China Southern Airlines Wary of U.S. Competition

UNCLAS GUANGZHOU 011471

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C O R R E C T E D C O P Y (TEXT)

E.O. 12958: N/A
TAGS: EAIR ECON KTIA CH
SUBJECT: China Southern Airlines Wary of U.S. Competition

REFERENCE: A) Beijing 6841; B) Guangzhou 8841; C) 05
Guangzhou 32752

(U) This message is sensitive but unclassified. Please
handle accordingly.


1. (SBU) Summary: In the lead-up to the U.S.-China aviation
talks on April 19-20, China Southern Airlines is in a weak
financial position and would not want any U.S. airlines
competing directly against it. China Southern is resigned
to a gradual expansion of its U.S. routes because of
continued losses resulting from high fuel prices, a
competitive domestic market, and low yields on its existing
China-U.S. passenger route. Short-term plans include
expanding the frequency of the airline's Guangzhou-Los
Angeles flight from five to seven per week by October 2006
and possibly adding a Beijing-New York flight in 2007. End
Summary.


2. (SBU) On April 11, Econoff visited the Guangzhou
headquarters of China Southern Airlines and met with Zhang
Lin, vice director general of the Commercial Steering
Committee; Li Yong Zhen, general manager of the Planning and
Development Department; and Zeng Min, director of industry
and alliances of the Network Planning Office.

Upcoming Aviation Talks
--------------


3. (SBU) China Southern representatives said they will
closely follow the U.S.-China aviation talks next week, but
are not personally engaged with the Civil Aviation
Administration of China (CAAC) on the matter. They deferred
to CAAC on the specifics of China's position. Nevertheless,
they expressed concern that U.S. airlines, with lower fuel
costs and better brand recognition, would be highly
competitive in U.S.-China routes.

Guangzhou-L.A. Route is a Money-Loser
--------------


4. (SBU) China Southern currently operates five flights per
week from Guangzhou to Los Angeles, the company's only China-
U.S. route. According to Zhang, this route does not earn a
profit because the tickets are largely low yield. U.S. and
other international carriers attract first-class and
business-class passengers because of their brand recognition
and their established routes through Hong Kong and Japan.
In addition, the Guangzhou-L.A. flights are on average only
65 percent full, while the average China Southern flight has
70 percent capacity. Nevertheless, China Southern plans to
expand the frequency of the Guangzhou-L.A. flights from five
to seven per week by October 2006.


5. (SBU) China Southern also has two cargo flights per week,
from Shenzhen to Chicago. Li complained that these are also
unprofitable because the planes are rarely full on the
return trips to China. He added that China Southern plans
to convert its cargo airline into an independent entity next
year, citing the example of China Eastern (which leads the
domestic air cargo market).


6. (SBU) When asked about possible new China-U.S. routes,
Zhang said China Southern is considering adding a Beijing-
New York flight in 2006. (Note: At this point in the
meeting, the representatives talked amongst themselves in
Mandarin. Li quipped "We'll just lose more money," to which
Zhang replied, "We've got the planes, we have to fly them."
End note.)

Business is Bad
--------------


7. (SBU) In an earnings report to be released next week,
China Southern will report losses for 2005, according to the
representatives. (The company reported a net loss of RMB
907 million (USD 110 million) for the first half of 2005.)
The representatives blamed the losses largely on high fuel
costs. Forty percent of the company's expenditures are on
jet fuel, up from 33 percent last year, according to Zeng.
Last November, a China Southern board member complained to
Congenoffs that Chinese airlines pay twice the price that
American airlines pay for jet fuel (Reftel C). The board
member said that only 20 percent of U.S. airline
expenditures are on fuel.


8. (SBU) When asked about its management structure, Li said
China Southern is run like a public enterprise and the board
makes key decisions (the company is listed in New York, Hong
Kong, and Shanghai). Nevertheless, the Chinese government
is the primary stakeholder, and the government continues to
have a "great impact on decision-making." For example, in
connection with Hu Jintao's visit to the United States this
month, Zhang said China Southern will announce the purchase
of 30 Boeing aircraft.

On Mergers
--------------


9. (SBU) The representatives insisted that the company has
no plans to merge with other Chinese airlines, and said any
information to the contrary is rumor. Zhang said CAAC would
never approve a merger between China Southern and Air China
because of monopoly concerns. He said that in 1998, when
China Southern and Air China were talking to each other
about a possible merger, CAAC quickly put a stop to
discussions. He said the same reasoning applies today.
Following up, Zhang expressed concern about the possibility
of several major U.S. airlines merging into a
"supercarrier."

Comment
--------------


10. (SBU) The representatives were noticeably downbeat about
the company's financial health. At one point, Li remarked
"We work for the oil companies and banks." Though they are
intent on gradually becoming a strong global competitor,
their first priority seems to be figuring out how to make a
profit. This is particularly true for the existing
Guangzhou-L.A. flight.


10. (SBU) U.S. airlines are making slow inroads into
Guangzhou. China Southern has a code-sharing agreement with
Delta, and Zeng said they are in discussions with
Continental about similar cooperation. China Southern has a
frequent-flier program with Northwest Airlines. Since it
thus far has no presence in Guangzhou, United is probably
the most eager of the U.S. airlines to expand into the
Guangzhou market, but it may also be that United is one U.S.
airline that China Southern is eager not to let in if at all
possible.

DONG