Fuel Costs Threaten Smaller Airlines

VedomostiA Sky Express plane refueling. Rising prices for jet fuel may allow large carriers to buy up their smaller competitors.
The economy and state coffers may be bulging from sky-high oil prices, but the soaring cost of aviation fuel could soon drive some of the country's smaller airlines to the wall.

Over the last 12 months, the price of airplane kerosene in the country has shot up some 125 percent — driving up ticket prices, devouring airline profits and putting dozens of smaller airlines at risk of bankruptcy.

In the last six months alone, 24 airlines around the world have gone bankrupt, according to the International Air Transport Association, or IATA. "After enormous efficiency gains since 2001, there is no fat left, and skyrocketing oil prices are changing everything," IATA chief Giovanni Bisignani said in a statement last month.

The fear is that Russian carriers could be next, particularly as many of them rely wholly or in part on fuel-inefficient Soviet-era aircraft.

The average price of airplane kerosene is expected to rise to 37,000 rubles ($1,560) per ton in June, more than double the 16,250 rubles ($620) from a year ago, according to figures provided by Yevgeny Ostrovsky, CEO of Airport Fuel Supply Trading House, which supplies most of the airplane fuel for Moscow's airports.

Some other airports around the country have already passed that figure, however, with kerosene at Yekaterinburg's Koltsovo Airport costing 37,194 rubles per ton, including taxes and service costs.

Further price hikes could push airlines that use Soviet-era planes, which guzzle up to three times as much fuel as modern Boeing or Airbus planes, to the edge of bankruptcy, said Oleg Smirnov of AviaFond, an independent fund created to help prop up flagging airlines and develop aviation infrastructure.

"Bigger airlines are replenishing their fleet, replacing Tu-154s and Il-96s with Boeing-737s. This gives them fuel efficiency savings of up to 200 percent," Smirnov said.

As there is a general shortage of airplanes in the country, however, these changes cannot take immediate effect, airline representatives said. Thirty-two of Aeroflot's 85 planes still date from Soviet times. S7, though expecting six new Airbus planes by the end of the year, has not done away with its Tu-154s either, and are charging more on routes that use them, S7 representative Irina Kolesnikova said.

"Fuel is one of the biggest costs for airlines, and one they have no control over," said Marina Bukalova, director of low-cost airline Sky Express, adding that the share of fuel in total costs shot up from 24 percent to 35 percent just last month. Sky Express, which started up last year and flies Boeing-737s, was offering promotional fares of 500 ($21) rubles a year ago but has now raised its lowest ticket prices to 1,000 rubles ($42). In addition, to cope with the higher fuel prices, it has tacked on a fuel surcharge of another 1,000 rubles, bringing its minimum ticket price to 2,000 rubles ($84).

Such fuel surcharges can even exceed the price of the ticket in some cases, travel agencies said.

"Customers are shocked when they find out their 1,000 ruble ticket has a 2,000 ruble fuel surcharge," said Narine Arustamova of UTE Megapolyus, a Moscow-based tour operator.

But while airlines are under commercial pressure to pass on the extra costs to customers, increased competition on some of the country's more popular routes is restricting ticket price hikes — for now.

"Prices would be falling right now if it weren't for increased fuel costs," said Vadim Dolev, a representative of airline Vim-Avia. "Because of competition, we are keeping prices the same, and the extra cost is being borne by the airlines." The airline, which operates many peak-season charter flights, has raised its prices for vacations booked through tour operators more steeply than for travelers they deal with directly, Dolev said.

Business routes and popular destinations do not appear to be affected to the same extent as quieter routes where fewer airlines compete for passengers, travel agencies and analysts said.

"Prices only went up by about 10 percent for flights within Russia," said Yelena Semiletova of Aeroclub, a booking firm that works with large corporate clients.

While airlines declined to give exact figures for average ticket price hikes since last year, they appear to be making up the cash on smaller regional routes where they have less or no competition. On KrasAir's web site, the cost of a five-hour flight from Krasnoyarsk to Moscow on July 3 was as low as 5,500 rubles ($230), while a flight the same day from Kazan to Norilsk, which is under four hours, is at least 12,000 rubles ($500). S7 charges just under 8,000 rubles ($335) to fly from Moscow to Novosibirsk, but 13,000 rubles ($550) to fly a similar distance to Semipalatinsk, where it is the only carrier.

Pavel Strokov, marketing director at Kortes Information Center, which monitors the aviation market, said many smaller airlines are currently in a critical state because the fuel price hikes came after they sold most of their peak-season tickets. "Small airlines are currently experiencing cash-flow problems because they have to dip into their revenues to pay for fuel," Strokov said.

AirUnion, an alliance of five airlines that was last month incorporated into Sergei Chemezov's sprawling state corporation, Russian Technologies, is particularly vulnerable. It flies only Soviet-era planes, and has already accumulated $3 billion in debt over late fuel payments.

Many suppliers say they are running out of patience.

"Oil companies have met to discuss plans to reduce the production of kerosene, because some consumers of aviation fuel are not paying," said Ostrovsky, the fuel trading house director.

One side effect of the soaring fuel prices could be that the bigger airlines get the chance to gobble up cash-strapped smaller rivals, hastening consolidation in the industry, said Natalya Vodnyova, an aviation analyst with UFG.

Larger airlines are also looking at a variety of cost-cutting schemes.

Konstantin Tyurkin, a spokesman for Transaero, said his company had been able to stem rising fuel prices by "using forward contracts with its fuel supplier, which helps us to hedge fuel-related risks and remain profitable."

Apart from striking deals directly with oil companies for bulk delivery, the bigger domestic airlines now maintain storage facilities for fuel at major airports, a luxury that small airlines find it difficult to afford, said Fyodorov, of Alfa Bank.

In another, worrying trend, larger airlines have been lobbying the Transportation Ministry to for permission to increase pilots' flying time from 80 hours to 90 hours per month, and from 800 hours to 900 hours annually.

And given the country's aging pilot population, such increases in flying hours could seriously affect safety, according to pilots' union representatives.