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Fly Leasing Limited (FLY)
Q1Â 2019 Earnings Call
May. 9, 2019, 4:30 p.m. ET
Contents:
- Prepared Remarks
- Questions and Answers
- Call Participants
Prepared Remarks:
Operator
Good afternoon ladies and gentlemen, and welcome to the FLY Leasing First Quarter Earnings Call. At this time all participants are in a listen-only mode. Later, we will conduct a question-and-answer session and instructions will follow at that time. (Operator Instructions) I would now like to turn the call over to your host Mr. Matt Dallas.
Matt Dallas -- Investor Relations Manager
Thank you and good afternoon everyone. I'm Matt Dallas, the Investor Relations Manager of FLY Leasing, and I'd like to welcome everyone to our First Quarter 2019 Earnings Conference Call.
FLY Leasing, which we will refer to as FLY or the Company issued it's first quarter earnings results press release, which is posted on the company's website at FLYleasing.com. We have a slide presentation that accompanies today's call which is available to participants on the webcast. If you are not accessing the webcast you can find a copy of today's presentation in the Investor Relations section of our website on the Events and Presentations page. If you are listening to both the live call and the webcast, you may want to mute your computer as there will be a slight delay in the webcast audio. Representing the company today on this call we'll be Colm Barrington, our Chief executive officer; and Julie Ruehl our Chief Financial Officer. This conference call contains forward looking statements within the meaning of the Private Securities Litigation Reform Act of 1995.
Forward looking statements include but are not limited to statements regarding the outlook for the company's future performance and business. Forward-looking statements are based on the current expectation and assumptions of FLY's management which are subject to uncertainties risks and changes in circumstances that are difficult to predict. Actual outcome and results may differ materially due to factors that are summarized in the earnings press release and are described more fully in the Company's filings with the FCC. Please refer to these sources for additional information. And archived webcast of this call will be available for one year on the company's website. And with that I would now like to hand the call over to Colm Barrington the Chief Executive Officer of FLY Leasing. Colm?
Colm Barrington -- Chief Executive Officer
Thank you Matt, And welcome everyone to our First Quarter Earnings Call. The airline industry continues to outperform historical trends. IATA forecast globally a traffic growth of 6% for 2019 which is well-above the long term trend line of 4.5 to 5% annual growth. And more importantly Asia Pacific which is FLY's largest market is expected to grow significantly faster than that at 7.5% in 2019.
In addition, airlines have been achieving record load factors above 80% in fact, demonstrating that they have remained disciplined in adding capacity and are in an excellent position to protect you. The airline industry earned over $32 billion in 2018 reflecting the ninth straight year the industry has been profitable. IATA's forecasting another good year in 2019 with industry profits of $35 billion. These profits are the result of higher load factors and strong yield which have allowed airlines to deleverage and strengthen their balance sheet enabling them to renew and grow their fleets. This in turn creates strong demand for new and used aircraft and in many cases airlines turn to leftovers to meet their fleet growth targets. The aircraft leasing industry outlook remains very healthy also.
There continues be a strong demand for leased aircraft from airlines globally, particularly in developing markets where growing personal income level, relaxation of government regulations and the emergence of lower fares from new LTC are allowing more and more people to travel every year. a growing equity investor appetite along with widely available debt capital at attractive rates continues to underpin a healthy secondary trading market and strong aircraft values.
Flight strategy has been consistent. We have not made speculative aircraft orders. We have disciplined ourselves to only acquire aircraft that are on lease or committed to lease. We always strived to match our financing term to our acquisitions and our leases in order to minimize future market risk. This strategy is bearing fruit. We feel particularly good about this strategy today as we see fierce competition among lessors who have made speckles models (ph) of new generation aircraft and are driving down lease rates to levels that are not far above the prior generation models and certainly not producing equivalent returns.
We've also focused on selling aircraft at premiums to book value. Fly has been doing this consistently since its inception and particularly in recent years, as we avail as we have avail of the ample liquidity in the market for aircraft acquisitions. our ability to make consistent gains from aircraft sales have come as much from our disciplined acquisition strategy that is not overpaying for our aircraft, are some of the robust demand in the secondary market. And that it advantage for Fly has been the renewal of our lease with modern aircraft as we continue to dispose of our Midlife model.
Now we move to Slide Q1 results, and I can report a very positive outcome. For the quarter ended 31 March 2019, flyers reporting adjusted net income of $47.2 million which is equivalent to $1.44 per share. This is our best ever quarterly result, reflects the significant developments that we have made at Fly per the last 3 years.
Selling older, less performing aircraft, optimizing our capital structure, reducing FDA and ACO, repurchasing shares and most importantly, upgrading our fleet with newer and better performing aircrafts. The positive financial results were also reflected in a year over year 15 % increase in our net book value per share which reached $20 -- $22.74 at the end of the quarter. We also produced an adjusted return on equity of over 26%. Our larger and renewed lease resulted in an 18% increase in operating leased rental revenue in the quarter as compared to the same quarter a year ago.
As you can see we are also active in selling aircraft in the quarter, closing the sale of 10 aircraft for a total gain of $27.6 million, which was a 12% premium to the book value of these aircrafts. We've also continued to focus on our SG&A expense, which were $8.9 million in the quarter on an adjusted basis. In the quarter adjusted SG&A with 6.6% of total revenues as compared to 8.7% of total revenues a year ago. A reduction of 24% in the year, our Q of -- our 2019 Q1 financial results are significantly ahead of the same quarter a year ago with a nearly three times increase in adjusted net income to $47.2 million and a $1 increase in adjusted earnings per share to $1.44, as Julie Ruehl will show you in a few minutes, Our adjusted and GAAP figures are quite similar. These positive financial results have had a very positive impact on our book value per share which has grown to $22.74, a 15% increase on the figure of a year ago. Last year we issued $4.7 million new shares -- $15 per share to facilitate our large portfolio acquisition.
We were confident that the transaction in its entirety would be accretive to our shareholders and we are particularly pleased to report results that demonstrate that this is the case. At quarter end Fly, the fleet of 103 modern aircraft plus 7 CSM 56 engines. Our fleet comprises almost entirely of in production types from Boeing and Airbus With less than 2% by value comprising our production aircraft. We expect to dispose of most of these out of production aircraft at a profit during 2019 and in early 2020. At quarter-end, our average fleet age with 7.2 years and our average lease term was 5.7 years. In addition to pursuing acquisition opportunities, we will continue to execute on our active sales program, selling aircraft of premium to book value, providing funds for future growth and maintaining a young and attractive fleets leased to a diverse group of global airlines.
In the context of these global airline lessees, FLY has a well-diversified customer base with 44 airline lessees in 25 countries. It should be noted that our major exposure in the Indian market represented 10% of our portfolio is to the national airline of India and it's guaranteed by the Indian government. We repossessed our three 2014 manufactured B737-800 from Jet Airways weeks ago. FLY has significant cash security deposit and maintain reserves from the lessee, which we applied against delinquent rentals and which we hold to restore the maintenance condition of the aircraft. We expect that most of our integration and maintenance costs will be covered by these maintenance reserves and security deposits.
We have experience strong demand from several lessees and have now committed two of the aircraft to a new lessee. The third aircraft is being overhauled and we expect that we'd be back in service during the third quarter. The market for Boeing 737 next generation aircraft remains very strong, perhaps assisted by the uncertainties over the 737 MAX. FLY's aircraft sales program continues to produce very positive results. In the quarter we completed the sale of 10 aircraft at a gain of $27.6 million which is 12% of over-book-value.
After adding end of leased income our total economic gain from these 10 sales was $29.2 million which represented a 13% premium to book value. The portfolio sale of 12 aircraft that we announced in December is now complete. We transferred three of these 12 aircraft in December and further eight in the March quarter on the last aircraft in April. With those two additional aircraft in the March quarter bring the total to 10 aircraft for the quarter. Since quarter-end we have sold two more aircrafts bringing the total to three thus far this quarter, and have eight more sales targets of this year. Aircraft sales are once again expected to contribute handsomely to our second quarter results and our CFO, Julie Ruehl will be giving some positive guidance on these sales later in the call.
The Q1 sales were also significantly cash genesis and helped us to reduce our financial leverage from 4 times at the end of December to 3.4 times at the end of the quarter. This reduced leverage figure is more than a year ahead of our schedule. We are comfortable with leverage in this range because of FLY's conservative financing structure based on a majority of long-term and amortizing secured debt. Our average debt term is 4.8 years and we have no major debt maturities until the fourth quarter of 2021, when $325 million of our unsecured debt representing 11% of our current financing holds due. FLY is also cash rich with $364 million in unrestricted cash at quarter end along with $287 million of unencumbered aircraft. As a result, we are well-positioned to avail of new opportunities.
FLY continues to provide investors with a real value proposition. We produce strong financial results which we expect to continue. A valuable portfolio of modern and in demand aircraft and long-term leases to a diverse group of global airlines provides FLY with a steady stream of income. FLY has demonstrated that it can grow its portfolio without having to play speckled borders with Airbus and Boeing. We believe that this strategy has proven itself to be especially sound during the last year. We continue to demonstrate that to be balanced management we can maintain high levels of fleet utilization, acquire additional aircraft and attractive lease terms and execute an active sales program and provide substantial gains, generates cash and manages lessee exposures.
We also have a disciplined financing strategy which is substantially based on long-term and amortizing secured debt. In particular this financing structure insulates FLY from the vagaries of capital markets and the need to refinance large tranches of debt at times when the capital markets may be dry. Based on rewards and risks, we believe that FLY has currently a very good value stock. The value that our insiders have recognized but last year they purchased more than $1 million shares for $15 per share. And which management and our board is recognizing through our current share repurchase program. Our shares are currently trading at a significant discount to net book value and the FLY continues to execute his strategy and produce very positive results. We believe that this discount should narrow.
And with that, I'll hand it over to our CFO, Julie Ruehl to take you to a financial overview.
Julie Ruehl -- Chief Financial Officer
Thank you, Colm. FLY is reporting net income of $45 million for the first quarter of 2019 a $35 million increase from the year ago quarter. Earnings per share more than quadrupled from $0.34 a year ago to $1.38 in the current quarter. FLY achieved ROE of 25%, the fourth consecutive quarter of double-digit ROE. These strong financial results were fueled by our portfolio growth as well as significant gains from aircraft sales as we execute on our deleveraging strategy. FLY's operating lease rental revenue in Q1, 2019 increased $16.2 million or 18% to $105.3 million driven by the increase in FLY's fleet size to 103 aircraft at March 31, 20 19 from 86 aircraft at March 31, 2018. The trend of year-over-year double-digit operating lease revenue growth has continued for the past five quarters. Total revenue increased 52% to $134.7 million in Q1 2019 from $88.8 million in Q1 2018. In Q1 2019, FLY recognized $1.6 million of end of lease income related to the expiration of on lease. The related aircraft was then sold. In total, 10 aircraft were sold in the quarter and FLY recorded at $27.6 million gain on these sales representing a 12% premium to net book value. Eight of these aircraft were part of the 12 aircraft portfolio sale that we announced in December and the final aircraft closed in early April.
Turning to expenses depreciation, interest, expense and SG&A are all up as compared to the prior year quarter due to the growth of FLY's portfolio. Although on a combined basis these expenses grew by 12%, a lower growth rate than the operating lease rental revenue growth rate of 18%. Also in Q1 2019, FLY incurred $2.2 million of debt extinguishment costs. $1.9 million of which represented non-cash write offs of debt costs. The debt extinguishment costs incurred were related to the redemption of the remaining $64 million outstanding securitization notes in March 2019 as well as the aircraft sales I mentioned a moment ago.
Now, I'd like to cover our guidance for Q2 2019. As Colm mentioned earlier, we have terminated our leases with Jet Airways and repossessed the three Boeing 737-800. As a result of the lease terminations we will recognize significant end of lease income in Q2 relating to cash maintenance reserves retained. For the second quarter of 2019 we are expecting operating lease rental revenue of $96 million to 98 million. We expect amortization of lease incentive of $1 million to $2 million. Gain on sale of aircraft is expected to be more than $15 million. We expect end of lease income of $27 million to $28 million the bulk of which relates to the Jet Airways lease termination. Depreciation expense will be approximately $37 million to $38 million. We expect interest expense of $35 million to $36 million. Debt extinguishment costs are expected to be approximately $2 million. Maintenance and other costs are expected to be $1 million to $2 million.
We expect estimate SG&A expense of $8 million to $9 million without consideration of any foreign exchange gains or losses that may occur. Overall, we are expecting another great quarter in Q2 with pre-tax income of over $55 million.
I'll turn it back to Colm now for his closing remarks.
Colm Barrington -- Chief Executive Officer
Thank you, Julie. Before we move to your questions let's just recap on Q1 2019. We grew our fleet by 17 aircraft 20% more than a year ago we. Achieved an 18% growth in operating lease rental revenue to $105 million. We sold 10 aircraft for total economic gain of $29.2 million, 13% above our book value. We produced $47.2 million of adjusted net income, $1.44 of adjusted EPS and a 26% adjusted ROE. We continued our track record of growing book value which was $22.74 per share at quarter-end. Meanwhile, looking ahead we have a committed growth pipeline of over $1 billion of new generation Airbus aircraft with first aircraft delivering later this year. We expect to add to this pipeline through more acquisitions. We have buying power of more than $2 billion and we have given pre-tax income guidance of over $55 million for the June quarter. These are all highly positive outcomes and have established a trend as we expect to continue as 2019 progresses.
With that, we can now take your questions.
Q&A
Operator -- Chief Executive Officer
All right. (Operator Instructions) And your first question comes from the line of Katherine O'Brien of Goldman Sachs. Your line is open.
Katherine O'Brien -- Analyst
Good afternoon, everyone. Thanks for the time. So, I believe at the last quarter you only had about six aircraft left to the market for 2019. Have you since placed those aircraft on new leases? And if so, did more airlines objects then leases than you originally anticipating or could you just give us some color on how the newest rates on those aircraft came in versus what you're expecting maybe even six months ago?
Colm Barrington -- Chief Executive Officer
Okay. Hi, Katherine. Welcome. I think this is your first call, so welcome.
Katherine O'Brien -- Analyst
It is. Thank you so much.
Colm Barrington -- Chief Executive Officer
Following the closure of Jet Airways, we had nine aircraft to market this year. As I mentioned in our prepared remarks, we've committed two of these aircraft now to another airline and put the third into maintenance and we expect that that will reenter service in the third quarter. And it's a young 737-800 to 2014 manufactured 737-800. So, we expect to have no issues in remarketing that for the third quarter. So, actually, this has six more aircrafts of which we are going to be putting out three that's includes the two a three 40s. And that leaves a further three to be remarked at all of these are in the in quarter four and those three aircraft we are still remarketing. So, we've gone from nine down to three that are still available actively.
Katherine O'Brien -- Analyst
Okay, understood. And then so could you -- I know you've highlighted some aircraft that you're targeting. Including those aircraft that you currently have targeted, do you expect to beat me or maybe come in under your $100 million annual AirAsia target for asset sales? And just in broad strokes where do you expect demand for these assets to come from other solely based transactions?
Colm Barrington -- Chief Executive Officer
Yes, mixture, Katherine. We expect -- of the aircraft we've already sold, which was 10 aircraft in quarter one, we sold three more in quarter two to date and we've committed a further eight aircraft for sale of which five I think are in quarter two and three are in quarter three. So, the value of these 21 aircraft is just over 400 -- is over $400 million. So, we're not going to breakout specifically which of those are variations and which are not. We'd rather not give that breakdown. But there are Asia -- some AirAsia aircraft in there. And of the 21 aircraft, nine have already been sold to ABS and the remaining 12 are being sold to a mixture of other buyers. So, it's sort of that nearly half ABS and half third-party buyers. There may be more aircraft sold later in the year to a mixture of ABS and other buyers. But as of now that's where we are.
Operator -- Chief Executive Officer
Your next question comes from the line of Kush Patel of Deutsche Bank. Your line is open.
Kush Patel -- Analyst
I just wanted ask a question on the option order book you acquired with the AirAsia transaction. Given what you're seeing in the market right now as it pertains to demand and lease rate factors, how do you think about or how might you approach whether or not you'd want to take up some or all of these options as I know some of these begin to deliver later this year next year and they're quite spread out? So, when you need to start making some of those decisions by as well.
Colm Barrington -- Chief Executive Officer
Kush, thanks for asking the question. As you know, deliveries from Airbus are a little bit delayed. So, the option aircraft have been -- the availability option has been somewhat confusing. But basically, we have -- we didn't exercise options for 2019 for various reasons and valuation or options for 2020 and beyond. I think that decision will depend on how we see the leasing advancing markets at the time. As we said in our prepared script, FLY doesn't make spec as borders and so, will lead to sort of be pretty sure of where the aircraft are going for the lease rates are, where the cost of our financing will be prior to exercising the options. So, as of now, we're still evaluating the situation and I expect we'll be able to give a further update perhaps on our Q3 earnings call.
Operator -- Chief Executive Officer
Your next question comes from the line of Colin Decker of Color. Your line is open.
Analyst -- Chief Executive Officer
This is actually Tyler (ph) on for Colin. So, just a quick question on Jet Airways. Just given their cash flows, obviously they went bankrupt. But I'm just wondering if you think they'll honor all of the lease payments for this quarter or is there any reason to believe they'll come in below what they expected?
Colm Barrington -- Chief Executive Officer
Okay, Tyler, we don't expect to get any more cash from Jet, but as I mentioned in the prepared remarks, we have very significant security deposit maintenance accruals which we believe will substantially if not entirely cover us for the lost rentals and for the restoration of the aircraft at the maintenance restoration of the aircraft. So, we don't expect to be showing any significant loss from the Jet Airways situation but nor do we expect to be getting any more out of Jet Airways.
Analyst -- Chief Executive Officer
Understood. And then just to go back to the Max situation, so, I know you guys have no exposure there but just given the fact that they're grounding uncertainty could linger on for your guess is as good as mine. So, is it fair to assume that aircraft sales could potentially be a little bit stronger in the back half of the year than what you're currently expecting just given airlines to backfill their slots from what they're expecting to receive with the Max, with maybe midlife aircraft that you guys have?
Colm Barrington -- Chief Executive Officer
Yes, I think we do actually have to Max's there, Tyler, but they're both acquired through a sale leaseback transaction and we don't have any further Max orders. We do think that there is some positive impact on NGs from the from the Max situation and certainly in the case of the Jet Airways aircraft, we had no difficulty in finding new homes for them very quickly. So, we do find some definite impact on the market right now. Look, I don't know how long the situation is going to continue. I'm sure that Boeing will resolve the issue soon. We know that airlines who operate the Max like the aircraft and they're enthused by its performance and its efficiency. So, really it's -- I think it's too early to say what impact that will have as the year goes on, but certainly there is some positive impact on next gens because the Max situation today.
Analyst -- Chief Executive Officer
Got it. And I just have one last one on the tax rate. I know the aircraft sales and there are other moving parts kind of cause the tax rate to come in much lower than expected. As we look out to the rest of the year do you think the tax rate will stay around 15% like you previously guided to?
Colm Barrington -- Chief Executive Officer
Since Julie has done such a great job to the tax rate, I'll let her respond to that question. Julie?
Hi, Tyler. Thanks for the question. Yes, is Q1 rate is a bit of an anomaly and even though we don't -- we continue to expect to not generally pay cash taxes, we would expect the effective rate going forward to be closer to the 15% that we previously mentioned.
Operator -- Chief Executive Officer
Your next question comes from the line of Jamie Baker of JP Morgan. Your line is open.
Analyst -- Chief Executive Officer
Hi, this is Bill Turnbull (ph) on for Jamie Baker. Thank you for taking my question. Just recent I had traffic data shows the slowest monthly growth rate in nine years and even though March had a tough comp, the reality is that global uptick growth is slowing. So, could you just let us know why this would not be a negative for FLY fundamentals or is the Max situation also slowing capacity growth by unlike amounts here?
Colm Barrington -- Chief Executive Officer
I don't think you can put the slower growth down to the Max situation -- slow growth in March down to the Max situation because the Max has had a very insignificant impact on the total number of aircraft in operating in the number of seats flying. I think the biggest -- from what I have heard the biggest impact on the March -- slower growth in March was the fact that the Easter holidays were not in March this year they were in April. And my understanding from preliminary figures I've seen for April is that April traffic actually has rebounded quite significantly. So, I don't think as I say one swallow doesn't make a summer and I don't think one month sets a trend. So, we're not worried. We think that the overall global growth rate, and particularly, the growth rate in Asia, where are most of our customers lie, we think that the overall growth rate is likely to continue at the 6,5% as for the remainder of the year.
Operator -- Chief Executive Officer
(Operator Instructions) Your next question comes from the line of Bill Mystorius of Softweric. Your line is open.
Bill Mystorius -- Analyst
Thank you. Colm, I wonder if you could kind of give us some of the puts and takes on some of the touch points that you mentioned a little bit earlier. So, we know that there's a lot of new entrants in the marketplace that are aggressively bidding for new deals. At the same time, we have a very robust as you point out secondary market that's just ripe for aircraft sales and really nice margin gains, but that also means that you're going to have to accept most likely lower lease rates going forward, which I think you have to do to really keep that growth pipeline going. So, I wonder if you could kind of give us maybe your thoughts on that trade off there. And that's my first question.
Colm Barrington -- Chief Executive Officer
Okay. Well, I think there are two different types of lease rates. One is the lease rate that airlines pay to lessors (ph) when the negotiation to get aircraft from that source. And we have seen a little bit of competition, particularly among next generation aircraft which has brought lease rates down on those on those aircraft types. Then of course, is the sale leaseback market which is driven not by airlines but by capital chasing transactions. And that certainly has been very competitive. However, we're seeing a few -- fewer bidders in this markets and we have seeing that some of the sort of irrational capital has stepped back a bit but the market is still very competitive and we certainly will not be pursuing transactions that don't meet our rate of return criteria. As you've seen, we have been able to get transactions that meet those criteria and hopefully we'll be able to find more of those going forward.
Bill Mystorius -- Analyst
Okay. So, next question I have has to do with really liquidity. And again you touched on this talking about your available purchasing power but you're unencumbered aircraft balance is much lower than it has been in the past. I think you -- a couple of years ago you actually touched on roughly right around $750 million. If the objective going forward is to keep as much liquidity as you can for that potential growth pipeline and to take advantage of any opportunity that may present itself, why not over time, go ahead and increase that amount of unencumbered assets to give yourself maybe an extra liquidity cushion?
Colm Barrington -- Chief Executive Officer
Well, Bill, we can do this but as you know, with the big portfolio deal we did last year, our leverage peaked close to five times. We brought it down to four times by the end of December. We know that it's down to 3.4 times the end of March. So, these things go up and down. I could only assume that as we bring go forward in the current quarter less we are fortunate enough to acquire a whole bunch of aircraft as we achieve our sales targets, our leverage will go down once more which could include some of -- some increased numbers on leveraged aircraft. These things change on a quarterly basis.
Bill Mystorius -- Analyst
Okay. And then my final question just has to do with how are you currently thinking about the redemption of the -- of your $6.38 million unsecured notes of 21 which are currently callable? You have a very robust high-yield market right now and one of the things that you appropriately point out is that capital markets do fluctuate. And is there the thought process now to take advantage of what is very robust capital markets environment and to refinance those or is it wait until the bonds can be called at par in October of 2020? What are some of your thoughts there?
Colm Barrington -- Chief Executive Officer
Well, I think we do have a -- it gets cheaper to repay those bonds I think come November of this year. So, I think we've decided to put off any decision certainly to that after that date.
Operator -- Chief Executive Officer
I'm showing no further questions at this time. I would now like to turn the conference back to Mr. Matt Dallas, for any further comment.
Matt Dallas -- Investor Relations Manager
Thank you, everyone for joining us for our first quarter earnings conference call. We look forward to updating you again next quarter. You may now disconnect your line.
Operator -- Investor Relations Manager
Ladies and gentlemen this concludes today's conference. Thank you for your participation and have a wonderful day. You may all disconnect.
Questions and Answers:
Duration: 35 minutes
Call participants:
Matt Dallas -- Investor Relations Manager
Colm Barrington -- Chief Executive Officer
Julie Ruehl -- Chief Financial Officer
Colm Barrington -- Chief Executive Officer
Katherine O'Brien -- Goldman Sachs -- Analyst
Kush Patel -- Deutsche Bank -- Analyst
Analyst
Bill Mystorius -- Softweric -- Analyst
