Following is from Simon Thompson of the Investors Chronicle (10 Dec 2018) with my comments in bold:
“The directors of aircraft leasing company Avation (AVAP:256p) have delivered yet more good news to shareholders at its annual meeting as I had anticipated they would a couple of months ago ('Poised for take-off', 8 Oct 2018).
The board is guiding investors to expect a 39 per cent increase in aircraft lease rental values in the six months to the end of December 2018, an outcome that will deliver a record half-year profit and a run rate in line with Canaccord Genuity’s full-year revenue forecast of $119m (£93m).[Am in agreement, as I get $118.4m. However this is without contributions from the four yet to be delivered ATR's which could potentially add $1.5m and a potential A320 toward FY end]
The update is supportive of expectations that Avation can lift full-year underlying pre-tax profit from $18.9m to $23.8m and deliver EPS of 35¢ (27.5p) for the 12 months to the the end of June 2019. [These numbers may not be so accurate. The actual realisation from the VietJet A320 sale will have a large influence as well as the revised credit ratings. Personally I see $28m PTP and a $0.39 EPS]
The board has declared a first half-year dividend a share of 2¢, underpinning analysts’ full-year expectations of an 8¢ (6.2p) payout.
The directors have also revealed the extent to which the fleet is undervalued. [Not strictly true. They have made a credible suggestion that this is the case but have not put a number of it or indicated which aircraft]
The conditional disposal of one of Avation’s eight Airbus A321-200 aircraft to an Asian buyer has been agreed at a price that will exceed its book value of $48.7m (£37.5m) by “more than 10 per cent”, a significant sum in relation to the profits expected from the company’s leasing activities. [The deal has yet to complete; expected by years' end though. So a 6 month depreciation charge has to be included taking the aircraft value down to ~$47.8m. There are also likely to be a finance charge associated with this transaction. Nevertheless a significant sum is likely to be realised as profit.]
They also flagged up that narrow-body aircraft now comprise “half of the $1bn fleet value”, the clear implication being that Avation’s last reported net asset value (NAV) of $231m (£180m), or 280p a share at current exchange rates, is far too conservative. [The two A220's have to be excluded from the 'revaluation' along with the four relatively old A320's which may in fact (likely) have their valuations revised downwards. Therefore the implication that $500m will have a ~10% increase in valuation is poppycock]
Please note that I have adjusted the last reported NAV to take into account the exercise of share options post the June 2018 financial year-end.
Furthermore, after accounting for the delivery of two ATR72-600 aircraft by the end of this month, the company still retains options and purchase rights over 25 of these aircraft for delivery up to December 2023, all of which are held in the account at nil cost. [ Errr.. no. 5 ATR options expired leaving Avation with 25 options. The options expired/lapsed worthless which is one reason why the auditors do not allow a valuation of these options to be entered into the accounts. Therefore options should rightly be ignored for valuation purposes].
To put the value of these aircraft options into perspective, Canaccord has a target price of 335p, representing a 20 per cent premium to Avation’s last reported NAV, which is "justified by the company’s attractive growth prospects and [the premium] largely underwritten by the value of its ATR options". [Typically investors have looked at profits/EPS as a measure for Avations' valuation I have maintained that its really NAV that investors should be looking at and given it's growth rate valuation in excess of NAV is warranted]
In other words, the 25 ATR-72 aircraft options could easily be worth $45m (£35m) on the open market, [Well, 5 of them expired worthless so...]
a significant sum in relation to Avation’s market capitalisation of £164m. Add to that a potential $50m (£39m) plus undervaluation of the narrow-bodied fleet and there is potentially $95m of hidden value [For reasons I mentioned earlier, I work it out to potentially $30.9m nothing like the $95m mentioned here]
not embedded in Avation’s reported NAV of $231m. Furthermore, my financial models suggest that Avation could boost its reported NAV to $257m, or 399¢ (312p) a share, by June 2019 [I think nearer 374¢]
after taking into account only the realised $5m-plus profit on the aforementioned Airbus A321-200 aircraft sale and retained profits in the 12-month trading period. However, mark Avation’s fleet of 41 aircraft to their open market value, and factor in a realistic valuation of the 25 ATR-72 options, which have increasing scarcity value [ Definitely not true for 2018. The Iran sanctions put paid to that with ATR having to quickly find new homes for those aircraft; and if there was such a big demand then Avation should have been able to sell those 5 options, if not more. 2019, however, could see a demand increase unless the recent activity regarding the Q400's spoils the party]
– ATR only manufactures 85 planes a year and demand from China, India and Iran [Nil]
is tightening the market – and the company’s break-up value is realistically far closer to 400p a share.
Trading on a forward PE ratio of nine, offering a 2.4 per cent prospective dividend yield, and with substantial hidden value in the accounts, I continue to see value in Avation's shares, which have posted a total return of 72 per cent since I first advised buying at 159p ('Get on board for blue-sky gains', 11 Sep 2014). Strong buy.”[Most of my comments are quibbles as the company just needs to wash, rinse and repeat to grow, as it has done for several years. It would be nice to see it grow to sufficient size where they could enter into partnerships achieve growth potential. For example, Avolon recently established an asset management platform with China Cinda Asset Management Co., Ltd. and Air Lease continues to grow its JV with Napier Park Global Capital (US) LP, Blackbird Capital II, LLC. Intrepid announced they had entered into a partnership with Amedeo Capital Management. But that is probably many years away.
What has been omitted in the article is that if the A320 fleet really is worth ~10% more than currently valued then acquiring new aircraft will be correspondingly more expensive which is not ideal for Avation given its size. It also opens up the possibility of severe downgrades in 2-3 years if the market reverts. Furthermore Avation were approached by an outside party willing to pay over 10% above book value which may not be indicative of the world market. Without knowing who the acquirer is it's hard to say. Might even be a subsidiary or govt linked company to Vietjet. It may open the door for Avation to sell further Vietjet aircraft at a premium to book.
It does only illustrate that the realisable value of the narrowbody fleet exceeds the book value based on the current market conditions and the sale does suggest the realisable value per share exceeds the NAV/share. However that may not lead to an upward revision of the same magnitude come the next prelims which value the aircraft against other criteria. If it does come to pass then the Loan to Value ratio will ease allowing Avation to deploy further capital.
It should also be noted that the LTV methodology changed from using Fleet Asset Value to Net Indebtedness. Reason being is to align it with banking covenants. This resulted in a major change to how the data is presented and may (or maynot?) make it more difficult to compare with other leasing companies. It may also mask just how much the fleet LTV actually is. Of course the opposing argument is that the economic life of the aircraft is 25 years against a financial liability of ~12 years... but I digress.... ]