New from The Airline Analyst - TAA Financial Ratings

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1 New from The Airline Analyst - TAA Financial Ratings Introduction Many of our clients and prospects have asked us to provide financial ratings, using the data available in The Airline Analyst. We are now pleased to respond with the launch of TAA Financial Ratings. TAA Financial Ratings are available on a stand-alone basis as a separate subscription or in conjunction with a subscription to The Airline Analyst. They will be updated four times a year as updated airline financial data becomes available. Please see Appendix 1 for a description of what is included in the product. What are TAA Financial Ratings? TAA Financial Ratings are ratings of intrinsic financial strength, based on a single quantitative score for each airline based on average fleet ages and four key financial ratios. What can TAA Financial Ratings be used for? TAA Financial Ratings can be used to help benchmark or sensecheck existing systems or ratings that you have or to help predict Credit Ratings. Their particular strength is that they are available for more than 120 airlines and can be used for comparative analysis of this large airline population. TAA Financial Ratings are not intended to be predictors of financial default or bankruptcy but can be used as indicators of absolute and relative financial strength or weakness. They can also be used to ascertain the ratings trend for individual airlines. What are TAA Financial Ratings not? They are not Credit Ratings. Credit Ratings are forward looking while TAA Financial Ratings are based on historic data and ratios. Credit Ratings also take into account such factors as ownership, strategy, management, labour relations, market position, government relations, sovereign ceilings and availability of credit. They may also involve due diligence and meetings with management. Methodology Our methodology is simple and transparent. First we identified the key criteria which we believe are indicators of the absolute and relative financial health of an airline and which are available for every airline in the sample. Second we apply weightings to each of these five parameters. Third, we rank each airline on each of the parameters giving them between 1 and 8 points depending on their value for each parameter. Please see Appendix 2. Fourth, we calculate the overall Financial Ratings Score for each airline. The airline's "FRS" is the weighted arithmetic average of the airline's score on each parameter. Each FRS corresponds to a TAA Financial Rating following a scale from AAA to CC. Please see Appendix 3. TAA Financial Ratings are based on the most recent "Latest Twelve Month" ("LTM") data for each airline which renders the ratings more volatile than those of the rating agencies. This feature may make them leading indicators of changes by the rating agencies who may wait for a trend to be confirmed before changing a rating. TAA Financial Ratings provide ratings for the three most recent LTM periods so that trends in ratings are clearly identified. Also, we compare the TAA Financial Ratings with the public ratings from the three major rating agencies so that differences can be seen and analysed. Ratings Criteria To determine the key parameters we reviewed the methodology used by the rating agencies, the information available to us and our own experience in the area. Consistent themes from the rating agencies are that they place emphasis on fleet, operating profitability / cost structure, ability to service rent and interest, liquidity and leverage when evaluating financial risk profile. The five criteria selected for TAA Financial Ratings are as follow: Criteria Detail Average Fleet Age Average age of operating fleet EBITDAR/Total revenue - Earnings before interest, tax, depreciation, amortization and rents as a percentage of total revenues - a measure of operating efficiency and profitability that is not affected by choice of financing structures for aircraft EBITDAR/Net interest + Aircraft rent - measures the "number of times" EBITDAR covers the sum of net interest expense plus aircraft rent Unrestricted cash as % of trailing twelve months' revenues - indicates the size of the liquidity cushion the airline has to withstand events such as strikes, groundings and natural disasters Adjusted Net Debt/EBITDAR - Balance Sheet Debt minus Unrestricted Cash plus capitalised aircraft operating lease rentals divided by EBITDAR Note that they are all tailored to the unique characteristics of the airline industry, in particular the use of operating leases as a major source of aircraft financing. Accordingly, we evaluate EBITDAR rather than EBITDA margin, includes aircraft rent in the denominator and incorporates net balance sheet debt plus an adjustment for operating leases (8 x trailing twelve months rent). Average Fleet Age (8% weighting) This is a key indicator of operating cost efficiency and competitiveness as well as likely future capital expenditure. The following is the rating scale for fleet for passenger airlines adopted by TAA Financial Ratings. For cargo carriers we double the age applying to each rating. Page 1

2 AAA < 3 years 8 AA 3-6 years 7 A 6-9 years 6 BBB 9-12 years 5 BB years 4 B years 3 CCC years 2 CC > 21 years 1 Cost Structure/Operating Profitability (23% weighting) The rating agencies place great store on operating efficiency and cost structures. As it is difficult to compare airlines' cost structures due to such factors as varying expense categorisations, different stage lengths, differing year-ends and exchange rates we have selected a single ratio - EBITDAR margin. EBITDAR stands for Earnings before interest, tax, depreciation, amortization and rents. EBITDAR margin is EBITDAR expressed as a percentage of total revenues - a measure of operating efficiency and profitability that is not affected by choice of financing structures for aircraft, route structures or stage lengths. This tells the ability of the airline, operating in its own competitive environment, to manage its fleet, input costs and revenues to achieve operating profitability before financing and aircraft ownership costs. (EBITDAR / Total Revenues) AAA > 40% 8 AA 35-40% 7 A 30-35% 6 BBB 25-30% 5 BB 20-25% 4 B 15-20% 3 CCC 10-15% 2 CC < 10% 1 Coverage (23% weighting) Coverage is a key parameter assessed by the rating agencies. It is particularly critical for airlines with their asset intensity and, commonly, high leverage. The coverage ratio we have chosen - EBITDAR divided by net interest plus aircraft rent - is one that is neutral to choice of financing structure, approximates an "operating cash flow" measure and is relevant to our leasing company clients by including aircraft rent in the numerator and denominator. (EBITDAR/Net Interest + Aircraft Rents) AAA > 4x 8 AA 3.5-4x 7 A x 6 BBB x 5 BB x 4 B x 3 CCC x 2 CC < 1.0x 1 (23% weighting) is essential to airlines to support daily operations and to protect against event risk such as strikes, natural disasters or grounding of all or part of the fleet. Our assessment of liquidity is Unrestricted Cash as a percentage of trailing twelve months' Revenues. Mathematically, a 25% ratio is equivalent to having three months' liquidity on hand, which is considered by many analysts to be the minimum level for prudent management of an airline. Note that this measure does not take into consideration available committed lines of credit or parent or government support as this information is not available for all airlines. (Unrestricted Cash as % of LTM Revenues) AAA > 35% 8 AA 30-35% 7 A 25-30% 6 BBB 20-25% 5 BB 15-20% 4 B 10-15% 3 CCC 5-10% 2 CC < 5% 1 (23% weighting) is a key indicator for the rating agencies. It is the view of The Airline Analyst that leverage measures based on book equity are often misleading for airlines as their balance sheets may not reflect the true value of assets such as route authorities and slots, aircraft or the full value of liabilities like pension obligations. In addition there are many airlines that have survived on small slivers of equity or even negative equity for many years due to support from shareholders or governments or by their ability to perpetually refinance their assets. Book equity measures are also impacted by the varying depreciation policies applied by different airlines to aircraft. Page 2

3 (Adjusted Net Debt / EBITDAR) AAA < 1x 8 AA x 7 A x 6 BBB x 5 BB x 4 B x 3 CCC x 2 CC > 10.0 x 1 We have therefore adopted a "cash flow" measure of leverage that enhances comparability between airlines - Adjusted Net Debt/EBITDAR. The debt adjustments are deduction of Unrestricted Cash from Balance Sheet Debt and the addition of a capitalised value for operating leases calculated as 8 times trailing twelve month aircraft rents. We chose to use a "net" measure to give credit to airlines which keep high levels of liquidity on balance sheet. Data Sources registries and other official public sites. Average fleet age is sourced from ATDB.aero. Limitations The following are several but not a complete list of limitations of TAA Financial Ratings. Please also see the Disclaimer: TAA Financial Ratings are measures of intrinsic financial strength only and do not take into account qualitative factors measure does not include committed undrawn liquidity facilities or access to a central group Treasury Ratings do not incorporate any events post the most recent balance sheet date Some airlines' data may not be very recent TAA Financial Ratings are determined based on rating criteria, weightings and methodology chosen by The Airline Analyst. These may or may not be appropriate. The analysis is based on the three most recent LTM periods for each airline available from The Airline Analyst. In turn, that data is sourced from airline websites and public filings at companies THE AIRLINE ANALYST DISCLAIMER - IMPORTANT PLEASE READ CAREFULLY This Disclaimer is in addition to our Terms and Conditions as available on our website and shall not supersede or otherwise affect these Terms and Conditions. All information including financial ratings, historical financial analysis, data, models, software or any other applications, methodology, results or output and/or other information contained in this publication (the Content ) may not be copied, modified, reproduced, reverse-engineered, re-packaged, transmitted, transferred, or distributed without the prior written permission of The Airline Analyst or its affiliates. The Airline Analyst in assigning any financial ratings or publishing analyses may use information from independent third party sources and cannot guarantee the accuracy, completeness, timeliness or availability of such information forming any part of the Content. There may be instances where information received in the financial rating process has not been independently verified or validated. There may be errors or defects in assumptions or methodologies due to human, mechanical error or other factors outside of its knowledge and control and therefore the Content in this publication is provided AS IS without any warranties, express or implied. YOUR USE OR RELIANCE ON ANY OF THE CONTENT PUBLISHED BY THE AIRLINE ANALYST IS AT YOUR SOLE RISK. NEITHER WE NOR ANY OF OUR PROVIDERS OF INFORMATION CONTAINED IN THE CONTENT MAKE ANY REPRESENTATIONS OR WARRANTIES AS TO THE ACCURACY, COMPLETENESS OR RELIABILITY OF ANY ADVICE, OPINION, STATEMENT OR ITS FITNESS OR SUITABILITY FOR A PARTICULAR PURPOSE OR USE. Neither The Airline Analyst, nor any of its officers, employees or representatives shall be held liable to any person for any losses or damages of any nature whatsoever incurred, suffered or arising as a result of use or reliance on the Content, however arising, including but not limited to any direct, indirect, consequential, punitive, incidental, special or similar damage or any losses or expenses, including but not limited to any loss of business, contracts, revenue, profits or other pecuniary loss (whether direct or indirect). The Airline Analyst does not exclude any liability which cannot be excluded by law including liability for personal injury or death caused by negligence or fraud (including fraudulent misrepresentation). The financial ratings and other analyses, including statements in the Content are statements of opinion as of the date they are expressed and not statements of fact. The Airline Analyst is not an investment advisor, a financial advisor or a securities broker. The information published has been prepared solely for informational purposes and is not intended for trading purposes or to address your particular requirements. The Content is not an offer to buy or sell or a solicitation of an offer to buy or sell any security, commodity, financial product, instrument or other investment or to participate in any particular trading strategy. Such Content is intended to be available for your general information and is not to be relied upon by users in making (or refraining from making) any specific investment or other decisions. Your investment actions should be solely based upon your own decisions and research Page 3

4 and appropriate independent advice should be obtained from a suitably qualified independent advisor before making any such decision. Contact Details Please contact us if you have any questions about the TAA Financial Ratings methodology or would like to discuss a subscription to The Airline Analyst or TAA Financial Ratings. For information about the rating methodology, please contact: Michael Duff Managing Director The Airline Analyst For information about sales and pricing, please contact: Harry Sakhrani Sales Manager The Airline Analyst Tel: Tel: Mob: mduff@theairlineanalyst.com hsakhrani@theairlineanalyst.com Page 4

5 Most Recent Twelve Months Ending (%) Adjusted Net Debt/EBITDAR (x) FCC LTM TAA Financial Rating S&P Foreign Currency Rating Most Recent Twelve Months Ending LTM Revenues (USDm) (%) Adjusted Net Debt/EBITDAR (x) FCC LTM - 2 LTM - 1 LTM LTM - 2 LTM - 1 LTM TAA Financial Ratings Methodology - February 2013 Appendix 1 - Sample Reports Each release of TAA Financial Ratings will comprise a PDF incorporating three primary reports: 1) An alphabetical listing by airline of the values for their rating parameters, the points score and Financial Rating: Airline A A 31-Dec % % CC CC CC B B- 30-Sep % % BB- B- CCC+ C BBB+ 30-Jun-12 1, % % BB+ BBB A 2) The same report ranked from best rated to worst-rated 3) Three years' historical data for each airline: Airline name Country A A 31-Dec % % CC A A 31-Dec % % CC A A 31-Dec % % CC B B 30-Sep % % CCC+ B B 30-Sep % % B- B B 30-Sep % % BB- C C 30-Jun % % A C C 30-Jun % % BBB C C 30-Jun % % BB+ Reports 1 and 2 will also be provided in Excel format so that the airlines can be ranked and sorted by any of the ratings criteria. In addition, each release of TAA Financial ratings will include a comparison with the public rating wherever such is available and will include a chart showing the distribution of ratings by rating level (AAA to CC). Page 5

6 TAA Financial Ratings Methodology - February 2013 Appendix 2 - Ratings Criteria The following table illustrates the number of points from 1-8 allocated based on each airline's value for each criteria. For example an airline with an average fleet age of 8 years would receive 6 points for that parameter; an airline with Adjusted Net Debt/EBITDAR of 7x would receive 3 points for that parameter. Rating Weighting AAA AA A BBB BB B CCC CC Points % < 3 years 3-6 years 6-9 years 9-12 years > 21 years years years years 23% > 40% 35-40% 30-35% 25-30% 20-25% 15-20% 10-15% < 10% 23% > 4x x x x x x x < 1x as % of Revenue 23% > 35% 30-35% 25-30% 20-25% 15-20% 10-15% 5-10% < 5% Adjusted Net Debt / EBITDAR 23% < 1x x x x x x x > 10.0 x Page 6

7 (%) Adjusted Net Debt/EBITDAR (x) Adjusted Net Debt/EBITDAR Overall Financial Rating Score TAA Financial Ratings Methodology - February 2013 Appendix 3 - Ratings Process - "Air Global" Example The following chart shows the number of points awarded for "Air Global" on each of the criteria, the weighting of the score and the mapping of the overall Financial Ratings Score to a TAA Financial Rating, in this case BB. Airline Ratings Criteria Scores Mapping Financial Rating Air Global % % 3.0 Apply Scores Based on Rating Scales for Each Individual Apply Weighting Calculate 8.0 AAA AA AA AA- = A A x x x x x A BBB+ 8% 23% 23% 23% 23% BBB BBB- = BB+ Map to Overall BB Financial Rating BB B B B CCC CCC CCC- < 2.0 CC Page 7