News
Scrutiny of HNA’s related transactions and possible corruption
April 18th 2019
As HNA considers selling group airlines, the Hong Kong Airlines boardroom coup highlights the central leadership and financial arrangements of the group. Airlines may be more efficient without HNA's group arrangements, but the airlines must separate themselves from HNA's complex ownership, asset and revenue web. Read More »
At least one major HNA investor is questioning the group’s related transactions, the series of deals at the centre of the group’s finances as they produce revenue via group-owned travel agencies and incur costs such as by sub-leasing aircraft to each other.
The incident is occuring with HNA's Hong Kong Airlines (HKA), but the matter is reflective across the wider HNA group and its numerous airlines in mainland China. HNA sold part of Urumqi Air while larger units Beijing Capital Airlines and Lucky Airlines are said to have received sale interest. Observers speculate HNA would be willing to sell every airline except flagship Hainan Airlines.
HNA executive Zhong Guosong, a 13-year veteran of the group, has publicly broken rank with HNA twice in five weeks. This is an unusual matter for the group, but internal management has weakened since the July 2018 death of HNA co-founder Wang Jian that opened the group to faction disputes as different cohorts sought power in the leadership vacuum.
Zhong last month refused to sell his stake in Hong Kong Express (HKE) to Cathay Pacific, which plans to acquire HKE from other HNA shareholders.
On 16 April, Zhong attempted a boardroom coup at HKA, saying in a statement the board changes were taken to “stop further related party transactions and any embezzlement of company assets amid…reports of serious financial misappropriation”. The statement was issued via an independent PR firm, and not HKA, after HKA disputed Zhong was chairman. He and a third-party investor likely linked to HNA claim to have a majority shareholding.
This follow-up statement had stronger language than the first statement issued on behalf Zhong. The initial statement did not mention embezzlement and financial misappropriation, but did say Zhong’s group appointed auditors and lawyers to investigate HKA’s finances. “This group will look to resolve some of the historical problems, including related-party transactions,” the statement said without specifying any other problems.
HKA employees attempted to leave headquarters with a suitcase full of company documents on Tuesday evening after the purported board change. The employees reportedly wanted to do work at home but Zhong's agents stopped them. After a video of the incident went public on Ming Pao, Zhong's PR firm said: "HNA Group representatives have since regrettably sought to obstruct this investigation through a number of desperate measures, including seeking to remove financial records".
Mainland China has been on anti-corruption campaign that in aviation ensnared China Southern Chairman Si Xianmin, amongst other industry officials in airlines and airports. But those companies are all state-owned while smaller airlines like Juneyao and Spring are listed on the stock exchange and held to rules there. In comparison, HNA’s complex ownership rendered it in a gray area between private and government. This could have made financial misconduct easier.
Zhong has not elaborated on his mentions of embezzlement and financial misappropriation. But that may not be confined to internal matters. External transactions may have seen corruption. In mainland China, airline corruption often involved aircraft purchasing given the large sums involved that crossed borders. Slots were a prime area for corruption by airport officials. HKA grew extraordinarily fast, often using special traffic rights or slots granted by foreign governments on unclear justifications.
Companies including Temasek and Cathay Pacific were said to be interested in HKA. But industry observers reckoned such blue-ship companies would not find HKA suitable during due diligence.
Zhong’s first statement on his HKA takeover said he and his group “will explore a number of options including introducing new investment into the company”. Zhong's spokesperson could not clarify if that refers to the existing group increasing capital or finding a new shareholder if they can rectify any unacceptable part of HKA’s financial history to make HKA an acceptable investment.
HKA shareholders questioned HKA’s transactions with other HNA-linked groups during an extraordinary shareholder meeting in early April, according to Reuters. The shareholders reportedly wanted to know how much money HNA owed HKA.
The shareholders were not named by Reuters and their identity is unclear since HNA directly or indirectly holds most of HKA. Reuters cited a source saying a group identifying as HNA did not speak during the meeting. It is unclear if this is HNA’s direct 29% shareholding in HNA or refers to a wider group of investors affiliated with HNA.
The most recent public example of the difficulty in HNA’s related transactions was seen with leased aircraft. HKA was sued for not paying leases on a group of aircraft including two 737-800s that HKA sub-leased to Hainan Airlines. HKA and its sister HKE have not operated 737s in recent years.
It is unclear if Hainan Airlines had been paying HKA for the leases. But conversely, sources suggest HKA has a history of sometimes not paying other HNA companies for aircraft.
On the revenue side, a large portion of HKA’s business is connecting traffic sold out of mainland China that hubs in Hong Kong to beyond destinations, notably Bangkok and Denpasar (Bali). HKA’s 2014 IPO prospectus said 25% of passenger revenue was generated by a related travel agency, HNA Tourism. An undisclosed amount of the revenue was from block seat sales, guaranteeing HKA revenue at pre-determined rates.
Cathay Pacific’s acquisition of HKE is expected to help HKE reduce excess costs incurred via HKE’s HNA ownership, such as bloated aircraft lease rates. HKE already generates most of its revenue independently of HNA.
A new buyer of HKA or another HNA airline would have to navigate the complex and increasingly contentious ownership web at HNA, and then tackle separating the airline from HNA’s transactions.
