the funding available would not allow the designer to continue with the essential development of the PS-90, particularly if the funding turned out to be 10% of the requirement under the last aerospace support programme. Foreign Cooperation Livanov said that the government should also seek to change legislation relating to cooperation with foreign companies and that, despite recent comments from President Putin encouraging cooperation, the law as it stands prohibited the Ministry of Defence from providing support to a programme with a foreign partner, as Ilyushin has, he says, found in the development of the Il-214 with India. Airlines Valery Okulov, General Director of Aeroflot, testified at the hearing and reiterated his oft repeated comments that one of the biggest problem for his airline is a lack of economically viable regional aircraft, given that the Tu-134 and An-24 fleet is reaching the end of its useful life. This comes at a point when the airline is eager to develop both its regional networks and hubs. According to Okulov, in order to meet the demand from its own plans the airline has a requirement for 60 long haul and 150 regional aircraft, returning the market to 1990 passenger levels by 2025. For the industry as a whole, Okulov estimates that the requirement in the period 2001-2015 is for 1,095 aircraft, including 310 of 75-120 seat aircraft, 310 of 51-80 seat aircraft, 215 of 26-50 aircraft, 260 of 19-25 seat aircraft. Commenting on the recent terrorist atrocities in the US and its impact on the airlines in Russia, Okulov said that demand had fallen by 10-20% and the airlines were in the process of being hit by consequent costs resulting from increased security and insurance. Flight Crew Miroslav Boichug, Head of the Pilots Trade Union, said that age was the major problem for flight crew with the bulk of pilots aged over 40 and the average age of a captain standing at 45. Boichug also identified low salaries as one of the reasons that young people were not becoming pilots, although he did concede that the range of salaries across the industry was very wide. His suggestion for improving the situation was to enforce a minimum wage across the industry as already set out by professional code, but not necessarily being enforced all operators. He pointed to the potential enforcement of the voluntary code being provided by a Duma amendment to the existing labour code. At the end of a session revealing so many discrepancies between theory and reality, Boichug also made the observation that even providing adequate finance to build aircraft was only realistic if pilots were actually available to fly them.

Article ID: 2775