A capital intensive industry

Aircraft and engines are multi-million dollar investments but without them an airline literally won't take-off.

It now seems a long time ago since the financial crisis of 2008, when capital was hard to find, because in 2014, many airlines will see an increasing number of options available to them. For example, US capital market debt finance is now being successfully tapped by non-US based airlines through Enhanced Equipment Trust Certificates (EETCs) as well as through private placements.

New sources of funding

However, not all airlines will be able to follow this recent trend of tapping capital markets directly, as having sufficient financial strength and a brand presence with investors – mainly based in the USA – will not be easy to obtain for many. The good news for these airlines is that they may be able to take advantage of these new sources of funding indirectly, through leasing companies. Some lessors have recently managed to raise new funds in the US capital markets. We are one of them and recently secured new funding through a US private placement after successfully obtaining an S&P investment grade rating of A-, one of the highest ratings issued for an engine leasing company.

Operating lease finance has for many years been an important source of capital for airlines. Leasing aircraft, engines and other assets is not only a flexible source of capital but also has the additional benefit of mitigating residual value exposure. Owning and trading spare engines is a non-core activity for airlines, while it is a core competence for engine leasing companies. Leasing is a simple and attractive solution for many as it provides an important source of finance, operational flexibility and eliminates asset value risk.

Consider the risk

In the next 20 years, approximately 32,000 aircraft of various different types will be delivered. The associated spare engine demand will be approximately 5,200 engines with a catalogue price of $65 billion (2013 price levels).

Many airlines will have more choice as to how they finance their spare engines. Debt finance may increasingly be available; however airlines should consider the residual value risks inherent of such options against the potential additional benefits of operating lease structures. We believe that at least 50% of future spare engines will be delivered via operating lease. This is because established and well-financed spare engine leasing companies should be able to pass on some of the pricing benefits of greater availability of capital combined with the additional comfort of residual value risk protection.