Air China, China Eastern profit hit as traffic ebbs

By Fang Yan

SHANGHAI, Aug 27 (Reuters) - Air China's (601111.SS) (0753.HK) first-half profit fell while China Eastern Airlines (600115.SS) (0670.HK) remained in the red as the carriers, two of the country's three largest, were pinched by rising fuel costs and lower passenger volume.

The airlines warned that the rest of the year would remain challenging for the industry.

"High oil prices and global economic softness will undoubtedly continue to deeply affect the airline industry for the remaining part of the year and we believe we might also be impacted beyond 2008," Air China Chairman Kong Dong said in a statement.

For January to June, Air China's net profit fell 20.07 percent to 1.24 billion yuan ($181 million), under international accounting standards, while China Eastern's net loss was 212.50 million yuan, narrower than last year's 305.62 million yuan.

China Eastern's operating costs rose 13 percent during the period while Air China's were up 15 percent, according to domestic accounting figures.

China's big airlines have also been hit by an unexpected decline in passenger volume, due in large part to May's catastrophic earthquake in southwest China, marking a reversal of the industry's steady growth in the past few years.

A dull global economy and strict airport safety checks in the run-up to the Beijing Olympics, which ended over the weekend, also kept many passengers from taking to the skies.

Air China carried 17.60 million passengers in the first half, down 1.49 percent year-on-year, while China Eastern saw a 1.20 percent drop to 18.11 million.

Both airlines posted further declines in July but Air China's Kong said that, with the Olympic Games over, traffic should recover gradually.

STRONG YUAN

The pain has been softened by a surge in the yuan, cutting the value of dollar-denominated debt for aircraft purchases.

China's three biggest airlines, including China Southern Airlines (600029.SS) (1055.HK), booked combined foreign exchange gains of 6.41 billion yuan in the first half, under domestic standards, nearly triple their total net profit of 2.16 billion yuan in the period, as the yuan appreciated 6.6 percent.

That income is set to shrink in the second half, however, with the yuan up only 0.12 percent against the dollar since the end of June while three month dollar/yuan non-deliverable forwards CNY1MNDFOR= on Wednesday afternoon were implying the yuan would climb just 0.38 percent in the next three months.

Air China's Kong, whose parent company sought to forge ties with China Eastern but was rebuffed early this year, added that the industry's troubles would spur consolidation.

"A global economic downturn and high oil prices have expedited the global trend of painful industry consolidation," he said. "This, however, may present opportunities to stronger industry players with a strong operating track record and a solid balance sheet."

A deal to sell a 24 percent stake in China Eastern to Singapore Airlines (SIAL.SI) expired this month, but the Shanghai-based carrier still hopes to clinch a deal with Singapore Air, a source familiar with the situation has said, as it urgently needs foreign expertise to bolster its operations.

Deutsche Bank cut its target price for China Eastern's Hong Kong-listed shares to HK$1.15 from HK$1.98, citing its need for a capital injection.

The bank said the airline's first-half results indicated it cannot stand on its own and unfavourable factors are expected to continue in the third quarter. It maintained a sell rating on China Eastern and said its stock price had not yet hit bottom.

The airline's shares have lost more than three-fourths of their value so far in 2008 and were down 2.35 percent at midday on Wednesday at HK$1.66. Air China's Hong Kong-listed shares were up 1.78 percent at HK$4.00, while Hong Kong's benchmark Hang Seng Index .HSI was up 0.70 percent. ($1=6.849 yuan) (Additional reporting by Donny Kwok; Editing by Edmund Klamann)