President and COO of SkyWorks Capital, Jeffrey Craine, talks to CAPA about the opportunities for SkyWorks in light of IATA's industry downgrade, the strong sale and leaseback market for airlines, and the likelihood of consolidation in the industry over time.
There is clearly continued pressure on the global airline industry with persistently high oil prices and rapid growth in capacity. Coupled with a still weak global economy, airlines may struggle to maintain solid profitability. The leasing industry is still seeing weakness in lease rates as well. The current environment is creating many opportunities for SkyWorks given our broad range of advisory services.
2009/2010 saw the increased participation of export credit agencies (ECAs) in financing aircraft. What is your take on the current state of the aircraft financing market and the players in it?
The financing markets remain mixed today. The lending market is much tighter than in 2007, with fewer lenders who have a much higher cost of funds. On the flip side, the operating leasing market has seen a significant influx which has resulted in a strong sale-leaseback market for airlines. We believe that ECA financing will continue be in high demand going forward, especially through end of 2012 before the change in the ASU rules as many carriers and lessors are seeking to take advantage of the current ASU regime before the costs for export credit financing go up. Longer term, we believe that cost of financing will continue to increase in the absence of new capital sources.
Do you think ECAs have the opportunity to further facilitate the evolution of the Cape Town Treaty?
The ECAs can continue to incentivise countries to sign up to Cape Town as they have done to date. We also believe that airlines should continue to lobby their governments to sign up to Cape Town as it will help to improve their funding costs by providing additional security to financiers.
Do you think the new Aviation Sector Understanding’s (ASU) higher prices and more restrictive terms will expand the demand for commercial aircraft finance? What affect will this have on lessors?
While it is possible that higher margins could attract new lenders into the commercial financing markets, at the same time it could cause borrowers with better credits to move away from ECA financing and towards commercial financing, thus putting pressure on valuable commercial capacity for second and third tier credits.
It is reasonable for all of the manufacturers to be subject to consistent rules in order to create a level playing field where manufacturers can compete based on their product.
Can you comment on the controversy surrounding the home country rule?
The home country rule will continue to be hotly debated as there is no clear solution today that is likely to satisfy all interested parties. At some point, we would hope that an amicable solution can be reached on this issue.
What financial structures are in vogue today, or are being pioneered?
The trend in financing has been towards simplicity. Direct commercial and export credit financings or operating leases are the most common structures as they are generally offer maximum operating flexibility for airlines and financiers. For example, tax-based structures are less common than ever due to a combination of the change in tax rules and the lack of flexibility for airlines.
In the past 40 years, the aviation industry has managed only a 0.1% margin. Does the industry structure mean it is a poor investment?
The airline industry has been challenged to earn consistent profitability throughout history due to its high fixed cost structure and volatility in revenues. In recent times, airlines in general have been very focused on improving profitability through cost reduction and revenue improvement initiatives, however many airlines still have high cost structures which could deem them uncompetitive without a significant restructuring. Outside of the airlines, there are many other aspects of the industry, such as financing or leasing that can provide an attractive risk-reward profile for investors.
Do you expect to see more consolidation within the aviation industry?
There will likely be further consolidation in the industry over time, although the pace of consolidation is likely to slow and may be centered aruond smaller carriers, versus the large mergers that have taken place recently.
What is the most significant affect the EU ETS will have on aircraft lessors and financers?
ETS is likely to increase the operating costs for older, less fuel-efficient aircraft thus decreasing their value and utility over time as compared to newer technology aircraft. This will likely continue to drive demand for new technology aircraft such as the Boeing 787 and the Airbus A320 NEO.