Earnings Call: H2 2018

Mar 13, 2019

Ladies and gentlemen, welcome to BOC Aviation 2018 full year results conference call. Mr. Timothy Ross, please begin. Thank you, Selena, and welcome everyone to BOC's earnings call to discuss our financial final results for the year ended 31st of December 2018. With me today are our Managing Director and Chief Executive Officer, Robert Martin, our Deputy Managing Director and Chief Financial Officer, Phang Thim Fatt, and our Chief Operating Officer, David Walton. Please note that some of the information you will hear during our discussion today may consist of forward-looking statements, which are subject to risks and uncertainties that may cause actual results to differ materially from statements made today. You should not place undue reliance on any forward-looking statements, and you should review our results announcements for full details. Please also note that all currency references in today's call are in USD only. A copy of our earnings announcement is available both via the Hong Kong Stock Exchange and in the investors section of our website at www.bocaviation.com, and a conference call presentation is also available in the investor section of our website. This call is being recorded and will be available for replay from our website within the next 24 hours, as is a transcript of today's management presentation. I will now turn over the call to Robert Martin for his comments. Thanks, Tim, and good evening to everyone on the line. Thank you for joining us for our 2018 full year results earnings call. The results that we are presenting today continues our unbroken record of 25 years of profitability and 14 consecutive years of increasing profits. Our 2018 results also build on a foundation that was initially laid over 25 years ago when we were formed as Singapore Aircraft Leasing Enterprise in November 1993. Over this period, we have generated cumulative earnings of $3.7 billion for our shareholders, and we have now distributed more than $670 million of this to our investors. We are delighted to report a net profit after tax of $620 million for 2018, up 6% on last year and equivalent to earnings per share of $0.89 based on the number of shares outstanding at year-end. We're pleased to report that our return on equity for 2018 was 15.5%, above the long-term average of 15%. Net profit before tax rose by 24% to $685 million, a number more representative of our year-on-year growth, given the $91 million tax adjustment in 2017 related to net deferred tax liabilities as a consequence of changes in the U.S. tax code. This resulted in a positive tax provision for 2017 and thus impacted NPAT for that year. We saw good growth in our core leasing business, where our total revenues and other income were up 23% compared to 2017 to $1.7 billion. Our core lease rental contribution continues to be the principal revenue component of our pre-tax earnings. This rose 15% in 2018 and represents a sustainable long-term income stream that recurs across the cycle. We started this year with $15 billion of net book value of aircraft, which, given a weighted average remaining lease term of 8.3 years, provides a stable base for future revenue growth. Reflecting the strength of our financial performance in 2018, our board has recommended declaring a final dividend of $0.1845 per share, payable to shareholders of record on the 6th of June. This final dividend brings the total dividend for 2018 to $0.3129 per share and represents a payout ratio for the full year of 35% of net profit after tax. This is in line with the board's policy of paying up to 35% of net profit after tax to shareholders in the form of dividends. The full-year dividend is equivalent to a dividend yield of 4.2% based on our opening stock price at the beginning of 2018 versus 3.4% for the Hang Seng Index. We ended 2018 with total assets of $18 billion, which reflected our sustained efforts to grow our balance sheet through investment in aircraft. Net book value of our fleet over the year grew by 10% to $15 billion. We finished 2018 with cash and committed liquidity of $3.8 billion. This positions the company well to fund both our contracted investments in aircraft and to finance further growth in the portfolio. During the year in review, both S&P Global Ratings and Fitch Ratings reaffirmed our industry-leading corporate credit ratings of A-minus. Turning to the market backdrop, macro conditions remain supportive of the aircraft leasing industry. On the airline demand side, the industry continues to perform ahead of long-term growth expectations, with air travel demand remaining robust. Airline passenger traffic, as measured by IATA, the Trade Association for the World's Airlines, rose 6.5% in 2018, above the long-term trend rate of 5%. This underpins IATA's earning estimates for 2018 for the airline industry of over $32 billion. It's fourth year of over $30 billion in profits in a row. With lower oil prices and passenger traffic growth of 6% anticipated in 2019, IATA is projecting the air earnings will rise to almost $35 billion this year. On the aircraft sales side of the business, the availability of U.S. dollar liquidity and the investor market remains strong. This continues to drive the healthy demand by aircraft investors for purchases of aircraft with lease attached. The supply chain issues affecting manufacturer production remained a feature of 2018. These issues have delayed deliveries to airlines and leasing companies, and resulted in the postponement of six of our A320neo aircraft from 2018 to 2019. We expect continued new aircraft delivery delays throughout the current year. U.S.-China trade friction has impacted decision-making for new Boeing aircraft by Chinese airlines. Demand for Airbus models in China was also affected by in-service issues for Pratt & Whitney powered aircraft and certification delays for CFM powered aircraft. We continue to successfully place our aircraft in other markets, given the strength of our global footprint. However, any positive resolution to U.S.-China trade talks would likely see the Chinese market reopen for new aircraft demand. We've continued to actively invest in the latest generation aircraft, as at the end of 2018, our order book of 183 aircraft is 97% new technology, including A350s, 787s, A330neos, 737 MAX, and A320neo families of aircraft. Back in 2017, the board implemented the long-term incentive plan for management, where 50% of long-term performance bonuses were to be used to purchase BOC Aviation shares. Roughly 1.3 million shares were purchased by a trustee in the secondary market in March and April 2018, after the announcement of last year's results, and will vest after the third year following their grant. A second tranche will be purchased along similar lines this year, further strengthening management's alignment with shareholders. In February this year, we have welcomed a new Chairman who's been appointed to lead our board. We welcome Mr. Sun Yu, EVP of Bank of China, as the new Chairman. Mr. Sun was previously Chief Overseas Business Officer of Bank of China, and prior to that, General Manager of Bank of China's London branch. I'll now hand the call over to David to speak to our operations and business development, and then Thim Fatt will take over for a more detailed review of our P&L and balance sheet. Thank you, Robert, and let me add my thanks to you all for joining us this evening. In 2018, we delivered 55 new aircraft to airline customers from our order book, including five where the customer exercised purchase options at delivery, giving us 50 new aircraft added to our owned portfolio. Our total fleet stood at 511 aircraft at the end of 2018, comprising 303 owned and 25 managed aircraft, and an order book of 183 aircraft. Some of the highlights of 2018 included signing a commitment to lease three Boeing 777-300ER aircraft to our existing customer, Thai Airways, and a back-to-back purchase agreement with Boeing. These aircraft are scheduled to deliver in late 2020. Signing lease commitments with our oldest customer, China Southern, and its affiliate, Chongqing Airlines, for A320neos, and adding Saudia as a new airline customer to whom we delivered three A320ceo aircraft toward the end of 2018. These transactions illustrate the strength of our global customer reach and the way our team is working to build good long-term business as we signed 92 lease commitments with airline customers in 2018. During the year, we generated 53% of our lease revenues out of Asia Pacific, reflecting the region's rapid rates of air traffic growth. The Americas and Europe accounted for around 12% and 25%, respectively, of lease revenue, while we developed our business with Middle Eastern carriers, who represented over 9% of lease revenue in 2018. Our leases with airlines are a mixture of fixed and floating rates. We saw LIBOR rates move up in 2018, especially during the first half of the year, and this increased both our floating rate revenue and our LIBOR-based funding cost. However, because of our active liability management and hedging policy, our net lease yield, which captures both the effects of interest rate fluctuations and the competitive lease rental environment, remained stable at 8.3% in 2018. We are pleased to announce that we had another year with strong portfolio utilization of 99.9%, and our collection rate was over 100%. To achieve this, we focus on good customer selection. As a reminder, there are just under 800 airlines in the world, but we are focused on the 150 airlines that have a minimum fleet size of 20 aircraft and that meet our minimum credit criteria. We do our credit analysis both before we sign the lease and on an ongoing basis thereafter. With that, I will turn it over to Thim Fatt. Thank you, David. Our post-tax earnings were $0.89 per share, up 6% over 2017, based on share outstanding at 31st December in each year. Net assets per share, meanwhile, rose 10% to $6.05 in 2018. The principal driver of the growth in earnings was a 23% increase in total revenues and other income. This drove our core lease rental contribution up by 15% to $623 million, which net of operating costs represented 74% of net profit before tax. Our lease rental income rose 20% compared to 2017, as we increased the size of our fleet, as higher interest rate lifted our floating rate lease revenue, and as new leases signed on higher fixed rate also contributed to the rise. At the same time, depreciation only increased 18% compared to 2017, also driven by the growth in the size of our fleet. We sold 34 aircraft from the owned fleet during 2018 compared to 30 aircraft sold in 2017, as we continue to improve the quality of our portfolio and capitalize on robust investor demand for aircraft with leases attached. Gain on aircraft sales were $91 million and accounted for 13% of pre-tax earnings, consistent with our long-term average. Our aircraft portfolio remains one of the youngest in the industry, and we have kept the weighted average age of our own portfolio at 3 years. Interest, fee, and other income amounted to $92 million, more than twice 2017 levels as we generated more fee income from predelivery payment financing, which comprised 13% of our net profit before tax. Finance charges increased by $93 million, driven primarily by an increase in our borrowing as we invested in more aircraft and as LIBOR rose. As the proportion of fixed rate leases have increased, we lifted the proportion of our fixed rate debt during the year, which also contributed to the increase, taking our average cost of funds to 3.3% in 2017 from 2.8% the previous year. Staff costs rose $19 million and represented approximately 5.3% of our total revenue and other incomes in 2018, in line with 2017. This was driven by an increase in staff number from 151 to 169 and a rise in variable compensation, which was linked to financial performance indicators. Other operating costs in 2018 were $53 million, 14% ahead of 2017, but lower than the growth in our revenue. Our average tax rate fell to 9.5% from 10.1% in 2017, excluding the $91 million adjustment to deferred tax liability in the U.S. in December 2017. At the end of the year, our total asset had increased 14%, or over $2 billion to $18 billion from the end of 2017. We had CapEx of $4.1 billion in 2018, primarily related to our aircraft delivery and predelivery payment. At the end of 2018, we were committed to $9.2 billion of future aircraft CapEx, with $3.4 billion already identified in 2019. As in previous year, we expect to build out this number over the course of the year. Our indebtedness increased, rising 14% to $12.5 billion at the end of 2018, with our gross debt to equity ending the year at three is to one. Capitalizing on our industry leading rating, we identified investor demand to raise $2.7 billion in total debt during 2018. This borrowing activity included our successful bond offering that raised $1.7 billion under our GMTN program. Appetite among fixed income investors for lessor bond has supported the funding side of the business, and projection for U.S. dollar interest rate rises have moderated significantly in 2019. Now back to Robert for his final comments. We set ourselves an ambitious target in 2018 of beating the previous year's stellar earnings and are delighted to have celebrated our 25th year anniversary with another strong performance. I would like to thank our directors and colleagues for their continued hard work and our investors for their ongoing support. This concludes our review of the industry, our company's financials, and our outlook, and I'll pass the call back to Tim. Thanks, Robert. This wraps up management's formal commentary. We now have time for Q&A and request that each participant restrict themselves to one question and one follow-up, unless time permits for additional queries. I will hand the call now back to the operator for the Q&A session. Thank you, sir. Participants, if you have a question to raise, please press 01 on your telephone keypad, and you will be placed in the queue. To cancel your queue, please press 02. Once again, 01 on your telephone keypad now. Our first question, we have Victor from CICC. Please go ahead. Hi, Victor. Your line is open. Thank you very much. This is Victor Wong from CICC, and congratulations on the very high quality and stable results. My question, I would say, is apparently a lot of people are looking at the matter very closely given the recent aircraft crashes cases related to the Boeing 737 MAX, which is accounting for quite a significant portion of future order book of your company. I know this is in early stage, but we would like to know what will be the scenario cases, which means that if such aircraft will be delayed, will that have any financial impact for your operation given the slowdown of delivery of the future order book to the customer? Will that have any impact? In different scenarios, what will be the flexibility for BOC Aviation to deal with the potential outcome? Is it possible for you to switch into other, more tested models so that you can continue to deliver on the contract with the client? Thank you very much. Okay, Victor, it's Robert. Thanks for the question. We anticipated this may come up. First of all, let's put the whole thing in perspective. Today, there are 387 737 MAX planes delivered in the whole world. The global fleet of aircraft with more than 100 seats is 22,500 aircraft. The first point I'd make is we're only talking about 2%, less than 2% of the global market. To put it specifically into our own situation, today, we have taken delivery, and this is including what's delivered since the year-end of a total of six 737 MAX. We have a fleet today of owned aircraft of 308 aircraft. So we are only talking about 2% of our portfolio. The next thing I'd go on to say is between now and our next earnings report, which we'll make at the half year, we have very few MAXes delivering. We don't take any more deliveries until May this year. For us, in the short term, this is not a big issue because 98% of our portfolio is on lease. It's a $15 billion portfolio, and it is basically delivering earnings, and you know, they're all on long-term lease terms. We do have Airbuses, A320s, delivering between now and the half year in larger numbers than we have Boeing planes coming, and they will drive our earnings more. Now, we can't comment on anything to do with the tragic accident that happened at the weekend. I think what we can just say is, though, basically, there are a number of steps that need to be gone through to bring this situation to a resolution. The first thing is they needed to find the black box and the cockpit voice recorder. Both of those have been found, and they're held by the Ethiopian authorities at the moment. Those need to be sent then to another authority to be analyzed, and then both the authorities and Boeing will analyze those, and then Boeing and the FAA will come out with some guidance to the marketplace. Those are the steps now that we, like all of the other market participants, are waiting for. In terms of flexibility, in the near term, no, we don't have much flexibility. We don't intend to switch. I think at this point, we should do what any prudent management team should be, watch and analyze the situation, and as we see more information, then we will tell our investors. Okay. Thank you very much. Thank you. Our next question, we have Calvin from Daiwa. Please go ahead. Thank you for your question. Actually, you just answered my question about the MAX incident. Yeah, I am fine. Thank you. Our next question, we have Ruth. Please go ahead. Okay. Thank you. First, congratulations for the result. My question is about the NI margin. It seems like that had dropped a little bit from previous years, 41% of it to 35% of it. Can I know a little bit more detail about the reasons why? Thank you. Sorry. Ruth, could you repeat the question and perhaps speak a little more slowly into your receiver? All right. Yeah, maybe it is not that clear. Because from the net profit of the income tax for this year is about $620, and previous year is $587. Yeah, you have certain point a 5.8% of increase, but compare with NI margin, it seems like there is about a 6% of drop. So I like to know the reasons why. Okay, Ruth, it is Robert. I think unfortunately, because of the tax effect from the U.S. changing tax rules a year before, look at NPAT is a little more difficult. Right. I see. What I would do is focus on net profit before tax. Net profit before tax, as I mentioned, was up 24%. Yeah. A better way to look at it. If you then look at our net lease yield, which is the way we look at our returns off our leases, it is down 0.1%, from 8.4% to 8.3%. Okay. The major impact is about the tax for the U.S. part. How about in the future? Will it affect the bottom line in the future as well, or just a one-time item? Maybe I ask two questions. That was a one-time item. Yeah. Basically, in terms of tax rate, we are round about 10%, just to give you a feeling of magnitude once you take out the one-time effect. Yes. All right. Okay. I see. Because if you have the tax benefit from the Singapore government, so that is why it is roughly about 10% in total, right? But the 10% is a composite tax rate across all- Yeah of the jurisdictions that basically we cover. Our main book entries are the U.S., Ireland, and Singapore. Yeah. It's an average of those. Okay. I see. Yep. Thank you. Yep. Thank you. Our next question, we have Jackie from Deutsche Bank. Please go ahead. Hi. Good evening, management. Congrats on the great results. My question is regarding the leverage. I saw our net leverage, i.e. debt to equity leverage, was 3 times at the year end last year. Our previous guidance is 3.5 times leverage target. Just wondering, do we still keep that guidance, and when can we achieve that? If not, will they consider to hike the dividend payout to provide better return to the shareholders? Thank you. Okay. Thanks, Jackie. Just on debt to equity, I think looking forwards, if you use a range of 3 to 3.5, that's probably realistic. On your second question to do with the payout ratio, basically the board's guidance stays, which is up to 35% of net profit after tax on a full year basis. Right. Thanks, Robert. Just a follow-up. Can we get some sense of the CapEx target for 2019 versus last year? By all means. The way to think of it is we already have committed CapEx, at the start of this year, of $3.4 billion. But remember, during the year, we always pick up additional CapEx. So realistically, we could be up around $4 billion by year end. Got you. Thanks so much. Okay. Probably to give you the other two parts, remember then there's always depreciation of the existing book, and in terms of what we intend to sell, it's roughly the same as the previous year, around $1 billion worth. Right. That's great. Thank you. Yeah. Thank you. Our next question, we have Mei from Zhongtai International. Please go ahead. Hello. Thank you and congratulations for the earnings results. As you have mentioned in your talk just now, you mentioned floating leases in 2018. I would like to know about the proportion that the floating leases will account for in the future. What about the exposure? Will the debt hedge? I would like to further know about the interest rate. If the interest rate changes, what kind of strategies will the company adopt to increase the net income or reduce the net loss? Thank you. Okay. Thanks, Mei. Just to give you an idea, at the end of 2018, if you look in terms of net book value, 76% of our leases were fixed rate and 24% were floating rate. The type of lease is really driven by the demand from our airline customers. We are finding that at the moment with the flatter yield curve, they're tending to want fixed rate leases. Towards the end of the year and into the start of this year, we did do quite a lot of interest rate hedging when interest rates dipped downwards, so we're close to 90% hedged now. Okay. The way we deal with interest rate change, no matter how we raise the debt, it's always our intention, as in previous years, to look at the mismatch between our fixed rate leases and floating rate debt, and always to have at least 50% of that hedged. In reality today, that's around 90%. Okay. Thank you. Got it. Thank you very much. Okay. Thank you. Our next question, we have Aaron from BOCI. Please go ahead. Thank you. Thank you, management, for having this call. My question is regarding the sales plan. As we know, it is very likely that the 737 will delay in 2019 for Boeing to fix their problems. You need to reduce the sales of aircraft to reduce this effect to our portfolio. Also, what do you see the yield in the market when we start the new lease in 2019, if the 737 MAX is going to be delayed into 2020, maybe, for example? Thank you. Okay. Ivan, I am assuming you are talking about purchases of aircraft rather than sales. Is that correct? Oh, I mean the sales plan for this year, maybe the actual sales, if the delay on the delivery of the 737 MAX. Okay. No, our sales plan is unaffected. Our sales plan, we already have a budget fixed in, and as I mentioned earlier, sort of feeling a magnitude around $1 billion of sales due this year. In terms of delays of MAX deliveries, it is too early to tell yet. We need to get past this point of understanding what the issue is first. But we do know there is potentially two to three months worth of delays over on the Airbus side, which were already built into our thinking. Now, bear in mind that every year we are outsourcing as well for purchase and leaseback business and our very successful predelivery payment financing and lease business. We will continue to do that during this year. So you will see incremental assets being added to the book during the year. Okay. Thank you. Thank you, Robert. Okay. No problem. Thanks, Ivan. Thank you. Our next question, we have Mayuko from Nikkei. Please go ahead. Yes. Hi. Thank you very much for this opportunity. I also would like to ask about the Boeing 737 MAX. You have six in the fleet, and can I know which airline this is leased to and whether this is grounded now or not, and how this possibly affects your financial performance if these aircraft continue to be grounded? You also mentioned that in the short term, these are the very small percentage of the whole fleet, but would you be able to give me some comment on possible risk for the industry? You have quite a large number of 90, I believe, the firm orders. If the situation continues, how can this affect the growth of the Asian aviation market? Lots of questions there. Sorry. Let me start off by saying, as I mentioned earlier, there are only six aircraft out of 308. This is less than 2% of our revenue. It is very small. At the moment, all of those carriers are up to date on rentals, and you will see that last year we had 100% collection record. Second thing is, bear in mind that while there may be some pressure on the MAX book, the rest of the aircraft we own, the other 98%, become relatively more attractive during this period. Already we are getting incoming calls from people who had not made decisions on which aircraft to take to see whether we have still got A320s or 737-800s or A320ceos to lease. You cannot just take the problem in isolation. You have to also look at what the alternatives are. Okay? Now, in terms of the industry, I think the big thing we just need to watch, and we saw this at the start of the 787 program, is if something happens at a manufacturer, then you may get a build-up of undelivered aircraft over a time, which then sort of disturbs your delivery profiles. We have seen this in the past. We have worked through this in the past with both Boeing and with Airbus, and we will do the same thing again. Boeing is one of our largest stakeholders. We have a good relationship with them, and we will work with them during this period. Okay. Thank you. Thank you. Our next question, we have Sumit from UBS. Please go ahead. Sorry, my question has already been answered. Thank you. Thank you. Our next question, we have Nathan from CICC. Over to you. Hi, Nathan, the line is open. Our next question, we have Libby from HSBC. Over to you. Thank you, management. My main focus is mainly on the strategy side. About the pricing strategy, how do we see the industry competition landscape this year and the trend of the gross yield for aircraft leases? Second is on the transitioning strategy, which is on page 69 of this annual report. It says that we are steadily transitioning into the narrow-body aircraft, including new and MAX. We know that MAX is a recent event, but in the long term, how do we review this transitioning strategy? Thank you. Okay. Competitive pressures. Yes, over the last five years, we've seen a lot of new competition come into our market, whether it be in terms of competing with us to place aircraft or competing basically on purchase and leaseback business. One of the ways that we've differentiated ourselves is our ability to do predelivery payment financing combined with leases, which is one of the ways that we've stayed away, and also how we've managed to basically maintain our yield. There are yield pressures this year, I'm not going to deny it, but what matters is our overall mix of revenue between basically placement business and purchase and leaseback business. Whenever there's any problems in the industry, that tends to be when we do better. If you go back to 2008 to 2010, we had some of our best years during that period when we were able to support our airline customers in times of difficulty, and we will do the same again this year. In terms of transitioning to new technology aircraft, yes, we will be. Obviously, those are a number of pressures that are coming, environmentally and in terms of good corporate governance. We've always had a strategy of generally trading out of our aircraft before they get to 10 years old, and that strategy hasn't changed. As we mentioned in the presentation, our average age of our aircraft today is round about three years. We believe the best part of the aircraft's life in terms of our particular business model, and we may be different to other participants, is in the first 10 years of its life. And that's when we can bring our best-in-class funding cost into play, and also our abilities to buy in bulk from the key manufacturers. Thank you. I'll now hand the session back to Timothy for our closing comments. Over to you, sir. Thank you, everyone, for joining us today. I'm available for any follow-ups that anyone might have. Otherwise, we look forward to speaking to you all in about six months' time. Thank you. Ladies and gentlemen, this concludes today's conference call. Thank you for your participation. You may now disconnect.