July 05 - 11, 2004





Pakistan International Airlines Corporation (PIAC) has been more in the news recently due to its Golden Jubilee supplements and the road-shows regarding offer, on best effort basis, by the government for sale of 5% of outstanding Class-A shares of PIAC, out of its holdings, at a fixed price of Rs 20.00 per share, through local stock exchanges on 7-9th June 2004. The government might exercise a green shoe option and offer additional 5% shares in case of over subscription of the original offer. This would raise the total offer to 10% or 115 million shares. The offer has been in line with the government policy of broadening shareholding base of public sector entities by facilitating investment from general public. The sale of shares would also strengthen the domestic capital markets and pass benefits of privatisation on to the general public.

Pakistan International Airline (PIA), the national flag carrier of Pakistan with scheduled and charter flights started its international operations in 1955 with a flight from Karachi to London via Cairo and Rome. Earlier on 7th June 1954, the Prime Minister of Pakistan had inaugurated PIA's Karachi-Dacca Super Constellation service to the eastern wing of Pakistan. At this occasion, the government had also undertaken to guarantee any loss to PIA for a period of three years. PIAC was established in Pakistan on 18th April 1956 under PIAC Act, 1956. Over the years new planes were added and the network was expanded. PIA presently has a fleet of 47 aircrafts with nearly 75% share of the domestic market. Induction of five aircrafts to the fleet in the past few months, three new Boeing 777-200ERs and two half life wide-body A-310s, would enhance PIAC's operations and profitability. It may be mentioned that PIAC had signed, on 30th October 2002 at Islamabad, an agreement with Boeing, USA for purchase of eight new Boeing 777 planes, comprising three Boeing 777-200ERs, two Boeing 777-200LRs and three Boeing 777-300ERs, for use on its long haul routes. The deliveries have started and are expected to be completed by 2008. Furthermore, an agreement to acquire six used A310-300 has been finalized with Airbus Industries under finance lease to replace its existing A300. Replacement of Fokker aircraft is also underway with 50-seater Turbo Props which would enhance domestic tourism. All this has been achieved through continued moral and financial support of the government.

To assist PIAC top management revamp PIA operations, the government had in 2001 agreed to support the financial restructuring through: (i) By issue of guarantee(s) of up to Rs 20.0 billion to cover restructuring of PIAC's local currency debt of Rs 4.86 billion and future debts undertaken to pay-off over dues of approximately Rs15 billion; and (ii) Committed to subscribe at par up to Rs 16.58 billion in equity over a five-year period covering markup payments of both the restructured debt of Rs 4.86 billion and the Term Finance Certificates (TFCs) of Rs 15.14 billion and its contribution of US$ 150 million under the Fleet Replacement Plan. Out of Rs 16.58 billion, the government has already provided Rs 7.78 billion to PIAC and has been issued 778 million Class A shares at par value of Rs 10/- per share up to end of 2003. At the time of commencement of financial restructuring in September-October, 2001, PIAC's Class A shares were quoted below par value. As a result of the above support from the government PIAC was able to overcome its immediate financial problems. In the coming few years, the government is expected to release balance equity support of Rs 8.80 billion for which PIAC will be issuing 880 million Class A shares at par to the government. The government has been supporting government-owned enterprises in the past to achieve a successful turnaround. The government has implemented a similar programme for the national flag carrier.

PIAC closed the year 2003 on a positive note and by overcoming many operational and financial hurdles. Turn around in PIAC operations in the recent years, in spite of unfavourable geopolitical and economic conditions, has been possible due to a number of measures including untiring efforts of PIA personnel, financial and operational restructuring with substantial cash flow support by the government. Fleet renewal already underway increased capacity allowing expansion in route network. During 2003, PIAC achieved net revenues of Rs 47.952 billion, pre-tax profit of Rs3.700 billion and profit after tax of Rs1.299 billion. Corresponding figures for the previous year are Rs 43.674 billion, Rs 2.111 billion and Rs 1.873 billion respectively. PIAC aims to further improve its performance and profitability in the next few years when the on-going restructuring and the fleet renewal would be fully implemented.

PIAC has reportedly embarked on a 10-year business plan, of which the key priorities include: (i) Product improvement including state-of-art Reservation & Departure control system; (ii) Completion of fleet renewal; (iii) Manpower rationalization; (iv) Outsourcing of non-core activities; (v) Building employee's morale; and (vi) Restoring PIA's image as an airline of international repute. PIAC has potential to achieve these objectives provided all the personnel work diligently towards this objective and for enhancing PIA passenger comfort. Complacency in any operational, managerial or financial area would adversely affect growth and, therefore, has to be avoided. With a view to make the national flag carrier one of the top airlines of the world, the following suggestions are offered to the government and PIAC for consideration.



PIAC management should take precautions against the following material operational and regulatory risks mentioned in the Offer of Shares by the government to the general public: (i) Route impairment due to unforeseen geo-political events; (ii) Grounding of aircraft due to technical faults; (iii) Decline in fares due to price competition from existing domestic and/or foreign airlines and any new entrants; (iv) Decline in passenger and/or cargo traffic due to various reasons including but not limited to recession, terrorism etc; (v) Employees may go on strike or resort to go-slow methods; (vi) Fuel prices may rise causing erosion in margins; and (vii) Adverse changes in the regulatory framework of the Aviation Sector may also have a negative impact on PIAC's margins. Each of the risks mentioned above may lead to a decline in PIAC's profitability and cash flows. PIAC management has to be constantly on its toes to neutralize the adverse impact of any of the risk factors mentioned above.

The government is urged to continue its support for financial restructuring and fleet renewal by PIAC in a manner that is transparent and is in conformity with the guidelines approved by it as well as by the PIAC Board, until the process is completed in the next few years. Time horizon for completing of restructuring to be reviewed and if possible to be reduced so that PIAC is on its own and learns to stand on its feet and decide matters accordingly.

PIAC still has to take delivery of remaining five Boeings 777 for which orders have been already booked with Boeings. Financing lease of remaining four Airbus A310-300 might have to be finalized. Also, Turbo Props would need to be purchased to replace old Fokker planes. Within the provisions of the master loan agreement for Boeings 777 or other planes, PIAC need to examine in a transparent manner if additional loan from EXIM Bank is a must or PIAC can consider other competitively priced sources. In this context, the State Bank of Pakistan (SBP) with over US$12 billion reserves might be approached to consider extending a credit line through a local bank such as National Bank of Pakistan (NBP) to finance large acquisitions such as purchase of new planes by PIAC under the fleet renewal plan approved by the government. The terms and conditions of the loan might be determined in consultation with SBP. Perhaps PIAC, NBP and SBP would be better off through this arrangement.

In 1999, the government had allowed foreign airlines to operate flights to international destinations from the Northern Gateways i.e. Lahore, Islamabad and Peshawar. As a result, Emirates and a few other airlines started operating flights from these locations. Private domestic airlines were also allowed to operate to Gulf routes leading to disproportionate increase in the capacity. This resulted into fare dilution and adversely affected PIA, despite its attempts to withstand competition and maintain its dominant market shares. It has been said that during the last six months PIAC has had extensive discussions with the government for rationalization of Open Sky Policy on the basis of reciprocity. The government is urged to revise the policy in consultation with industry participants and let there be a level playing field on the basis of reciprocity. PIAC at the same time, however, might be reminded to be ready for tough competition expected from regional airlines which are expanding their fleet for long haul routes. Local airlines which do not have high overheads as in PIA would also be its strong competitors, both in passenger traffic and in cargo operations.



The government owned about 87% shares in PIAC as on 31st Dec. 2003. Rest of the shareholding is held by financial institutions at 7.30%, individuals 3.67% and about 2% by other local and foreign companies. The present offer by the government including green shoe option would reduce government holding by 10% and correspondingly increase the holdings with the individuals and other companies. However, with the issue of more shares by PIAC under the on-going restructuring and fleet renewal, the shareholding of the government would again increase and continue doing so until the restructuring and fleet renewal are completed. In view of the above the government might periodically continue offering shares to the general public subject to the absorption capacity of the capital market, at an appropriate premium. It might send positive signals to the market if the government considers converting PIAC in a few years from a statutory corporation to a limited liability company incorporated under the Companies Ordinance 1984.

The present Offer of PIAC shares by the government out of its holdings for sale to general public would increase the float on the stock exchanges. The float would hopefully continue increasing with expected offers of more shares by the government out of its holdings. To give representation on PIAC Board to the general public, the government and PIAC are urged to suitably amend PIAC Act and bring on the Board more elected directors particularly from private sector.

It is not unusual that PIA is patronized more by Pakistani expatriates working in Europe, North America and Middle East. However, PIA must not forget the aim to become the airline of choice of the nationals of these countries and regions. In my view PIA can rightly claim itself a competitive airline of the world only when the travellers, other than Pakistani expatriates, select PIA flights willingly ignoring competing airlines having conveniently scheduled flights for the desired destinations. For that, PIA shall have to improve its performance in many areas including service during flight, quality of food, courtesy to passengers at each stage particularly when flights are delayed and punctuality of flights. More efforts are needed on consistent basis for improving passenger comfort both on local and international flights. Moreover, from geographical segment point of view, PIAC's revenue from Asia (excluding Pakistan) is only 2-3% of total revenue which is quite low. PIAC management might look into the ways and means to enhance revenue and profitability particularly in the Asian region.

It is felt that for better service, facilities and comfort to the travellers in Pakistan, PIAC shall have to work closely with CAA and the Airport Security Agency, the role of both of which is important. Chances are that the travellers would blame PIA if they are not happy with the facilities at the airport provided by CAA or ASA personnel are less courteous while processing security clearance. PIAC might like to review such matters with them on regular basis.

It is apprehended that benefits of restructuring and fleet renewal might be lost to some extent if PIAC management does not seriously control and economize on various costs particularly the major cost items. Based on 2003 annual report data, salary/wages work out at 18% (18% in 2002), air fuel and oil 27% (25 % in 2002), landing and handling 12% (11 % in 2002), general and administration expenses 9% (9% in 2002) and depreciation 8% (12 % in 2002). These are major cost heads covering three-fourth of the total costs and expenses. PIAC is urged to control and reduce all these costs in line with the top airlines of the world. Particular attention is invited to air fuel and oil which in case of certain foreign airlines are in the range of 20%. Another item for critical scrutiny is financial cost. Rate of profit on TFCs of Rs 15.14 billion has a floor of 8.00%. PIAC might look into it for early redemption and substitution with a less costly financing. Perhaps it is about time that the cost and utility of the services procured from in-house and from out-sources is reassessed to reduce the overall costs and efficiency.



PIAC annual report for the year 2003 includes Statements of Compliance with Transfer Pricing and Code of Corporate Governance as well as Certification regarding Financial Statements and Internal Control System. There are certain areas that are not fully up to the mark and the management has been taking measures for full compliance. The External Auditors also have certain observations particularly regarding stores and spares, low level of coverage of perpetual inventory count for overall inventories and rate of interest on renovation loan advances to PIA Investments. PIAC management has been taking corrective measures for that. PIAC is urged to target full compliance of all matters in the coming months so that the annual report for the year 2004 is clean. It is also suggested that viability of existing subsidiaries and associated companies is reconsidered.

PIAC is contesting several litigations mainly relating to suits filed against it for unlawful termination of contracts, breach of contractual rights and obligations, non performance of servicing stipulations due to negligence or otherwise, disputes over throughput charges on international deplaned cargo and claims for arrears of salaries and pension. Also, CAA has claimed from PIAC additional amounts in respect of rent and allied charges, landing and housing charges, aviation security and bay charges, interest/surcharge etc. The matter has been referred to Ministry of Defense through which a reconciliation and settlement exercise is currently in progress. In addition, the Collector Central Excise had raised demand for the period from July 1996 to June 1998 in respect of duty levied on the tickets provided by the Corporation to its staff either free of charge or at concessional rates. PIAC has filed an appeal with the Tribunal which is pending adjudication. In most of these cases, PIAC management is of the view that these cases have no sound legal footing and it does not expect these contingent liabilities to materialize. Accordingly, no provision has been made in the financial statements against these claims. It is suggested that notwithstanding PIAC having sound legal footing, it would a good idea if pursuing conservative accounting practices; reasonable provision is made in the accounts for these contingent liabilities.