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| ACY > SEC Filings for ACY > Form 10-Q on 16-Nov-2009 | All Recent SEC Filings |
16-Nov-2009
Quarterly Report
The following discussion should be read in conjunction with the Company's Form 10-K for the year ended December 31, 2008, and the unaudited financial statements and the related notes that appear elsewhere in this report.
Results of Operations
Quarter ended September 30, 2009 compared to the quarter ended September 30, 2008
Operating lease revenue increased by $510,200 in the quarter ended September 30, 2009, compared to the same period in 2008, primarily because of an increase in operating lease revenue from aircraft and aircraft engines purchased during 2008 and 2009, as well as increases related to re-leases of aircraft that were off lease for part of the 2008 periods, and re-leases of several of the Company's aircraft during 2008 at increased rental rates. The aggregate effect of these increases was partially offset by a decrease in revenue related to aircraft that were off lease for all or part of the 2009 quarter.
Maintenance reserves revenue, comprised of non-refundable reserves which are earned based on lessee aircraft usage, decreased by $286,500 in the 2009 quarter, compared to the same period in 2008, primarily as a result of lower average usage of aircraft by some the Company's lessees in the 2009 period.
Other income increased by $213,600 in the quarter ended September 30, 2009, compared to the same period in 2008, principally because the 2009 period included a gain on expected insurance proceeds for damage to the Company's spare Saab 340A aircraft engine.
Interest expense decreased by $474,100 in the quarter ended September 30, 2009, compared to the quarter ended September 30, 2008, primarily because of lower average Credit Facility rates and balances and a greater gain in fair value related to the Swap, the effects of which were partially offset by an increase in net settlement interest related to the Swap and an increase in Subordinated Notes fee amortization as a result of the issuance of additional Subordinated Notes in July 2008.
In early 2009, the Company obtained new residual values for its aircraft from a third-party appraiser. As a result of the net effect of changes in several residual values, depreciation increased by $35,600 in the quarter ended September 30, 2009, compared to the same period in 2008.
Management fees decreased by $39,100 in the quarter ended September 30, 2009, compared to the same period in 2008 because of monthly depreciation, the effect of which was only partially offset by the purchase of two aircraft engines in August 2009.
The Company's incurs maintenance expense when lessees perform maintenance on leased assets using non-refundable maintenance reserves previously collected by the Company pursuant to the lease agreements for such assets. The Company also incurs maintenance when it performs maintenance on off-lease aircraft. As a result, the Company's maintenance expense is dependent on the aggregate amount of maintenance incurred by lessees using non-refundable reserves and expenses incurred in connection with off-lease aircraft, and, therefore, can vary greatly between periods. In the quarter ended September 30, 2009, the Company recognized $1,781,100 more in maintenance expense compared to the 2008 period.
During the quarters ended September 30, 2009 and 2008, $1,333,100 and $454,900, respectively, of the Company's maintenance expense was funded by non-refundable maintenance reserves, which were recorded as income when accrued.
The Company's effective tax rates for the quarter ended September 30, 2009 and 2008 were approximately 35% and 37%, respectively. The 2009 rate was lower as a result of the Company's recognition in 2008 of the effect of a difference for GAAP and tax purposes in the valuation of warrants issued in connection with the Company's issuance of Subordinated Notes.
Nine months ended September 30, 2009 compared to the nine months ended September 30, 2008
Operating lease revenue increased by $1,767,300 in the nine months ended September 30, 2009, compared to the same period in 2008, primarily because of an increase in operating lease revenue from aircraft and aircraft engines purchased during 2008 and 2009, as well as increases related to re-leases of aircraft that were off lease for part of the 2008 periods, and re-leases of several of the Company's aircraft during 2008 at increased rental rates. The aggregate effect of these increases was partially offset by a decrease in revenue related to aircraft that were off lease for all or part of the 2009 period.
Maintenance reserves revenue decreased by $825,800 in the 2009 period, compared to the same period in 2008, primarily as a result of lower average usage of aircraft by some the Company's lessees and because there were more aircraft off lease in the 2009 period compared to the 2008 period.
Other income increased by $272,900 in the nine months ended September 30, 2009, compared to the same period in 2008, principally because the 2009 period included interest income related to a federal tax refund and a gain on expected insurance proceeds for damage to the Company's spare Saab 340A aircraft engine. The 2008 period included compensation related to a re-lease transaction that was not consummated.
Interest expense decreased by $913,100 in the nine months ended September 30, 2009, compared to the nine months ended September 30, 2008, primarily because of lower average Credit Facility rates and balances and a greater gain in fair value related to the Swap, the effects of which were partially offset by an increase in net settlement interest related to the Swap and an increase in Subordinated Notes interest and fee amortization as a result of the issuance of additional Subordinated Notes in July 2008.
Depreciation increased by $401,500 in the nine months ended September 30, 2009, compared to the same period in 2008, primarily because of purchases of aircraft and aircraft engines during July 2008 and August 2009, as well as changes in residual values for several of the Company's aircraft.
Management fees, which are calculated on the net book value of the aircraft, increased by $28,500 in the nine months ended September 30, 2009, compared to the same period in 2008 because of a higher total aircraft net book value as a result of acquisitions of aircraft and aircraft engines in mid-2008 and August 2009. The effect of this increase was partially offset by the effect of depreciation.
In the nine months ended September 30, 2009, the Company recognized $1,361,800 more in maintenance expense than in the same period of 2008. The increase was due to the net effect of an increase in expense related to off-lease aircraft and a decrease in maintenance performed by lessees using non-refundable reserves.
During the nine months ended September 30, 2009 and 2008, $2,726,800 and $1,887,400, respectively, of the Company's maintenance expense was funded by non-refundable maintenance reserves that were recorded as income when accrued.
The Company's effective tax rates for the nine months ended September 30, 2009 and 2008 were approximately 34% and 36%, respectively. The 2009 rate was lower as a result of the Company's recognition in 2008 of the effect of a difference for GAAP and tax purposes in the valuation of warrants issued in connection with the Company's issuance of Subordinated Notes.
Liquidity and Capital Resources
The Company is currently financing its assets primarily through debt borrowings and excess cash flows.
(a)Credit Facility
The total amount available under the Credit Facility is $80 million. During the nine months ended September 30, 2009, the Company borrowed $4,000,000 and repaid $9,096,000 of the outstanding principal under the Credit Facility. The balance of the principal amount owed under the Credit Facility at September 30, 2009, was $53,000,000 and interest of $35,600 was accrued.
The Company was, at September 30, 2009, and currently is in compliance with all covenants of the Credit Facility. Based on its current projections, the Company believes it will continue to be in compliance with all covenants of its Credit Facility, but there can be no assurance of such compliance in the future. The Credit Facility expires in March 2010. The Company is currently in discussions for a renewal of the Credit Facility, but there is no assurance that it will be renewed on favorable terms to the Company or at all, or that, if renewed, the amount of credit available under the facility will remain at current levels. See "Factors That May Affect Future Results - 'Risks of Debt Financing' and 'Credit Facility Obligations,'" below.
The Company's interest expense in connection with the Credit Facility generally increases and decreases with prevailing interest rates, although the Company did enter into the Swap in December 2007 that expires in December 2009, as discussed in Note 4 above and paragraph (b) below. Because aircraft owners seeking financing generally can obtain financing through either leasing transactions or traditional secured debt financings, prevailing interest rates are a significant factor in determining market lease rates, and market lease rates generally move up or down with prevailing interest rates, assuming supply and demand of the desired equipment remain constant. However, because lease rates for the Company's assets typically are fixed under existing leases, the Company normally does not experience any positive or negative impact in revenue from changes in market lease rates due to interest rate changes until existing leases have terminated and new lease rates are set as aircraft are re-leased.
(b)Derivative instrument
In December 2007, the Company entered into the Swap, a two-year interest rate swap with a notional amount of $20 million, under which it committed to make or receive a net settlement for the difference in interest receivable computed monthly on the basis of 30-day LIBOR and interest payable monthly on the basis of a fixed rate of 4.04% per annum. The Swap is designed to limit exposure to interest rate increases on $20 million of the Company's Credit Facility debt by fixing the net interest payable over the term of the Swap.
The Company recognized net settlement expense related to the Swap of $191,900 and $554,400 for the three months and nine months ended September 30, 2009, respectively, as a component of interest expense. Short-term interest rates are currently below the fixed rate of the Swap. If short-term interest rates remain below the fixed rate of the Swap, the Company will incur additional interest expense as a result.
At September 30, 2009, the Company also recognized a $196,100 liability for the Swap on its condensed consolidated balance sheet as a component of notes payable and accrued interest, which reflects market expectations concerning the "spread" between fixed and variable interest rates over the remaining term of the Swap. The Company also recognized gains on the Swap of $170,000 and $449,700 for the three months and nine months ended September 30, 2009, respectively, as a component of interest expense for the change in fair value of the Swap contract. Market expectations of increasing interest rates will tend to decrease the fair value of the Swap, and expectations of decreasing interest rates will tend to increase the fair value of the Swap. The term of the Swap ends on December 31, 2009.
(c)Senior unsecured subordinated debt
As of September 30, 2009, the carrying amount of the Subordinated Notes was $10,529,300 (outstanding principal amount of $11,167,000 less unamortized debt discount of $637,700) and accrued interest payable was $0. The Company is currently, and at September 30, 2009 was, in compliance with all covenants under the securities purchase agreement pursuant to which the Company issued the Subordinated Notes. Based on its current projections, the Company believes it will continue to be in compliance with all covenants of the securities purchase agreement pursuant to which the Company issued the Subordinated Notes, but there can be no assurance of such compliance in the future. See "Factors That May Affect Future Results - 'Risks of Debt Financing' and 'Credit Facility Obligations,'" below.
(d)Special purpose financing
In March 2009, the Company repaid the outstanding principal of $646,800 owed by AeroCentury VI LLC under its special purpose financing and paid a prepayment penalty of $1,300. At the same time, the Company transferred ownership of the aircraft that served as collateral for the financing from AeroCentury VI LLC to AeroCentury Corp., whereupon the aircraft became eligible as collateral under the Credit Facility. AeroCentury VI LLC was dissolved in September 2009.
(e)Cash flow
The Company's primary sources of cash are aircraft lease rentals and maintenance reserves billed monthly to lessees based on aircraft usage. Maintenance reserves collected by the Company are not required by the leases to be segregated and are included in cash and cash equivalents on the Company's condensed consolidated balance sheet.
The Company is currently not receiving lease revenue for its off-lease assets, comprised of one Fokker 50 and two Saab 340A aircraft. The Company has and will continue to incur significant maintenance expense in order to prepare these aircraft for re-lease. In addition to the Fokker 50 lease that has continued on a month-to-month basis since its expiration in May 2009, five of the Company's leases expire during the fourth quarter of 2009. The Company believes that it will be successful in extending the leases for a majority of these aircraft, given preliminary indications from current lessees.
The Company expects to receive insurance proceeds for a damaged spare aircraft engine and replace it during the fourth quarter. In September 2009, the Company recorded a gain on the expected insurance proceeds.
The Company's primary uses of cash are for servicing principal and interest payments due under the Company's debt obligations, maintenance expense, management fees, professional fees, and insurance. The debt repayment obligations increased in April 2009, when the Subordinated Notes debt repayment schedule began to require principal amortization in addition to interest. The amount of interest paid by the Company is dependent on the outstanding balance of its Credit Facility and Subordinated Notes debt. Although the Subordinated Notes debt bears a fixed interest rate, the amount of interest owed under the Credit Facility is dependent on changes in prevailing interest rates, since the Credit Facility debt carries a floating interest rate. The amount and timing of the Company's maintenance payments are dependent on the aggregate amount of the maintenance claims submitted by lessees for reimbursement from reserves and expenses incurred in connection with off-lease aircraft and preparation of such aircraft for re-lease to new customers.
Management believes that the Company will have adequate cash flow to meet its
ongoing operational needs, including required repayments under its Credit
Facility and Subordinated Notes, based upon its estimates of future revenues and
expenditures, which include assumptions regarding (i) renewal of the Credit
Facility when it expires in March 2010 under terms that permit borrowing in an
amount and under terms substantially equivalent to the existing Credit Facility;
(ii) rents on assets to be re-leased, (iii) timely use of proceeds of unused
debt capacity toward additional acquisitions of income producing assets, (iv)
required debt payments, (v) interest rate increases and decreases, and (vi) the
cost and anticipated timing of maintenance to be performed.
Although the Company believes that the assumptions it has made in forecasting its cash flow are reasonable in light of experience, actual results could deviate from such assumptions. Among the more significant factors outside the Company's control that could have an impact on the accuracy of cash flow assumptions are (i) an increase in interest rates that negatively affects the Company's profitability and causes the Company to violate covenants of its Credit Facility or its Subordinated Notes, which may in turn require repayment of some or all of the amounts outstanding under the Credit Facility or the Subordinated Notes, (ii) lessee non-performance or non-compliance with lease obligations which may affect Credit Facility collateral limitations and Subordinated Notes covenants, as well as revenue and expenses, (iii) inability to locate and acquire a sufficient volume of additional aircraft assets at prices that will produce acceptable net returns, (iv) lessee performance of maintenance earlier than anticipated, (v) inability to locate new lessees for returned equipment within a reasonable remarketing period, or at a rent level consistent with projected rental rates for the asset; (vi) failure to renew the Credit Facility on terms favorable to the Company or at all, and (vii) if the Credit Facility is renewed, a reduction in participation by lender participants that reduces the Company's ability to borrow.
(i)Operating activities
The Company's cash flow from operations increased by $2,382,300 in the nine months ended September 30, 2009 compared to the same period in 2008. As discussed below, the change in cash flow from period to period was primarily a result of an increase in payments received for rent, security deposits and tax refunds and a decrease in expenditures for interest, the effects of which were partially offset by an increase in expenditures for maintenance and a decrease in payments received for maintenance reserves.
Lease rents, maintenance reserves and security deposits
Payments received from lessees for rent increased by $420,900 in the nine months ended September 30, 2009, compared to the same period in 2008, due primarily to rent payments for aircraft and aircraft engines acquired during 2008 and 2009, and re-leases during 2008 at increased rental rates for several of the Company's aircraft. The aggregate effect of these increases was partially offset by a decrease in revenue related to aircraft that were off lease for all or part of the 2009 period.
Payments received for refundable and non-refundable maintenance reserves are based on usage of the Company's aircraft. Such payments were $1,155,300 lower in the nine months ended September 30, 2009 compared to the comparable period in 2008 primarily as a result of lower average usage of aircraft by some the Company's lessees.
The Company received security deposits in the amount of $184,000 during the first nine months of 2009. During the first nine months of 2008, the Company returned a $308,000 security deposit to a lessee upon return of an aircraft at lease end and received security deposits totaling $210,000.
Payments for interest
Payments for interest decreased by $961,900 in the first nine months of 2009 compared to the same period of 2008. The Company paid $1,598,100 less interest related to the Company's Credit Facility and special purpose financing debt in the 2009 period compared to the same period in 2008 as a result of lower average outstanding balances and lower average index rates upon which the Credit Facility and special purpose financing interest rates were based. The Company also paid $19,100 more in commitment fees related to the unused portion of its Credit Facility in the 2009 period. The Company paid $45,500 less in commitment fees related to its Subordinated Notes debt in the 2009 period because no such fees were payable after the Company's issuance of Subordinated Notes in July 2008. The aggregate effect of these decreases was partially offset by an increase of $266,700 in interest payments related to the Company's Subordinated Notes in the nine months ended September 30, 2009, compared to the same period in 2008 as a result of a higher average principal balance. During the first nine months of 2009, the Company also paid $395,900 more of net settlement interest related to the Swap than during the 2008 period.
Payments for maintenance
Payments for maintenance increased by $193,600 in the first nine months of 2009 compared to the 2008 period, as a result of payments for off-lease aircraft which were $1,206,600 greater in 2009, offset partially by $1,013,000 of lower payments for lessee maintenance claims in 2009. The amount of payments for maintenance in future periods will be dependent on the amount and timing of maintenance paid as reimbursement to lessees from maintenance reserves, which are dependent upon utilization and required maintenance intervals, and maintenance paid for off-lease aircraft.
Income taxes
During the nine months ended September 30, 2009 the Company received $1,625,100 of Federal tax refunds and paid taxes of $5,300. The Company received $210,500 of Federal tax refunds and paid taxes of $3,700 in the nine months ended September 30, 2008.
(ii)Investing activities
During the first nine months of 2009 and 2008, the Company used cash of $5,011,400 and $13,883,800, respectively, for aircraft purchases and capital equipment installed on aircraft.
(iii)Financing activities
The Company borrowed $4,000,000 and $12,500,000 during the first nine months of 2009 and 2008, respectively. The Company repaid $12,677,000 and $15,223,700 of its outstanding debt in the nine months ended September 30, 2009 and 2008, respectively. Such payments were funded by excess cash flow. In the first nine months of 2008, the Company also issued $4,000,000 of principal amount of Subordinated Notes, the net proceeds of which were used to repay a portion of the Company's Credit Facility debt.
Outlook
(a) General
The current global downturn has resulted in a significant reduction in airline passenger volume and in reaction to that, a reduction in the number of aircraft needed for operation by large and small carriers in nearly all geographic areas. The Company therefore anticipates that there will be few acquisition opportunities for the Company for the remainder of 2009 and into early 2010. Furthermore, while this period of industry contraction continues, it is likely that the Company's asset portfolio will grow at a slower rate than in prior years. In addition, prolonged reduction in aircraft demand without improvement for a significant period of time may have a materially adverse impact on the Company's profitability.
The continued reduction in the demand for aircraft may also increase the possibility that lessees will choose to return leased aircraft at lease expiration rather than renew the existing leases. It also increases the risk of a lease default, particularly by less-established carriers. If the Company experiences an unanticipated increase in the number of its aircraft being returned at lease end or if it experiences significant lessee defaults, this combined with the lack of other carriers seeking aircraft in this environment of contraction may make finding replacement lessees more challenging for the Company, and require a larger proportion of the Company's operational focus than in years past. A significant increase in the number of aircraft off-lease, or a significant increase in the time that returned aircraft are off lease, will have an adverse impact on the Company's results.
As the industry downturn has continued, however, except for the lease termination and payment deferrals discussed in more detail below, the Company has yet to experience significant changes in any of its customers' payment timeliness. The Company does, however, see indications of a weakening in both the financial condition and operating results of the majority of its customers. The Company is closely monitoring the performance of all of its lessees.
To date in 2009, the Company has agreed to lease payment deferrals for four of its lessees, to assist them through a difficult financial situation related to each carrier's specific situation but in some cases exacerbated by the global economic situation.
In February 2009, the Company and the lessee of two of the Company's Fokker 100 aircraft agreed to defer a portion of the rent and maintenance reserves due from the lessee. The agreement required payment in four, equal monthly installments beginning in March 2009; the Company has received all four payments.
In June 2009, the Company and the lessee for three of the Company's Fokker 100 aircraft entered into an agreement which deferred payment of three months of rent for each aircraft, totaling $990,000, and allowed for the application of a portion of the security deposits held by the Company to maintenance reserves owed to the Company. The deferred rent is to be paid in monthly installments beginning January 2010 and continuing through the expiration date of each lease.
In June 2009, the Company also agreed to defer payment of rent and reserves due from the lessee of two of the Company's DHC-8-100 and one DHC-8-300 aircraft. The agreement allows for the deferred amount of approximately $492,000 to be paid in monthly installments beginning in August 2009. The Company has received all deferral payments due to-date. The deferral balance as of October 31, 2009, including accrued interest, was approximately $416,000.
In October 2009, the Company and a customer that leases two of its Fokker 50 aircraft agreed to defer payment of rent and reserves totaling approximately $399,000 to April 2010.
The Company has a signed term sheet and received a deposit for the re-lease of its two off-lease Saab 340A aircraft and one spare engine. Delivery of both aircraft to the lessee is expected to occur in early 2010. The Company also has a signed term sheet for the re-lease of a Fokker 50 aircraft that was returned by its previous lessee in August 2008. The amount of maintenance expense that will be incurred in future periods for remaining work necessary to prepare the currently off-lease aircraft for re-lease is estimated to total approximately $625,000.
During the nine-month period ended September 30, 2009, the Company has extended the terms of six leases and re-leased an aircraft that was returned in February 2009. The lessee of three of the Company's Fokker 50 aircraft has notified the Company that it will return one of the aircraft in late 2009. The leases for the two engines that the Company purchased in August 2009 expire in December 2009. The lessee has indicated an interest in extending the leases to March 31, 2010. The Company is currently negotiating the extension of the four other leases that expire in the remainder of 2009. If the aircraft that are currently off lease, for which the Company has executed or is negotiating term sheets, are not delivered and remain off lease for an extended period of time and the Company is not successful in extending the leases for a majority of the leases expiring in 2009, the Company may not have sufficient cash flow to meet its operational needs or remain in compliance with the terms of its Credit Facility and Subordinated Notes.
Factors that May Affect Future Results
Availability of Financing. The current term of the Company's $80 million Credit Facility expires in March 2010. As of November 16, 2009, the balance due under the Credit Facility was $52 million. The Company may not be able to renew the Credit Facility on terms favorable to the Company, or at all. If the Credit Facility is renewed, there can be no assurance that the current lenders participating in the facility will remain as participants, and if they do remain, that they will participate in the amount for which they are currently committed. If one or more participants does not continue or reduces its participation amount, then the Company may either need to pay off such participant by obtaining additional commitment amounts from the remaining lenders, finding new replacement lenders, selling assets, or doing a combination of any of the foregoing.
In the longer term, the Company's continued growth will depend on its ability to obtain capital, either through debt or equity financings. The financial markets . . .
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