Aviation Financing: Five Key Trends to Understand in the Aviation Industry | Vinson & Elkins LLP
After a two-year hiatus due to the pandemic, the Airline Economics and AirFinance Journal conferences returned to Dublin this month. The conferences were well attended and there was optimism in the air among many key players, including investors, suppliers and manufacturers.
Throughout both events, we listened to dozens of panelists and met several stakeholders who shared their views. What we have consistently heard are remarks on the proven resilience of the aviation industry and predict better times ahead, while still urging lessors, airlines and investors to exercise caution in light of the lessons learned. Here are five key themes that emerged over the two weeks:
- The return of ABS: While capital markets have been quiet so far in 2022 due to a number of factors, including the ongoing conflict between Ukraine and Russia and the continued rise in interest rates, the close GJC’s successful business aircraft ABS is a positive sign and ABS issuances secured by commercial aircraft operating leases are expected to return in the near term. ABS transactions hitting the market today are likely to feature “virgin” portfolios focused on in-demand aircraft types and low-risk jurisdictions. Rating agencies have become more comfortable with less portfolio diversity provided that the credits of the takers are strong. Other structural changes most likely relate to LTVs and damping profiles, but much of the ABS structure has stood the test of COVID and Ukraine/Russia without needing a drastic overhaul. E-ticket transactions are likely to delay debt issuances and will depend on finding the right balance between investor return expectations and asset valuations determined by rental rate factors.
- ESG: The “E” in ESG remains a hot topic, but no easy fix presents itself. Solutions for operators will likely start with carbon offsets, then increasingly incorporate the use of SAF as supply increases and costs decrease, and eventually eVTOLs can be used for low-capacity transport and at short distance (subject to air traffic permitting). Already, fleet modernization and other corporate initiatives by industry players have helped to reduce the sector’s carbon footprint, and there is consensus that the industry needs to do more to communicate these efforts and improvements to stakeholders, including investors and regulators. Equity investors appear to be more insistent than debt investors on including ESG solutions, but concrete KPIs and industry-wide standards have yet to emerge and market incentives remain unclear.
- Emergence of alternative sources of capital: Diversifying funding channels continues to be a priority for lessors as interest rates rise and a slew of COVID-delayed deliveries create a need for new capital. The presence of private equity continues to expand and private equity firms, which are not subject to the same capital adequacy requirements as traditional bank lenders, have introduced additional competition into equity markets. debt. Especially as traditional lenders have taken a “wait and see” approach, these other capital providers have demonstrated a willingness and ability to step in and meet financing needs. Investor appetite for aviation investment remains very strong and investors of all types have reported that they have more capital to deploy than there is suitable investment. In today’s competitive environment, investors have focused on origination capabilities and execution certainty in addition to price and yield. Distressed lenders have also entered the sector. While some lessors and airlines view this development with concern, some capital providers say distressed investors have a role to play in the market (as they do in many other sectors), particularly as a buyer. of last resort for those trying to get out of a shipwreck. investment.
- Potential consolidation: Several conference panelists predicted that further consolidation in the industry is likely, noting that even small mistakes or isolated incidents can have catastrophic consequences for small lessors. Panelists noted that, for less specialized lessors, there will be advantages of scale, while others identified order books as a potential reason to pursue an acquisition until rate factors location improve to reflect a higher interest environment, this will likely remain an attractive avenue.
- Increase in aircraft trade and increase in rental rates: Industry players remain optimistic that the trading market will see a significant increase over the next three years, especially as a slow ABS market in the first quarter of 2022 made it difficult for a number of backers to remove assets from their books in anticipation of new deliveries. Lessors were optimistic that increased passenger numbers would allow them to pass on some of their increased costs to customers, noting accommodations made by lessors to airlines during the peak of the pandemic.
The general consensus from the conferences is that the industry has been challenged by a number of historic pressures in a short time – perhaps more so than at any time before. Between COVID, Ukraine/Russia (see our recent article on this topic), rising interest rates with lagging rental rates, fuel price hikes and climate change pressures, the adaptability will be even more important for industry players.