Cathay Pacific sells 15% stake in Haeco

The Hong Kong airline pockets $333 million from the sale to Swire as the company's capital expenditure and loan repayments rise.
Cathay Pacific Airways and Continental Airlines aircraft parked at Haeco
Cathay Pacific Airways and Continental Airlines aircraft parked at Haeco

Cathay Pacific Airways is selling its remaining 15% stake in Hong Kong Aircraft Engineering Company (Haeco) to Swire Pacific for HK$2.6 billion ($333 million), its third asset sale in the past year as the airline's capital expenditure and loan repayments rise.

Under the terms of the deal, Swire will acquire the airline's 24.9 million shares in Haeco for HK$105 per share, a 25% premium above their closing price on Friday (the three involved parties were all suspended from trading on Monday). When completed by June 14, the acquisition will increase Swire's ownership in the maintenance provider to 60.96%. Swire is also the largest shareholder in Cathay Pacific with just under 42% of the equity.

Cathay Pacific will book a gain of HK$1.8 billion from the sale.

"The transaction is driven by the strategic priorities of Cathay Pacific and will benefit our core aviation business," said John Slosar, Cathay Pacific's chief operating officer. According to a representative of the airline, those priorities include the delivery of 31 new aircraft by 2013, construction of a new HK$5.5 billion cargo terminal at Hong Kong International Airport, investments in products and services, and general working capital needs.

Being the third such deal in the past year, the transaction begs the question why Cathay Pacific is in need of so much cash. At the end of last year, it had HK$16.5 billion in cash reserves, up 9.5% from a year earlier, and a relatively healthy debt-to-equity ratio of 62%.

Citi analyst Anil Daswani wrote in a research report that the rationale for the sale was the airline's "extensive capex [capital expenditure] cycle ahead". On Monday, the airline announced that it will invest HK$51 billion during the next few years. This is HK$11 billion more than Daswani's estimate and confirms that the company's expenditure is rising over the short- to medium-term.

According to Cathay Pacific, capex amounted to HK$6.8 billion last year, down 32.2% from the peak in 2007 and its lowest level since 2005. In his report, Daswani estimated that this would rise to HK$11.5 billion this year before peaking at HK$15.4 billion in 2011.

But, during the airline's March earnings announcement, management indicated that debt repayments were more of a concern than investment. "The capex can pretty much be financed by new funds," said James Hughes-Hallet, the airline's finance director, during the briefing. "The issue is not where the funding comes from for new [aircraft] deliveries, the issue is where the funds come from for paying the loans we have taken."

Loan repayments rose to HK$4.5 billion last year, up 14.2% year-on-year and the highest level since 2007. In March, Hughes-Hallet said that the repayments will rise again this year.

A Cathay Pacific representative said the company's financial position remains "healthy and strong" and added that there was not a direct link between the sale of its stake in Haeco and the purchase of new aircraft. The representative declined to comment on the airline's debt repayments.

Last month, Cathay Pacific sold its 10% stake in Hong Kong Air Cargo Terminals (Hactl) for HK$329 million as required by a March 2008 agreement with the local Airport Authority. And last September, it began selling down its holdings in Haeco, which originally totalled 27.45% of the company. At that time, it raised HK$1.9 billion from the sale of a 12.45% stake, also to Swire, and said the deal was to improve its cash position.

The airline representative said the company currently has no plans to sell stakes in any of its other subsidiaries, which include Asia Miles and Cathay Pacific Catering Services.

With Swire's purchase of Cathay Pacific's remaining shares in Haeco, the Hong Kong-listed conglomerate now has the opportunity to take full control of the maintenance provider. Under Hong Kong stock exchange rules, it must offer all remaining shareholders the opportunity to sell their shares for the same price that it is paying Cathay Pacific -- HK$105 per share. According to stock exchange filings, this offer will be open through October and, if by that time Swire has acquired more than 90% of Haeco, the conglomerate will delist the maintenance provider. Swire added that a delisting was not a "goal in itself".

Asia-Pacific Advisors and HSBC advised Swire on the deal.

After their shares resumed trading yesterday, Cathay Pacific's share price rose 1.4% to HK$15.90, while Swire fell 1.93% to HK$83.85. Haeco rose dramatically to HK$104.20, a 24.05% jump over the closing price last Friday, as the share price adjusted to the price of the general offer.

Depending on Cathay Pacific's future capital needs, an increased stake by Air China is not out of the picture. Last August, the Beijing-based carrier increased its holdings in Cathay to 29.99% by purchasing 12.5% of the airline from Citic Pacific for HK$6.3 billion. While this is the maximum it is allowed under a 2006 cross-shareholding deal, Air China is known to be well capitalised, partially buoyed by the Chinese government, and has long shown an interest in expanding internationally. An increased investment would require a new shareholding agreement between the two airlines and no discussions have been reported.

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