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KPIs such as EBITDA

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IFRS 16 has also prompted airlines to rethink its strategy in the management of its portfolio of fleets: to buy or to lease? In a recent survey done by Deloitte (2017), almost half of the correspondents believe IFRS 16 will cause some fall in operating lease deals but over half believe no change or even an increase in activity. In theory, accounting treatment should not be a significant factor to an airline’s commercial decision to lease or to buy. However, in practice, the fact leases were off-balance sheet gave airlines to lease. This artificial incentive is removed with IFRS 16. Overall, while leasing is costly in the long run, leasing provides airlines with many advantages including flexibility, quicker access to popular aircraft and lower initial capital outflow. Air France-KLM commented that their decision to use operating lease is not based on accounting treatment. To put into perspective, cash rich airlines like British Airways will continue to own a large portion of their fleet, and some lower-cost airlines like Ural Airlines will continue to opt to lease their planes as their flight schedules and routes are seasonal and they must be agile enough to respond to market and consumer demand.

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Under IFRS 16, lessor accounting does not change. Lessors such as AC continue to show the underlying asset subject to the lease arrangement on the balance sheet for leases classified as operating. For finance arrangements or sales, the balance sheet reflects a lease receivables and the lessor’s residual interest, if any. Despite that, lessors need to be aware how the new standard impacts their lessees. Lessor should expect efforts by lessees to renegotiate aspect of the existing leases. It is anticipated that airlines would prefer shorter lease terms in order to alleviate debt burden and gearing ratios. However, lessors do not like shorter terms as it increases its re-marketing risk, which increases rates. Furthermore, under IFRS 16, the airlines outside the United States will have to convert their lease liabilities into local currency at the end of each reporting period which will give rise to additional foreign exchange volatility within the income statement. Hence, airlines might prefer that at least partially of their lease payments are denominated in their local currency.

Overall, the new standard does not disrupt much of SMBC activities. SMBC already takes into account operating leases when accessing the credit worthiness of the airline. For the time being, the bank should work cooperatively with the airlines to ensure debt covenants are not breached or if required, adjusted. Furthermore, SMBC is currently known for offering niche aircraft financing products like the Japanese Operating Lease with a Call Option (JOLCO) which appeals to airline due to its unique operating lease structure as a finance lease as well as tax benefits to equity investor. I believe product like these will continue to popular. This is also a great opportunity for Structured Finance within the bank to come up with different kinds of leasing forms that will have variable payments that would not force to be on balance sheet under IFRS 16. Moreover, the bank should be more receptive to airlines as they become innovative in their fundraising strategy. In 2016, Virgin Atlantic was the first European airline to secure £220m senior secured note using the airline’s take-off and landing slots at London Heathrow airport

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