The worldwide financial malaise that arose out of the subprime mortgage mess has finally infected business aviation. The industry initially appeared immune to the tightening of the credit markets, which seemed to encourage a "flight to quality" by lenders, straight to the nearest general aviation airport. Lenders should be delighted to finance the purchase of business jets, as the aircraft make excellent collateral and the buyers tend to have excellent credit.

And for a while, they were. But trends that we saw a few years ago have been reversed. Instead of "rate compression," caused by lenders fiercely competing for business jet finance business, we have rising interest rates and expanding spreads caused by the high cost of funds and a lack of available capital. Instead of aircraft buyers seeking out financing to avoid tying up capital, we have aircraft lenders eschewing aircraft financing to avoid doing the same thing. Instead of banks competing with each other to write aircraft loans, we have banks quietly sitting by, hoping no one will notice they don't especially want to do any deals.

The credit situation has become so bad at many institutions that they simply don't have funds to lend. "Balance sheet dollars are precious at many banks," said Key Equipment Finance's Bill Dougherty, "and the banks need to think how best to deploy them to maximize benefits for the shareholders." Some banks and other financial institutions that were formerly in voracious pursuit of business jet financings from whatever source have now shut the door to all but existing clients (so-called relationship-based financings), are focusing on overseas financings or are reportedly out of the business altogether.

Some banks that are nominally still lending for corporate aircraft deals are re-marketing most or all of those deals to other lenders, along with portions of their existing aircraft loan portfolios. The sale (or "syndication") by banks of their aircraft financings can have unattractive consequences for the borrowers. Generally, the bank writing the loan will continue to "bill and collect" the deal, and the sale of all or part of a financing may accordingly be nearly invisible to the borrower, at least until a problem arises. When the borrower has trouble making payments or complying with covenants or simply desires relief from a restriction in the loan documents, he may find that the financial institution calling the shots is entirely different from the one that originated the financing.

The selloff doesn't stop with syndications, however. Some institutions are unloading their entire portfolios of aircraft and other equipment finance deals. Almost the entire portfolio of Merrill Lynch Capital was acquired in early 2008 by GE Capital, which went on to purchase most of Citigroup's North American consumer leasing and equipment finance business last summer. Both of these deals included some business jet financings.

But the sale of portfolios is eclipsed by the sale of the institutions themselves. Merrill's portfolio sale was duly followed by the sale of Merrill Lynch. Wells Fargo swallowed Wachovia, which had been very active in aircraft financings. Speculation abounds about what additional banks may run out of money and require rescuing.

Not everybody is hurting, however. The corporate aircraft division at Wells Fargo-a bank that, as of this writing, retains a AAA credit rating from Standard & Poor's-is actively seeking to write business aircraft loans. According to Robert Lebano, the corporate aircraft sales division he heads up is actually expanding. "Wells Fargo has always maintained disciplined lending practices," Lebano said. "During the last couple of years, we chose to maintain this discipline, even if it meant losing deals. As a result, we're in a good position today. Also, relative to other lenders, our current market position is further strengthened by our competitive cost of funds."  Similarly, J.P. Morgan Chase, which had an epiphany and bailed out of the subprime mortgage business while the going was good, continues to have an active business aircraft finance group.

One key factor in determining whether an institution is still a viable aircraft financier is where the money comes from. There are basically three options. Banks can fund loans out of deposits (the famous "borrow at 3 and lend at 5" scenario); companies like Cessna can fund financings from other business income; and financial institutions can raise capital by issuing commercial paper. In the current environment, commercial paper is an expensive source of funds compared with bank deposits. This can give many regional banks, which fund primarily with deposits, a distinct advantage. Moreover, as noted by Mike Gaffney, a business aviation financial consultant at JetEquity Solutions, "regional banks, unlike many money-center banks, were not as injured by the subprime mortgage fiasco, and in many cases will become more competitive on spreads and yields than some traditional players in business aviation finance."       

Short Term or Long Term?
The credit crunch has also affected the kind of deals financial institutions look for. Some banks may shy away from leases, with their potentially mysterious residual assumptions. On the other hand, for institutions that can't compete on rates, leases may still be a viable option for several reasons. The institution may be able to offset a relatively high cost of funds by adjusting the residual assumptions. The institution may also have an appetite for the tax benefits of leases, especially when bonus depreciation is available for factory-new aircraft. The tax benefits loom large if the financing takes place toward year-end, when a lessor that holds an aircraft for a brief period can take a relatively large tax write-off. For an institution with a big portfolio of aircraft leases, new aircraft leases are valuable because they facilitate the arrangement of like-kind exchanges that defer the recapture of gains on aircraft that are sold when they come off lease.

Needless to say, the days of financing an aircraft purchase at 50 basis points over Libor-the London Interbank Offered Rate-are long gone. Spreads have increased dramatically over what was available even a year ago, sometimes with generous "liquidity premiums" tacked on that can add 100 basis points to a rate. Concerns about declining aircraft values have made it difficult to obtain 100-percent financing for an airplane purchase. Moreover, the demise of the inverted yield curve that prevailed recently means more expensive long-term financings.    

Ironically, aircraft finance terms are longer than ever, especially for factory-new aircraft. I recently dusted off a 10-year-old Gulfstream GIV-SP sales agreement. The completed aircraft was scheduled to be delivered 15 months after the contract was signed. Today, you should expect to wait a minimum of three years after signing a G450 sales agreement until outfitted delivery. Gulfstream is now offering delivery positions in 2019 for the G650, which was introduced less than a year ago. If your plan is to finance such an aircraft with a 10-year lease, including progress payments that begin when you sign the contract, you are asking the financial institution to commit to a 20-year financing relationship.

This ultra-long-term aircraft financing has proved challenging for lenders. A lot can change in the 10 years before a G650 is delivered. After the initial leap of faith required to purchase or finance an aircraft model that doesn't even exist yet, numerous questions remain. What will Gulfstream's or the lessee's status be in 10 years? Suppose the lessee falls on hard times or decides he doesn't want the aircraft? Suppose G650 deliveries are running late in 2019? As a result of such unknowns, some lenders just won't step up to the plate for these deals. "It's hard to go out more than 12 months," said one lender. "We have to reserve against it, and we have no idea what things will be like a year from now. We just have to say no."

Mark Schrieber at Chase Equipment Finance's aircraft unit said he would "advise clients to obtain financing on a shorter-term basis to offset or mitigate the higher cost of term financing, especially if they don't plan to keep the aircraft for more than a few years." Most buyers expect to sell the aircraft once it's fully depreciated (or pretty soon thereafter) for tax purposes (usually in five to seven years), so a shorter facility probably makes sense, given that a longer-term facility may be more expensive, even if you have sterling credit. If you want a longer-term facility without committing to long-term pricing today, consider asking your lender for an interest-rate reset provision. Your financing would be set for some period (say, three to five years) and then reset for an additional period. 

Asset-Based Financing
As noted earlier, lenders are becoming increasingly concerned about falling prices for business jets. This has made them reluctant to finance 100 percent of the purchase price. Many lenders are looking for a 10- to 20-percent "downpayment" and, in the case of factory-new aircraft, coverage of any liquidated damages in the event of the buyer's default. Thus, if the borrower defaults on the loan and the lender has recourse to the aircraft, the lender can pay the aircraft manufacturer the liquidated damages called for in the contract and walk away whole.   
 
Lenders are also concerned about the creditworthiness of many borrowers. Strong credit is no longer simply desirable; it's virtually a necessity. Yet it's still possible to finance a business jet with no recourse to your credit at all. Jeff Hayden at PNC Aviation Finance said that as much as 50 percent of PNC's aircraft financings recently have been nonrecourse. "There are no financial disclosures, no financial covenants and no personal guaranty in our nonrecourse financings," noted Hayden. "That's attractive for many aircraft buyers."

Downside to Nonrecourse Loans
But there's a downside to these types of loans: you can't finance 100 percent of the purchase price. In fact, you'll be lucky to finance 60 percent. And you should expect other unattractive features, such as steep rates and required amortization payments. In the end, only hard-core nonrecourse borrowers are likely to relish nonrecourse pricing and terms. PNC, however, makes some of the advantages of its nonrecourse loan package available separately. For example, if you're putting down 20 percent on a relatively new corporate jet for FAR Part 91 operations, you can avoid financial disclosure requirements.

One reason that nonrecourse aircraft finance is expensive is obvious: when a default occurs, after eating through any down payment, the bank bears the risk that the collateral won't cover the remainder of its outstanding loan balance. When your loan-to-value ratio is 0.5 or 0.6 to 1.0, that may not seem like a big risk. But business jet prices, especially for newer, lower-time aircraft, reached all-time highs in 2008, so there's plenty of room for values to decline. Moreover, the financial institution must consider more than just the sale price of the aircraft. Count on legal fees, marketing expenses, sales commissions and holding costs for the period between when the loan payments stop and the aircraft is actually sold before the bank can start paying itself back. At 5 percent, the holding cost on a $20 million business jet exceeds $83,000 a month.

Aircraft leases pose some of the same issues, which is one reason many banks won't touch them. In a lease, the financial institution takes title to the aircraft and leases it to the customer. As the aircraft's owner, the financial institution is entitled to depreciate it for federal income tax purposes. This means that the after-tax cost of the lease to the financial institution is less expensive than a loan, which in turn allows the institution to pass on most of this savings in lease payments that are lower than corresponding loan payments. Consequently, a lease is an attractive alternative for a business jet buyer that can't use the tax depreciation or wants the lowest possible payment structure. A lease can also keep the aircraft off the lessee's balance sheet, a feature that has become more interesting recently, as the epidemic of corporate accounting scandals has given way to other, potentially more serious, financial concerns.

A financial institution's hold on the collateral value of an aircraft doesn't get any better than a lease: the institution actually owns the aircraft. But this is also a major downside for the institution: if the lessee walks away from the aircraft at the end of the lease term (which the lessee must have the right to do in a standard operating lease), the financial institution may be left holding the bag on an aircraft that was supposed to be worth a whole lot more than it is.

New Ideas
Business aircraft lenders have recently been floating several "extras." Last September, Bank of America announced a strategic alliance with Pro Airways, an aircraft management company based in Plymouth, Mass. The alliance provides preferred financing terms for an aircraft to be managed by Pro Airways.  

Aircraft buyers who finance with U.S. Bank Equipment Finance can also get the bank's Multi Service Aviation Card, which you can use to charge repairs, maintenance and fuel purchases. According to the bank's Web site, more than 80 international fuel suppliers offer discounts of up to 50 percent, and fuel discounts are also available in the U.S. when using the card. For those concerned about fuel prices, J.P. Morgan Chase offers clients sophisticated fuel-hedging instruments such as swaps and call options that can protect against unanticipated jet fuel price increases.

Is this a bad time to finance a business jet? The days of cheap money are certainly over. Business jet finance is no longer the fabulous bargain it has been in recent years. But the financing is definitely out there if you know where to look. 

Aircraft Financial Institutions
Private and Commercial Banks and Affiliates

Banc of America Leasing
Corporate Aircraft Finance
5429 LBJ Freeway, Suite 350
Dallas, Texas 75240
Gregory J. Weldele
(214) 765-0160

Center Capital Corp.
General Aviation Finance
14 Claflin Ave.
Hopkinton, Mass. 01748
Greg Renna
(760) 602-9767

Citi Global Wealth Management
Global Aircraft Finance
666 5th Ave., Fifth Floor
New York, N.Y. 10103
Mary T. Schwartz
(212) 559-0561

Fifth Third Bank Leasing
225 Franklin St., 26th Floor
Boston, Mass. 02110
Matt McNamara
(617) 573-5191

First Source Bank
Laird Professional Building
110 Hopewell Road, Suite 2E
Downingtown, Pa. 19335
Jeffrey Lindstadt
(610) 269-1683

J.P. Morgan Chase
Equipment Leasing, Inc.
707 Travis St., Floor 8
Houston, Texas 77002
Douglas Reinarz
(713) 216-7912

Key Equipment Finance
Business Aircraft Finance
Two Gatehall Road
Parsippany, N.J. 07054
William D. Dougherty
(973) 299-3118

National City
Corporate Air Capital
995 Dalton Ave.
Cincinnati, Ohio 45203
Rae E. Buck III
(513) 455-9796

PNC Aviation Finance
4355 Emerald St., Suite 100
Boise, Idaho 83706
Wayne Starling
(888) 339-2834

Aircraft Financial Institutions
Prudential Capital Group
3350 Riverwood Pkwy SE
Suite 1500
Atlanta, Ga. 30339
Brian Shapiro
(770) 701-2428

RBS Corporate Aircraft Finance
525 William Penn Place
Mail Stop 153-2618
Pittsburgh, Pa. 15219                                                                                                                                                                                                                                                                        
Thomas W. Aiken
(412) 867-4236

TD Equipment Finance-Aviation
1100 Lake St.
Ramsey, N.J. 07446
Matthew W. Parlier
(201) 574-4843

U.S. Bank Equipment Finance
Corporate Aircraft Finance
2150 Highway 35, Suite 250
Sea Girt, N.J. 08750
Walter Horsting
(732) 359-0202

Wachovia
301 S. College St., 18th Floor
Charlotte, N.C. 28202
Spence Hemrick
(704) 715-4944

Wells Fargo Equipment
Finance, Inc.
Corporate Aircraft Division
333 S. Grand Ave., 3rd Floor
Los Angeles, Calif. 90071
Robert C. Lebano
(213) 253-6125

Other Financial Institutions
Cessna Finance Corp.
100 N. Broadway, Suite 600
Wichita, Kan. 67202
John King
(316) 660-1200

CIT Aerospace
Business Aircraft
2 Lincoln Centre, Suite 410
5420 LBJ Freeway
Dallas, Texas 75240
David Davis
(480) 784-1801

GE Capital Corp.
Northeast Corporate Aircraft
44 Old Ridgebury Road
Danbury, Conn. 06810-5105
Brent P. Godfred
(203) 796-1096

Siemens Financial Services, Inc.
9817 Crawford Farms Drive
Keller, Texas 76248
Joe Boles
(817) 562-1566