Will the $700m Air Arabia IPO fly?

Air Arabia is the Middle East's answer to budget airlines which have been a big success all over the world in the past decade. This business model pioneered by Southwestern in the US and Ireland's Ryan Air in Europe has dovetailed with the expansion of booking on the Internet to provide low-cost air travel for the masses.

This week the Sharjah Government is privatizing its recent start-up Air Arabia with the sale of 55 per cent of its shares to the UAE national citizens and residents, government pensioners, the management and staff.

IPO pricing

As traditional in such IPOs in the UAE the issue price for the stock is Dhs1, which most likely under prices the issue. What then happens is that applicants borrow money to buy as many shares as they can, and that means they get a lot less than they apply for in the final allocation.

However, such is the level of demand stirred up in this rush for the under priced shares that when they are traded on the stock market itself a premium is almost guaranteed. The only question is whether the premium will be high enough to pay any borrowing costs, or be worth the hassle involved in shuffling the money around to buy rather less shares than applied for.

What this process does not usually involve is the presentation of the sort of financial data required to do a 'due diligence' analysis on the company as a business prospect.

Prospectus limited

The Air Arabia IPO announcement in the Gulf News was no different. There is a very impressive list of founding shareholders from the Sharjah business community. There is a dividend policy of paying out 25 per cent of income 'subject to bank financing, working capital and capital expenditure requirements'.

This is how an IPO is done in the UAE and there have been many successful issues, particularly when the stock market was booming in 2004-2005. The applicants are protected by the low Dhs1 price per share but they do place their money in the hands of a company largely on the basis of trust rather than hard financial data.

That said Air Arabia has flown millions of passengers in its short life and fills a gap in the market for budget travel. Elsewhere in the world investors have made good profits from backing this business model and whatever the short-term turbulence of global and local markets, the long-term future looks bright for Air Arabia.