Most passenger airlines, excluding the dying breed of state sponsored carriers, have tottered through the
last few decades of their existence on almost full life support, trudging perilously from one quarter to the
next. Strapped to their seats by high legacy costs, they have watched aghast, as the new breed of low cost
carriers with brand new aircraft have eaten their lunch, one market at a time. They have responded by cutting
costs, filing for bankruptcy, and in more recent times, devouring one another.
Strangely enough, through all this period, passenger volumes have exploded, and cargo volumes carried in
passenger bellies have grown, so large, that a whole new industry has evolved around their movement on
dedicated freighter aircraft. Power Point presentations by Boeing and Airbus at various cargo trade shows
and conferences have indicated that the air cargo pie may now be evenly split, with 50% of the freight moving
on passenger bellies and the remaining 50% moving onto the main decks of dedicated freighter aircraft.
While the large bellies of passenger aircraft like the B777 and the A340 may still provide a steady supply of
cargo capacity to the cargo departments of passenger carriers, they will be dependent on the route
structures of the passenger airlines and will thus have some built in inflexibility for the air cargo trade.
While cargo carrying passenger bellies, are part of a passenger airline’s fleet and thus governed by the
financing structures put in place by passenger airline CFO’s, dedicated freighter aircraft operators will have
to live and die by a new set of rules. Exceptions are, dedicated freighter aircraft owned and operated by
passenger airlines such as Emirates, Cathay Pacific, Singapore Airlines, Korean and Lan Chile, which are
usually financed under the umbrella financing structures in place for their corporate parents, and which can
ride on their coat-tails while enjoying their stronger credit ratings. Another notable exception is an airline like
British Airways, which wet leases aircraft from a lessor like Atlas Air, thus taking the onus of ownership off its
Outside of this old boys club, the financing for dedicated freighter operators gets very muddy indeed. All of a
sudden, new freighter operators become “highly risky”, brand new businesses, with very little legacy airline
operating experience that nobody wants to invest in. They usually have no track record, and no proverbial “rich uncles” or “corporate parents” to support them in their dreams and aspirations. Add to this list, the
absence of a bankable credit history.
It is not surprising that aircraft financiers continue to ignore this market year after year, even though they do
make their token appearances at a few industry forums. The fact of the matter is, that in spite of what they
profess to know, they have done little or no research to understand the dynamics of this exploding market
segment. Senior officers in the aircraft lending departments of leading banks in the US, Europe and Asia,
refuse to discuss this subject. While most of the world’s largest operating lessors play it very safe by
sticking to their easily marketable B737’s and A320’s with their stable lease rates, very few dare to enter the
cargo market, unless they “defensively” have to convert an aging aircraft which has no further use in their
passenger fleets. The story of freighter financing therefore has been more of an afterthought rather than a
planned course of action.
The captains of the freighter aircraft leasing divisions of giants like GECAS or Guggenheim Aviation Partners
are likely to differ, citing their large orders for B747 and B777 deliveries as proof that aircraft financiers
understand this market and have committed the resources to pursue it. They will counter any skeptics by
arguing that the leasing model is ideal for startup cargo airlines that need the proverbial “off balance sheet” financing, that is both sustainable and which provides a new business with the flexibility to upsize and
downsize with the rise and fall of world trade, and induct different types of aircraft at a moment’s notice.
The reality is a little more startling. Most freighter leasing activity is concentrated around the “old boys’ network” with legacy passenger carriers or with dedicated freighter airlines which have been around for a
significant period of time. The aircraft financing community, represented by the likes of the GECAS’s and
Guggenheim’s of the world have failed miserably in providing innovative financing structures and solutions
that can spur the creation of new freighter operators. The high failure rates of new startup carriers speak
volumes about how aircraft financiers have failed to understand and provide sustainability and innovation in
this volatile business. In fact, not only do they continue to “superimpose” their outdated passenger driven
leasing models onto the cargo sector, but they routinely avoid contact with aspiring air cargo entrepreneurs
at air finance forums.
When all is said and done, aircraft financiers like any other industry specialists need to innovate their
products. Their fundamental assumption that “metal is metal”, whether it be used and financed in the
passenger or cargo sector is fundamentally flawed. While the rest of the air cargo industry continues to
move forward with research and innovations to build air cargo into a dedicated and sustainable science,
distinct from the passenger business, aircraft financiers continue to foist outdated passenger driven
financing structures onto the cargo sector. If they refuse to innovate, they could soon become the “dinosaurs” of this business.
Dedicated research into the air cargo business model will provide the curious to discover why this business
is so different from the passenger side, even though the airframes that they use are very similar. For one,
while most passenger traffic is fairly homogeneous and easily classifiable into first class, business class or
economy class segments, the air cargo business moves thousands of different items, each with its own
characteristics and dynamics. While many industry veterans have tried to mistakenly consolidate many of
these items into a single general classification of “general cargo”, either through ignorance or sheer
laziness, the fact is that distinct pricing structures and revenue opportunities exist by segregating
commodities for special treatment rather than by consolidating them. The special classifications for
“pharmaceutical products” and for “dangerous goods” are prime examples of how air cargo carriers can
profit handsomely by offering a bespoke transportation solution.
Secondly, most passenger airlines are able to deal directly with the final customer, the passenger, either
through the internet or through the services of a travel agent. Thus it can be said, that their “revenue
opportunity risk” is low and fairly well diversified. Cargo carriers, on the other hand, have a much more risky
customer profile, since on most flights, five or six large air cargo forwarders buy up over 75% of all the space
through “block space” agreements with the airline. Unfortunately, while aircraft financing contracts are
usually for duration of 7-10 years, these forwarder contracts can be as short as 3-6 months, making running
an all-cargo airline inherently risky.
Forwarders can achieve this” cartel style” booking by acting as consolidators for smaller shippers with less
pricing power. The end result of this “block spacing” is that cargo airlines have little or no pricing power
compared to the forwarders, who have a greater say in how these airlines are operated. A newer and more
innovative revenue model that passes down the risk to the forwarder’s customer, the final shipper, while
creating a long term revenue stream for the airline to pay its leasing costs seems to be more appropriate.
Perhaps, financiers need to research ways in which small shippers could enter into “micro forward
contracts”, which can mitigate their risks, while insuring that they are guaranteed space whenever required.
Unused space or contracts can then be traded on an exchange.
Consolidating these “micro contracts” through a technology platform could provide a longer term revenue
stream that could provide the stability for cargo carriers. Re-aligning shipping contracts to match the length
of aircraft financing contracts is the key to providing the much needed stability to make the cargo airline
business model work.
A third issue that financiers need to be cognizant of, is that unlike the passenger business, where a
passenger who flies out, usually flies back on the return leg, in the cargo business, most cargo flows are
uni-directional. Thus in many sectors, cargo aircraft fly back virtually empty. Add to this the fact that the trade
cycles of the cargo business are very different from that of their passenger counterparts. Aircraft financiers
have discreetly avoided studying these differences in business cycles, or getting their hands dirty probing
around warehouses and container stations, thus establishing their ignorance in this area.
While traditional aircraft financiers might shrug these off as problems that the air cargo industry must solve
on its own, the innovative financier, if one exists at all, will find opportunity in this adversity. After all, despite
all the world’s problems, air cargo has grown on an average of 3-5% a year with revenues of almost US$70
billion, more than 10% of all airline revenue, and as IATA’s Cargo Head likes to point out, more than all first
class passenger revenue worldwide.
The problem with this industry is not in the business itself, which has evolved and grown by leaps and
bounds, and will continue to outpace the passenger business in the future. The challenge for aircraft
financiers is to develop models that can help re-align and re-balance the way this business is conducted,
providing cargo airline operators with the necessary stability to innovate their business while inducting many
new players into the game. At the end of the day, while perseverance is a key ingredient to success, it never
hurts to have an intelligent long term financier by our side.