As it announced the other day, Cathay Pacific Airways (293) reported record-breaking losses totaling HK$21.6 billion for the year 2020. It is not surprising that the aviation sector has been hit hard by the Covid-19 pandemic. But previously Cathay has lost $3 billion through oil hedging. In a way, the 8,600 Cathay employees who were laid off last year were downright hapless.

Last October, Cathay (including Cathay Dragon) announced a restructuring plan, whereby approximately 8,500 positions were axed, including some 5,300 employees in Hong Kong. That was the biggest ever layoff exercise in Hong Kong. Eventually, the exercise was completed, with more employees laid off than planned. The company’s latest business report indicates that Cathay had 25,600 employees globally as at the end of 2020, which is 8,600 fewer than the 34,200 employees recorded at the end of 2019. In Hong Kong, the number of Cathay employees fell by 7,400, from 28,200 to 20,800. This means that apart from the employees who have been laid off, more than 2,000 Cathay workers in Hong Kong chose to resign and start anew even though the aviation industry is in the doldrums.

How much can Cathay save after all the layoffs and voluntary resignations? In 2019, the company’s staff expenditure stood at $20.1 billion, a 21 percent decrease (amounting to $4.3 billion) to $15.8 billion, which accounts for about 27 percent of the total expenditure. The staff expenditure has exceeded the fuel cost and has become the biggest expenditure. Over the past 15 years, fuel cost has been the biggest expenditure of the company. From 2011 to 2014, when Brent oil price remained at US$100 per barrel, Cathay’s annual fuel expenditure was about $40 billion.

Cathay has long been hedging its oil, and the amount it hedges has been increasing. Out of the past 15 years in which Cathay has hedged its oil, nine saw the company incur losses and six saw it make gains. On balance, it recorded losses totaling $29.3 billion, an amount higher than its aggregate profit of $19.5 billion over the past 15 years.

For years, Cathay has been underscoring that its oil hedging is not a form of speculation, but an exercise to manage risks associated with short-term and medium-term changes in oil prices through hedging. This way, it can control the fuel cost.

The problem, however, is that while the objective of hedging is to lock in the fuel cost to prevent a sharp rise in fuel expenditure due to rapid increase in oil prices, hedging is simply counterproductive, judging from statistics over the years. Just like stock prices, it is hard to predict oil prices, and yet Cathay’s oil hedging contracts cannot be adjusted according to market conditions because each contract lasts for a few years.

In 2014, Brent oil price stood at US$100, but by the end of 2020, it was halved to US$50. Nevertheless, Cathay, bound by its oil hedging contract, was not able to make changes. In each of the years from 2015 to 2017, when oil prices remained low, Cathay respectively lost $8.5 billion, $8.5 billion and $6.4 billion. In 2016 and 2017, it went from being a profit-making company to a loss-making one.

Hedging surely carries risk. But one wonders what the original intention of Cathay’s oil hedging was. Did it simply want to hedge its oil or did it want to gamble? Before 2014, it hedged 20 to 30 percent of its oil. In 2008 when the international financial crisis led to an abrupt fall in oil prices, Cathay recorded $8 billion in hedging losses. But most of the time before 2014, the company recorded hedging profits amounting to several hundreds of millions of dollars to several billion dollars. In 2012, for example, Cathay’s hedging profits amounted to half of shareholders’ profits that year.

As the saying goes, after you have won money from gambling, you start to lose. Since 2014, Cathay has been hedging more than 60 percent of its oil, thinking it could make more easy money by upping the ante amid stable oil prices. But unexpectedly, prices have fluctuated greatly. Following the outbreak of Covid-19 last year, negative oil prices were recorded at one point. Cathay’s hedging contract designed for oil prices it deemed low resulted in $3 billion in losses amid ultra-low prices.

So far this year, oil prices have bounced back to the level of US$60. Cathay is therefore unlikely to suffer big hedging losses. But when you compare the little benefits with the catastrophic loss in the company’s hedging, it is just a small token of regard. One wonders if it is a necessary thing to do. By laying off 8,600 employees, Cathay has saved $4.3 billion. Yet an unnecessary decision to hedge its oil has canceled out more than half of the result of the layoff exercise. Vaccination around the world has not made as much progress as expected, and so it remains unclear when the aviation sector can make a full recovery. Without being able to widen its source of income, Cathay will have to cut its expenditures in the future. It claimed to have $28.6 billion in working capital. As it is burning $1.9 billion every month, the company can only last for another 18 years. The government will not let Cathay die without helping it, and airline companies in the mainland are looking at acquiring it. But instead of relying on external help, Cathay had better reflect on its own mistakes. It should stop hedging its oil. It needs not lose money like this.

Oil prices don’t make mistakes, but Cathay’s management has.

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