Liquidity returning for regional airlines

While no industry has been able to escape the effects of the economic crisis, the aviation sector in the Middle East has weathered the storm better than most. In the past few weeks, there has been a flurry of activity from airlines in the region. While most airlines globally are seeking to cut costs and rationalise loss-making routes, several of the region's carriers have been on spending sprees. Etihad Airways, based in Abu Dhabi, has placed what is potentially the world's largest commercial aviation engine order. Under the deal, GE Aviation, Rolls-Royce, Engine Alliance and International Aero Engines will provide more than 250 engines. Including maintenance contracts, this firm order is rumoured to be worth US$7 billion (Dh25.69bn), which could be increased to more than $14bn if options and purchase rights are exercised. The engines have been ordered for the 100 aircraft that Etihad ordered last year. Engine orders have also been placed by Bahrain's Gulf Air, which has awarded Rolls-Royce a contract worth $1.5bn. Not to be left behind by its neighbours, Qatar Airways also signalled that it was not feeling the recessionary pinch by ordering 20 Airbus A320s and confirming orders for four A321s at a cost of $1.9bn. The airline followed up by signing on for V2500 SelectOne engines from International Aero Engines to power the planes, at a cost of $700 million. Qatar Airways also used the Paris Air Show as an opportunity to announce it will be increasing flights to Paris and Turkey, adding routes to Melbourne, Sydney, Amritsar and Goa, and launching a corporate jet company, Qatar Executive. Together with reports that the airline has put in place plans to allow it to move swiftly into the budget airline sector if the need arises, these moves suggest that Qatar Airways has aspirations to offer services across the aviation spectrum. While Emirates Airline did not announce any deals in Paris, other Dubai aviation companies are still investing. DAE Capital, the aircraft leasing financial business arm of Dubai Aerospace Enterprise, has secured a $450m loan from Citibank to fund the purchase of nine Boeing aircraft. The new kid on the block, flydubai, is also continuing to grow, having added its fifth route, with others likely to follow. Another operator, Kingfisher Airlines, has started operating out of Dubai this month with flights to India. Just as Etihad is building its fleet, Mubadala Development, the investment arm of the Abu Dhabi Government, is driving the expansion of the aviation support industry in the capital. It is due to start work on a factory to produce composite parts for aircraft in the UAE. The project will mainly produce lightweight composite parts and is due to become operational next year. While the new factory will produce parts, Mubadala has aspirations to build commercial aircraft in Abu Dhabi within eight years. The Paris Air Show also gave Abu Dhabi Airports Company an opportunity to discuss expanding the number of airlines operating out of Abu Dhabi, with four South East Asian and European airlines reportedly interested in launching flights. This is in addition to recent agreements that have been signed with Sudan and Turkmenistan to link Abu Dhabi with the two countries. There are an enormous amount of aircraft to be delivered into the Middle East over the next five years. These contracts, the high number of deliveries and the expansion plans at many regional airports demonstrate how important the aviation industry is to the Middle East - and more significantly, how important the Middle East is to the aviation industry. The past 18 months have been tough for airlines. They have experienced historically high oil prices, followed by the catastrophic collapse of financial markets. But for the right airlines, including many of those in the Middle East, we are starting to see liquidity return to the market. Airlines have also shown they are happy to adapt and more willing to look at structures that were perhaps seen as too complicated in a liquid market. Why complicate a structure and increase transaction costs when banks are falling over themselves to give you cheap credit? In particular, we are starting to see the emergence of Islamic finance as an alternative fund-raising tool. This should not come as a surprise because leasing is a well understood financing technique in the aviation industry. Given that most aviation Islamic finance structures are based around an Islamic lease (ijara), the transition for airlines from conventional finance into Islamic finance is relatively painless. Local financiers have also played their part. Denton Wilde Sapte has recently assisted Abu Dhabi National Leasing, a wholly owned subsidiary of the National Bank of Abu Dhabi, in closing a highly structured pre- and post-delivery lease finance facility for 18 aircraft for Falcon Aviation Service. The facility gives Falcon access to funding while the aircraft are being built. The structure contains a number of novel features and demonstrates that not only are UAE financiers willing to participate in aviation finance, they are actually at the forefront of developing innovative structures. The UAE has also taken legislative steps to make aircraft financing more attractive to financiers by incorporating the 2001 Cape Town Convention and its Aircraft Equipment Protocol into federal law. The rationale is to reduce the cost of aircraft financing. The Cape Town Convention has two main features. First, it is designed to make it quicker, cheaper, easier and more certain for financiers to repossess aircraft and engines on an insolvency or other default of an airline. Second, it allows financiers and other transaction parties to protect their security and ownership interests in aircraft and engines by registering those interests at a universally searchable online registry of "international interests" in aircraft and engines. Both of these features are attractive to financiers. Paul Jarvis is an aviation finance partner at Denton Wilde Sapte