Banks in the business jet financing industry are not in for an easy ride. Part of the problem is the abundance of cash buyers. Michael Rentsch, head of aviation finance at Credit Suisse, estimates up to 80% of new business jets are acquired through cash deals, resulting in a lower number of transactions going to the banks.
"The biggest competitor to banks is the cash purchaser," says Aoife O'Sullivan, partner at law firm Gates and Partners, who has seen a rise in cash purchases during the past few years.
"It's not because buyers can't get the financing; they have the cash and view business jet assets as a good investment over a period of time," she adds, surprised how few buyers use debt given that rates are so low.
Output has fallen sharply in the very light jet segment
The low pricing is another sign banks are feeling the pressure. There is increased competition in the market owing to the number of financiers returning to the market post downturn, says Michael Amalfitano, head of corporate aircraft finance team at Bank of America Merrill Lynch (BAML), which has a 23% share in the business jet financing market. "The terms within a transaction, such as the documentation, structuring and pricing, have become more challenging," he says.
Compounding matters, there has been a decline in business jet production, so fewer aircraft need to be financed. Only 677 new aircraft were delivered in 2011, compared with 761 the previous year, figures from Flightglobal's Ascend Online database reveal. There has been a dramatic reduction in output in the very light jet segment, with deliveries dropping from 173 in 2010 to 84 last year.
More and more business jets are being leased rather than purchased, although not all banks are able to offer financial leases. "There is a definite shift towards leasing," says Amalfitano, who closed a higher proportion of leasing than debt transactions last year. "Around 40% of our business jet deals involved leasing; up 7% on the previous year."
Joining the likes of BAML, General Electric, and Milestone Aviation, ExecuJet has become one of the first operators to start offering a finance lease solution through its SimplyFly scheme. Traditionally, commercial aviation has always offered more leasing opportunities than the private-jet market, but O'Sullivan sees no reason why the model cannot be adapted to more corporate-jet transactions: "Leasing can be very tax-efficient, involve a lower capital outlay and enhanced depreciation benefits in some jurisdictions."
In China, the majority of business users lease rather than buy aircraft, says David Tang, adviser to Minsheng Financial Leasing, which focuses solely on general aviation leasing in China. "Leasing is much easier because tax payments can be spread over the term of the lease, rather than having to fork out a 22.85% import tax for a straight purchase," he says.
A recent change in tax legislation, resulting in a 20% VAT levy for newly registered aircraft imported to Europe via the UK, could trigger an increase in leasing deals. "There are plenty of attractive tax-efficient leasing structures in Ireland for corporate buyers," says O'Sullivan.
To stay afloat, banks should maintain a constructive approach to the market when financing private and corporate jets, she argues. "It's not just about figures and balance sheets," she adds, alluding to certain newer, private-wealth banks which focus on wooing high-net-worth clients to get a hefty deposit paid into the bank for investment purposes, rather than having a specific focus on aviation.
O'Sullivan believes equipment-finance banks may have a role to play in bolstering the efforts of the newer private-wealth institutions. "It would be worthwhile combining the aviation expertise of the equipment banks with the PWM [private-wealth management] banks who want to protect their client relationships but don't necessarily want to get involved in aircraft finance per se." In general, the finance market is beginning to show a lot more interest in properly and safely purchasing, operating and managing business jets, O'Sullivan says. "We're beginning to see financiers taking an interest, for example, in the underlying differences in risk profile to the extent that they will now put restrictions and covenants in the loan agreements on how the aircraft is operated."
The trend for refinancing deals after a cash acquisition has completed is keeping business jet banks on their toes. "At relatively low finance rates - some as low as 250bps over LIBOR [London inter-bank offered rate] - our clients are starting to look at refinance options," says O'Sullivan. "Often the cash buyers do not actually need bank finance and this in itself can make them attractive to the banks, as clearly they have the underlying wealth and would be a low credit-risk profile."
Cash purchases can be extremely quick in order to close a deal at a good price. Many buyers will then take the time to review the various finance options open to them when there is less transactional pressure on all sides. The downside for banks, however, is that commercial pressure has been removed, and it can take longer to convince borrowers to proceed with the debt finance.
In a bid to broaden their lending opportunities, some of the larger banks have begun exploring new territories. Credit Suisse, which conducts 90% of its business jet financing in emerging markets - and no business in the USA - sees strong business potential in regions such as Southeast Asia, eastern Europe, the Middle East and Latin America. "There has been a shift in the sector from US output to new markets," Rentsch says.
First-generation entrepreneurs in emerging markets are more likely to leverage deals than third- or fourth-generation entrepreneurs in western Europe who would simply pay cash, Rentsch argues.
"Clients in emerging markets are still building up their business so need additional recourse in order to expand," he says. "It might be more challenging from a risk point of view, but it offers better rewards."
BAML, which was present in 13 countries last year, is continuing to explore new emerging growth markets within Asia Pacific, Latin America and eastern Europe. Certain regions fit better with the bank's presence and strategy, says Amalfitano, citing China as a particularly challenging region for non-locals to enter as a consequence of governance and regulation.
India, on the other hand, has huge potential but limited penetration of new aircraft, says Rentsch: "The basic underlying economic factors are good, but there is a lack of infrastructure. There are not enough airstrips or hangar capacities."
The short-term outlook remains shaky for business-jet bankers, as they grapple with impending Basel III regulation in a climate still clouded by the eurozone crisis.
Elections taking place in Mexico and the USA are contributing to sector uncertainty. "Business jet operations are sporadic and inventories are high, which puts pressure on equipment pricing," says Amalfitano. Although an increasing number of new orders are in non-US markets, Rentsch believes the main market driver is corporate America. "If the situation in corporate America improves, there will be more economic willingness for corporates to buy, which will have a knock-on effect on the market in general", he says.
Source: Flight International