Chinese bank-owned finance leasing firms fall back on parent support: S&P

But prolonged travel restrictions could lessen parent groups’ commitment.

China’s bank-owned financial leasing companies are expected to rely on their parent companies amidst a slump in global airline travel, reports S&P Global Ratings.

Most of these firms have sizeable exposures to the airlines industry, putting them at risk. However,they are often subsidiaries of large banking groups and are expected to receive support from their parent groups, following regulatory guidance.

"Parent support will cushion the ratings for China's bank-owned financial leasing companies," said S&P Global Ratings analyst Xi Cheng. "Risks, nonetheless, are tilted to the downside, given uncertainty on the duration of the COVID-19 pandemic."

"We expect Chinese bank groups to remain committed to their leasing arms and respective aircraft business lines and continue to formulate this support into our rating construction," added Cheng.

But poor operating performance and earnings contribution could weaken the groups' commitment to the subsidiaries, especially if the effect of the pandemic led to an unsustainable business model, according to the report.

The capital adequacy ratios of bank-owned financial leasing companies could weaken if aircraft valuations drop substantially, or if lease activity dries up or is signed at much lower rates.

About half of the global aircraft fleet was still grounded as of 15 June, and activity is only gradually picking back up. Whilst China's economy is normalising faster than others, the number of flights recovered to only about 60% of pre-pandemic levels as of mid-May 2020, the report noted.

However, prolonged travel restrictions would not only enlarge and extend moratoriums but also fuel greater collection uncertainty when repeated concessions are granted.

The systemic nature of this pandemic also weakens the bargaining power of lessors if lease receivables become problematic, because finding a new lessee during the slump would be more difficult, according to S&P.

“Lower renegotiated lease rates and long idle periods after repossessing aircraft would accelerate opportunity costs and weigh on profitability. As lessors have fewer options to realise the value of aircraft, they will likely hang on, hoping the lessees and the industry will recover over time,” the report added.

S&P noted that they have not yet observed lessors booking large impairments in plane values. However, a material decline would add capital adequacy pressure for these prudentially regulated financial lessors.

Currently, lessors are generally able to withstand about 5% decline in net book value before breaching capital adequacy requirements. They also have some buffer, according to their book valuations.

At the same time, liquidity can also be aided by reduced capital spending due to aircraft deferrals, delays, and cancellations.

Meanwhile, other leasing segments, such as equipment and shipping, have been holding up better than aircraft leasing, providing some revenue diversification.

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