Foreign Direct Investment Issues In The Backdrop Of the Jet Airways – Etihad Airways Strategic Acquisition

 If the Wright brothers were alive today Wilbur would have to fire Orville to reduce costs.

– Herb Kelleher, CEO, Southwest Airlines


By Vikas Kumar

India’s regime for foreign direct investment (FDI) in the civil aviation sector has been progressively liberalized. This article examines the new FDI regime applicable to air transport services and passenger airlines (“Indian Carriers”) in the context of the recent partial strategic acquisition of India’s Jet Airways by the Abu Dhabi based Etihad Airways.

The fettle of the civil aviation industry is a good barometer of the prevailing economic mood in India.  The airlines segment is a disproportionately visible subset of the civil aviation sector due to its glamour which makes it a source of national pride.  However, the flight path of the Indian civil aviation industry has mostly been turbulent and marked with intense air-pockets.

Plotting the trajectory of India’s airline industry from 2006 tells the whole story.  Deccan Airlines had barely managed its initial public offering when it was swiftly folded into Kingfisher Airlines in 2008. Kingfisher Airlines itself, along with its chairman Vijay Mallya, the “King of Good Times,” soon thereafter unglamorously collapsed in tough conditions.  Air India had its tryst with mounting losses.  Sahara merged with Jet Airways.  And finally Jet Airways has found itself in a blockbuster foreign direct investment (FDI) deal with Abu Dhabi’s Etihad Airways that continues to attract immense scrutiny.  India’s civil aviation industry rarely engenders a dull moment!

Notwithstanding its reputation as an industry that can only incur losses and destroy wealth, the airline carrier segment has witnessed extraordinary growth in India over the last decade and has the potential to become one of the largest aviation markets in the world.  Examples of this potential include Wilbur Ross’s profitable exit from SpiceJet after a short two-year term and late entrant IndiGo Airlines’ confident glide to a fifth straight year of profits.

The fortunes of Indian carriers ride with those of the external business environment.  But they are also greatly impacted by government policy.  Overall policy directives notifying changes in foreign direct investment (FDI) regulations, generally also affect the civil aviation industry.  The Department of Industrial Policy and Promotion (DIPP) of the Ministry of Commerce and Industry heralds policy changes, and then, in deference to DIPP’s policy, the Directorate General of Civil Aviation (DGCA) of the Ministry of Civil Aviation amends its foreign equity participation guidelines for airlines.

In June 2008, FDI upto 49% was allowed under the automatic route (i.e. no prior approval from the Reserve Bank of India is required) subject to some very significant restrictions.  Only foreign financial institutions are permitted to invest in Indian Carriers.  Foreign airlines are expressly prohibited from having –

  • any direct or indirect shareholding interest, financial or commercial tie-up with, or having any interest, in management of Indian Carriers; and
  • loan arrangements, lease-finance and similar tie-ups with Indian Carriers, except for marketing arrangements such as ground handling and code-sharing etc.

Predictably, financial investors with the expertise and finesse in distressed assets investment have taken a chance on Indian carriers.  Also not surprisingly, lately there has been a significant surge of interest among international carriers in acquiring strategic stakes in Indian Carriers.  Here we get introduced to another game changer – bilateral “Air Services Agreements” (ASAs) that two nations sign to allow international commercial air transport services between their territories. The Ministry of Civil Aviation negotiates ASAs with its bilateral counterpart. Since ASAs dramatically influence volume of air services between two nations, they have an exponential impact on strategic collaborations between airlines. ASAs also overtly signify warming of bilateral trade relations between two nations. Hence, the overall policy impact purportedly travels much beyond the civil aviation sector.

The Jet-Etihad deal makes an interesting case study in the backdrop of the new FDI regulations and ASAs.  On September 2, 2012 the DIPP allowed foreign airlines to acquire up to 49% in Indian Carriers under the approval route (Government’s approval is required) and subject to security clearances. The turnstile of events thereafter has attracted a lot of debate, as well as media and judicial scrutiny.  Thereafter, on March 1, 2013 the DGCA issued its operational guidelines for FDI in the airline sector. Thus the earlier policy obstacles preventing foreign airlines from acquiring strategic ownership interest in Indian carriers were conclusively removed.

Thereafter, on April 24, 2013, the Ministry of Civil Aviation announced its revised ASA with the United Arab Emirates (UAE) that enhanced seat capacity nearly threefold to 36,670 seats per week, and code-share facilities between designated airlines of both nations spread over 3 years. The Ministry of Civil Aviation has stated that the objective of the revised ASA is to allow carriers of both nations to plan future operations and promote Indian and international connectivity.

Curiously enough, on the same date as when the bar against ownership by foreign airlines was removed, Jet Airways and Etihad Airways jointly announced their ambitious strategic deal whereby Jet Airways would issue 24% of its paid-up equity to Etihad for US$ 380 million. Coincidentally, the 24% acquisition stake also ensured that the deal fell below the Securities and Exchange Board of India’s 25% threshold for public offers. Other highlights of the Jet-Etihad deal included – (i) a US$ 150 million investment by Etihad in Jet’s frequent flyer program; (ii) a  US$ 70 million purchase of Jet’s three slots at Heathrow under ‘sale and lease-back’ agreement; and (iii) co-operation on purchasing opportunities for fuel, spare parts, training and maintenance of aircraft.

The policy changes, which seemed to have been synchronized with what appeared to be an overnight Jet-Etihad strategic deal, predictably invited allegations that India’s national interest was being compromised in order to benefit a particular Indian carrier—in this case, Jet Airways.  Given the airline industry’s almost oligopolistic nature, such insinuations are often presumed to be true. The presumption appeared all the more convincing since Etihad agreed to pay a 32% premium over the market-quoted price of Jet’s shares.  Questions were raised as to why Etihad would buy into a debt-ridden company in the struggling Indian aviation sector? An inference was drawn that the Government might have engineered or set the stage for the Jet-Etihad deal by agreeing to policy changes beforehand in the form of ASA sweeteners.  Given the incumbent Government unenviable record of facing multiple allegations of irregularities in ministerial policy making, the presumption of the government changing the regulations to pave the way for the Jet-Etihad deal got added to its rather bad report card. Since the Jet-Etihad strategic deal was in any case under the “approval route,” the entire proposal invariably had to come up before the Foreign Investment Promotion Board (FIPB) and the Cabinet Committee on Economic Affairs (CCEA) for approval.

In July 2013, FIPB approved the deal subject to certain conditions – (i) Jet shall seek FIPB’s approval before making any changes in the Shareholders’ Agreement with Etihad; (ii) all shareholder disputes under the Shareholders’ Agreement shall be adjudicated under Indian laws; (iii) Jet Airways’ Articles of Association shall  be submitted for approval before the CCEA.  It was also reported that prior to submission before the FIPB – (i) Etihad’s representation on Jet’s Board of Directors was to be reduced from three to two; and (ii) Mr. Naresh Goyal, Jet’s chairman would have the right to deliver the “casting vote on any matter;” and (iii) an earlier proposal of shifting revenue management to Abu Dhabi was also dropped. This was purportedly done in deference to FIPB’s wishes that it required details on who would control the management of Jet before arriving at any decision.

In October 2013, after studying the revised structure, SEBI also conveyed its prima-facie opinion that the deal would not trigger “change in control” provisions which absolved Etihad from making an open offer to public shareholders of Jet.  However, SEBI has left it open to the Government to construe the implications of the revised Commercial Co-operation Agreement proposed by Jet and Etihad. It is notable that SEBI also advised Mr. Goyal to divest a 6% stake before allotting shares to Etihad, in the interest of corporate governance and to ensure well-dispersed public shareholding.

On October 4, 2013 the CCEA approved the Jet-Etihad deal, expressing satisfaction that Jet and Etihad had complied with regulations relating to “ownership and effective control” issues.  On November 12, 2013, the Competition Commission of India (CCI) also approved the Jet-Etihad deal, albeit with a minority dissenting order, stating that the proposed combination was not likely to have appreciable adverse effect on competition in India. The CCI though made a significant observation that the governance structure envisaged in the Commercial Co-operation Agreement did establish “joint control” over Jet’s operations and assets.

Meanwhile, simultaneously with the deal lurching forward before market regulators, the Supreme Court also admitted a public interest litigation (PIL) and began hearings. The PIL was on alleged grounds that the ASA with the UAE was devised to facilitate only this deal and that it would put the national carrier, Air India to disadvantage. In October 2013, though the Supreme Court refused to grant an interim stay on the deal, it continued its hearings and issued notices to the Government and regulatory agencies.

It has been reported that recently the CCI has rejected Jet-Etihad’s plea to rectify that part of CCI’s order which observed that (i) with a 24% stake and right to nominate 2 directors, Etihad has “significant” ability to participate in management of Jet Airways; and (ii) Etihad has effective “joint control” over Jet. It is pertinent to note that such observations of the CCI appear at variance with SEBI’s observations on “change in control.”  As a consequence, SEBI has also clarified its stance stating that if any other regulator (i.e., CCI) raises an issue on the deal, SEBI may also re-consider its order. Based on recent news reports, SEBI has already started its preliminary work for reopening the matter.  The next roll of the turnstile took place as recently as December 2013, when the CCI imposed a monetary fine on Etihad for “consummating parts of the deal without CCI’s approval.”  This relates to Jet’s landing slots at Heathrow for US$ 70 million under the sale and lease-back agreement.

While the Jet-Etihad saga continues, and time will tell how it influences the course of strategic tie-ups between international and Indian Carriers, the blemish on FDI reforms cannot be denied.  The overnight opening of the India-UAE ASA just hours before the Jet-Etihad deal was announced, lends itself to a negative perception of how the aviation sector is managed in India.

Herb Kelleher’s quote aptly describes the dilemma of the airlines industry.  It is an industry that is intensely competitive, needs massive capital injections to survive because of excessively high elasticity with respect to fuel prices and the external business environment.   Survival in India also means dealing with competitors who are seen as being able to benefit from sovereign pacts that are concluded with high opacity to facilitate strategic tie-ups.

Vikas Kumar is a Partner with DH Law Associates, Advocates and Solicitors and advises clients on M&A, private equity and FDI issues. He can be reached at


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