Shannon, Boston, Beijing, Hong Kong, Singapore
FROM POWER 30, PUBLISHED AS A SUPPLEMENT TO AIRFINANCE JOURNAL,
Registered as an Irish limited company in December 1989, ELF’s official
launch took place in London’s Savoy Hotel in January 1990. Two months
later, it leased its first engine to Virgin Atlantic and marked an
uninterrupted 17-year relationship with the airline by leasing more
engines this year.
ELF was launched under the tripartite ownership of Potomac Capital
Investment Corporation, International Aircraft Services and BAII, a
Paris-based Middle Eastern bank.
Its first engine was a JT9D-7J and the lessor wrote 12 engine leases in
its first year. The Gulf war intervened to turn the economic cycle, and
the subsequent market conditions forced the withdrawal of the latter two
of ELF’s shareholders, who sold their shares to Potomac. The investment
company kept its ELF stake until 1996, when the prolonged downturn
forced it to reconsider its future in aviation. It tried to convince Jon
Sharp, ELF’s chief executive officer, to sell the assets and close the
company. But he had other ideas. He summoned executive vice-presidents
Michael Moloney and Tom Barrett to a pub in Shannon and, over a pint of
Guinness, a game plan for ELF was agreed. This plan involved finding a
new equity and debt provider to buy the company. Among others, ELF had a
series of meetings with BTM Capital, a subsidiary of the then Bank of
Tokyo-Mitsubishi, to convince the group that engine leasing was a good
business proposition.
“With a JT8 costing $1 million and a CFM56 costing $4 million, you could
see the way engines were going – they were getting bigger and costing
more,” says Sharp.
The first task for ELF was to prove to its prospective shareholder that
engines had good value retention and that they could be successfully
remarketed. Meanwhile, they had to be protected, and the lessor had
enlisted the services of Guy Liddle, now a partner at Stephenson
Harwood, to develop a suite of leading-edge engine operating lease
documentation.
This complete business model eventually convinced BTM Capital, which
bought ELF in late-1996, completing the lessor’s first phase of
development.
During this phase ELF had proven to airlines that leasing engines was
the way forward and, at the same time, financiers who were more focused
on the aircraft than the engines, had it proved to them that the legal
issues were solved, engine insurances could be maintained separate to
that of the aircraft and that engine repossessions could be made to
happen smoothly. So from 1996 onwards, engine leasing started to become
a more recognized option to all parties in the transaction.
Thus began the second development phase of ELF, with BTM Capital
providing the funds for rapid growth of the portfolio. At the same time,
the growing and maturing portfolio meant that ELF had to prove its
remarketing capability and to develop its short-term leasing function,
rather than the single task of acquiring engines and placing them on
long-term operating lease.
ELF’s key criteria for evaluating engine leasing opportunities include
macro-economic factors such as asset utility, technical factors such as
the type of engine and its condition, and legal matters such as the
lease terms and domicile, in addition to the obvious
transaction-specific economics.
ELF, which employs 31 people, has its headquarters in Shannon and has
recently opened an office in Plymouth, Massachusetts, in addition to its
existing offices in London, Singapore and Hong Kong.
The aftermath of 9/11, oil price shocks and Sars have tested engine
lessors’ abilities to ride the cycle. Today one of the other challenges
is the competitive market. According to Sharp, the new growth market is
worth about $1 billion per year and is shared among a handful of
companies.
“There is not enough product to go around and this is driving down
margins. There is too much liquidity in the market in general but much
of that money will flee as the market turns. There is evidence that this
is already happening and the flight of capital will accelerate the rate
of the downturn.”
He adds: “When there are large amounts of liquidity in the market, the
relatively small-ticket engine leasing transaction hardly gets a look
in. But when the next downturn comes, it becomes flavour of the month
again and the long-term committed players will be there to provide this
specialized facility to the airlines.”
Not only has ELF been able successfully to lease, remarket and repossess
engines in a number of different cycles, it has been busy modulating its
portfolio through syndications. In the past three years the lessor has
completed four syndications to various special purpose vehicles that it
co-owns with three partner companies.
“The success of our syndications strategy has cemented our place in the
market,” says Sharp, “and represents the conclusion of the third stage
of development of the company”.
Commenting on other factors that have impacted the engine lease market,
Sharp says: “Total support packages have had a major impact on the
market in recent years and now the OEM offerings are starting to face
competition from the independent maintenance repair and overhaul
providers, the line between financial leasing and operating leasing will
become blurred and we will see further integration in the engine leasing
market.”
Sharp also believes that the impact of aviation on the environment will
change the landscape in Europe, where the debate is at its most critical
point yet.
“The issue won’t have much of an impact in the US, which relies more
heavily on air travel, and it won’t have an impact on growing market,
such as India and China, but in Europe it is becoming a major issue.”
The shortage of oil will also present numerous challenges. “We all know
that Opec has control of the supply of oil and therefore the price but
the real longer-term problem is that there is a looming shortage as
nobody is drilling for new exploration and there is the dawning
realization that the world’s supply really is finite.”
On the positive side, Sharp believes that the number of aircraft orders
will continue to increase over the near term, although inevitably
deliveries will occur as the cycle dips. He believes the importance of
the new markets will help to iron out the amplitude of the oscillation
in the cycle. However, he says: “We are approaching a new level of
sophistication in the industry and we want to be part of this, as we
embark on the fourth phase of this exciting ride.”