Blain’s Morning Porridge – 14th February 2019
“I was going to buy you a thousand red-roses my darling Mrs Blain.. but they were a bit expensive.. ”
In the headlines this morning: https://morningporridge.com/stuff-im-watching
There was a girl selling very expensive roses outside the Royal Exchange y’day for an awful lot of money and the basis they’d come all the way from Ecuador. Really? Jumbo jets clogging the atmosphere to deliver the flowers! I tried it with She-Who-Is-Now-Mrs-Blain this morning to explain the absence of Roses. I’m not sure she was impressed with my sudden green credentials.
This morning Airbus announced the end of the A-380 Super-Jumbo programme! Shame. The last aircraft will roll of the production lines in 2021. They are lovely comfortable airplanes – veritable cathedrals of the Sky – but they just doesn’t make sense to operate unless they’re full, which limits their usefulness to routes that fill 550 seats. Smaller types, particularly the Boeing Dreamliner (B-787) have proved more adaptable and equally popular, while Airbus has been pushing its’ A-350.
The cancellation of the programme is bound to impact aviation investors who’ve bought deals backed by A-380s. Last year we saw the first of the planes retired, and because no one was particularly interested, the first two aircraft were scrapped for “part-out” (where systems can be reused as spares). I’ve been told they realized a considerable scrap value for the bits can be reused: $10mm for each of the 4 engines, and a further $40mm plus for the avionics, gen-sets and systems like the undercarriage which can all be used as spares. (If anyone is a holder of A-380 backed deals, I’ll be happy to talk you through the likely scenarios and options.)
The A380s might be majestic, but they are going the same way as the magnificent ocean liners of the 1930s – the scrap yard. Too costly to fly anything but near full, and unusable on any less dense sectors, they’ve struggled to find a niche. Quantas has cancelled orders, Air France are handing theirs back. BA say they are too expensive. Virgin never completed its orders. Emirates owns half of them and signed the death warrant when it cancelled its latest order.
Investors that subscribed for the early planes confidently expected their money back when the planes were sold or re-leased at the end of their initial leases. Instead the first few aircraft will take a few years to pay back as the “part-out” spares find buyers. Within a few years there will be more bits of A380s for sales than there are A380s.. It could therefore be many years before investors receive all or some of their money back – and the amounts could be considerably less than expected.
On the first few A380s deals its largely German retail and high net worth retail investors who will suffer, but the lessons will be learnt across the market – putting investors on edge on future aviation financings – but creating opportunity for those who do their homework properly and seize the opportunities to finance the right aircraft.
There are two key issues when it comes to aviation investment:
- Credit – Who is the operating airline and how robust is it. There is little point owning an aircraft if the operating airline goes bust because it’s over-levered, over-extended its operations, miss-judged the market and taken on too many poor routes, miss-hedged its fuel costs, and the plane isn’t earning any money while it sits rusting white-tailed on some dismal regional airport’s apron?
We’ve seen a slew of recent defaults in European and Asian Low Cost Carriers (LCCs). Even the mighty Ryan Air posted a loss – facing the same problems as everyone else: the revenue model might be great at controlling the costs they can while extracting max cash from customers, but fixed costs are rising (particulary air-crew salaries due to the deepening shortage of pilots). Fuel prices remain volatile, but seem certain to rise as new marine emission standards push up prices – some say as much as 20%. Meanwhile, the global economy seems to be sliding back into slowdown – potentially cutting passenger numbers.
- Aircraft Type – Choosing the right aircraft to invest in is critical. Some types are ubiquitous -while A-380s proved too niche and specialist. Planes that command a ready second-hand market have proved much more positive investments. Generally the more of them, the more predictable the second hand market. Where airlines have gone bust, its often possible to get their aircraft flying with new paint-jobs very quickly – if they are the right type!
There is certainly no reason to panic about aviation transactions that don’t involve A-380s. In fact, its good news in terms of demand for A-350s, B-787 and B-777xs. It should also refocus investors on the sector.
Aviation investment is a complex area: Airlines face risks from economic downturn, fuel costs and rising fixed costs – but generally smarter, better managed airlines will survive and thrive. Long Term, global demographics still point to expanding Asian and African middle classes. Mourn the end of the A-380, but focus on the right aircraft types!
Out of time and back to day-job