Once the new kid on the block, China’s aircraft leasing industry is now well into pre-adolescence – a milestone that will be marked by a wave of redeliveries as the first leases begin to expire.
Lease expiries are by no means a new concept, but the sheer volume coupled with Chinese operators’ general disdain for older aircraft could lead to a glut of midlife aircraft that needs to be traded out of the country.
This will likely test the technical expertise of Chinese lessors, which has been viewed by many as their Achilles heel, especially due to their relative youth in the market. It is little wonder, then, that redeliveries was a major topic during the recent China Air Finance Development Summit in Tianjin.
Leasing is a combination of finance and technical expertise, says Zhu Feng, strategy and research director, aviation, at BoComm Leasing.
“Most lessors may be known for their background as financial institutions, but they would not be able to handle a lease expiry satisfactorily without the technical expertise,” he says.
Redeliveries are broadly expected to pick up in the next two years, and ahead of that, China’s lessors are pivoting their focus towards managing the whole lifecycle of an aircraft.
Key to this is DFTP Aircraft Asset Management Company (DFTP AAM), a newly established joint venture between Tianjin Dongjiang Investment Holding, Xiamen Aircraft Leasing and Haite Group, that was launched at the conference.
Lily Chen, DFTP AAM’s chief executive and director, expects 100 lease expiries during each year at the peak of this phenomenon, and the company aims to cover every aspect of an aircraft’s lease.
The Chinese market will see increased demand for asset management services, Chen adds, including but not limited to technical engineers, deals experts, as well as managing special purpose vehicles.
DFTP AAM plans to set up an aircraft trading platform, which will be supported by a mid-life aircraft fund, as well as aircraft appraisal services.
Thomas Peng, senior vice-president at Aircraft Recycling International (ARI), opines that global technical standards across the aviation industry help to determine second-hand values, but a risk management framework is necessary, even in liquid markets or segments.
ARI is an affiliate of China Aircraft Leasing (CALC) and China Everbright is one of its shareholders.
Aircraft are a fairly standardised asset class with transparent prices, says Steven Guo, senior vice president at DVB Bank’s aviation division. But throw maintenance records into the mix, and every jet is different.
“Banks value an aircraft’s maintenance status and this gives them confidence,” Guo adds.
The physical redelivery of aircraft is also not without complications and pitfalls.
Kevin Tang, deputy GM of Tianjin Haite aircraft Engineering Company, advises that contracts should be as specific as possible, as airlines and MRO providers have different perspectives and interpretations of some terms.
Chen Jing, vice-general manager of enterprise management at Sichuan Airlines, draws attention to contracts that were inked a long time ago. Due to the lapse of time, costs may have gone up or circumstances changed, and operators risk incurring additional costs to fulfill their contractual obligations.
UNCERTAIN SECONDARY MARKET
Chinese airlines have shown a tendency to favour new aircraft over older ones, but some believe that could change, potentially opening up the market for some mid-life aircraft to stay onshore.
“Ultimately, airlines will always make decisions based on costs,” says Chen of the decision between new or second-hand aircraft.
Taking an overarching view, BoComm’s Zhu says the Chinese market should rethink the notion that a young fleet is always better.
Twelve-year-old, midlife aircraft are “good and cheap,” he says, and are generally bought opportunistically by airlines outside of China.
Wu Hong, vice-president of trading at CDB Aviation, floats the idea that in three- to five-years’ time new airlines may emerge in the Chinese market willing to take these aircraft.
So long as Chinese operators shun them, midlife aircraft will likely be traded into overseas markets. That will necessitate a slew of cross-border transactions, posing yet another challenge.
The aviation sector a US dollar-denominated one, leaving Chinese companies exposed to volatile yuan fluctuations, especially against the backdrop of the present US-China trade tensions.
China also has in place strict capital controls, which makes cross-border transactions challenging outside of special economic zones like Tianjin, presenting a challenge for small players.
Furthermore, the trustworthiness of SPVs in the country is often under doubt, creating much paperwork and red tape.
For now, there is still breathing room for Chinese lessors as they brace themselves for the inevitable.
Yang Bo, senior technical manager at Everbright Financial Leasing notes that the remaining lease on the lessor’s fleet averages five years. There is no pressure in the next two years, he says, but preparations are underway.
BoComm’s Zhu points out that the buying appetite of China's lessors slowed in the years after the financial crisis in 2008. As such, the peak of redeliveries may come after 2022, offering Chinese lessors a brief respite.