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Air India: Will it Finally Find Its Wings?

The Air India business model, post the disastrous decision in 2011 to amalgamate it with Indian Airlines, was simply unsustainable and this was the Modi government’s only viable option to untangle the mess it had inherited.

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The Air India privatisation was one of the most keenly awaited events on India’s economic calendar, as will be BPCL for a host of reasons which are fundamental to the India story. To understand the full import of the Air India divestment it is necessary to open the annals of history of a similar highly contentious divestment of Lufthansa in the mid-1990s. This was achieved in a difficult political environment which tested the determination of Helmut Kohl when Germany was faced with the costs of reunification and their traditionally fierce sense of nationalism for public sector assets which had prevented Lufthansa’s privatization in 1985. Prime Minister Modi faced similar challenges and the Air India divestment now provides a definitive view on the government’s will to make it a success.

The ultimate success of any major policy rests primarily on gauging its policy intent, its execution and overall implications across a broad set of parameters. Privatisation has been accepted by governments in both advanced and developing nations for a wide range of reasons. Classical privatisation theories focus on the role of ideological viewpoints, economic theory, fiscal compulsions, and forces of globalisation. A deep study of Lufthansa indicates that it was neither ideological preferences (unlike in the UK led by Thatcher’s conservatism) nor classical economic theory of principal - agency costs which led to its privatisation. It was instead a combination of a budgetary crisis – precipitated by massive costs of unification with East Germany post the fall of the Berlin wall – and severe competition in the global airline industry which prompted the political establishment to consider privatisation of Lufthansa as the last desperate policy option. 

In my view, the Air India divestment is precisely for the same reasons. The Covid pandemic has devastated our macro-economic situation and the federal balance sheet. The Air India business model, post the disastrous decision in 2011 to amalgamate it with Indian Airlines, was simply unsustainable and this was the Modi government’s only viable option to untangle the mess it had inherited. Its ideological right wing stance has no major role in this, though in the absence of any credible Left-ofCentre Opposition, the decision is much simpler politically this time around. 

There are two major differences though in approach which were intrinsic to the ultimate success of Lufthansa, and which should be the overarching objective of the Air India divestment too – to make Air India a financially viable entity and not merely to somehow get it off the government’s books. 

First, Lufthansa’s divestment plan by its Chairman, Jgrden Weber was a thoughtfully crafted strategy which had three distinct legs – rationalisation, privatisation and reorganisation with each phase dependent on the success of the preceding phase. The privatisation was conceptualised on a high share price which was predicated on its financial health prior to privatisation – and hence the need for a sweeping rationalisation pre privatisation – and finally reorganisation post successful privatisation to ensure its ongoing competiveness in the global airline industry, and therefore its long- term feasibility as a commercial entity identified with German national pride. 

Rationalisation being the first step required, very difficult decisions of workforce reduction, wage cuts, route consolidations, cost reductions, revenue maximisation and new international alliances with profitable airlines. The remarkable feature of the highly successful rationalisation programme was that it was achieved within the constrained German model of industrial relations and the social contract between management and labour as embedded in their core philosophical framework of consensual negotiation for corporate decision making through works councils. 

Air India has not had the benefit of any such fundamental interventions either by the government or its appointed management. Labour unions and their concerns on retrial benefits and compensation packages have not yet been formalised in the public domain. Taking unions, including pilots, along in this process is a key determinant of success  as it is imperative to demonstrate that privatisation would not result in the shift in the balance of power between management and labour but should be viewed as a necessary compromise arising out of mutuality of interests in saving Air India from the crisis of bankruptcy due to its uncompetitive business model. Steps like wage freezes, overtime pay rationalisations, longer working hours, early retirement, and workforce reductions are contentious issues which ideally should have been dealt with before privatisation was attempted. 

Secondly, it is pertinent to note that Lufthansa took a series of fundamental steps preprivatisation (apart from workforce related) as part of its rationalisation exercise. These included cut in capital spending, sale of its entire Airbus fleet and Boeing 737 fleet, reducing the age of the remaining fleet to just 5.4 years to facilitate huge financial gains through fuel efficiency and deinventorised spare parts. They also sold their stakes in non-core assets like the Kempinski and Penta hotel chains, sold corporate offices and leased back their corporate headquarters. On the revenue maximisation side, new strategic alliances were stitched up to open access to newer lucrative markets of Asia and North America, access to profitable but protected domestic markets, pooling of resources to spread costs and risks of new investments, route consolidation of unprofitable routes, introduction of low-cost services to domestic destinations, restructuring first class offerings to favour an expanded business class, etc. These resulted in Lufthansa demonstrating a profitable business model pre- privatisation which then resulted in higher valuation and huge interest from global investors for the privatisation offer. 

The principal factors responsible for Air India’s financial crisis are well known: competitive air traffic globally with far lower cost structures, over investment in assets, inadequate asset sweating, large conventional overhead structure, giving up lucrative international routes in the Middle East to specific private operators in the early part of the last decade, unprofitable domestic routes, bloated staff, low productivity, etc. The financially paradoxical position which faces Air India is its need for external capital to destress its balance sheet in the absence of significant measures to restructure the company to make it fundamentally competitive. This is the core reason why, despite a world with massive liquidity and abundance of investible capital, Air India’s divestment has not seen interest from even one international player. The Tata’s bid, therefore, must be seen in this context and one can only wonder if this is not yet one more of the Tata’s “emotional” and value destructive acquisitions like Corus, or JLR! 

The fact that Air India continues to have a massive aero political network, including valuable landing rights, bilateral arrangements and alliances, is a fact acknowledged by its competitors. However, despite the giant strides made by India in going global since the mid-1990s, Air India missed the opportunity of getting its legitimate share as the national carrier due to poor managerial decision making associated with a lethargic and unaccountable bureaucratic governance structure controlled centrally by babus in Delhi. This is not peculiar to India though, as it is well established that state control over industry distorts incentives for performance, and public sector managers display the classical moral hazard problem of being shielded from the economic consequences of deficient outcomes, and the well-known principal – agent problem of remaining unaccountable to its shareholders ( i.e. taxpaying citizens ). 

Air traffic exploded since 1995 globally and the likes of Emirates, Qatar Airways and Ethihad expanded their fleets from two and zero respectively to 250 plus and 100 at last count. Air India, including the domestic airlines, is below 125 even today with around 50 for the 40 international locations it services. Hence, as with Lufthansa, if all participants cooperate, the value creation possible by reengineering Air India’s business model is immense in both scale and scope.

India has probably at last recognised that the original policy justifications for nationalisation of Air India, and the necessity for tight state control – being strategically crucial for considerations of security and industrial policy – are outdated concepts the world recognised in the early 1980s with the advent of Thatcher, and the steady reduction of the public sector globally since then, in a concerted attempt to reduce the role of the state in the economy. 

For the airline industry the defining moment, which precipitated changes in the global market and eradicated justifications for state involvement in the airline industry, was the deregulation of the US skies in 1978 which compelled a competitive response by the UK and then France post 1985, and finally Germany in 1995, with respect to privatising its national carriers. 

How the divestment finally works out will determine the ultimate success of whether Air India will flourish and regain its pride of place as it did as our national carrier. This will also establish that privatisation can never be an end in itself for Air India but a part of an ongoing process to re-establish its competitiveness in the global airline industry. From a broader perspective, the government’s divestment programme, and especially privatisation, will remain the most perceptible, enduring statement of its intent to redraw the boundaries between the state and the economy and commence on a sustainable process of fundamentally changing the methodology for efficient allocation of public capital and driving accountability to its ultimate owners, ie. the Indian citizen. 

The Air India privatisation will impact Air India, the airline industry and the successful bidder for sure – but will also be a beacon for the times to come for our public sector economy! 

The Modi government can be faulted for many issues but its deft handling of untangling some historical Gordian knots in the economy must be acknowledged. Post telecom, coal and power it is now the time for redefining the role of the public sector in general, and Air India’s privatisation is a powerful message if handled as well, and as comprehensively, as Lufthansa.

Disclaimer: The views expressed in the article above are those of the authors' and do not necessarily represent or reflect the views of this publishing house. Unless otherwise noted, the author is writing in his/her personal capacity. They are not intended and should not be thought to represent official ideas, attitudes, or policies of any agency or institution.

Prabal Basu Roy

A Sloan Fellow from the London Business School, Director and Advisor to Chairmen of corporate boards, the author has formerly been a Group CFO in various companies.

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