Hong Kong's handover has come a year early for Dragonair. Yielding to Chinese pressure, Cathay Pacific and the Swire group have agreed to cut their holdings in Dragonair and allow China National Aviation Corporation (CNAC) to take control. Peter Sutch, Cathay's chairman, describes this as 'an accommodation of PRC aviation interests in Hong Kong' that 'removes the aeropolitical cloud' hanging over Dragonair's future.

Barring last minute hitches, CNAC could become Dragonair's largest single shareholder as early as July. Swire/Cathay and Citic Pacific, the Chinese investment arm that is now Dragonair's largest owner, have agreed to sell equal shares to CNAC. All parties have then agreed to a public float of between 15 and 20 per cent of Dragonair. Post-float, CNAC will own no less than 35 per cent of Dragonair, Citic about 25 per cent, and Swire/Cathay about 20 per cent. This more than halves Swire/Cathay's stake in Dragonair and puts the Chinese firmly in control.

As a result, Dragonair will become CNAC's Hong Kong-based airline. CNAC will drop plans to launch a competing carrier and transfer its staff and recently leased aircraft to Dragonair. Cathay will assist in Dragonair's transition to new management.

Insiders confirm that CNAC's takeover of Dragonair has been its primary goal for the past two years. Its application to launch a separate Hong Kong carrier was a ploy to gain more leverage with Swire/Cathay and a fallback in case that failed. An insider ruefully notes: 'CNAC is getting exactly what it wanted.'

This should end China's two year freeze on frequencies or routes for Dragonair, and clear the way for the Hong Kong-Taiwan air accord that allows Dragonair flights to Taiwan. Without Cathay as its big brother, there is also the prospect that Dragonair may seek to compete with Cathay on some non-Chinese routes. Sutch does not rule out Cathay responding with route applications to China should Dragonair seek to compete but adds that is not currently planned. Indeed, CNAC deputy general manager Hu Yulan has already come out in favour of cooperation with Cathay, rejecting any notion that Dragonair will target its former parent carrier.

As part of this same accord but driven by different reasons, Swire Pacific will relinquish majority control of Cathay Pacific by selling a stake to Citic that boosts its holdings from 10 to 25 per cent and reduces Swire's from 53 to 44 per cent.

Sutch insists there was no Chinese pressure for Swire to do this. Indeed, he claims the initiative came from Swire, which was mostly motivated by a desire to raise capital. 'We had already been considering a dilution of Swire's interests,' says Sutch. This is because of Cathay's heavy investment in Chep Lap Kok facilities on top of its normal capital needs. Citic's purchase will yield some US$815 million, all of which will be reinvested in Cathay.

Swire will still continue to manage Cathay, but Citic will increase its seats on Cathay's board and executive committee. The number is still under discussion, but Sutch says Citic will not gain enough seats to provide it with any veto. 'Citic's object is not to become involved in direct management of the airline,' Sutch insists. 'But with a 25 per cent interest, it makes sense for them to be aware of and involved in major policy decisions.'

Sutch regards the drop in Swire's ownership below 50 per cent as simply symbolic. By retaining 44 per cent and a management contract, 'Swire will have no less influence over Cathay's operations than it does today.' And, he adds, 'That is also the wish of the other major shareholders.'

Declan Magee, aviation analyst at HG Asia, foresees a different future: 'If I were sitting in Beijing and watching Swire continue to control Cathay, I might tolerate it for a while, but it's not something I can live with.' Yet Sutch claims Beijing has encouraged Swire to stay involved and Swire's dilution of its interests does not signal any move to abandon Hong Kong. 'If anything,' Sutch claims, 'it's the other way round.'

CNAC's takeover at Dragonair appears unrelated to reports that Beijing has directed China Southern and China Eastern Airlines to shelve their IPOs so that CNAC could become China's only airline listed overseas. Indeed, insiders claim no CNAC offering is planned. The real reasons behind delays in the China Southern and China Eastern IPOs are the need to finish audits of their 1995 finances and the political tensions with the US.

D Knibb/T Ballantyne

Source: Airline Business