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Cathay’s leadership change is no magic bullet, warn analysts

Hong Kong’s loss-making carrier is under growing pressure from mainland carriers and a fall in demand for premium air services

PUBLISHED : Thursday, 13 April, 2017, 7:39pm
UPDATED : Thursday, 13 April, 2017, 10:07pm

The change in leadership at Hong Kong’s troubled airline, Cathay Pacific, is unlikely to improve the company’s fortunes as it battles fierce competition from mainland carriers and a slump in demand for premium air travel, say analysts.

Investment banks remain underweight on Cathay Pacific Airways despite the carrier’s shares regaining some ground in the first trading session after announcing the appointment of a new CEO.

Hong Kong’s loss-making flagship airline reversed a six-day loss to close 0.2 per cent higher at HK$10.9 on Thursday after the announcement on Wednesday night that it will replace chief executive Ivan Chu Kwok-leung with chief operating officer, Rupert Hogg, on May 1. The timing of the change means Cathay will have a consistent management team to carry out its three-year transformation plan, which will officially begin in the second half of 2017.

Cathay’s misfortune is a result of changing market dynamics rather than its internal management
Boyong Liu, analyst, JP Morgan

The airline’s share price surged as much as 3.5 per cent at one point during Thursday trade before settling back. It has fallen 17 per cent over the last 12 months.

JP Morgan reiterated its underweight position on the carrier, saying “Cathay’s misfortune is a result of changing market dynamics rather than its internal management”.

“Hence, the change of management is likely to have only a limited impact,” said Boyong Liu, an analyst with the investment bank. “We believe this is part of routine management rotation as it has been the case over the past 20 years.”

He was referring to Cathay’s policy, dating back as far as 1998, of promoting its COOs to the post of CEO. Over the last decade, this has been done every three to four years; COO Tony Tyler replaced Philip Chen as CEO in 2007, then COO John Slosar replaced Tyler in 2010, COO Ivan Chu succeeded Slosar as CEO three years later, and now in 2017, COO Rupert Hogg is replacing Chu.

“Throughout the past management transitions, we did not notice any meaningful reaction in share price, or over-interpretation by investors of these events,” said Liu. “However, this time, we think it may potentially trigger a short-term positive reaction.

“In light of Cathay’s current challenging environment, investors may expect that a new leadership team could bring significant changes to the company.”

The management change is unlikely to improve the negative outlook significantly, JP Morgan said.

“Our thesis remains that market oversupply led by Chinese carriers’ aggressive long haul expansion has significantly squeezed Cathay’s addressable market, and requires a significant capacity response from Cathay, which we do not expect to happen in the near future,” said Liu. “Hence, Cathay will likely continue to face significant pressure on yield and widening losses in the coming one or two years.”

Cathay should find ways to deal with the fierce competition from mainland airlines because they are very aggressively expanding their international capacity
Andrew Lee, equity analyst, Jefferies

Victor Au, chief operating officer at Delta Asia Securities, echoed that view saying that “the senior management changes cannot bear fruits in the short term”.

He added: “Fuel hedging losses will continue to be a big pressure for Cathay and the competition from mainland airlines remains there and premier-service demand is reducing as well.”

Fuel is still Cathay’s biggest bill, accounting for 29.6 per cent of total operating costs in 2016, a smaller proportion than the 34 per cent in the previous year. In 2016, the carrier unexpectedly swung into its first loss in eight years, losing HK$575 million. After the results announcement, Chu said he had made progress over the past few years, including improving safety, but admitted the pressure on profit remained.

Jefferies Hong Kong also expects Cathay to “remain loss-making this year” in spite of the senior management changes.

“We expect Cathay to report another loss this year given structural headwinds from Chinese airlines’ aggressive international capacity expansion, and passenger yield pressures from lower premium class traffic and cost-conscious leisure travellers,” said Andrew Lee, an equity analyst at Jefferies Hong Kong. However, he does not foresee any balance sheet problems because the carrier’s gearing was just 89.9 per cent at end of 2016 and it had HK$6.6 billion in cash and another HK$13.7 billion in short-term investments.

“We believe this is not stretched and lower than the Chinese airlines,” said Lee.

Jefferies believes Cathay timed the announcement of the new CEO well as it comes ahead of the three-year transformation plan which will include investment in technology, a cost-saving, more fuel-efficient fleet, and redeployment of staff.

“The change will give Cathay a consistent management team to carry out its transformation plan, [which is] positive for its performance,” said Lee. “But Cathay should find ways to deal with the fierce competition from mainland airlines because they are very aggressively expanding their international capacity.”

The newly appointed CEO Rupert Hogg has been with Swire Group, Cathay’s owner, for over 30 years. Before becoming Cathay COO in 2014, he was in charge of the airline’s sales and marketing from 2010 and Cathay Cargo from 2008. Outgoing CEO Chu will become chairman of Swire (China).

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