We recognise that the COVID-19 situation is fluid and its likely impact on every aspect of the aviation sector and the global economy will continue to evolve.
Even though it is only March, many people believe that 2020 will be remembered as the year when humanity faced a credible threat not encountered for approximately a century: the risk of a global pandemic.
The Coronavirus Covid-19 virus started to receive extensive media coverage less than two months ago, yet the disruption caused is already significant and only likely to expand. We will focus here on Covid-19 and the impact on aviation – and aviation insurance – with particular emphasis on airlines and aircraft Leasing Companies.
Whenever there is an outbreak and a need to limit the spread of infection aviation becomes a focus and more importantly a concern. This is because, by definition, aviation connects locations around the world, rapidly and consistently.
This concern, coupled with the understandable fear of contracting the virus whilst in transit, have generated one of the most marked short-term slumps in passenger traffic ever witnessed by this industry. Even higher than the post 9/11 or SARS periods. (Source: Wall Street Journal).
The reasons for the dramatic reduction in passengers can be summarized as follows:
- Many countries have implemented emergency orders to shut down entire commercial aviation networks involving affected areas
- Business travellers are currently being advised to avoid all but essential travel
- Holiday travellers are cancelling or postponing their holidays due to personal concerns and relevant governments’ advice
- Imposed restrictions are being implemented on a large scale due to significant health concerns and government lockdowns
As a result, airlines are reducing capacity (this was initially visible in Asia and Europe, but is now a global issue, with carriers reducing capacity by anywhere between 50% and 90% according to Aeronews), thus there is clearly the potential for a number of aircraft to be stored on the ground until the Covid-19 emergency is over. In some cases, this strategy might not be viable, as some airlines are forced to fly specific routes in order to maintain their slots.
IATA predicts that the lost revenue associated with this crisis will likely be between USD60bn and USD110bn. What will this mean for airlines who are already spending, before crew and maintenance costs, an average of USD10,000 per day to lease or finance a narrowbody aircraft and USD50,000 per day to lease or finance a widebody aircraft? (Source: Wall Street Journal).
Commercial aviation is a challenging industry and naturally very competitive, and we continue to see bankruptcies worldwide. This is a pattern that has been seen consistently for the last 5-10 years. Given this trend and the current operating environment, it should come as no surprise that both Air Italy and Flybe have recently ceased operations. These last two ‘casualties’ are recent examples of the aforementioned trend that has seen insolvencies, repossessions and emergency rescue talks worldwide, particularly in jurisdictions where commercial aviation is not supported by local governments and where the regulatory environment is relatively relaxed.
It seems reasonable to suggest that the Covid-19 crisis will accelerate this trend:
- Airlines with solid fundamentals will see a dip in financial performance
- Carriers already experiencing financial difficulties will be at an increased risk of bankruptcy
- Airlines already in fragile situations will likely cease operations, unless supported by external parties (i.e. Government or acquisitions)
- We may also see carriers being forced to give up valuable slots to destinations that are currently operationally unviable.
In the short term, we expect specific airlines in Asia, Scandinavia and Italy to be greatly at risk. Beyond this, there is an expectation that we are likely to see increased levels of M&A activity as carriers merge and diversify their offering in order to survive.
From an insurance perspective, what can be done?
Airlines with reduced capacity and a significant number of aircraft on the ground might consider requesting favourable premium consideration in light of the lower aviation risk (no flight activity, with associated risk mitigation from a Hull/Liability/War perspective).
Clause AVN26 (Aircraft Laying-up Returns Clause) could be invoked in order to support these requests, although insurance brokers will have a significant role in conducting such negotiations effectively.
Mid to long term analysis
As we do not know how long the Covid-19 crisis will last, making medium to long term predictions with any degree of certainty is fraught with difficulty.
If we postulate that the Covid-19 virus expands to the point where it becomes a full-scale pandemic that lasts through Q2 and Q3 2020, we can predict that a large number of airlines will limit or cease operations.
Such a scenario will have a large chain effect for aircraft leasing companies who would likely repossess a significant number of assets worldwide. The downturn in aviation traffic will mean redeploying these assets will prove challenging. Supply would likely exceed demand and generous lease provisions may have to be introduced to entice prospective lessees.
Again, from an insurance perspective, what can be done?
In Aviation Finance Insurance, the repossessed/ground/off-lease rate applicable to any asset (i.e. Aircraft, engines etc) is generally 10x higher than a standard contingent/on-lease rate (although exceptions are common).
Given the above, it is quite reasonable to suggest that a higher volume of repossessed assets will trigger higher insurance premiums for leasing companies worldwide.
Should the repossessions drag on for an extended period, we would recommend conducting further negotiations with insurers, by updating and integrating exposures/data analysis and mid-term fleet deployment projections. This strategy should help mitigate the impact of unexpected higher premiums on these companies’ balance sheets.
In unique circumstances such as these please remember there is an important role that your insurance coverage, and your insurance broker can play in helping to navigate your business through the coming months.
If you would like to discuss this or related issues further, please do not hesitate to contact us.
DARIO MULAS DEBOIS
Dario is a senior partner in the Piiq UK team, based in London. He is focused on Aviation Lease/ Finance Insurance and is driving the development of Piiq’s specialized and differentiated client value proposition for financial institutions with aviation assets and exposures.
Before joining Piiq in March 2020, Dario spent 15 years in the Aerospace team at Marsh, where he was responsible for the aviation lease/finance global portfolio of business, with a particular focus on large complex clients.
Beyond this specialism, Dario has experience of working with aerospace clients from multiple sub-sectors and is highly skilled in client relationship management, business development, and the design and placement of aerospace insurance programmes.
From an academic standpoint, Dario holds a Master’s degree in Economics, with a focus on commercial air transport.
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About Piiq Risk Partners
Piiq is owned by BGC Partners Inc. (NASDAQ: BGCP), a leading global brokerage and financial technology company.
Discussion of Forward-Looking Statements about BGC
Statements in this document regarding BGC that are not historical facts are “forward-looking statements” that involve risks and uncertainties, which could cause actual results to differ from those contained in the forward-looking statements. These include statements about the effects of the COVID-19 pandemic on the Company’s business, results, financial position, liquidity and outlook, which may constitute forward-looking statements and are subject to the risk that the actual impact may differ, possibly materially, from what is currently expected. Except as required by law, BGC undertakes no obligation to update any forward-looking statements. For a discussion of additional risks and uncertainties, which could cause actual results to differ from those contained in the forward-looking statements, see BGC’s Securities and Exchange Commission filings, including, but not limited to, the risk factors and Special Note on Forward-Looking Information set forth in these filings and any updates to such risk factors and Special Note on Forward-Looking Information contained in subsequent reports on Form 10-K, Form 10-Q or Form 8-K.