On November 5, 2020 Apollo investment (AINV) provided a substantive qualitative update on aircraft leasing and servicing investment Merx Financial during its IIIQ 2020 conference call. We’ll quote in full from the lengthy – but still lacking in detail – prepared remarks:
” …the pandemic has had a significant adverse effect — impact on the global economy with direct implications for the aviation sector, although we are starting to see some recovery in global air traffic. Merx continues to closely monitor the current market environment and proactively maintain dialogue with its airline clients globally.
During the quarter, the fair value of AINV’s investment in Merx declined by $5.7 million or 1.8%. The quarter-over-quarter change reflects the decline in the fair value of Merx’s fleet given the challenging environment, partially offset by an increase in the value of Merx’s servicing business.
As discussed in the past, in addition to aircraft leasing, Merx has built a best-in-class servicing platform and acts as a servicer or technical adviser for aviation assets across the broader Apollo platform. Merx is now benefiting from a growing servicing business, which has helped partially offset the decline in fair value of its fleet during the quarter. We believe Merx’ portfolio compares favorably with other major lessors in terms of asset, geography, age, maturity and lessee diversification. Merx’s portfolio is skewed towards the most widely used types of aircraft, which means demand for Merx’s fleet should be somewhat more resilient. Merx’s fleet primarily consists of narrow-body aircraft serving both the U.S. and foreign markets. At the end of September, Merx’s own portfolio consisted of 81 aircraft, 10 aircraft types, 40 lessees in 26 countries with an average aircraft age of 9.6 years. Merx’s fleet includes 78 narrow-body aircraft, 2 wide-body aircraft and 1 freighter.
Similar to other industry participants, many of Merx’s lessees requested rent deferrals and/or rent reductions. Merx has been working with its lessees to provide the necessary flexibility during these unprecedented times. Each request was reviewed on a case-by-case basis. Some of the deferral periods have expired, and we’re now seeing a recovery in lease payments. Despite the current industry challenges, we do not expect Merx to require funding from AINV in the near term.
The aviation team has the experience to skillfully navigate this period of market stress and the requisite capabilities to mitigate potential adverse outcomes. Additionally, the Apollo aviation platform will continue to seek to opportunistically deploy capital in the face of widespread uncertainty and market disruption. To be clear, Merx is focused on the existing portfolio and not seeking new investments. However, growth in the overall Apollo aviation platform will inure to the benefit of Merx as the exclusive servicer of aircraft owned by other Apollo firms“.
In the Q&A, AINV also revealed that many lessees received 6-9 month payment deferrals earlier in the year which have not expired. Should those payments not resume – which must be a strong possibility in many cases – that would materially impact results.
The net write-down of Merx was only ($5.9mn) because AINV also wrote up the company’s servicing business in the quarter by $4.4mn due to a deal done with Delta and because “the pipeline remains very, very robust in terms of other opportunities“.
The BDC Credit Reporter is unconvinced – given the drastic market conditions – that the overall value of Merx at $324mn – a slight premium to $320mn in cost – is appropriate. In the IIQ 2020, the BDC was forced by the impact of the pandemic to restructure its investment, resulting in a substantial loss of interest income due to a lower loan balance and yield. Yet in all of 2020, AINV has written down its value in Merx by only ($39mn), or only (10%).
Of course we don’t have access to the financial records of this huge operation, except for some summary and not very useful numbers AINV is required to reveal. Common sense – and the knowledge that AINV’s capital sits underneath a mountain of secured debt – suggests, though, that the BDC should be sharpening their pencil more. This leaves open the possibility of a further write-down or restructuring of this very large AINV investment in the future as reality catches up with valuation. In fact what happens in the next few quarters to the valuation of Merx will speak very loudly to the BDC’s credibility when marking “control investments”, of which AINV has many.