King Goyal: The Sahara deal makes him the biggest operator

As it turned out, the King of Indian Aviation, Naresh Goyal, never really let Air Sahara go off his radar. So on January 18, four months after dealmakers from Ernst & Young first made the pitch to him, the Jet Airways Chairman signed the all-cash deal to buy the rival airline for about $510 million (Rs 2,295 crore), turning his 13-year-old airline into the biggest domestic player, with Rs 5,750 crore in combined revenues and a fleet of 80 aircraft, doing a staggering 426 flights a day (that's one every three minutes), ferrying 39,500 passengers. By contrast, his closest competitor, the state-owned Indian, has a fleet of 70, 330 daily flights (including 50 international), translating into 26,000 passengers flown every day. Little wonder, a visibly happy Goyal told reporters at a press conference in Mumbai that the deal "will give us economies of scale, reduce cost of operations and grow revenues and profitability".

The previous evening, January 18, Goyal and his team-comprising Executive Director Saroj Datta, non-Executive Director Victoriano P. Dungca, Auditor Rajesh Chaturvedi, lawyer Rustam Gagrat, and former board member and adviser T.N.V. Aiyyar-boarded Sahara Group supremo Subrata Roy's personal jet to Lucknow airport, from where they were ferried by car to Roy's sprawling residence-cum-office at Sahara Shahar in the city. According to sources present at the event, the deal was signed between 8.30 p.m. and 9.00 p.m. Goyal, 56, and his team reached Mumbai at half-past-one next morning, and by 9.30 a.m., a Jet board meeting was underway at Goyal's seventh-floor apartment on Altamount Road to approve the deal.

There's no doubt that an additional 12 per cent market share is nothing to sneeze at. Yet, sheer fleet size or market share may not be what got Goyal interested. There are two major reasons why he may have decided to push the throttle. One is the precious airport infrastructure, manpower and international licences that Sahara has: 22 parking bays in four to five different airports, a 32,000 sq. ft. hangar in Delhi, and 260 pilots, all of which are in great demand (but in short supply) due to the current boom in the industry.

But the other reason goes by the name of Vijay Mallya. The liquor baron and Chairman of UB Group, who entered the aviation business about a year ago with a "value carrier" Kingfisher Airlines, was until recently a serious contender for Sahara. Mallya vaulting to the #3 position on the back of Sahara would have been a problem for Goyal, who's already facing the heat from low-cost carriers such as Air Deccan and SpiceJet. Agrees a Mumbai-based analyst: "Jet couldn't have let Kingfisher walk away with Sahara and emerge as a dominant competitor in such a short span of time." Ravi Nedungadi, UB's CFO and a trusted Mallya lieutenant, admits that was indeed the broad strategy: "We looked at Sahara to see if it could hasten our expansion in the market."

Sahara supremo Roy: Out of the aviation business

Flying International

For Jet and Kingfisher, there was another important asset that was embedded in Sahara: Its licences to fly five international destinations comprising Colombo, Singapore, Kathmandu, London, and Chicago. Jet already has licences for six overseas destinations, including Singapore, Malaysia, Thailand, Hong Kong, the UK and the us, but Kingfisher will have to wait another four years before it becomes eligible to fly abroad. With Sahara in its bag, Jet becomes the only Indian private carrier that will fly international routes for the next three years. The us may elude Jet still. An American company, also called Jet Airways Inc., has blocked the Indian carrier's entry, citing trademark infringement. Besides, the us government is reportedly looking into Jet's ownership structure, since Jet Airways Inc. has also alleged that the Indian airline has links to Al-Qaida.

Why are international sectors so valuable? According to some back-of-the-envelope calculations, a 220- or 230-seater plane flying between, say, Mumbai and New York with a capacity utilisation of 70 per cent can rake in $100 million (Rs 450 crore) in revenues a year. More importantly, notes Air Sahara's Vice President (Marketing) Alok Sharma, "international routes give 1.7 to 1.8 times better margin than domestic routes." Why? Apart from local taxes, which are significant, an aircraft's overheads do not rise in proportion to the distance travelled.

Compared to international carriers, the Indian players have another major advantage: lower wage costs, not just of air crew, but ground staff and the entire supply chain. Jet, therefore, can afford to offer lower fares and yet make profits. According to a Jet official, 40 per cent of the combined entity's revenues could come from international operations by 2009-10. Says Subhash Goyal, Chairman, Stic Travels: "About 75 per cent of outbound and inbound international passengers to and from India use non-Indian carriers. So the opportunity is immense." Jet is gearing up for a big international push in 2007, when it will start taking deliveries of wide-bodied aircraft: 10 Boeing 777-300s and 10 Airbus 330-200s. When BT went to press, it wasn't clear if Sahara's international licences would automatically be transferred to Jet, although that is clearly the calculation the acquirer is making: a third of Sahara's valuation is actually for its international routes.

What Can Go Wrong?

Even as Goyal went about putting the lid on the deal, his detractors were busy making a case for blocking the merger. Political parties like the RSP (in specific its member Abani Roy) and the Left Front raised an assortment of concerns, ranging from possible monopoly to investor and consumer protection. At press time, it wasn't clear if these issues would snowball. What was clear enough is that without his rivals adding to his problems, Goyal had enough things to worry about in making the merger work.

Take the valuation to start with. The deal price of $510 million-itself whittled down from an initial asking price of $700 million (Rs 3,150 crore)-means that Jet has valued Sahara in line with its own valuation. Some analysts, like SSKI's Nikhil Vora and Shiladitya Dasgupta, feel that "Air Sahara's operations are not as efficient as Jet's and, secondly, Jet's valuations are significantly higher (17 times earnings) than valuations for full service carriers globally (which are 10-12 times earnings)". Adds UB's Nedungadi: "We made an offer based on our understanding of the worth. It was significantly lower than the current deal." Disagrees Jayesh Desai, E&Y's National Director (Transactions Advisory Services), and the deal lead: "It's a steal at the price Jet got Sahara."

Analysts Vora and Dasgupta, who maintained their underperformer rating on the stock soon after the announcement, say that mere addition to capacity will not provide competitive edge because "Jet is not significantly adding new routes. Frequency on a number of routes will overlap" meaning that the 12 per cent addition to Jet's market share may not be simple arithmetic. Besides, the two analysts say that "managing costs and not market share is the need of the hour". Another hurdle could be getting the diverse cultures to work together. Jet has always been more professional and "western" in its outlook, while Sahara follows a "parivar" approach that is more benign. That means, on the one hand, getting Sahara's air hostesses to switch from sarees to short skirts and, on the other, sorting out seniority issues of pilots.

Jet's acquisition also comes at a time when key executives are leaving. Peter Leuthi, Jet's coo of about three years, will retire at the end of April this year, and the airline says it has no plans of filling his position. Possibly that's why it has asked some of Sahara's top managers, including President Rono Dutta, to stay on.

When BT went to press, Goyal was in the process of putting together an integration team (possibly headed by his wife and operations in-charge, Neeta) that would oversee the merger over the next four to five months. And the Jet stock was down to Rs 1,125 on January 20 from Rs 1,160 the previous day, when the deal was announced. A day later, Jet reported a 53 per cent drop in third-quarter net profit to Rs 61 crore.

Goyal, though, is no stranger to either criticism or controversies. More than a decade ago, when he sought to make the leap from a general sales agent to an airline owner, there were enough people who laughed. But Goyal did not just launch an airline that set the benchmark for customer service, he survived repeated controversies over ownership of Jet to grow from strength to strength.

Today, when he seeks to consolidate his grip on the booming airline industry, there are sceptics too, and possibly he'll prove them wrong as well. Except that this time around, his stakes are much higher. Besides, the underdog of yesterday is today Enemy #1-at least of all rival airlines.