CALC steers through interest turbulence in search of smoother air

The aircraft-leasing unit of China Everbright Group has sold more than 10 aircraft this year as part of an effort to renew its fleet and lower interest payments

Key Takeaways:

• China Aircraft Leasing Group’s profit fell more than 30% in the first half of this year due to rapidly rising interest payments
• The company’s future profit path could hinge on the Fed’s pace of monetary easing in 2025

By Bai Xinrui

The post-pandemic “revenge travel” wave provided a lift for the embattled aviation sector, taking it to new heights as tourists and business travelers returned to the road with a vengeance. But China Aircraft Leasing Group Holdings Ltd. (1848.HK), or CALC, has been drifting out of that comfortable jet stream. The aircraft lessor has been selling aircraft at a steady pace this year, and reported a decline of more than 30% in its net profit during the first half of the year – much worse than rival BOC Aviation (2588.HK). Such troubling signs may cause investors to wonder what’s behind the turbulence at CALC.

Founded in Hong Kong in 2006, CALC is a subsidiary of conglomerate China Everbright Group engaged in aircraft leasing. It went public in Hong Kong in 2014 and mainly leases its aircraft to airlines in Mainland China, Hong Kong, Macao and Taiwan.

Despite the travel rebound, many of the airlines that are CALC’s main customers are still recovering from a difficult period during the pandemic. Airlines across the world have mostly registered operating losses over the past three years due to lingering impact from the pandemic, and most list reducing debt and returning to profitability as priorities in their flight path back to health, according to a report from Southwest Securities.

Compounding the situation, supply chain bottlenecks and other problems led to record low deliveries from leading global aircraft makers Boeing and Airbus in 2023, with the figures not expected to return to pre-pandemic levels until 2025. That situation has made airlines turn to leasing to pick up the slack, making the outlook for aircraft leasing companies quite strong at the moment.

Steady sales

But CALC doesn’t seem to be enjoying that bounty as much and has been steadily selling airplanes since the beginning of the year, including the latest with its sale of an Airbus A320 on Dec. 19. That followed a Nov. 24 announcement when the company said it sold six aircraft, including one A321, one A319 and four Boeing 737s. Before that, the company on Oct. 30 announced its sale of four A320 series aircraft. The steady sales, coupled with big drop in its profit during the first half of the year, may have left some investors concerned about what’s happening behind the scenes.

While it’s selling many aircraft, CALC is also adding new ones. On Dec. 13, it announced the purchase of two A320s from Airbus. And its interim results show the company wasn’t scaling back in the first half of the year, as its fleet of self-owned aircraft rose by 10 to 172. Instead, the company is optimizing its aircraft portfolio by selling older units and increasing its number of A320 NEO aircraft.

The A320 NEO is the latest model in the A320 series, taking the lead from the older A320 CEO. The former has a flying range of 6,400 km, which is 200 km to 700 km more than the A320 CEO, and consumes 15% to 20% less fuel. So, the addition of A320 NEO aircraft is a positive for CALC, both in terms of operating efficiency and revenues.

The company’s results for the first half of the year show it currently owns 80 A320 CEO aircraft and another 54 A320 NEO units, accounting for 78% of its fleet in terms of units. Its sale of older units is bringing down the average age of its self-owned aircraft, which stood at 8.1 years midway through the year, with an average remaining leasing period of 5.9 years.

The company’s revenue performed reasonably well in the first half of 2024, growing 8.7% year-on-year during the six-month period to 2.53 billion yuan ($346 million). The figure included 1.92 billion yuan in revenue from operating leases, up 9.2% year-on-year, accounting for 76% of the total. Finance leasing revenue accounted for 11.8% of the total, and was up by just 1.2% year-on-year to 300 million yuan.

Interest drag

A closer look at its midyear report shows what really dragged on CALC was depreciation and finance expenses, which are one of the biggest components of its cost structure. A significant increase in interest expenses caused the company’s interest payments to surge to 1.34 billion yuan in the first half of this year from 1.08 billion yuan a year earlier, up 24.6%. The average real interest rate it paid on its interest-bearing liabilities was 5.92%, up 20 basis points year-on-year, which was the major factor causing its six-month profit to drop by 34.5% to 132 million yuan.

The company’s higher interest payment has everything to do with the interest rate hikes by the Fed in the U.S. The Fed started its tightening cycle in March 2022 and hiked rates 10 times in just 14 months, bringing the policy rate from near-zero to the 5% to 5.25% range by the end of July 2023.

For CALC, that meant the company’s average real interest rate paid on interest-bearing liabilities rose from 4.28% at the end of June 2022 to 5.92% two years later, up 164 basis points. As the tightening cycle began, the company’s interest payments soared from 758 million yuan in the first half of 2022 to 1.34 billion yuan in the first half of 2024, up 76.8%.

Next year could be equally challenging if the Fed slows down its current easing cycle. With core inflation in the U.S. plateauing and not coming down further, Fed Chairman Jerome Powell has signaled a more cautious stance on rate cuts. The market has taken that shift into account, and now expects just two rate cuts next year, down from previous expectation for four cuts. For a company like CALC with so much debt, fewer cuts will inevitably hurt its bottom line.

BOC Aviation flies ahead

One of CALC’s Hong Kong-listed peers is BOC Aviation, the aircraft leasing unit of Bank of China (3988.HK), which performed much better than CALC in the first half of 2024. While CALC’s profit was sagging, BOC Aviation’s surged 76% to $460 million. BOC Aviation’s self-owned aircraft stood at 429 units in the first half, much larger than CALC’s 257 units.

With its stronger performance, it’s not surprising that BOC Aviation enjoys a stronger valuation with an expected price-to-book (P/B) ratio of 0.8 times, ahead of CALC’s 0.52 times. If it wants to boost that figure, CALC should prioritize cutting its debt to bring down its interest expense, which could help to shore up its stock price.

To subscribe to Bamboo Works weekly free newsletter, click  here