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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
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FORM 10-Q
QUARTERLY REPORT
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[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 2004
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the transition period from ________________ to _______________
Commission file number 001-31616
INTERNATIONAL LEASE FINANCE CORPORATION
(Exact name of registrant as specified in its charter)
CALIFORNIA 22-3059110
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
10250 CONSTELLATION BLVD., LOS ANGELES, CALIFORNIA 90067
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (310) 788-1999
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days.
Yes X No
------------- ---------------
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Act).
Yes No X
--------------- -------------
Indicate the number of shares outstanding of each of the issuer's classes
of common stock, as of the latest practicable date.
As of October 22, 2004, there were 42,198,119 shares of Common Stock, no
par value, outstanding.
INTERNATIONAL LEASE FINANCE CORPORATION AND SUBSIDIARIES
FORM 10-Q QUARTERLY REPORT
TABLE OF CONTENTS
Page
----
Part I. Financial Information
Item 1. Financial Statements (Unaudited)
Condensed Consolidated Balance Sheets
September 30, 2004 and December 31, 2003 ............................................... 3
Condensed Consolidated Statements of Income
Three months Ended September 30, 2004 and 2003 ......................................... 4
Condensed Consolidated Statements of Income
Nine months Ended September 30, 2004 and 2003 .......................................... 4
Condensed Consolidated Statements of Comprehensive Income
Three Months Ended September 30, 2004 and 2003 ......................................... 5
Condensed Consolidated Statements of Comprehensive Income
Nine Months Ended September 30, 2004 and 2003 .......................................... 5
Condensed Consolidated Statements of Cash Flows
Nine months Ended September 30, 2004 and 2003 .......................................... 6
Notes to Condensed Consolidated Financial Statements ......................................... 8
Cautionary Statement Regarding Forward Looking Information ................................... 9
Item 2. Management's Discussion and Analysis of the Financial Condition and Results of Operations 10
Item 3. Quantitative and Qualitative Disclosures about Market Risk .............................. 22
Item 4. Controls and Procedures ................................................................. 23
Part II. Other Information
Item 6. Exhibits ................................................................................ 24
Signatures ................................................................................... 25
-2-
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
INTERNATIONAL LEASE FINANCE CORPORATION AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
(DOLLARS IN THOUSANDS, EXCEPT SHARE AND PER SHARE AMOUNTS)
September 30, December 31,
2004 2003
------------- -------------
(Unaudited)
ASSETS
Cash, including interest bearing accounts
of $85,366 (2004) and $90,612 (2003) $ 85,534 $ 90,780
Notes receivable and net investment in finance leases 488,937 450,080
Flight equipment under operating leases 36,529,818 34,034,724
Less accumulated depreciation 6,016,356 5,370,706
------------ ------------
30,513,462 28,664,018
Deposits on flight equipment purchases 1,285,907 1,255,074
Accrued interest, other receivables and other assets 231,803 233,125
Derivative assets 669,779 746,013
Investments 48,100 49,636
Variable interest entities assets 154,347 164,481
Deferred debt issue costs - less accumulated amortization of
$78,278 (2004) and $63,847 (2003) 58,561 51,865
------------ ------------
$ 33,536,430 $ 31,705,072
============ ============
LIABILITIES AND SHAREHOLDERS' EQUITY
Accrued interest and other payables $ 383,598 $ 243,989
Current income taxes 7,442 5,038
Debt financing, net of deferred debt discount of $28,207 (2004) and
$24,321 (2003) 22,978,812 21,245,267
Foreign currency translation adjustment related to foreign currency denominated debt
denominated debt 696,127 697,435
Derivative liabilities 23,840 57,187
Capital lease obligations 63,684 143,254
Synthetic lease obligations -- 464,222
Security and other deposits on flight equipment 899,770 843,914
Rentals received in advance 158,509 146,871
Deferred income taxes 2,717,120 2,562,568
Variable interest entities liabilities 74,670 79,211
SHAREHOLDERS' EQUITY
Market Auction Preferred Stock, $100,000 per share liquidation value;
Series A and B each having 500 shares issued and outstanding 100,000 100,000
Common stock--no par value; 100,000,000 authorized shares,
42,198,119 issued and outstanding 653,582 653,582
Paid-in capital 579,955 579,955
Accumulated other comprehensive (loss) income (45,702) 5,442
Retained earnings 4,245,023 3,877,137
------------ ------------
Total shareholders' equity 5,532,858 5,216,116
------------ ------------
$ 33,536,430 $ 31,705,072
============ ============
See notes to condensed consolidated financial statements.
-3-
INTERNATIONAL LEASE FINANCE CORPORATION AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF INCOME
FOR THE THREE MONTHS ENDED SEPTEMBER 30, 2004 AND 2003
(DOLLARS IN THOUSANDS)
2004 2003
-------- --------
(Unaudited)
REVENUES
Rental of flight equipment $795,123 $753,551
Flight equipment marketing 7,481 14,918
Flight equipment marketing - securitization -- 18,519
Interest and other 39,062 9,167
-------- --------
841,666 796,155
-------- --------
EXPENSES
Interest 242,444 233,041
Depreciation of flight equipment 322,504 295,591
Flight equipment rent -- 10,324
Provision for overhauls 43,317 31,671
Selling, general and administrative 26,412 21,032
-------- --------
634,677 591,659
-------- --------
INCOME BEFORE INCOME TAXES 206,989 204,496
Provision for income taxes 67,321 64,765
-------- --------
NET INCOME $139,668 $139,731
======== ========
INTERNATIONAL LEASE FINANCE CORPORATION AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF INCOME
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2004 AND 2003
(DOLLARS IN THOUSANDS)
2004 2003
---------- ----------
(Unaudited)
REVENUES
Rental of flight equipment $2,284,581 $2,196,991
Flight equipment marketing 43,739 29,825
Flight equipment marketing - securitization (Note C) 25,307 18,519
Interest and other 78,357 37,573
---------- ----------
2,431,984 2,282,908
---------- ----------
EXPENSES
Interest 719,846 689,141
Depreciation of flight equipment 931,513 841,831
Flight equipment rent -- 37,108
Provision for overhauls 115,792 86,284
Selling, general and administrative 82,525 60,893
---------- ----------
1,849,676 1,715,257
---------- ----------
INCOME BEFORE INCOME TAXES 582,308 567,651
Provision for income taxes 187,062 185,671
---------- ----------
NET INCOME $ 395,246 $ 381,980
========== ==========
See notes to condensed consolidated financial statements.
-4-
INTERNATIONAL LEASE FINANCE CORPORATION AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
FOR THE THREE MONTHS ENDED SEPTEMBER 30, 2004 AND 2003
(DOLLARS IN THOUSANDS)
2004 2003
--------- ---------
(Unaudited)
NET INCOME $ 139,668 $ 139,731
--------- ---------
OTHER COMPREHENSIVE (LOSS) INCOME, NET OF TAX
Net changes in cash flow hedges (93,920) 45,327
Foreign currency translation adjustment 82,243 (30,888)
--------- ---------
(11,677) 14,439
--------- ---------
COMPREHENSIVE INCOME $ 127,991 $ 154,170
========= =========
INTERNATIONAL LEASE FINANCE CORPORATION AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2004 AND 2003
(DOLLARS IN THOUSANDS)
2004 2003
--------- ---------
(Unaudited)
NET INCOME $ 395,246 $ 381,980
--------- ---------
OTHER COMPREHENSIVE (LOSS) INCOME, NET OF TAX
Net changes in cash flow hedges (28,542) 186,530
Foreign currency translation adjustment (22,602) (141,200)
--------- ---------
(51,144) 45,330
--------- ---------
COMPREHENSIVE INCOME $ 344,102 $ 427,310
========= =========
SUPPLEMENTAL COMPREHENSIVE INCOME (LOSS) INFORMATION
Cumulative foreign currency translation adjustment, net of tax $(384,255) $(313,371)
Cumulative cash flow hedge loss adjustment, net of tax 338,553 220,081
See notes to condensed consolidated financial statements
-5-
INTERNATIONAL LEASE FINANCE CORPORATION AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2004 AND 2003
(DOLLARS IN THOUSANDS)
2004 2003
----------- ------------
(Unaudited)
OPERATING ACTIVITIES
Net income $ 395,246 $ 381,980
Adjustments to reconcile net income to net cash provided by operating activities:
Depreciation of flight equipment 931,513 841,831
Deferred income taxes 182,619 257,990
Foreign currency translation adjustment 45,316 20,018
Change in derivative instruments (40,880) (40,416)
Amortization of deferred debt issue costs 19,974 23,033
Change in unamortized debt discount (3,886) 6,153
Other 3,049 598
Changes in operating assets and liabilities:
Increase in notes receivable (17,146) (11,519)
Decrease (increase) in accrued interest, other receivables and
other assets 68,211 (40,325)
Increase in current income taxes payable 2,404 117,840
Increase in accrued interest and other payables 93,000 136,086
Increase in rentals received in advance 11,638 12,426
----------- -----------
Net cash provided by operating activities 1,691,058 1,705,695
----------- -----------
INVESTING ACTIVITIES
Acquisition of flight equipment for operating leases (3,941,495) (4,223,607)
Acquisition of flight equipment for finance leases (43,247) (165,202)
Increase in deposits and progress payments (30,833) (29,788)
Proceeds from disposal of flight equipment - net of gain 1,127,629 773,431
Advances on notes receivable (52,000) (30,198)
Collections on notes receivable and finance leases 47,286 38,852
Other 891 1,139
----------- -----------
Net cash used in investing activities (2,891,769) (3,635,373)
----------- -----------
FINANCING ACTIVITIES
Net change in commercial paper 894,085 (2,718,408)
Proceeds from debt financing 3,915,986 7,544,107
Payments in reduction of debt financing, capital lease obligations and
synthetic lease obligations (3,616,431) (2,693,223)
Debt issue costs (26,670) (37,314)
Increase (decrease) in customer deposits 55,856 (28,925)
Payment of common and preferred dividends (27,361) (42,925)
----------- -----------
Net cash provided by financing activities 1,195,465 2,023,312
----------- -----------
(Decrease) increase in cash (5,246) 93,634
Cash at beginning of period 90,780 66,049
----------- -----------
Cash at end of period $ 85,534 $ 159,683
=========== ===========
(Table continued on following page)
-6-
INTERNATIONAL LEASE FINANCE CORPORATION AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2004 AND 2003
(DOLLARS IN THOUSANDS)
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION
2004 2003
----------- ------------
(Unaudited)
Cash paid (received) during the period for:
Interest (net of amount capitalized of $35,282 (2004) and $36,159 (2003)) $ 605,333 $ 570,686
Income taxes, net 2,039 (190,159)
2004
One aircraft was received in exchange for investment in finance leases in
the amount of $24,761.
Notes in the amount of $8,094 were received as partial payment in exchange
for flight equipment sold with a net book value of $23,727.
Other assets in the amount of $56,455 were received in exchange for
aircraft sold into a securitization, but not yet novated, with a net book
value of $49,889.
2003
Variable interest entity assets in the amount of $13,731 were received as
partial payment in exchange for flight equipment with a book value of
$14,043.
One aircraft was received in exchange for notes receivable in the amount
of $28,715 and preferred stock in the amount of $2,202.
See notes to condensed consolidated financial statements.
-7-
INTERNATIONAL LEASE FINANCE CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2004
(UNAUDITED)
A. BASIS OF PREPARATION
The accompanying unaudited condensed consolidated financial
statements have been prepared in accordance with generally accepted
accounting principles for interim financial information and in accordance
with the instructions to Form 10-Q and Article 10 of Regulation S-X.
Accordingly, they do not include all of the information and footnotes
required by generally accepted accounting principles for complete
financial statements. In the opinion of management, all adjustments
(consisting only of normal recurring accruals) considered necessary for a
fair presentation have been included. Certain reclassifications have been
made to the 2003 unaudited condensed consolidated financial statements to
conform to the 2004 presentation. Operating results for the nine months
ended September 30, 2004 are not necessarily indicative of the results
that may be expected for the year ended December 31, 2004. These
statements should be read in conjunction with the consolidated financial
statements and footnotes thereto included in International Lease Finance
Corporation's ("the Company") annual report on Form 10-K for the year
ended December 31, 2003.
B. HEDGING ACTIVITIES
The Company uses derivatives to manage exposures to interest rate
and foreign currency risks. During the nine months ended September 30,
2004, the Company recorded the following in earnings.
Income (loss) related to derivative instruments: (Dollars in thousands)
Fair value of non-hedging instruments $ (5,565)
Ineffectiveness related to cash flow hedges 251
--------
$ (5,314)
========
During the nine months ended September 30, 2004, $42.1 million (net)
was reclassified from Accumulated other comprehensive (loss) income to
Interest expense when interest was paid or received on the Company's cash
flow hedges. The Company estimates that within the next twelve months it
will amortize into earnings approximately $40.3 million of the pre-tax
balance in Accumulated other comprehensive income under cash flow hedge
accounting in connection with the Company's program to convert debt from
floating to fixed rates.
C. FLIGHT EQUIPMENT MARKETING - SECURITIZATION
The Company contracted to sell 34 aircraft to a trust during the
first quarter of 2004, and in the third quarter of 2003, the Company
contracted to sell 37 aircraft to another trust. Each transaction
generated approximately $1.0 billion gross revenue. The transactions were
securitizations, in which each trust acquired the aircraft based on values
assigned by an independent appraiser. Thirty-three of the 34 aircraft sold
in 2004 were novated at September 30, 2004, and Accrued interest, other
receivables and other assets include a $55.0 million net receivable from
the trust related to the remaining aircraft, which was novated on October
5, 2004. All aircraft contracted to sell in 2003 were novated at March 31,
2004. The trusts are included in the consolidated financial statements of
the Company's parent. The trusts are not consolidated by the Company.
Further, an unaffiliated third party acted as capital markets advisor in
each of the transactions. Gains in the amount of $25.3 million (2004) and
$18.5 million (2003), net of fees and expenses, related to the
transactions are included in Flight Equipment Marketing - Securitization
for the period ended September 30, 2004 and 2003 respectively. The Company
will continue to manage the aircraft sold to the trusts for a fee.
-8-
CAUTIONARY STATEMENT REGARDING FORWARD-LOOKING INFORMATION
FORWARD-LOOKING STATEMENTS
This quarterly report on Form 10-Q contains or incorporates statements
that constitute forward-looking statements. Those statements appear in a number
of places in this Form 10-Q and include statements regarding, among other
matters, the state of the airline industry, the Company's access to the capital
markets, the Company's ability to restructure leases and repossess aircraft, the
structure of the Company's leases, regulatory matters pertaining to compliance
with governmental regulations and other factors affecting the Company's
financial condition or results of operations. Words such as "expects,"
"anticipates," "intends," "plans," "believes," "seeks," "estimates," and
"should" and variations of these words and similar expressions, are used in many
cases to identify these forward-looking statements. Any such forward-looking
statements are not guarantees of future performance and involve risks,
uncertainties and other factors that may cause actual results, performance or
achievements of the Company or industry results to vary materially from the
Company's future results, performance or achievements, or those of the industry,
expressed or implied in such forward-looking statements. Such factors include,
among others, general industry economic and business conditions, which will,
among other things, affect demand for aircraft, availability and
creditworthiness of current and prospective lessees, lease rates, availability
and cost of financing and operating expenses, governmental actions and
initiatives and environmental and safety requirements. The Company will not
update any forward-looking information to reflect actual results or changes in
the factors affecting the forward-looking information.
-9-
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
OVERVIEW
International Lease Finance Corporation ("the Company", "management",
"we", "our", "us") primarily acquires new jet transport aircraft from Boeing and
Airbus and leases these aircraft to airlines throughout the world. In addition
to our leasing activity, we sell aircraft from our leased aircraft fleet to
other leasing companies, financial services companies and airlines. In some
cases, we provide fleet management services to companies with aircraft
portfolios for a management fee. From time to time we have provided asset value
guarantees and loan guarantees to the buyers of aircraft or to financial
institutions for a fee. We also remarket and sell aircraft owned or managed by
others for a fee.
As of September 30, 2004, we owned 656 aircraft, had nine aircraft in the
fleet that were classified as finance leases, and provided fleet management
services for 101 aircraft. We have contracted with Airbus and Boeing to buy 367
new aircraft for delivery through 2010 with an estimated purchase price of $22.2
billion, 15 of which will deliver during the remainder of 2004.
Our primary source of revenue is from operating leases. One measure of
profitability we use is a ratio called Lease Margin (see "Management's
Discussion and Analysis - Non-GAAP Financial Measures"). Lease margins have
generally contracted over the last two years until early 2004 as a result of
higher incidents of restructurings of leases with troubled airlines,
repossessions of aircraft from lessees, and lower lease rates negotiated during
the downturn of the airline industry and still in effect at September 30, 2004.
The market lease rate for certain aircraft types decreased as excess aircraft
were available from airlines which reduced capacity and idled aircraft and
airlines which ceased operations over the past three years. The airline industry
has been faced with many challenges such as higher fuel costs, terrorism and
Severe Acute Respiratory Syndrome ("SARS"), among others. We believe certain
airline industry trends are improving and lease rates will increase over a
period of prolonged economic recovery. Recent market trends indicate a modest
increase in lease rates for the most desirable Airbus and Boeing twin engine
single aisle and wide body aircraft for deliveries beginning in the second half
of 2004 and beyond. Airline passenger and cargo traffic worldwide have exhibited
measured growth during the first nine months of 2004. If such traffic growth can
be sustained, it should benefit the economic recovery of the commercial airline
industry. We believe we are well positioned in the current industry environment
with signed lease agreements for all of our 2004 and 2005 deliveries of new
aircraft. There is, however, a lag between changes in market conditions and
their impact on our results, as contracts that are signed during times of lower
lease rates are still in effect as the market lease rates rise. Therefore, the
improving trends in the lease rates have yet to be completely reflected in our
financial performance.
RISK FACTORS AFFECTING INTERNATIONAL LEASE FINANCE CORPORATION
Our business is subject to numerous risks and uncertainties, as described
below and in the section titled "Quantitative and Qualitative Disclosures about
Market Risk".
We operate as a supplier and financier to airlines. The risks affecting our
airline customers are generally out of our control and impact our customers to
varying degrees. As a result, we are indirectly impacted by all the risks facing
airlines today. Our ability to succeed is dependent on the financial strength of
our customers. Our customers' ability to compete effectively in the market place
and manage these risks has a direct impact on us and our operating results.
Risks directly or indirectly affecting our business include:
- - Overall Airline Industry Risk
- Demand for air travel
- Competition between carriers
- Fuel prices and availability
- Labor costs and stoppages
- Maintenance costs
- Employee labor contracts
- Air traffic control infrastructure constraints
- Insurance costs
- Security, terrorism and war
- Health concerns
- Equity and borrowing capacity
- Environmental concerns
- Government regulation
- Interest rates
-10-
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS (CONTINUED)
- - Manufacturer Risk
- - Borrowing Risks
- - Liquidity
- - Interest Rate
- - Other Risks
- - Residual Value
- - Obsolescence
- - Key Personnel
For a detailed discussion of risk factors affecting us, see "Item 7,
Management's Discussion and Analysis of Financial Condition and Results of
Operations" in our Annual Report on Form 10-K for the year ended December 31,
2003.
CRITICAL ACCOUNTING POLICIES AND ESTIMATES
Management's discussion and analysis of our financial condition and
results of operations are based upon our consolidated financial statements,
which have been prepared in accordance with accounting principles generally
accepted in the United States of America. The preparation of these financial
statements requires management to make estimates and judgments that affect the
reported amounts of assets, liabilities, revenues and expenses, and related
disclosure of contingent assets and liabilities. On an on-going basis, we
evaluate the estimates and judgments, including those related to revenue,
depreciation, overhaul reserves, and contingencies. The estimates are based on
historical experience and on various other assumptions that we believe to be
reasonable under the circumstances. The results form the basis for making
judgments about the carrying values of assets and liabilities that are not
readily apparent from other sources. Actual results may differ from these
estimates under different assumptions and conditions.
We believe that the following critical accounting policies can have a
significant impact on our results of operations, financial position and
financial statement disclosures and require the most difficult, subjective and
complex estimates and judgments:
- - Lease Revenue
- - Flight Equipment Marketing
- - Flight Equipment
- - Capitalized Interest
- - Provision for Overhauls
For a detailed discussion on the application of these accounting policies,
see "Item 7, Management's Discussion and Analysis of Financial Condition and
Results of Operations" in our Annual Report on Form 10-K for the year ended
December 31, 2003.
-11-
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS (CONTINUED)
FINANCIAL CONDITION
We borrow funds to purchase new and used flight equipment, including funds
for progress payments during the construction phase, and to pay off maturing
debt obligations. These funds are borrowed principally on an unsecured basis
from various sources. During the nine months ended September 30, 2004, we
borrowed $3,916.0 million (excluding commercial paper) and $1,691.1 million was
provided by operating activities. As of September 30, 2004, we have committed to
purchase 367 new aircraft from Airbus and Boeing and 11 used aircraft from
airlines at an estimated aggregate purchase price of $22.5 billion for delivery
through 2010. We also hold options to purchase nine additional new aircraft at
an estimated aggregate purchase price of approximately $650.1 million. We
currently expect to fund expenditures for aircraft and to meet liquidity needs
from a combination of available cash balances, internally generated funds and
financing arrangements. We have modified our borrowing strategy with the goal
that, over time, we will have approximately 15% or less of our debt, excluding
commercial paper, mature in any one year. Management continues to explore new
funding sources and ways to diversify our investor base. Our debt financing and
capital lease obligations were comprised of the following at the following
dates:
September 30, December 31,
2004 2003
------------ ------------
(Dollars in thousands)
Public term debt with single maturities $ 11,794,574 $ 10,663,275
Public medium-term notes with varying maturities 5,746,530 5,960,236
Capital lease obligations 63,684 143,254
Synthetic lease obligations -- 464,222
Bank and other term debt 2,995,873 3,070,120
------------ ------------
Total term debt, bank debt, and capital lease obligations 20,600,661 20,301,107
Commercial paper 2,470,042 1,575,957
Deferred debt discount (28,207) (24,321)
------------ ------------
Total debt financing and capital lease obligations $ 23,042,496 $ 21,852,743
============ ============
Selected interest rates and ratio:
Composite interest rate 4.20% 4.53%
Percentage of total debt at fixed rates 67.50% 77.07%
Composite interest rate on fixed rate debt 5.08% 5.29%
Bank prime rate 4.75% 4.00%
The above amounts represent the anticipated settlement of our currently
outstanding debt obligations. Certain adjustments required to present currently
outstanding debt obligations have been recorded and presented separately on the
balance sheet, including adjustments related to foreign currency and interest
rate hedging activities. We have eliminated the currency exposure arising from
foreign currency denominated notes by either hedging the notes through swaps or
through the offset provided by operating lease payments denominated in the
related currency. Foreign currency denominated debt is translated into US
dollars using current exchange rates as of each balance sheet date. The foreign
exchange adjustment for the foreign currency denominated debt was $696.1 million
(2004) and $697.4 million (2003). Composite interest rates and percentages of
total debt at fixed rates reflect the effect of derivative instruments.
-12-
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS (CONTINUED)
Public Debt (Exclusive of the Commercial Paper Program)
The interest on most of the public debt is effectively fixed for the terms
of the notes. We have the ability to borrow under various public debt financing
arrangements as follows:
Maximum Sold as of Sold as of Sold as of
Offering December 31, 2003 September 30, 2004 October 22, 2004
---------- ----------------- ------------------ ----------------
(Dollars in millions)
Registration statement dated December 20, 2002
(including $2.88 billion Medium-Term Note Program and
$1.0 billion Retail Medium-Term Note Program) $6,080(a) $5,437 $5,567 $5,575
Registration statement dated July 1, 2003 (including
$1.5 billion Medium Term Note Program (b)) 5,000 650 2,655 2,955
Euro Medium-Term Note Programme dated May 2004 (c)(d) 7,000 3,393 4,475 4,475
(a) Includes $1.08 billion, which was incorporated into the registration
statement from a prior registration statement, increasing the maximum
offering from $5.0 billion to $6.08 billion.
(b) As of October 18, 2004, the Medium-Term Note Program was increased to $2.0
billion.
(c) The foreign currency risk of the notes is hedged through swaps or
operating lease payments denominated in Euros.
(d) This is a perpetual program. As a bond issue matures, the amount becomes
available again under the program.
Capital Lease Obligations
We have Export Credit lease financings which provided ten-year amortizing
loans in the form of capital lease obligations. The interest rate on 62.5% of
the original financed amount is 6.55% and the interest rate on 22.5% of the
original financed amount is fixed at rates varying between 6.18% and 6.89%.
These two tranches are guaranteed by various European Export Credit Agencies.
The remaining 15% of the original financed amount was prepaid by the Company in
2000. At September 30, 2004, $63.7 million was still outstanding.
Synthetic Lease Obligations
In 1995, 1996 and 1997, through subsidiaries, we entered into
sale-leaseback transactions providing proceeds in the amounts of $413.0 million,
$507.6 million and $601.9 million, respectively, each relating to seven
aircraft. The transactions resulted in the sale and leaseback of these aircraft
under one-year operating leases, each with six one-year extension options for a
total of seven years for each aircraft. We did not record any gains related to
the transactions. We had the option to either buy back the aircraft or redeliver
the aircraft for a fee to the lessor at the end of any lease period. The lease
rates equated to fixed principal amortization and floating interest payments
based on LIBOR or commercial paper pricing. Three aircraft were repurchased
before the lease termination and sold to third parties. The remaining 18
aircraft were repurchased when the leases expired in December 2002, September
2003, and September 2004, respectively.
-13-
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS (CONTINUED)
Bank Term Debt
In January 1999, we entered into an Export Credit Facility, for up to a
maximum of $4.3 billion, for aircraft delivered through 2001. The facility was
used to fund 85% of each aircraft's purchase price. This facility is guaranteed
by various European Export Credit Agencies. We financed 62 aircraft using $2.8
billion under this facility over ten years with interest rates from 5.753% to
5.898%. We have collateralized the debt by a pledge of the shares of a
subsidiary which holds title to the aircraft financed under the facility. At
September 30, 2004, $1.6 billion was outstanding under the facility and the net
book value of the related aircraft was $2.9 billion.
During 2003, we borrowed $1.3 billion under various bank financing
arrangements. The financings mature through 2009. One tranche of one of the
loans totaling $410 million was funded in Japanese yen and swapped to US
dollars. The interest rates are LIBOR based with spreads ranging from 0.375% to
1.625%.
In May 2004, we entered into an Export Credit Facility for up to a maximum
of $2.64 billion, for Airbus aircraft to be delivered in 2004 and 2005. The
facility will be used to fund 85% of each aircraft's purchase price. This
facility becomes available as the various European Export Credit Agencies
provide their guarantees for aircraft based on a six-month forward-looking
calendar. The financing is for a ten-year fully amortizing loan per aircraft at
an interest rate determined through a bid process. We have collateralized the
debt by a pledge of the shares of a subsidiary which holds title to the aircraft
financed under this facility. As of September 30, 2004, three aircraft were
financed under this facility.
In August 2004, the Company received a commitment for an Ex-Im Bank
comprehensive guarantee in the amount of $1,680,209,347 to support the financing
of up to 30 new Boeing aircraft. The delivery period initially extends from
September 1, 2004 through August 31, 2005, but may be extended to August 31,
2006. The Company is currently documenting the loan agreements related to this
guarantee.
Commercial Paper
We currently have a $4.8 billion Commercial Paper Program. Under this
program, we may borrow in minimum increments of $100,000 for periods from one
day to 270 days. It is our intention to only sell commercial paper to a maximum
amount of 75% of the total amount of the backup facilities available (see Bank
Commitments). The weighted average interest rate of our commercial paper
outstanding was 1.71% at September 30, 2004 and 1.07% at December 31, 2003.
Bank Commitments
As of September 30, 2004, we had committed revolving loans and lines of
credit with 26 commercial banks totaling $4.2 billion. These revolving loans and
lines of credit provide for interest rates that vary according to the pricing
option in effect at the time of borrowing. Pricing options include prime, a
range from .25% to .50% over LIBOR based upon utilization, or a rate determined
by a competitive bid process with the banks. The revolving loans and lines of
credit are subject to facility fees of up to .10% of amounts available. This
financing is used as backup for our maturing debt and other obligations. We had
not drawn against our revolving loans and lines of credit as of September 30,
2004. On October 15, 2004, we replaced our $4.2 billion loan facilities with new
loan facilities totaling $6.0 billion, including a $2.0 billion five-year
tranche and a $4.0 billion 364-day tranche, with a one-year term out option. The
remaining terms and conditions are primarily the same as with the previous
facilities.
In March 2004, an indirect subsidiary of the Company entered into a credit
facility providing for an 18-month commitment for a $500 million revolving loan.
The loan backs up the subsidiary's $1.0 billion secured note facility available
to purchase new aircraft from Boeing and Airbus. We have guaranteed the
subsidiary's obligations under the credit facility and the secured note
facility. The credit facility is available for borrowing only if the subsidiary
is unable to sell notes under the secured note facility on acceptable terms. The
subsidiary had not drawn on the credit facility or issued any notes under the
secured note facility as of September 30, 2004.
-14-
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS (CONTINUED)
Other Variable Interest Entities
We have sold aircraft to entities owned by third parties and from time to
time we have issued asset value guarantees or loan guarantees related to the
aircraft sold. Management has determined nine such entities, each owning one
aircraft, are Variable Interest Entities ("VIEs") in which we are a primary
beneficiary, as defined by Financial Accounting Standards Board Interpretation
No. 46 ("FIN 46"). As a result of our adopting FIN 46, we consolidated these
entities at December 31, 2003.
The assets and liabilities of these entities are presented separately on
our Balance Sheet. We do not control or own the assets nor are we obligated for
the liabilities of these entities.
We have not established any other unconsolidated entities for the purpose
of facilitating off-balance sheet arrangements or for other contractually narrow
or limited purposes. We have, however, from time to time established
subsidiaries, entered into joint ventures or created other partnership
arrangements with the limited purpose of leasing aircraft or facilitating
borrowing arrangements.
Derivatives
In the normal course of business, we employ a variety of derivative
products to manage our exposure to changes in foreign currency and interest
rates. Our objective is to eliminate all foreign currency risk, lower our
overall borrowing cost and maintain an optimal mix of variable and fixed rate
interest obligations. We only enter into derivative transactions to hedge
interest rate risk and currency risk of our debt obligations and not to
speculate on interest rates or currency fluctuations. These derivative products
include interest rate swap agreements, currency swap agreements, and interest
rate floor agreements.
The counterparty to our derivative instruments is AIG Financial Products
Corp. ("AIGFP"), a related party. AIGFP has the highest ratings available from
the credit rating agencies. The derivatives are subject to a bilateral security
agreement, which, in certain circumstances, may allow one party to the agreement
to require the second party to the agreement to provide collateral. Failure of
the instruments or counterparty to perform under the derivative contracts could
have a material impact on our results of operations.
Market Liquidity Risk
We are in compliance with all covenants or other requirements set forth in
our credit agreements. Further, we do not have any rating downgrade triggers
that would automatically accelerate the maturity dates of any debt. However, a
downgrade in our credit rating could adversely affect our ability to borrow on,
renew existing, or obtain access to new financing arrangements and would
increase the cost of such financing arrangements. For example, a downgrade in
credit rating could preclude us from issuing commercial paper under our current
program.
Turmoil in the airline industry and continued global political unrest have
led to increased uncertainty in the debt markets in which we borrow funds. While
we have been able to borrow the funds necessary to finance operations in the
current market environment, additional turmoil in the airline industry or
political environment could limit our ability to borrow funds from our current
funding sources. Should this occur we would seek alternative sources of funding,
including securitizations, manufacturers' financings, drawings upon our
revolving loans and lines of credit facilities or additional short-term
borrowings. If we were unable to obtain sufficient funding, we could negotiate
with manufacturers to defer deliveries of certain aircraft.
-15-
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS (CONTINUED)
The following summarizes our contractual obligations at September 30,
2004, and the possible effect of such obligations on our liquidity and cash
flows in future periods.
Existing Commitments (Exclusive of Interest)
Commitments Due by Fiscal Year
------------------------------
Total 2004 2005 2006 2007 2008 Thereafter
----- ---- ---- ---- ---- ---- ----------
(Dollars in thousands)
Public and Bank Term
Debt $20,536,978 $ 642,217 $ 3,562,144 $ 3,671,935 $ 3,553,738 $ 3,750,998 $ 5,355,946
Capital Lease
Obligations 63,684 24,104 39,580 -- -- -- --
Commercial Paper 2,470,042 2,470,042 -- -- -- -- --
Operating Leases 108,803 2,052 8,225 8,553 8,895 9,251 71,827
Purchase Commitments 22,491,600 1,169,400 5,713,200 5,026,800 4,379,100 3,789,400 2,413,700
----------- ----------- ----------- ----------- ----------- ----------- -----------
Total $45,671,107 $ 4,307,815 $ 9,323,149 $ 8,707,288 $ 7,941,733 $ 7,549,649 $ 7,841,473
=========== =========== =========== =========== =========== =========== ===========
Contingent Commitments
Contingency Expiration by Fiscal Year
-------------------------------------
Total 2004 2005 2006 2007 2008 Thereafter
----- ---- ---- ---- ---- ---- ----------
(Dollars in thousands)
Purchase Options on New Aircraft $ 650,100 $ -- $ -- $ 228,000 $ 275,500 $ 146,600 $ --
Put Options (a) 741,251 -- 302,756 -- -- -- 438,495
Asset Value Guarantees (a) 88,040 500 5,226 11,247 17,831 10,492 42,744
Loan Guarantees (a) 146,429 -- 18,914 79,274 -- -- 48,241
Lines of Credit 65,000 -- 15,000 -- -- -- 50,000
---------- ----- --------- --------- --------- --------- ---------
Total $1,690,820 $ 500 $ 341,896 $ 318,521 $ 293,331 $ 157,092 $ 579,480
========== ===== ========= ========= ========= ========= =========
- ---------------
(a) From time to time, we participate with airlines, banks and other
financial institutions to assist in financing aircraft by providing
asset guarantees, put options, or loan guarantees collateralized by
aircraft. As a result, should we be called upon to fulfill our
obligations, we would have recourse to the value of the underlying
aircraft.
-16-
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS (CONTINUED)
INDUSTRY CONDITION
Our sources of revenue are principally from scheduled and charter
airlines and companies associated with the airline industry. Our revenues and
results of operation are therefore affected by how our customers cope with the
economic environment in which airlines operate. In the past few years, the
airline industry has been negatively affected by a number of factors, including
acts of terrorism and related lingering fears, the war in Iraq, a sluggish
worldwide economy, the cost of fuel, the cost of insurance and the outbreak of
SARS. Our revenues and results of operations have been negatively affected in
2004 and 2003 by participation in customer restructurings, requirements to
re-lease aircraft repossessed from airlines that ceased operations, and from
market lease rate contractions during the economic downturn. Airline passenger
and cargo traffic worldwide have exhibited measured growth since late 2003. If
such traffic growth can be sustained, it should benefit the economic recovery of
the commercial airlines industry. Recent market trends indicate a modest
increase in lease rates for the most desirable Airbus and Boeing twin-engine
single aisle and wide body aircraft for placements beginning in the second half
of 2004 and beyond. However, lower lease rates will continue to affect our
revenue until leases negotiated during the economic downturn have terminated and
are renewed at higher rental levels. In the first quarter of 2004, one of our
customers, Air Holland (one owned and one managed aircraft) filed for protection
under the Dutch bankruptcy law. The planes were subsequently leased. Subsequent
to September 30, 2004, another one of our customers, V-Bird (three owned
aircraft), filed for protection under the Dutch bankruptcy law. We are actively
marketing these aircraft at October 22, 2004.
Approximately 20% of our revenue is generated from customers based in
Asia and the Pacific region, and we have numerous other customers who operate
flights to and from those areas. Travel between Asia and the rest of the world
was negatively impacted by the outbreak of SARS. Many airlines in Asia and those
traveling to Asia curtailed flights in response to the reluctance of people to
travel to Asia during the first six months of 2003. Travel to Asia has, however,
picked up sharply since the World Health Organization lifted the warnings
against visits to SARS affected countries in the second quarter of 2003. Any new
outbreak of SARS could again negatively impact travel between Asia and the rest
of the world.
On October 16, 2003, Boeing announced that it had decided to "complete
production" of the 757 jetliner in late 2004. At September 30, 2004, we owned 57
757s, all of which were on lease to airlines. As a result of Boeing's
announcement, management reviewed and reduced the residual values on the Boeing
757 aircraft type, to an internally established value, to more appropriately
reflect our expectations of future values. We commenced recording the change in
estimate on January 1, 2004 and it had an immaterial effect on our financial
position and results of operations. We believe the market place had already
reflected the event in market lease rates and we had already considered the
event in our most recent impairment analysis. The analysis did not result in an
impairment charge.
We have received tax benefits under the Foreign Sales Corporation
("FSC") law and its successor regime, the Extraterritorial Income Act ("ETI").
In October 2004, Congress passed a bill, the American Jobs Creation Act of 2004,
repealing the corporate export tax benefits under the ETI, after the World Trade
Organization ruled the export subsidies were illegal. Under the bill, ETI export
tax benefits for corporations would be phased out in 2005 and 2006 and cease to
exist for the year 2007. We expect our effective tax rate to rise over the next
two years to a rate consistent with the "expected" statutory rate.
-17-
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS (CONTINUED)
NON-GAAP FINANCIAL MEASURES
Lease Margin
Lease Margin is defined as Rental of flight equipment less total
expenses, adjusted for VIE expenses related to Other Variable Interest Entities,
divided by Rental of flight equipment. Lease Margin is a measure by which we
isolate and evaluate the overall profitability of our contractual leasing
operations, which constitute our primary revenue generating activity. Beginning
in 2004, to more accurately portray the trend of our core leasing operations, we
began to adjust total expenses in the calculation of Lease Margin by excluding
the above mentioned VIE expenses. Related VIE revenues are included in Interest
and other and are by definition excluded from the calculation of Lease Margin.
VIE revenues and expenses are recorded in our 2004 net income as a result of our
adoption of FIN 46 beginning December 31, 2003. The most directly comparable
GAAP financial measure is Profit Margin. The following is a reconciliation of
Profit Margin to Lease Margin:
Nine Months Three Months
(Dollars in millions)
2004 2003 2004 2003
---- ---- ---- ----
Total revenues (A) $ 2,432.0 $ 2,282.9 $ 841.7 $ 796.2
Flight equipment marketing (69.0) (48.3) (7.5) (33.4)
Interest and other (78.4) (37.6) (39.1) (9.2)
--------- --------- ------- -------
Rental of flight equipment (B) 2,284.6 2,197.0 795.1 753.6
--------- --------- ------- -------
Total expenses (C) 1,849.7 1,715.3 634.7 591.7
VIE expenses (15.7) -- (5.0) --
--------- --------- ------- -------
Adjusted total expenses (D) 1,834.0 1,715.3 629.7 591.7
--------- --------- ------- -------
Profit margin (A) - (C) = (E) $ 582.3 $ 567.6 $ 207.0 $ 204.5
Lease margin (B) - (D) = (F) $ 450.6 $ 481.7 $ 165.4 $ 161.9
Profit margin % (E) divided by (A) 23.94% 24.86% 24.59% 25.68%
Lease margin % (F) divided by (B) 19.72% 21.93% 20.80% 21.48%
RESULTS OF OPERATIONS - Three months ended September 30, 2004 versus 2003.
Revenues from the rental of flight equipment increased 5.5% to $795.1
million in 2004 compared to $753.6 million in 2003, due to an increase in the
number of aircraft available for operating lease (656 at September 30, 2004
compared to 599 at September 30, 2003), partially offset by aircraft being
reconfigured and redelivered and therefore not earning revenue for the entire
period. We had two aircraft in our fleet that were not subject to a signed lease
agreement or a signed letter of intent at September 30, 2004, one of which was
subsequently leased. Revenues in 2004 compared to 2003 were negatively impacted
by lower lease rates and restructured rents as a result of the slowdown and
turmoil of the airline industry. Lease Margin for the period decreased to 20.8%
in 2004 compared to 21.5% for the same period in 2003. Profit Margin decreased
to 24.6% compared to 25.7% for the same periods. However, Lease Margin for the
three months ended September 30, 2004 has increased from 19.4% for the prior
quarter ended June 30, 2004. Management expects factors described in Industry
Conditions to continue to negatively impact revenues in 2004 and beyond, even as
we see increases in the Lease Margins going forward, as some airlines continue
to experience financial difficulties and improving trends in lease rates will
take time to be completely reflected in our lease revenues.
At September 30, 2004, our fleet, on which we earn rental revenue,
consisted of 656 aircraft compared to a fleet of 599 aircraft at September 30,
2003. The cost of the leased fleet increased to $36.5 billion at September 30,
2004, compared to $33.5 billion at September 30, 2003. The 2003 cost includes
aircraft subject to sale-lease back transactions which were consolidated as a
result of our adoption of FIN 46 at December 31, 2003.
In addition to leasing operations, we engage in the marketing of flight
equipment throughout the lease term, as well as the sale of third party owned
flight equipment on a principal and commission basis. Revenues from flight
equipment marketing decreased to $7.5 million in 2004 compared to $14.9 million
in 2003. We sold one aircraft and one engine during the third quarter of 2004
compared to one aircraft and two engines during the same period in 2003.
Further, in the third quarter of 2003 we contracted to sell 37 aircraft
to a trust, which are included in the consolidated financial statements of the
Company's parent (see Note C of Notes to Condensed Consolidated Financial
Statements).
-18-
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS (CONTINUED)
The gains, net of expenses, related to the transaction is included in
Flight Equipment Marketing - Securitization.
Interest and other revenue increased to $39.1 million in 2004 compared
to $9.2 million in 2003 primarily due to a settlement of a bankruptcy claim.
Interest expense increased to $242.4 million in 2004 compared to $233.0
million in 2003 as a result of an increase in average debt outstanding, borrowed
to finance aircraft acquisitions (excluding the effect of debt discount and
foreign exchange adjustments), to $23.2 billion in 2004 compared to $21.4
billion in 2003. This increase was partially offset by a decrease in the average
composite borrowing rate to 4.18% in 2004 compared to 4.57% in 2003. Our
composite borrowing rate decreased as follows:
2004 2003 Decrease
---- ---- --------
Beginning of Quarter 4.15% 4.50% 0.35%
End of Quarter 4.20% 4.63% 0.43%
Average 4.18% 4.57% 0.39%
Interest expense for the three months ended September 30, 2004 includes
a $0.1 million reduction related to derivative ineffectiveness and
mark-to-market of derivatives not considered a hedge under FAS 133.
Depreciation of flight equipment increased 9.1% to $322.5 million in
2004 compared to $295.6 million in 2003 due to the increased cost of the fleet.
In prior periods we entered into sale-leaseback transactions. We ceased
to record rent expense for these transactions as a result of our adoption of FIN
46 on December 31, 2003 (see Financial Condition: Synthetic Lease Obligations
for more information).
Provision for overhauls increased to $43.3 million in 2004 compared to
$31.7 million in 2003 due to an increase in the aggregate number of hours flown
on which we collect overhaul revenue and against which the provision is
computed.
Selling, general and administrative expenses increased to $26.4 million
in 2004 compared to $21.0 million in 2003 primarily due to expenses related to
our interest in VIEs in the amount of $5.0 million as a result of the Company's
adoption of FIN 46 at December 31, 2003.
We typically contract to re-lease aircraft before the end of the
existing lease term. For aircraft returned before the end of the lease term, we
have generally been able to re-lease aircraft within two to six months of its
return. We have not recognized any impairment charges related to our fleet, as
the existing service potential of the aircraft in our portfolio has not been
diminished. Further, we have been able to re-lease aircraft without diminution
in lease rates to an extent that would warrant an impairment write down.
-19-
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS (CONTINUED)
RESULTS OF OPERATIONS - Nine months ended September 30, 2004 versus 2003.
Revenues from the rental of flight equipment increased 4.0% to $2,284.6
million in 2004 compared to $2,197 million in 2003, due to an increase in the
number of aircraft available for operating lease (656 at September 30, 2004
compared to 599 at September 30, 2003), partially offset by aircraft being
reconfigured and redelivered and therefore not earning revenue for the entire
period. Two aircraft in our fleet were not subject to a signed lease agreement
or a signed letter of intent at September 30, 2004, one of which was
subsequently leased. Revenues in 2004 compared to 2003 were negatively impacted
by lower lease rates and restructured rents as a result of the slowdown and
turmoil of the airline industry. Lease Margin for the period decreased to 19.7%
in 2004 compared to 21.9% for the same period in 2003. Profit Margin decreased
to 23.9% compared to 24.9% for the same periods. Management expects factors
described in Industry Conditions to continue to negatively impact revenues in
2004 and beyond, even as we see increases in the Lease Margins going forward, as
some airlines continue to experience financial difficulties and improving trends
in lease rates will take time to be completely reflected in our lease revenues.
At September 30, 2004, our fleet, on which we earn rental revenue,
consisted of 656 aircraft compared to a fleet of 599 aircraft at September 30,
2003. The cost of the leased fleet, which includes aircraft subject to
sale-lease back transactions from which rental income is earned, increased to
$36.5 billion at September 30, 2004 compared to $33.5 billion at September 30,
2003.
In addition to leasing operations, we engage in the marketing of flight
equipment throughout the lease term, as well as the sale of third party owned
flight equipment on a principal and commission basis. Revenues from flight
equipment marketing increased to $43.7 million in 2004 compared to $29.8 million
in 2003. We sold nine aircraft and six engines during the first nine months of
2004 compared to one aircraft and two engines during the same period in 2003.
Further, in the third quarter of 2003 we contracted to sell 37 aircraft
to a trust, and in the first quarter of 2004 we contracted to sell 34 aircraft
to another trust, both of which are included in the consolidated financial
statements of the Company's parent (see Note C of Notes to Condensed
Consolidated Financial Statements). The gains, net of expenses, related to the
transactions are included in Flight Equipment Marketing - Securitization.
Interest and other revenue increased to $78.4 million in 2004 compared
to $37.6 million in 2003 primarily due to a settlement of a bankruptcy claim.
There was also an increase in management fees of approximately $7.5 million,
resulting from an increase in the managed fleet from 61 to 101, and revenues
from VIEs in the amount of $12.0 million due to our adoption of FIN 46 at
December 31, 2003.
Interest expense increased to $719.8 million in 2004 compared to $689.1
million in 2003 as a result of an increase in average debt outstanding, borrowed
to finance aircraft acquisitions (excluding the effect of debt discount and
foreign exchange adjustments), to $22.5 billion in 2004 compared to $20.1
billion in 2003. This increase was partially offset by a decrease in the average
composite borrowing rate to 4.37% in 2004 compared to 4.68% in 2003. Our
composite borrowing rate decreased as follows:
2004 2003 Decrease
---- ---- --------
Beginning of Nine Months 4.53% 4.73% 0.20%
End of Nine Months 4.20% 4.63% 0.43%
Average 4.37% 4.68% 0.31%
Interest expense for the nine months ended September 30, 2004 includes
$5.3 million related to derivative ineffectiveness and mark-to-market of
derivatives not considered a hedge under FAS 133.
Depreciation of flight equipment increased 10.6% to $931.5 million in
2004 compared to $841.8 million in 2003 due to the increased cost of the fleet.
In prior periods, we entered into sale-leaseback transactions. We
ceased to record rent expense for these transactions as a result of our adoption
of FIN 46 on December 31, 2003 (see Financial Condition: Synthetic Lease
Obligations for more information).
Provision for overhauls increased to $115.8 million in 2004 compared to
$86.3 million in 2003 due to an increase in the aggregate number of hours flown
on which we collect overhaul revenue and against which the provision is
computed.
Selling, general and administrative expenses increased to $82.5 million
in 2004 compared to $60.9 million in 2003 primarily due to expenses related to
interest in VIEs in the amount of $15.7 million as a result of our adoption of
FIN 46 at December 31, 2003 and higher expenses required to support our larger
fleet.
-20-
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS (CONTINUED)
We typically contract to re-lease aircraft before the end of the
existing lease term. For aircraft returned before the end of the lease term, we
have generally been able to re-lease aircraft within two to six months of its
return to us. We have not recognized any impairment charges related to our
fleet, as the existing service potential of the aircraft in our portfolio has
not been diminished. Further, we have been able to re-lease aircraft without
diminution in lease rates to an extent that would warrant an impairment write
down.
-21-
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
VALUE AT RISK
Measuring potential losses in fair values has recently become the focus
of risk management efforts by many companies. Such measurements are performed
through the application of various statistical techniques. One such technique is
Value at Risk (VaR), a summary statistical measure that uses historical interest
rates, foreign currency exchange rates and equity prices and which estimates the
volatility and correlation of these rates and prices to calculate the maximum
loss that could occur over a defined period of time given a certain probability.
The Company believes that statistical models alone do not provide a
reliable method of monitoring and controlling market risk. While VaR models are
relatively sophisticated, the quantitative market risk information generated is
limited by the assumptions and parameters established in creating the related
models. Therefore, such models are tools and do not substitute for the
experience or judgment of senior management.
The Company is exposed to market risk and the risk of loss of fair
value and possible liquidity strain resulting from adverse fluctuations in
interest rates and foreign exchange prices. The Company statistically measures
the loss of fair value through the application of a VaR model on a quarterly
basis. In this analysis the net fair value of the Company is determined using
the financial instrument and other assets. This includes tax adjusted future
flight equipment lease revenues, and financial instrument liabilities, which
includes future servicing of current debt. The estimated impact of current
derivative positions is also taken into account.
The Company calculates the VaR with respect to the net fair value by
using historical scenarios. This methodology entails re-pricing all assets and
liabilities under explicit changes in market rates within a specific historical
time period. In this case, the most recent three years of historical information
for interest rates and foreign exchange rates were used to construct the
historical scenarios at September 30, 2004 and December 31, 2003, respectively.
For each scenario, each financial instrument is re-priced. Scenario values for
the Company are then calculated by netting the values of all the underlying
assets and liabilities. The final VaR number represents the maximum adverse
deviation in fair market value incurred under these scenarios with 95%
confidence (i.e. only 5% of historical scenarios show losses greater than the
VaR figure). A one month holding period is assumed in computing the VaR figure.
The following table presents the average, high and low VaRs for the Company with
respect to its fair value for the periods ended September 30, 2004 and December
31, 2003:
ILFC Market Risk
----------------
Nine Months Ended Year Ended
September 30, 2004 December 31, 2003
------------------ -----------------
(Dollars in millions)
Average High Low Average High Low
------- ---- --- ------- ---- ---
Combined $ 52.4 $ 86.3 $ 7.8 $ 37.7 $ 78.1 $ 7.8
Interest Rate 52.5 86.4 7.9 37.8 78.1 7.8
Currency 0.5 1.3 0.2 0.8 1.3 0.2
-22-
ITEM 4. CONTROLS AND PROCEDURES
(a) The Company maintains disclosure controls and procedures that
are designed to ensure that information required to be
disclosed in its filings under the Securities Exchange Act of
1934 is recorded, processed, summarized and reported within
the periods specified in the rules and forms of the Securities
and Exchange Commission. Such information is accumulated and
communicated to management of the Company, including the
Chairman of the Board and Chief Executive Officer and the Vice
Chairman, Chief Financial Officer and Chief Accounting Officer
(collectively the "Certifying Officers"), as appropriate, to
allow timely decisions regarding required disclosure. The
management of the Company, including the Certifying Officers,
recognizes that any set of controls and procedures, no matter
how well designed and operated, can provide only reasonable
assurance of achieving the desired control objectives.
(b) As of the end of the period covered by this Quarterly Report
on Form 10-Q, the Company has carried out an evaluation, under
the supervision and with the participation of management,
including the Certifying Officers, of the effectiveness of the
design and operation of the Company's disclosure controls and
procedures. Based upon that evaluation, the Certifying
Officers concluded that disclosure controls and procedures
provide reasonable assurance that the information required to
be disclosed is recorded, processed, summarized, and reported
within the periods specified by the Securities and Exchange
Commission.
Variable Interest Entities
The Company's consolidated financial statements for the period
ended September 30, 2004, include assets in the amount of
$154.3 million, liabilities in the amount of $74.7 million and
a net loss of $3.7 million related to Variable Interest
Entities. Management has been unable to assess the
effectiveness of internal control at those entities due to the
fact that the Company does not have the ability to dictate or
modify the controls of those entities, nor does the Company
have the ability, in practice, to assess those controls.
(c) There have been no changes in the Company's internal controls
over financial reporting identified in connection with the
evaluation referred to above that occurred during the
Company's third quarter that has materially affected, or is
reasonably likely to materially affect, the Company's internal
controls over financial reporting.
-23-
PART II. OTHER INFORMATION
ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
Not Applicable
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
a) Exhibits
3.1 Restated Articles of Incorporation of the Company, as
amended through December 9, 1992, filed November 3,
1993 (filed as an exhibit to Registration Statement
No. 33-50913 and incorporated herein by reference).
3.2 Certificate of Determination of Preferences of Series
A Market Auction Preferred Stock (filed December 9,
1992 as an exhibit to Registration Statement No.
33-54294 and incorporated herein by reference).
3.3 Certificate of Determination of Preferences of Series
B Market Auction Preferred Stock (filed December 9,
1992 as an exhibit to Registration Statement 33-54294
and incorporated herein by reference).
3.4 Certificate of Determination of Preferences of Series
C Market Auction Preferred Stock (filed as an exhibit
to Form 10-K for the year ended December 31, 1994 and
incorporated herein by reference).
3.5 Certificate of Determination of Preferences of Series
D Market Auction Preferred Stock (filed as an exhibit
to Form 10-K for the year ended December 31, 1994 and
incorporated herein by reference).
3.6 Certificate of Determination of Preferences of Series
E Market Auction Preferred Stock (filed as an exhibit
to Form 10-K for the year ended December 31, 1994 and
incorporated herein by reference).
3.7 Certificate of Determination of Preferences of Series
F Market Auction Preferred Stock (filed as an exhibit
to Form 10-K for the year ended December 31, 1994 and
incorporated herein by reference).
3.8 Certificate of Determination of Preferences of Series
G Market Auction Preferred Stock (filed as an exhibit
to Form 10-K for the year ended December 31, 1995 and
incorporated herein by reference).
3.9 Certificate of Determination of Preferences of Series
H Market Auction Preferred Stock (filed as an exhibit
to Form 10-K for the year ended December 31, 1995 and
incorporated herein by reference).
3.10 Certificate of Determination of Preferences of
Preferred Stock of the Company (filed as an exhibit
to Form 10-K for the year ended December 31, 2001 and
incorporated herein by reference).
3.11 By-Laws of the Company, including amendment thereto
dated August 31, 1990 (filed as an exhibit to Form
10-K for the year ended December 31, 2003 and
incorporated herein by reference).
3.12 Unanimous Written Consent of Sole Stockholder of the
Company, dated January 2, 2002, amending the Bylaws
of the Company (filed as an exhibit to Form 10-Q for
the quarter ended June 30, 2003 and incorporated
herein by reference).
12. Computation of Ratios of Earnings to Fixed Charges
and Preferred Stock Dividends
31.1 Certification of Chairman of the Board and Chief
Executive Officer
31.2 Certification of Vice Chairman, Chief Financial
Officer and Chief Accounting Officer
32.1 Certification under 18 U.S.C., Section 1350
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SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934,
the registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
INTERNATIONAL LEASE FINANCE CORPORATION
October 22, 2004 /S/ Steven F. Udvar-Hazy
------------------------
STEVEN F. UDVAR-HAZY
Chairman of the Board and
Chief Executive Officer
October 22, 2004 /S/ Alan H. Lund
----------------
ALAN H. LUND
Vice Chairman,
Chief Financial Officer
and Chief Accounting Officer
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INTERNATIONAL LEASE FINANCE CORPORATION AND SUBSIDIARIES
INDEX TO EXHIBITS
Exhibit No.
12. Computation of Ratios of Earnings to Fixed Charges
and Preferred Stock Dividends
31.1 Certification of Chairman of the Board and Chief
Executive Officer
31.2 Certification of Vice Chairman, Chief Financial
Officer and Chief Accounting Officer
32.1 Certification under 18 U.S.C., Section 1350
-26-