HONG KONG (XFN-ASIA) - Cathay Pacific Airways Ltd, ending months of speculation, finally clinched a deal to take full control of Hong Kong's Dragon Airlines Ltd (Dragonair), to boost its competitive position in global and regional aviation markets.
Cathay Pacific, Air China and its unit China National Aviation Co Ltd (CNAC), along with CITIC Pacific and Cathay parent Swire Pacific announced earlier today a five-party agreement providing for Cathay's acquisition of all remaining shares in Dragonair that it does not currently own, amounting to an 82.21 pct stake.
Dragonair is currently 17.79 pct-owned by Cathay Pacific, 7.71 pct by Swire Pacific, 43.29 pct by CNAC, 28.5 pct by CITIC Pacific and 2.71 pct by unnamed parties.
Under the agreement, Cathay Pacific will acquire stakes in Dragonair currently held by CNAC Ltd, Cathay parent Swire Pacific and CITIC Pacific for a total consideration of 8.22 bln hkd, to be paid via a combination of issuing 548 mln new Cathay shares at 13.50 hkd per share and 820 mln hkd in cash, the companies said in a joint announcement.
Upon completion of the transaction, Dragonair will become a wholly-owned subsidiary of Cathay.
'Cathay Pacific taking full control of Dragonair and strengthening its partnership with Air China will reinforce Hong Kong's role as the premier aviation hub in the Asia-Pacific region and create one of the world's strongest airline groupings here in Hong Kong,' said Cathay Pacific chief executive Philip Chen.
'It will improve flight connectivity and route management, mean more destinations and greater travel choices for passengers and strengthen both Hong Kong and Beijing as major aviation hubs,' he added.
In exchange for Air China's exit from Dragonair, the mainland Chinese airline will take a 10.16 pct interest in Cathay Pacific from Swire Pacific and CITIC Pacific, for a total consideration of 5.4 bln hkd or 13.50 hkd per share.
This will bring Air China and unit CNAC Ltd's total interest in Cathay to a combined 17.5 pct.
Cathay Pacific will, in turn, expand its holding in Air China to 20 pct from 10 pct by subscribing to 1.18 bln new Air China H shares at 3.45 hkd per share for a total cash consideration of 4.1 bln hkd.
Air China and CNAC's increased interest in Cathay Pacific will come as Swire Pacific cuts its stake in Cathay to 40.00 pct from 46.30 pct, while CITIC Pacific's stake in the carrier will be cut to 17.50 pct from 25.40 pct.
The increase in each other's equity holdings will also see Cathay Pacific and Air China further expanding their alliance in Greater China.
As part of the deal, the two airlines will enter into an operating agreement that will include implementing reciprocal sales representation, under which Air China will be exclusively responsible for Cathay Pacific's passenger sales in mainland China, while Cathay will be exclusively responsible for Air China's passenger sales in Hong Kong, Macau and Taiwan.
The alliance also involves the implementation, among other things, of joint-venture routes between Hong Kong and key cities in mainland China under profit-sharing arrangements and the strengthening of business cooperation in a number of other areas.
Air China chairman Li Jiaxiang said the cross-shareholding structure and operating agreement will closely align the interests and objectives of Air China with those of Cathay Pacific, which will benefit both parties in terms of strategy and business cooperation.
'Air China, Cathay Pacific and the Chinese aviation industry have much to gain, and our long-term position, both in the domestic and international markets, will benefit significantly from the operating agreement between Cathay Pacific and Air China,' he said.
However, some analysts said that, in spite of the closer ties forged by Cathay Pacific and Air China, competition between the two airlines on the mainland and in the Greater China market is inevitable, with Air China likely to face pressures from the combined operations of Cathay and Dragonair.
'While this deal provides for Air China and CNAC to increase their stakes in Cathay, Air China is expected to face more competitive pressures from the combined operations on the mainland of Cathay and Dragonair,' said Castor Pang, strategist at Sun Hung Kai Financial Group.
He noted that Cathay Pacific has not made progress in its bid to win Beijing's approval to operate flights between Hong Kong and Shanghai.
'This will no longer be an issue for Cathay because it can immediately gain access to Dragonair's lucrative Hong Kong-Shanghai route and its other operations on the mainland,' he said.
Zeno Tse, an aviation analyst at China Everbright Research, said the synergies that Cathay and Dragonair will achieve from the amalgamation of their operations will inevitably bolster their position with regard to airlines operating on the mainland and elsewhere in the Asia-Pacific region.
'The access that Cathay will gain (regarding) Dragonair's routes on the mainland will have an immediate impact on its earnings and growth prospects in China and elsewhere in the region,' he said.
He said Air China investors had mixed reactions to the Dragonair transaction, with some regarding its proposal to privatize CNAC at 2.80 hkd per share negatively, while others were hopeful that the mainland airline's increased stake in Cathay would be beneficial.
'While Air China and CNAC will increase their stake in Cathay Pacific, scores of investors are unsure if the benefits of this new arrangement will be outweighed by the high cost that it might incur in privatizing CNAC,' he said.
He said Air China's proposal to privatize CNAC at 2.80 hkd per share was seen positively by CNAC shareholders, explaining to a large extent the surge in CNAC's share price.
'The privatization offer represents a big premium to CNAC's closing price before its share price was suspended on Monday,' he said.
He estimates that the total 8.22 bln hkd consideration that Cathay has agreed to pay for the remaining stakes in Dragonair is not cheap as it values the latter at about 2.6 times book value.
Tse, however, noted that Cathay's decision to pay the bulk of the consideration in new shares, instead of cash, is a smart move that will prevent a deterioration of the airline's gearing.
'Most airlines have high net debt-to-equity ratios. Had Cathay opted to use more cash than shares in this deal, this would have resulted in a deterioration of its net cash position,' he said.
'In this respect, Cathay's decision to use more shares than cash is a very laudable move, even as it stands to reap substantial benefits from China's aviation market which is one of the fastest-growing all over the world,' he said.
Swire Pacific chairman Christopher Pratt said the terms of the restructuring deal are fair and the airlines involved will achieve synergies from the new arrangement.
He said Cathay's cash outlay of about 6 bln hkd will increase the company's gearing ratio 'mildly', but will not adversely affect its financial position due to its strong balance sheet.
Pratt said the changes under the transaction will deliver significant benefits for the Chinese aviation industry and its customers, and strengthen the position of Beijing and Hong Kong as key hubs in the region.
Swire Pacific will receive 1.2 bln hkd in cash from sale of its stake in Dragonair.
Responding to questions as to whether Cathay's takeover of Dragonair raises monopoly issues, Pratt said the acquisition of Dragonair is aimed at further helping to develop China's aviation market and is in no way intended to ease out any competitor.
He said the transaction is expected to be completed in two months.
Air China's Li said Dragonair and Air China will not dominate China's airline market.
At the market close, Cathay Pacific was up 0.90 hkd or 6.95 pct at 13.85, while Air China was down 0.075 hkd or 2.42 pct at 3.025.
Swire Pacific rose 0.40 hkd or 0.55 pct to 72.65, CITIC Pacific fell 0.75 hkd or 3.16 pct to 23.00, while CNAC rose sharply by 0.63 hkd or 31.98 pct to 2.60.
(1 usd = 7.8 hkd)
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© 2006 AFX News
