Air Lease, United Rental See Rising Shift To Leasing
One of the world's two largest aircraft leasing operations queued up to change hands last week in a $4.2 billion deal betweenAmerican International Group ( AIG ), the diversified insurer rescued at the brink of collapse by public funding in 2008, and a consortium of China-based interests.
The deal gives a group including New China Trust and the China Aviation Industrial Fund an 80.1% stake in ILFC. It provides options to purchase an additional 9.9% of the company, valuing the entire enterprise at $5.3 billion.
The deal stresses the global demand from airlines as Boeing and Europe's Airbus ramp up production of the new, fuel efficient 737Max and A320neo jetliners. And it highlights the rush of investment capital into the leased services industry, which acts as a middleman in a rising number of new aircraft sales.
ILFC and GE Capital Aviation Services find themselves under siege as airlines and smaller, publicly traded leasing firms compete for the efficient new jets. The Airbus A320neo is expected to enter service in 2015, the Boeing 737Max two years later.
But airlines, hampered by spotty credit ratings and wary banks, often don't have the financial clout necessary to upgrade their fleets. Leasing deals with financing account for 45% of new aircraft deliveries, up from 10% about 20 years ago, analysts estimate.
ILFC gives the China-based buyers a network with more than 1,000 aircraft. It has commitments to purchase 229 of the new, fuel efficient models and purchase options on 50 more.
In China and elsewhere, airlines are increasingly prone to lease rather than buy, thereby avoiding big outlays of cash and leaving leaner balance sheets, says Richard Aboulafia, vice president at the consultancy Teal Group.
"Getting aircraft off their books is a big driver of a massive increase in leasing," he said. "Banks and funds are investing in leasing companies and in the aircraft themselves. There is a lot of third-party cash moving into this business."
Airlines aren't the only industries turning to the leasing trade..
Wal-Mart leases thousands of steel containers for cargo ships hauling goods from China and elsewhere to West Coast ports. In the construction trades, builders of all stripes rent earth-moving equipment and lifts by the week or month rather invest in costly gear.
According to the American Rental Association's forecast, demand is also booming for medical equipment, machine tools and computers. In 2013, leasing industry revenue will grow 7.6% to $33.5 billion, says the ARA.
The action has helped place the Commercial Services-Leasing industry in a No. 13 ranking among the 197 industries tracked by IBD. The group includes aircraft, container freight and construction/industrial equipment leasing operations.
The common denominator across the group: The struggle to keep equipment utilization high.
Lessors typically buy planes from Boeing and Airbus and lease them to airlines for monthly fees. Leases generally run 5 to 12 years.
The financing arms of diversified players like GE and AIG once gave their aircraft leasing arms an edge against smaller players. But capital markets are opening doors for new entrants and smaller leasing players to fund purchases for customers.
At the large end of the spectrum, in addition to AIG's sales of ILFC, Japan's Sumitomo Mitsui Bank in October closed its $7.3 billion purchase of No. 4 leasing firm, RBS Aviation Capital.
At the opposite end of the scale, in early December, private equity firm Onex acquired a 50% stake in BBAM for $165 million. BBAM manages aircraft rented by Fly Leasing.
Los Angeles-based Air Lease went public in April, 2011 and has focused mainly on airlines in emerging markets. Founder Steven Udvar-Hazy also launched and spent decades building AIG's aircraft leasing business before leaving in 2010.
Across the business, says Jamie Baker, analyst at JPMorgan, "fuel-efficient narrow bodies currently represent the sweet spot for aircraft demand." In a report, he said Air Lease andAerCap Holdings (AER) boast two of the industry's youngest fleets.
Netherlands-based AerCap recently sold a portfolio of securitized loans to Guggenheim Partners in a $1 billion deal that reduced the age of its fleet and lowered "near-term re-leasing risk," said Wells Fargo analyst Gary Leibowitz, in a report.
With the new 737Max and A320neo due out soon, leasing firms are maneuvering not to get stuck with older fleets as customers demand newer jets. No one wants to take the last of the older models coming off manufacturing lines.
In addition, airline bankruptcies are a constant worry. In developing countries, smaller carriers don't always pay their bills. Mexicana went bankrupt in 2010, roiling the leasing industry. Hungary's Malev folded early this year. AMR Corp., parent of American Airlines, remains in bankruptcy.
Lessors track their jets constantly in case they need to repossess them, said Helane Becker, analyst at Dahlman Rose & Co. The "Cape Town" treaty of 2001 made it easier for leasing firms to repossess aircraft. In the event of a default, leasing firms may recover a share of loans by selling jets at auction.
After Superstorm Sandy struck the East Coast in late October, shares in United Rentals and H&E Equipment Services ticked up on views for increased demand of power tools, generators and construction gear. But there's also a bigger trend at work, analysts say.
"There's been a large secular shift in nonresidential construction from owning equipment to rental," said Neil Frohnapple, analyst at Northcoast Research. "In the early 1990s, rental accounted for about 10% of the equipment used by contractors. That's moved up to more than 40%. The trend has been accelerating because of uncertainty in the economic downturn. Contractors don't have much of a backlog of work, so they don't want to buy a new piece of equipment."
Kaplan Associates estimates that by 2014, the industry's rent-ownership mix will be about 50-50.
Construction companies rent bulldozers, excavators, aerial work platforms and pumps. United Rental and other lessors buy earth-moving machines and other gear from manufacturers such as Terex and Deere.Caterpillar (CAT) has its own equipment leasing arm.
Leasing fleet utilization rates are high, with some 70% to 75% of equipment at work. Even in good times, about 20% of gear stays in the yard, undergoing repair and maintenance. Lease durations vary. Construction firms rent equipment for a day, two weeks or three months.
"Low 70s utilization, where it is now, is about as good as it gets," said Oppenheimer analyst Scott Schneeberger. "They want to have the right amount of fleet on hand to get a good return on invested capital. They don't want to add too much fleet, in case the economy goes into a recession again."
Construction equipment leasing is a fragmented industry. United Rental and RSC Holdings, the industry's two largest players, combined in a $1.9 billion merger in May. The combination still holds less than 15% market share. Large competitors include Hertz Equipment Rental and Sunbelt Rentals.
By focusing on service and by expanding its fleet, United Rental has been able to gain share from smaller mom and pop leasing firms, said Frohnapple. Based on the Gulf Coast, H&E has been getting a lift from oil and energy industry customers, analysts say.
Container Freight Leasing
In cargo shipping, global credit trends have worked in favor of leasing firms, pushing up rental rates.
After the financial crisis hit in 2008, production of containers -- steel cargo boxes that transport everything from toys to bananas -- slowed sharply. As global trade plunged, old containers were sold for scrap.
By 2010, a global shortage pushed new container prices to a record. Lessors passed on the cost of new containers in higher rates.
Meanwhile, bank capital for shipping companies dried up amid a glut of capacity. Capital-constrained shipping lines increasingly relied on leasing rather than owning containers.
Moeller-Maersk, the largest container shipping operator, is one of a few that buys its own containers. Container leasing companies -- such as Textainer,Tal International (TAL), CAI International andSeacube Container (BOX) -- purchased nearly two-thirds of all new containers built in 2012, says Sterne Agee.
Dahlman Rose's Becker says that leasing firms now account for 45% of the 30 million containers in use worldwide. She sees that climbing to 60% over the next three to five years.
"Shipping companies are making the decision not to invest in the business," she said. "In an environment where the market is relatively weak and rates for container ships are low, it's easier for them to lease containers for five or six years. The check is a lot smaller than buying them."
In 2012, only about 2.5 million new containers will be built. New containers cost about $2,500, down from a peak of $3,000 set a year ago. Containers last about 15 years. With utilization high, used container prices and gains on sale of used equipment remain high, says Sterne Agee. Mobile Mini has specialized in buying older containers, refurbishing them with security systems, and transporting them to construction work sites, where they hold equipment, or to schools or government agencies, to be used as mobile office units, says Joe Box, analyst at KeyBanc Capital Markets.