The use of Export Credit Agency (ECA) funding in the aviation industry has fluctuated over the years, and it is often during times of turbulence that it has been found the most popular. Given the current COVID-19 pandemic and the unprecedented downturn in the aviation industry, it is very likely that there will be an increase in the use of ECA funding in the near future.
For those unfamiliar with ECA financing, this is a form of financial support provided by a government agency to promote the export of goods made in the home country, usually in the form of a direct loan. or a guarantee to the lending institution which finances the purchase of the goods concerned. The fundamental premise is that the exports of domestic producers of goods and services will be enhanced when foreign buyers have access to the ECA product – a loan to a foreign buyer who benefits from a guarantee issued by the Export-Import Bank of the United States (EXIM), the official ECA of the United States, is essentially equivalent to the purchase of a US Treasury bill.
A typical ECA financing structure for the purchase of an aircraft will involve an 85% loan from a syndicate of ECA-backed banks, and this loan will be guaranteed by one or more OCEs. The unfunded portion of the cost of the aircraft will usually be an equity contribution (and, where applicable, in the form of a loan, fully subordinated to the ECA loan).
Historical trends with ECA funding
Today, there are about 80 countries that have established ECAs or some variation of this national export support. The first official ECA, the English Credit Guarantee Department, was established in the United Kingdom in 1919 in the aftermath of the First World War. In general, ECA activity tends to be countercyclical: during economic downturns, when banks and other credit institutions are reluctant to finance themselves, ECA activity accelerates. For example, between 2009 and 2012, EXIM helped finance approximately 30% of all Boeing commercial aircraft deliveries.
Conversely, the increased availability of traditional debt in the market, as well as the changes in the context of ECA financing (as described in more detail below), combined with high export credit premiums for buyers and sellers. borrowers, have led to a reduction in the use of ECA financing in recent years, to a particularly low level in 2015-2016.
Industry Context for ECA Funding and Current Trends
There have been many changes in the context of ECA funding over the past five years. EXIM received its reauthorization in December 2019 after losing it in 2015 – so it was effectively inactive for a period of 4.5 years – while ECA activity for Airbus was curtailed following a UK Serious Fraud Office (SFO) 2016 investigation into illegal breaches. Airbus payments to intermediaries that have made Airbus ECA coverage available on a limited, case-by-case basis. In addition, the Internal Market Rule, which is an informal agreement whereby EXIM and some European ECAs agree not to provide export credit financing to borrowers located in their own market or that of the other , has also proved controversial with airlines in the United States. and parts of Europe which were not eligible for export credit due to the “home market” rule. They see themselves as unfairly disadvantaged compared to airlines outside these jurisdictions. The product is therefore not without detractors.
These events, however, helped stimulate the development of alternatives to the financing of ECAs, namely non-payment insurance (NPI). NPI is a form of insurance coverage offered by an insurance company that pays an insured lender for a loss caused by a borrower’s failure to make payments in accordance with the underlying funding agreements. Marsh LLC, in association with Boeing, launched the Aviation Finance Insurance Consortium (AFIC) NPI in June 2017. AFIC has sought to leverage available capital in the insurance market to cover credit from lenders, the residual aircraft risk and jurisdictional risk, with Marsh LLC being the exclusive broker. Meanwhile, Marsh SAS, in association with Airbus, well-rated lenders and a pool of insurers, has launched Balthazar, an NPI for lenders and investors financing the purchase of new Airbus aircraft, with Marsh SAS being the exclusive broker. . Insurers typically offer 100 percent coverage with terms of up to 12 years.
In turn, other providers – such as Aviation Capital Group (ACG), with its Aviation Financing Solutions (AFS) group – have implemented warranty products, very close to the original EXIM product. While not an insurance product as such, it provides essentially the same level of economic support.
These products have been on the market for a few years now and are already combined with established aircraft finance products such as the Japanese Operating Lease with Purchase Options (JOLCO) and other tax leases. They are expected to continue to expand and cover the same waterfront as would have been the case for ECAs.
Recent developments in EXIM
On May 21, 2020, and following an 11-month review process, EXIM took unanimous steps to reform two key elements of EXIM’s approval process: economic impact analysis and l ‘additionality’ analysis.
The reform of EXIM’s economic impact procedures aims to ensure a more in-depth assessment of the potential impact of any given transaction on the national industries concerned. The new procedures will attempt to introduce greater transparency for all interested parties by allowing these parties to be proactively informed of potential transactions and to have access to the economic impact assessment. For commercial aircraft transactions, the economic impact analysis will focus only on the economics of route specific competition.
The reform of EXIM’s “additionality” criteria also aims to introduce a more forensic test when it comes to examining whether its support for a given transaction is necessary and not, in fact, a practical substitute. private sector financing. EXIM will now require a greater level of formal written documentation to support the argument for additionality, including prescriptive checklists and explanations of why lenders are unable to provide an funding without the support of EXIM. At first glance, the rules appear to be designed primarily to ensure that EXIM’s involvement genuinely facilitates a transaction that otherwise would not go through without its support.
However, the practical impact of these new rules is not clear. For example, there is no clear indication of what kind of evidence would be needed to pass such a test, and in some cases simple oral evidence may actually suffice (assuming the loan officer bank EXIM places a note on the file concerned). In addition, it would appear that a borrower may apply for EXIM financing if “the foreign buyer seeks to diversify their financing, including a dedicated allocation of financing from ECAs”, suggesting a certain degree of flexibility as to the requirement of EXIM’s involvement to facilitate a transaction. it would not happen otherwise.
ECAs are expected to play an important role for future aircraft finance, especially for airlines with lower credit ratings, if access to traditional debt finance becomes increasingly restricted to airlines with ( plus) credit rating. However, since the ECA application and approval process takes some time to complete, it may take several months for there to be an increase in deliveries of ECA-supported aircraft. . Otherwise, it remains to be seen whether the reform of EXIM approval procedures, in particular the emphasis on “additionality”, will serve to reduce the number of deliveries of Boeing aircraft supported by EXIM, or, conversely, , whether the reforms will have a substantial impact on the EXIM application process, noting that there does not appear to be any statistical analysis demonstrating how past transactions would go under the new regime. In the event that the reforms introduce a significant gear shift for EXIM that makes its product more exclusive – as opposed to just one of the many financing options available in the market – then this may suggest a potential significant divergence of approach by compared to other ECAs, including that of the European Airbus supporting ECAs.