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AYR Aircastle

Participants
Michael Inglese Chief Executive Officer
Aaron Dahlke Chief Financial Officer
Doug Winter Chief Commercial Officer
Jim Connelly SVP ESG & Corporate Communications
Mark Streeter J.P. Morgan
Doug Runte Deutsche Bank
Call transcript
Operator

Good day and welcome to the Aircastle 2Q Earnings Call. Today’s conference is being recorded. At this time, I would like to turn the conference over to Jim Connelly. Please go ahead, sir.

Jim Connelly

Thank you, Operator. Good morning everyone and welcome to Aircastle Limited’s second quarter 2021 financial update call. With me today are Mike Inglese, Chief Executive Officer, and Aaron Dahlke, Chief Financial Officer. Also on the line are other members of the management team who will be available during Q&A. We’ll begin the presentation shortly, but I’d like to remind everyone that this call is being recorded and a replay will be available through our website at www.aircastle.com. There you can also find the press release and PowerPoint presentation that accompany this call. I would like to point out that statements today which are not historical facts may be deemed forward-looking statements. Actual results may differ materially from the estimates or expectations expressed in those statements and certain facts that could cause actual results to differ materially from Aircastle Limited’s expectations are detailed in our SEC filings, which can also be found on our website. I'll direct you to Aircastle Limited's press release for the full forward-looking statement legend. With that, I’ll now turn the call over to Mike.

Michael Inglese

Thanks, Jim. Good morning, everyone, and thank you for joining us.

For the second quarter of 2021, we're pleased to present markedly improved results. We earn net income of $10 million and saw a 4% sequential increase in lease rental revenue versus the first quarter.

Our operating cash flows also sequentially increased 57% to $180 million and we've significantly improved our credit metrics with equity increasing by 23% and debt declining by 9% versus the first quarter. Since our last update, we've seen substantial improvement in many sectors in the aviation marketplace. That said, the COVID-19 crisis impact on aviation is not over and will continue in the near-term. At the recent Annual General meeting, IATA reported that over the 2020 to 2022 period, total losses for airlines could top $200 billion. 2021 demand, measured in global RP [ph] case is expected to stand at 40% of 2019 levels, with an estimate of around 61% for 2022. Despite these challenges, airlines are adapting and improvising an industry consensus is that were past the deepest part of the crisis. I'd like to start off by sharing our observations on the varying recovery we're seeing playing out amongst our customers. Europe, China, Mexico and Brazil are showing strong recoveries. Nations are aligning their restrictions and cities are eager to receive travelers who can demonstrate immunity or negative test. Both well established airlines and low cost carriers have shown success where they offer multiple routes into multiple cities. In North America, summer travel volume showed near 2019 levels, and there is pent-up demand among business travelers.

However, with summer months ending and with a Delta variant delaying in-person commerce, we expect some carriers to reduce capacity in the fall. The improvements we see directly aligned with increased vaccinations, it's now been demonstrably proven that air traffic rebounds where vaccine rates are high.

For Aircastle and the industry, this is good news. But it's tempered with caution and discipline as we closely partner with customers in regions where there is slower momentum for mass vaccinations, such as certain parts of Latin America and Southeast Asia. Countries such as Malaysia, Indonesia and India have lately seen a promising reduction in COVID-19 case numbers.

However low vaccination percentages and the Delta variants onset has some nations in that region considering potential new lockdowns. With respect to aircraft values, single aircraft continue to be our focus of investment across the board.

Although there is some positive news for wide body aircraft, such as the U.S recently opening to European travelers. wide body aircraft values are expected to remain depressed until international travel experiences are more evenly spread recovery and this may not be felt until 2023 or 2024 according to most folks.

Although the recovery has been uneven and numerous challenges still way ahead, Aircastle is moving forward.

This quarter we acquired four new A320 Neo aircraft equipped with CFM LEAP engines containing the latest fuel efficient low emission technology. We're proud to announce these aircraft are on lease to Frontier Airlines, a new customer for Aircastle. Low cost airlines like Frontier have shown resilient growth amid these challenging times.

In addition, this quarter we acquired to single aisle aircraft on lease with European customers, bringing our year-to-date acquisitions to eight aircraft for approximately $350 million. I'd like to talk about two core competencies which have helped Aircastle push through these challenging 18 months.

Specifically, our laser focus on liquidity and our commitment towards low and off balance sheet financial leverage. In line with these goals, this quarter we enhanced our credit strength with the issuance of $400 million of 5.25% cumulative redeemable preference shares.

Additionally, this quarter we completed an early redemption of $500 million of senior notes originally due in 2022, and our next unsecured senior note redemption isn't scheduled until 2023. These actions are brought our net debt to equity ratio for the end of the second quarter to 2 to 1 or 2.31s when ratings adjusted.

We also see the opportunity this quarter to sell lessee bank bankruptcy claims for $55 million. We're pleased to see this transaction favorably resolved, bankruptcy claims due from LatAm, our second largest customer.

Now a few words on our impressions of the trading market in general. Despite the broad challenges still faced by airlines and lessors, abundant liquidity and capital availability has made aircraft acquisitions extremely competitive. Lease rate factors remain low, thereby continuing to pressure investment spreads and overall returns. Nonetheless, when you look at investments we've made in the Frontier A320 Neo's, our Embraer E2 investment as well as our LOI we just signed for the acquisition of our first Boeing 737 MAX 8. These deals reflect our commitment to fuel efficient low emissions aircraft. We believe such aircraft are not just attracted to our customers, but also essential to global aviation broader environmental goals. Ambitious targets have been set for emissions reductions for the industry, yet at the same time reduction targets will be difficult to reach unless new innovations in propulsion systems are developed. Until such innovations are made, airlines are optimizing sustainability primarily through sustainable aviation fuels and by investing in next-generation aircraft, just as Aircastle is and by optimizing utilization and air traffic management systems. Aircastle is proud of our customers who either are developing or using SAS and our parent partner Marubeni who participate in SAF co-development projects.

Just last month, in the spirit of their company create a fairness, innovation and harmony, the Marubeni Corporation issued their green bond framework and announced the partnership for an order option of 200 eVTOL aircraft. These are exciting developments and Aircastle recognizes the importance of such initiatives. To wrap up, we're encouraged by the recent recovery in travel numbers. But more importantly, we believe in the eventual long-term recovery of global air travel and aircraft leasing and in the strategic ways our industry enables our customers to best meet their liquidity goals, while operating efficient sought after assets.

We expect that air traffic growth will return to its long-term trend which over the last 50 years has averaged 1.5x to 2x global GDP.

As optimistic as we are about aviation's long-term recovery, we're also realistic about the near-term road ahead. The Delta variant has dramatically changed the course of the recovery, and many industry participants have reduced their travel forecasts, not seeing a full return to 2019 levels until somewhere between 2023 and 2024 with different trajectories for domestic, regional and international long haul travel. The global recovery in commercial aviation will require greater vaccine penetration in many parts of the world where some of our aircraft are currently leased. But working closely with our customers listening to them and partnering towards solutions is what we do. That's nothing new. It's always been a demonstrated core strength of Aircastle's global team, to whom on behalf of the senior management team, I would like to express our continued admiration and gratitude. In conclusion, with very strong liquidity and the strategic support and commitment of our investors, Marubeni Corporation and Mizuho Leasing, Aircastle is well-positioned to continue long-term disciplined and profitable growth. And with that, I'll now pass the call over to Aaron, who will go over our financial results for the fiscal quarter in more detail.

Aaron Dahlke

Thanks, Mike.

As Mike mentioned, we finished second quarter with net income of $10 million and adjusted EBITDA of $197 million, both were sequential improvements from the first quarter. Lease rental revenues were up $5 million versus the first quarter, primarily due to improved rent collections and aircraft acquisitions.

The second quarter cash collections as a percentage of lease and finance revenues were consistent with the first quarter and our year-to-date collections rate was 88%.

For the first quarter, we reported other income of $43 million primarily as a result of $55 million cash received for the sale of bankruptcy claims. This income was partially offset by the make-whole premium for the early redemption of senior notes. Year-to-date, we reported cash flows from operations of $180 million. This is a 57% improvement from the first quarter and was driven primarily by cash collected on rents and deferrals and $55 million from the proceeds of the sale of claims.

Turning to our capital structure.

This quarter we issued $400 million of preference shares, which currently pay 5.25% dividend and have no maturity.

As the preference shares received 50% equity treatment from the rating agencies, our net debt to equity ratio is now 2.3x versus 2.6x at the end of first quarter. At the end of the second quarter, our total debt was $4.6 billion, of which $3.9 billion or 84% was unsecured.

During this quarter, we elected early payoff $500 million of senior notes due in 2022. This means we have no unsecured senior notes due until 2023. A word on deferrals. The number of deferral requests are down.

As of October 8, we have agreed to defer approximately $102 million in lease payments with 20 airlines to prepaid [ph] over time. 77% of these deferrals are part of broader lease restructurings, with repayment terms beyond the next 12 months. It's important to stress that in exchange for payment accommodation, we strongly pursue the opportunity to amend leases for longer terms that are security packages, or other valuable consideration for the liquidity we're providing.

In addition, as of August 31, we held $77 million in security deposits, $518 million in maintenance reserves, $143 million in letters of credit from our lessees.

In terms of our own liquidity, we have more than ample coverage with $2.4 billion to cover our obligations. This is composed of $1.4 billion of undrawn credit facilities, $0.3 billion of unrestricted cash, $0.3 billion of contracted asset sales, and $0.4 billion of projected adjusted operating cash flows through October 1, 2022.

Our purchase obligations stand at $152 million through September of 2020. To sum it up, we're encouraged when we see how broader improvements in the aviation market are reflected in Aircastle's improving revenue and strong operating cash flows. But as Mike mentioned, there are still challenges ahead, which we are meeting by focusing investments on liquid narrow body aircraft, expanding our credit base and maintaining conservative leverage. This approach along with our investment grade rating, our unique ownership positions us well for the long-term industry recovery that we are confident we will reach. And with that operator, we are happy to open up the call the questions.

Operator

Thank you, sir. [Operator Instructions] We will now take our first question from Mark Streeter from J.P. Morgan. Please go ahead.

Mark Streeter

Okay. Good morning, or good afternoon.

Michael Inglese

Good morning, Mark.

Mark Streeter

Thank you.

So can we just revisit the formula for collection rate? You mentioned 87% year-to-date. I just want to make sure given all the movement on deferrals and so forth, we understand what sort of in the numerator and denominator of that?

Aaron Dahlke

Hey, Mark. It's Aaron.

So we actually keep it pretty straightforward and simple. We just take the collections from rent plus any deferral collections, and then we divide it by our actual revenue recognition. And as you know, we've been very conservative on our revenue recognition and putting the lessees on nonaccrual. If we don't feel comfortable, we can cover that receivable [technical difficulty].

Mark Streeter

Okay.

So that 87% to the extent that there were prior revenue that was deferred that's collected in the quarter that would inflate the number, if you will, right, because you would be collecting more, if you will, than was booked in that quarter? I’m just trying to understand.

Aaron Dahlke

Yes, collections in the quarter. Absolutely.

Mark Streeter

Okay.

Okay, that's helpful. And then, Mike, maybe a question for you. [Indiscernible] panel last week in Scotland at ISTAT EMEA. And he made a comment that he thinks the lessors are emerging in better shape than they were going into the pandemic. And I wanted to get your take on that, whether or not you agree with that statement, do you think Aircastle is in better shape now than it were prior to the pandemic? It gets to, obviously balance sheet and collections and the state of play for aircraft leasing. But just wondering your thoughts on that whether you agree with that statement?

Michael Inglese

I'm not sure I totally agree with it. Look, I think we are in good shape. We've certainly taken our lumps in terms of impairments, in terms of restructuring, rents, and leases that we had, had there been no pandemic. But I can understand his vantage point that he kind of got lucky with a pandemic and got to restructure in order book of bunch of planes, you probably would have had a tough time placing.

So we all have our different perspectives on what it means. But I think it's a bit of a stretch to say that the lessors are all coming out stronger than they were going in.

Mark Streeter

Okay. And I think that's fair. And then just one last one. Mike, I saw in the press release, obviously, your team are certainly touting your unique ownership structure, which we've always thought was very important here. I'm just sort of wondering now that you've had some sort of seasoning under your new ownership structure, what's sort of the future here for Aircastle in terms of what this company is going to look like down the road here? Has anything -- has any of the dialogue changed with your equity, with your shareholders in terms of how you're thinking about, the lease back channel, order books, age of the fleet and portfolio, obviously, the trends have been getting younger, and so forth. But I still get a lot of questions as to, so what does Aircastle really going to look like? What is your place really going to be sort of in the marketplace going forward? So I was hoping you could address that.

Michael Inglese

Yes, sure. Look, I think fundamentally there's no change in direction or strategy.

I think we're still going to largely be a secondary market participant from an acquisition perspective. And of course, as lessor we are going to be -- we're going to maintain an active sales program as well as we continue to reshape the fleet. The industry has been and is continuing to go through a shift in technology from prior generation to new generation.

And so it's going to be natural for us as we continue to march forward to evolve our fleet in conjunction with what's going to happen in the marketplace. And in the short-term I think that translates into probably buying maybe some more younger aircraft than we had traditionally done. But as the Neo and MAX sort of mature out there, there will be again, I believe, plenty of secondary market opportunities to buy 5 to 7 year old MAXs and NEOs in due course. But we're in -- and COVID sort of disrupted this transition a bit. And ESG will be kind of a countervailing force that will probably put more pressure on airlines and the industry to try to get more new technology out as fast as practically possible. But there's still a significant amount of current technology or prior technology aircraft on the narrow body side.

I think it's roughly 80% something, 87%, prior [ph] tech and 13% new tech and the wide body is a higher percentage of new tech, but it's going to take time for that transition to take place. And as we work our way through that transition, we're going to continue to be active in the secondary market. And OEM order, not sure we're there yet, I would have ruled that out over time. But I don't think our owners historically have been big fans of that strategy. But it doesn't mean that we might not do something on a more modest basis if we think it makes sense in the context of relationship with customers, OEMs, et cetera.

Mark Streeter

Is $8 billion in assets the right size for you? Or do you think you need to be materially bigger in order to compete with -- given where AerCap is going to be with GCAS and Avalon given how big they are in air lease and so forth when you count the order book? Are you in sort of no man's land here at $8 billion? Do you need to get to double the size or you comfortable where you are?

Michael Inglese

I think you need to -- it all needs to be kept in some kind of context.

I think we will grow our business in time as the industry grows. I don't know that I'm going to be twice as big in 5 years or 20% bigger. We're going to grow as we see opportunities to grow that makes sense for deploying capital. It's kind of our view on the world. And yes, there's a relative scale and where you fit in that. Picture, but it's not -- I'm not measuring myself against the air lease and Avalon and AerCap in terms of assets side.

Mark Streeter

Fair enough. Thanks, Mike.

Michael Inglese

Thank you, Mark.

Operator

[Operator Instructions] We will now take our next question from Doug Runte from Deutsche Bank. Please go ahead.

Doug Runte

Yes. Good morning, Mike.

Michael Inglese

Hi, Doug.

Doug Runte

A question, you mentioned areas of strength, Asia is still an area of weakness. In your conversations with airlines, what is the tone in terms of potential future requests for deferrals? Are you seeing any additional requests coming in? What's your outlook for 6 to 12 months in terms of cash in versus requests for further deferrals?

Michael Inglese

Look, I think practically speaking, it's -- and there's lots of different countries in Southeast Asia, so it's going to be more airline specific. But I wouldn't be surprised to see some more restructuring activity in that part of the world. Garuda's [ph] announced they're trying to fix their business, what that translates into and how that plays out remains to be seen. AirAsia has been very active in trying to raise more money and get flight activity back on track in Malaysia, and in that part of the world as their franchises spread around a few different countries.

So in the short-term there may be some requests for more.

I think in the longer term, it feels like the activity is going to pick up. And I think some of these folks will, in fact, be successful in raising some more money and getting the flight activity back to levels that day, and we would like to see. But I think there's going to be more restructuring/deferral activity in that part of the world as we continue to work our way through this.

Doug Runte

Thank you. And could you give us an idea of your lease expires over the next, call it 12 to 24 months, particularly for any wide bodies that might be coming off lease and the outlook there for renewals versus need for transition?

Michael Inglese

So -- do you want to jump on that? Thanks.

Doug Winter

Yes. Hi, Doug. It's Doug Winter here. Look, I can tell you looking out over the next 12 months through October of next year, we have approximately a little under 20 scheduled lease expires during this timeframe. And I can tell you, we've got about a third of those covered now with committed outcomes.

Another third of those I would characterize as feeling very comfortable in our trajectory towards having committed outcomes. And then the remaining third, we are in what I would describe as kind of the earlier phases of the ongoing remarketing efforts and posting the number of opportunities for those aircraft. And within that profile, and I believe that actually falls in October of next year, we do have one wide body aircraft currently scheduled to come off lease at that time.

Doug Runte

Okay. That's good news. I saw in your presentation that your average lease term actually went up pretty significantly from 4.2 to 4.6 years. Is that a result of new aircraft entering the fleet? Or have you been successful in some of these restructurings and actually extending out the lease terms to try to keep some of the restructurings NPV neutral, if not, NPV positive?

Michael Inglese

Yes, Doug, in fact it's -- I think it's a combination of both of those things. We did some new sale leaseback with Frontier on four aircraft. And then, of course, with the LatAm resolution and restructuring and others it is. And in many cases, it has been that trade for near-term rent relief in the context of additional lease term to try to keep our business proposition NPV neutral or positive for our account.

Doug Runte

And maybe I'll finish with a fun one. We've seen two lessors announce new freighter conversion programs with IAI for the 777-300ER, the A330, other lessors are lining up slots with the FW for older A330s. I guess with your A330s in particular, as they reach second or third lease expirations, what's the outlook for where those aircraft go? Would you look at a freighter conversion slot or would you just outsource it to someone else by selling the plane?

Michael Inglese

So we are in fact looking at a few opportunities, and I would say on a more modest scale than some of my peers have announced. And we're really trying to focus on who is the lessee and how confident are we that we're going to place these planes. I'm not sure I really want to get in the business of spec, A330 convergence in the world.

So we're looking at it at cross A330, 737s and some A321s, if we can make sense of it. And we think we have a bead on who's going to take the plane when it comes out, we'll go down that path. I'm not sure, given our prior experience with 747 convergence that we want to be a big spec converter.

Doug Runte

I guess maybe last one on the finance side, with your average lease term going out to 4.6 years, your average debt term I think you said was 3.5 years, no near-term maturities. But should there be a better alignment of those two metrics conceptually?

Michael Inglese

I think conceptually, maybe a little tighter would be good. I'm not sure that the current spread between 4.5 and 3.5 is one of the things that's keeping me up at night. Doug, did we lose you?

Doug Runte

No, I’m here. Thank you very much.

Michael Inglese

Okay. Thank you.

Operator

[Operator Instructions] There appears to be no further questions. I'd like to turn the conference back to the host for any additional or closing remarks.

Michael Inglese

Okay. Thanks, everybody. Appreciate your time and your support. We're around if anyone has any follow-up, they want to reach out to Jim Connelly, Aaron or me. Look forward to seeing some of you in New York next week, I'm sure and being back on the phone in 3 months. Thanks, everyone.

Operator

This concludes today's call. Thank you for your participation.

You may now disconnect.