A number of factors helped to head off the feared aircraft funding gap in 2009. While there are fewer jitters around for the year ahead, challenges still remain, writes Laura Mueller in Sydney
Mid-2009 was a turning point for aviation finance. The search for roughly $68 billion in financing, which financiers labelled as an impossible task, was called off. In the end the "don't panic" brigade, made up of Airbus and Boeing, was correct: the feared funding gap was manageable thanks to several important industry developments. And, compared with 12 months ago, jitters have eased about sourcing the cash needed to cover the industry's slightly reduced financing bill to support 1,198 commercial aircraft deliveries. But despite this 2010 will still be a far cry from business as usual, warn financiers.
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Ex-Im helped finance a stunning $8.6 billion in commercial aviation loans during the 2009 fiscal year to 30 September, primarily covering Boeing aircraft assets. This was the highest in its 75-year history, compared with its usual level of $4-4.5 billion annually. Together European ECAs coughed up a similar level of support for Airbus aircraft.
The second wave stemmed from the manufacturers. Airbus and Boeing opened up their cheque books in 2009, but they ended up spending less than the $2 billion they had initially earmarked for deliveries, thanks largely to the intervention of the ECAs and Ex-Im.
Kostya Zolotusky, managing director, capital markets development at Boeing Capital wrote in a December newsletter to financiers: "We expect the manufacturers will have to finance less than $2.5 billion in deliveries, with almost no white tails, and that Boeing's total new aircraft financing will be significantly less than the approximately $1 billion we planned." Boeing ended up spending just $800 million last year.
A third stabilising factor was that a handful of banks, which have left the aviation sector over the past two years, largely fulfilled their financing commitments in 2008 for last year's deliveries. This helped smooth over any possible capital crunch brought on by their exit.
Improved US credit markets, which exceeded all expectations with more than $4 billion in transactions, further countered any possible collapse in funding. Also the equity and convertible bond markets contributed a couple of billion dollars' of extra cash comfort to airline balance sheets.
Jose Abramovici, Calyon's global head of aviation & rail, says much-talked about merger and acquisition deals, such as the sale of a major leasing company, failed to materialise, freeing a chunk of the associated debt funding for other activities. AerCap's acquisition of Genesis Lease, which was agreed in September, includes an exchange of shares, thus eliminating the need for debt financing.
The final wave stemmed from the airlines themselves. Tougher markets meant airlines had to inject more cash equity into their commercial loan financings in 2009 "as leverage dropped from 85% to 70-75% based upon depressed current market values", says Abramovici. This meant banks were lending less into individual transactions, making more funds available for the overall industry.
The combination of these stabilising events meant a shortage of cash did not cripple the aviation market as expected in 2009. But can the industry expect a repeat this year?
Boeing is anticipating another manageable financing environment, with an even less dramatic possible funding squeeze. "Our 2010 analyses indicate a smaller potential commercial funding shortfall than we forecasted for 2009," says Zolotusky. "We project that any likely gap would be $2.5 billion or less, relative to a smaller anticipated total industry requirement of $62 billion dollars for the large and regional jet manufacturers."
A handful of bankers interviewed by Airline Business say it is difficult to get an exact feel for the financing climate this year owing to a number of factors, some which were not seen in 2009.
"The funding gap is extremely difficult to assess as there is a significant level of activity in the second-hand and sale and leaseback markets," says Bertrand Grabowski, member of the board of managing directors at DVB Bank. "Also pre-delivery payments aren't included in this figure and are adding to the [industry's] financing needs."
Grabowski believes the aviation finance market will be even more divided this year between those who can get funding and those who will have a hard time accessing capital. Total deliveries are estimated at $64.8 billion by DVB. Around $30 billion of this will go to "prime" customers, meaning A-rated airlines, Chinese airlines or the top Middle East airlines. This category also includes entities like GECAS and RBS Aviation, which are not likely to struggle to fund their new aircraft deliveries. The remaining $35 billion worth of deliveries however is allocated to "second-tier" purchasers, which will find raising funds "more challenging".
The good news is that the European ECAs and US Ex-Im are expected to at least mirror their 2009 level of export credit financing this year at around $10 billion each, and manufacturers are also on board to contribute similar amounts of financing as in 2009, at about $1 billion each. But, assuming ECAs and the manufactures deliver as expected, and the "prime" customers consume only a modest amount of ECA support, DVB still anticipates $13 billion of new deliveries will need to be financed by the bank market.
"We believe this figure is a real challenge for aviation banks which remain active," warns Grabowski. "Unless there is a sustainable flow of capital markets deals or ECAs increase again their commitment, we are at risk of seeing deferrals or cancellations."
Zolotusky anticipates a "slightly smaller volume" of commercial bank debt compared with last year, but a more "stable and predictable environment". He anticipates that debt from banks will total $16 billion, down from last year's $18 billion, but more than DVB's analysis of $13 billion.
A Japanese banker says the manufacturers will have to take action this year to help with any funding gap. "In 2009 they [the manufacturers] were very successful at 'sliding' delivery positions to cover cancellations, however I think the capacity to do this has probably finished." He adds: "I think any funding gap in 2010 will have to met by reduced production from the manufacturers."
Calyon's Abramovici believes the reduced delivery requirement this year $60-65 billion, compared with $68 billion - along with anticipated aircraft deferrals and manufacturer back-stop financing will help "narrow" any funding gap. However, he says there are additional mouths that will need cash this year compared with 2009.
"There are some rumoured merger and acquisition deals, which will require up to $2 billion of debt funding, and also a number of start-up lessors with private equity funding that will be looking for leverage from the banks," he explains. He also stresses that certain operating lessors will need to refinance their securitisations or their debt balloons, which will also consume funds.
Another source of pressure for lessors is the fact that the finance market appears to have a preference for airline credits. "Some banks who still lend to airlines are not willing to lend to lessors, so there is less capacity for these companies," says the Japanese banker.
Grabowski explains that airlines are an easier sell to credit committees, compared with lessors, as most global banks consider airlines a part of their "core franchise". He adds: "If banks have capacity to deploy funds, it is likely to go to airlines where you can sell a wider range of products, such as fuel hedging and revenue management, as opposed to lessors, who just want cheap money."
Many lessors should be successful in rolling over their existing debt with their original lenders, albeit at much higher margins. "The guys that will be hurting the most are those that have not match-funded the debt to the lease term," says one London banker. "Anyone with a warehouse up for renewal will see a substantial erosion in cashflow to equity as increased pricing will gobble up a lot of cash." Financiers agree attracting new money will be a challenge for all lessors. This year Boeing anticipates operating lessors' funding contribution to the industry will fall nearly a third to $6.5 billion because their "inability to borrow unsecured results in them being a shrinking capital source".
Abramovici says lessors with aircraft on order will have to look at financing those before being "too aggressive for new sale and leaseback transactions", which have been a popular means for airlines to raise cash. He also stresses banks are much more conservative in their sale and leaseback loan-to-value parameters and some of these deals will fail to meet lessors' return on equity criteria. As a result, he anticipates fewer of these deals in 2010 compared with the past few years.
Financiers agree that pure commercial debt opportunities, or financing outside of the export credit realm, will remain extremely tight. "I don't see any additional capacity in pure commercial debt in 2010, compared with 2009," says the Japanese banker.
"I think the financial landscape for airlines will look better by the middle of 2010. And if it does, I believe some extra capacity will come back into the market, but not until 2011." Banks which remain active will be drawn to the same deal structures; those made of good credits and even lower advance rates compared with 2009. "Banks used to competed on pricing, but banks will focus on advance rates this year," says a US financier.
Boeing's Zolotusky says the continued evolution of regional banking, led by Chinese banks, is becoming a "vital complement to European banks". However, DVB's Grabowski believes local banks or newcomers, excluding those in China and the Middle East, will not contribute significantly to the liquidity coming from the banking market in 2010.
Even if certain global airlines were to attract funds from Chinese or Middle East sources, says Grabowski, these financiers would choose top-rated airlines, which would not struggle to find liquidity anyhow. He explains that any impact on the market from such a move would be seen in pricing and not liquidity. "A bank that lost a deal to Lufthansa, or British Airways, after competing with say China's ICBC is unlikely to 'shift' that liquidity to Olympic, Kingfisher or US Airways."
One London banker sees a slight improvement in the amount of funding available in 2010. "While I suspect certain banks are gone for a number of years, I anticipate a bit more capacity will come into the market this year," explains the banker.
Calyon financed $1.6 billion of commercial loans in 2009, excluding export credits. This year, Abramovici says he remains committed to supporting key clients and developing new relationships, while focusing on the "most attractive opportunities". Zolotusky believes continued strength in the capital markets in 2010 could offset any declining year-to-year capacity from other funding sources.
Capital markets financings contributed $4 billion in funds in 2009, but Grabowski and Abramovici agree a repeat of the same volume of enhanced equipment trust certificate (EETC) financings is unlikely this year.
However, Abramovici believes some new form of aircraft lease portfolio securitisation may emerge by the end of 2010, based upon unwrapped structures. This means that, in aggregate, the market may see a similar dollar amount of capital markets transactions. The primary reason for the fall-off in EETC activity, according to them, is that very few assets are available for future deals. Furthermore, those aircraft which are available may not be the attractive assets which are suitable for capital markets transactions.
The shortage of assets available for financing at US carriers was detailed in a report from Collateral Verifications. The values of the unencumbered aircraft fleets of Continental, US Airways, United and JetBlue Airways range from just $160-190 million. Fleet values at Delta/Northwest ($830 million) and American Airlines ($790 million) were significantly more, but these were still vastly exceeded by the financially stable Southwest Airlines ($4.3 billion). Also these deals were done with very steep price tags which, no doubt, will put pressure on these carriers during the lean operating months.
So in addition to limited unencumbered assets, financial difficulties and, therefore, weaker credit ratings, this could prevent these airlines from accessing the capital markets altogether next year. Grabowski reckons even if the market sees some more of these deals, loan to values will remain very low, "with the A tranche in the low 60s, at best".
GLIMMER OF HOPE
If there is one sigh of relief for airlines and lessors this year, it is that certain financings could be priced better than those in 2009. According to the Japanese banker: "Commercial debt will be priced about the same as in 2009, but all export credit agency financing will be lower." His one caveat, however, is that tighter regulation of banks may push all pricing higher, depending on new capital adequacy requirements.
"New regulatory requirements, or anticipation of that possibility, could put increased pressure on the ability of banks to lend long-term money," he explains. Abramovici and the London-based banker also agree that pricing on export credit agency deals will improve, compared with the 2009 average.
However, pricing will inch up on asset risk, non-recourse financing, says Abramovici. He explains that this will come about due to a combination of aircraft overcapacity, high current market price volatility, as well as some recent downgrade of majors lessors, and fewer banks ready to lend on these transactions. Abramovici says the margins for first-tier airlines "may stabilise or marginally improve", but the margin for second-tier airlines "will unlikely improve".
Add all this up and what do you get? A smaller financing bill with less panic, but enough underlying tension to keep the aviation finance market extremely nervous as we move into the early months of 2010.
Read our previous analysis of the issues facing the aviation financing sector at: