ARIANA: SAFER, PROFITABLE BUT STILL FINANCIALLY CONFUSING

UNCLAS SECTION 01 OF 02 KABUL 003346

SENSITIVE
SIPDIS

DEPT FOR EEB/TRA, S/SRAP, SCA/FO, SCA/RA, SCA/A
DEPT PASS FAA FOR RAY SMITH

E.O. 12958 N/A
TAGS: EAIR PGOV AF
SUBJECT: ARIANA: SAFER, PROFITABLE BUT STILL FINANCIALLY CONFUSING

REF: (A) 07 Kabul 1090
(B) 09 Kabul 2964


1. Action request for USEU and AmEmbassy London - please see
paragraph 4.


2. (SBU) Summary: Afghanistan's largest airline, state-owned Ariana
Airlines, is a leader in market share and profitability despite an
EU flight ban and an aging fleet. Its energetic president, M.K.
Wardak, has improved safety, is again interested in a relationship
with Boeing, and may soon be allowed to resume direct service to EU
countries. Planning for this year's Hajj is underway and Ariana has
already used Hajj revenues to purchase new planes. However, the
company will have to devote more attention to its inadequate
accounting system if it wishes to erase its "Scariana" financial
planning reputation. Wardak's weak grasp of the airline's financial
situation must improve as well in order to realize his plans for the
airline's expansion and privatization. End summary.

OPERATIONS
- - - - - -


3. (SBU) Ariana operates the country's largest commercial fleet,
flying to five domestic and 15 international destinations and
carrying nearly half of all international passengers to and from
Afghanistan. The European Union forbids Ariana-operated flights
from entering its airspace due to safety concerns. However, the
carrier has leased an Airbus 310-300 from a Turkish company for its
Kabul to Frankfurt flight. This European flight is reportedly its
most profitable route (although cost data are unavailable).


4. (SBU) Ariana President Wardak says he expects EU regulators to
remove Ariana from the safety blacklist in November and has applied
for a landing slot at London Gatwick. London used to be the
airline's most popular destination. (Note: the last Ariana flight
to London was the result of a hijacking in 2000 that ended with no
casualties. Wardak was the pilot on that flight. End note.) The
EU banned Ariana from its airspace in 2006, citing safety concerns.
Wardak noted the airline has significantly improved its safety since
he became president in 2008 and has spent $3 million to train pilots
and cabin crew. Ariana has also compiled procedural manuals for the
first time in its history. (Action Request USEU and London: Would
appreciate your views on possible EU action on Ariana.)

SURPRISINGLY PROFITABLE
- - - - - - - - - - - -


5. (SBU) Ariana earned a $1.1 million profit on $97.3 million in
revenues during the Afghan fiscal year that ended on March 21, 2009,
according to USAID's recently completed Land Titling and Economic
Restructuring (LTERA) project study. Nearly 20 percent of Ariana's
gross revenue came from its Hajj business; this is the second year
the Afghan government has awarded Ariana the exclusive carrier for
the Hajj. The Ministry of Hajj is Ariana's single largest customer.
Although Ariana also transports cargo and provides ground handling
services at Kabul International Airport (KIA),passenger flights
account for 93 percent of revenue. The LTERA study credits the
company's aggressive handling of accounts receivable for its strong
balance sheet. Additionally, while Ariana's administrative staff is
bloated, salaries and pension costs are relatively low. On balance,
the carrier has $45 million in current net assets.

THE HAJJ: FEWER PROBLEMS AHEAD?
- - - - - - - - - - - - - - - -


6. (SBU) As of October 7, the Saudi government had awarded Ariana 67
of the 150 slots it needs for Hajj flights. The gap is much smaller
than at this point last year and, as a result, Wardak says he is
confident this year's Hajj will go more smoothly than in years past.
While the Afghan Government awarded Ariana this year's Hajj
traffic, it also ordered the airline to lease planes from rival
commercial carriers, Wardak said. Unable to conclude those
agreements, Wardak says he will instead rely on Ariana's four Airbus
310s and lease a fifth from a United Arab Emirates-based airline.
(Note: Ariana has used the government pre-payment for this year's
Hajj passengers to repay the Ministry of Finance (MOF) for two
Airbus 310s the Ministry had bought on the state airline's behalf to
replace older, relatively fuel-inefficient Boeing 727s.
International Monetary Fund regulations prohibit the Afghan
Government from subsidizing Ariana, but Wardak said the MOF
purchased the planes and Ariana repaid the Ministry. He did not
mention any interest on the loan. End note.)

BOEING LEASES?
- - - - - - - -


7. (SBU) Wardak said the company needs capital to replace aging,

KABUL 00003346 002 OF 002


fuel-inefficent aircraft on both domestic and international routes.
While preferring to purchase these aircraft outright, he noted
Ariana will likely lease most of its future fleet. Wardak added he
will also approach Boeing to lease and purchase used aircraft.
EconOff pointed out that Boeing may be cautious given Ariana's 2007
default on a lease agreement (ref A) and suggested Ariana prepare
audited financial statements to demonstrate its ability to meet
obligations. Wardak blamed his predecessor and said Ariana now
makes a $10 million profit per year. As a major cost-savings
measure, he said he had cut staff from 1700 to 1250. Wardak
stressed this effort is ongoing -- the airline should ultimately
employ between 400 and 600 people at peak efficiency. Nonetheless,
Wardak could not break down his overall profit sources nor give
greater visibility to Ariana's revenue stream.

OWNERSHIP CLEARER ... OR IS IT?
- - - - - - - - - - - - - - - -


8. (SBU) Ariana's articles of incorporation state the Ministry of
Transportation and Civil Aviation (MOTCA) owns 38 percent of the
company's shares, followed by the Ministry of Finance (38 percent),
the Ministry of Commerce (13 percent),and state-owned Pashtany and
Milli banks (6 percent each). The MOTCA claims to have transferred
its shares to the Ministry of Finance, but the General Assembly of
Shareholders never approved this transaction, thus making it void
under the company's bylaws. The lack of share documentation is a
greater problem; Ariana management admitted ownership generally
reflects a "verbal" agreement and LTERA could not locate any share
certificates except those held by the two banks. If the Afghan
Government decides to privatize Ariana, this lack of formal
ownership will present a major obstacle. In addition, LTERA found
the Airline's General Assembly of Shareholders, its Board of
Directors, and Supervisory Board meet infrequently if at all and do
not keep written records of their proceedings.


9. (SBU) Wardak said a British buyer recently had offered $150
million for a 49 percent stake in Ariana. Finance Minister Omar
Zakhilwal expressed interest in the sale, he said, but the deal fell
through when the buyer insisted on setting aside a 2 percent share
for an unnamed third party. Wardak said he would prefer to trade
shares for planes and training rather than cash, but national
sentiment makes privatization difficult.

COMMENT: SAME PROBLEMS AS THE COMPETITION, AND THEN SOME
- - - - - - - - - - - - - - - - - - - - - - - - - - - - -


10. (SBU) Ariana faces many of the same challenges as its private
sector rivals, including access to capital, nervous leasors, and
overcapacity on certain routes. Wardak echoed others' complaints
about Pamir Airline's below-cost tickets (ref B). He said no
airline can last more than three to four years in the Afghan market
without state support and suggested KamAir will be the next to fold.
Other Afghan airline executives, however, would disagree that state
support is inevitable and say GIRoA subsidies are essential to
Ariana's own future. A career pilot, Wardak has made impressive
progress in Ariana's operations. However, his weak grasp of the
airline's financial situation will limit expansion and
privatization. End comment.

EIKENBERRY