The shape of the Middle East’s commercial aviation sector has undergone a profound change during the past decade. In 2000, Saudi Arabian Airlines (Saudia) was by some margin the largest carrier in the region, in terms of onboard seat capacity.

The Saudi flag carrier commanded a 30 per cent market share, while Egyptair and Gulf Air, which was then still a bilateral operation between four Gulf states, trailed in joint second with 13 per cent each, according to a study conducted by aircraft manufacturer Boeing.

Key fact

Saudia’s market share slipped to 19 per cent in 2009, from 30 per cent of regional seat capacity in 2000

Source: MEED

Even Dubai-based airline Emirates, which had been expanding aggressively since 1985, only held a 9 per cent market share at this stage. But by August 2009, Emirates had surged to the top of the pile, seizing a 22 per cent market share. Saudia, by contrast, has not fared well. The airline sits in second place, but its market share has slipped back to 19 per cent. Riyadh has failed to respond as other states across the region invested heavily in their flag carriers.

Privatisation strategy

Furthermore, the bulging order books for new planes scheduled to arrive at Emirates, Qatar Airways and at Abu Dhabi’s Etihad Airways suggest Saudia could lose even more ground in the coming years.

The new aircraft provide an efficient, modern service that Saudia’s mostly ageing fleet cannot match. The airline is debt-laden and over-staffed, and while the company does not release financial results, it is understood to be making substantial losses.

We answer to the Supreme Economic Council and are going ahead with the same strategy

Shawgi Mushtaq, Saudia

Riyadh is aware of the problem and in 2006 set out a strategy to restructure the airline and place the business back on a commercial footing. Under the plans, the carrier is to be broken up into its component units, with each division part-privatised.

Saudia set out a timetable for the privatisation process to potential investors. The catering arm was to be sold off within weeks, the cargo division, it said, would be ready for privatisation in February 2007, followed by ground support by March 2007, and maintenance and training in May of the same year. The airline itself was to be privatised in the first quarter of 2008.

But the schedule did not take long to unravel, and the glacial pace of Saudi bureaucracy has dogged the process every step of the way.

It was early 2007 before bidding for the catering business got under way. A 49 per cent stake in the division was eventually sold for more than $220m to a partnership between local tourism and leisure group Al-Hokair and the French catering company Newrest.

The catering and cargo divisions are already showing significant improvement since they were partly privatised

The joint venture won the bidding in March 2007, but did not take control of the business until September that year.

In August 2007, the Saudi cabinet resolved to accelerate the privatisation by registering each unit within the airline as a private business. However, bids for the cargo unit still went in a year behind the original schedule.

In February 2008, a consortium led by local Al-Muhaidib & Sons won the contract for a 30 per cent stake in the cargo business, but again, it took a further seven months to complete the sale. And more than two years later, the airline is now finalising the part-privatisation of the ground-handling business. The unit will merge with the local groups National Handling Services and Attar Travel to create a far larger ground-handling operation. The government will retain a controlling stake in the firm.

Revised timetable

“Documentation for the ground-handling merger is complete. We are now working on the registration of the new company with the government and finalising the shareholder agreement with the ministries of commerce and justice,” says Shawgi Mushtaq, vice-president of catering at Saudia, who is now overseeing the privatisation process.

“We need to complete the commercial registration of the new firm and establish the board members. Once this is done, the company can begin to operate as a private business.”

The merger has gone ahead despite calls in July 2009 from the kingdom’s Shura Council to abandon the current privatisation strategy for the airline.

Concerned that the process had become too cumbersome, the council recommended dropping the three-year-old approach of selling off individual units. Instead, the council members called for 40 per cent of the entire Saudia group to be sold in a single initial public offering (IPO) of shares.

However, Mushtaq says that the airline says it has received no instructions to halt the deal.

“It is only the Shura council. We answer to the Supreme Economic Council and are going ahead with the same strategy,” he says.

Previous delays in privatising each part of the business have not deterred the company. And despite the approach of the long summer break followed by the holy month of Ramadan the revised timetable for the next stages in the process is as ambitious as ever.

Mushtaq says the airline plans to sell a 30 per cent stake in the maintenance and technical division by the end of the year and that preparation for this deal is already under way.  “Then we move on to the aviation academy. This is the final division to be dealt with before we approach the airline itself,” he says.

Selling a stake in the carrier has been a highly contentious issue throughout the process. Spinning off the subsidiary divisions has already proved complex and time consuming, but doing the same for the airline will be another huge undertaking.

At the heart of these difficulties has been the inevitable question of redundancies. Saudia is a major employer in the kingdom with 20,000 staff and news of any layoffs would be felt nationwide, but the senior management has acknowledged for some time that the workforce must be pared back to force through the kind of efficiencies required of a privatised business. If the aim is to one day make Saudia profitable, some cuts will have to be made in the short-term.

In the past, the government shied away from the tackling this issue. With the privatisation process labouring on it was easy to sidestep the staffing question, but in 2009, Riyadh faced up to the challenge.

“We approached the Council of Ministers last year on how to handle the staff issue and now have a plan in place,” says Mushtaq.

All staff at the airline will be transferred from the current Saudia pension fund and brought under the umbrella of the General Organisation for Social Insurance. Once the new airline ownership is in place, a voluntary redundancy scheme will be set up to offer those who do not wish to stay an opportunity to move on.

“They will be offered a job in the new company. Those that are not interested can take retirement and leave. Those that wish to remain government employees will have a month to look for work in other areas. After that they will have to join the private sector,” says Mushtaq.

This new determination characterises a renewed urgency surrounding the privatisation process. The US’ Morgan Stanley and the local NCB Capital have been appointed as financial advisers to manage the sale of the airline and will oversee the whole process, as France’s BNP Paribas has done with the smaller units. The two investment banks have already submitted a plan for the complete restructuring of the main carrier and its privatisation to the government.

Mushtaq will not be drawn on the details of the strategy for the airline or the envisaged timeline for the sale, but he says the company is ready to move when Riyadh gives the word.

“We are working on the initial steps and have put forward a proposal for restructuring the business to the government. Now we are just waiting for government approval to go ahead, but we have no idea how long that could take,” he says.

But the benefits in accelerating the process are now becoming clearer to those with the final say in the privatisation. Mushtaq says that the catering and cargo divisions are already showing significant improvement since they were aligned with the private sector.

The company is so impressed with the results at the catering business that the division is now being prepared for an IPO on the Tadawul stock exchange later this year.

“We will list 30 per cent of the company in December or the first quarter of 2011. The new structure has brought a better business relationship and greater commercial sector spirit. We see much greater efficiency throughout the business,” says Mushtaq.

Market potential

Visa restrictions and cultural differences mean that Saudi Arabia cannot establish itself as a hub between east and west as Dubai, Doha and Abu Dhabi have done. However, the country has vast potential on its own terms, which has been left untapped for too long.

The kingdom is the largest economy in the region. It is also the most populous country in the GCC and, with its holy sites, is the focus of a vast market for pilgrimage and tourism that stretches across the entire Arab world.

Saudia has failed to provide for this market efficiently in recent years and has allowed itself to fall behind in the booming regional aviation industry. Moreover, service levels onboard the airline – along with the infrastructure at the country’s airports – has become a source of embarrassment to the Saudi authorities.

Billions of dollars are now being invested in the kingdom’s main airports to improve the travel experience for the millions of pilgrims and tourists, who enter the country each year. And Saudi Arabia needs a national airline to match.

The privatisation approach has taken far too long to progress and still has a long way to go. It has recently gained some new momentum. But maintaining it will not be easy. Projects can easily stall in the corridors of power in Riyadh, but at least the company and the government now appear to share a vision of what the carrier could look like in the future.

“The airline will have three parts – a hajj and umrah service, the VIP and charter airline, and the main airline as a full service commercial carrier,” says Mushtaq.

“With the holding company and special business units run like private companies with real efficiency, the whole character of the company will change.”