Aercap
buys GECAS
By Manuel Maurício
March 11, 2021
As you’re probably aware of, on the 8th of March, rumors came out that Aercap was buying the air-leasing giant GECAS. Mr. Market liked the idea and pushed the stock of both companies to recent highs.
But then the details of the operation came out, Mr. Market didn’t like them, and there he was, selling both companies again. Go figure.
A BRIEF NOTE ON ACQUISITIONS
With acquisitions there’s usually one perceived winner, the seller. I’m talking general terms here, not particular examples.
It’s widely known that most acquisitions destroy value instead of creating it. So why do companies do them? Well, there are many reasons, usually it involves synergies, but more often than not it’s just because the management team is incentivized to grow the revenue and EBITDA on an absolute basis and not the profits or cash flow per share. It can also be an ego thing, CEO’s like bigger companies rather than smaller ones.
AERCAP AND GECAS
Coming back to the GECAS acquisition, on the 10th of March confirmation came out that Aercap was buying GECAS.
GECAS is, was, the air-leasing division of the giant General Electric (GE). With a fleet of around 1600 aircraft, it’s the largest in the world. Aercap is the second largest with 1044.
GE has for some time now been optimizing its structure by selling non-core divisions such as its biotech division and reducing debt.
What’s strange about GE selling its air-leasing division is that GE builds jet engines for commercial airplanes. You see, given the huge scale of GECAS, GE can exert a lot of pressure over Boeing and Airbus for them to equip their airplanes with GE’s engines.
On top of that GECAS also has a portfolio of engines it leases to airlines so, for GE to keep its engines business while selling GECAS makes me scratch my head.
THE DETAILS
Let’s look at the details of the transaction (those of you who are less into finance can skip this part):
GECAS’ net assets were marked at $34 billion dollars. Aercap is raising $24 billion dollars of debt, issuing 111.5 million shares, and another $1 billion in notes (or cash). At the current share price of $53, this means that Aercap is paying a total consideration of $31 Billion give or take.
Paying $31 billion for something that is worth $34 billion can’t exactly be called the deal of the century, but then the financial engineering kicks in:
If we subtract the $25 billion of debt from the $34 billion of net assets that are being acquired, there are $9 billion left to be paid with equity (cash, stocks, etc). But Aercap’s shareholders are only paying $6 billion for those $9 billion (111.5 million shares at $53 per share).
That means that Aercap is buying GECAS at 66% of book value by selling its own shares at 75% of book value. From this point of view, it’s not a bad deal. But not amazing either.
This leads us to another issue. The more debt Aercap uses to buy GECAS, the lower the Price/Book it pays. In fact, Aercap could use even more debt to buy GECAS allowing for shareholders not to get diluted, but Aengus Kelly wanted to keep a strong balance sheet and the Investment Grade Rating given by the rating agencies. The better the credit rating, the lower the interest rate the company pays when it raises debt.
I kind of understand Gus’s choice, but I would have preferred more debt and less equity. GE shareholders will own 46% of the new company and they’re getting it at a bargain.
IS THIS A GOOD ACQUISITION?
I must confess I struggled a bit to answer this question. The short answer is, it’s kind of a meh acquisition. It’s definitely very different from the 2014 ILFC acquisition that made Aercap what it is today.
At that time, Aercap raised a higher proportion of debt than now (5x instead of the current 3x) and it issued shares at 1.4x book value, which was great for its shareholders. This time Aercap is issuing shares at 0.75 book value. This means unnecessary dilution to the existing shareholders.
Looked at it in another way, GECAS did $1 Billion in profit in 2019. I don’t expect the company to get to 2019 levels anytime soon, but for the sake of simplicity, Aercap is paying $6 billion to get $1 billion in profits. From this point of view, it seems like a good deal.
On the fleet side, the new company will now have a higher percentage of narrow-bodies than before, which is a good thing. There’s more demand for narrow-bodies. The average fleet age will go from 6.4 years to 6.9, so not much different.
But GECAS owns a whole bunch of other stuff like jet engines, helicopters, low value regional jets, cargo airplanes, etc. I can see Aercap integrating the jet engines business quite well, the helicopters’ and the regional airplanes not so much.
These are exactly the type of assets that Aengus Kelly always said he didn’t like… and that’s why I don’t fully understand his reasons for the acquisition. It’s not like he’s buying a collection of amazing, new airplanes.
WHAT CAN WE EXPECT GOING FORWARD?
Going forward, we can expect the same that we’ve been seeing for years. Aercap will now start to digest the whale by selling airplanes, reducing debt, and then, when it gets its debt level to a better level, it will start buying back its own shares, probably from GE.
FINAL THOUGHTS AND CONCLUSION
All in all, this huge acquisition doesn’t make me happy.
Yes, scale matters in this business; Aercap has been saying it for long. It’s easier for a global player to place an airplane than it is for a smaller lessor with a smaller geographical footprint. But, as we’ve seen during the pandemic, this works only up to a point.
What matters most are the type of clients these companies have. AirLease for example, given its higher mix of government backed airlines, is in a better situation than Aercap. With this acquisition, Aercap will be “forced” to welcome a lot of different airlines, and that’s not great.
On top of this, and although I’m not an expert on General Electric, I don’t see GE wanting to keep its shares for the long run. This means that there will likely be a 6 billion dollar selling pressure on the stock once GE gets out of the lock-up period which should be around the end of 2022 if the deal goes through.
That reminds me that there’s also the regulatory risk of the deal not being approved by the regulators.
Right now, I’m feeling let down with this acquisition; it seems more of an ego play than anything else. On the other side, Aengus Kelly has proven himself over the years and he has made all the right moves so far. Hell, just a few weeks ago I was praising his capital allocation skills.
I’m inclined to sell the remaining stake in Aercap, but I’m not doing it right now. I need more time to ponder over all the implications of this deal.
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