Airline Economics Nothing Too Much

Saturday, October 1, 2011

By Victoria Tozer-Pennington

With its origins as an aviation advisory boutique, Apollo has become an alternative investment manager with more than $800 million in aviation assets under management as of December 31, 2010. Led by its founders, William Hoffman and Robert Korn, it is investing a $213 million fund, the Sciens Aviation Special Opportunities Fund (Sasof), as well as several private accounts.

Apollo specializes in supplying the aftermarket with discounted original equipment manufacturer parts by acquiring and dismantling mature aircraft and engines. It also leases and trades commercial aircraft and engines. David Treitel, managing director of Apollo Aviation Group, classifies the company as an investment manager first and foremost that just happens to specialize in aviation, specifically in monetizing and arbitraging mature aircraft. “We had more than $800 million in aviation assets under management as of the end of last year and this has grown to more than a billion today,” he says. “We invested about $300 million in 2010 and about $200 million in the first six months of this year. We conduct three broad types of transactions: short-, medium- and long-term strategy. First, in our short-term strategy business, we buy aircraft that are on the ground and immediately take them to parts. But before doing that, we will monetise any remaining service life on the engines and components. So we also do a lot of engine leasing, but we work entirely as an investment manager, we are not a parts distribution house. We consign anything we buy to a parts company and work on a consignment basis. We believe that is the best model for us, and provides the best returns for our investors.” Apollo’s mid-term strategy business involves buying short-term leases – stub leases – with up to two years remaining. However, because it is hard to get bank debt, or any type of debt, on short-term leases and aircraft bought for parting out, the company finances these deals using all equity. Apollo also buys longer term leases, but it will access the debt markets to finance them.

Most of Apollo’s investment is in the short-term strategy tier. “We are looking for the arbitrage where the break-up value exceeds what we pay,” says Treitel. “We do an immense amount of work in getting the records ready for sale – the records requirement in our business is much greater than many parties expect and realize.” Because the parts market wants back-to-birth traceability, which is not necessarily a requirement under the Federal Aviation Administration or European Aviation Safety Agency, the team at Apollo invests a lot of time and resources in getting the records ready for the parts company to sell.

“Airlines will have the records but they won’t necessarily be assembled in a manner that’s needed for the parts market,” says Treitel. “We put the records together, which is quite a labour-intensive exercise and takes a specific set of skills we have developed in doing more than 100 of these transactions. There is also a fair amount of technical support needed in this exercise, and we have our own technical team headed by Rob Taylor, formerly the technical director at WestJet.” Apollo’s AUM at the end of 2010 was $820 million, which included 85 aircraft, 15 airframes and 32 spare engines – the majority of which were in some form of part-out activity. The firm consigned 36 airframes and 73 engines for disassembly in 2010.

Treitel says: “We have bought a lot of A300s because we like the CF6- 80C2 engine. We have also bought lot of A320s – we like that asset at the right price. I would love to buy an A330. We have also bought A340s, 747s and we are looking at the Next Generation and hope that the pricing will come down to the right price to buy. We have bought an
A318 and an A321 to part out already. We have done 747, 757s, 767s and we have one 777 that we are parting out. Those types are assets are appealing to us – we like wide bodies as well, although most leasing companies aren’t keen on them. The assets that make sense to part out tend to be around 15 years old although there are exceptions such as the A321, which was 12 years old, and the A318, which was eight years old.” Apollo has good relationships with several airlines, which it prefers to work with directly, as it is easier to do the necessary work on the records, which is critical to its short-term business. “We prefer to talk directly with airlines but we also buy a lot of assets from leasing companies,which still have to balance what they do and what they sell,” says Treitel.

The short- and medium-term strategy business is funded by Sasof, Apollo’s own fund. Apollo raised $213 million for Sasof, which closed in December 2010. “Our investment period runs to October 2011 for that fund,” says Treitel. “We are investing in other platforms. We have a single investor account that is a little bit larger than the fund.”

As a private equity fund that specialises in mature aviation assets, Apollo’s investors are pension funds, family offices, high-net-worth individuals and foundations. Although Apollo has successfully raised a $213 million fund, Treitel says getting investors on board was a challenge. “We are in such a small niche,” he says. “But that said, we have a complete investor platform with the reporting and compliance staff and systems that are necessary. I wouldn’t say it was easy to get launched. It took quite some time to raise the fund. And it was very expensive to do, but it is done.” Looking forward, Treitel expects the amount of business it conducts in the three tiers will balance out but most of the activity it has done in the past 12–18 months has been on the short-term strategy side. Treitel expects this to change because “longer-term investments are not part of the investment strategy for our fund. Sasof is only allowed to invest in aircraft that will be parted out immediately or that are on lease for a two-year period or less and that we intend to part out upon lease expiry”. He added: “We are in the long-term space but it is not a large part of our business. It will be in the future, however. And we have done some interesting transactions that are quite complicated. For example, one deal was for a six-year purchase and lease back with an aircraft exchange at the end of the lease, which I’ve not seen before. We are flexible in that way.” Aircraft under Apollo management Apollo has a diversified portfolio of commercial aircraft engines. managed 100 aircraft, comprised of 85 complete aircraft and 15 airframes, and 238 engines, consisting of 188 engines associated with the 85 complete aircrafts and 50 standalone engines.

David Treitel, formerly president and chief executive officer of SH&E, is managing director of Apollo Aviation Group. With 33 years of aviation experience, he is responsible for capital market activities, overseeing strategic planning and assisting in originating transactions. He has been a member of the Apollo board of directors since August, 2009. Treitel retired from SH&E in March. During his time there he built the company to become the world’s largest aviation consultancy. Much of his work has been in connection with large-scale financial market activities, including airline mergers, acquisitions and financings. He is recognised as one of the industry’s leading experts in aircraft leasing and finance. SH&E was acquired by ICF International in December 2007. Treitel continued to head SH&E and served as co-chair of the energy, climate and transportation practice following the merger.