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Shares in China’s flag carrier airline, Air China, have stalled in its initial foray on the Shanghai stock market.
High fuel prices undermined the value of the launch, and shares ended the day unchanged from the initial public offering (IPO) price of 2.80 yuan.

Most IPOs see early gains of 50% to 80% in China’s booming economy.

Air China raised 4.6bn yuan ($575m) in its flotation earlier this month and plans to use the proceeds from the share issue to buy new jets.

Growth in doubt

Other Chinese airlines have run into flak over fuel costs.

China Southern Airlines, the carrier with the most aircraft, reported a 835m yuan ($105m) first-half loss. This came after last week’s 163m yuan ($20m) loss from Shanghai Airlines.

Air China had already cut the number of shares it issued by 40%. It was the first time a Chinese IPO had been scaled down, reflecting worries that the Shanghai exchange was in danger of being flooded by new stock.

The high cost of fuel raises doubts over plans for the dramatic expansion of China’s airline industry.

China plans to spend 140bn yuan ($17bn) on airport construction over the next five years and predicts that its fleet of airliners will grow from fewer than 900 jets to 1,580 by 2010.

Air China hoped that a healthy performance by its shares would assist its part in this expansion. The airline hopes to increase its fleet by 20 Airbus and 25 Boeing jets.

Air China is state-owned and its parent company, China National Aviation Holding, is committed to supporting the shares with a buy-up if they fall below the IPO price before the end of this year.

The retail tranche of Air China’s (HK 0753) Shanghai initial public offering was nearly 20 times oversubscribed after it cut the size of its issue by around 40 pct due to weak subscriptions from institutional investors, state media reported.

Investors applied for 15.38 bln of the flagship carrier’s yuan denominated A-shares, compared with 819.5 mln shares available for the retail tranche, the China Securities Journal reported, citing sources.

The Chinese flag-carrier set the price of its A-share IPO at 2.80 yuan per share, near the low end of an indicative range of 2.75-2.95 yuan per share.

It also scaled back the number of shares on offer by around 40 pct to 1.639 bln shares, with 350 mln earmarked for strategic investors, 469.5 mln for institutional investors and 819.5 mln for the retail tranche.

Air China originally planned to issue up to 2.7 bln A-shares.

The company is scheduled to release the results of its retail subscription on Monday, the paper said.

Air China, the country’s largest overseas carrier, said Monday that it would cut the size of its domestic share sale by about 40 percent after demand from investors failed to meet expectations.

Air China will sell as many as 1.64 billion shares at about 2.80 yuan each to raise 4.5 billion yuan, or $563 million, the company said in a statement to the Shanghai stock exchange. The carrier, which is based in Beijing, said last week that it hoped to sell 2.7 billion shares.

Air China raised about $1.2 billion in 2004 by selling 3.2 billion shares in Hong Kong.

“Air China should set its domestic share sale at a greater discount to Hong Kong shares,” said Charlie Chen, head of portfolio management at Fortis in Shanghai. “The airline industry has little growth potential, as competition will heat up and the jet fuel price keeps rising.”

Losses among Chinese carriers, including Air China, widened by 23 percent to 430 million yuan in the second quarter because of rising fuel costs and constraints against raising fares, adding routes and hedging costs. Initial public offers are also losing their appeal to investors: The premium from trading debuts narrowed to 12 percent for Daqin Railway last Tuesday, compared with a fourfold increase by China CAMC Engineering in June.

“The offer price is too expensive, leaving little room for any gains for investors,” said Li Haipeng, who does not own airline shares among the assets he manages at China Southern Fund Management in Shenzhen. “Air China is not a growth stock, and it’s certainly not a top pick for us.”

Air China said last week that it planned to raise as much as 7.97 billion yuan with the sale of 2.7 billion shares to finance aircraft purchases. It plans to buy 25 planes from Boeing and 20 Airbus A330-200s. The carrier set a price range of 2.75 yuan to 2.95 yuan for the share sale, according to its previous statement.

An Air China official said

that the carrier would announce details of the share sale in two days.

Losses in the airline industry widened as the price of jet fuel rose 13 percent in the first half to 5,480 yuan per metric ton, compared with 4,836 yuan last year. Jet fuel, the biggest expense for Asia’s airlines, made up 39 percent of Air China’s 2005 operating costs, compared with 33.4 percent in 2004, the carrier said in its share sale document.

Japan Airlines reduces loss

Japan Airlines, the largest Asian carrier by sales, narrowed its first-quarter loss by 30 percent, it reported Monday, after increasing surcharges and cutting wages in response to a surge in the price of jet fuel.

The loss totaled ¥26.8 billion, or $234 million, in the three months that ended June 30, compared with a loss of ¥38.4 billion, or ¥19.38 a share, in the same period last year, the company, which is based in Tokyo, said in a statement. Sales rose 3.7 percent to ¥522.2 billion.

The company’s president, Haruka Nishimatsu, who took his job June 28, is trying to regain profitability this fiscal year by cutting wages and passing on increased fuel costs to passengers. In addition to record fuel prices, JAL has suffered from safety problems that have prompted customers to defect to All Nippon Airways.

CEBU PAcific Air and China Airlines Ltd. have sought government permission to increase fuel surcharges that are included in their ticket prices.

In separate filings with the Civil Aeronautics Board (CAB), the airlines said that while any surcharge increase would be an added burden on passengers, they stressed that the adverse effect of higher oil prices on their operating costs has left them with no alternative but to seek a higher fuel surcharge.

In its letter, PAL asked that it be allowed to double its fuel surcharge for the Philippines-to-Guam route from $11 to $22.

China Airlines sought a $20 adjustment for two routes–Taipei-United States and Taipei-Canada. If its request is approved, the fuel surcharge of $34 for the two routes will increase to $54.

Only Cebu Pacific focused on fuel surcharges for domestic routes, its primary source of business. The budget carrier asked for adjustments in six route segments. It wanted an additional fuel surcharge of P140 for its Luzon-Mindanao flights (currently P850), P100 for Luzon-Visayas (currently P620), P100 for routes within Luzon (currently P450), P60 within Visayas (currently P400), P60 within Mindanao (currently P550), and P60 for Visayas-Mindanao (currently P550).

“Unlike other airlines that are able to increase the regional surcharges to the level that these can partially subsidize the domestic sector, Cebu Pacific’s regional operations only comprise a small part of its operations,” Cebu Pacific said in its letter to the CAB.

“The wide array of low fares that are offered by the airline especially in the domestic sector, while stimulating more people to travel, does not leave the airline with a large buffer to accommodate increasingly high fuel prices,” the carrier added.

The CAB has set separate hearings to give the three airlines a forum to justify their requests.

Cathay Pacific Airways reached a preliminary agreement on Wednesday to buy 9.9 percent of Air China, a step that airline experts said signaled the opening of the Chinese aviation market to international competition and a move by Chinese carriers into global markets.
The alliance, outlined in a memorandum of understanding, ties two of Asia’s more successful airlines, which have profited handsomely from China’s extraordinary economic growth over the last quarter-century. Cathay will buy the stake at Air China’s initial public offering, which will be held here late this year or early next year.

The short-term effects on air travelers in and through Hong Kong and mainland China, however, are less clear. Cathay Pacific and Air China said in a joint statement that they planned to coordinate their marketing and sales for routes they both currently serve- a step that could reduce competition and make lower fares less likely.

Kapil Kaul, a senior vice president in New Delhi for the Center for Asia Pacific Aviation, a consulting group based in Sydney, Australia, said that Wednesday’s deal would clear the way for similar foreign investment in China’s other two major carriers, the China Eastern Airlines Company and the China Southern Airlines Company.

Investments in either carrier are more likely to come from other Asian carriers than from European or American carriers, as Chinese authorities in Beijing are more likely to weigh such deals in geopolitical terms than in financial terms, Mr. Kaul said.

The Swire Group of Britain controls Cathay Pacific, but the airline has its hub in Hong Kong. While the carrier used to promote itself here as a British airline, especially before Britain returned Hong Kong to China in 1997, it increasingly portrays itself these days as a Hong Kong company.

Kong Dong, the vice chairman of Air China, said his company made the pact with Cathay because “we believe that there are many areas of our operations where we can cooperate together and leverage our respective strengths for the future prosperity of both companies.”

Air China has already applied for permission to issue H Shares on the Hong Kong Stock Exchange; the two companies gave no hint on Wednesday of how these shares, including the 9.9 percent stake for Cathay, would be valued.

Air China dominates air travel in and out of Beijing and the rest of northeastern China, while China Eastern is strong in Shanghai and east-central China and China Southern dominates Guangzhou and the rest of southeastern China. Cathay Pacific is the dominant carrier in Hong Kong and also flies to Beijing. It received approval this week to increase its flights to Beijing, according to Bloomberg News.

Peter Harbison, the managing director of the Center for Asia Pacific Aviation, said on Tuesday that Beijing appeared close to giving permission for four Chinese budget airlines to begin operations. The arrival of such airlines could force Air China and Cathay Pacific to cut costs, and is part of a general move by Beijing to begin liberalizing air traffic in and out of China.

If the budget carriers begin international flights, they could even put pressure on American carriers like United and Northwest that are now expanding service to China.

Wednesday’s link with Air China further tangles Cathay Pacific’s already complicated relationships on the mainland.

Cathay Pacific and the China National Aviation Corporation, the state-owned parent of the Chinese carriers, each own large stakes in a third carrier, Dragonair.

Dragonair is one of the most active carriers on routes from Hong Kong to mainland cities. Air China and Cathay Pacific did not address in their statement how their alliance would affect Dragonair or the level of competition in Hong Kong, which has Asia’s biggest airport in terms of international passenger departures and arrivals.

Dragonair began sharing flight codes with China Southern on Dec. 1 last year. And the Swire Group unit that controls Cathay, Swire Pacific, started a joint venture last year with China Eastern to manage airports.

Sandra Lee, Hong Kong’s permanent secretary for economic development, announced a new air services agreement last month between Hong Kong and mainland China that somewhat expands Cathay’s access to mainland markets. But the agreement did not expand the access of airlines based outside of Hong Kong or the mainland, a decision criticized by executives at FedEx Express, which would like to operate more cargo flights through Hong Kong.