Establishment of Joint Ventur
THIS CIRCULAR IS IMPORTANT AND REQUIRES YOUR IMMEDIATE ATTENTION
If you are in doubt as to any aspect of this circular, you should consult yourstockbroker or other registered dealer in securities, bank manager, solicitor, professional accountant or other professional adviser.
If you have sold or transferred all your shares in Air China Limited, you should at once hand this circular and the accompanying form of proxy to the purchaser or the transferee or to the bank, stockbroker or other agent through whom the sale or transferwas effected for transmission to the purchaser or transferee.
Hong Kong Exchanges and ClearingLimited and The Stock Exchangeof Hong Kong Limited take no responsibility for the contents of this circular, make no representation asto its accuracy or completeness and expressly disclaim any liability whatsoever for any loss howsoeverarising from or in relianceupon the whole or any part of the contents of this circular.
AIR CHINA LIMITED
(a joint stock limited company incorporated in the People's Republic of China with limited liability)
(Stock Code: 00753)
NON-EXEMPT CONNECTED TRANSACTION:
ESTABLISHMENT OF CARGO AIRLINE JOINT VENTURE
SUPPLEMENTAL NOTICE OF EXTRAORDINARY GENERAL MEETING
Independent Financial Adviser
to the IndependentBoard Committee and the Independent Shareholders
A letter from the Board is set out on pages 5 to 13 of this circular. A letter from the Independent Board Committee, containingits advice to the Independent Shareholders, is set out on pages 14 to 15 of this circular. A letter from China Merchants Securities, the independent financial adviser, containingits advice to the Independent Board Committeeand the Independent Shareholders is set out on pages 16 to 25 of this circular.
A notice dated 15 March 2010 convening the Extraordinary General Meeting ("EGM") of the Company to be held on 29 April 2010 has been publishedon the HKSE website and on the Company's website. The purpose ofthis circular is to give you information on an additional proposal to be approved by the Shareholders atthe EGM. A supplemental notice of the EGM is set out on page III-1 to III-3 of this circular. A Revised Proxy Form is enclosed with this supplemental notice. The OriginalProxy Form dispatched togetherwith the EGM Notice is superseded by this Revised Proxy Form. Whether or not you intend to attend the EGM, you are requested to complete and return the enclosed Revised Proxy Form in accordance with the instructions printed thereon not less than 24 hours before the time fixed for holding the EGM or any adjournment thereof (as the case may be). Completion andreturn of the Original Proxy Form and/or the Revised Proxy Form will not preclude you from attending the EGM and voting in person if you so wish.
7 April 2010
CONTENTS
Page
DEFINITIONS........................................................................................ 1
LETTER FROM THE BOARD
I. Introduction............................................................................... 5
II. Descriptionof the Transaction......................................................... 7
III. The ContinuingConnected Transactions.............................................. 11
IV. EGM....................................................................................... 12
V. Revised Proxy Form..................................................................... 12
VI. Recommendation of the Board.......................................................... 13
VII. AdditionalInformation................................................................... 13
LETTER FROM THE INDEPENDENT BOARD COMMITTEE............................... 14
LETTER FROM CHINA MERCHANTS SECURITIES.......................................... 16
APPENDIX I - VALUATION REPORT WITH RESPECT TO THE
FREIGHTER EQUIPMENT......................................... I-1
APPENDIX II - GENERAL INFORMATION........................................... II-1
APPENDIX III - SUPPLEMENTAL NOTICE OF THE
EXTRAORDINARY GENERAL MEETING....................... III-1
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DEFINITIONS
In this circular, the followingterms have the meanings set out below, unless the context requires otherwise:
"ACC Articles" the articles of associationof Air China Cargo entered into by and between Air China, Cathay Pacific China Cargo Holdings, and Fine Star on 25 February 2010 that will take effect as of the completion of the Transaction
"ACC JVA" the joint venture agreementof Air China Cargo entered into by and between Air China, Cathay Pacific China Cargo Holdings,and Fine Star on 25 February 2010
"AFL" Advent Fortune Limited, a company incorporated in CaymanIslands for the purpose of acquiring Fine Star and held by a charitabletrust
"Air China Cargo" Air China Cargo Co., Ltd., a company with limited liability incorporated in the PRC and a subsidiary of the Company. The principal activity of Air China Cargo is the operation of cargo airline services
"Aircraft SPA" the aircraftsale and purchase agreement entered into by and between AirChina Cargo, Cathay Pacific, Dragonair and Air China Import and Export Co. Ltd. on 25 February 2010
"Board" the board of Directorsof the Company
"Cathay Pacific" Cathay Pacific Airways Limited, a company incorporated in Hong Kong and listed on the Hong Kong Stock Exchange, the principalactivity of which is the operation of scheduled airline services
"Cathay Pacific China Cargo
Holdings"
Cathay Pacific China Cargo Holdings Limited, a company incorporated in Hong Kong and wholly owned by Cathay Pacific and the principal activity of which is
investment holding
"Cathay Pacific Directors" the directorsof Cathay Pacific
"Cathay Pacific EGM" an extraordinary general meeting of Cathay Pacific to be convened to approve the Transaction.
"Cathay Pacific Group" Cathay Pacific and its subsidiaries
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DEFINITIONS
"China MerchantsSecurities" China Merchants Securities (HK) Co., Limited, the independent financial adviser to the Independent Board Committee and the Independent Shareholders and a corporation licensed to conduct Type 1 (dealing in securities), Type 2 (dealing in futures contracts), Type 4 (advising on securities), Type 6 (advisingon corporate finance) and Type 9 (asset management) of the regulated activities under the Securities and Futures Ordinance (Cap. 571)
"CNAC" China NationalAviation Company Limited,a company incorporated in Hong Kong and a subsidiaryof the Company and the principal activity of which is investment holding
"Company" means 中國國際航空股份有限公司 (Air China Limited),a joint stock limited company incorporated in the PRC with limited liability, whose H shares are listed on the Hong Kong Stock Exchange as its primary listing venue and on the Official List of the UK Listing Authority as its secondarylisting venue, and whose A shares are listed on the Shanghai Stock Exchange, and whose principal business is the operation of scheduled airline services
"connected person" has the meaning ascribed thereto under the Listing Rules
"Directors" the directorsof the Company
"Dragonair" Hong Kong Dragon Airlines Limited, a company incorporated in Hong Kong and wholly owned by Cathay Pacific and the principal activity of which is the operation of scheduledairline services
"EGM" an extraordinary general meeting of the Company to be convened on 29 April 2010 to approve the matters set out in the EGM Notice and the Transaction
"EGM Notice" notice of the EGM dated 15 March 2010 which sets out the resolutionsto be considered by shareholders at the EGM
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DEFINITIONS
"Fine Star" Fine Star Enterprises Corporation, a company incorporated in the British Virgin Islands and wholly owned by CNAC, which holds 25% equity interest in the registered capital of Air China Cargo as at the date of the Framework Agreement
"Fine Star SPA" the sale and purchase agreement in respect of the sale and purchase of the entire issued share capital and shareholder's loan of Fine Star entered into by and between CNAC and AFL on 25 February 2010
"Framework Agreement" the frameworkagreement entered into by and between the Company, Cathay Pacific, Cathay Pacific China Cargo Holdings, Fine Star, Air China Cargo and Dragonair on 25 February 2010
"Freighter Equipment" the four Boeing 747-400BCF converted freighters powered by PW4056-3 engines and two spare engines to be sold by Cathay Pacific and Dragonair to AirChina Cargo under the Transaction
"Group" the Company and its subsidiaries
"Hong Kong Stock Exchange" The Stock Exchangeof Hong Kong Limited
"Hong Kong" Hong Kong Special Administrative Region of the People's Republic of China
"Independent Board Committee" an independent committee of the Directors of the Company comprisingHu Hung Lick Henry, Zhang Ke, Jia Kang and Fu Yang all of whom are independent non-executive Directors
"Independent Financial Adviser" China MerchantsSecurities (HK) Co., Limited
"Independent Shareholders" Shareholders of the Company apart from Cathay Pacific
"Latest PracticableDate" 29 March 2010, being the latest practicabledate prior to the printing of this circular for ascertaining certain information contained herein
"Letter of Guarantee" the letter of guarantee in favour of the Company (for itself and on behalf of Air China Cargo) executed by Cathay Pacific on 25 February 2010
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DEFINITIONS
"Listing Rules" The Rules Governing the Listing of Securities on the Hong Kong Stock Exchange
"Original Proxy Form" the form of proxy dispatched together with the EGM Notice dated 15 March 2010, which is superseded by the Revised Proxy Form enclosed with this circular
"Operating Agreement" the operatingagreement dated 8 June 2006 between the Company and Cathay Pacific pursuant to which the Companyand Cathay Pacific have agreed to co-operate in various operationalareas
"Percentage Ratios" the percentageratios set out in Rule 14.07 of the Listing Rules, i.e. "assets ratio", "profits ratio", "revenue ratio", "consideration ratio" and "equity capital ratio"
"PRC" or "China" the People's Republic of China, excluding, for the purpose of this circular only, Hong Kong, Macau and Taiwan
"PRC Valuer" Beijing China Enterprise Appraisals Co., Ltd. (北京中企華資產評估有限責任公司)
"Relevant Agreements" the Subscription Agreement, the Fine Star SPA, the Aircraft SPA, the ACC JVA, the ACC Articles, the Letter of Guarantee, the UndertakingLetter and the relevant ancillary agreements
"Revised Proxy Form" the revised form of proxy enclosed with this circular, which supersedes the Original Proxy Form
"Shareholders" shareholders of the Company
"Subscription Agreement" the subscription agreement entered into by and between the Company, Air China Cargo, Cathay Pacific China Cargo Holdings and Fine Star on 25 February 2010
"Transaction" the transactions as described under "II. Description of the Transaction - (1) Transaction" of this circular
"Undertaking Letter" the letter of undertaking in favour of the Company executed by Cathay Pacific on 25 February 2010
In this circular, for the avoidance of doubt, references to "not less than" a figure and "not more than" a figure shall include the figure mentioned.
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LETTER FROM THE BOARD
(a joint stock limited company incorporated in the People's Republic of China with limited liability)
(Stock Code: 00753)
Non-executive Directors:
Mr. Kong Dong
Ms. Wang Yinxiang
Mr. Wang Shixiang
Mr. Cao Jianxiong
Mr. ChristopherDale Pratt
Mr. Chen Nan Lok, Philip
Executive Directors:
Mr. Cai Jianjiang
Mr. Fan Cheng
Independent non-executive Directors:
Mr. Hu Hung Lick, Henry
Mr. Zhang Ke Mr. Jia Kang Mr. Fu Yang
Registered office:
9th Floor, Blue Sky Mansion
28 Tianzhu Road
Zone A Tianzhu
Airport Industrial Zone
Shunyi District
Beijing
PRC
Principal place of business in Hong Kong:
5th Floor, CNAC House
12 Tung Fai Road
Hong Kong International Airport
Hong Kong
7 April 2010
To the Shareholders
CONNECTED TRANSACTION:
ESTABLISHMENT OF CARGO AIRLINE JOINT VENTURE
I. INTRODUCTION
Reference is made to thejoint announcement dated 25 February 2010 issued by the Company and Cathay Pacific in respect of the Framework Agreement and the Relevant Agreements. On 25 February 2010, the Company entered into the Framework Agreement and the Relevant Agreements with, among others, Cathay Pacific, pursuant to which they have agreed to establisha jointly owned cargo airline by way of subscription for a 25% equity interest in Air China Cargo by Cathay Pacific China Cargo Holdings and other related arrangements as set out in the announcement.
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LETTER FROM THE BOARD
Air China Cargo will form the platform forthe joint venture and its principal operating bases will remain in Beijing and Shanghai. Air China Cargo is a subsidiary owned by the Company as at the date of this circular and itsregistered capital is directly held 75% by the Company and 25% by Fine Star. Fine Star is wholly owned by CNAC which itself is a subsidiary owned by the Company as at the date of this circular. Air China Cargo currently handles all of the Company's cargo capacity and Air China Cargo currently operates 7 Boeing 747 freighters itself and also procures and sells the cargo "bellyhold space" provided by the Company's extensive passenger flights.
As Cathay Pacific, by virtue of its 18.1% shareholding in the Company, is a substantial shareholder and therefore a connected person of the Company under the Listing Rules, the Transaction constitutes a connectedtransaction for the Company under Rule 14A.13 of the ListingRules. As the highest of the relevant percentage ratios as defined under Rule 14.07 of the Listing Rules (other than the profits ratio) in respect of the Transactionis more than 2.5%, the Company has to comply with the announcement, reporting and independentshareholders' approval requirements under Rule 14A.17 of the Listing Rules.
The Independent BoardCommittee has been established to consider and advise the Independent Shareholders in respect of the Transaction contemplated underthe Framework Agreement and the Relevant Agreements. Pursuant to the Listing Rules, China Merchant Securities has been appointed as the Independent FinancialAdviser to make recommendations to the IndependentBoard Committee and the IndependentShareholders as to whether or not the terms of the Transactioncontemplated thereunderare fair and reasonable so far as the Independent Shareholders of the Company are concerned and are in the interests of the Company and the Shareholders as a whole.
The purpose of this circularis to provide you with information, among other matters, (a) further details of the Transaction;
(b) the views from the Directorsand the Independent Board Committee with regard to the Transaction;
(c) the letter of advice from China Merchant Securities to the Independent Board Committee and the Independent Shareholders in relation to the terms of the Transaction; and
(d) a supplemental notice of the EGM to seek approval from the Independent Shareholders on the Transactionand the related matters.
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LETTER FROM THE BOARD
II. DESCRIPTION OF THE TRANSACTION (1) Transaction
The Framework Agreement entered into by the Company and Cathay Pacific, among others, provides for entry into the Relevant Agreements on the even date. Under the Relevant Agreements, the followingtransactions will take place:
(a) Cathay Pacific China Cargo Holdingswill subscribe for a 25% equityinterest in Air ChinaCargo for a consideration of RMB851,621,140 (comprising RMB808,823,530 as contribution to the registeredcapital and RMB42,797,610 as premium contribution) and Fine Star will make a further capital contribution of RMB238,453,919 (comprising RMB226,470,588 as contribution to the registered capital and RMB11,983,331 as premium contribution) in cash to Air China Cargo. Following the completionof such equity subscription and capital contribution, the equity interests of the Company, Fine Star and Cathay Pacific China Cargo Holdings in Air China Cargo will be 51%, 24% and 25%, respectively as set out below (with premium contribution credited as capital reserve fund of Air China Cargo):
Contribution to the
registered capital of
Air China Cargo
Before completion of
Transaction
After completion of
Transaction
Amount Percentage Amount Percentage
RMB RMB
Air China 1,650,000,000 75% 1,650,000,000 51%
Fine Star 550,000,000 25% 776,470,588 24%
Cathay Pacific China
Cargo Holdings - - 808,823,530 25%
Total: 2,200,000,000 100% 3,235,294,118 100%
(b) AFL will acquire CNAC's entire equity interest in Fine Star. AFL will obtain a loan of approximately RMB817 million from CathayPacific, among which (i) approximately RMB627 million will be applied towards AFL's payment obligations under the Fine Star SPA (among which approximately RMB48 million is consideration for the assignmentof a shareholder's loan granted by CNAC to Fine Star for the purpose of making 20% of its capital contribution to Air China Cargo as described in (a) above), and (ii) approximately RMB190 millionwill be used to provide a shareholder loan to Fine Star for it to make the capital contribution towards Air China Cargo as required under the Subscription Agreement. In return, AFL will pledge its equity interest in Fine Star to Cathay Pacific and Cathy Pacific's returns on the loan will be equal to the dividend returns on the 24% effective shareholding in Air China Cargo;
(c) Air China Cargo will use the capital contributions referred to in (a) above and cash generated from its business operationsor commercial bank loans to purchase from
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LETTER FROM THE BOARD
Cathay Pacific and Dragonair the Freighter Equipment for a consideration of approximately RMB1,924 million; and
(d) Cathay Pacific provided a guarantee in favour of the Company in respect of Cathay Pacific China Cargo Holdings' obligations under the Relevant Agreements and undertakes to exercise its contractual rights under the loan agreement with respect to the loan referred to in (b) above and other related agreementsto procure Fine Star to perform its obligations under the ACC JVA.
The transactions described above are inter-conditional, i.e. the completionof one transaction shall be conditional upon the completion of all of the other transactions except that ifthe transaction involving the purchase of Freighter Equipment described under (c) above does not complete simultaneously or immediatelyfollowing the completion of all of the other transactions described above, the completion of the latter shall not be affected. Followingthe completion of the Transaction, Air China Cargo will continue to be a subsidiary of the Company.
(2) Conditions
The completion of the Transactionunder the Framework Agreement and the Relevant Agreements are conditionalupon satisfaction of, among others, the following conditions:
(a) the Company and Cathay Pacific having obtained allnecessary approvalsof relevant regulatory bodies in the PRC and the other relevant competent jurisdictions;
(b) the Independent Shareholders in general meeting having passed resolutions approving the Transaction as a connected transaction in accordance withthe Listing Rules; and
(c) the independentshareholders of Cathay Pacific in general meeting having passed resolutions approvingthe Transaction as a connected transaction in accordance with the provisions of the Listing Rules.
(3) Consideration
The consideration forthe Transactionwas determined through arm's lengthnegotiations between the parties with referenceto, as the case may be, the net assets value of Air China Cargo and the value of the FreighterEquipment.
As at 31 December 2009, the unaudited net asset value of Air China Cargo was approximately RMB2,054 million. For the year ended 31 December 2007, the audited net losses before and after taxation and extraordinary items of Air China Cargo were approximately RMB538 million and approximately RMB522 million respectively. For the year ended31 December 2008, the audited net profits before and after taxation and extraordinary items of Air China Cargo were approximately RMB10 million and approximately RMB26 million respectively.
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LETTER FROM THE BOARD
Under PRC laws, thetransfer of state owned assets is subject to a mandatory valuation process. Accordingly, a PRCstate approved valuation agency has been appointed and has valued the net assets of Air China Cargo at approximately RMB2,316 million and theFreighter Equipment at approximately RMB1,924 million as of 31 May 2009. A valuationreport in respect of, amongothers, the FreighterEquipment prepared by the PRC Valuer as at the reference date of 31 May 2009 is set out in Appendix I of this circular. The Directors are of the opinion that there was no material change in the valuation of the Freighter Equipmentfrom 31 May 2009 up to the Latest Practicable Date.
The Company's originalpurchase cost of the 25% equity interestheld by Fine Star in Air China Cargo was approximately RMB857 million. The unaudited carrying value of the Company's 25% equity interest in Air China Cargo as at 31 December 2009 in the consolidated financial statements of Air China Group was approximately RMB631 million (including share of goodwill of RMB87 million). Based on the unaudited carrying value of Air China Cargo as at 31 May 2009 (i.e. approximately RMB1,837 million) and consideringthe dilution of the Company's equity interestin Air China Cargo to 51% following the completion of the disposal of equity interest and the capital increase in Air China Cargo as described in this circular, Air China Group will record a gain of approximately RMB65 million (subject to adjustment) in the consolidated financialstatements on completion of the Transaction.
In respect of the Freighter Equipment to be sold by Cathay Pacific and Dragonair to Air China Cargo, the original purchase cost was approximately RMB2,049 million and their carrying value as at 31 December 2009 was approximately RMB1,592 million. CathayPacific will record a profit of approximately RMB332 million (subject to adjustment) on completion of the Transaction.
(4) Use of proceeds
The proceeds received by the Group from the Transaction arising from the disposal of interestin Fine Star will be applied towards the Group's general working capital expenditure and those from the capital contribution to Air China Cargo will be appliedtowards part of the price for AirChina Cargo's acquisitionof the Freighter Equipmentfrom Cathay Pacific and Dragonair under the AircraftSPA.
(5) Board compositionof Air China Cargo
Following completion of the Transaction,the board of directors of Air China Cargo will have seven directors, comprising four directors (including the chairman) appointed by Air China and three directors(including the vice-chairman) appointed by Cathay Pacific China Cargo Holdings.
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LETTER FROM THE BOARD
(6) Support to future business of Air China Cargo
To support the future business expansion of Air China Cargo, each of Air China and Cathay Pacific China Cargo Holdings has undertaken that followingcompletion of the Transactionand to the extent it remains a shareholder of Air China Cargo, it shall not, and shall procure that its group members shallnot, directly or indirectly establish, acquire or otherwise invest by way of equity into any general cargo airline (i.e. except for express freight airline) registered in the PRC or Hong Kong that is engaged in business substantially the same as the business of Air China Cargo.
(7) Sale of bellyholdspace
As an ancillary agreement in relation to the Transaction,the Company, Cathay Pacific and Air China Cargo agree that during the term of operation of Air China Cargo as a joint venture under the ACC JVA, Air China Cargo will be exclusively responsible for the sale of bellyhold space of the Company's passenger aircraft and the Company and Air China Cargo will enter into an exclusive sale agreementaccordingly withrespect to the relevant year at a reasonable price and on the terms agreed by them based on arm's length negotiation.
(8) Further agreements
Subject to further negotiationand mutual agreement, Cathay Pacific and Air China Cargo will enter into furtheragreement(s), including but not limited to a block space agreement, in respect of freighter operations between Hong Kong and mainland China not later than four years after completionof the Transaction.The Company and Cathay Pacific will comply with the relevant requirements of the Listing Rules upon entry into any such further agreement(s).
(9) Reasons for and benefitsof the Transaction
The Directors believe that the terms of the Transactionare fair and reasonable and it is in the best interest of the Company to enter into above transactionwith Cathay Pacific because:
• The establishment of the cargo airline joint venture based in Shanghai will enable Air China Cargo to capture the air cargo business opportunities of the important and competitive Yangtze River Delta region, and will enable AirChina Cargo to deliver better services to satisfy the increasing demand for cargo services in mainland China.
• The increase of freighter capacity will enable Air China Cargo to provide its customers with a wider range of services of better quality so as to make its competitive strengths stronger and more effective. The Transaction will also improve Air China Cargo's competitive position vis-a` -vis foreign airlineswhich offer similar cargo services from and to mainland China. In addition, the investment by Cathay Pacific in Air China Cargo will enable Air China Cargo to provide greater resources and improved service availability to the market. These improvements will allow Air China Cargo's customers to benefit from greater choice and better access toair cargo services within and to and from mainland China.
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LETTER FROM THE BOARD
(10) Approval by IndependentShareholders
As the highest of the relevant percentage ratios as defined under Rule 14.07 of the Listing Rules (other than the profits ratio) in respect of the Transactionis more than 2.5%, the Company has to comply with the announcement, reporting and independent shareholders' approval requirements underRule 14A.17 of the Listing Rules.Pursuant to the Listing Rules, Cathay Pacific, being asubstantial shareholderof the Company, will abstain from voting on the Transaction at the EGM.
The Independent BoardCommittee has been formed to advise the Independent Shareholders on the Transaction. China MerchantsSecurities has been appointed as the Independent Financial Adviser to advise the Independent Board Committee and the Independent Shareholders on the Transaction.
III. THE CONTINUINGCONNECTED TRANSACTIONS
Currently there are certain continuingtransactions between Air China, its subsidiaries on the one hand and Air China Cargo on the other hand, which mainly comprise the following:
1. Air China Cargo is engaged in the sale of bellyhold space of the Company's passenger aircraft. During its ordinary course of business, Air China Cargo leases a number of properties from the Company, anduse some of the Company's simulation training, spare engines and flight equipmentand SITA system. The Company also provides welfare logistics service for retired employees to Air China Cargo;
2. Air China Import and Export Co., Ltd. (國航進出口有限公司), acting as agent for third parties, leases aircraft and engines to Air China Cargo and also provides Air China Cargo with repair and maintenanceservices for the aircraft andengines leased to Air China Cargo;
3. Aircraft Maintenanceand Engineering Corporation (Beijing) (北京飛機維修工程有限公司) provides Air China Cargo with repair and maintenance services for its aircraft and engines and otherflight equipment and warehouse management for its flightequipment;
4. Air China Cargo provides air cargo services to Shanghai Air China Aviation Service Co., Ltd. (上海國航航空服務有限公司); and
5. Golden Phoenix Recruitment Service Ltd. (金鳳凰人才服務有限公司) provides agency services for the secondees of Air China Cargo.
Upon completion of the Transaction,the abovementioned transactions will become continuing connected transactions under the Listing Rules, as Air China Cargo will become a connected person of the Company by virtue of being a non-wholly owned subsidiary of the Company in which Cathay Pacific,as a substantialshareholder of the Company, holds more
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LETTER FROM THE BOARD
than 10% of the voting rights. The Company willcomply with the relevant reporting, announcement and independent shareholders' approval requirements as set out in the Listing Rules for the continuingconnected transactions where applicable.
IV. EGM
Reference is made to the EGM Notice. Set out on pages III-1 to III-3 of this circular is a supplemental notice of the EGM. At the EGM, which will be held as originally scheduled, ordinary resolutions will be proposed to consider and, if thought fit, to approve, the matters in connection with the Transaction described under part II of this circular in addition to other resolutions set out in the EGM Notice. The resolutionswill be voted by poll.
Pursuant to Rule 14A.54 of the Listing Rules, any connected person and any Shareholder and their associates with a material interest in the connectedtransaction are required to abstain from voting on the relevant resolution at the EGM. As at the date of this circular, being a substantial shareholder of the Company, Cathay Pacific is required to abstain from voting on the resolutionsin respect of the Transaction.
Please refer to the EGM Notice for details in respect of the other resolutionsto be passed at the EGM, eligibility for attending the EGM, registration procedures, closure of register of membersand other relevant matters.
V. REVISED PROXY FORM
As a result of the additionalproposed resolutions subsequent to the dispatch of the EGM Notice, the Original Proxy Form sent together withthe EGM Notice does not contain the proposed resolutionsin respect of the Transactionas set out in this circular. In this connection, a Revised Proxy Form is enclosed with this circular. The Original Proxy Form is superseded by this Revised Proxy Form. You arerequested to complete and return the Revised Proxy Form in accordancewith the instructions printed thereon.
A Shareholder who has not lodged the Original Proxy Form dispatchedtogether with the EGM Notice in accordance with the instructions printed thereon is requested to lodge the Revised Proxy Form if he or she wishes to appoint proxies to attend the EGM on his or her behalf. In this case, the OriginalProxy Form should not be lodged.
A Shareholder who has already lodged the Original Proxy Form in accordancewith the instructions printed thereon should note that:
(i) if no Revised Proxy Form is lodged in accordancewith the instructions printed thereon, the Original Proxy Form, if correctly completed, will be treated as a valid proxy form lodged by him or her;
(ii) if the Revised Proxy Form is lodged in accordancewith the instructions printed thereon, the Revised Proxy Form, if correctly completed, will be treated as a valid proxy form lodged by the Shareholder andwill revoke and supersede the Original Proxy Form previouslylodged by him or her;
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LETTER FROM THE BOARD
(iii) if the Revised Proxy Form is lodged afterthe closing time set out in the EGM Notice and in the Revised Proxy Form enclosed withthis circular, the Revised Proxy Form will be invalid. However, it will revoke the Original Proxy Form previouslylodged by the Shareholder, and any vote that may be cast by the purported proxy (whether appointed under theOriginal Proxy Form or the Revised Proxy Form) will not be countedin any poll which may be taken on a proposed resolution.
Accordingly, Shareholders are advised not to lodge the Revised Proxy Form after the specified closing time. If such Shareholders wish to vote at the EGM, they will have to attend inperson and vote at the EGM themselves.
VI. RECOMMENDATION OF THE BOARD
The Board (including the independent non-executive Directors) considers that the Transaction is on normal commercial terms, and its terms are fair and reasonable and in the interests of the Company and its shareholders (including the Independent Shareholders) as a whole.The Board recommends the Shareholders to vote in favour of the resolutions regarding the Transaction which will be proposed at the EGM.
VII. ADDITIONALINFORMATION
Your attentionis drawn to the letter from the Independent Board Committeeset out on pages 14 to 15 of this circular which contains its recommendation to the Independent Shareholders of the Company as to the voting at the EGM regarding the Transaction.
Your attentionis also drawn to the letter from ChinaMerchants Securities set out on pages 16 to 25 of this circular, which contains, among others, its advice to the Independent Board Committee and the Independent Shareholders in relation to the Transaction as well as the principal factors and reasons consideredby it in concluding its advice and the additional information set out in the appendicesto this circular.
By Order of the Board
Kong Dong
Chairman
Beijing, the PRC
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LETTER FROM THE INDEPENDENT BOARD COMMITTEE
(a joint stock limited company incorporated in the People's Republic of China with limited liability)
(Stock Code: 00753)
Independent Board Committee:
Mr. Hu Hung Lick, Henry
Mr. Zhang Ke Mr. Jia Kang Mr. Fu Yang
7 April 2010
To the Independent Shareholders of the Company
Dear Sirs or Madams,
NON-EXEMPT CONNECTEDTRANSACTION
We refer to the circular of the Company dated 7 April 2010 (the "Circular") issued to its shareholders of which this letterforms a part. Terms defined in the Circularshall have the same meanings when used in this letter, unless the context otherwise requires.
On 25February 2010, the Company andCathay Pacific, among others, entered into the Framework Agreement and the Relevant Agreements, which set out the terms of the Transaction.
The Transaction,being a connectedtransaction of the Company, as set out in the Circular issubject to the reporting,announcement and independent shareholders' approval requirements under Chapter 14A of the Listing Rules. The Circular describes suchconnected transaction that the Company entered into subject to the approval by the IndependentShareholders to be sought at the EGM.
The Independent Board Committee was formed to make a recommendation to the Independent Shareholders as to whether, in its view, the terms of the Transaction are fair and reasonable so far as the IndependentShareholders are concerned. China Merchants Securities has been appointed as independent financial adviser to advise the Independent Board Committee and the Independent Shareholders on the fairness and reasonableness of the Transaction.
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LETTER FROM THE INDEPENDENT BOARD COMMITTEE
As your Independent BoardCommittee, we have discussedwith the management of the Companythe reasons for the Transactionand the terms and basis upon which its terms have been determined. We have also considered the key factors taken into account by China Merchants Securitiesin arriving at its opinion regarding the Transaction as set out in the letter from China Merchants Securities on pages 16 to 25 of the Circular, which we urge you to read carefully.
The Independent BoardCommittee, after taking into account, amongst other things, the adviceof China Merchants Securities, considers that the Transactionis fair and reasonable and is in the best interest of the Company and the Shareholders (including the Independent Shareholders) as a whole. Accordingly, the IndependentBoard Committee recommends the Independent Shareholders to vote in favor of the relevant ordinary resolutionsregarding the Transaction set out in the supplemental notice of the EGM.
Yours faithfully,
Independent Board Committee
Mr. Hu Hung Lick, Henry
Independent
non-executive
director
Mr. Zhang Ke
Independent
non-executive
director
Mr. Jia Kang
Independent
non-executive
director
Mr. Fu Yang
Independent
non-executive
director
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LETTER FROM CHINA MERCHANTS SECURITIES
The following is the text of a letter from China Merchants Securities for the purpose of incorporation in the circular in connection with its advice to the Independent Board Committee and the Independent Shareholders in respect of the Air China Cargo Transactions (as defined
below).
48th Floor
One ExchangeSquare
Central
Hong Kong
7 April 2010
To: The IndependentBoard Committee and the Independent Shareholders
Dear Sirs,
NON-EXEMPT CONNECTEDTRANSACTIONS
INTRODUCTION
We refer to our engagement as the independent financial adviser to the IndependentBoard Committee and the Independent Shareholders in relation to (i) the subscription by Cathay Pacific China Cargo Holdingsof a 25% equity interest in Air China Cargo (the "Cathay Subscription") as enlarged by (a) the Cathay Subscription for a consideration of RMB851.6 million and (b) a further capital contribution of RMB238.5 million made by Fine Star in cash to Air China Cargo (the "Fine Star Subscription"); (ii) the disposal of entire equity interest inFine Star by CNAC to AFL for a consideration of RMB627 million (the "Disposal"); and (iii) the acquisitionof four Boeing 747-400BCF converted freighters powered by PW4056-3 engines and two spare engines by Air China Cargo from Cathay Pacific and Dragonair for a consideration of RMB1,924 million (the "Freighter Equipment Acquisition") contemplated under the Transaction (collectively the "Air China Cargo Transactions"), details of which are set out in the Letter from the Board (the "Letter from the Board") contained in the circular dated 7 April 2010 (the "Circular"), of which this letter forms part. Unlessotherwise stated, terms used herein shall have the same meanings as those defined in the Circular.
On 25 February 2010, the Company and Cathay Pacific, among other things, entered into the Framework Agreement and the Relevant Agreements, pursuant to which they have agreed to establish a jointly owned cargo airline by way of the Cathay Subscription and otherrelated arrangements as set out in the section headed the "Description of the Transaction"in the Letter from the Board. Under the Framework Agreement and the Relevant Agreements, a series of transactions will take place, including(i) the Cathay Subscription; (ii)the Fine Star Subscription; (iii) the Disposal; and (iv) the Freighter Equipment Acquisition. Upon completion of the Transaction,the Company's interestsin Air China Cargo will be reduced from 100% to 51%, and Cathay Pacific and AFL will be interestedin 25% and 24% equity
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LETTER FROM CHINA MERCHANTS SECURITIES
interest in Air China Cargo respectively. As at the Latest PracticableDate, Air China Cargo, CNAC and Fine Star are wholly-owned subsidiaries of the Company. The Company is a substantial shareholder of Cathay Pacific holding approximately 29.99% shareholding in Cathay Pacific. CathayPacific China Cargo Holdings is a wholly-owned subsidiary of Cathay Pacific, the substantial Shareholder holding approximately 18.1% shareholding in the Company as at the Latest Practicable Date. Given that Cathay Pacific is a substantial Shareholder and therefore a connectedperson of the Company under the ListingRules, the Air China Cargo Transactions will constitute connected transactions for the Company under Chapter 14A of the Listing Rules and subject to the announcement, reporting and independent shareholders' approval requirements. As at the Latest Practicable Date, Cathay Pacific and its respective associatesheld 2,217,617,455 Shares, representing approximately 18.1% of the issued share capital of the Company, Cathay Pacific and its respective associates willabstain from voting in relation to the resolutions to approve the Transactionat the EGM.
An Independent BoardCommittee comprising all the Company's independent non- executive Directors,namely Mr. Hu Hung Lick, Henry, Mr. Zhang Ke, Mr. Jia Kang and Mr. Fu Yang, has been formed to consider and advise the Independent Shareholders whether theAir China Cargo Transactions are on normal commercialterms, in ordinary and usualcourse of business of the Company, fairand reasonable so far as the Company and theIndependent Shareholders are concerned and are in the interests of the Company and the Shareholders as a whole. We, China MerchantsSecurities, have beenappointed as the independent financial adviser to advise the IndependentBoard Committee in these respects.
BASIS OF OUR OPINION
In formulating our advice and opinion, we have relied on the accuracy of the information and representations contained in the Circular which have been consideredto be complete and relevant and the information obtained from the public domain. We haveassumed that all statements, informationand representations made or referred to in the Circular, for which the Directors are solely responsible, were true, accurate and completein all material respects at the timewhen they were made and will continue to be so as at the date of the Circular. We have alsoassumed that all statements of belief, opinion and intentionmade by the Directorsin the Circular were reasonably madeafter due andcareful enquiry and were based on honestly held opinions. We have no reason to doubt the truth, accuracy and completeness of the information and representations provided to us by the Directors and the management of the Company and we have been advised by the Directors and the management of the Company that no material fact has been omitted from the informationand representations provided in and referred to in the Circular. We have no reason to suspect that any material informationhas been withheld by the Directors or the management of the Company. We have not, however, carried out any independent verification of the information provided to us by the Directors and the management of the Company and the information obtained from the public domain, nor have we conducted any independent investigation into the affairs, thebusiness and financial position and the future prospectsof each member of the Group, AirChina Cargo, the Cathay Pacific Group, AFL and their respectiveshareholders and associates. Our opinion is based on the information and representations available to us as of the date of this letter. We have no obligation to update our
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LETTER FROM CHINA MERCHANTS SECURITIES
advice and opinion to take into account circumstances andevents occurring after the date of this letter. As a result, circumstances and events could occur prior to the approval of the Air China Cargo Transactionsthat, if known to us at the time when we had rendered our advice and opinion, would have altered our advice and opinion.
BACKGROUND FOR THE AIR CHINA CARGO TRANSACTIONS
On 8 June 2006, the Company and Cathay Pacific entered into the OperatingAgreement. Pursuant to such agreement,the Company and Cathay Pacific stated their intentionto establish a jointly owned cargo airline. Accordingly, the Company and Cathay Pacific, among other things, entered into the Framework Agreementand the Relevant Agreements on 25 February 2010, which set out the terms to establisha jointly owned cargo airline by way of the Cathay Subscription and other related arrangements.
The FrameworkAgreement and the Relevant Agreements
The Framework Agreement provides an entry for the relevant parties to enter into the Relevant Agreements.Under the Relevant Agreements, a series of transactions will take place, including:
1. the Cathay Subscription;
2. the Fine Star Subscription;
3. the Disposal;and
4. the FreighterEquipment Acquisition.
The transactions described above are inter-conditional, i.e. the completionof one transaction shall be conditional upon the completion of all of the other transactions except that if the Freighter Equipment Acquisition does not complete simultaneously or immediately following the completion of all of the other transactions described above, the completion of the latter shall not be affected.
Upon completion of the Transaction,Air China Cargo will be owned as to 51%, 24% and 25% respectively by the Company, AFL through its direct interest in Fine Star and Cathay Pacific China Cargo Holdings. Details of the Framework Agreement and the Relevant Agreements are set out in the section headed "Description of the Transaction"in the Letter from the Board.
INFORMATION OF AIR CHINA CARGO
Air China Cargo is a company established in the PRC andprincipally engaged in the operation of cargo airline services. As at the Latest Practicable Date, Air China Cargo is a subsidiary ownedby the Company and its registered share capital is directly held 75% by the Company and 25% by Fine Star. Fine Star is wholly owned by CNAC which is in turn a wholly-owned subsidiary of the Company as at the Latest Practicable Date.
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LETTER FROM CHINA MERCHANTS SECURITIES
Air China Cargo will form the platform forthe jointly owned cargo airline. It currently operates seven Boeing 747 freighters and handles all of the cargo business of the Group, procures and sells cargo "belly space" provided by the Group's extensive passenger flight network.
Set out below is a summary of Air China Cargo's financial informationfor the each of the threeyears ended 31 December 2009:
For the year ended 31 December
2009 2008 2007
In RMB million (Unaudited) (Audited) (Audited)
Turnover 5,620.8 7,070.7 6,989.8
Profit/(Loss) before taxation 117.7 10.4 (537.9)
Profit/(Loss) after taxation 117.7 26.2 (522.4)
As at 31 December
2009 2008 2007
In RMB million (Unaudited) (Audited) (Audited)
Total assets 5,505.6 5,120.3 4,486.0
Total liabilities 3,451.6 3,184.0 2,575.4
Net assets 2,054.0 1,936.3 1,910.6
The turnover of AirChina Cargo increased slightlyfrom approximately RMB6,989.8 million for the financialyear ended 31 December 2007 ("FY2007") to approximately RMB7,070.7 million for the financial year ended 31 December 2008 ("FY2008"), representing an increase of approximately RMB80.9 million or 1.2%. The slight increase in turnover was mainlyattributable to the increase in its cargo and mail load factor and the service charges. Air China Cargo recorded loss before and after taxation of approximately RMB537.9 millionand RMB522.4 million respectively for FY2007. For FY2008, profit before and after taxation of Air China Cargo were approximately RMB10.4 million and RMB26.2 millionrespectively, representing a substantial increase compared with losses recorded in FY2007. The improvement in Air China Cargo's result in FY2008 was mainly due to (i) the positive effect from the Beijing 2008 Olympic Games on demand for air cargo services; and (ii) recognition of a subsidy income.
For the financial year ended 31 December 2009 ("FY2009"), the unauditedrevenue of Air China Cargo was approximately RMB5,620.8 million, representing a decrease of approximately RMB1,449.9 million or 20.5% from the revenue in FY2008. The decrease in turnover of Air China Cargo was mainly attributable to the decrease in the cargo and mail load factorand the service charges affected by the adverse impact of the global financial crisis since 2008. Notwithstanding the decrease in turnover of Air China Cargo in FY2009, profit before and after taxation of Air China Cargo were both approximately RMB117.7 million in FY2009. Thesubstantial increases in profit before and after taxation of approximately tenfold and
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LETTER FROM CHINA MERCHANTS SECURITIES
349.2% respectively for FY2009 were mainly contributedby the plunge in international fuel price and implementation of cost-saving measures by Air China Cargo. Net assets of Air China Cargo increased slightly from approximately RMB1,910.6 million as at 31 December 2007 to approximately RMB1,936.3 million as at 31 December 2008 and further to approximately RMB2,054.0 million as at 31 December2009. As at 31 December 2009, total assets of Air China Cargo comprised principally fixed assets includingaircrafts and flight equipment, buildings and machineries, whereas total liabilitiesof Air China Cargo comprised principally notes payable, accounts payable and long-term borrowings.
PRINCIPAL FACTORS CONSIDEREDFOR AIR CHINA CARGO TRANSACTIONS
In arriving at our opinion and recommendation in respect of the terms of the Air China Cargo Transactions, we have considered the following principal factors:
I. Reasons for the Air China Cargo Transactions
We have considered the reasons for and the benefits of the Transactionas highlighted in the Letter from the Board. As stated in the Letter from the Board, the Directors consider that the establishment of a cargo airline joint venture between the Group and the Cathay Pacific Group based in Shanghai will enable AirChina Cargo to (i) capture the air cargo business opportunities of the importantand competitive Yangtze River Delta region and (ii) deliver better services to satisfy the increasing demand for cargo services in the PRC.
According to the informationobtained from the official website of Civil Aviation Administration of China, in 2009, Shanghai airports ranked the top in terms of their air cargo and mail handling capacity in the PRC. The air cargo and mail handling volume handled by Shanghaiairports increased from approximately 2.22 million tons in 2005 to approximately 2.98 million tons in 2009,representing a cumulativecompound annual growth rate of approximately 7.64%. In view of Shanghai's position in the air cargo and mail handling capacity in China, we concur with the Directors'view that the establishment of the cargo airline joint venture based in Shanghai will enable Air China Cargo to capture the air cargo business opportunities and deliver betterservices to satisfy the increasing demand for cargo services in the PRC, in particularin the Yangtze River Delta region.
We also understand from the Directorsthat the air cargo market in the PRC is highly competitive and currently foreign air cargo companieshave been dominating the air cargo marketin the PRC. In the recent years, major PRC airlineshave intended to form joint venture aircargo companies withforeign airlines with a view to increasing their competitiveness in the growing air cargo market of the PRC. We share the Directors' belief that the investment by Cathay Pacific in Air China Cargo through the Cathay Subscription will enable Air China Cargo to provide more resources and improve its service availability to the market which will allowits customers to benefit from more choice and better access to air cargo services within the PRC and inbound/outbound services in the PRC.
Based on the above reasons, we are of the view that forming ajoint venture air cargo company with Cathay Pacific based in Shanghai through the Cathay Subscription is in the interests of the Company and the Shareholders as a whole.
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LETTER FROM CHINA MERCHANTS SECURITIES
In relation to the Freighter Equipment Acquisition, as advised by the Directors,Air China Cargo owned seven Boeing 747 freighters as at the Latest Practicable Date. We understand from the Directors that the models of theaircrafts and engines to be purchased from Cathay Pacific and Dragonairare no longer manufactured by the manufacturers. Therefore, Air China Cargo can only purchase thenew models of the aircraftsand engines in the market orpurchase other second-hand aircrafts which would require further modifications for the purpose of providing cargo services.Due to the uncertainty in the performance of the new models of the freighter equipment and higher cost to be incurred to purchase them in the market, the Directors are of the view that it is in the interests of the Company and the Shareholders to purchase the Freighter Equipment from Cathay Pacific and Dragonair given the shorter delivery time with guaranteedquality. We believe that it will facilitate Air China Cargo to meet its operational requirements when the joint venture air cargo company commences its operations to provide services in mid 2010. Immediately upon completion of the Freighter Equipment Acquisition, the number of Boeing 747 freighters owned by Air China Cargo will increase from seven to eleven.
Given that Air China Cargo's freighter capacity could be increased within a shorter timeframe to meet the operational needs of Air China Cargo, we concur with the Directors' view that the increase in freighter capacity will enable Air China Cargo to provide its customers with a wider range of services of better quality so that the services offered by Air China Cargo will be more competitive and effective immediately afterthe completion of the Freighter Equipment Acquisition, and therefore the Freighter Equipment Acquisition is in the interests of the Company and the Shareholders as a whole.
II. Basis in determiningthe consideration of the Air China Cargo Transactions
Pursuant to the Subscription Agreement, Cathay Pacific China Cargo Holdings will subscribe for a 25% equity interest in Air China Cargo for a consideration of approximately RMB851.6 million(comprising approximately RMB808.8 million as contribution to the registered capital and approximately RMB42.8 million as payment for the premium) (the "Cathay Subscription Consideration") and Fine Star will make a further capital contribution of approximately RMB238.5 million(comprising approximately RMB226.5 million as contribution to the registeredcapital and approximately RMB12.0 million as payment for the premium) in cash to Air China Cargo.
As disclosed in the Letter from the Board, AFL will obtain a loan of approximately RMB817 million from Cathay Pacific (the "AFL Loan"), among which, (i) approximately RMB627 million will be applied towards AFL's payment obligations under the Fine Star SPA for the Disposal and (ii) approximately RMB190 million will be used to provide a shareholder loan to Fine Star to finance the Fine Star Subscription. Upon obtaining the AFL Loan by AFL to finance the consideration forthe Disposal and the Fine Star Subscription and upon pledging AFL's equity interest in Fine Star to Cathay Pacific, Cathay Pacific will entitle to a 24% economic interest in Air China Cargo.
Pursuant to the Aircraft SPA, the consideration under the Freighter Equipment Acquisition is approximately RMB1,924 million (the "AcquisitionConsideration").
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LETTER FROM CHINA MERCHANTS SECURITIES
As advised by the Directors, the consideration of the Transaction was determined through arm's length negotiations between the relevant parties, as the case may be, with reference to the net asset value of Air China Cargo and/or the value of the Freighter Equipment.
(a) The Cathay Subscription and the Disposal
As advised by the Directors, the Cathay Subscription Consideration and the AFL Loan were determined after arm's length negotiation between the parties with referenceto the net assets of Air China Cargo. As stated in the Letter from the Board, under the relevant PRC laws, thetransfer of the state owned assets is further subject to a mandatory valuation procedure. Accordingly, an independent PRC state-approved valuation agency, 北京中企華資產評估有限責任公司 (Beijing China Enterprise Appraisals Co., Ltd.*) (the "IndependentValuer") has been appointed by the Company to appraise the fair market value of the net assets of Air ChinaCargo in accordance withthe relevant PRC regulations for asset appraisal.
Based on the valuationreport on the fair market value of Air China Cargo's net assets prepared by the Independent Valuer dated 10 February 2010 (the "Valuation Report"), the net assets of Air China Cargo as at 31 May 2009 was approximately RMB2,316 million. We understand from the Directors that the determination of the CathaySubscription Consideration and the AFL Loan were based on the valuationof 25% and 24% of the net assets of Air China Cargo respectively as at 31 May 2009 being adjusted for the effect of the Cathay Subscription and the Fine Star Subscription.
We have reviewed the Valuation Report and we note that the Independent Valuer (i) has considered threeapproaches: the market approach, the income approach and the cost approach (asset-based method), being commonly used valuationmethodologies, in valuing the fair value of the net assets of Air ChinaCargo and (ii) has adopted the cost approach (asset-based method) to determine the fair market value of the net assets of Air China Cargo. The net asset valueof Air China Cargo as at 31 May 2009 was derived by aggregatingthe appraised values of individual assets of Air China Cargo, net of the appraisedvalues of individual liabilities involved.
As advised by the Independent Valuer, the Independent Valuer considered that (i) the adoption of market approach is not appropriateas the IndependentValuer was not aware of any comparable equity transactions in the PRC; and (ii) the income approach is not appropriate as they were unable to obtain any profit forecast prepared by Air China Cargo taking into account theuncertainties and risks in quantifyingthe future earnings to perform the valuation.Having considered the limitation in adopting other two methods, the Independent Valuer is of the view that the cost approach (asset-based method) is the most appropriate method in appraising the value of net assets of Air China Cargo. The Independent Valuer has also carried out necessary due diligence on the assets and liabilities of Air China Cargo and other relevant information provided by Air China Cargo. We have discussedwith the Independent Valuer and reviewedthe valuation methodology and assumptions as set out in the Valuation Report and are not aware of any reasons to doubt the fairness and appropriateness of the valuation methodology adopted and the assumptionsused by the Independent Valuer.
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LETTER FROM CHINA MERCHANTS SECURITIES
Given that the Cathay Subscription Consideration and the AFLLoan are in line with the respective adjusted net assets attributable to 25% and 24% equity interest of Air China Cargo, we are of the view that the bases in determining the Cathay Subscription Consideration and the AFL Loan are fair and reasonable and in the interests of the Company and the Independent Shareholders as a whole.
(b) The Freighter Equipment Acquisition
The Acquisition Consideration was determined through arm's length negotiations between the relevant parties withreference to the value of the Freighter Equipment. In compliance with the relevant requirements of the PRC laws, the Independent Valuer has also been appointed by the Company to appraise the market value of the Freighter Equipment.
To assess the basis in determining the Acquisition Consideration, we have reviewed the valuation report prepared by the Independent Valuer on the market value of the Freighter Equipment (the "Freighter Equipment ValuationReport") as at 31 May 2009 dated 25 February 2010 and noted that the appraisedvalue of the Freighter Equipment as at 31 May 2009 was approximately RMB1,924million. As disclosed in the Letter from the Board, the Directors are of the opinion that there was no materialchange in the valuation ofthe Freighter Equipment from 31 May 2009 up to the Latest PracticableDate.
We have noted and were advised by the Independent Valuer, that the Independent Valuer has consideredthree approaches: the market approach, the income approach and the cost approach, being commonly used valuationmethodologies, in valuing the market value of the Freighter Equipment and has adopted the costapproach for appraising the market value of the Freighter Equipment.
We understand from the Independent Valuer that (i) the adoptionof market approach is not appropriate as the Independent Valuer was not aware of any comparable transactions in the PRC; and (ii) the income approach is not appropriate as the income generated from the Freighter Equipment cannot be recognisedseparately. The Independent Valuer advised that the costapproach is a general recognised andcommon approach for valuing aviation-related assets in the PRC. The Independent Valuer determined the appraised value of the four Boeing 747-400BCF converted freighters powered by PW4056-3 engines and the two spare engines separately and has conductedphysical inspection and performed due diligence on them.
For determining the respectiveappraised value of eachequipment within the Freighter Equipment, the replacement costfor each of the FreighterEquipment was adjusted for the respective integratedrate of new degree. Thereplacement cost of each of the Freighter Equipment was determinedwith reference to its respectivemarket value taking into account the relevant discounts,custom duties, import value-added taxesand cost of capital etc. The integrated rate of new degree of each of the Freighter Equipment was determined after considering its respectivecondition, useful lives and flight hours, etc..
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LETTER FROM CHINA MERCHANTS SECURITIES
Having considered and discussed with the Independent Valuer on the adopted methodology and assumptions made, in particular on the parameters used to estimate the replacement costs and integratedrate of new degree of each of the Freighter Equipment as set out in the Freighter Equipment Valuation Report, we have no reason to doubt the fairnessand appropriateness of the valuation methodology adopted and assumptions used by the Independent Valuer.
Given that the Acquisition Consideration is line with the appraised value of the Freighter Equipment appraised by the Independent Valuer, the Directorsare of the view, and we concur, thatthe basis in determining the Acquisition Consideration is fair and reasonable so far as the Companyand the Independent Shareholders as a whole are concerned.
III. Possible financialeffects of the Transaction
Upon completion of the Transaction,the Company's equity interest in Air China Cargo will be reduced from 100% to 51%, the Company will continue to treat Air China Cargo as a subsidiary for accounting purpose. As completion of each of the Transaction is inter- conditional, the financial effects of the Transaction on the Group's financial results and financial positionsare analysed in an aggregated basis as follows:
(a) Earnings
Following completionof the Transaction, the Company will continue to consolidatethe results of Air China Cargo into the consolidated financial statements of the Group.
In addition, the Company's original purchase cost of the 25% equity interest held by Fine Star in Air China Cargo was approximately RMB857 million.The unaudited carrying value of the Company's 25% equity interest in AirChina Cargo as at 31 December 2009 in the consolidated financialstatements of the Group was approximately RMB631 million (including share of goodwill of RMB87 million). Based on the unaudited carrying value of Air China Cargo as at 31 May 2009 (i.e. approximately RMB1,837 million) and consideringthe reduction of the Company's equity interest in Air China Cargo from 100% to 51% following the completion of the disposal of equity interest and capital increase in Air China Cargo contemplated under the Transaction, the Group will record a gain of approximately RMB65 million (subject to adjustment)in the consolidated financial statements of the Group upon completion of the Transaction.
(b) Net assets
As at 30 September 2009, the unaudited net assets of the Group attributable to the Shareholders was approximately RMB23,605 million. Upon completion of the Transaction, the Group will record the aforementioned gain of RMB65 million (subject to adjustment). The Directors estimated that the Group's net assets will also be increasedby the amount of such gain upon completionof the Transaction.
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LETTER FROM CHINA MERCHANTS SECURITIES
(c) Gearing ratio and current ratio
Based on theunaudited consolidated balance sheet of the Group as at 30 September 2009, the Group's gearing ratio(calculated as total liabilities divided by total assets) and current ratio (calculated as total current assets divided by total current liabilities) was approximately 76.4% and approximately 0.24 respectively. Immediately upon completion of the Transaction, assuming the Group's total liabilities remain unchanged, (i) the Group's total assets will be increased by the proceeds from the Cathay Subscription, theFine Star Subscription and the Disposal and (ii) the Group's total current assets will be increased by the proceed from the Disposal. As such, the Directors believed that the Group's gearing ratio and current ratio will be improvedupon completion of the Transaction.
Having consideredthe aforementioned financialeffects arising from completionof the Transaction on the Group's earnings, net assets, gearing ratio and current ratio, the Directors are of the view, and we concur, that there should be no material adverse impact on the Group's financial results and positions upon completion of the Transaction.
RECOMMENDATION
Having considered the above principal reasons and factors,we concur with the Directors' view that the entering of the Air China Cargo Transactions is in the ordinary and usual course of business of the Group and in the interests of the Company and the Shareholders as a whole, and the Air China Cargo Transactions are on normal commercial terms and fair and reasonable so far as the Company and the Independent Shareholders as a whole are concerned. Accordingly, we recommend the Independent Board Committee to advise the Independent Shareholders to vote in favour of the relevant resolution(s) to be proposed at the EGM to approve, among other things, the Transaction.
Your faithfully,
For and on behalf of
China Merchants Securities(HK) Co., Limited
Ronald T.L. Wan Christine Au
Managing Director ExecutiveDirector
Investment Banking Department InvestmentBanking Department
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APPENDIX I VALUATION REPORT WITH RESPECT TO THE
FREIGHTER EQUIPMENT
The following is the text of the valuation report received from Beijing China Enterprise Appraisals Co., Ltd., an independent valuer, in connection with its valuation in respect of the Freighter Equipmentfor inclusion in this Circular as at 31st May 2009.
7 April 2010
The Purchase of Partial Assets of Cathay Pacific Airways Ltd. and Hong Kong Dragon AirlinesLtd.
as contemplated by Air China Cargo Co., Ltd.
Project Assets Appraisal Report
Assets AppraisalReport
CEA (2010)-036
Volume 1, Book 1
China EnterpriseAppraisals
25th February, 2010
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APPENDIX I VALUATION REPORT WITH RESPECT TO THE
FREIGHTER EQUIPMENT
LIST OF CONTENTS
ABSTRACT............................................................................................... I-4
.............
I. ENTRUSTINGPARTY, THE EVALUATED UNIT AND OTHER
CONVENTIONAL APPRAISAL REPORT USERS IN THE ENGAGEMENT
LETTER........................................................................................... I-6
II. PURPOSE OF THE APPRAISAL.............................................................. I-10
III. OBJECT AND SCOPE OF THE APPRAISAL............................................... I-10
IV. TYPE AND DEFINITION OF THE VALUE............................................ ...... I-11
V. APPRAISALREFERENCE DATE........................................................ ...... I-11
VI. BASE OF THE APPRAISAL................................................................... I-11
VII. APPRAISAL METHODS....................................................................... I-14
VIII. THE IMPLEMENTATION PROCESS AND THE PERFORMANCEOF THE
APPRAISAL PROCEDURE.................................................................. I-16
IX. ASSUMPTIONOF THE APPRAISAL........................................................ I-17
X. APPRAISALCONCLUSION AND CONCLUSION ANALYZE.................................... I-18
XI. INSTRUCTIONS FOR SPECIAL ITEMS.................................................... I-19
XII. THE LIMITATIONS OF THE APPRAISAL REPORT:................................ ...... I-20
XIII. SUBMISSION OF THE APPRAISAL REPORT........................................ ...... I-21
XIV. CPV'S SIGNATURE AND SEAL, APPRAISAL AGENCY'S SEAL AND
LEGAL REPRESENTATIVE'S SIGNATURE.............................................. I-21
APPENDIX OF THE ASSETS APPRAISAL REPORT............................................ I-22
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APPENDIX I VALUATION REPORT WITH RESPECT TO THE
FREIGHTER EQUIPMENT
DECLARATION
1. The analysisand the result of this report are based on the principle of independence, impersonality and justness, and it only exist under the conditions of evaluation assumption and restriction that stipulated by the report.
2. The usage of this report is limited to the specified purpose of appraisal, and the consequence of improper using is non-relevant to signing CPVs and appraisal agency.
3. The appraisalresult is only valid on the referencedate that is specifiedin the report. The usersshould decide the reasonable term for the report as regards to the assets conditions and market situation after the reference date.
4. The purpose of CPVs to execute the appraisal services is to give professional opinions on the valuation of the appraisal object, but not accountable for decision making. The conclusion should not be considered as the guaranty of the achievable value of the appraisal object.
5. It is CPV's responsibility to give professional opinions on the valuation of the appraisal object in accordance with the laws, regulations and assets valuation standards; The entrusting party and the related party are responsible for the authenticity, legitimacy and integrity of the materialprovided, and the proper use of appraisal report.
6. The appraisalagency and CPVs have the qualification and relevant experience for the appraisal service.
7. The CPVs and assistantshave already executed necessary appraisal procedure to the appraisal object.
8. The CPVs have no existing benefit from the appraisal object, and have no personal interest and prejudice with the entrusting party and relevant parties.
9. The CPVs pay necessaryattention to legal ownership status of the appraisal object, but do no guarantee on it.
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APPENDIX I VALUATION REPORT WITH RESPECT TO THE
FREIGHTER EQUIPMENT
The Purchase of Partial Assets of Cathay Pacific Airways Ltd. and Hong Kong Dragon Airlines Ltd.
as contemplated by Air China Cargo Co., Ltd.
Project Assets Appraisal Report
CEA (2010) 036
ABSTRACT
Special Note: This report can be used for the evaluation purpose only. The following is an excerpt from the Assets AppraisalReport. For a comprehensive understanding of the appraisal project,please read the assets appraisal report in full.
Appraisal purpose: The purchase of aircraft and spare engines of Cathay Pacific Airways Ltd. and Hong Kong Dragon Airlines Ltd. as contemplated by Air China Cargo Co., Ltd..China Enterprise Appraisals Co., Ltd. accepts the entrustment from Air China Cargo Co., Ltd. to conduct the appraisal for the partial assets of Cathay Pacific Airways Ltd. and Hong Kong Dragon Airlines Ltd., to provide the valuationreferences for thispurchase of aircraft and spareengines.
Appraisal method: Cost based method
The object of the appraisal:the partial assets of Cathay Pacific Airways Ltd. and Hong KongDragon Airlines Ltd..
Type of the value: Market value
Appraisal reference date: 31st May, 2009
Appraisal conclusion:The appraisersadopt the cost based method to evaluatethe market value as at the referencedate (31st May, 2009) of partial assets of Cathay Pacific Airways Ltd. and Hong Kong Dragon Airlines Ltd. in accordance with the national laws and regulations relating to assetsvaluation and assetsvaluation standardsrequirements in the principlesof independence, impersonality and justness. Under the conditions of premises and assumptions materialize, the appraisalresults are as follows:
On the premise of going concern as at the reference date 31st May, 2009, the book value of the assets entrustedfor appraisal before evaluation is 2,026,200,900 Yuan, the net book valueis 1,692,860,800 Yuan, the appraisednet book value after evaluation is 1,923,750,000
Yuan, the value added 230,889,200Yuan and the value added rate is 13.64%.
Of which:
Cathay Pacific Airways Ltd. - the net book value of assets entrusted for appraisal before evaluation is 1,291,318,100 Yuan, the appraisednet book value is 1,923,750,000 Yuan, the valueadded 230,889,200 Yuan and the value added rate is 13.64%.
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APPENDIX I VALUATION REPORT WITH RESPECT TO THE
FREIGHTER EQUIPMENT
Hong Kong Dragon Airlines Ltd. - the net book value of assets entrusted for appraisal before evaluation is 401,542,600 Yuan, the appraised net book value is 457,150,000 Yuan, the value added 55,607,400 Yuan and the value added rate is 13.85%.
The conclusion of this appraisal is only valid for the affairs of purchase of aircraft and spare engines of Cathay Pacific Airways Ltd. and Hong Kong Dragon Airlines Ltd. as contemplated by Air China Cargo Co., Ltd., the appraisal result remains effective for one year as from the appraisalreference date 31st May, 2009, it needs to reappraiseif exceed one year.
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APPENDIX I VALUATION REPORT WITH RESPECT TO THE
FREIGHTER EQUIPMENT
The Purchase of Partial Assets of Cathay Pacific Airways Ltd. and Hong Kong Dragon Airlines Ltd.
as contemplated by Air China Cargo Co., Ltd. Project
Assets AppraisalReport
CEA (2010) 036
Air China Cargo Co., Ltd.
China Enterprise Appraisals being entrusted by your company, has conducted the appraisal for partial assets of Cathay Pacific Airways Ltd. and Hong Kong Dragon Airlines Ltd. in accordance withthe national applicablelaws, regulations and assets evaluation standards requirements in the principlesof independence, impersonality and justness by using the recognized assets appraisal methodology. The appraisers have implemented the field reconnaissance, market investigation and confirmation for the declared assets as per the necessary appraisal procedures, and made the fair presentation of market valueindicated by Cathay Pacific Airways Ltd. and Hong Kong Dragon Airlines Ltd. on 31st May, 2009. Now, we hereby report on the assets appraisal and appraisal results as follows:
I. Entrusting Party, the evaluatedunit and other conventional appraisal report usersin the engagement letter
(i) The Entrusting Party profile - Air China Cargo Co., Ltd.
1. Name: Air China Cargo Co., Ltd.
2. Name in Short: Air China Cargo
3. Registered address: Zone A, Tianzhu Airport Industrial Area, Shunyi
District, Beijing City;
4. Legal representative: Huxiao Li
5. Registeredcapital: SAY TWO BILLION TWO HUNDRED MILLION YUAN ONLY (RMB2, 200,000,000)
6. Type of the company:Sino-foreign joint venture
7. Date of establishment:2003
8. Scope of business:
Regular and irregularinternational air cargo transportation, air mail and baggage transportation based on cargo transport, and maintenance of aircraft in the PRC, Hong Kong Special Administration Region and Macau
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Special Administration Region and the provision of the following ancillary services:the provision of other ground services and express courier services by air; the manufacture and maintenance of ground equipment; the sale of automobiles andparts and accessories(except for sedan cars); and car leasing. The operatingterm ruled by the articles of association is 30 years.
9. Introduction and history of the enterprise:
Air China Cargo Co., Ltd. is aSino-foreign joint venture which registered in Beijing, People'sRepublic of China, and set up by Air China Limited, Capital Airports Holding Company and CITIC Pacific Limited on 14th November, 2003.
The largest investment party of Air China Cargo Co., Ltd. -China National Aviation Holding Company (hereinafter referred to as CN Air Holding), the mother company of Air China Limited owing to restructuring of its aviation businessand related assets ("CN Air Holding reorganization"), established Air China Limited (hereinafter referred to as Air China Limited) and listed on overseas stock market on 30th September, 2004. According to the above mentioned CN Air Holding reorganization, CN Air Holding would first recover the long-term investment from Air China Cargo through its wholly-owned subsidiary Air China, i.e. the registered capital of Air China Cargo RMB 1,122,000,000 re-invested into Air China Limited. Therefore, the largest investor changed to Air China Limited.
One of the Air China Cargo Co., Ltd. investor CITIC Pacific Limited signed an equity transfer agreement on 12th November, 2004,transferred all its equity to its wholly-owned subsidiary, Fine Star Enterprises Corporation (hereinafter referred to as "Fine Star"). Therefore,the investment party changed to Fine Star.
On 3rd January, 2008, the wholly-owned subsidiary of Air China Limited-China National Aviation Company Limited entered into the agreement with CITIC Pacific Limited and its wholly owned subsidiary Gold Leaf Enterprises Holdings Ltd.(hereinafter referred to as "Gold Leaf"), acquired all the Fine Star issued shares by cash, and acquired 25% of its equity indirectly. This transaction was completed on 3rd January, 2008, and the equity proportion of Air China Limited reached to 76%.
Air China Cargo Co., Ltd. implements Accounting Standards for Enterprises, Civil Aviation Business Accounting Methods and some relevant regulations.
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(ii) The Evaluated Unit profile I - Cathay Pacific Airways Ltd.
1. Name: Cathay Pacific Airways Ltd.;
2. Name in short: Cathay Pacific Airways;
3. Registered address: 35/F Two Pacific Place, 88 Queensway, Hongkong;
4. Chairman: Christopher Dale Pratt
5. Registered capital: SAY SEVEN HUNDRED AND EIGHTY-SEVEN MILLION HONG KONG DOLLARS ONLY (HKD 7,870,000,000) (30th June, 2009)
6. Type of the company:the limited company registered in Hong Kong;
7. Date of establishment: 18th October, 1948
8. Group'sscope of business:Provide regular passengerand cargo services, airline catering, aircraft maintenance, ground handling service companies, etc.;
9. Introduction and history of the enterprise:
Cathay Pacific Airways Ltd. is a Hong Kong-based international airline that was registeredin Hong Kong. It provides regular passenger and freight transportation spanning over 35 countries and areas and 114 cities. Cathay Pacific Airways was establishedand based in Hong Kong in 1946, madehuge investments and dedicated to become a major worldwide shipping hinge in Hong Kong. Apart from a fleet with a total of about 120 wide-bodies aircrafts, the scope of the investment includes catering, aircraft maintenance, airport ground service company and enterprise headquarter Cathay Pacific City in Hong Kong international airport.
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10. Group's Assets, Liabilities and Business operations in recent years:
Unit: HKD 'Million
Items
31st
December,
2006
31st
December,
2007
31st
December,
2008
Total Assets 102,731 117,650 114,739
Total Liabilities 57,193 66,923 76,294
Net Assets 45,538 50,727 38,445
Sales 60,783 75,358 86,578
Net income(loss) 4,088 7,023 (8,558)
Cathay Pacific Airways implements Hong Kong Financial Reporting Standards and relevantprovisions.
Cathay Pacific Airways is a limited company listed in Hong Kong Stock Exchange (HKEx: 0293).
(iii) The Evaluated Unit profile II - Hong Kong Dragon AirlinesLimited
1. Name: Hong Kong Dragon Airlines Limited
2. Name in short: Dragon-air
3. Registered address: 35/F Two Pacific Place, 88 Queensway, Hongkong
4. Chairman: Tony Tyler
5. Registered capital: SAY FIVE HUNDRED MILLION HONG KONG DOLLARS ONLY (HKD 500,000,000) (30th June, 2009);
6. Type of the company:a limited company registeredin Hong Kong;
7. Date of establishment: 24th May, 1985;
8. The main scope of the business:provide the scheduled passenger and cargo services;
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9. Introduction and history of the enterprise:
Hong Kong Dragon Airlines Ltd. (Dragon-air) is registered in Hong Kong. It is a Hong Kong-based Asianregional airline company, and is a wholly-owned subsidiary of Cathay Pacific Airways, operating a total of about30 aircraft fleet, provides regular passengerand cargo services between 10 countries and regions of 30 destinations.
10. Assets, Liabilities and Operations in recent years
The financial information of Hong Kong Dragon Airlines Ltd. has been reflected in the consolidated financial informationof Hong KongCathay Pacific Airways Ltd..
(iv) Other report users apart from Entrusting Party
1. Civil Aviation Administration of China
2. China National Aviation Holding Company
3. Industrial and Commercial Administrative Departments
4. Air China Cargo Co., Ltd.
5. Cathay Pacific Airways Ltd.
6. Hong Kong Dragon Airlines Ltd.
7. Other appraisal report users ruled by the national laws and regulations.
II. Purpose of the Appraisal
According to the 'Summary of general manager conference'of Air China Cargo Co., Ltd. Firsttime in 2010 , Air China Cargo Co., Ltd. intends to purchaseaircraft and spare engines of Cathay Pacific Airways Ltd., China Enterprise Appraisals Co., Ltd. accepts the entrustment from Air China Cargo Co., Ltd. to conduct the appraisal on the market value as at the referencedate of the partial assets of Cathay Pacific Airways Ltd. and Hong Kong Dragon Airlines Ltd. that involved in the affairs of purchase of aircraft (aircraftand spare engines) of Cathay Pacific Airways Ltd. as contemplated by Air China Cargo Co., Ltd., and provide the valuationreferences for this economic behavior.
III. Object and Scope of the Appraisal
(i) Object of the appraisal
The object of this appraisalis the partial assets (aircraft and spare engines) of
Cathay Pacific Airways Ltd. and Hong Kong Dragon Airlines Ltd..
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(ii) Scope of the appraisal
The scope of this assets appraisal as at the reference date (31st May, 2009) is the partial assets of Cathay Pacific Airways Ltd. and Hong Kong Dragon Airlines Ltd.. According to the declaration form as at the reference date of appraisal provided by Cathay Pacific Airways Ltd. and Hong Kong Dragon Airlines Ltd., the net book value of assets entrusted for appraisal is 1,692,860,800 Yuan (Of which: Cathay Pacific Airways Ltd. net book value of assetsentrusted for appraisal before evaluation is 1,291,318,100 Yuan, Hong Kong Dragon Airlines Ltd. net book value of assets entrusted for appraisal before evaluation is 401,542,600Yuan). The involved partial assets are four 747-400BCF and two spare engines.
The above object and scope of the appraisal are the same as the object and scope of the appraisal involved in economic behavior.
The physical assets entrusted for appraisal are all in the normal use or under the control.
IV. Type and Definition of the Value
According to the purpose of this appraisal,the type of the value of the object is market value.
Market value is the voluntary buyer and willing seller to act rationally and without being forced, the estimated amount of the object of the appraisalis in normal fair trade at the reference date.
V. Appraisal Reference Date
The referencedate of this economic behavior is 31st May, 2009.
Price standard is the effective oneon the appraisal reference date,and all assets are actual exist on the referencedate. This reference date is determined by the entrusting party in accordancewith the general work arrangement.
VI. Base of the Appraisal
The main documents from different sources consulted that in line with the laws and regulations of the nation, local governmentand relevant department are as follow:
(i) Laws and regulations bases:
1. "General rules governing enterprise financial affairs";
(No.41 rule (2007) by the Ministry of Finance of the People's Republic ofChina;
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2. "Accounting Standard for Enterprises-basic standards";
(No.33 rule (2006) by the Ministry of Finance of the People's Republic of China)
3. "Administration of State asset valuation procedure"; (No.91 rule (1991) by the State council)
4. "Detailedrules of Administration of state asset valuation procedures"; (No.36 rule (1992) by State assets office)
5. "Interims measures for the administration of enterprise state asset valuation procedure";
(No.12 rule by the State-ownedAssets Supervision and Administration Commission of State Council)
6. "Interimsregulations for the state asset supervision and administration procedure of enterprises";
(No.378 rule by the State council)
7. "Circular of the General Office of the State Council on the Transmission of the Recommendations Submitted by ministry of finance concerning assessment on the reform of stated owned assets administration and strengthening the supervision& management of asset valuation";
No. 102 rule (2001) by General Office of the State Council
8. "Notice of strengthening on the related issues of the state asset valuation procedure of enterprises";
(No.274 rule (2006) by the State-owned Assets Supervision and Administration Commission of State Council property)
9. "Interim Measures for the Management of the Transfer of the State- owned Property Right of Enterprises";
(No.3 rule by the State-ownedAssets Supervision and Administration Commission of State Council)
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10. "The guide of the state asset valuationreport of enterprise"; (No.218 rule (2008) by China AppraisalCommittee)
11. Other relevantlaws, regulations and notice documents. (ii) Appraisal Economic behaviour bases
1. 'Summary of general manager conference' of Air China Cargo Co., Ltd.
First time in 2010
2. Assets appraisal engagement letter.
(iii) Major contracts, agreements and proof of ownership documents
1. Aircraft Certificate of Registration, Approval of Aircraft Radio Installation and Certificateof Airworthiness
2. Other proof of ownershipdocuments.
(iv) Pricing Standard bases:
1. Tax and pricing materials collected by appraisers;
2. Bank lending rate on the reference date;
3. Fixed assets verification form provided by the evaluated unit;
4. Relevant materials from on-site investigation and market research which collected by appraisers;
(v) Standards bases
1. Assets AppraisalStandards-Basic Standards;
2. Occupational Moral Standards of Assets Appraisal- Basic Standards;
3. Assets Appraisal Standards-Appraisal Report;
4. Assets Appraisal Standards- Appraisal Procedure;
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5. Assets Appraisal Standards-Working Sheet;
6. Assets Appraisal Standards- Engagement Letter
7. Instructions of the value type of the Assets appraisal;
8. Instructions of the enterprise Value Assessment(Trial).
(vi) References and Others:
1. Asset appraisallist and questionnaires provided by the assets possession unit;
2. The handbook of general data and Parameter for asset appraisal;
3. Other materials collected by appraisal agency.
VII. AppraisalMethods
The basic method of assets appraisal comprises market approach, income approach, and cost based method. When conduct the valuation,it shall base on the conditions of the appraisal object, the types of value and the collection of materials, etc. assessing the applicability of theseapproaches and choose one or more assets appraisalmethods appropriately.
Market approach is to compare theobject of the appraisal with the assets that have beentrade-off to determinethe value of the appraisal object.
Income approach is to capitalizethe expected return of the enterprise or discounted to determine the value of the appraisalobject.
Cost based method is based on the reasonable evaluate each assets to determinethe value of the appraisal object.
(i) Market approach
Due to the lack of such transaction cases in the capital market, the market approach is not adopted in this appraisal.
(ii) Income approach
The income of part physical assets cannot be calculated separately, therefore, the income approach is not adopted in this appraisal.
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(iii) Cost based method
The appraisal methods underneath this thought are as follow: Fundamental formula is:
Appraisal value = ReplacementCost x Integratedrate of new degree
1. Aircraft:
(1) Determination of the aircraft replacement cost
The replacement costof aircraft comprises fuselage (including airborne equipments and otheroptional equipments) and its attached engines. It is determined on the basis of the purchasing price; the relevant discounts, customs duty, import VAT, cost of capital and other expenses are also taken into account.
(2) Determination of integrated rate of new degree
The integrated rateof new degree is on the basis of new degree rate of fuselage andattached engines, and is determined by the proportion occupied in the total value of the aircraft.
Integrated rate of new degree = Proportion of fuselage x New degree rate of fuselage+ Proportion of engine + New degree rate of engine
2. Spare engine:
(1) Determination of engine replacement cost
The composition of the replacement cost for spareengine is same as aircraft.
(2) Determination of integrated rate of new degree
To determine the new degree rate of spare engine, appraisers adopt the same appraisal method used for the attached engine.
The appraisal value is determined by the verified and adjusted amount. To sum up, there is only one cost based method can be chosen to identify the appraisal value. i.e. use the cost based method to evaluate the ledger asset as at the reference date and then obtain the assets value.
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VIII.The implementation process and the performance of the appraisal procedure
(i) Accept entrustment
Before formal appraisal,appraisers willcommunicate with theentrusting party firstto know the overall plan for the economic behavior, the work schedule, purpose of the appraisal, scope and object of theappraisal and theappraisal reference date. After accepting the commission, the project leader will be identified and the appraisal team will be set up. Prior to enteringthe site, the project leader will communicate with the entrusting party for the preparation works, submit the assets declaration form and questionnaire, and the list of materialsthat need to be collected for the appraisal.Meanwhile, project leader will also explain the fill-out contents and list of materials,and answer the raised questions by the enterprise members.
(ii) Assets verification
According to the appraisal declaration formwhich provided by Cathay Pacific Airways Ltd., appraisers checked and verified the assets that within the scope of the appraisal from 27th July, 2009 to 1st August, 2009. They checked and examined the declaration forms, and required the seal on the revised version as the original bases of the appraisal.
(iii) Evaluation assessment
From 2nd August, 2009 to 20th August, 2009, the appraisal team analyzed and summarized the collectedmaterials analyzed, calculated and evaluated the assets, drafted the appraisalexplanation, gathered the evaluationresults and concluded the appraisal result.
(iv) Report writing
According to the opinion from internal examination and verification committee to revise the appraisalreport and issue the final appraisal report.
(v) Report submission
Report submits to the entrustingparty on 25th February, 2010.
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IX. Assumption of the Appraisal
(i) Special assumption
1. The materialsfor this appraisal that provided by the entrusting party, property holder and therelated party areauthentic, integrated, legal and valid.
2. Assume that the administration authority of property holder and the related party carry out an effective management for the assets.
3. Without considering the mortgage and security issues to be possibly undertaken in the future and the influence of the price possibly to be extra paid by the special trading mode over appraisal results.
(ii) General assumption
1. Accordingto the Standards, the appraisal company conduct the general investigation and disclose the legal description or matters of the evaluated assets (include the limit of ownership or the liability), but not guarantee any kind of its authenticity.
2. The appraisedvalue by appraisers is based on the reference date of local purchasing power.
3. No significant changes on the current national laws, regulations and principles and policies.No significant changes on the regional policy, economy and social environments of each party within this transaction. Normal fluctuations of the involved exchange rates, interest rates and commodity price. No significant adverse effect due to unpredicted factors and other force majeure.
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X. Appraisal Conclusion and Conclusion Analyze:
Use the recognized assets appraisal methodology to evaluate the partial assets of the Cathay Pacific Airways Ltd. in accordance with the national applicable laws, regulations and assets valuation standards requirements in the principlesof independence, impersonality and justness. Based on the above works, the appraisal conclusionis as follows:
On the premise of going concern as at the reference date31st May, 2009, the book valueof assets entrusted for appraisal before evaluation is 2,026,200,900 Yuan, the net book value is 1,692,860,800 Yuan, the net book value of assets entrustedfor appraisal after evaluation is 1,923,750,000 Yuan, the value added 230,889,200 Yuan and the value addedrate is 13.64%.
Of which:
Cathay Pacific Airways Ltd. - the book value of assets entrustedfor appraisal before evaluation is 1,291,318,100 Yuan, the appraised net book value is 1,466,600,000 Yuan, value added 175,281,900Yuan and the value added rate is 13.57%.
Hong Kong Dragon Airlines Ltd. - the book value of assets entrusted for appraisal before evaluation is 401,542,600 Yuan, the appraisednet book value is 457,150,000 Yuan, valueadded 55,607,400 Yuan and the value added rate is 13.85%.
ASSETS APPRAISAL LIST
Unit: RMB 10k
Book value Appraisalvalue
Net
Value added
Name
At cost Net value
Appraisal at cost
appraisal value
Variation
rate
(100%)
747-400 202,620.09 169,286.08 446,000.00 183,975.00 14,689.92 8.68
747-400 Spare engines 15,000.00 8,400.00 8,400.00
Total 202,620.09 169,286.08 461,000.00 192,375.00 23,088.92 13.64
Analysis of increase& decrease the value of aircraftengine:
A. The purchase value of the aircraft engine increases lead the original cost increases:
1. Four aircraftthat in the scope of the appraisal were second hand from Singapore, and therelated taxes and fees were lower than domestic procurement, the book value were lower than the original purchasing price;
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2. After '911' incident, the aircraft prices went down and gradually recovered since 2003, of which the Boeing company made the price adjustment with regard to the models sold; in addition, engine is a monopoly industry and the price does not drop at all times, therefore,the original value increased.
B. The net value of the aircraft engine is increased:
The integrated rate of new degree adopted by appraisal include the useful life of aircraft, times of taking off and landing, flight hours and actual conditions of each aircraft,the integrated rate of newdegree adopted by appraisal is higher than the accountingdepreciation period, therefore,the net value increases.
To sum up, the value of aircraftengine is increased.
XI. Instructions for Special items
The following relevant items which could properly affect the appraisal conclusion, but not in the appraisers'professional knowledge and abilities (Including but not limit):
(i) The result of this appraisalreflects the object under this appraisal purpose is according to current fair market price determined in theopen-market principle, without considering the mortgage and securityissues to be possibly undertaken in the future and the influenceof the price possibly to be extra paid by the special trading mode over appraisalresult. And further, this report also does not take into account the impact on the value of assets brought by significant changes in national macroeconomic policy, meeting with natural forces and other force majeure.
(ii) The appraisal agency and appraisersare not accountable for the enterprise not make special notes or the appraisers cannot obtained on the existenceof defective items which may affect the assets appraisal value even conduct the procedure of the appraisal.
(iii) The appraisal conclusion is issued by China EnterpriseAppraisals (CEA); it is influenced by the professional knowledge and ability of the appraisersof CEA.
The report is based on the appraisal related business license, proof of ownership documents,financial statements, accounting vouchers, assets list and other relevant materials provided by theentrusting party and the evaluated unit, and the entrusting party, the evaluatedunit and the related parties shall bear the responsibilities for the authenticity, validity and integrityof the provided originalmaterials.
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(iv) The purpose of CPVs to conduct the assets appraisal business is to estimatethe value of the appraisal object and give professional opinions. The CPVs have verified the certificate of assets ownership,but verification and opinions on the legal ownership status of the appraisalobject is not the CPVs' professional scope.
(v) Hong Kong Dragon Airlines Ltd. authorizes Cathay Pacific Airways Limited
("CX") as the representative and grants CX the power of attorney for signing.
Should the said conditionsand the continuity principle followed during the appraisal etc. change, the appraisal results could abate.
XII. The limitationsof the appraisal report:
(i) This appraisalreport can be only used for the purpose and usage that specified in the appraisal report.
(ii) This appraisalreport can be only used by the users which specified in the appraisal report.
(iii) Without consent of the appraisal report issuing agency, the content of the appraisal report shall not be excerpted, quoted or published on public media, other than ruled by laws, regulationsand agreed within the related parties.
(iv) This appraisalconclusion is only valid on the evaluated assets and the purpose of appraisal. Theconclusion of this appraisal remains effective for one year as from the appraisal reference date 31st May, 2009, it needs to reappraiseif exceed one year.
(v) Report shall be used after reportingto the superior department of the enterprise for filing.
(vi) This conclusionof the appraisal shall not be used directly when the conclusion is influenced by thequantity of the assets and pricing standard.It shall make adjustment or reappraiseon the conclusion of the appraisal.
(vii) This appraisalreport is only valid when it is fully used. CEA is not responsible for the possiblelosses which caused by the usage of partial contents.
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XIII.Submission of the AppraisalReport
Submission date of this appraisalreport to Entrusting Party is 25th February, 2010.
If there is any conflict of meaning between the Chinese and English versions, the
Chinese version will prevail.
XIV. CPV's signature and seal, Appraisalagency's seal and legal representative's signature
Legal Representative:Yuehuan Sun
CPV: Wenzhong Gao CPV: Cheng Wang
China EnterpriseAppraisals Co., Ltd.
25th February, 2010
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APPENDIX OF THE ASSETS APPRAISAL REPORT LIST
1. Copies of the relevantdocuments of economic behaviour;
2. Copies of the business license from both Entrusting Party and the Evaluated Unit;
3. Aircraft Certificate of Registration, Approval of Aircraft Radio Installation, Certificate of Airworthiness;
4. Certificate of Airworthiness for engine;
5. Undertaking Letter from both Entrusting Party and the Evaluated Unit;
6. Undertaking Letter from Assets Appraisal Agency and CPV;
7. Copy of the assets appraisalqualification certificates of China Enterprise Appraisals Co., Ltd.;
8. Copy of business license of China Enterprise Appraisals Co., Ltd.;
9. The list of participants and copies of their qualifications;
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THE LIST OF PARTICIPANTS FOR THIS APPRAISAL PROJECT
Approved by: Wenzhong Gao
Project leader: Cheng Wang
Other participants: Guochen Zhao
Lili Zhou
Qun Gao
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APPENDIX II GENERAL INFORMATION
1. RESPONSIBILITY STATEMENT
This circularincludes particulars given in compliance withthe Listing Rules for the purposeof giving information withregard to the Group. The Directors collectively and individually accept full responsibility for the accuracy of the informationcontained in this circular andconfirm, having made all reasonable enquiries, that to the best of their knowledge and belief there are no other facts the omission of which would make any statement herein misleading.
2. DISCLOSURE OF INTERESTS OF DIRECTORS AND SUPERVISORS
As at the Latest Practicable Date,none of the Directors, supervisors or chief executive of the Company hasinterests or short positions in the shares, underlying shares and/or debentures (as the case may be) of the Company or any of its associatedcorporations (within the meaning of Part XV of the Securities and Futures Ordinance ("SFO") which were notifiable to the Company and the Hong Kong Stock Exchange pursuant to SFO (including interests or short positions which he is taken or deemed to have under such provisionsof the SFO), or recorded in the register maintained by the Company pursuant to Section 352 of the SFO, or which were notifiable to the Company andthe Hong Kong Stock Exchange pursuant to the Model Code for Securities Transactionsby Directors of Listed Companies.
None of the Directors or supervisors or expert of the Company has any direct or indirect interest in any assets which have been, since 31 December 2008 (the date to which the latest published audited financial statements of the Group were made up), acquired or disposed of by or leased to any member of the Group or are proposed to be acquired or disposed of by or leasedto, to any member of the Group.
None of the Directors or supervisors of the Company is materially interested in any contract or arrangement subsisting at the Latest PracticableDate and which is significant in relation to the business of the Group.
Mr. Christopher Dale Pratt is a non-executive Director of the Company and is concurrently the chairman and executive director of Cathay Pacific Airways Limited ("Cathay Pacific"). Mr. Chen Nan Lok, Philip is a non-executive Director of the Company and concurrently the deputy chairman andnon-executive director of Cathay Pacific. Cathay Pacific isa substantial shareholderof the Company, holding2,217,617,455 H shares in the Company, whichwould fall to be disclosed to the Company under theprovisions of Divisions 2 and 3 of PartXV of the SFO, and it wholly owns Hong Kong Dragon Airlines Limited ("Dragonair"). Mr. Kong Dong, who is the chairman and a non-executive Director of the Company, Mr. Cai Jianjiang and Mr. Fan Cheng, who are both executive Directors of the Company, are concurrently non-executive directors of Cathay Pacific. Cathay Pacific and Dragonair compete or are likely to compete either directly or indirectly with some aspects of the business of the Company as they operate airline services to certain destinations, whichare also served by the Company.
Save as above, none of the Directors or supervisors of the Company and theirrespective associates (as defined in the Listing Rules) has any competing interests which would be required to be disclosedunder Rule 8.10 of the Listing Rules if each of them were a controlling shareholder of the Company.
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APPENDIX II GENERAL INFORMATION
3. SERVICE CONTRACTS
None of the Directors has any existing or proposed service contract with any member of the Group which is not expiring or terminable by the Group within one year without payment of compensation (other than statutory compensation).
4. NO MATERIAL ADVERSE CHANGE
The Directors confirm that there has been no materialadverse change in the Group's financial or trading position since 31 December 2008, being the date to whichthe latest published audited accounts of the Group have been made up.
5. EXPERT
The following are the qualifications of the experts who have given their opinions or advices,which are contained in this Circular:
Name Qualification
China Merchants Securities a corporation licensed to conduct Type 1 (dealing in securities), Type 2 (dealing in futures contracts), Type 4 (advising on securities), Type 6 (advisingon corporate finance) and Type 9 (asset management) of the regulated activities under the Securities and Futures Ordinance (Cap. 571), the independent financial adviser to the Independent Board Committee and Independent Shareholders.
Beijing China Enterprise
Appraisals Co., Ltd.
a certified valuer in the PRC
(a) As at the Latest PracticableDate, none of China Merchants Securities and the PRC Valuer are beneficially interested in the share capital of any member of the Group or have any right, whether legally enforceable or not, to subscribe for or to nominate persons to subscribefor securities in any member of the Group.
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APPENDIX II GENERAL INFORMATION
(b) As of the Latest PracticableDate, each of China Merchants Securities and the PRC Valuer has given and has not withdrawn its written consent to the issue of this circular with inclusion of its opinion and the reference to its name included herein inthe form and context in which it appears.
6. MISCELLANEOUS
(a) The joint company secretariesof the Company are Huang Bin and Tam Shuit Mui. Ms. Tam is an associate member of the Hong Kong Instituteof Certified Public Accountants (HKICPA) and a member of The American Institute of Certified Public Accountant (AICPA), USA.
(b) The registeredaddress of the Company is at 9/F, Blue Sky Mansion,28 Tianzhu Road, Zone A, Tianzhu Airport Industrial Zone, Shunyi District, Beijing, China. The head office of the Company is at No. 30, Tianzhu Road, Tian Zhu Airport Economic Development Zone, Shunyi District, Beijing, China.
(c) The Hong Kong branch share registrar and transfer office of the Company is Computershare Hong Kong Investor Services Limited, Rooms 1712-1716, 17th Floor, Hopewell Centre, 183 Queen's Road East, Wanchai, Hong Kong.
7. DOCUMENTS AVAILABLE FOR INSPECTION
Copies of the followingdocuments are available for inspection at the principal place of business of the Company in Hong Kong at 5th Floor, CNAC House, 12 Tung Fai Road, Hong Kong International Airport, Hong Kong during normal business hours on any business day from the date of this circular until 25 April 2010:
(a) the Framework Agreement; (b) the Relevant Agreements;
(c) the letter from the IndependentBoard Committee to the Independent Shareholders, the text of which is set out on pages 14 to 15 of this circular;
(d) the letter from China Merchants Securities to the Independent Board Committee and the Independent Shareholders, thetext of which is set out on pages 16 to 25 of this circular;
(e) the valuation report prepared by the PRC Valuer, the contents of which is set out in AppendixI to this circular;and
(f) the consent letter issued by the experts referred to in this circular.
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APPENDIX III SUPPLEMENTAL NOTICE OF THE EXTRAORDINARY GENERAL MEETING
(a joint stock limited company incorporated in the People's Republic of China with limited liability)
(Stock Code: 00753)
SUPPLEMENTAL NOTICE OF EXTRAORDINARY GENERAL MEETING
Reference is made to the notice of the extraordinary general meeting dated 15 March 2010 ("EGM Notice") which sets out the resolutionsto be considered by shareholders at the extraordinary general meeting ("EGM") to be held at the Conference Room, Air China Building, 36 Xiaoyun Road, Chaoyang District, Beijing, the PRC at 2:00 p.m. on 29 April 2010.
Reference is also made to the joint announcement dated 25 February 2010 issued by the Company and Cathay Pacific in respect of the FrameworkAgreement and the Relevant Agreements ("Announcement") and the circular of the Company dated 7 April 2010 in respect of the same subject matter ("Circular"), which calls for the approval to the Transactionby the Independent Shareholders by way of poll at the EGM. Cathay Pacific, being a substantial shareholder of the Company, will abstain from voting on the Transaction at the EGM. Unless otherwise indicated, capitalised termsused in this notice shall have the same meaning as those defined in the Announcement and the Circular.
SUPPLEMENTAL NOTICE IS HEREBY GIVEN that the EGM, which will be held as originally scheduled, willconsider and, if thought fit, pass thefollowing by way of ordinary resolution, as resolution number 4, in addition to the resolutions set out in the EGM Notice, and the original resolutionnumber 4 set out in the EGM Notice shall be renumbered to be resolution number 5.
Ordinary Resolutions
1. "THAT the enteringof the Framework Agreement and the transactions contemplated under the Framework Agreement and the Relevant Agreements as set out below, which are inter-conditional, in respect of the shareholding restructuring project of Air China Cargo, a wholly-owned subsidiary of the Company, be and is hereby approved:
(1) the increase of Air China Cargo's registered capital by approximately RMB1.035 billion, towards which, Cathay Pacific will make a capital contribution of approximately RMB852 million (comprising approximately
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APPENDIX III SUPPLEMENTAL NOTICE OF THE EXTRAORDINARY GENERAL MEETING
RMB809 million as contribution to the registeredcapital and approximately RMB43 million as premium contribution) through its wholly owned subsidiary Cathay Pacific China Cargo Holdings and Fine Star will make a capital contribution of approximately RMB238 million (comprising approximately RMB226 million as contribution to the registered capital and RMB12 million as premium contribution), resulting in a shareholding structure of Air China Cargo: 51% being held by the Company, 25%by Cathay Pacific China Cargo Holdings and 24% by Fine Star;
(2) sale by CNAC, a wholly owned subsidiary of the Company, of the entire equity interest in, and shareholder loans provided to, Fine Star to Advent Fortune Limited for a consideration of approximately RMB627 million;
(3) Air China Cargo's purchase of four Boeing converted freighters and two spare engines from Cathay Pacific (or its wholly owned subsidiary, Hong Kong Dragon Airlines Limited) for a consideration of approximately RMB1.924 billion; and
(4) the managementof the Company being authorised to deal with all matters in connection with shareholding restructuring project as described in above items 1 to 3 of the resolution, including but not limited to: (i) negotiation and signing of the Framework Agreement, the Subscription Agreement, the Fine Star SPA, the ACC JVA, the ACC Articles and all other relevant agreements, contracts and documents; (ii) dealing with the necessary procedural matters such as obtaining approvals, registration, filing and domestic andoverseas information disclosure; and(iii) dealing with all other acts or things in relation to the Transaction."
By order of the Board
Air China Limited
Huang Bin Tam Shuit Mui
Joint Company Secretaries
Beijing, the PRC, 7 April 2010
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APPENDIX III SUPPLEMENTAL NOTICE OF THE EXTRAORDINARY GENERAL MEETING
As at the date of this notice, the directors ofthe Company are Mr. Kong Dong, Ms. Wang Yinxiang, Mr. Wang Shixiang, Mr. Cao Jianxiong,Mr. Christopher Dale Pratt, Mr. Chen Nan Lok, Philip, Mr. Cai Jianjiang, Mr. Fan Cheng, Mr. Hu Hung Lick, Henry*, Mr. Zhang Ke*, Mr. Jia Kang* and Mr. Fu Yang*.
* Independent non-executive director of the Company
Notes:
(1). A Revised Proxy Form is enclosedwith this notice. The form of proxy dispatched together with the EGM Notice (the "OriginalProxy Form") is superseded by this Revised Proxy Form.
(2). Please refer to the EGM Notice for details in respect of the other resolutions to be passed at the EGM, eligibility for attendingthe EGM, proxy, registration procedures, closure of register of members and other relevant matters.
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