13 June 2018, China – Hainan Airlines has finally announced its asset restructuring plan 5 months after suspending their shares trading since 9th January 2018. Here is our analysis on the key implications of the myriad of proposed transactions, debunking some common market perceptions:
#1 Contrary to common market perception of the deal, Temasek’s investment is small and purely from a fund management standpoint rather than strategic in nature
Contrary to common market perception that Temasek is taking a meaningful strategic stake in Hainan Airlines which could potentially involve Singapore Airlines in the future, Temasek’s investment in Hainan Airlines effectively amounts to only a 1% stake in Hainan Airlines in this transaction.
Specifically, Temasek will subscribe to only 10% of Hainan Airlines’ new A share private placement, along with 9 other investors. Temasek’s equity investment will amount to Rmb700 million (or US$109 million), effectively giving Temasek a 1% stake in Hainan Airlines. The investment is being made by Temasek Fullerton Alpha Pte Ltd which is the fund management arm of Temasek. Note that Fullerton has S$17.9 Billion assets under management as at 31 December 2017.
The transaction price is at Rmb3.12 per share, a 4% discount to Hainan Airlines’ closing share price prior to its shares trading suspension. The total proceeds from Hainan Airlines’ Rmb7.0 Billion A share private placement to 10 investors (one of which is Temasek Fullerton Alpha Pte Ltd) will be used to fund part of the projected capex for investments in engine & component overhaul, flight training, flight simulator, airport infrastructure expansion and four aircraft.
#2 Singapore Airlines’ longstanding aim to invest in a sizeable Chinese carrier remains out of reach as China appears wary
Essentially, this transaction is a stock investment and the shares could be sold by Temasek Fullerton Alpha Pte Ltd in the open market for profit (or loss) at an appropriate time after the 3-year lock-up period.
This transaction is therefore not a strategic one and is markedly different from Temasek Strategic and Singapore Airlines’ proposed investment in a 24% stake (Temasek 8.27%, Singapore Airlines 15.73%) in China Eastern Airlines back in 2007 which was unsuccessful after failing to garner sufficient shareholder votes.
Perhaps, this suggests that China may not be comfortable with Singapore interests owning too significant a stake or influence in the fourth largest airline in China – Hainan Airlines; for fear of undermining the growth prospects of the other state-owned carriers in China, in particular the Big 3 Chinese carriers Air China, China Eastern and China Southern Airlines.
#3 Hainan Airlines’ ultimate controlling shareholder will change from Hainan SASAC to Hainan Province Cihang Foundation
Interestingly, following the asset acquisition transactions, Grand China Air’s stake in Hainan Airlines will fall from 25.62% to 19.20%; whereas HNA Group’s stake in Hainan Airlines will rise from 6.61% to 19.94%, overtaking Grand China Air’s stake.
Therefore, Hainan Airlines’ ultimate controlling shareholder will change to Hainan Province Cihang Foundation which controls HNA Group from Hainan SASAC previously.
Chart: Hainan Airlines Existing Shareholding Structure
Chart: Hainan Airlines Shareholding Structure following its A Share Private Placement and Asset Acquisitions from HNA Group and related companies (2018)
#4 Hainan Airlines’ asset acquisitions will help ease parentco HNA’s debt burden and its future capex obligations
Hainan Airlines will acquire stakes in 5 companies from HNA Group and related companies for a total consideration of Rmb10.478 Billion. The payment for these acquisitions will be via Hainan Airlines’ shares– 3.36 Billion shares will be issued at Rmb3.12 per share. There is also a three-year lock-up period for these shares. The total number of shares outstanding will increase by 33% when all the transactions are completed.
As mentioned in our previous report, the once high-flying HNA Group that went on a US$50 Billion worldwide acquisition spree was forced by alarmed regulators and mounting debt to dispose of US$14 Billion of assets in the first four months of 2018 alone. Hainan Airlines’ acquisition of assets from parent HNA Group will therefore help ease HNA’s debt burden.
See our previous report on Hainan Airlines for more details:
#5 Most of the assets acquired in this transaction are value-accretive
Of the five assets that Hainan Airlines is acquiring from HNA Group and related companies, Hainan Technical, Hainan Tianyu Flight Training, West Air are more profitable than Hainan Airlines while West Air Holdings is less profitable and HNA Aviation is loss-making.
There are also profit guarantees from 2018 to 2020 in place, with SR Technics expected to turn profitable from 2019.
Chart: Net profit margin of Hainan Airlines and the 5 Assets to be Acquired (2017)
#6 Hainan Airlines is emerging as an Aviation Conglomerate
The acquisition of these five assets will broaden Hainan Airlines’ scope of business as an aviation conglomerate, more akin to Singapore Airlines and Lufthansa which also have large Maintenance, Repair & Overhaul (MRO) subsidiaries SIA Engineering and Lufthansa Technik respectively.
In particular, HNA Aviation owns an 80% stake in SR Technics which is one of the largest independent MRO service providers in the world. Its third-party airline business is much larger than Air China’s AMECO, China Southern Airlines’ GAMECO and China Eastern Airlines’ STARCO MRO operations. HNA Aviation’s total revenue amounts to 13% of Hainan Airlines’ total revenue.
Independent Research Declaration: Crucial Perspective does not own any position in the equities featured in this report nor have we received any compensation for writing this report.
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