Values of private jets have crashed as worldwide demand has plummeted. But there is still enough life in the market to give some bankers reason to get excited. Brendan Malkin reports
To get a bird’s eye view of the state of the European corporate jet finance sector, there are few better people to turn to than Philippe Foulin. After all, he is in charge of SG Equipment Finance’s corporate jet finance arm, the largest business of its kind in Europe with a 15 percent share of the market and operations in almost all countries on the continent. Last month, he matter-of-factly summed up the state of this market in just two words: “Particularly depressed.”
The most simplistic explanation for this is that fewer people want private jets today than they did a year ago.
While total jet deliveries peaked at 1,000 last year, in 2009 deliveries are expected to fall to between 750 and 800, according to the annual Honeywell Aerospace Business Aviation Outlook, which was published in October. Only last year, Honeywell forecast that 17,000 new business jets worth $300 billion (€201 billion) would be delivered between 2008 and 2018. It downgraded the forecast sharply in its latest outlook to 11,000 new jets worth $200 billion between 2009 and 2019.
Bankers reported that the lowest end – the very light jets – as well as the highest end of the market have been hardest hit by this depression.
“In the high-end market people are thinking twice before investing in an expensive plane, while the boom predicted in 2008 in the low end has just not happened at all,” said Foulin.
The market for new jets is also extremely hard pressed.
Mike Barley, head of Close Asset Finance, which provides up to $10 million of finance for a single corporate jet, commented: “Most opportunities we get are second-hand assets, but this is not the result of a policy decision. The market for new aircraft is increasingly quiet. Most people have their hands in their pockets right now.”
Collapse in asset values
This drop in demand has caused a sharp decline in order backlog and a rise in the number of cancellations of requests for new builds.
In turn, this has caused the value of first and second-hand corporate jets to plummet.
Although jet values have begun to pick up again over recent weeks, they are still at around 30 percent less today than they were a year ago, according to Foulin.
Given the scale of the decline in asset values, “even the most conservative valuations might not be manageable”, said one lender, who described the damage this is having on asset remarketing and profits as “significant”.
The very light jet (VLJ) sector has been particularly badly hit by this drop in values. One lender said: “The VLJ sector is depressed now. That section of the customer which had been looking for cheap operations are no longer interested in having a VLJ, just because it costs less. After all, they can now get a mid-range jet for almost the same price.”
A spokesperson for the corporate jet finance arm of Barclays, run by Paul Fowkes, reported: “The smaller and older jets appear to have fared worst during the downturn, in terms of diminution in value, but all sectors have been negatively impacted in varying degrees.”
As well as banks and manufacturers, operators have also been hit by price falls. “There are more aircraft being idle and less flight hours available on the market, so operators have had to reduce their prices,” said Foulin.
The drop in asset values also means customers are more willing to walk away from deals they signed up to several years ago, even if doing so means sacrificing a sizeable down payment.
“Customers who laid down a 10 percent deposit three years ago for a plane to be delivered this year are willing to cancel their orders, lose their deposit, and then go to another manufacturer from whom they can get a 30 percent discount on their original price,” one jet funder explained.
This is more prevalent in some sectors than others, with a Barclays spokesperson reporting: “We are seeing in the large cabin segment cancellations now being taken up by new clients to the manufacturer and indeed previously cancelled orders by clients who are now seeking to re-order. This means for the latter that they have had to forgo their original order position, and have lost their initial deposit.”
There are some cash-strapped customers, however, who have decided against buying new jets altogether, and are suing manufacturers to get back their deposits. One banker anecdotally said he knew of several customers who had brought such legal actions for deposits on the Eclipse VLJ range of aircraft.
As well as forcing down asset values, the drop in customer demand is having an impact on the market in other ways.
Jets in the ultra-long range market, which have a nautical range of up to 7,000 miles, are reportedly harder to find as manufacturers have been forced to cut back production.
Also, Bombardier Aerospace’s Challenger 605, the popularity of which is regarded by some as being a barometer of the corporate jet industry, is far less commonplace today.
“A lot of these have been cancelled, or customers are trying to renegotiate terms or push out staged payments,” said one source.
Older jets are also said to be in the doldrums with the prices for some of Cessna’s Citations said to be “right down”.
“No one really wants them,” said one commentator.
Even newer jets, such as Dassault’s Falcon Whitetail, are said to be equally short in supply.
Despite these tough conditions, lenders interviewed do not expect new business volumes in 2009 to be much lower than they were last year.
Although this is partly attributable to the fact there are fewer players in the market today, and therefore more business available to those still lending, as well as to the fact that some 2009 forecasts for the market were overly optimistic, it is also attributable to an influx of old orders coming through during the first six months of this year.
This was confirmed by Foulin. Despite the market since the end of June having been “fairly depressed”, he predicted his company’s new business year-on-year to be flat at around $500 million largely because the “first half of 2009 was surprisingly good due to order backlogs that had been arranged six to nine months before”.
Players still active
Despite this depressed mood about the state of the market, there are still many players active in the corporate jet finance market.
Besides SG Equipment Finance, Barclays and Close Asset Finance, others include Lombard, SudLeasing, Credit Suisse, JP Morgan, Bank of America and GE Capital.
Some of these, far from cutting back investment in jet finance, are ploughing considerable sums into it.
Last month Leasing Life revealed that Lombard, which for almost 13 years has had a jet finance division for UK customers, received a mandate from Royal Bank of Scotland, its parent, to lend to international clients in the bank’s private wealth division (see page 28).
In one fell swoop Lombard’s jet leasing business has gone from being a domestic to a global concern.
By tapping into the bank’s private client base, Lombard expects to rapidly grow its portfolio while also lending to a less risky client base.
In addition, while some lessors have left the market, this has had less to do with the poor shape of corporate jet finance, and more to do with the individual conditions of their parent companies.
Fortis Lease UK, for instance, recently stopped signing new jet finance business and made redundant the head of the unit, John Stephens, largely because the business was deemed to have been located too far away from its parent’s main hub in Glasgow.
Another recent exit, that of Hitachi Capital, took place at a time of far more stringent lending by the UK arm of the Japanese company, and also roughly coincided with an internal announcement that it was considering reducing headcount at the company’s business finance division by a total of 20 staff.
Furthermore, given its jet finance business – which was recently forced to repossess two aircraft mortgaged to plane charterer Paul Crowther – has a portfolio worth around $20 million, it was not a sizeable player in the market.
Meanwhile, Kaupthing Singer & Friedlander’s jet finance arm stopped lending when its parent entered administration.
Not always willing to lend
But while there are still a range of lenders in the market, they are far more cautious today about who they lend to than they were a year ago.
So much so, in fact, that there has been a noticeable reduction in the number of asset finance facilities available in the marketplace.
Foulin commented: “A lack of asset finance is having a significant effect on deliveries. Clients are struggling to find the right funders, and struggle now more than ever before. It was a relatively easy task when the market was bright, but now they have real difficulties finding funders.”
Lenders are not just increasingly rejecting deals. In some cases they might, indeed, accept them, but offer terms so stringent that the customer walks away. Along with this, responses to applications are also more varied today than they were a year ago.
For instance, Brendan Lodge, CEO of Pathfinder Aviation Finance, a brokerage, while seeking to refinance a Challenger 605, received markedly different reactions from a variety of lenders which he approached.
Two declined to submit terms believing the deal to be uncompetitive, four submitted unfavourable terms to the borrower, including margins well above 3 percent, low loan-to-value ratio and low balloon repayments, while three demanded a “wider relationship” that required significant investment by the borrower to be transferred to the lender’s private bank for the duration of the life of the loan.
Only two lenders offered deals acceptable to the borrower, which included a margin below 2.5 percent, a 75 percent loan-to-value ratio and a realistic balloon repayment.
This shows jet financiers, as well as being intensely cautious about who they lend to, are also squeezing their customers hard.
Whereas a year ago margins on deals were 1.6 percent, today they are said to be between 2.1 percent and 2.6 percent, which is roughly where they were in the summer.
“There was quite a big step-up in margins about a year ago, and those margins are sticking,” Mike Barley, head of Close Asset Finance, commented.
The falls in asset values are also providing lenders with other opportunities to further squeeze customers. These drops in values are impacting on loan-to-value ratios. As a result of this, midway through deal terms, lenders are forcing customers to make a single payment to cover the difference between the original loan and the value of the new one based on the fall in asset values. More often than not, the difference between the two runs into several millions of pounds.
Lenders are also squeezing long-standing customers whose interest rates on their mortgages are set at just over the pre-recession 1 percent interest mark. In exchange for waiving their loan-to-value covenants, they are increasing their interest rate charges. According to one lessor, in many cases the interest rates have been hiked to “around 300 basis points above Libor”.
Lenders are said to be using this tactic for those customers they want to keep.
“Those they don’t want to keep are being told to sell their equipment or refinance,” said one jet finance adviser.
However, while squeezing borrowers halfway through mortgage deals is relatively easy to do in the current market, doing so with brand new customers is not so easy to achieve.
For instance, while in normal conditions a 50 percent increase in the number of basis points on interest rates can seem painful, in today’s environment, in which jets are worth some 30 percent less than in 2008, this seems far less so.
Foulin said buyers can still make a “good bargain” on borrowing with banks in that interest rates are cheaper than last year, and while downpayments on deals today are comparatively higher, this in turn “reduces the customer’s interest-bearing account”.
By squeezing customers, lessors in the jet finance space are proving themselves to be resilient in the face of tough market conditions. There are also some factors, however, which make this sector naturally somewhat less risky than others.
First, financing individual jets is considerably less risky than funding fleets of jets. Typically done by equity-based or leveraged transactions, this larger-scale market has been hit hard by the recession.
Several recent horror stories reflect this. Embraer was recently reported as having 10 Phenom 100 VLJs waiting for delivery while its customers, JetBird and US charter operator JetSuite, struggled to secure financing. Also, Bombardier Aerospace was recently forced to cancel an order worth $1.5 billion for 110 Bombardier LearJet 60XRs from Jet Republic, again due to lack of available finance.
While cancellations are prevalent in the single jet finance market which lessors commonly operate in, because they are for one-off mortgages rather than scores of mortgages, the lender is far better protected.
Second, a large number of customers in the single jet finance sector are high net worth individuals, who are generally regarded to be less risky than corporate customers.
These wealthy clients are also able to spread ownership of individual jets among a club of owners, which explains why lenders based in Switzerland, the home of the super-rich, are said to be still relatively intact.
Third, private jet finance is generally regarded to be less risky than yacht finance.
Barley commented: “We are not out of the yacht market but we haven’t done any deals in this sector for a while. We are wary of the risk of boats.”
Need for caution
While there might be risk mitigating elements to jet finance, there is still need for caution, as bad debt levels remain high in private jet finance.
“There has been an increase in late payments at our business,” admitted Foulin, although he claimed it is lower in jet finance than in many equipment finance sectors, particularly transportation and machine tools.
With this increase in bad debt has come a hike in the number of repossessions. This magazine announced some months ago the repossession by Kaupthing Singer & Friedlander of a private jet mortgaged to Daniel Levy, the chairman of football club Tottenham Hotspur, and also Hitachi capital’s seizure of two jets mortgaged to jet entrepreneur Paul Crowther.
Lombard, it is understood, has also been forced to repossess two high-value helicopters. Although not private jets, this still reflects the dire state of the market.
All this goes to show that while lenders claim they are able to negotiate settlements with bad debtors, this does not happen in all cases. Notwithstanding this, Barclays claims to have everything under full control.
“We have not had to physically repossess any aircraft to date. Some clients have experienced difficulties during the downturn and we have been working with a small number to help them through,” it said in a statement last month.
Also, given the existence of the ever-increasingly quoted law of mutual obligations, in which a lessee potentially can stop mortgage payments if its parent is owed money by the mortgagee, then the risk of bad debt – and ultimately repossession battles – becomes even greater.
Another concern is that the wealthy have tended to ring-fence a jet within a special purpose vehicle which has no other assets. Unless the lessee himself has provided a guarantee over the asset, which is not provided in all cases, then repossession is the only recourse for lenders when a wealthy client decides not to pay monthly mortgage instalments.
Despite the doom and gloom in the marketplace, there is still some reason to be optimistic, particularly as there are signs that the market has begun to pick up again.
A business jet update published by Credit Suisse at the end of October stated that “it seems the worst is behind both for the economy and business aviation, at least from a traffic perspective”.
Foulin echoed this view, adding that “the Western European market has picked up during the last quarter”.
A spokesperson for the jet finance arm of GE Capital commented: “We’re now seeing signs of market stabilisation. Aircraft available for sale have levelled off and the time to remarket newer aircraft appears to be decreasing. Basically, supply and demand is rebalancing resulting in an uptick in sales.”
Lenders also highlighted Central and Eastern Europe as being a market where demand for jet finance, particularly from high net worth individuals, many of whom operate within clubs of ownership, has not slackened over recent years.
Also, prices are said to have improved since the unprecedented low of early summer.
“Back in July,” one banker reported, “there was no correlation between the price of an Embraer and its utilisation and age. There were distressed sales everywhere. Now there are fewer distressed sales and the pecking order of price versus age looks right.”
While in general the lowest and highest ends of the market remain depressed, deliveries of Embraer’s Phenom 100s and Cessna’s Citation Mustangs (which are being sold for circa $3.5 million and $2.8 million respectively) are still said to be reasonably high, and mid-sized jets are reportedly showing signs of recovery. Also, Dassault’s newer range of mid-sized Falcons, the 2000LX and 900EX, are said still in demand.
Other than these early signs of a recovery several lenders, like Lombard, are focusing even more on jet finance.
Barley, at Close, commented: “We are seeing more opportunities as a result of other peoples’ difficulties. There might be opportunities which might be good for us.”
Also, Norton Folgate, a UK lease brokerage, claims to have seen a gap in the market and plans to broker jet – as well as yacht – finance deals. Clearly, while it might not be the best of times to be doing so, it seems to be a risk still worth taking.