2023-05-25 03:48:24 ET
Summary
- AerCap Holdings reported positive first quarter earnings and maintained a positive outlook.
- The company already has exhausted its $500 million share repurchase plan while authorizing an additional $500 million through September.
- Recent asset sale activity is encouraging and suggests further upside to net income.
AerCap Holdings ( AER ) recently reported first-quarter results. The company reiterated its target of $7.00-7.50 in adjusted EPS and offered a bullish outlook as the market continues to steadily recover. The company also noted its upgraded credit rating from both Moody's and Fitch, placing it at a BBB-flat rating across all three major rating agencies. This will hopefully be helpful as and when AerCap taps the unsecured market for funding.
The Supply/demand backdrop remains favorable
The aircraft leasing business continues to be characterized by supply constraints amidst issues in the production line for the manufacturers.
The above graphic illustrates the "missing" supply that inures to the benefit of existing aircraft owners, which should be generally supportive of aircraft values and lease rates. Below are some data points into the renewed demand outlook that is matching (and in some cases, exceeding) pre-pandemic levels. This is also bullish for the leasing industry overall.
A step-up in trading activity and profitability?
The company has delivered stellar trading results in recent quarters. While these amounts can be volatile based on market conditions and other factors, over the past three quarters, AerCap has sold ~$1.3 billion of aircraft at a margin of high teens to 20%. This compares favorably to the high single digits to 10% margin that the company has historically achieved on average and could be driven by the company's accretive acquisition of GECAS. AerCap CEO Aengus Kelly has remarked several times in recent quarters that airline customers have been more inclined to buy aircraft than they were previously, which may also be contributing to this strength. They have substantially increased assets held-for-sale to $607 million in this most recent quarter, reflecting the robust pipeline of sales that the company has in the near term. I continue to assume a 10% margin on $2.5 billion of annual asset sales, but recent performance suggests that there could be an upside to the contribution of trading to the P&L.
Share buybacks occurring at an accelerated pace
I will admit that I was surprised to see General Electric (GE) selling a 23 million block of shares (~30% of its stake) in AerCap in March. While they still own 33.6% of outstanding shares, it certainly suggests that it's likely that GE will look to exit the business sooner than later, rather than remain as a long-term shareholder in the business. It gave AerCap the opportunity to execute a large buyback of ~8.8 million shares, depleting its entire $500 million allocation in the process. I was not surprised to see this, nor was I surprised that the company instituted a new $500 million share repurchase program expiring in September shortly after this negotiated purchase was initiated. To the extent that GE looks to divest additional portions of its stake, I would expect AerCap to participate provided that the shares traded at least at a modest discount (~15%+) to book value. GE and AerCap should continue to be strong partners to one another despite the reduction in ownership. There's still leasing and trading income being exchanged by the parties. I continue to expect at least $1 billion in share repurchases per annum over the next few years, with the potential for these amounts to rise substantially if the business continues to perform well and generate strong cash flows.
Russia/Ukraine update
The trial date for one of AerCap's claims related to loss of aircraft in Russia and Ukraine has been set for October 2024. I continue not to ascribe any value to these claims, but there's some chance for a significant recovery which would likely boost shares materially.
Risks to investment thesis
Economic recession
The global central bank tightening cycle is still ongoing with no end in sight yet. That said, the impact of higher interest rates has not seemed to put a dent into strong results and outlook from AerCap's airline customers. The recent spate of bank failures in the U.S. actually had the effect of a plunge in rates, which, all else equal, would likely be a net positive for AerCap's borrowing costs.
Inflation and longer-term rise in interest rates
AerCap has prudently locked in very attractive long-term financing. Recent competitor bond issuance has been constructive, with BOC Aviation's (BCVVF) recent 5-year unsecured bond pricing at 4.5%. While BOC is rated higher than AerCap, I am assuming that AerCap borrows at over 100bps more than that in 2023, which, although markets can change quickly, seems to be fairly conservative. Inflation is likely to benefit hard assets like aircraft and as the costs of components rise, so too will the value of the assets.
Conclusion
All in all, the company continues to perform well and seems to have integrated the GECAS portfolio efficiently while keeping its leverage ratios at a manageable level notwithstanding the multi-billion dollar Russia/Ukraine write-off. Although the company's buyback program should meaningfully reduce share count over the next several years, it will take time for that to manifest itself. I still think that patient investors will be rewarded as the company returns excess capital to shareholders in the coming years. So I maintain my Buy rating and prior price target, though I do not see any catalysts on the immediate horizon that might propel shares higher.
For further details see:
AerCap Holdings: Performance Continues To Impress; Reiterate Buy