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TRADING,LEASING
& FINANCE
The engine leasing market:
tough times ahead?
As a new year dawns AF&NM
learns about the state of the
engine leasing market from
experts at the market’s
largest independent player
ELF and a smaller, more
recent arrival with a
markedly different strategy:
namely GA Telesis.
In the view of Jon Sharp, CEO of the
largest non-OEM-affiliated engine lessor
Engine Lease Finance (ELF), 2006 was a
year of “steady growth rather than
spectacular growth” because “there is
simply too much bank money floating
around, and consequently airlines are in
a comfort zone. They’ve not been
rushing out to get their engines on an
operating lease through a sale and
leaseback, which is one of our primary
businesses.”
Nonetheless, he claims that ELF has
continued to be successful in placing its
engines. “We spent most of the year
with only one or two engines off lease,
which, out of a portfolio of 160-odd, is
pretty good,” he asserts. “If our average
lease tenure is something like five years,
then we’re getting two or three engines
back every month, so having just about
everything on lease all of the time is
exceptional... We’ve been very careful
38
In October 2004 ELF partnered with Sumitomo Corporation to acquire three V2500-A5s, as well
as one CFM56-3C and one CFM56-7B.
about turning that portfolio — not
letting it get too mature — and
liquidating stuff in a judicious manner.”
Pascal Picano is VP business
development at GA Telesis, a Florida-
based lessor that has built up a
portfolio of 78 engines in its four years
in the market (it also offers management
services on a further 104 engines).
Acknowledging that lease factors have
in some markets fallen to “crazy” levels,
Picano opines that some players, even
longstanding ones, have changed their
business models such that they are now
“betting on the residuals”. It is not, he
adds, a sensible strategy. “What makes
the difference between our company
and certain others is that we have a
very accurate knowledge of the residual
value of the asset,” claims Picano. “We
are involved not just in leasing but also
in trading and disassembly into parts,
which gives us a complete panel of
Airline Fleet & Network Management - January/February 2007
opportunities at the turn of the lease.
We don’t make bets on residual value.”
GA Telesis also differs from ELF and
Willis Lease — which Picano identifies
as numbers one and two in the market
— in that it focuses on old equipment
rather than new engines: “They have
investment targets every year; we don’t.
It’s a very different approach to the
market. We hope to do long-term leases
but we don’t mind doing short-term
leases also. Our CEO says, ‘We don’t do
all the business; we just do the good
business.’ We can’t go for 0.8 lease
factors. We need much higher.”
Syndication
The highlight of 2006 for ELF was the
closure of “yet another syndication”,
says Sharp. The company is a pioneer in
the area of engine syndication deals,
arrangements under which a lessor sells
assets on lease to a special-purpose
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TRADING,LEASING
& FINANCE
DELIL’s 13 engines, leased to a total of 10
airlines, include three V2500s.
company or vehicle jointly owned by
the seller-lessor and a third party, with
both parties providing equity and
possibly debt. The lessor is paid fees to
manage the leases and assets and to
handle the remarketing. The
syndication partners share income from
lease rentals and, ultimately, from the
sale of the asset. The SPC or SPV is
wound up when all the assets are sold
on the open market.
In October 2004, ELF partnered with
Sumitomo Corporation under the name
Bodhran Engine Leasing Limited to
acquire three V2500-A5s, one CFM56-3C
and one CFM56-7B, and lease them to
four airlines. A partnership with DVB
under the name DELIL (Deucalion Engine
Leasing Ireland Limited) followed in
February 2006. A $55m venture, DELIL’s
13 engines (three CF6-80s, three CFM56s,
three V2500s, two JT8D-200s and one
PW4000) are leased to a total of 10
airlines. Two further deals have since
been finalised, one involving the addition
of further engines to Bodhran’s portfolio
and the other a package of nine engines
with an undisclosed new partner.
“Syndication is an integral part of our
strategy because it allows us to modulate
the portfolio,” explains Sharp. “This issue
of portfolio risk management, of putting
assets out and moving them around so as
not to have an over-concentration on any
particular region, any particular engine
type ... It’s a critical management tool.
Syndications facilitate that for us and it’s
something that we value strongly. We also
value it because it also means that, rather
than someone coming into this business
40
as a potential competitor, they’re coming
in as a collaborator.”
Shakeout?
When he last spoke to AF&NM in
June 2006, Sharp predicted that many of
the new players in engine leasing would
struggle to command the lease factors
they expected and warned that a
shakeout might be imminent. The
second half of 2006 certainly saw a
quelling of the rush to join the market,
he says now: “I don’t think there have
been any real new entrants. There have
certainly been people talking about
entering. They’re now beginning to
believe what they’re hearing, that it’s not
just propaganda designed to keep them
out of the market. We’ve seen a number
of deals over the last few months done at
absolutely rock-bottom margins because
that’s where you’ve got to go if you want
the business. I certainly know one outfit
that came in with a fanfare and I think
they’ve probably managed to acquire one
engine [in 2006]. That cannot pay their
overhead. So, it remains an extremely
tight market with too much money
chasing too few deals.”
Even if, as seems likely, lease factors
harden somewhat in 2007 as a
consequence of rising interest rates, “the
margins that the leasing companies are
taking will not go up,” predicts Sharp,
and to ensure continued prosperity, he
says, ELF is looking toward cheaper,
more flexible, “cleverer” financing
arrangements.
Picano, meanwhile, is not convinced
“When you see that some
engines that are sold new from
various brokers are sold at a
premium from the catalogue list
price, it’s very scary.If the OEM,
supposedly the one making
money on the sale, is not
making enough money on it,
that’s really freaky to me! It tells
me there’s something very
wrong.”
—Pascal Picano,VP business
development, GA Telesis
Airline Fleet & Network Management - January/February 2007
that non-performing lessors will be
quick to exit the market. “Those guys
still have very deep pockets,” he
cautions. “When you see that some
engines that are sold new from various
brokers are sold at a premium from the
catalogue list price, it’s very scary. If the
OEM, supposedly the one making money
on the sale, is not making enough money
on it, that’s really freaky to me! It tells
me there’s something very wrong. But
those guys have very deep pockets so
they don’t care. They just want the
engines and they want to deploy cash,
and they put them on lease one way or
the other.”
OEMs and total-care deals
In June 2006, Sharp noted that the
OEMs are increasingly trapping a lot of
the engine leasing market in total-care
deals, and that this was making access
to the maintenance reserve fund a
critical issue: “What is happening is
that the airlines are paying the OEM to
keep their engines repaired and, at
lease-end, when they return an airplane
containing two installed engines, the
aircraft lessor is going to say, ‘Pay me
for the hours and cycles burned off
those engines.’ And the airline says,
‘I’ve already paid the manufacturer
[under an inclusive care deal], I’m not
paying you.’ And so the lessor says to
the manufacturer, ‘Give me the money.’
And the manufacturer sticks two
fingers in the air!” What was required
was a tripartite solution involving the
leasing companies, the airlines and the
OEMs.
“People are thinking about it; we’ve
got that far,” he says now. “Certainly
we’ve now got some airlines who are
talking to the total-care providers and
saying, ‘Yes, we need to have access
because we wish to have freedom to
carry out a sale and leaseback. We wish
to have freedom to finance our engines
however we like, and we can’t have you
stopping us doing that. You give me a
right up front to assign these rights to
the leasing company.’ Some of us have
been a bit vociferous about it and
hopefully we’ll see some sensible
solutions come out of the market.”
Picano makes the observation that the
prevalent if misguided strategy of
gambling on residual value is driven
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TRADING,LEASING
& FINANCE

not just by confident in residual values

but also by “confidence in the fact that
[the engine] will last longer than what
the manufacturer predicts on wing”.
This, he adds, amounts to gambling on
the maintenance reserves “if you add
them in as revenue each month, and if
you actually even collect them, because
some leasing companies don’t collect
maintenance reserves, which is
appalling from our perspective”.
While concerned about the extent to
which the OEMs are tying up the
leasing market in by-the-hour
arrangements, Picano demurs at the
suggestion that the tactic is
anticompetitive. “They’re just bundling
services,” he reasons. “They sell the
engine, they’ve got the maintenance,
they’ve got the support and it’s
completely understandable. They want DELIL’s portfolio also includes three CFM56s.
to offer as many services as possible. I
don’t see it as conflict, like when they and DER repairs. However, he is wary lawyers. Undoubtedly some people
[conflicts] happen in the financial of the notion that Pratt & Whitney’s are going to say, ‘For that potential
markets, where the advisers are the decision to enter the CFM56 PMA alone I’m not going to use PMA.’”
sellers also... The OEMs have services market has swung the argument
to offer. When I go to the markets now permanently in favour of PMA parts Downturn?
I offer the engine, plus spare parts and their acceptability. “I think a lot of ELF has firm commitments to acquire
support, refinancing of the engines and issues remain, and Pratt & Whitney $100m-worth of engines in the early
of the inventory... It’s not anti- have got a long way to go in order to months of 2007, which Sharp claims will
competitive. I’ve got tools and I use prove their case and gain acceptability,” leave it well placed to capitalise on the
them. Those guys do exactly the same. he states. “They’re going about it in the downturn that is inevitable in the “not-
Now, it would be anti-competitive if right way: they’re thinking big. But I too-distant future”: “A downturn is
you bought an engine that’s on a still believe that there will be a going to remove liquidity from the
power-by-the-hour contract and they backlash from the other manufacturers, market and make sales and leasebacks a
tell you, ‘Any credit you have earned, and what form that will take we’ll wait good idea. Whether it’s triggered by an
it’s for me: these are the prices, these and see. But they’re not going to take it external event or whether it’s cyclic,
are the conditions...’ and your money’s lying down.” there will be a downturn, and when it
already locked in and you can’t do Likewise, issues pertaining to legal happens airlines are going to say,
anything. But that’s an issue you liability have yet to be fully thrashed ‘Should I have these things sitting on
should consider before you buy an out. “If there is an accident and it’s my balance sheet? Should I raise some
engine that is already under power-by- traced back to the failure of the PMA cash?’ That’s just part of the natural
the-hour.” part, then what is going to be the cycle.”
fallout from that?” wonders Sharp. As to when the downturn will come
The rise of PMA? “I’m not saying that PMA parts are and how severe it will be, there’s no
Sharp is “certain” that 2007 will see not as good as OEM parts, merely consensus. But what seems universally
the engine lessor embracing PMA parts that that would be a field day for the accepted is this: it’s coming...

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Airline Fleet & Network Management - January/February 2007 41