And now for something completely different

Here’s something different, our investment recommendation: start and fund a mature aircraft leasing company and make over 100% incremental Return on Equity. 50 years ago there was zero aircraft leasing, and now it’s over a third of all aircraft. Most lessors focus on new equipment, because it’s a fairly easy lending business, makes decent money, and the market is large, over $150 billion a year in overall aircraft finance.

By contrast, leasing and re-leasing older equipment requires substantial expertise with airframe and engine management, record keeping, engineering, etc. Overhauling one common engine can cost $5MM or so, and requires numerous choices about using new or serviceable parts, appropriate workscope, etc. So there are many choices over a long period of time. FedEx has operated freighters that are 35 years old, and the current Air Force One is over 30 years old.

Most lessors around the world, with fleet ages averaging 7 years or less, know very little about the skills required for mature equipment management. There are only a few companies, mostly private US and fairly small, that specialize in mature equipment leasing and have excellent expertise. Castlelake (an affiliate of Cargill), Apollo Aviation in Miami, and Aergen are among the few with serious expertise.

Mature aircraft leasing can be a good business in itself, since Lease Rate Factors for older equipment can be 2x the rates for new planes. But there have been developments over the last few years which have created extraordinary profit opportunities, and in particular we are referring to Asset Based Securitization (ABS) deals, wherein a company recapitalizes itself and has the opportunity to return very large percentages of equity to investors while maintaining ownership of the aircraft. The three companies above have done 11 of these. We’ll focus on one example.

Let’s examine the most recent Castlelake ABS this year. Here’s link to credit rating company Kroll’s reports on Castlelake deals and you should navigate to and read the 2018 New Issue Report. It runs 33 pages and is fascinating. Here are some interesting highlights, but we make no assertion that our analysis is completely accurate:

1) Castlelake received $911MM in a deal for 36 aircraft, done 11 months after their previous ABS deal;

2) 84% loan to appraised value leverage, and appraisals can run maybe 10% greater than the actual purchase prices, so the borrowings could be nearly the total purchase price;

3) Castlelake had only closed on 30% of the aircraft by value, so at 1 to 1 debt to equity, Castlelake could have deployed as little as $140MM in equity, under these assumptions, yet received $911MM in proceeds from the offering. (A quarter of the aircraft didn’t even have purchase agreements, only LOI’s);

4) If the borrowing in the ABS deal was 100% of the projected purchase prices of all 36 aircraft, the ROI is infinite, since no equity was used. If you add expenses and make less favorable assumptions, the ROI still can be over 100%, and the IRR is amazing too, since the elapsed time between the previous ABS and this one is only 11 months;

5) Transaction legal and investment banking fees are not included in the above analysis. We also note that we refer to incremental ROI, assuming that base SG&A expenses are covered by a company’s existing business;

6) There’s also Plan B for high ROI, if the ABS market slows, and that is creating and leasing narrowbody freighters, capitalizing on enormous e-commerce growth and current developments at Amazon, JD.com, Alibaba, Wal-Mart, Google, etc. All narrowbody freighters were passenger planes that underwent passenger to freighter (P2F) conversion. This can extend revenue generating life by 15-20 years, and also enables a large engine trading arbitrage, since FedEx flies 2x a day, versus 5-8x for SWA.

We’ve never been an aircraft lessor ourselves, though we have a lot of knowledge of the mature equipment market and its management requirements. We also know some of the senior executives at the above companies who want to create a new one, since the market is so dramatically underserved. (That’s one of the key reasons the ROI’s can be so high.) So if you have $200MM or so that you’d like to deploy over the next 18 months or so, drop us a line. Thanks!!

One Response to “And now for something completely different”

  1. feeblemind Says:

    Wow.

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