By Jose Ricardo Botelho*
Welcome aboard of a new flight where we share the cabin with Marcelo Mello, Head of Structured and Assets Finance at Nantes Mello Advogados in Brazil, an ALTA consulting member company since 2021.
On this occasion we will delve into the impact that the pandemic has had and now the important challenges resulting from the Russia-Ukraine conflict in the financing and leasing of aircraft. A fundamental piece in the cost structure of an airline that is directly related to multiple external and internal factors.
There are many variables to consider, and I hope that this article allows us to open a new dialogue to develop more initiatives in order to continue generating efficiencies for the sector and promote its recovery.
How has the ongoing global recovery been affecting the aircraft leasing and financing industry?
From the outset of the COVID-19 global crisis, airlines and lessors have tapped into all sources of liquidity that were available. European and US carriers received a great amount of support from the government, whilst airlines in other regions where such help was not readily available had to find other ways to survive or in some cases file for bankruptcy to adjust their balance sheets, especially in the case of carriers with higher fixed costs pre-crisis.
As a result of the sudden and drastic reduction in the demand on the airline side, aircraft lessors received a myriad of simultaneous requests for payment deferrals, forbearance, and general restructuring of terms by their clients, in an attempt to avoid disaster by preserving cash positions and adjusting capacity to the new reality of the market. In such a scenario, the aircraft lessor landscape has changed significantly since 2020, with a lot of consolidation via M&A. As to financing, private equity and banks were very active in providing lessors with capital to endure the worst part of the crisis.
The recovery has been helping the industry, but it is not the same everywhere around the globe, not to mention that this new stage we are in is bringing its own set of challenges. Looking ahead, the challenges seem to be many. The conflict in Ukraine has so far stressed substantially oil price levels and its medium- and long-term effects are yet to be known, depending on whether and how far will it escalate. It is also not known at this point what will happen to all the aircraft currently operated in Russia. Other major subject is the rise in global inflation and what will that do to lease pricing, as the surge will simultaneously increase escalation rates to purchase aircraft and funding costs for lessors. Do they have the ability to pass this on to customers via lease rates? Will this drive further lessor consolidation? If yes, will that put more pressure on pricing for airlines, in a scenario in which they are yet to recover completely from the crisis and are greatly affected by skyrocketing oil prices? Those are questions that are not easily answered, and that airline fleet managers and lessors alike will be closely examining in the foreseeable future.
What financing structures could be considered for the companies in the region?
The operating lease has a prominent role in financing aircraft in the region as it provides an interesting mix of fleet flexibility and good pricing for airlines. The crisis also showed that in tough times it may be more convenient to negotiate relief with a lessor with which the company has a business relationship than bondholders or other purely financial investors. On the opposite end of the debate, owning the aircraft can be an interesting proposition for those that wish to operate the aircraft for longer than a typical lease cycle and/or for those operators whose strategy involves trading residual aircraft values. There is no one-size-fits-all answer here, just like many other issues in this industry, it varies per strategy of the airline.
With the global recovery in motion, we have already seen a recent uptick in the interest of private financiers and government-backed export credit agencies (ECAs) for deals in Latin America. As new aircraft deliveries largely moved to the future as result of the pandemic, in the next few years financing of all forms will be picking-up, including bank loans and more structured capital markets transactions like we had in a not-so-distant past.
How to increase investor confidence to increase the flow of leasing transactions in the region?
It is important to spread awareness to the fact that jurisdictions matter. In a global industry, capital is channeled in search of dollar adjusted returns, so it is clear that the different markets around the globe are competing for the same resources.
In the past 20 years or so, most Latin American and Caribbean jurisdictions have made great overall progress. However, the improvement must continue in order to achieve the level of reliability akin to that of many developed markets and reach the desired reduction in cost of capital, specially by targeting areas sensitive to financiers and investors, such as the ability to repossess the aircraft via Cape Town Convention, tax treaties and an overall taxation structure aligned with international best practices that is conducive to the expansion of business and acquisition/financing of aircraft.
How do you see the collaboration with ALTA and the steps to support recovery in the industry?
ALTA has a very important role in bringing together the airlines in Latin America and the Caribbean and help spread awareness on ways to solve relevant problems in the industry, aligning what is taking place in the region to best practices found abroad.
Being partners with our airline clients allows us to see firsthand the problems that they face, and ALTA is a great vehicle to find solutions that make Latin American and Caribbean airlines stronger and increasingly more competitive.
At the beginning of 2022, the aviation industry was cautiously optimistic about the recovery prospects, with better financial statements for companies, improvements in connectivity in the region and more options for users. However, the current global context is once again generating uncertainty, volatility in exchange rates and higher costs while maintaining demand that is still recovering. We join the call for the cessation of the armed confrontation that takes so many lives, and we reiterate the commitment of everyone globally being part of the solution. We have great challenges ahead and from ALTA we will continue working to support the industry in the search for greater efficiency and competitiveness in the region.
I appreciate your reading and until a next flight.
(*) Jose Ricardo Botelho, is the Executive Director and CEO of the Latin American & Caribbean Air Transport Association (ALTA)