Balancing Act

Royal Jordanian is preparing to face both competition and privatisation. As Samer Majali, president & CEO of RJ, explains, the carrier needs to ensure that losing its monopoly does not mean that it loses its value to potential shareholders.

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By  Neil Denslow Published  October 11, 2004

|~|majali_m3.jpg|~|Samer Majali, president & CEO, Royal Jordanian|~|Royal Jordanian is sat on the horns of a dilemma. The Jordanian government is set to both privatise the carrier and also throw open its skies to competition in 2007. However, while open skies promises long term benefits to RJ, which would increase its sell off value, the short term impact of a surge of competition could blow the carrier away.

“We are all agreed that in the medium and long term, [open skies] is very beneficial to Jordan in terms of getting more carriers in, driving prices down and getting more tourism in,” says Samer Majali, president & CEO, Royal Jordanian. “However, there needs to be a balance between maintaining a value for Royal Jordanian in order to privatise it versus moving towards a liberalised regime in order to be of benefit to Jordan… and also to be in line with the WTO,” he adds.

Striking this balance is critical for RJ, and for other regional carriers heading towards privatisation, as a number of airlines based in richer countries are looking to benefit from free markets elsewhere. “There is major pressure from the Gulf carriers to have open skies, but how can you ensure there is fair competition with carriers that have a national and single carrier agenda?” asks Majali.

In Europe and elsewhere, fair competition in aviation is enforced by general inter-state bodies, such as the European Court of Justice. These organisations have created general competition rules, including those governing subsidies, which can then be applied to airlines. However, in the Arab World, there is no such supranational body and no general competition laws that would ensure fair competition in the region’s skies. “We [Arab airlines] are facing the pressure of liberalisation and open skies — by virtue of national policy or from countries joining the WTO — before the groundwork has been set for general economic cooperation and the creation of a mechanism for addressing unfair competition,” says Majali.

As there is no movement by Arab governments to create an equivalent to the European Court of Justice, Majali says it is up to the aviation industry to come up with a means of ensuring fair competition in parallel to the introduction of open skies. RJ is asking the Jordanian CAA to begin this process when it starts renegotiating bilaterals from next year. The carrier wants the bilaterals to allow both countries’ airlines to fly at least a daily service to Amman as a first step towards full open skies. “This would allow the potential of linking Jordan with every Arab capital and major city with at least a double-daily service,” notes Majali. “In certain cases we have more than that [already] but we think this would be a major move.”

Alongside this however, the bilaterials would also include competition rules and an adjudication mechanism to resolve disputes. “We have turned our argument upside-down and said we are for [open skies], but for you, the government of Jordan, to protect your investment you must ensure this happens as well,” says Majali.

Alongside increased competition from abroad, RJ is also preparing to take on possible new start-ups in its home country. Charter carriers are already able to operate in Jordan, and indeed receive financial incentives to do so, but the government’s national aviation strategy now calls for the end of Royal Jordanian’s monopoly on scheduled services. Again the challenge is to open up the market, while also ensuring that RJ can still attract potential investors.||**|||~||~||~|To achieve this balance, RJ’s monopoly will be phased out between 2006 and 2010. The first step will be taken in two years’ time, when RJ’s monopoly will be limited to cover only those routes it flew in the year previously, 2005. Start-up Jordanian airlines would then be able to fly to anywhere else. This policy would only be in place for four years, after which free competition could well be possible.

“From 2010 onwards it’s not clear, but assuming it will be more liberalised, all of the rights that Jordan has will potentially be available to all Jordanian carriers,” says Majali. “Obviously, carriers already utilising these rights will be allowed to continue to do so, but there will be performance measures applied.”

These four years of further protection for RJ could deter potential rivals from starting up operations as they would be excluded from lucrative routes in the Gulf, for instance, and only allowed to fly to places the national carrier had chosen not to. However, Majali believes the destinations open to start-ups, which would include, for instance, routes into Eastern Europe and some long-haul markets, could be profitable for a carrier with a different make-up to Royal Jordanian. “There could be an opportunity for a start-up. Maybe a low cost carrier would make commercial sense, as it would have a different type of aircraft and a different cost structure,” he explains.

In preparation for facing this competition, and also to make the company more attractive for privatisation, RJ has been cutting its cost base and improving its revenue. This began in 2000 when the company was restructured into different business units that are all to be privatised. The catering and duty free operation have both already been 80% sold off to strategic investors, Aldeasa and Alpha Flight Services, respectively, and deals for the two maintenance units, Jalco and Joramco, are set to be completed next month.

The only two business units now left to be sold off are the training centre and the airline itself. When the Jordanian government originally decided to privatise RJ, the plan was to find a strategic partner, probably another international carrier, to buy a 49% stake in the airline. Such a tie-up would have allowed RJ to benefit from the know-how of the partner, as well as making the remaining shares more attractive for potential shareholders in the future. However, RJ has been unable to find a buyer, despite talks with a number of carriers over the years, including Emirates, TWA and Continental.

The airline could not attract a partner, firstly because of its mounting debt problems during the 1990s. This began with the devaluation of the Dinar in 1988 and then continued with the first Gulf War, when the airline’s fleet was evacuated to Europe. In 2000, however, the World Bank was brought in to help restructure the carrier’s debt and then to assist in transforming the airline from a public utility into a shareholder-owned company operating under the Companies Law. This was achieved in 2001, although the shares remained 100% owned by the government.

However, the financial problems for Royal Jordanian began to mount again, as regional factors — beginning with the Infatada from 2000 onwards, followed by the fallout from 9/11 and then the war in Iraq — began to hit its passenger loads. In the first half of 2003, the airline was reporting seat load factors of around 45% when it usually hits the high 60s in this period. Even with most of the fleet laid up for maintenance and half the staff on leave, only a US $14 million injection from the government saved the carrier from collapse.

The losses, which totalled $20 million in H1 2003, clearly made RJ less attractive to potential strategic partners. More importantly though, the global slowdown in aviation triggered by 9/11 and then SARS deterred majors from buying into smaller airlines anywhere. This was especially true following the collapse of Swissair, which was largely brought about by its investments in other carriers. “All of these [negative] factors… led to the disappearance of strategic partners worldwide, whether for Royal Jordanian or anybody else,” says Majali. “Airlines would now rather enter into an alliances, either bilateral or globally, and cooperate on the marketing or cost side than actually investing,” he adds.||**|||~||~||~|Given this new reality, the Jordanian government has all but given up on the idea of finding a strategic partner for RJ and is instead preparing to sell off 49% of the carrier through an IPO. Other IPOs of nationalised companies in the country have had mixed success — the 2002 14% sell off of Jordan Telecom, for instance, was under-subscribed — but the decision does allows RJ to better focus on its own reforms, especially in terms of rationalising its network. This process has been on going since at least 2001, with the number of destinations cut from 50 to 45 and falling; however, the lack of clarity about the company’s future has limited how far this process could go.

“The biggest loss-making routes have been cut out… but we did not want to make any major changes to the network before we found out the situation with the strategic partner,” says Majali. “Was it going to be an American or European carrier that would want us to curtail our European/US operations and increase our Eastern operations, or was it going to be someone from the Far East who would require us to increase our European and North American destinations?”

RJ thus opted to maintain its long-haul operations, but rationalise them by focusing on specific hubs and then feeding partner carriers. As such, in the Far East, RJ ended services to Kuala Lumpur and Jakarta and instead increased flights into Bangkok in cooperation with Thai International. Similarly, in the US, the airline has cut Los Angeles, Miami and other points, and instead begun feeding America West through Chicago and New York JFK. This strategy means the carrier can offer a one-stop service to most major cities in the Far East and the US, equalling the offerings of its rivals.

“Emirates and Qatar, for instance, offer one-stop services from Amman into the Far East, and European carriers offer one-stop services over Europe into the interior US… We will now have a superior service to our hubs from Amman and a similar service to the interior of the US and the Far East,” explains Majali.

On short-haul routes, the network is also being similarly rationalised to cut out loss-making destinations and to instead focus on key markets. This plan will see the airline greatly reduce the number of combination routes it flies — such as Zurich-Geneva, Munich-Frankfurt and Bahrain-Doha — as well as increasing the number of narrowbodies its flies. “We can continue the philosophy of operating direct services with high frequencies to the main destinations we serve,” says Majali.

From this strategy, the airline developed its fleet plan for both the long-haul and short-haul sectors. For long-range routes, the carrier substituted its A310s with A340-200s, which allowed it to offer greater passenger comfort and more frequencies on flights into its hubs. In terms of narrowbodies, the airline has recently decided to replace its five A310s and older A321s with nine or 10 A320s and A321s on operating leases.

“We are going to have a relatively high spec [for the A320s], driven by the fact that our competition has that,” says Majali. “It might be more high spec than a European equivalent in terms of business class, in terms of entertainment systems and so on… We have also taken an initial decision to provide [seatback] entertainment in economy,” he adds.

The new fleet demonstrates the new confidence at the carrier, which has reported strong traffic growth since the lows of last year. In the second half of 2003, the airline saw rocketing demand and ended up making a net loss for the year of just $14 million. The first half of 2004 has seen this strong trend continue with load factors of over 70%, and passenger numbers up 46% compared to H1 2003. The airline even made a profit for the half, traditionally its weakest period of the year. “We had budgeted a loss of somewhere in the region of $9 million [for H1], but we made a net profit of $1 million,” says Majali.
“We expect the second half to be substantially profitable; the only problem we have is the fuel prices, so we expect to end 2004 with a small operating net profit overall.”

On this basis, the 49% IPO of the carrier should be able to go ahead next year, the final major step needed to complete the airline’s transformation from a public utility to a private company. “The prerequisite [for the IPO] is a year that is financially sound,” comments Majali. “We are hoping that 2004 will be that year.”||**||

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