“In a climate of declining aircraft values and with many established lenders in the market putting a hold on lending to the industry, airlines have been forced to look beyond their usual sources of funding.”
With airlines losing an estimated US $ 118.5 billion in 2020, it’s easy to forget that the aviation industry enjoyed an extended super cycle before the Covid-19 pandemic. There was a boom in new and emerging markets, populations were becoming more mobile, budget airline models were well established, and increasing competition among lenders was driving down financing costs and aircraft rental rates.
The pandemic quickly halted this progress. Travel restrictions and national lockdowns have converged to cause a large and prolonged economic shock to the industry, forcing airlines to operate sharply reduced flight schedules and tie up a significant proportion of their fleets. In September, the International Air Transport Association (IATA) expected traffic levels for 2020 to be down 66% from 2019. The impact has been and continues to be severe , especially for those in the northern hemisphere who have not been able to count on solid summer incomes to sustain them through the winter.
Governments have provided various financial support programs to airlines totaling an estimated US $ 173 billion. The availability, level and form of support vary from country to country. In some cases, support has been subject to conditions that airlines are likely to resist at other times – stipulations regarding equity stakes, restrictions on dividend payments, reductions in carbon emissions, implementation of abatement measures. cost reduction, renegotiation of existing liabilities and adjustments to employment conditions.
Nonetheless, airlines that receive support are often better placed to raise additional capital in the markets, due to increased investor confidence in their ability to survive. The ability of governments to support airlines, however, is not unlimited. As the pandemic and airline pain continues, governments must weigh the merits of additional airline support against the many other competing priorities.
While there is optimism that the recent vaccine approval signals the onset of the end of the pandemic, the emergence of new strains of the virus and renewed lockdowns in the UK and the United Kingdom. overseas have dampened hopes that airline revenues should rebound in the near term. Many speculate that there will be more airline restructurings and insolvencies in 2021 and through 2022 than we saw last year. Securing liquidity remains essential for airlines trying to weather the storm.
Airlines must spread their wings to survive
When the lockdowns took effect around the world, airlines were quick to try to stop the bleeding of money and raise funds to get them “through” a period of cut revenue.
In a climate of declining aircraft values and with many established lenders in the market putting a hiatus on lending to the industry, airlines have been forced to look beyond their usual sources of funding – loans secured against their aircraft, sale and leaseback transactions, banking facilities and unsecured bond issues.
They had to become more innovative to find ways to leverage their assets and income streams.
One trend that has emerged, particularly in the United States, has been the use of intangibles, loyalty programs, branded intellectual property rights, and airport landing slots to raise funds. New loans were also guaranteed on various non-aeronautical assets, such as hangars, spare parts, equipment and flight simulators.
Raising capital against these “alternative assets” is not a new concept. Before the pandemic, for example, several airlines in the United States had secured their slots, doors and routes as part of a larger set of guarantees for business loan facilities. In Europe too, there had been some funding of slots. These include Virgin Atlantic’s £ 250million securitization of its Heathrow slot portfolio in 2015, a “first of its kind” transaction. The value of slots in the context of the restructuring had also already been seen in 2019 with the rollover of Norwegian Air Shuttle bonds, achieved by offering indirect security on its slots at Gatwick.
“An airline can easily replace its planes if it needs to, while intangible assets are essential to the continuation of the airline’s operations. This provides the investor with influence and leverage in any subsequent restructuring of the airline. the airline, in addition to its realizable value at runtime. “
Since the start of the pandemic, a series of large-scale transactions by airlines in the United States have demonstrated the attractiveness of these asset classes to investors. In April 2020, Delta Air Lines raised US $ 5 billion under a package of slot-backed loans and bonds at New York and Heathrow airports. American Airlines borrowed US $ 2.5 billion from its own slots in New York and Heathrow before issuing additional debt of US $ 1.2 billion guaranteed by its brand and domestic slots portfolio.
The most important of these transactions, however, were those guaranteed by airline loyalty programs. United Airlines raised $ 6.8 billion in June, offering its MileagePlus program as collateral. In September, Delta Air Lines followed suit with the industry’s largest debt issuance to date, raising $ 9 billion in new debt guaranteed by its SkyMiles loyalty program, after initially seeking to raise $ 6.5 billion. dollars of the transaction.
Compared to airplanes, these intangible assets are less homogeneous, less liquid and more difficult to value. However, an airline can easily replace its planes when needed, when these assets are essential to the continuation of the airline’s operations. An airline will not be able to operate flights without landing slots. Without his loyalty program, he is unable to contact his customer database, and he would be unrecognizable to consumers without his brand or website. This critical nature of the collateral provides the investor with influence and leverage in any subsequent restructuring of the airline, in addition to its realization value at runtime.
While a number of these transactions have taken the form of secured loans provided directly to the airline itself, such a structure carries the risk that execution on the asset may be thwarted by a suspension of execution. or other consequences of an insolvency process affecting the airline. Many of these transactions have therefore been structured as balance sheet securitizations, with the collateral assets being transferred to a subsidiary remote from bankruptcy which acts as the borrower or issuing entity. The jurisdiction of incorporation of this subsidiary may be different from the original jurisdiction of the airline due to various tax and insolvency considerations. In this case, or in the case of an off-balance sheet structure involving an “orphan” borrower, a professional corporate servicer may be required to manage the entity or to provide local administrators.
“Further airline restructurings and insolvencies seem inevitable, but, for some, these alternative assets may simply prove to be the vital lifeline that keeps them in flight.”
Investors in transactions involving these assets typically include institutional investors and, in today’s higher yielding market, private equity and alternative investment funds. They will be represented by a trustee or agent who will perform the administrative functions of communication with the airline throughout the duration of the transaction and who will disseminate advice and information and coordinate with investors.
The post-Covid horizon
Having received limited attention in better times, the assets that underpin some of the largest capital increases ever seen in the industry are now firmly in the spotlight. The successes of airlines in the United States have set a strong precedent and paved the way for others in Europe and beyond to follow suit.
With travel disruptions continuing through the first quarter of 2021 and with the number of pre-Covid flights not set to return until 2024, further restructuring and airline insolvencies appear inevitable. For some, however, these alternative assets may simply turn out to be the vital lifeline that keeps them in flight.
The article first appeared on the Ocorian website