April 9, 2018

AER Valens Credit Analysis – Consistent, material debt maturities, and neutral recovery rate imply ratings agencies and credit markets are understating risk

  • CDS markets are materially understating credit risk with a CDS of 94bps relative to an Intrinsic CDS of 253bps, while cash bond markets are understating credit risk with a cash bond YTW of 3.978% relative to an Intrinsic YTW of 5.148%. Additionally, S&P is materially understating AER’s fundamental credit risk, with their BBB- credit rating five notches higher than Valens’ HY2 (B) rating
  • Incentives Dictate Behavior™ analysis highlights management members are not material holders of the firm’s equity, implying they may not be well aligned for long-term value creation
  • Earnings Call Forensics™ of the Q4 2017 earnings call (2/14) highlights that management may lack confidence in the sustainability of strong earnings growth, and may have concerns about the new technology aircraft in their portfolio
  • AER is currently trading at a 1.3x UAFRS-based P/B, which is near the low end of valuations since 2008. At these levels, the market is pricing in expectations for Uniform ROA to remain at current 7%-8% levels, accompanied by 1% Uniform Asset growth going forward. Given that current expectations appear to be pricing in a continuation of recent trends, equity is likely fairly valued. However, should the markets realize the firm’s real credit risk, further multiple compression and equity downside may follow

Click here to view the report in its entirety.