RATING ACTION OVERVIEW
British Airways PLC is financing eight new aircraft with $542.971 million of Class AA and $263.195 million of Class A 2019-1 enhanced equipment trust certificates (EETCs), issued by British Airways Pass Through Trusts 2019-1AA and 2019-1A. They have expected final distribution dates of Dec. 15, 2032 (Class AA) and June 15, 2029 (Class A), with the final legal maturity 18 months later.
The transaction will be backed by two new Airbus A320neo aircraft and six new Airbus A350-1000 aircraft--to be delivered between July 2019 and May 2020--which we view as valuable collateral with relatively low technological or liquidity risks.
We are assigning issue-level ratings of 'AA' (sf) and 'A-' (sf) to the new Class AA and Class A EETCs. The current ratings on British Airways, including its existing EETCs, remain unchanged.
LONDON (S&P Global Ratings) July 26, 2019--S&P Global Ratings today assigned issue-level ratings of 'AA' (sf) and 'A-' (sf) to the new Class AA and Class A enhanced equipment trust certificates (EETCs), respectively, issued by British Airways Pass Through Trusts 2019-1AA and 2019-1A. These ratings are unchanged from the preliminary ratings that we assigned to these certificates on July 15, 2019.
We base our ratings on these issues on the investment-grade credit quality of British Airways PLC (BA), significant collateral coverage (on the Class AA certificates) by quality aircraft, and typical legal and structural protections available to EETCs in the U.K. The transaction includes a Japanese operating lease structure, which adds an additional layer of complexity, as in our view contractual relationships among multiple entities could delay or frustrate enforcement. However, we believe there is low risk of any insolvency of the Japanese equity investors in the operating leases affecting payments due to the EETCs.
BA will use the proceeds from this offering to fund the acquisition of two new Airbus A320neo aircraft and six new Airbus A350-1000 aircraft, which are expected to be delivered between July 2019 and May 2020. We believe that these aircraft are integral to BA's business operations. Given the cross-collateralization and (indirect) cross-default provisions--now typical features of EETCs--and the fact that the A350-1000 aircraft represent a material portion of BA's current and future fleet of those planes, we also believe that BA is likely to perform on its future obligations, including lease payments, in any future bankruptcy. In such a scenario, we believe that there is a high likelihood that BA would be able to reorganize successfully.
The certificates benefit from the liquidity facility provided by National Australia Bank Ltd. (acting through its New York branch), which would be required, if necessary, to cover up to 18 months of (six consecutive quarterly) interest payments. This would allow for continued interest payments as certificate holders negotiate with BA, and, if necessary, for certificate holders to repossess and remarket the aircraft. We believe that our issuer credit rating (ICR) on National Australia Bank Ltd. (AA-/Stable/--) is sufficiently strong that, based on our counterparty criteria, it does not represent a constraint on our ratings on the certificates. The documentation requires a replacement facility that has a long-term ICR of 'A-' or above for the Class AA certificates and 'BBB+' or above for the Class A certificates, in the event that the rating on the bank weakens beyond this level or a replacement provider is required. Should that not be possible, National Australia Bank would fund a cash collateral account with amounts necessary to fulfil its commitment.
The proceeds of the offering will be deposited with Citibank N.A. in a trust account, pending delivery of the new aircraft and the issuance of the equipment notes thereafter. Our ICR on Citibank is also sufficiently high under our counterparty criteria to support our ratings on the certificates. The documentation requires a replacement facility that has a long-term ICR of 'A-' for both the Class AA and Class A certificates.
The Airbus A320neo, the most technologically up-to-date version of Airbus's most successful aircraft, is a narrowbody aircraft that is highly liquid in the resale market given the large number of orders it has secured and numerous airline operators worldwide. The new engine options (neo) are considerably more fuel efficient (by as much as 15%) than previous models. The aircraft have "sharklets," an enhancement of the wing providing further fuel savings that should make them more valuable than earlier aircraft versions. The A320 family is a large proportion of BA's current fleet (about one-sixth), and with 18 on order and options for a further 33, it will remain a very important aircraft.
The Airbus A350-1000 is a newly developed long-haul widebody aircraft with seating capacity of 331 passengers. BA currently has 18 on order with options for a further 36. With a growing existing operator base and substantial order books with many airlines across the globe, we do not expect that there will be pressure on the market value of these aircraft, and we would not expect BA to reject the leases in an insolvency. However, downside risk could present itself if the macroeconomic environment weakens substantially or if BA changes its strategy regarding its fleet.
Under our calculations, the Class AA pass-through certificates' loan-to-value (LTV) ratio peaks at 55%, and the Class A LTV ratio peaks at 78%. This compares to LTV peaks of 49% and 73% respectively in the offering memorandum (OM), using appraised base values that total $1.1 billion at the beginning of the transaction. When we evaluate an EETC, we compare the values provided by the appraisers in the OM with our own sources, and use more conservative assumptions regarding depreciation rates. Our analysis also considered that a full draw on the liquidity facility, plus the interest on those draws, represents a claim that is senior to the certificates' (although this is not directly reflected in our LTV ratio).
Insolvency proceedings relating to BA would likely proceed under U.K. insolvency law, which does not have an equivalent to the protections provided by Section 1110 (of the Bankruptcy Code) in the U.S. The ability of lessors to exercise remedies in bankruptcy, reorganization, or insolvency would likely involve court proceedings in England and Wales. The Cape Town Convention, an international treaty that was ratified by the U.K. in 2015, includes the ability for lessors and secured lenders to obtain possession of aircraft after a 60-day stay period following insolvency, if BA (or its administrator) has not cured all defaults under the related leases and agreed to perform on future obligations under such leases. Although this treaty has not yet been interpreted in U.K. courts, we believe that its provisions would be applied.
The ratings on the Class AA certificates are six notches above the ICR on BA, and the ratings on the Class A certificates are two notches above the ICR. Our ratings on EETCs are in some cases well above the ICR on the airline, because a default on the certificates occurs only if: 1) the airline enters insolvency proceedings; and 2) the airline either liquidates or reorganizes but rejects the secured aircraft debt or leases that collateralize the rated certificates; and 3) proceeds from repossession and sale of the aircraft collateral are insufficient to repay principal and interest due on the certificates. The chance of these three events happening in succession is almost always less than that of an insolvency of the airline. Holders of EETCs, particularly the senior class, can also be repaid if the airline agrees on a restructuring plan with them that lowers payments but still pays enough to cover the senior class of EETCs.
For BA's Class AA certificates, we assigned three notches of rating uplift from the ICR to reflect the likelihood that the airline would reorganize successfully and agree to keep paying on the certificates. This could occur if BA either "affirms" (agrees to perform on) the secured debt on each aircraft in the collateral pool, or if the airline negotiates revised payment terms with the "controlling party" (the senior class of EETCs) that preserve payment to the Class AA but not necessarily the Class A certificates. We assigned a further three notches of uplift to reflect the likelihood that, should BA either fail to reorganize or reject the aircraft debt in insolvency, creditors would still be able to sell the repossessed planes for sufficient proceeds to repay principal and accrued interest (which could take the form of repaying draws on the liquidity facility).
In the case of the Class A certificates, we assigned two notches of rating uplift to reflect the likelihood of continued payment in insolvency, but no additional notches to reflect the likelihood that repossession and sale of collateral would, if needed, repay principal and interest, given the relatively high LTV of the certificates.
A downgrade of BA would likely result in us lowering the ratings on the certificates. Conversely, an upgrade of BA may not result in an upgrade of the certificates due to our counterparty criteria, specifically the minimum rating threshold on the depositary provider as per the EETCs' documentation. We would also review our ratings if there was a material deterioration in our view of the market value of the aircraft and resulting LTV ratios. Furthermore (although we do not view it as likely), if the U.K.'s departure from the EU resulted in meaningful adverse changes to the legal and structural protections currently benefitting EETCs in the U.K., we could consider lowering the ratings on the certificates.