AerCap Holdings N.V. (NYSE:AER) Q4 2022 Earnings Call Transcript

AerCap Holdings N.V. (NYSE:AER) Q4 2022 Earnings Call Transcript March 2, 2023

Operator: Good day and welcome to AerCap’s Fourth Quarter 2022 Financial Results. Today’s conference is being recorded and a transcript will be available following the call on the company’s website. At this time, I would like to turn the conference over to Joseph McGinley, Head of Investor Relations. Please go ahead, sir.

Joseph McGinley: Thank you, operator and hello, everyone. Welcome to our fourth quarter 2022 conference call. With me today is our Chief Executive Officer, Aengus Kelly; and our Chief Financial Officer, Pete Juhas. Before we begin today’s call, I would like to remind you that some statements made during this conference call which are not historical facts may be forward-looking statements. Forward-looking statements involve risks and uncertainties that may cause actual results or events to differ materially from those expressed or implied in such statements. AerCap undertakes no obligation other than that imposed by law to publicly update or revise any forward-looking statements to reflect future events, information or circumstances that arise after this call.

Further information concerning issues that could materially affect performance can be found in AerCap’s earnings release dated March 02, 2023. A copy of our earnings release and conference call presentation are available on our website at aercap.com. This call is open to the public and is being webcast simultaneously at aercap.com and will be archived for replay. We will shortly run-through our earnings presentation and we’ll allow time at the end for Q&A. As a reminder, I would ask that analysts limit themselves to one question and one follow up. I will now turn the call over to Aengus Kelly.

Aengus Kelly: Thank you for joining us for our full year 2022 earnings call. I am pleased to report another quarter of strong earnings for AerCap. We generated adjusted net income of $645 million and adjusted earnings per share of $2.66 in the fourth quarter. On a full year basis, the amounted to adjusted net income of $2.2 billion and adjusted earnings per share of $9.01 surpassing our previous estimate of $8 to $8.50 which we updated in November 2022. This strong performance across all our business lines reflects how well our teams are working together to execute an extraordinary number of transactions. This level of transaction activity clearly demonstrates the success of the GECAS acquisition, the integration of the two companies and the recovery in aviation.

Cash generation also remains high, exceeding $5 billion of operating cash flow for the year, despite the impact of Russia, which helped us achieve a debt to equity ratio of 2.5 times at December 31, 2022. Given the strong earnings and cash flows, I am pleased to announce a new $500 million share repurchase program today. Continuing the theme of prior quarters, the environment for aircraft leasing continues to strengthen, and will be further supported by the on-going reopening of China. AerCap’s level of activity in 2022 is unparalleled in the industry, completing 895 transactions over the course of the year. In the fourth quarter alone, the AerCap team completed a record 299 transactions across 159 lease agreements, 43 purchases, and 97 sales.

Without the flawless integration of the two companies, this level of transaction activity simply would not have been possible, nor would it be possible to take full advantage of the recovery in the aviation markets. One area where the power of the platform was particularly pronounced was on the aircraft sales side, where we generated $229 million in gains or a 12% margin across aircraft engines and helicopters. We continue to see further evidence of the travel recovery as Europe, the Americas and Asia all now exceed 80% of 2019 levels, with China being the latest driver. In particular, the growth in domestic flight activity in China since the zero COVID policy was lifted has been significant, surpassing 12,000 flights per day recently, compared to a low of approximately 3000 flights per day at the end of November.

Having spent the last two weeks seeing all our customers in China, it is clear from speaking to the leaders of these airlines, that they are also optimistic about the future. As we have said time and again, when the consumer is allowed to travel, they do so and in large numbers. What we are seeing around the world is that consumers continue to prioritize travel well after restrictions are lifted, and this will be no different in China. As a result, the Chinese airlines are all planning to ramp up capacity. We believe this will further exacerbate the supply demand imbalance for aircraft and engines pushing lease rates higher. I believe this will be particularly acute on the wide body side as the combination of severely restricted new aircraft production, continued traffic growth and the retirement and cargo conversion of many wide body aircraft that took place during COVID puts a premium on aircraft that are available today and AerCap is well positioned to address this opportunity.

We have spoken before about the shortages on the narrowbody side, where production cuts due to groundings, COVID and supply chain issues have had a significant impact. As you will see from the slide, this means there are approximately 1800 fewer narrowbody aircraft built today, compared to the production run rate in 2018. This is equivalent to approximately 11% of the 16,000 or so narrowbody aircraft in operation at that time. On the wide body side, these reductions have been even more acute. Production rates for new technology aircraft such as the 787, the 330 NEO and the A350 are also well below expectations. Airbus was targeting five A330neos per month in 2019 and delivered less than three per month in 2022. They were targeting 10 A350s per month in 2019 and delivered only five per month in 2022.

Boeing were targeting 14 787s per month in 2019, and delivered less than 3 a month in 2022 with more than 80% of these coming from storage. This has resulted in approximately 740 fewer wide body aircraft built since 2019, a 15% reduction relative to the 5000 or so wide body aircraft that were in service at the time. That’s equivalent to almost two full years of normal production so how are we capitalizing on this opportunity? The best example I can give you is that since the start of 2022, AerCap has completed nearly 100 wide body transactions, which I suspect is possibly more than the rest of the aircraft leasing industry combined. We are seeing broad base demand, and we expect this to be sustained by continued traffic growth and low production rates for wide body aircraft.

We believe that the issues affecting aircraft production are likely to persist for several years, resulting in strong demand and upward pressure on lease rates and values for the foreseeable future. One further topic I’d like to address is the impact of interest rates and inflation on aircraft lease rates and our business more generally. On our prior call, we outlined the way new aircraft leases are adjusted for changes in interest rates and escalation, which provides protection to AerCap from interest rate volatility. This is the same exposure an airline would face if it were to purchase aircraft directly from the manufacturers and finance it with desks. So it’s widely accepted that this should be reflected in lease rates. However, it’s important to put these kinds of increases into context.

As you can see on this slide, leasing costs make up approximately 5% of an airline’s cost base on average. So changes here are much more palatable to pass through than fuel or labor costs may be, of course, every airline looks to minimize whatever level of cost they can. But this should illustrate that even large percentage increases in interest, expenses, and leasing costs are less material to our airline customers than many investors may realize. In summary, this was another great quarter for aircraft with record earnings and cash flow throughout the business. The market environment continues to improve, and this is reflected in our financial results. The company has successfully navigated an extraordinary period over the three years. And now we are well positioned and on an upward trajectory for 2023 and beyond.

Photo by luka slapnicar on Unsplash

Our confidence in the future is evidenced by today’s announcement of our new share repurchase program. With that, I will hand the call over to Pete for a detailed review of our financial performance and outlook for 2023.

Peter Juhas: Thanks, Gus. Good morning, everyone. We had a very strong performance for the fourth quarter. Our adjusted net income was $645 million, or $2.66 per share. The impact of purchase accounting adjustments was $215 million in the quarter. This included lease premium amortization of $47 million, which reduced our basic lease rents $111 million and maintenance rights amortization that reduced our maintenance revenue, and $57 million of amortization, that was reflected in higher leasing expenses. In the fourth quarter, we received $47 million of letter of credit proceeds related to our Russian leases, which was reflected in our net claims and recoveries related to the Ukraine conflict line item. And we had transaction and integration related expenses of $3 million in the quarter.

Taking all those into account our GAAP net income for the fourth quarter is $495 million, or $2.04 per share. I’ll talk briefly about the main drivers that affected our results for the fourth quarter. Basic lease rents for $1,494 million for the quarter, an increase of around $20 million from last quarter. As I mentioned, our basic lease rent reflected $47 million of lease premium amortization. Lease premium assets were amortized over the remaining term of the lease and reduced basically spreads. Maintenance revenues for the fourth quarter were $140 million and that reflects $111 million in maintenance rights assets that were amortized to maintenance revenue during the quarter. In other words, maintenance revenue would have been $111 million higher or $251 million without this amortization.

Net gain on sale of assets was $121 million for the quarter. During the fourth quarter, we completed a record 97 asset sales, including sales of 83 of our owned assets. The total volume of assets sold in the fourth quarter was around $965 million. So that represents a very strong gain-on-sale margin of 14% for the quarter. Our other income was $74 million for the quarter, which included proceeds from unsecured claims related to Garuda airlines, as well as insurance proceeds related to one of our helicopters. Those two items were total of $36 million of other income in the quarter. As I mentioned earlier, net recoveries related to the Ukraine conflict were $47 million in the fourth quarter, which represents proceeds from letters of credit that we received during the quarter.

As we’ve mentioned previously, we submitted claims for our letters of credit related to Russian leases during the first quarter of 2022. We received most of those proceeds shortly thereafter, but there were certain amounts that were disputed by the banks. We’ve now received virtually all of those amounts. Leasing expenses were $261 million for the quarter, including $57 million of amortization expenses. Equity and net earnings of investments under the equity method was $38 million for the quarter. That primarily reflects continued strong earnings from Shannon Engine Support, which is our engine joint venture with Safran, and is our largest equity investment. SES has been generating strong performance this year, driven by the on-going engine supply and demand factors that Gus mentioned in his remarks.

For the full year 2022, our adjusted net income was $2,185 million, and our adjusted EPS was $9.01. That’s after purchase accounting adjustments for the full year of $629 million transaction and integration related expenses of $33 million, and net charges related to the Ukraine conflict of approximately $2.7 billion. Our full year EPS of $9.01 reflects a strong outperformance relative both to our original guidance of $6.50 to $7 as well as our revised guidance that we provided on the third quarter earnings call at $8 to $8.50. That outperformance has been driven by a number of factors. We’ve seen a positive impact on revenue from higher cash collections, as well as higher maintenance revenue. We’ve also seen strong performances from our engine leasing, and helicopter leasing businesses.

And we’ve had higher income from our joint venture SES, which has performed well ahead of expectations. We sold just under $2.2 billion worth of assets in 2022 and that gain on sale of $229 million for a 12% gain on sale margin for the full year. We also received significant proceeds from unsecured claims and other items during the year, around $100 million in total. We also had $69 million of mark-to-market gains on our interest rate caps and swaps in 2022. We continue to maintain strong liquidity position. As of December 31, our total sources of liquidity were approximately $18 billion, which resulted in next 12 months sources uses coverage ratio of 1.4 times, which is above our target of 1.2 times coverage, and represents in excess cash coverage of around $5 billion.

Our total operating cash flow was approximately $1.6 billion to the quarter. That’s a very strong number, which was driven by continued strong cash collections and operating performance, as well as sales proceeds from some aircraft that run finance leases that were sold in the quarter, along with the letter of credit proceeds related to our Russian leases. As a result of the strong earnings and cash flow generation, we saw a significant decrease in our leverage ratio. And we ended the year with net debt to equity of two and a half times, which is well below our target ratio of 2.7 times. Our secured debt to total assets ratio was approximately 14% at the end of the year, which is in line with the third quarter, and our average cost of debt for the fourth quarter was 3.3%.

Earlier this week, Moody’s upgraded our senior unsecured ratings to Baa2, and we remain on positive outlook with Fitch. So that continues our positive ratings trajectory. Now I’ll spend a few minutes talking about our financial outlook for 2023. As Gus mentioned, we’re seeing a strong recovery in aircraft demand and significant supply constraints, both of which we expect to persist. So the environment for leasing continues to be positive. And we expect to see lease rates continue to climb higher during the course of 2023. Our EPS guidance for full year 2023 is $7 to $7.50 of adjusted EPS, excluding any gains on sale, as well as other items like recoveries of unsecured claims. When we look at our 2022 EPS of $9.01, you can see that was comprised of a number of items that we haven’t included in the 2023 forecast.

For example, we have an assumed any gains on sale, which were $0.83 after taxes in 2022. In 2022, we also had mark-to-market gains and interest rate caps and swaps as interest rates rose and the value of those derivatives increased. So that’s a $0.41 impact. Up until the invasion of Ukraine at the end of February last year, we were still receiving rent from our Russian airline customers. Obviously that’s no longer the case. So the $0.14 reflects the removal of the sprint as well as the depreciation related to those assets which we wrote off in full in the first quarter of last year. We also had $0.39 of unsecured claims and other items in 2022 and we haven’t forecasted anything for those items in 2023. We’ll also have some higher costs associated with our cargo conversion program in 2023, as that ramps up this year, as well as higher insurance cost, so those are both reflected in the $0.41 impact shown here.

And finally, we expect higher lease revenue and other items in 2023, which we project will increase our EPS in 2023 to $7 to $7 50, excluding any gain on sale or other income items. If we take a look at our projected income statement for 2023, you can see that we expect to have total revenue of approximately $6.8 billion interest expense around $1.8 billion depreciation of approximately $2.5 billion and leasing expenses, SG&A and other expenses of around $1.2 billion. That gives us total pretax income of $1.3 billion. The next line, tax expense and income from equity method investments includes our income from SES. We expect that our effective tax rate will be around 14% for 2023 and we expect to have around $100 million of income from our equity investments.

So that gives us GAAP net income of approximately $1.2 billion. We expect to have purchase accounting impacts that is from lease premium amortization and maintenance right amortization of around $500 to $600 million for the year. So that results in adjusted net income of around $1.7 billion and adjusted EPS of $7 to $7.50, which as I’ve said, doesn’t include any gains on sale. We expect to have asset sales of $2.5 billion for the year, which is an increase over the $2.2 billion of sales that we had in 2022. And we expect to have cash CapEx of $6.8 billion for the year. Of course, the volume of sales would depend on the market for aircraft during the year. And the amount of CapEx will depend on the ability of the OEMs to deliver aircrafts. But for now, those are our best estimates.

So overall, this was another strong quarter for AerCap. After the invasion of Ukraine last February, and the write-off of our Russian assets, we’ve rebounded strongly which you can see in the level of our transactions activity, our financial performance well above guidance, and the fact that we’ve delevered to a level that’s well below our target. We also see this confirmed by the ratings upgrade to Baa2 for Moody’s that we received earlier this week. And we expect the trends that are driving these results to continue, which should be positive for our business in 2023 and beyond. That gives us confidence to announce a new share repurchase program, and confidence about our outlook for 2023. And with that operator, we can open up the call for Q&A.

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Q&A Session

Operator: Thank you. The question-and-answer session will be conducted electronically. We will take our first question from Jamie Baker from JPMorgan. Please go ahead.

Unidentified Analyst: Hello, this is James on for Jamie. Thanks, operator. First question. There was a recent article speculating that you guys were in discussion with a Russian airline to purchase planes at discounted price to the extent that you can comment on that, any clarity you could provide there but also is that even possible just given the sanctions in place?

Aengus Kelly: Thanks, James. As you know, we are pursuing insurance claims against our own insurers and against the Russian airlines insurers and reinsurers. We have been approached by some Russian Airlines and their insurers about potential insurance settlements involving some of our aircraft lost in Russia. However, it is too early to know whether anything will come out of it and we have nothing further to say on it at this stage.

Unidentified Analyst: Got it understand, just thought I would try the question there. Second question just on the cadence of the cargo business revenues to the year, it seems like the $0.41 impact for 2023. Just how should we think about that as the year goes on?

Aengus Kelly: Sure, well, that’s James, that’s really an impact of a couple things. You’ve got cargo expenses, as those conversions happen throughout the year. I’d say they’re pretty going to be pretty balanced throughout the year. And then we do have higher insurance expenses in there as well, as well. So it’s both of those factors that are contributing to that.

Unidentified Analyst: Got it. Okay. That’s it for me. I appreciate the question.

Aengus Kelly: Sure.

Operator: Thank you. We will take our next question from Helane Becker for TD Cohen. Please go ahead.

Helane Becker: Thanks very much operator. It’s Helane Becker. Hi, team. Thanks for the time. So, Pete, is it? Do you always not forecast sales for the year and then take them as they come? Or how should we think about the forecast for zero sales in 2023?

Peter Juhas: Well, Helane, so we’re expecting, we’re projecting $2.5 billion of sales for the year. So that is in our forecast, what we haven’t done, which is consistent with how we’ve done it previously. We haven’t made any forecasts for what gains on sale would will be because those that’s really going to depend on what assets we sell and what the market is like during the course of the year. But we are expecting to sell $2.5 billion last year in 2022. We sold $2.2 billion worth and we would expect to do a little more than that during the course of the year.

Helane Becker: Okay, that’s helpful. Yes, I meant gains, not sale. Sorry about that. And then my other follow up question is on CapEx, the $6.8 billion. So how are you thinking about two things; one, financing it and two, looking at to the right, given what you said about delivery delays, and what we’re seeing about delivery delays and the slide that Aengus referred to earlier in his remarks, it looks like you may not get all the aircraft that you’re contracted to get. So how should we actually think about what CapEx will look like and how it will be financed? Thanks.

Peter Juhas: Well, CapEx has been a moving feast delay in your rice over the course of the last few years. And I expect that to continue. These are our best estimates at the moment. But even yesterday, as you have seen Airbus made some announcements about the XLR delays again. So this is a dynamic situation, but it’s our best estimate as of now.

Helane Becker: Okay, thanks and financing them?