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Tuesday, Dec 01, 2020

Cathay Pacific Won’t Benefit If Hong Kong Airlines Stops Flying

Cathay Pacific Won’t Benefit If Hong Kong Airlines Stops Flying

Cancelling an airline license on commercial grounds unrelated to safety would be unheard of in a major developed market.
Logic would dictate benefit if your direct competitor goes out of business, especially if you are Cathay Pacific, in need of a reprieve after your senior management was forced out, with demand on the wane for four months and forward bookings just as gloomy.

That is the scenario being calculated if HNA’s Hong Kong Airlines closes. Yet it is in Cathay’s interest for Hong Kong Airlines to stay in business. It is large enough to foster competition without seriously challenging Cathay.

Hong Kong Airlines exiting the market is a loaded consideration. It is prompted by Hong Kong’s regulator, tired of the airline’s financial problems and management style, threatening to withdraw the airline’s license, causing it to cease service. Yet cancelling a license on commercial grounds unrelated to safety would be unheard of in a major developed market.

This possibility naturally garners attention, yet the Transport and Housing Bureau’s options include other actions that would be disciplinary but keep the airline flying. The Bureau itself is de-escalating.

Optics are important: the Bureau is proactive to a hounding local media. It has ensured the press knows it is making contingency plans for passenger recovery. With six months of political protests engulfing Hong Kong, the publicly low-profile transport section does not want to invite scorn for being unresponsive or unprepared. Yet the very message that shores up regulatory oversight hurts Hong Kong Airlines, weakens consumer confidence, and degrades the Hong Kong hub.

In a hypothetical scenario of Hong Kong Airlines exiting the market, it is difficult to see long-term benefit to Cathay. Aside from Hong Kong Airlines, there is no other independent passenger airline in the city, whose market is large enough that the Hong Kong government could not allow Cathay to have a local monopoly. Cathay is not entirely in the government’s good grace after it acquired budget airline HK Express without legal review.

Any new entrant to Hong Kong would be inherently more effective than Hong Kong Airlines since HNA would not be involved. Even before HNA’s debt restructuring, the Chinese conglomerate weighed down development of Hong Kong Airlines and HK Express (prior to its sale).

Aircraft at Hong Kong Airlines were leased from HNA at inflated rates, saddling the airline with extra costs. Rather than have internationally common Amadeus for its IT, Hong Kong Airlines had to use TravelSky, the IT backbone for HNA and other mainland carriers that does not have as sophisticated web sales to drive revenue or boost awareness in foreign markets.

Hong Kong Airlines was entangled in HNA’s inefficient practices and increasingly exposed to the group’s risks. Hong Kong Airlines was sued in February for not paying leases on six aircraft, two of which were actually sub-leased to Hainan Airlines.

Hong Kong Airlines struggled to be local; for a time its website’s default departure city was Beijing and telephone code was the mainland’s +86 and not Hong Kong’s +852. A new entrant would develop a local brand whereas Hong Kong Airlines piggybacked on the mainland HNA styling, which was not understood. It also used Hainan Airlines’ Fortune Wings Club loyalty programme rather than develop its own and enter into lucrative deals with banks and credit cards to drive revenue, as Cathay’s Asia Miles is doubling down on. Employees pressure their company to pay more for Cathay so they can have a petty sum of frequent flyer miles difficult to redeem.

Hong Kong Airlines remaining in the market would likely be in tandem with HNA taking a backseat, allowing Hong Kong Airlines to become the robust carrier it should have been a few years ago. Despite Cathay restructuring, it still has inefficient practices for a challenger to exploit. Hong Kong Airlines may not have a strong track record, but Cathay is not as primed as Delta or IAG.

In the short-term, the Hong Kong government would expect Cathay to provide relief tickets to Hong Kong Airlines passengers despite Cathay being publicly-listed with no ownership from the Hong Kong government. Accommodating Hong Kong Airlines passengers could weaken yields as Cathay heads into the popular Christmas and Lunar New Year holidays.

Protests in Hong Kong have affected air travel demand: Cathay carried 7% fewer passengers in October. So it could be argued Cathay has room to absorb Hong Kong Airlines passengers. But Cathay’s demand drop-off has not occurred evenly. Weak performance is concentrated in mainland China, where Cathay’s load factor was 63%. Hong Kong Airlines mostly flies to Southeast Asia and Northeast Asia, where Cathay’s load factor was 77% (excluding mainland China).

The nature of averages could mean Cathay flights to Osaka, which Hong Kong Airlines flies to, are mostly full, while Nagoya, which Hong Kong Airlines does not serve, has more empty seats. So seats may not be available in the right market, and if they are they could be on mid-week flights, which does not help Hong Kong Airlines passengers ticketed on peak days.

A brief period in the medium-term could see Cathay benefit from constrained capacity if Hong Kong Airlines is absent. But not all seats have equal impacts. Hong Kong Airlines partially pursues low-yielding group traffic that Cathay is not seeking. Hong Kong Airlines has a large transfer traffic business, using Hong Kong as stopover point; passengers from Hangzhou transit in Hong Kong en route to Bangkok. So an exit of four Hong Kong Airlines Bangkok flights does not mean there are four flights’ worth of local Hong Kong passengers that Cathay can increase prices for.

Demand would partially be backfilled by foreign airlines using Hong Kong Airlines’ decent pool of peak slots in an otherwise congested airport where slot growth has been difficult in recent years. Especially quick to move will be those pesky LCCs Cathay dismissed for so many years until buying HK Express.

Many at Cathay would like to see the exit of Hong Kong Airlines out of spite. It would be better to swallow pride and have an easier job ahead.

Quote of the Day

Everyone has the right to make his own decisions, but none has the right to force his decision on others.

Ayn Rand
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