Signs are evident in politics and trade negotiations that economic and geopolitical rivalries are creating global uncertainties. Avoiding turbulent weather is a combination of art and science. With cues from weather charts, radar returns, and real time reports from other aircraft, Pilots are trained to avoid thunderstorms and slow to ‘turbulence penetration speed’ to avoid airframe damage when unexpected turbulence is encountered.
International Relations Affect Demand
A reversal of ‘globalization’ is leading to slower growth. Both Air and Rail operators face growing freight traffic demand disruptions due to China, Brexit, and continuing Middle East (Iranian) tensions. The impact was evident at this year’s Paris Air Show where there was a decrease in orders and commitments. Boeing received a 200 plane letter of intent from International Airlines Group which included the 737 Max 8, (which still remains grounded) and the larger 737 Max 10. American Airlines agreed to buy 50 long-range single aisle jets from Airbus (A321XLR) with delivery starting in 2023. Overall Airbus managed to secure 410 orders, Boeing 283. With demand growth for air travel averaging 6.7% during the past five years Boeing’s current commercial outlook forecasts new airplane demand to top 44,000 deliveries through 2038 driven by lower air fares, higher living standards and a growing middle class in China and India. Both Airbus and Boeing agree long-term demand for jets remains healthy.
‘Precision Scheduled Railroading’ and the decrease in general freight and intermodal loadings are impacting rail equipment lease rates and asset values. Brent crude and jet fuel are trending upward as prices remain under pressure from fears of a supply disruption amid heightened tensions in the Middle East. The U.S. Energy Information Administration (EIA) estimates U.S. oil output will average 12.1 million barrels a day this year, up 1.2 million barrels a day from an average of 10.9 million barrels a day in 2018. While shale crude production continues to drive current tank car demand, there are concerns. As the industry matures and more pipelines are brought online tank car demand is likely to moderate.
Long Term Endeavors
Financing and managing aviation and rail transportation assets is a long term endeavor. Both Aircraft and Rail Equipment are durable and can remain in service until the cost to maintain exceeds the revenue the markets offer. Railcars are scrapped because they are in poor physical condition and repair or modifications are not economic. For aircraft the decision is driven by flight hours, pressurization cycles and the availability and pricing of newer units which save operating cost through lower fuel consumption, and improved range and payload.
Midyear market concerns? Some are unmistakable. China, populism, demographics, technology, climate change. For financial markets, a flatter curve is thought to be troubling for future market performance and a stronger dollar makes it harder to export U.S. products. In the current environment equipment specific knowledge increases the opportunity to intelligently unlock portfolio values. Call RESIDCO.
In an environment where uncertainty is commonplace, investment in transportation equipment is often driven by residual value estimates as lenders and lessors compete for market share. Many factors influence the future value of equipment. Most are not very predictable. All require an active aftermarket for the asset under consideration. Physical factors include wear and tear and useful life estimates. Technical factors impact value when newer (more efficient) designs appear causing demand factors to change. Regulatory factors occur from time to time as government imposes new requirements. The FAA’s current review of the 737 Max MCAS and safety procedures for earlier 737 models is an example. Additional flight crew training is expected (even on the 737NG models) including emergency procedures, maintenance training, and an evaluation of pilot response times. Macroeconomics, tax regimes, and global trade impact pricing. In both expanding and contracting markets, investors and their advisors track the behavior of sale prices purchased new, when returned from lease and sold into the secondary market, and similarly track lease rates for short, mid, and longer term leases. In these different environments releasing at lease end, prior to sale, adds value and reduces investment risk.
Residual valuation estimates future equipment value by establishing a relationship between the historical price of equipment and the most appropriate relevant factors. It is particularly useful when making long term investment decisions for both aviation or rail assets. Once you identify factor relationships you have access to a wide body of knowledge about basic economic variables such as GDP, interest rates, commodity pricing, and the impact of international politics on global trade. This is important simply because there are more experts with reasoned views on these topics than there are on the future pricing of air and rail assets.
A key component in this process involves estimating correlation between the various factors. Estimates of value are described in terms of a distribution rather than a point estimate. Standard deviation is a measure of risk and variability of returns. The higher the standard deviation, the higher the ‘riskiness’ of an investment. In simple terms, the standard deviation measures how much variance exists around the average. The coefficient of variation is useful in determining which investments have more relative risk when investments have different average returns. The coefficient of variation tells us the probability of experiencing a return close to the ‘average’ return. The higher the coefficient of variation, the riskier an investment per unit of return. Covariance is a measure of how price movements between investments are related to one another. Correlation is a scaled version of covariance that takes on values between -1 and +1. A correlation of +1 denotes that two assets are positively correlated. A correlation of zero denotes that assets are completely uncorrelated. A correlation of -1 denotes a perfectly negative correlation.
Investors are rational. Markets are efficient. Managing portfolio risk in an uncertain environment recognizes values can increase as well as decrease. Your tools should incorporate disciplined analysis combined with optimal use of available information. Uncertainty requires understanding there are factors which cannot be quantified.
Forethought, diligence, statistical analysis, confidence in equipment alternatives. Sound decision making in real time. Looking for Alpha? Call RESIDCO.
https://residco.com/wp-content/uploads/2019/06/Creating-Air-and-Rail-Portfolio-Alpha-RESIDCO.jpg596900residcohttps://residco.com/wp-content/uploads/2016/12/RESIDCO_Logo_225x72.pngresidco2019-06-05 08:45:562019-07-10 14:19:39Creating Air and Rail Portfolio Alpha
The Chinese government has deployed strategies that help its state owned companies acquire state-of-the-art technologies in order to break into global markets. By leveraging the country’s low labor cost China exports more than $2 Trillion of goods a year (in 2018 the U.S. imported over $419 billion more goods from China than it exported to China). The Chinese government ‘tolerates’ foreign organizations only if they bring value to the country. Local goals and culture will always act to circumscribe the freedom of foreign operations. It’s a ‘CHINA FIRST’ mentality. In the past, State owned enterprises, such as aerospace and defense conglomerates Aviation Industry Corporation of China (AVIC), Commercial Aircraft Corporation of China, Ltd. (COMAC), and rail rolling stock manufacturer CRRC were unable to compete technologically in Western markets. Multinationals who wanted access to the Chinese market were forced to form joint ventures with China’s state owned ‘national champions’ and transfer the latest technology in exchange for current and possible future business opportunities. It’s remarkable how aggressively China applied these policies, how many of its agencies are involved, how quickly and radically it changes the rules, how many unique technology and product standards it tries to impose, and how subtly its regulations violate the spirit, if not the letter of Western multilateral cooperation and agreements. Companies that resist are simply excluded. China’s goal is clear. To induce foreign organizations to transfer technologies that state-owned enterprises need to catch up with the West.
The result? China and the U.S. are structurally prone to economic conflict. Because of China’s history, economic and political system and Government policies, the country differs radically from the U.S. in its beliefs, expectations, and objectives. China regards the management of trade and investment flows as a legitimate path to global leadership. The U.S. believes otherwise. Attempts to connect these two very different systems have exposed and reinforced imbalances rather than brought equilibrium. Access to U.S. markets and technology has built the Chinese economy. Until now China has cajoled, co-opted, coerced, and taken Western technology with the intent of enabling it to supplant the U.S. as the world’s most advanced economy.
Together the U.S. and Chinese economies account for 40% of global GDP. The goal of tariffs (on both sides) is to apply pressure to exporters who will turn this ‘economic’ pressure into ‘political’ pressure. Tariffs are a short term approach that will cause traffic flows to change and prices to reset in the U.S., China and elsewhere. Long term a centrally planned economy has an invisible cost – government inefficiency. Without the profit motive there is no incentive to carve out niches, to differentiate products, to search for continual improvement in the production process, or to dream up new ideas. In the short run China’s approach has worked to advance its interests. But now conflicting national interests are working to overwhelm the benefits of cooperation. In the current environment of growing strategic competition, it would be useful to recognize we cannot expect an economically compatible relationship with China. Clarifying and understanding China’s strategy will brighten the lines we simply should not allow China to continue to cross.
Similarly, investment management demands a clear understanding of goals and objectives. In Air and Rail, play the long game. Call RESIDCO.
https://residco.com/wp-content/uploads/2019/05/China-Trade-Conflict-A-New-Normal-RESIDCO.jpg600900residcohttps://residco.com/wp-content/uploads/2016/12/RESIDCO_Logo_225x72.pngresidco2019-05-31 10:36:412019-05-31 15:36:42China Trade Conflict – A New Normal
Transportation equipment investment serves as an engine for economic development and job creation. It enables people and goods to access markets and services more efficiently and ‘induces’ demand growth. Available, reliable, and competitively priced alternatives allow business and consumers to shift their focus to business development and new consumption. Infrastructure investment works in a similar manner. It can be private (e.g. Rail right of way) or public (Government spending supported with user fees, e.g. Highway, Air and Water ports, Inland and Coastal Waterways). This investment directly impacts the economy by enabling efficient movement of goods on highways, railways, and through air and maritime ports. Significant spending is planned. Properly managed, it can work to create jobs and demand for the movement of raw material. Such investment can maintain or expand existing capacity or develop completely new solutions. Changes in global economies are shifting economic conditions and impacting demand. An infrastructure spending package and a successful China trade agreement will act to continue U.S. economic growth.
Precision Scheduled Railroading (‘PSR’) and ‘congestion pricing’ are working to further facilitate traffic. Major North American railroads are at various stages of implementing the PSR operating philosophy which is designed to improve rail efficiency by doing more with fewer resources. This solution suggests flat demand for new rail equipment. Overall U.S. rail traffic has softened on a year to date basis (down 1.8%: carloads down 2.8%, intermodal down .8%), but the AAR has reported rail traffic ‘significantly’ improved in April over March. Will it continue? Improving traffic would be consistent with early 2019 FTR freight-rail traffic growth projections, including new car deliveries jumping to 60,000 cars. Advance estimates of first quarter U.S. GDP growth have been reported to have increased at an annual rate of 3.2%, much stronger than anticipated.
Official statistics have at times been misleading or politically motivated. Economics and finance can be subjective as the Fed has demonstrated by leaving interest rates alone. But hard asset investors understand what the Fed is doing. By maintaining liquidity the Fed is driving asset investors to acquire assets with the specific purpose of maintaining and pushing pricing up.
History demonstrates public policy makers have consistently struggled to efficiently deliver long term economic and social benefits. Investment solutions may come and go but ‘Government funded’ infrastructure investment is best if privately managed. A disciplined approach based on robust research and implementation is the most reliable path. Profitable economic growth, improved transport efficiency, and jobs are created by private investors. The current low interest rate, low inflation, and growth environment, if maintained, will act to continue to drive investment in transportation assets and infrastructure improvement. Where are the ‘right’ deals? Commercial Air and Rail equipment. For smart investment management call RESIDCO.
Total carloads were down 8.9% in March while carloads for the first quarter were down 3.1%. Year-to-date coal is down 8.1%, grain down 5.2%, chemicals down 1.2%, and intermodal down 1.8%. Excluding coal and grain U.S. carloads were down 2.8% in March 2019 (from March 2018). The U.S. Energy Information Administration (EIA) reported 12.9 gigawatts of coal-fired utility scale electricity generating capacity was retired in 2018 (Texas, Ohio, Florida, and Wisconsin). Grain traffic has softened, but China imported 180.8 million bushels of soybeans in March, up 10.5% from their February totals. Much of that grain was sourced from the U.S. and Brazil (China is the world’s No. 1 soybean importer).
With softening traffic and with the Roads focused on improving network operations, equipment and locomotives are being taken out of service. Fewer, longer trains are running in scheduled service. Customer loads are spending less time in classification yards. Less congestion improves on-time delivery and less equipment improves operating ratios and shareholder value. If ‘economic uncertainties’ continue and if the Roads are successful in implementing ‘scheduled’ railroading, expect an overall reduced demand for equipment. Yet cars in storage have remained essentially unchanged from a year ago. There were 313,456 cars in storage this April 1 compared to 315,188 railcars in storage a year ago(approximately 19% of the total fleet).
Why? Shippers still demand equipment be available to respond to changing market conditions in their markets. In order to ensure equipment is available for loads when needed Shippers will adjust by increasing investment in railcars. Rail Portfolio Managers will assist by maintaining their focus on keeping existing fleets in service.
With the global economy weakening and the Trump Administration and China locked in trade negotiations many analysts were concerned growth was stalling. The Fed’s reaction was to leave interest rates alone as inflation is near their 2% goal. The Wall Street Journal forecasts the probability of a recession at 25% in the next 12 months, rising to 49% in 2020. But the purchasing manager index doesn’t indicate any current signs of contraction (having risen to 55.3 in March from 54.2 in February). Job growth rebounded last month after a February slowdown. Unemployment is historically low. While traffic has been affected by trade disputes, slower growth in Europe, and weaker consumer spending, most analysts predict continued moderate growth during 2019. Economic uncertainties?
A recession does not appear on the horizon and the U.S. economy remains resilient in its 10th year of expansion. Softening traffic, stored equipment, improving network operations, Shipper demands, and the need to keep equipment in service will change how the Industry manages investment. Returns accrue to those with experience, diligence and integrity.
Successful portfolio management is a difficult thing to imitate. For air and rail alternatives call RESIDCO.
Until Hunter Harrison, there was a lack of focus on how efficiently rail assets could be employed. Customers demanded service and the railroads invested. More equipment was better. The result was a consistent inability of the roads to cover their cost of capital. Herb Kelleher founded Southwest Airlines as a low cost no-frills regional. It first took off in 1971 and changed the nature of air transportation for millions of Americans. Both Hunter and Herb focused on transforming operations. Hunter’s message? Here’s what really matters: “Precision Scheduled Railroading”. Sales and customer service focus on driving top line growth while operations and investment measures focus on asset turnover and margin improvement (e.g. lowering the ‘operating ratio’ for railroads). In both the Air and Rail industry the challenge is to design, invest in, and manage network capacity so that it best meets customer demands while managing pricing, maximizing profitability, and meeting society’s goals. As Matt Rose, the retiring Executive Chairman of the BNSF recently stated, “It’s a three legged stool”. Customers, Capital, People (and politics).
What’s the key metric? Return on invested capital (ROIC) is the one metric that captures both operating margins as well as the capital required to generate it. It tells us how much a firm earns for each dollar invested. When ROIC is greater than your weighted average cost of capital you are creating “investment” value. Identifying the components of ROIC and acting on those components is what creates value. But ROIC is a Wall Street investment analyst measure and discussions are generally confined to finance departments. The genius of both Hunter and Herb is that they understood the components of ROIC. They inspired, motivated, and challenged their people to focus on constantly improving performance. Net operating profit after tax (‘NOPAT’) as a percent of Invested Capital is used to generate ROIC. The main components of invested capital include equipment, spare parts inventory, operational facilities, and the ‘working’ capital needed to run operations. But the formula doesn’t identify how to influence the value drivers. The ‘DuPont’ analysis disaggregates ROIC into its key parts: return on sales (NOPAT/Sales) and asset turnover, or capital productivity (Sales/invested capital). Both return on sales and capital productivity measures can be further broken down. It’s these components that managers must act upon. Understanding this allows operations to identify the causes of differences in performance over time and among competitors. Activities can then be designed to increase both return on sales and capital productivity, thus maximizing value. Strategies that improve capital asset productivity are the focus of precision scheduling railroading. Eliminating excess equipment from the system and increasing the productivity of remaining equipment. For Southwest Airlines it’s a commitment to their people and to operating a single type of plane (the Boeing 737). The other component of capital productivity is sales. So, finding ways to expand offerings that drive revenue growth using existing equipment is key.
The BNSF’s focus is on long term investment results. Charlie Munger, Buffet’s right-hand man, says “We don’t have to make the last dollar”. And, as Southwest’s Herb Kelleher once said, “We have a strategic plan. It’s called doing things.” With a focus on the mechanics of Air and Rail equipment finance, industry conditions, competition, customers, investment returns required to deliver capacity, and the people and politics of service delivery, we’ve designed a platform for sustainable Aviation and Rail investment. If you are interested, call us. Call RESIDCO.
“The Chinese use two brush strokes to write the word ‘crisis.’ One brush stroke stands for danger, the other for opportunity. In a crisis be aware of the danger but recognize the opportunity.” – John F. Kennedy
2019 will create opportunities for those who are prepared. The reasons? Politics, the continued strength of the U.S. economy, and the economic challenges facing Europe and China.
China’s Economic State
In China, the economy is slowing. It’s burdened by excessive debt and dependent on government subsidies. Recognizing its low labor cost advantage, China has advanced its country interests by forced transfer of intellectual property so that products can be manufactured in China without the need to pay research and development cost. The result? Firms (and countries) that initially designed products can be out-priced and killed off. If you can see the future, you’ll recognize that Trump’s 90-day reprieve from increased U.S. tariffs (which expires March 1) is not likely to change the Chinese Communist Party’s basic industrial policy. In Europe, economies are slowing, and the United Kingdom faces a March 29 deadline to officially exit the European Union.
Transportation Investment Landscape
Since both aviation and rail transport assets are long term investments, it’s best to gather and analyze information that is available about trends taking place, and then adjust your investment tactics based on current investor behavior playing out around you. The Aviation and Rail investment markets are competitive. FlightAscend has identified 100 new names that have entered the commercial aircraft operating lease sector over the past 10 years. The competition has pushed lease rate factors on some deals to sub-0.5 levels with relaxed maintenance reserves and less stringent return requirements. Airline operators are pushing for shorter lease terms due to ASC 842 and IFRS 16. Sale-leaseback financing valuing aircraft at more than original airline capital cost is being supported by aggressive residual value estimates (on NEO and MAX aircraft).
The landscape for transportation investment has always been non-linear, turbulent, and in a state of flux. If you accept that the industry cycle has peaked and is heading on a slow downward trajectory, you’ll see today’s environment as providing a greater opportunity for value acquisitions. Strategy is done above the shoulders (tactics below) and a challenging market reduces competition. Interest rates, crude oil, and labor cost all affect the psychology of the market and influence the availability of capital and level of risk-adjusted returns available. Strategy recognizes the structural risks of financial and operating leverage which magnify the impact on profits of rising and falling revenues. The aviation industry is global (and its hard dollar assets are liquid). Since no one knows what the macro future holds, successful secondary market transport investment is created by developing opportunities that create current value. Superior investment results do not require the purchase of newly built equipment. Rather they come from buying existing equipment when the deal is good, the price low, the potential substantial, and the downside limited.
Value investing. For insight, experience, and confidence in judgment, call RESIDCO.
https://residco.com/wp-content/uploads/2019/03/RESIDCO-ValueInvestingInATurbulentMarket.jpg599899residcohttps://residco.com/wp-content/uploads/2016/12/RESIDCO_Logo_225x72.pngresidco2019-03-05 16:10:542019-07-10 14:58:28Value Investing in a Turbulent Market
Transportation asset finance is a growth business. Both the Aviation and Rail markets are healthy and long term investment trends remain favorable. With recent market volatility comes higher ranges of uncertainty. While investment risk may or may not increase over time, uncertainty grows at the square root of time. The more time, the harder it becomes to predict the future. The investment models you choose provide investment decision support. But the investment decision itself is a marriage between the decision model results and your level of personal experience. What drives the flow of capital into transportation investment alternatives?
What are the strategic alternatives? What contributes to value? What are you expecting? Traditional tools include income, cost, tax benefits, and market value analysis. Upside is an ally to be capitalized on while downside exposure should be limited. The future value of aircraft, aircraft engines, railroad rolling stock, their condition, and remarketability are a critical component of investment returns. Estimates of the future value of aircraft and railroad rolling stock can be described in terms of a distribution at any point during the investment term. Recognize that inflation will increase the price you can sell equipment for in the future. Inflation’s effects are fairly powerful. A 2.5% inflation rate over 20 years increases prices 64%, a 3% rate over the same period increase price 81%. It’s your risk tolerance that affects the future value you are willing to incorporate in your investment return calculations.
But risk also exists during the term of any lease and every lessor expects some percentage of its lessees will default. Supporting that investment is your transaction structure. Equipment values act as a backstop. Many things can happen while equipment is in the hands of a lessee; physical wear and tear, mandated regulatory changes, technological improvements, the price of market inputs (fuel, steel, monetary policy [credit]), and the stage of an ever-changing business cycle.
How the Economy Affects Company Decisions
The U.S. economy grew 2.9% last year (2.6% in the fourth quarter) driven by deregulation and tax reform efforts. The Federal Reserve predicts 2.3% growth for 2019. Recent months have brought crosscurrents and conflicting signals. Issues on the horizon include weaker growth in China and Europe, the Politics of trade negotiations, and the impact of the U.K.’s decision to leave the European Union. Reality is multidimensional and dynamic.
Examples? The three major U.S. Air Carriers are negotiating pilot contracts this year. Wages and scope clauses are on the table. Frontier Airline pilots recently overwhelmingly approved a new contract with a 53% pay increase. NetJets Pilot’s union signed an interim agreement that improved compensation for both long-term and new-hire pilots. The Rails are focused on improving operating ratios using Hunter Harrison’s precision scheduled railroading principles in order to better manage investment. Airlines and Class One Railroads are capital intensive businesses, tying up significant amounts of capital in their equipment and facilities. Both industries are using the current upcycle to strengthen their financial position as they prepare for a choppier environment.
To navigate successfully you’ll need access to market intelligence, relationships, technology and the practical experience gained from real life lessons. Call RESIDCO.
There is plenty of good news for the U.S. economy. The Fed maintains the economy is growing at a “solid rate” and inflation is near its 2% target. GDP growth for 2019 is forecast to remain over 2%. As the Fed pauses interest rate hikes, the era of central bank intervention in the markets is coming to an end. The current economic expansion now is expected to continue past June, becoming the longest expansionary period on record. Yet consumer confidence dropped in January for the third consecutive month. Are we coming to the end of the cycle, or was it simply the negative politics of the recent partial government shutdown?
Companies in the U.S. are reporting stronger results than those with overseas exposure. U.S. Railroads certainly don’t see a slowdown. Fourth-quarter 2018 freight car orders, deliveries, and backlogs present a long term sustainable market for the rail car builders. At 80,233 railcars, backlogs are at their highest level since the 2nd quarter of 2016 and new order positions extend out to 2020. While rail traffic for the full year 2018 was mixed, fundamentals support continuing traffic growth. Shipments of grain, petroleum products, intermodal, and the general merchandise business are offsetting worries over trade, politics, and a volatile stock market. Improvements in operating ratios continue as the Class Ones embrace precision scheduled railroading which focuses on uniform and scheduled train operations that minimize required assets and cost. Add a shortage of over the road truck capacity which has driven up truck rates, and the result is more traffic diverted to the railways, allowing higher carload pricing.
Similarly, since 2008 the global aviation industry has enjoyed a long period of expansion. With more airline passengers globally, the demand for aircraft has surged. Boeing and Airbus have seven to ten-year backlogs. Despite arguments over whether we have passed the peak of the cycle, aircraft investment remains driven by changes in GDP. And global air traffic in RPK’s (revenue passenger kilometers) continues to grow at rates in excess of the forecast long-term average of 5%. This is fueled by the growth of the global middle class – particularly in Asia. In addition, load factors are at record levels. Even with current jet fuel pricing, air travel remains a cyclical industry facing cost pressures due to a long-term shortage of pilots and mechanics. As builders introduce new aircraft models, older units appear to be depreciating at a faster pace. Yet delivery delays for new aircraft combined with lower fuel pricing and rising load factors have increased ‘midlife’ aircraft values and the level of trading activity in secondary markets.
Looking at the Future
Where are we in the business cycle? Macroeconomic factors impacting global economic growth include trade, geopolitical uncertainties, and individual country fiscal and monetary action. Growth and trade policy are deeply integrated. For example, if the President and Chinese leader Xi Jinping reach an understanding with respect to trade and tariffs the result would be immediate and favorable. Equipment leasing generates streams of cash, and for transportation equipment investors, the key lies in assessing the needs of their user base. Whatever your investment horizon, get the odds on your side by leveraging insider knowledge of transportation user needs, and future equipment values. The first step is to decide where you are, then decide how you will deal with the future. Paying heed to the cycle pays off.
https://residco.com/wp-content/uploads/2019/02/Plane_Takes_Off.jpg583875residcohttps://residco.com/wp-content/uploads/2016/12/RESIDCO_Logo_225x72.pngresidco2019-02-05 19:01:052019-02-06 15:13:06Headwinds or Tailwinds?
Investment analysis and business implications? US public companies will now be reporting under the new leasing standard (ASC 842) for fiscal years, and interim periods within those fiscal years, which took effect on Dec. 15, 2018. For calendar year-end public companies that means an adoption date of Jan. 1, 2019. Comparative prior year financial statements may need to be adjusted depending on the transition method applied (private entities have an additional year to comply).
The standard requires tracking new and existing leases entered into after the effective date, including existing leases that have pricing or contractual changes that might lead to modifications and reassessments. It also includes a variety of other lease transactions such as leased assets that reach end of term, are renewed, terminated or purchased, new subleases, sale-leaseback transactions, and embedded leases contained in outsourcing and service contracts. That’s a lot.
Measuring the Impact of ASC 842
How will U.S. airline and rail lessee balance sheets look after compliance? PWC estimates the new standard will impact at least 20 industries from retail to utilities. After retail, the second biggest impact will be on airlines. With almost 40% of world aircraft leased, average balance sheet footings for air carriers are expected to increase 47% as ‘right of use’ assets and related lease liabilities are added.
And since U.S. GAAP and International standards are not completely ‘converged’ dual reporting organizations will need to maintain different reporting systems! Over time that will lead to different balance sheet and income statement impacts. For operating lease income statement purposes, U.S. GAAP rent expense will continue to be recognized on a straight-line basis. IFRS front loads the expense recognition by replacing rent with depreciation and interest.
Will these reporting changes impact the analysis, or the economics of the ‘lease vs. buy decision’? Perhaps not. Leasing is and will remain, an important equipment financing alternative. It allows access to necessary assets, simplifies the disposal of used property, and reduces a lessee’s exposure to the risks inherent in asset ownership. Although an operating lease will now be ‘capitalized’, the capitalized dollar amount will be lower than if the asset was purchased. The Tax Cuts and Jobs Act further impacts lease analysis by limiting interest deductibility while allowing unrestricted ‘rent’ deductibility and 100% bonus depreciation. ASC 842 makes relatively few changes to existing lessor accounting rules other than the elimination of leveraged lease accounting.
For aircraft and railcar lessees, recognizing lease-related assets and liabilities on the balance sheet requires the development and maintenance of internal systems that support reporting and ultimately the business implications of the new standards. As 2019 unfolds, how will these changes affect portfolio investment, equipment values, and investment analysis?
https://residco.com/wp-content/uploads/2019/01/RESIDCO-NewLeaseStandard.jpg540800residcohttps://residco.com/wp-content/uploads/2016/12/RESIDCO_Logo_225x72.pngresidco2019-01-03 12:00:162019-01-03 18:35:09Wake Up its 2019: Leasing's Effective Date has Arrived
RESIDCO’s size and wholesale capability is a competitive advantage. It can respond quickly and flexibly to ever changing market conditions.
Precision Scheduled Railroading’s Various Effects The S&P 500 posted its best first half in 22 years. US Job openings outnumber the unemployed by widest gap ever. The U.S. economy continues to expand (2.1% in the Second Quarter). Yet U.S. Domestic rail freight volumes are down. Chinese challenges to the Western Global Trading System certainly are […]
Signs are evident in politics and trade negotiations that economic and geopolitical rivalries are creating global uncertainties. Avoiding turbulent weather is a combination of art and science. With cues from weather charts, radar returns, and real time reports from other aircraft, Pilots are trained to avoid thunderstorms and slow to ‘turbulence penetration speed’ to avoid […]
In an environment where uncertainty is commonplace, investment in transportation equipment is often driven by residual value estimates as lenders and lessors compete for market share. Many factors influence the future value of equipment. Most are not very predictable. All require an active aftermarket for the asset under consideration. Physical factors include wear and tear […]