The modernization of the New Delhi airport, one of the country's keenly watched privatization initiatives in India, runs the risk of getting knotted in a legal tangle as the GMR Ltd-led private developer of the country's second busiest airport goes ahead with plans to spin off units handling key businesses and the Union government digs in its heels on its opposition to such a move.

Delhi International Airport Ltd, or DIAL, as the airport company is called, plans to float a third unit, weeks after the formation of two other subsidiaries was strongly opposed by the civil aviation ministry on grounds of non-compliance with the 30-year concession or lease agreement that is central to the privatization.

Mint reported on 14 September about the escalating initial dispute.

An aircraft at the tarmac at the Delhi airport

The immediate impact of the differences between DIAL and the government is likely to be a delay in the Rs8,900 crore first phase of the airport modernization mandated for a 2010 completion and construction of about 3,000 hotel rooms in time for the Commonwealth Games in the Capital.

The proposed third DIAL subsidiary, whose name Mint could not ascertain immediately, is aimed at handling all of the airport’s duty-free shops and is pending board approval, according to a top government official familiar with the matter, who did not wished to be named. Two earlier-floated units—Delhi Aerotropolis Pvt. Ltd and DIAL Cargo Pvt. Ltd—were intended to help develop realty at the 5,000-acre New Delhi airport and handle cargo, respectively.

Cargo, hotels and duty-free shops constitute a major chunk of a modern day airports’ non-aeronautical revenue, which, in the case of the Delhi and Mumbai airports, is at least 30%—the highest in India—and are expected to increase substantially in the coming years. Internationally, in Singapore’s Changi airport, for instance, non-aeronautical revenue is as much as 60% of the total revenues. The rest of the revenue is so-called aeronautical revenue, which includes landing, parking and route navigation charges paid by airlines using the airport.

To part-fund the New Delhi airport modernization, DIAL has sought to lease out about 45 acres of airport land to real estate developers for developing the hospitality district under its Delhi Aerotropolis unit in return asking for a lump sum security deposit (at least Rs2,835 crore, refundable after a 28-year period) apart from an annual licence fee.

Despite objections from the government, the airport operator says this financial structure is not a deviation from the concession agreement. The selection of a bidder for developing the hospitality district, which was expected in September, has been delayed and a final selection will be made in November, Andrew Harrison, DIAL's chief operations officer, said on the sidelines of an industry event at New Delhi last week. DIAL has taken legal opinion on the planned units and has been told it conforms with the agreement, Harrison insisted.

A civil aviation ministry spokeswoman said the government has referred the matter to the solicitor general of India for legal opinion on the DIAL units and the new deposit-based financial structure.

DIAL's finance chief denied any immediate plans to float a third unit to handle duty-free shops at the New Delhi airport. “We are not doing anything out of the earth; it’s a normal way of doing business," said Madhu Terdal, chief finance officer of the GMR Group. But, he did not rule out the possibility of such a unit in future.

Terdal was clear that it was not possible to share the Delhi Aerotropolis security deposit with the government as it was meant to be refunded after a stipulated period. “I will take the deposit in the main holding company, if required, owing to any apprehension. We are not running away with the money," he said.

A partner with a New Delhi-based consultancy firm, who tracks the so-called public-private partnership projects, said though technically there was nothing wrong with the DIAL plan, the government would be a loser. “It’s a tricky concept," the consultant, who did not wish his name to be used, said. “From a technical perspective, there is no issue at all. You (DIAL) have structured your accounts in such a way that the security deposit does not become a revenue item. The cash flow is still there but because the deposit is not revenue, you benefit, the government does not," this consultant said, adding that the revenue share promised to the government gets “defeated".

The Hyderabad-based GMR Group-led consortium was selected based on the highest revenue-share promised to the government early in 2006. GMR holds 50.1% of DIAL’s equity with Frankfurt airport operator Fraport AG and a unit of Malaysian Airports Holding Bhd. each owning 10%. Private equity player India Development Fund has a 3.9% stake while the rest is with AAI.

The consultant questioned the approval of the first two units by the DIAL board, which has three government-nominated directors. “Ideally, the government’s representation on the board of directors of DIAL should not have allowed for the subsidiaries to be approved. Why did (the directors) not object then?" he asked.

Another airports expert said AAI still has the right to guard its interest as a serious equity holder in the project.

“AAI has two caps on its hat. One of a lessor and second as a member of the consortium where it holds 26% equity and it will be rightful in its action to exercise these positions to guard its financial interests," said Gurcharan Bhatura, former executive director of operations at AAI, who now heads New Delhi-based aviation watchdog Foundation for Aviation and Sustainable Tourism. Bhatura took early retirement in 2005.

Meanwhile, at the Mumbai airport, where a similar modernization is in the works, the GVK Power and Infrastructure Ltd-led consortium, Mumbai International Airport Pvt. Ltd, has also floated two so-called special purpose vehicles—one to bid for the upcoming Navi Mumbai airport and another with Housing Development and Infrastructure Ltd (HDIL) for rehabilitation and resettlement of slums that occupy 276 acres of airport land, according to a senior GVK official, who did not wished to be named. HDIL will have the mandate for commercial development of at least 60 acres of this land after it is vacated.