1 Aircraft Leasing Firm Flying High

AerCap Holdings (NYSE:AER) may not be a company that rolls off the tip of your tongue or even be one you have ever heard about but it’s worth getting to know.

In simple terms, AerCap is in the business of leasing airplanes, which you can think of as being akin to a car rental company but for aircraft. 

The company owns a massive fleet of airplanes and then leases them to airliners globally. Whether you’re hopping on a flight for business or pleasure, the odds are pretty good that you’ll be on an AerCap-owned plane or one owned by their rivals.

AerCap’s business model works by buying planes from manufacturers like Boeing or Airbus and renting them to airlines, who pay an agreed upon fee to use them for a specific time period.

It’s a win for airlines because they don’t have to front the costs to purchase and maintain planes. Almost like a small business renting server space on Amazon AWS versus buying the servers themselves.

For AerCap, money is made from leasing fees and also subsequently selling planes at opportune times. The company can rely on a steady and predictable source of income from leasing fees which investors tend to appreciate.

So does all that translate to a good investment?

AerCap Flying High

One of the most attractive aspects of AerCap as an investment is its steadily growing top line that has risen from around $1 billion quarterly three years ago to close to $2 billion in the most recent quarter. 

But that’s not the best part. When you scan down the income statement you find the real gem of AerCap Holdings, its operating income, which is stellar.

Last quarter, for instance, AerCap reported $1.92 billion in revenues and dropped $958 million of that to operating income. That kind of efficiency isn’t even enjoyed by titans of technology like Microsoft or Apple.

When you combined that level of operating efficiency with a share price up just 5% for the year, it’s little wonder the company announced a $650 million share repurchase scheme last quarter.

Somewhat surprisingly, given the high operating income, AerCap doesn’t pay out any dividends, though, so income-seekers will need to look elsewhere for a regular stipend.

So is it all rainbows and sunshine up in the AerCap skies or does a cloud loom large on the horizon?

What Will Interest Rates Mean For AerCap?

As pristine as the profit-and-loss statement looks, it’s not matched by the company’s balance sheet.

You might expect a company posting such high operating income to grow its cash balance rapidly but that’s not the case at all. Over the past four quarters, cash has ranged from a low of $1.089 billion to a high of $1.597 billion with the most recent quarter coming in at $1.153 billion.

That level of cash doesn’t seem plush in light of the AerCap’s debt levels, which are astronomical. In fact, the company’s long-term debt sits at $46.2 billion.

On the one hand, it’s not surprising that such a capital intensive business has sky high debt but, regardless of that fact, it’s a genuine concern for investors when interest rates have moved so sharply against borrowers.

Causing further concern to shareholders is the company’s levered free cash flow that has turned negative in 3 of the past 4 quarters.

What’s To Like?

If the balance sheet offers reasons to be concerned, some solace can be found in the company’s Piotroski Score, which is a perfect 9.

So too the fact that net income is expected to grow this year is a positive. Add the high gross margins and share buyback and perhaps there is a recipe for AerCap to rise higher, which turns our attention to valuation.

Is AerCap stock undervalued? Analysts believe AerCap is 30.8% undervalued with fair value sitting at $80 per share. That’s the consensus among nine analysts covering the stock.

It should be emphasized that revenue growth has been slowing, though, so a cloud looms over profitability forecasts. Nonetheless that revenue is highly diversified because AerCap lease planes to more than 200 airlines in 80 countries so the risks of economic downturns in local geographies are mitigated. 

What You May Not Know

A point of confidence for AerCap investors is that management has a very strategic focus on the type of plane bought. The company doesn’t just own any type of plane, but rather it hones in on younger, fuel-efficient, and in-demand aircraft models like the Airbus A320neo and the Boeing 787 Dreamliner. Airlines tend to favor these types of planes, which means AerCap enjoys stronger bargaining power and higher lease rates.

Another interesting, but little-known fact, is management’s proficiency in buying and selling aircraft and engines based on market conditions, often achieving profitable sale-leaseback arrangements. The company’s dual revenue stream in leasing and asset sales provides an extra layer of financial security.

Another often overlooked aspect of AerCap’s model, in spite of its high debt level, is its track record of astute debt management, often retiring high-cost debt and refinancing at lower rates, which in turn positively impacts net margin and compounds profitability over time.

Wrap-Up

AerCap is somewhat of a mixed bag, offering on the one hand a predictable revenue stream that is highly diversified, and on the other a heavily indebted balance sheet that may in jeopardy should interest rates stay elevated for longer than forecast.

For investors on the hunt for a bargain, it does appear now that AerCap is undervalued to the tune of 30.8% according to the nine analysts covering the stock.

With that said, if you’re worried about the macroeconomic climate turning south, AerCap may tethered to a reduction in demand for air travel, both retail and corporate.

All in all, AerCap is an attractive stock to keep a close eye on, and consider carefully if the share buyback and macro conditions provide a tailwind.

---

The author has no position in any of the stocks mentioned. Financhill has a disclosure policy. This post may contain affiliate links or links from our sponsors.