BIDDERS FOR AUSTRIAN AIRLINES SHOW CARDS

UNCLAS SECTION 01 OF 02 VIENNA 001372 SIPDIS STATE FOR EB/TRA AND EUR/AGS BRUSSELS FOR FAA (PFELDMAN) AND TSA (PJRODGERS) PARIS FOR FAA BERLIN FOR TSA (JRANDOL) E.O. 12958: N/A TAGS: EAIR ECON PGOV AU SUBJECT: BIDDERS FOR AUSTRIAN AIRLINES SHOW CARDS REF: (A) VIENNA 1130; (B) VIENNA 1005 and previous ¶1. SUMMARY: The privatization tender for Austrian Airlines (AUA), which closed September 12, now has a shortlist: Lufthansa, KLM/Air France and the Russian S7 (Air China, Aeroflot, British Airways and Turkish Airlines are out). S7 is making a major effort -- in particularly by promising to keep Vienna operations intact -- but a Russian takeover of AUA would entail problems for its operating license and traffic rights. An ongoing labor-management conflict within AUA could provoke a strike, but is unlikely to be a decisive factor in the carrier's sale. END SUMMARY. ¶2. On August 12, the government cabinet formally approved its earlier decision to fully privatize AUA with the caveat that private and institutional Austrian shareholders must hold 25% plus one share (it is possible that OIAG would retain this stake on behalf of the government),enough to block major decisions under Austrian corporate law (ref A). Interested bidders had to submit non-binding offers by September 12; the three short-listed bidders have until October 21 to submit binding offers. The Shortlist -------------- ¶3. The shortlisted bidders are Lufthansa, KLM/Air France and the Russian S7. British Airways submitted a non-binding offer, but was selected out; Turkish Airlines reportedly submitted its offer too late for consideration. ¶4. Lufthansa is still seen as the clear favorite due to its close technical and commercial cooperation with AUA and the fact that both are already Star Alliance members (an alliance change could post huge costs for AUA). Another argument for Lufthansa is that Germany is by far the most important market for Austria. A sale to Lufthansa poses though the greatest risk to AUA's Vienna operations and Central/East-European network, since Lufthansa already covers those markets from Munich. For that reason, there is growing affinity to Air France-KLM who have a serious chance in the tender. ¶5. The Russian S7, backed by Gazprom-Bank and Sberbank, is making a major public effort and has reportedly engaged highly regarded lobbyists, including German ex-chancellor Gerhard Schroeder and former Austrian Interior Minister Franz Loeschnak. Noteworthy is that the role that Vienna International Airport (VIE) would plays in an S7 takeover: S7 says it would make VIE its transit hub for Russians flying to Western Europe and the U.S. (NOTE: S7 is also building new terminals at Moscow Domodedovo and the St. Petersburg Pulkovo and committed to involve VIE in those projects). S7 would also consider joining the Star Alliance. AUA's purchase price is no barrier for S7, according to analysts. Problems Associated with the AUA Sale -------------- ¶6. In case of an AUA takeover, Lufthansa (and Air France-KLM, to a lesser degree) may face some problems with EU merger/competition regulations to prevent abuse of a dominant market position, and could be forced to divest slots or routes to third carriers. They probably would also have to renegotiate some traffic and landing rights with third countries (i.e., non-EU member states). However, these problems seem manageable in the case of either carrier. ¶7. S7 would pose greater challenges. Authorities would have to find a solution for AUA's operating license, because under EU Council Regulation EEC 2407/92, member states are obliged to grant a license to an air carrier only if its principal place of business and registered office are located in that member state. Moreover, the Regulation stipulates that the air carrier shall be owned and continue to be owned directly or through majority ownership by the EU-27 member states and/or nationals of member states and/or countries having an agreement with the EU (e.g. the U.S.). Problems of traffic and landing rights with third countries would also be more serious than in the case of a European takeover. Strike in the Air? -------------- ¶8. A wage and labor conflict currently affects 3,400 technical and commercial AUA personnel (about 40% of AUA's staff but not including pilots and other flight personnel who have separate collective bargaining agreements). Shop stewards oppose management plans to extend the workweek from 38.5 to 40 hours without compensation, the cutting of bonuses, and tougher conditions for shift workers. Since management has postponed collective bargaining negotiations for VIENNA 00001372 002 OF 002 those employees until after the decision on a strategic partner, a strike or slowdown cannot be excluded but is unlikely to be a decisive factor in the privatization. GIRARD-DICARLO