The price gap between A and B shares in Hainan Airlines Co (600221 Shanghai A share, 900945 Shanghai B share) is narrowing.

The company's achievements in the financial and aviation market have boosted its B-share performance.

Established in 1989 with only 10 million yuan (US$1.2 million) in capital, Hainan Airlines is now worth 9.3 billion yuan (US$1.12 billion) after 12 years.

The company's fleet has expanded from one to 31 airplanes.

Ranked fourth in the domestic civil aviation industry, Hainan Airlines has become the largest local airline, challenging the three State-owned giants - Air China, Eastern Airlines and Southern Airlines.

When the General Administration of Civil Aviation of China (CAAC) decided to organize the industry into three groups to improve the country's competitiveness, Hainan Airlines also increased its reforms.

Last Friday, the company announced it would take over Shanxi Airlines Co by forming a new 320 million yuan (US$38.6 million) venture to compete with larger rivals.

Hainan Airlines said it would own 89 per cent of the new venture by contributing aircraft and other equipment worth 280 million yuan (US$33.8 million). It will also pay 5 million (US$603,800) in cash.

Chen Feng, the company chairman, said Hainan Airlines wants to compete with its major rivals, China Southern Airlines Co, Eastern Airlines and Air China, which have been named by the government to lead the nation's aviation mergers.

Hainan Airlines, which is not government controlled or involved in the mergers, aims to form a separate group.

Just four months ago, the company acquired a 60-per cent stake in Xinhua Airlines.

The acquisition of Xinhua, which was based in Beijing, allowed Hainan Airlines to make an important strategic step in its national expansion.

Liu Jianfeng, CAAC director, described the acquisition as a breakthrough in the civil aviation industry.

"There are 32 airlines in the country, most of them are small and performing badly. Hainan Airlines has taken a lead in the reorganization," Liu said.

To compete with the three major airline companies, Hainan Airlines has adopted a development strategy.

The company has realized it is incapable of competing with the three giants on the major routes, so has instead turned its attention to the "feeder" market serving regional cities.

The company aims to establish China's largest deluxe feeder fleet by 2002.

Chen said the feeder transportation market had been the weakest sector in China's aviation industry.

He said medium and short-distance routes linking regional cities were badly needed.

"Most Chinese airlines are buying large aircraft at the moment, while feeder aircraft are in relatively short supply," he said.

Hainan Airlines began to implement its feeder strategy in 1995 and expanded its feeder network in the Guangxi Zhuang Autonomous Region. Hainan Airlines is currently considered China's No 1 airline in terms of both its type of feeder aircraft and the scale of its fleet.

To expand its feeder network, Hainan Airlines acquired Chang'an Airlines Co to seize the northwestern aviation market, especially the feeder route market.

Chang'an Airlines has been focusing on feeder services since it was founded.

The airline initially formed a feeder network centred round Xi'an but which now extends into neighbouring provinces and municipalities.

Chang'an Airlines currently has 49 feeder flights, which provide access to more than 20 cities.

Hainan Airlines also bought the Haikou Meilan Airport and became the first domestic airline company to have its own airport.

However, the rapid expansion of the company has triggered fears because of its high ratio of liabilities to assets.

Chen said the company's ratio was around 70 per cent, which is not high for an aviation companies.

"If we do not buy airplanes, merge other companies and introduce more talented employees, the ratio would remain at 36 per cent but the company's development would be restricted," he said.

"Our dream is to turn Hainan Airlines into an international enterprise which can compete with the world giants," Chen said.

He noted that with the integration and development of China's aviation enterprises, local companies need to use advanced management techniques and provide quality service to compete.

He said the company would buy 16 planes this year, including 13 Fairchild Dornier, Dornier 328s and three Boeing 737-800 aircraft.

The B shares of Hainan Airlines will be affected if international financier George Soros sells out of the company, Chen said.

The America Aviation Investment Co controlled by Soros became the airlines' largest shareholder in 1995.

The company acquired a 25 per cent of Hainan Airlines' stakes for US$25 million.

Analysts said although Hainan Airlines' B share price has doubled this year, its earnings in the stock market are still small compared to the company's operating profits.

They predict Soros is investing in Hainan Airlines for the long term.

Last year, the company's profits rose 20 per cent over 1999 as sales increased.

The carrier's net income in 2000 rose to 163.52 million yuan (US$19.70 million) from 135.69 million (US$16.39) in 1999.

Sales rose more than a quarter to 2.30 billion (US$277.7 million) from 1.81 billion (US$215.8 million) in 1999.

Major events of Hainan Airlines

In October 1989, Hainan Airlines was established with a total capital investment of 10 million yuan (US$1.2 million).

In 1993, after restructuring, Hainan Airlines became the first shareholding company in the civil aviation industry in China. This year, the company earned a profit of 68 million yuan (US$8.2 million).

In September 1995, the America Aviation Investment Co Ltd, controlled by George Soros, acquired one quarter of Hainan Airlines for US$25 million, and became its largest shareholder.

On November 25, 1999, the company went public on the Shanghai Stock Exchange, raising over 900 million yuan (US$108.7 million).

In June 2000, the company announced it would make Shijiazhuang in Hebei Province its base to build its short-range fleet.

On August 8, 2000, Hainan Airlines became the largest shareholder in Haikou Meilan Airport, with an investment of 400 million yuan (US$48.3 million).

On August 30, 2000, it purchased 26.5 per cent of Shaanxi Chang'an Airlines.

In October 2000, the company bought five Boeing 737 airplanes for US$290 million.

On July 6, 2001, the company took over Shanxi Airlines Co by forming a new 320-million yuan (US$38.6 million) venture.