The freighter conversions market is at full throttle and in increasing cases, leasing is becoming a more viable option. A new generation of freighters is entering the market.
Following the delivery of the first batch of converted B737-700s to Alaska Airlines, the first B737-800 cargo aircraft was poised to enter service in April for freighter operator West Atlantic, which flies under contract for FedEx in Europe.
West Atlantic is taking altogether four 737-800BCFs, all of them converted by Boeing and leased from GE Capital Aviation Services (GECAS).
The leasing firm is also the launch customer for the 737-800 conversion programme of Aeronautical Engineers Inc (AEI), which is on course to deliver its first unit in June. In January, GECAS announced that the first two aircraft from that programme will be leased to Ethiopian Airlines.
The 737-800 freighter marks a step up from the 737-400 cargo version. It has a payload of 23.5 tonnes and a range of over 2,100 nautical miles and it has 12 main deck positions to accommodate 11 full-height containers and one half-width ULD.
Bedek Aviation and Pemco opted to convert the smaller 737-700 freighter, but the bulk of the activity is expected to be on the 737-800. Grégoire Lebigot, president and CEO of Vallair, reckons that the latter will garner 75 per cent of the orders for 737NG freighters.
At this point demand for 737-800 conversions is still rather slow, though, according to Bob Convey, vice president of sales and marketing at AEI. At this point the price tag is still too high for most potential takers, he thinks.
“Now it’s about $20 million for a converted plane. I think it needs to be closer to $15 million,” he comments.
While the price tag is still relatively high, the -800 offers an extra container compared with the 737-400, it is more fuel-efficient and requires less maintenance, notes Richard Greener, senior vice president and manager of the Cargo Aircraft Group at GECAS.
The residual value of conversion candidates is kept aloft by ongoing demand for 737-800s in passenger service. “People can still make money with the plane in the passenger business,” remarks Convey.
Greener confirms that feedstock is tight for the time being. He points to low fuel prices and delays with new engines that prompt passenger carriers to hang on to their -800s longer than anticipated. He reckons that supplies will be tight for approximately 18-24 months.
GECAS has a large contingent of 737-800s, so it does not face acquisition costs of conversion candidates.
“Leasing companies that have the -800 have the advantage. Still, they have to justify the conversion internally. It costs $3-5 million to convert plus the heavy check,” says Convey.
He expects the programme to get into full swing by 2020 or 2021.
For the anticipated slow interval between the slowdown of the 737-400 programme and the ramping up of the -800, AEI has embarked on CRJ200 conversions. For now, however, the -400 activity continues strong.
In early April the fifth -400 of a contract with Kalitta was inducted, scheduled to be delivered by early July. Brazilian passenger carrier Azul signed a lease for two 747-300 freighters in mid April to support the rapid growth of its cargo business.
“We see people convert stuff that a few years ago they would have passed on,” reports Convey. AEI reconfigured 23 737-400s last year, and is on course to complete 18 next year and 15 in 2019.
Vallair, which broadened its scope from its original MRO focus to other elements like leasing and conversions, is still busy turning 737-400s into all-cargo configuration. Nevertheless, it has already started acquiring -800s in preparation for a shift to the newer type.
“We will be progressively switching to the -800 and the A321. We are considering the -700 as well,” says Lebigot.
For its part, GECAS has no intention of converting any more -400s: “We sold planes to companies that want to do that,” remarks Greener. “We want to do conversions for the future.”
His company is more inclined to have A321s converted, although a final decision is yet to come on this issue.
“GECAS is the first mover in the -800 conversion market and will probably go into the A321 at some point,” comments Greener.
“We have the A321 in our portfolio. We’re looking at both programmes on offer. We probably wait until the STCs [Supplemental Type Certificate] for both have been granted before we make a decision,” he adds.
Vallair is going full throttle after the A321 freighter. It is the launch customer for the programmes of both 321 Precision Conversions, a joint venture between ATSG and B757 conversion specialist Precision Aircraft Solutions and Elbe Flugzeugwerke (EFW), with five orders from the former and ten firm orders plus ten options with EFW.
“Airbus is still producing the classic version of the A321 and will do so for a good two years,” remarks Lebigot. “I see a good 20 years in front of us”.
The A321 freighter will have a payload of up to 27 tonnes, with 14 pallet positions on the main deck.Unlike other narrowbodies, it can also take containers in the belly. Roy Linkner, vice president of sales and marketing at 321 Precision Conversions, says that this marks a significant advantage, pointing to aspects like manpower and loading single pieces in bad weather.“The integrators see that as a big plus on that airplane,” he adds. He expects the certification of the A321PC to be completed by the second half of 2019, for the aircraft to enter service in 2020.
According to some observers, this should dovetail nicely with the drying up of the 757 conversion activity, but Brian McCarthy, vice president, Aircraft Trading at Precision Aviation Solutions (PAS), sees plenty of mileage in the larger plane yet.
“We’ll be putting out 100th into conversion. I believe there are 55-60 more. It could go even higher,” he says. “None of them have more than 28,000 cycles. We’ve converted many between 30,000 and 32,000 cycles. Many in the feedstock are 22,000-25,000 cycles.”
In recent years PAS has turned out 18-20 freighters per year and this year should yield 19 or 20, McCarthy says. According to Linkner, A321 Precision Conversions will be turning out similar numbers.
Getting hold of conversion candidates is another matter. “The key issue is feedstock,” comments Greener. He sees 536 potential candidates in the 737-800 arena, but only some 121 in the A321 pool.
Both the A321 and the 737-800 are generally seen as freighters to serve chiefly the express parcel and e-commerce sectors, including postal operators. As Ethiopian’s lease deal with GECAS illustrates, there is also some potential in the general cargo market, notably from combination carriers, remarks Greener.
The recovery in air cargo over the past two years has not wiped out the memory of the preceding blight that prompted many carriers to park freighters, so airline boards are not prone to rush into freighter investment. Greener finds there is a wait and see attitude at the moment.
With their financing capabilities and access to very low interest rates, the large express operators typically prefer to own freighters rather than lease them, although there is some room for leasing for the sake of flexibility or traffic rights, notes Lebigot. “We see they are not closing the door to leasing,” he says.
“For other operators that do not have the financial resources, leasing is a good opportunity to grow,” he continues.
The rise of e-commerce, that has driven much of the growth in air cargo, appears to be changing the operator landscape as well.
“I think we will see a proliferation of a new breed of operators responding to the e-commerce phenomenon. These guys have big plans and are well financed,” says McCarthy.
He points to trucking companies and flower growers that look to air cargo service. Instead of reaching for traditional haulers, they will try to mount operations themselves. For such ventures, leasing is a more viable approach than outright freighter acquisition.
“I think we will see them lease blocks of aircraft to suit their needs,” he reflects. “Leasing is going to be their first choice until they become more experienced in managing aircraft.”
Lebigot reckons that e-commerce will drive freighter operators to step up their flying to boost utilisation, with potential ramifications for their hub structure.
Greener also sees possible change in the wake of the rapid expansion of e-commerce. These providers have closed systems, controlling both the point of sale and the delivery.
Hence, they could fly day and night instead of adhering to the traditional express parcel set-up, he says. However, at this point it is too early to judge if e-commerce will bring about a fundamental change in the utilisation of narrowbody freighters, he adds.
Traditionally, the market has shown a balance between freighter ownership and leasing. According to Convey, about half of the 737-400 freighters in the market today are leased. Linkner estimates that the split will roughly be similar for the A321 freighter.
In the early stage of the game, though, with residual values still high, the leasing companies are set to take the lead.
“We see the leasing companies in the front end of new programmes. They are the ones who jump-start new programmes,” says McCarthy.
GECAS is building up its position in 737-800 freighters. Last summer it announced plans to convert a further 30 737-800s into all-cargo aircraft, which would double the number of -800 freighters in its portfolio.
In the foreseeable future those leases are not going to be for the short term. “Typically, we go for eight to ten years. That’s what we’re getting. It blends into the maintenance cycle of the aircraft,” says Greener. “We wouldn’t do three or five years on a new conversion programme.”
With an aircraft exiting passenger service after two rounds of eight years each, this would give GECAS two eight-year leases in cargo configuration, well aligned with the maintenance cycle.
Vallair is looking for leases running for at least six to nine years, says Lebigot. He is also interested in deals that combine leasing with aircraft sales, such as leasing ten aircraft to a customer and selling them another ten.
Leasing rates for the 737-400 have gone up in response to demand. In early April they stood at $130,000 per month, plus/minus 10-15 per cent, Lebigot says.
Some operators may favour MD-80s instead, which come at half the price of a 737-400, although container commonality is an issue there. After two years of sluggish demand, AEI has seen a marked rebound in interest. “This year we will do four deliveries, next year probably six,” says Convey.
Given its age, a converted MD-11 is an outright acquisition target, not a lease vehicle, Convey notes. Likewise, he sees little scope for leasing activity around the CRJ200, given a price tag of $1.5 million to acquire the aircraft outright.
The 737NG freighters and the A321 cargo aircraft, on the other hand, will see some lively leasing activity until their values come down a fair bit.