Business

Know the Business

Avation is a sub-scale, B-rated aircraft lessor: a leveraged spread business that earns ~11% on a fleet of 33 aircraft, pays ~7% on $600M of debt, and prints the difference on a thin sliver of equity. The right way to value it is not earnings — those are noisy from non-cash purchase-rights revaluations and IFRS 9 debt-modification entries — but the gap between $3.70 NAV per share and the ~$1.80 share price, weighed against the structural reasons that gap exists. The market is plausibly underestimating the just-completed 2031 refinancing and the option value embedded in 24 ATR purchase rights (Cirium-valued at $552M); it is plausibly overestimating how quickly a small lessor with single-customer concentrations and a B credit can compress that NAV discount.

1. How This Business Actually Works

Avation buys aircraft, finances ~75% of the cost with debt, and rents them to airlines under long-term leases. Profit is the spread between rent received and interest paid, amortised over the asset's useful life.

The economics are simple but unforgiving. Rent income depends on the aircraft type, lease term, and lessee credit. The cost of debt depends on Avation's own credit (B1/B/B), which is itself tied to the perceived credit of the airlines on the other side of the leases. Returns on equity are amplified by leverage of roughly 2.6x debt-to-equity. Anything that compresses the spread — rising base rates, lessee defaults, repossession delays, unfavourable re-leasing — flows directly to the equity, which is small.

Lease rentals are the recurring engine. Maintenance reserves are reimbursable cash deposits airlines pay against future heavy maintenance — they are recognised as revenue only when not expected to be returned, which makes their timing lumpy (FY2025 +$22M vs FY2024 +$5M caused most of the reported revenue jump). Aircraft sale gains are a fourth, irregular line: two ATR-72-600 sales generated $3.5M of profit in FY2025 and a Boeing 777 sale completed post-period at "material profit above book." The takeaway is that headline "revenue growth" can move 20% from accounting-driven items that are not real economic momentum.

The Singapore Aircraft Leasing Scheme — granted again in August 2024 for another five years at 8% — is a real, durable advantage versus a UK or EU domiciled lessor paying the headline corporate rate. It is a small structural moat that compounds over decades of asset life.

2. The Playing Field

Avation is a minnow next to AerCap and Air Lease, and the peer table makes the size and credit gap brutal. Its discount to book is the widest, its ROE is the lowest, and its debt is the most expensive — which is a coherent picture, not an anomaly.

Three things stand out. First, the market clearly prices lessors on returns on equity, and Avation has not earned a clean double-digit ROE since 2019. Second, scale matters because it lowers the cost of debt: AerCap and Air Lease borrow at investment-grade rates ~4.3-4.6%, Avation pays 6.8%, and that 200-250 bps gap is most of why the small player can't compete on growth. Third, BOC Aviation sits inside a state-owned bank balance sheet — a peer-set cost-of-funds advantage that no independent lessor can match. The lesson for an analyst: small + B-rated + unsecured-bond-funded is a permanent structural disadvantage, not a temporary one to be arbitraged away.

What "good" looks like in this industry is not creative deal-making — it is the boring stuff: cost of funds, fleet-age discipline, lease portfolio diversification, and rapid asset rotation when the cycle turns. AerCap's GECAS deal in 2021 was a once-a-decade scale event; Air Lease was built by Steve Hazy specifically to reproduce a previous franchise. Smaller lessors generally exist either as acquisition targets, niche specialists (WLFC in engines), or value plays trading at discounts to NAV — which is the box Avation lives in.

3. Is This Business Cyclical?

Aircraft leasing is cyclical in three different ways at once: a slow asset-value cycle (residual values), a faster lessee-credit cycle (airline bankruptcies), and a credit-market cycle (refi access). Avation's history shows all three.

The 2020-2021 episode is the case study. Virgin Australia, then a top customer, entered voluntary administration in April 2020. Avation took a $1.31/share loss in FY2021 — book value per share fell roughly 30% in two years. Aircraft values for older twin-aisles dropped 20-40%, lease rates were renegotiated downward, and the unsecured notes had to be modified (extending maturity from May 2021 to October 2026 with an 8.25/9.0% coupon). The IFRS 9 accounting for that modification still flows through P&L today as the $13.9M "amortisation of debt-modification gain" line — which is why the FY25 -$7.7M reported loss is more cosmetic than economic (operating cash flow was +$91.5M).

What matters now is the favourable side of the cycle. The OEM supply chain is constrained, the global fleet is at a record 14.8-year average age, the industry is short ~5,400 aircraft against fleet plans, and lease rates and used-aircraft values have firmed. This is exactly the environment where mid-life-aircraft lessors should harvest above-book disposal gains and re-lease aircraft at higher rates — both of which Avation reported in FY25 (impairment reversals of $4.8M, gain on disposals $3.5M, and a Boeing 777 sale post-period at "material profit above book"). The cycle is helping, not hurting.

The sharpest cyclical risk is no longer asset values — it is access to wholesale debt. The newly issued $300M senior unsecured note due 2031, refinanced in October-November 2025, removes the most acute near-term concern: the $298M October 2026 maturity that was driving the entire equity discount. Pricing remained punitive (still B-rated), but the runway is now five years.

4. The Metrics That Actually Matter

Conventional metrics — P/E, EBITDA margin, revenue growth — are largely useless here. Earnings are dominated by non-cash items, EBITDA is mechanically high because lessors have almost no opex, and revenue moves on accounting (maintenance reserves) rather than economics. The right scorecard is short, but every line carries weight.

The metric to watch above all others is NAV per share. It absorbs aircraft values, debt cost, tax leakage, share buybacks, and dividends in one number, and over time tracks the actual economic return to a shareholder. NAV grew from $3.48 (FY23) to $3.70 (HY26) — a ~6% three-year CAGR after a $16M share buyback in FY25. That is an acceptable but not exciting compounding rate; closing the gap to book would deliver a one-time re-rating, but NAV growth is what underwrites the stock's terminal value.

Two metrics deserve a warning label. Reported EPS is dominated by the $13.9M annual amortisation of the IFRS 9 debt-modification gain (running off through 2026) and quarterly mark-to-market on the 24 ATR purchase rights via Black-Scholes (a $21.6M unrealised loss in FY25, a $46.9M unrealised gain in FY24). Strip both out and the underlying operation earned roughly $25-30M pre-tax in FY25. Net debt / EBITDA at 5.1-6.0x looks scary by industrial-company standards but is normal for asset-backed lessors where the debt is secured against long-life aircraft.

5. What Is This Business Worth?

Aircraft lessors are valued on book value, not earnings. The asset base is real, depreciating to a residual, and largely revalued by the market through aircraft trades. So the right question is not "what multiple of earnings" but "what discount or premium to NAV is justified, and why does this discount exist."

The discount is not an accident. Roughly half of it reflects real, persistent disadvantages — sub-scale opex, junk-rated cost of funds, customer concentration, low free float — that an investor cannot wish away. The other half reflects fixable issues: most prominently the now-closed October 2026 unsecured-note maturity, the lingering FY2021 Virgin Australia scar in investor memory, and the absence of a dividend (a small symbolic 0.45c was paid in FY25). What would justify a re-rating toward 0.7-0.8x book is a multi-year track record of mid-single-digit NAV growth combined with successful placement of the ATR orderbook with quality lessees at lease yields above 11%. What would deepen the discount is a single major lessee default or an inability to roll any of the secured loan stack at refinancing.

A formal sum-of-the-parts is overkill: the company is a single economic engine and segmenting it does not add insight. Two pieces, however, do deserve separate eyes within the NAV: the 24 ATR purchase rights (a real option, not a wasting accounting noise — Cirium's $552M valuation is roughly 2.3x the entire current equity base), and the unencumbered aircraft pool (10 aircraft as of HY26, providing collateral for opportunistic refinancing).

6. What I'd Tell a Young Analyst

Watch four things and ignore the rest. NAV per share quarter by quarter — that is the underlying compounding rate. The cost of debt stack — refinancings of secured loans are happening continuously, and a 50-100bps move on $600M of debt is more material than any single deal. Customer concentration — the single biggest risk is a Vietjet or airBaltic default, not the macro cycle. Aircraft sale gains/losses vs book — these are the closest thing to a real-time valuation signal on the entire fleet.

What the market may be missing: the 2031 refinancing fundamentally changes the risk profile, but the share price has not yet reflected a credit normalisation. The 24 ATR purchase rights are a genuine call option that scales with global narrowbody supply tightness. And the 100% utilisation, 4.3-year WALT, $350M of contracted future rents, and 8.5-year average fleet age describe a portfolio in better shape than the share-price discount implies.

What would change the thesis: a $0.30+ drop in NAV per share in any single half-year (signals impairment or write-down cascade), loss of the ALS tax incentive at 2029 renewal, or a top-3 customer entering administration. None look likely in the next 12 months, but each is the kind of event that historically moves this stock 30-50% in either direction.