In exclusive reports from Geneva, Orlando and Los Angeles, Laura Mueller and Olivier Bonnassies of Commercial Aviation Online reveal how the money-men behind the global aerospace business are hunkering down for tougher times ahead.
Even as orders continue to flow in, a growing number of senior industry figures and analysts are warning of a painful reckoning to come.
At the Annual Aircraft Finance and Commercial Aviation forum in Geneva, respected analyst Chris Tarry, chief executive of CTaira warned delegates that over-ordering was unquestionably happening.
“We are at a turning point in the European and US markets. Too much capacity is likely to enter the short-haul markets in Europe in particular,” he says. “The backlog of narrowbody aircraft is a concern and we will need to adjust this over the next three years.”
Tarry says that “the real problem is about to occur now in Europe", and he expects the year 2008 to be the "year of realisation". Then 2009, he concludes, will be "the year of change".
At the same event, JP Morgan aviation analyst Chris Avery conducted an interactive poll of his 200-strong audience which found that 72% believed airline profits would drop by more than 20% this year, and 14% thought it would be even worse.
Avery talked up the prospects of the European low-cost carriers (LCC) in that scenario, saying: “European LCCs have not faced recession. Southwest Airlines [in the USA] has done well in recession times. It has been profitable for 35 years and it is currently outperforming the stock market.”
He won support from IATA chief economist Brian Pearce who said: “We are looking at a sharp slowdown in revenue growth this year and a change in yields.”
At a different event in Orlando – the annual conference of the International Society of Transport Aircraft Traders – respected Avitas senior vice president Adam Pilarski told his audience: “Recession will happen, trust me.”
He drew attention to similarities between today’s situation and the late 1980s when orders exceeded 1,000 three years in a row. “Then in the early 1990s we had a crash,” he says.
He blames lessors for ordering aircraft at the same time as the airlines. “The bubble burst because we had double counting on orders. Airlines continued to order, but so did the operating lessors. Operating lessors forgot to tell the airlines not to order aircraft and this resulted in many orders for the same demand,” he says.
According to Pilarski, the backlog/fleet ratio was about 40% in 1990 and is now at around 45%. “The backlog/fleet ratio is definitely higher than in 1990 and to me this is a sign of a bubble bursting,” he adds.
He caused a stir by highlighting the Middle East as a key cause for concern. “Heavy investment by Middle East carriers in aviation is one of the reasons. This time these Middle East carriers have forgotten to ask incumbent carriers not to order. Again we find ourselves in a ‘double counting’ situation.” he said.
So what will happen? “I am confident the bubble will burst because there are too many orders. I expect some sizeable cancellations,” declared Pilarski.
Already there are signs of major players in the aircraft finance world looking to limit their exposure to the worst of the looming troubles, notably in the USA where the global credit crunch is biting hardest.
CEO of lessor Aircastle, Ron Wainshal, said: “The root of the problem is in the US, but it has rippled across the board. The aircraft finance market has got caught up.”
And Klaus Heinemann, CEO of European lessor AerCap, added: “Some people are looking for an exit so there could be some asset sales”, although observing that that distressed sellers always provided “beautiful purchase opportunities”.
Bankers in Orlando commented that some struggling financiers were selling aviation assets ironically because their quality made them a quick and reliable way of raising cash.
"During times of stress, banks sell good assets because they know they will get money for those assets,” says a US-based banker. “That explains why certain of these aviation assets are up for sale. It is not because aviation assets are bad or they want to exit this industry. The cost of capital is not cheap, so if banks can sell assets, and assets that attract a good price, they will.”
But a European banker noted that not all the business was being done at good prices – some seemed to be executed in a panic.
“These may be quiet sales, but these banks are looking for quick sales and, as a result, are selling at sub par,” he warns. “While this is an opportunity it also shows a sense of urgency.”
Those comments followed remarks by Steven Udvar-Hazy, CEO of leasing giant ILFC, interviewed in Los Angeles, who said: “Our competitors are ramping up capacity, but that is their own decision. From 2004 to 2007, we took a lot of aircraft in the up cycle. But this year, we are down to 73 aircraft, 50 in 2009 and 20 in 2010,” he says.
“There is a reason for this. We believe there will be an opportunity to buy aircraft from sellers that are stressed or from buyers who become sellers that want to get out of deals, or if Boeing and Airbus need us to fill in some gaps. We are positioning ourselves to capture some of these opportunities rather than be overloaded with deliveries during a time of soft demand.” He adds: “In the long term, I am still confident that the industry is very much part of our global economy...but I am not as bullish about the next couple of years.”
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