Rating action

Scope Ratings has today affirmed its A- rating on the notes issued by PR Aircraft Finance S.A. – Compartment 1. Scope reviewed the rating on the notes issued by PR Aircraft Finance S.A. – Compartment 1 (PR Aircraft) as part of annual monitoring and following the addition of new assets to the portfolio.

The new loans added to the portfolio have confirmed the ramp-up strategy and marginally reduced the expected loss for investors, despite this reduction being immaterial for the rating.

The portfolio is well diversified across different aircraft types. Liquid aircraft with a proven secondary market makes up the largest portion of the portfolio.

The rating considers the portfolio’s credit quality as of November 2019, as well as potential minor shifts expected in the portfolio’s quality as the ramp-up phase continues. At present, the portfolio’s risk characteristics are better than those allowed by the investment criteria.

All loans in the portfolio are directly or indirectly secured by one or more aircraft and, in certain instances, direct recourse to a lessor.

Scope continuously monitors PR Aircraft Finance S.A. – Compartment 1.

Key rating drivers

Alignment of incentives (positive). The portfolio’s performance is closely aligned with the incentives of Investec, which retains sufficient interest in the transaction.

Excess spread (positive). The portfolio will generate excess spread above the coupon promised on the notes, which can buffer losses from loan defaults and, when trapped, will build hard credit enhancement.

Asset quality (positive). The loans benefit from a solid security package with high-quality collateral. The underlying aircraft are generally recent models, characterised by strong demand and short remarketing times. In addition, the relevance of higher-quality aircraft for fleets of certain obligors (fleet relevance) reduces the contracts’ probability of default (i.e. the affirmation of those contracts, rather than their rejection, benefits lenders upon restructuring in some jurisdictions).

Single-industry exposure (negative). The portfolio is solely exposed to the airline industry, which is inherently cyclical and highly sensitive to macroeconomic shocks. Scope reflects this in its analysis.

Airline direct lending (negative). Certain facilities in the portfolio do not feature the active involvement of a lessor or a bankruptcy-remote vehicle. An experienced lessor generally supports the efficient remarketing of aircraft upon a lessee’s default. A bankruptcy-remote vehicle could reduce repossession times in the event of default. This risk is partly mitigated by Investec’s solid ability and good track record in aviation finance.

Asset replenishment (negative). The revolving nature of the vehicle exposes investors to a long risk horizon, increasing the risk of the portfolio’s credit characteristics changing over time. This is partly mitigated by Investec’s experience and incentives in sourcing adequate investments.

Rating-change drivers

The rating could be positively affected if newly purchased assets have a better credit quality than the current average in the pool.

The rating could be negatively affected if the aviation industry undergoes a cycle of unexpected downturn volatility that is abnormal for the sector. Such volatility could be attributed to a global economic depression linked to unusually high oil prices, a change in state trade rules and regulations, or higher interest rates.

The rating could be negatively affected if newly purchased assets have a worse credit quality than the current average in the pool.

The rating could be negatively affected if Boeing aircraft experience a drop in values due to concerns about safety or related factors.

Cash flow analysis

Scope has not performed a cash flow analysis for this transaction. Scope analysed the contributions to total expected loss from each of the underlying assets and factored-in the loss-mitigating impact of excess spread available to investors and trapped in the reserve mechanism.

Scope’s loan-by-loan analysis is based on information from November 2019 and suggests that the portfolio’s assets are low investment grade quality on average. The structure of the vehicle enhances the credit quality of the notes to an A- rating thanks to excess spread and a sufficiently large liquidity reserve.

Scope assessed the portfolio’s credit quality by producing private ratings or credit estimates on loans with a significant concentration (i.e. more than 10% or 5% of the total exposure, respectively). Scope calculated the total expected loss on each loan by adding the probability-weighted loss-given-default for every period in the life of the loan. Total expected loss was benchmarked against Scope’s idealised expected loss curves, at a risk horizon equal to the expected weighted average life of the loan portfolio.

A loan’s probability of default relates to the credit quality of the underlying airline, the pool of airlines or guarantor. Scope also accounts for the underlying aircraft’s relevance in the airline fleet. If an aircraft is relevant and operating under certain jurisdictions, Scope expects a lower probability of default for a contract than the one implied by the airline’s credit quality. These contracts are likely to survive if an obligor can file for obligor protection.

A loan benefits from full recovery on any given period if the underlying aircraft’s stressed value can cover the outstanding loan exposure on that period. The recovery rate is driven by the leverage or loan-to-value at the time of the aircraft’s remarketing. This analysis considers the seniority of the defaulted loan and the corresponding market value of the aircraft at remarketing, net of costs.

Scope estimated the half-life value of the aircraft under market-value-decline assumptions specific to each aircraft type. Scope’s assumptions reflect worse-than-agreed return conditions for aircraft upon an obligor’s bankruptcy unless maintenance reserves are payable and pledged to the lender. Scope assumes that recoveries can reach half-life base values after incorporating maintenance reserve payments (when available and sufficient). Scope also considered shorter remarketing times for lessors with above-average quality

Sensitivity analysis

Scope tested the sensitivity of the rating against deviations from main modelling assumptions, including the credit quality of obligors and market-value-decline assumptions on aircraft. This analysis has the sole purpose of illustrating the sensitivity of the rating and is not indicative of expected or likely scenarios.

• The rating would decrease by one notch if the average obligor quality (airline, lessee or guarantor) decreased by one notch to B from B+.
   
• The rating would decrease by one notch if downside volatility increased by 10 percentage points.

Stress testing
No stress testing was performed.

Methodology
The primary methodology for the analysis of the aviation finance rating is the Aviation Finance Rating Methodology. The secondary methodology used is our General Structured Finance Rating Methodology for the analysis of the credit enchantments from the portfolio. The third methodology used is the Counterparty Risk in Structured Finance for analysis of counterparties in the transaction. All methodologies are available on www.scoperatings.com.
Historical default rates of the entities rated by Scope Ratings can be viewed in the rating performance report on https://www.scoperatings.com/#governance-and-policies/regulatory-ESMA. Please also refer to the central platform (CEREP) of the European Securities and Markets Authority (ESMA): http://cerep.esma.europa.eu/cerepweb/statistics/defaults.xhtml. A comprehensive clarification of Scope’s definition of default as well as definitions of rating notations can be found in Scope’s public credit rating methodologies on www.scoperatings.com.
The rating outlook indicates the most likely direction of the rating if the rating were to change within the next 12 to 18 months.

Solicitation, key sources and quality of information
The rated entity and/or its agents participated in the rating process.
The following substantially material sources of information were used to prepare the credit rating: the rated entity, public domain, the rated entities’ agents, third parties and Scope internal sources.
Scope considers the quality of information available to Scope on the rated entity or instrument to be satisfactory. The information and data supporting Scope’s ratings originate from sources Scope considers to be reliable and accurate. Scope does not, however, independently verify the reliability and accuracy of the information and data.
Scope Ratings GmbH has relied on a third-party asset due diligence/asset audit. The external due diligence/ asset audit has no negative impact on the credit rating.
Prior to the issuance of the rating or outlook action, the rated entity was given the opportunity to review the rating and/or outlook and the principal grounds on which the credit rating and/or outlook is based. Following that review, the rating was not amended before being issued.

Regulatory disclosures
This credit rating and/or rating outlook is issued by Scope Ratings GmbH.
Lead analyst Helene Spro, Director
Person responsible for approval of the rating: Carlos Terré, Managing Director
The ratings/outlooks were first released by Scope on 27 January 2017. The ratings/outlooks were last updated on 30 August 2019.

Potential conflicts
Please see www.scoperatings.com for a list of potential conflicts of interest related to the issuance of credit ratings.
Scope provided the following ancillary services to the rated entity and/or its agents within two years preceding this credit rating action: Rating Assessment Service

Conditions of use / exclusion of liability
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