Morningstar | Cathay's Potential Acquisitions of HK Airlines and HK Express Make Strategic Sense.
Cathay Pacific said that it is in talks to acquire shares in both Hong Kong Express and Hong Kong Airlines from HNA Group. While no definitive agreement has been reached at the moment, we think the potential acquisition will not only enlarge Cathay’s footprint in its Hong Kong hub but also expand the airline’s reach into the low-cost carrier, or LCC, market--something we believe is long overdue. With no formal bid being announced, we are maintaining our no-moat rating and fair value estimate of HKD 12.20 on Cathay Pacific. We will come back to review our ratings once more details on the deal surface.Hong Kong Express is the sole LCC based on Hong Kong. The airline runs a passenger business and operates around 20 midsize Airbus airliners. While LCC account for nearly 30% of total seat capacity in the Asia Pacific, Hong Kong has one of the lowest LCC penetration rates, running at merely 11%. Limited slot availability at the city’s only airport limits growth for LCCs, as slot allocation rules are known to favor incumbents like Cathay Pacific. However, things are set to change once the third runway opens in 2024 and more slots will be available for LCCs. There is an underlying shift in air travel taking place, as a rising number of people are traveling short distances over weekends at higher frequencies. When people are making more short trips, they tend to favor flying LCCs. However, while recognizing the importance of such a market segment, Cathay does not currently have an LCC arm. We think the potential acquisition of Hong Kong Express will complement Cathay’s service offerings.
On the other hand, Hong Kong Airlines is a full-service airline with around 40 Airbus planes and it operates routes covering mainly the Asia Pacific region. A deterioration in the financial situation at the carrier’s parent, HNA Group, has been impacting Hong Kong Airlines. At one point, the carrier was unable to deliver its interest payment on its bonds. We think Cathay Pacific’s potential involvement can help Hong Kong Airlines to consolidate its businesses, leading to better operational efficiency over the long run.
Cathay Pacific is an international airline registered and based in Hong Kong, offering scheduled passenger and cargo services to 203 destinations in 50 countries and territories. Co. and its subsidiaries are engaged in other related areas including airline catering, aircraft handling, aircraft engineering and cargo terminal operations. Co.'s airline operations are principally to and from Hong Kong. Co.'s segments include: the airline business, which consist of Co.'s passenger and cargo operations; and the non-airline business, which consist of catering, ground handling, aircraft ramp handling services and cargo terminal operations. As of Dec 31 2014, Co. operated 147 aircraft.
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