'Scale has never been an objective of ours': SMBC
SMBC Aviation Capital’s chief does not feel pressure to react to recent consolidation in the operating leasing market that could potentially knock the lessor from its number three ranking by fleet size.
“Being a certain size is important as it is important to have a business of scale and to have a certain relevance, but we are one of the largest lessors and that is not going to change overnight,” said Peter Barrett, chief executive officer of SMBC Aviation Capital in an interview with Airfinance Journal, adding: “Scale, on its own, has never been an objective of ours and never will be.”
Bohai Leasing-owned Avolon recently entered into an agreement to purchase CIT Aerospace – a move that will make it the third largest lessor by fleet size, with a combined in-service portfolio of 561 owned and managed aircraft with an average age of 4.6 years.
The lessor’s chief Domhnal Slattery aims to become the number one lessor, by fleet or value, and plans to do so in a “very conservative and prudent way”.
However, he told delegates at Airfinance Journal's Hong Kong finance conference this month that he is unlikely to arrive at the top position through organic activity as "everyone is growing, so even just to stand still you need to be knocking out $2-3 billion of volume each year."
Barrett argues SMBC Aviation Capital has never felt any “particular size disadvantage” compared with its competitors during its 15-year history.
“Our business strategy has served us very well and I think that is partially due to our consistency of funding – we have an arms-length relationship with our shareholder about our capital cost. We know it is there, so we can plan, and that is one of the real advantages of having a strong financial shareholder - that we can be a lot more reflective than some of the other leasing companies.”
Tighter monetary policy
Barrett believes the industry should anticipate an upward trend in interest-rates, but it is ultimately the impact of higher borrowing costs on exchange rates that will be the “most interesting dynamic” for the aviation sector.
“If you look at the last 20-25 years, the dollar has had a big impact on the airlines as a lot of them have their revenues in non-dollars," he says, adding: "Brazil is a really good example. The Brazilian real was very weak and this was really challenging for a lot of airlines, but now that the real has improved, so has the sentiment in Brazil’s aviation industry."
The market is heading towards a higher cost environment and this will change the industry's behaviour, argues Barrett.
“We have had very low interest rates, so money has been very cheap and we have had a pretty benign demand environment. I hope these things will remain in that critical alignment for some time, but they are going to change, and these things tend to change unexpectedly and quite quickly," he says, adding: "It is just going to be more expensive to acquire aircraft, whether you are leasing them or whether you are buying them.”
Despite higher borrowing costs on the horizon, Barrett maintains that the industry is still in a “good place" in the aviation cycle with the "big things well aligned" – oil price, interest rates and travel demand.
Transition phase
While the low oil price environment has been beneficial for airlines, it has also proved to be a challenge for Airbus A320neo owners.
The lease rate premium on these aircraft is smaller than many expected as bargain oil prices mean the current generation of aircraft are still attractive to operate.
Barrett agrees A320neo lease rates are “lower than anticipated” but the lessor is “still making decent returns”, he insists.
“We would like to see rates a bit higher, but again fuel is one factor. Once you get through the next couple of years, which is the transition phase, if then you want to acquire a new narrowbody aircraft it will be either a Neo or a Max, nothing else."
He adds: "So, I think you are going to see good stable demand for these new aircraft."
With the 737 Max hitting the market after the A320neo, and at a time of slightly higher oil prices, some market observers have wondered whether the Max could ultimately prove to be the better narrowbody investment, even though it is the latecomer to the market.
Barrett dismisses the assumption.
"I don’t think you can make that judgement at this point – these are 25-year assets and one of these aircraft is not even in operation."
Barrett says as an investor in 737s and A320s "for many years" both aircraft have been good investments.
"Sometimes some of them are up, sometimes some are down, that is the nature of the cycle. Trying to judge long-term trends in the short term is not that simple."