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Nikkei Markets

Caught between 'rock and hard place,' Cathay's shares tumble

CEO Hogg warns of consequences for employees participating in 'illegal' protests

Shares of Cathay Pacific dropped 4.9% to HK$9.80 in Hong Kong on Aug. 12, 2019.   © Reuters

HONG KONG (Nikkei Markets) -- Shares of Cathay Pacific Airways slumped to a decade low after a Chinese regulator ordered it to drop crew involved with Hong Kong protests from flights to the mainland, fueling concerns the carrier could get caught in the middle of an escalating political crisis in the city.

The development adds to the headwinds faced by the Hong Kong-based carrier at a time when intensified competition, the Sino-American trade war and mass demonstrations in the city all threaten to put downward pressure on freight traffic as well as passenger airfares. The carrier needs to walk a fine line to avoid displeasing the authorities, or the local population involved in the protests, say analysts.

"The problem is that Cathay is caught between a 'rock and a hard place,'" where it risks upsetting either the Chinese government or upsetting the Hong Kong people and risking union action, Andrew Sullivan, a director at financial services group Pearl Bridge Partners, wrote in a note on Monday.

In a directive issued late on Friday, the Civil Aviation Administration of China issued a safety risk warning, requiring the Hong Kong-based airline to immediately suspend employees who participated in "overly radical behaviour" from activities related to flight services to the mainland. The order also said Cathay Pacific should submit identification details of all crews flying to or over mainland airspace, and that prior approval is required for Cathay to land in or overfly Chinese airspace.

Furthermore, CAAC asked Cathay Pacific to report details of the actions taken by the carrier to step up internal safety controls by Aug. 15.

The CAAC order came after a pilot was recently charged with rioting amid clashes with Hong Kong police near a Chinese representative office in the city.

In a statement on Saturday, Cathay said it had suspended the pilot, whom it did not name, and that it had also fired two unidentified airport ground staff for "misconduct." The airline also said it respects "everyone's right to express themselves in a peaceful and respectful manner."

The termination of the ground staff followed reports that information related to the travel arrangements of a Hong Kong police soccer team, which was flying to Chengdu, had been leaked.

In a separate letter to employees sent on Monday, Chief Executive Rupert Hogg said that there will be "disciplinary consequences" for employees who support or participate in "illegal" protests - demonstrations that are not approved by authorities.

Shares of Cathay Pacific dropped 4.9% to HK$9.80 in Hong Kong on Monday, poised for their lowest closing level since June 2009. The drop also represents their steepest single-day decline in three years.

Banny Lam, managing director and head of research at CEB International, said cautious investors were selling down the stock even before the impact on the airline from the CAAC action could be determined.

The incident "may be a trigger for people to consider whether the growth in overall traffic including freight will slow down," Lam said. "Cathay's first-half results were okay, but people are now also concerned about its performance in the second half."

Cathay Pacific last week reported a net profit of HK$1.35 billion ($175 million) for the six months ended June, compared with a loss of HK$263 million a year ago, as an increase in passenger services revenue helped compensate for a 11% decline in income from freight services.

The airline is controlled by Swire Pacific, a diversified conglomerate with British origins that established its business ties to the mainland in the nineteenth century, during the American Civil War. The Hong Kong-based carrier, which was itself founded in 1946, operates roughly a fifth of its seat capacity on services to North Asia including China.

Although Hong Kong's mass protests began peacefully in June to voice opposition to a controversial extradition bill, they have turned violent more frequently of late as protestors clashed with the police. The protesters have also been the subject of violence by groups that are widely seen as pro-Beijing.

The demonstrations have over the past few weeks morphed into a wider movement, with the protesters now demanding an independent committee to investigate what they say is an abuse of force by the police, as well as universal suffrage.

Business outlook in the city has weakened meanwhile, weighing on shares of commercial property developers and retailers.

Disruptions caused by the large demonstrations led industry body Hong Kong Retail Management Association to warn last month of a double-digit drop in local retail sales for 2019, reversing an earlier projection for a percentage growth in the single digits. The Real Estate Developers Association of Hong Kong, which counts some of the city's biggest developers including industry leader Sun Hung Kai Properties, last week said it "condemns the escalating violence," while noting that the acts were being perpetrated by a small group of individuals.

In a blog on Sunday, Hong Kong financial secretary Paul Chan said the city was entering a "very difficult economic environment" and that a series of "violent shocks" have hurt revenues for retail, catering and transportation industries. Chan had said last week that the city's economy could plunge into a technical recession amid the intensifying unrest in the city and the global trade war.

In its earnings statement last week, Cathay Pacific had itself said the protests were affecting its inbound and forward bookings.

Analysts at Jefferies wrote in a note on Monday that the CAAC's order requiring filing crew identities for prior approval would affect not only Cathay Pacific's direct flights to China, but also its services to Europe, and to a lesser extent, the U.S., as they fly over Chinese airspace.

They, however, kept their Buy rating on Cathay Pacific shares, saying the airline was expected to remain profitable.

"However, there may be a better entry point given near-term headwinds," Jefferies said.

-- Benny Kung

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