financing startup airlines – crazy ideas for a crazy industry · entire capital structure in a...
TRANSCRIPT
9 February 2014
Singapore Aviation Academy (SAA) Singapore
Brian O’Dwyer
Former Group Chief Financial Officer of Skywest Airlines
Embry-Riddle Aviation Symposium
Aircraft Financing and Leasing in Asia
Financing startup airlines –
crazy ideas for a crazy industry
Disclaimer
Some of the statements in this presentation constitute “forward-looking
statements” that do not directly or exclusively relate to historical facts.
Because actual results could differ materially, you are urged to view all
forward-looking statements contained in this presentation with caution.
No reliance may be placed for any purpose whatsoever on the information
or opinions contained in or given during this Presentation.
The information and opinions contained in or given during this Presentation
are not necessarily complete and are subject to change without notice.
2
Agenda
� Observations on airlines
� Observations on aircraft financiers
� Crazy ideas on how they come together
3
Airlines come in many shapes, sizes, models
capital structures, ownership profiles and goals
4
Flag
carriers
Full
service
Low cost
carriers
Regionals
/ Niches
Publicly
listed
Private
individual
HybridJoint
ventures
Private
equity
Airlines returns – a binomial distribution
5
“It works”
“It doesn’t”
New start
up airline
Per Wikipedia:
• Asia: 170 defunct (85%)
• US: 52 bankruptcies (81%)
Start up airlines either “work” or they “don’t” – no
perfect data, but proxy suggests a 15-20% success ratePer Bloomberg data:
• Asia: ~30 listed (15%)
• US: 12 listed (19%)
Per NYU data:
• Beta of 1.6 (highest of
any industry)
Note: NYU data from New York University Professor Aswath Damodaran.
Aircraft financiers are often nearly the
entire capital structure in a start up airline
42%
31%
90%
27%10%
Listed
(NYU data)
Start up
(illustrative)
Debt PV of Leases Equity
6Note: “Listed” includes 27 publicly traded airlines in Asia. Data as of 31 December 2012 and provided by New York University Professor Aswath Damodaran.
Equity for “Listed” is the market value of equity at 31 December 2012 less cash.
Average Asian
listed airline
– 73% debt or PV of
operating leases
– Market cap of
US$2bn
Illustrative
startup airline
– 90% PV of
operating leases
Airline capital structures – listed Asian carriers versus illustrative start up (% of enterprise value)
Aircraft financiers can be a source of
capital as a practical matter for start ups
� Need a fast way to generate US$1million of
working capital?
– Defer lease payments on a few aircraft
� Major maintenance capital spending that
exceeds reserves
– Ask the aircraft financier to help finance or cost
share
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Financiers come in many shapes, sizes, models
capital structures, ownership profiles and goals
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Financial
institution
Midlife
Wide body
Turbo
props
Freighters
Publicly
listed
Private
individual
OEM
parent
New
narrow
body
Private
equity
Insurance
parent Global
Country
focus
Conventional wisdom is that aircraft financiers
are consistently profitable unlike airlines…
9Note: Airline profits are actual based on ICAO and IATA. Lessor profits are illustrative.
Actual airline losses
Actual airline profits
Illustrative lessor
profits
(conventional
wisdom)
Worldwide net profits – actual airlines versus illustrative lessors(US$ billions)
Cumulative
airline profits
since 1990: ~$0
…however some data suggests lessors can be
risky – ILFC example
10Note: ILFC data from SEC filing. 10-year treasury yield as of January 2004.
Treasuries a better investment than ILFC over the past decade
(750)
(500)
(250)
-
250
500
750
1,000
2004 2005 2006 2007 2008 2009 2010 2011 2012 9M Sept
2013
ILFC Net (loss) income 2004 – 2013(US$ millions)
10-year ILFC return on equity (ROE) = 3.6%
10-year treasury yield = 4.4%
Beta for publicly traded lessors is almost as
high (or as risky) as publicly traded airlines
11Note: Beta data as of 31 December 2012 and provided by New York University Professor Aswath Damodaran. Lessors includes AerCap, Air Lease
and Aircastle. Airlines include 27 listed airlines in Asia.
Caveat: Airline beta is for listed (e.g. “successful”) airlines
Selected industry betas
0.7 0.7
1.0
1.4 1.4
1.5 1.6
Tobacco Grocery Total Market Homebuilders Metals Lessors Airlines
The global
market
(40,000
firms)Less volatile
industries
More volatile
industries
Airlines and lessors
the most volatile
Conventional wisdom suggests leases are
a stable finance investment…
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Illustrative aircraft lease deal – from the lessor perspective(US$ millions)
(40)
(30)
(20)
(10)
0
10
20
30
0 1 2 3 4 5 6 7 8 9 10
#1 Lessor
buys aircraft
for $40
#2 Airline leases aircraft for 10 years
at 1% per month or $4.8 per year
Steady cash flow, 9% unlevered return
#3 Lessor sells aircraft at end of
lease for $24 (60% of purchase
price based on 4% annual
depreciation over 10 years)
Year
Customer renews
lease at good rate
Big gain on
maintenance
reserves
…however historical experience suggests
wide variation
Conventional wisdom Historical experience
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-30%
-20%
-10%
0%
10%
20%
30%
Illustrative aircraft lease returns(Unlevered IRR)
-30%
-20%
-10%
0%
10%
20%
30%
Illustrative aircraft lease returns(Unlevered IRR)
Bought low, sold high
Bought
too high
Default – delay in
getting aircraft out
of country X
Default; able to
release quickly
Technology change -
stuck with bad type
So what could this all mean?
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0%
10%
“It works”
“It doesn’t”
New start
up airline
-30%
-20%
-10%
0%
10%
20%
30%
If you want this…
Steady leasing cash flows Steady leasing returns
…but you have this…
Volatile leasing returnsBinomial airline returns
…you may want to think differently
Traditional efforts to create steady leasing
returns tend to focus on risk reduction…
Credit protections
• Lease deposits of up to 6
months aircraft rent
• Maintenance reserves
Portfolio management
• Diversify enough by airline,
geography, type, tenor, etc.
and the overall portfolio risk
is reduced
• Akin to securitizing a bunch
of subprime, no income
mortgage borrowers and
making a “safer” investment
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Return
Risk
Start up
airline
Add deposits
and reserves
…does it work? Sometimes? Most times?
What about rebalancing by increasing
return potential AND/OR mitigating risk?
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Return
Risk
Add warrants
and equity kicker
Add smaller deposits
/ reserves
Illustrative case study: start up airline lease
deposits
Case 1: 6-month lease deposit
• Aircraft financier wants to
de-risk deal and requires a
six-month lease deposit
• Airline only has cash for
deposits on one aircraft
• Fleet of four aircraft
Case 2: 3-month lease deposit
• Aircraft financier requires
three-month lease deposit
and some equity warrants
• Airline has cash for two
aircraft; better prospects
• Fleet of five aircraft
For start up airlines 25% more aircraft can
make a small difference
Situation
• Startup airline has three aircraft and wants to grow
• Each incremental aircraft very profitable because of fixed cost
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Illustrative case study: same start up airline
lease versus buy
Case 1: lease
• Rent: $2.4m annually ($20m
aircraft; 6-12 years; 1%
lease rate, $200K monthly)
• 6-month deposit: $1.2m
• Sufficient cash for deposits
on one aircraft only
• Fleet of four aircraft
Case 2: buy
• Purchase for $20m:
– Equity: Airline issues $10m in
equity (50%) to seller
– Debt: Aircraft debt of $10m
(50% LTV; 10% rate; balloon)
• Annual cash out: $1.0m
• Annual cash savings: $1.4m
(return on equity of 14%)
• Could do two or three
aircraft without deposit
• Fleet of six aircraft
For start up airlines
50% more aircraft can
make a big difference18
Why you would do it
Airline
• Doubles the fleet while
conserving cash
• “Back door” equity
issuance (no banker
fees, fund raising
process)
• Increases odds of
becoming a “success”– Easier to manage an AOG
with 6 versus 4 aircraft
Aircraft financier
• Provides a better risk /
return profile
• Allows you to sell an
aircraft but still ride the
upside
• If you are the capital
structure you may as
well have some upside
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Why couldn’t it work?
� Risk / credit / anti-doing business committee
� Doesn’t fit in investment mandate or profile
� Valuing the equity could be difficult
� Foreign ownership restrictions
� Conflict of interest to lease to competitors
� Actual debt and equity in the aircraft
� Book value issues
� What if airline fails? Could lessor clawback
rights to aircraft similar to a lease default? 20
Summary
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� Airlines returns are a binomial – it “works”
15-20% of the time
� Aircraft financier are the capital structure for
start up airlines
� Lessors can be volatile like their customers
� It could be more effective to de-risk and
increase return potential in lease deals
� Find a mutually beneficial way to tilt the
outcome towards a successful airline
Questions? Comments?
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