The collapse of the Air Sahara valuation in a few months should be a publicly debated case study

Sucheta Dalal

Jet Airways has extended the validity of its share purchase agreement with Sahara Airlines by 90 days in a bid to salvage the deal that would have catapulted it to an unassailable and dominant position in the domestic airline industry. However, questions still remain about whether it will be able to force down the acquisition price based on its discovery of large, undisclosed liabilities at Sahara.

The turbulent acquisition raises questions about the role of top accounting firms and regulations that allow airlines to operate in a high-cost and high-security business without transparency or financial disclosures. Remember how Air Sahara’s high-spending ways and its public posturing was punctured when an Ernst & Young (E&Y) valuation indicated big blotches of red in its books? That report, apparently, did not tell the whole story. Clearly, Vijay Mallya’s advisors did a better job at questioning and scrutinizing E&Y’s valuation than the Jet people. The flamboyant Mallya declined to acquire Air Sahara and went on record to say that he found Sahara’s price expectations unrealistic.

The fault, however, lies with the government that allowed Sahara to operate for so many years, despite nagging questions about its funding, without a balance sheet ever being available in the public domain. Those who attempted to get it from the registrar of company affairs drew a blank, reflecting the state of the ministry’s record-keeping. My own attempts to get a balance sheet from the company were also turned down by Air Sahara’s PR team. In fact, just before the airline was put up for sale, I was told that a massive restructuring exercise was on and the airline’s past would be no indicator of its future. Surely, potential buyers were not sold a similar line?

Remember how Air Sahara’s enterprise value was initially pitched at a billion dollars? In September 2005, Sahara’s high profile president, Rono Datta, had asserted to a newspaper that,‘‘initial estimates by Ernst & Young have put our enterprise value between $750 million and $1 billion, and not the meagre $300 million.”

Suddenly, in March 2006, even the $300 million is looking exaggerated. One business newspaper says that Jet wants the price dropped to $272 million, while my sources, privy to some details, say that the real value of the airline could be even lower. What is clear is that no credible numbers are available, despite the mediation of a high-profile accounting firm. Isn’t it ironical in India that the tax department puts individual payers through a virtual wringer during the detailed scrutiny, but a large airline operation with a fleet of 26 leased aircraft and flying 123 flights a day has never been asked tough questions or revealed its published accounts?

• How do airlines operate for so long without transparency on finances?
• How did a leading accounting firm go so wrong in its valuation probe?
• We need to look anew at the regulations which allowed such a data haze

As a private company, Air Sahara is not obliged to give out correct information or be accountable for its public statements. For instance, although it was known that the airline was up for sale, the Group insisted, right until the Jet deal, that it was only looking at a “strategic alliance” or selling a “small equity stake.” In fact, a report in the Financial Times of London said as recently as January 20 this year: “Mr Roy (Subroto Roy, chief of Sahara) has come under pressure to dispose of the carrier, even though it was close to breaking even this year with revenues of Rs 21 bn ($475 m), according to advisers.”

Knowledgeable sources tell us that E&Y’s valuation either left out or glossed over several important issues, such as “compensations to be paid if wet leases are ‘transferred,’ reduction in value of airport space allocation (since the government has made it clear that it will not automatically transfer these to Jet), a golden parachute for President Rono Dutta (estimated to be run into millions of dollars), as well as unrecorded liabilities and irrecoverable advances, mainly to group companies.”

While the Jet-Sahara deal is on the rocks, the valuation of the loss-making Air Sahara at $750 million by a leading accounting firm and the dramatic collapse of that valuation in just a few months ought to form a publicly debated case study for finance students.

Where does the Jet-Sahara deal go from here? Although Jet Airways has bought itself three months for negotiations, there is no reason to believe the deal will eventually go through. However, one possibility is that Air Sahara may end up as a 100% Jet subsidiary operating in the budget segment and competing with Kingfisher, Go Air and Air Deccan. But some aviation experts believe that this will be too a high price to salvage the deal. Pointing to the Kingfisher example, they say that Jet Airways would do better to start a new budget airline from scratch. This would allow Jet to choose its aircraft, instead of adapting Air Sahara’s existing fleet and will avoid the more sensitive and thorny issue of dealing with Air Sahara’s highly paid pilots and engineers. Especially since Air Sahara currently does not give Jet any special synergies in terms of route network or new destinations.

Clearly, Jet will have to use the next three months to evaluate the deal very carefully. After all, it is losing market share to rapidly growing budget airlines and its load factor has also dropped. It is always easier to jettison a bad deal than to work on a salvage operation that chokes the time and energy of senior management.

URL: http://www.financialexpress.com/fe_full_story.php?content_id=121690