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number of jetliner transactions, helping to eliminate any finance risk that remains in the world jetliner business. Since the economic crisis began in 2008, the ECA role has risen from backing about 15% of jetliner transactions to about one-third today. As more cash is coming into the jetliner finance business, and as industry capacity continues to increase at a consid- erably faster pace than airline traffic growth, returns on this cash are falling, even if they are still healthier than most other investment opportunities. This would explain the notable return of Japanese banks to the jetliner finance arena. Japa- nese banks have long been in the position of being cash-rich, yet with a very limited set of investment options that earn any kind of returns. Even with shrinking returns, jetliner finance is still more attractive to Japanese banks than most of their other available options.


Most financial company demand for jets over the past few years has focused on just two single aisle air craft families, Airbus’s A320 and Boeing’s 737. These two jets are consis- tently rated the two most appealing jets by investors. Produc- tion of them has reached record levels, both in absolute and relative terms, with their output equating to over 50% of all jetliner deliveries by value for the past five years. The biggest challenge for the market, therefore, is that the new single aisle generation is coming, with serious conse- quences for the current models. Upfront pricing indicates that there will be little or no premium paid for A320Neos and 737MAXs. They will likely sell at the same price, imply- ing a relatively fast and painful impact on current A320 and 737NG values. It’s difficult to imagine why customers would line up to take record numbers of the last copies produced of the older models, particularly if traffic growth stays anemic. Ramping up right up until the new models enter service in 2015/2017 makes little sense for anyone involved. In short, there’s likely to be a day of reckoning, with new models and weak traffic forcing some kind of jetliner produc- tion rate reduction in a few years. But this impact is unlikely to be nearly as severe as the notional impact of a rise in inter- est rates, and/or a fall in fuel prices.


Bottom-Half Business Jet Horrors


While the story of the business jet market over the past four years reflects sluggish demand, it also reflects changed financing terms. The best way to prove this assertion is to look at the market as two completely different segments. Historically, the business jet market could be divided in half by value. The top half consists of jets costing $25 mil- lion and more (in today’s money). The bottom half consists


of jets costing less than $25 million. Also historically, these two halves usually rose and fell in tandem. In fact, in the 2003–2008 market boom bottom-half jets actually outper- formed the market for top-half ones, with deliveries growing at a 20.2% CAGR (top-half jets grew by a 15.7% CAGR). Still, between the mid-1980s and 2008, in aggregate, both halves stayed roughly equal in size. Yet this market downturn has seen a serious split between these two segments’ fortunes. The bottom half fell by a record-breaking 56.4% by value in 2008–2011. The top half of the market, by contrast, is holding up reasonably well, finishing the 2008–2011 period with virtually no change (0.3% growth by value). When we discuss business jet market dynamics, we are effectively discussing two very differ- ent markets. One is large and doing well, while the other is shrunken and dormant. Corporate profits are historically the most important driver behind business jet demand. These fell in 2008–2009, but in 2010–2012 they made a strong recovery. In fact, US corpo- rate profits in the first half of 2012 set a record, reaching $2.1 trillion on an annualized basis. This has helped maintain top- half business jet deliveries at record levels. Yet bottom-half deliveries are still scraping the bottom of the market trough, with no sustainable deliveries increase in sight. The most likely explanation for this persistent market


bifurcation revolves around differing finance requirements. Transactions for larger business jets are more likely to be self- financed, either from a large corporate balance sheet or from a very wealthy individual’s checking account. By contrast, the strong majority of small/mid-sized (bottom-half) business jet purchases are dependent on third-party finance. These bottom-half workhorse jets typically go to mid- sized enterprises that continue to face difficulties getting credit at reasonable terms. But it isn’t just the nature of the customer that’s hobbling business jet finance. There’s also the jets themselves. Jetliners can be deployed around the globe to earn money in airline service. Business jets are a form of private transportation, and asset values often drop fast after the original customer sells them. Also, jetliner types are relatively homogeneous, with few models and a manufacturer emphasis on commonality to enable easy remarketing. Business jets tend to have more options, and they come in many more models. For compari- son, the top two jetliners today—Airbus’s A320 series and Boeing’s 737 series—make up 54% of 2011 industry output by value. The top five selling business jet series represent just 52% of industry output by value.


17 — Aerospace & Defense Manufacturing 2015


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