Rating action

Scope Ratings GmbH (Scope) has today downgraded the rating on the notes issued by PR Aircraft Finance S.A. – Compartment 1 from BB- to B+ and has subsequently withdrawn the rating.

Rating rationale

The one-notch downgrade to B+ from BB- results from the correction of an input error in the modelling during the previous rating action. Scope had previously underestimated the default probability assumption of a risk presenter in one of the underlying transactions. The correction of the error had negative impact on the calculated expected loss of the portfolio. Scope has modelled the portfolio consisting of 15 transactions and 17 loans and updated calculation is commensurate with a B rating. Scope maintains the one-notch qualitative uplift over the quantitative outcome based on Investec’s strong alignment of incentives, capabilities and asset management experience which are reflected in the robust portfolio performance in the context of the most severe crisis in the history of aviation.

The strength of the recovery in the airline industry is evolving and varying across regions and segments. The further course of the recovery depends on the course of the Covid19 pandemic and the political decisions that follow from it and the further development of the currently deteriorating economic outlook. While many of the underlying transactions have seen improvements due to a recovery in aircraft market values and the probabilities of default of risk presenters, this has not led to an improvement in the rating result.

The rating is currently constrained by two transactions undergoing restructuring, which contribute significantly to the expected loss of the portfolio.

Key rating drivers

Alignment of incentives (positive). The fund’s performance is aligned strongly with the incentives of Investec.

Asset quality (positive). The loans benefit from a solid security package on high-quality collateral. The underlying aircraft are generally recent models, characterised by strong demand and are quick to remarket.

Two transactions undergoing restructuring (negative). Two transactions that are currently undergoing restructuring contribute significantly to the expected loss of the portfolio.

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

Rating-change drivers

The rating could be positively affected if the exposure to facilities with weaker credit quality is reduced. The risk is partially mitigated through the well-diversified portfolio.

The rating could be positively affected if the credit quality of the airlines or the underlying aircraft values were to improve.

The rating could be negatively affected as a result of the aircraft value risk prompted by the deterioration of the global economy. Aircraft market values would decrease if several airlines were to default, as this would increase the supply of aircraft in the open market. This would create the risk of lower recoveries. The risk is partially mitigated through PR Aircraft’s well-diversified portfolio of aircraft from several different manufacturers.

The rating could be negatively affected if the airlines’ probability of default increased, an aspect to which the portfolio is particularly sensitive. An increased credit risk of airline counterparties would also increase PR Aircraft’s credit risk. The risk is partially mitigated through the well-diversified portfolio of many airlines from several regions.

Quantitative analysis and assumptions

Scope analysed the contributions to total expected loss from each of the underlying assets.

Scope’s loan-by-loan analysis is based on information from September 2022 and suggests that the portfolio’s assets are below investment grade quality on average.

Scope assessed the portfolio’s credit quality by producing private ratings or credit estimates on loans with a significant concentration. 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 guarantors. 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 day-one 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 day-one values after incorporating maintenance reserve payments (when available and sufficient). Scope also considered shorter remarketing times for lessors with above-average quality.

Sensitivity analysis

Aircraft value stress

Increasing the day-one and year-on-year stresses by 25% leads to a one-notch downgrade.

Remarketing time assumption

An increased remarketing time by 12 months would lead to a one-notch downgrade.

Risk presenter’s credit quality

A one-category decrease in the risk presenters credit qualities would lead to a two-notch downgrade of the rating.

Stress testing
Stress testing was performed by applying Credit-Rating-adjusted recovery rate assumptions.

Cash flow analysis
No cash flow analysis was performed.

Methodology
The methodologies used for this Credit Rating, (Aviation Finance Rating Methodology, 5 July 2022; General Structured Finance Rating Methodology,17 December 2021), are available on https://scoperatings.com/governance-and-policies/rating-governance/methodologies.
The model used for this Credit Rating is (Aviation Finance EL version 1.2), available in Scope Ratings’ list of models, published under https://scoperatings.com/governance-and-policies/rating-governance/methodologies.
Information on the meaning of each Credit Rating category, including definitions of default, recoveries, Outlooks and Under Review, can be viewed in ‘Rating Definitions – Credit Ratings, Ancillary and Other Services’, published on https://www.scoperatings.com/governance-and-policies/rating-governance/definitions-and-scales. Historical default rates of the entities rated by Scope Ratings can be viewed in the Credit Rating performance report at https://scoperatings.com/governance-and-policies/regulatory/eu-regulation. Also refer to the central platform (CEREP) of the European Securities and Markets Authority (ESMA): http://cerep.esma.europa.eu/cerep-web/statistics/defaults.xhtml. A comprehensive clarification of Scope Ratings’ definitions of default and Credit Rating notations can be found at https://www.scoperatings.com/governance-and-policies/rating-governance/definitions-and-scales. Guidance and information on how environmental, social or governance factors (ESG factors) are incorporated into the Credit Rating can be found in the respective sections of the methodologies or guidance documents provided on https://scoperatings.com/governance-and-policies/rating-governance/methodologies.

Solicitation, key sources and quality of information
The Rated Entity or its Related Third Parties participated in the Credit Rating process.
The following substantially material sources of information were used to prepare the Credit Rating: public domain, the Rated Entities’ Related Third Parties, third parties and Scope Ratings’ internal sources.
Scope Ratings considers the quality of information available to Scope Ratings on the Rated Entity or instrument to be satisfactory. The information and data supporting the Credit Rating originate from sources Scope Ratings considers to be reliable and accurate. Scope Ratings does not, however, independently verify the reliability and accuracy of the information and data.
Scope Ratings has performed its own analysis of the data quality, based on information received from the Rated Entity or Related Third Parties, which is not and should be not deemed equivalent to the performance of due diligence or an audit. The external due diligence internal analysis was considered when preparing the Credit Rating and it has no impact on the Credit Rating.
Prior to the issuance of the Credit Rating action, the Rated Entity was given the opportunity to review the Credit Rating and the principal grounds on which the Credit Rating is based. Following that review, the Credit Rating was not amended before being issued.

Regulatory disclosures
The Credit Rating is issued by Scope Ratings GmbH, Lennéstraße 5, D-10785 Berlin, Tel +49 30 27891-0. The Credit Rating is UK-endorsed.
Lead analyst: Christian Vogel, Director
Person responsible for approval of the Credit Rating: Torsten Schellscheidt, Managing Director
The Credit Rating was first released by Scope Ratings on 27 January 2017. The Credit Rating was last updated on 29 October 2021.

Potential conflicts
See www.scoperatings.com under Governance & Policies/EU Regulation/Disclosures for a list of potential conflicts of interest related to the issuance of Credit Ratings.

Conditions of use / exclusion of liability
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