AerSale Corp Q1 FY2022 Earnings Call

Good afternoon. I'd like to welcome everyone to AerSale's First Quarter 2022 Earnings Call. Conducting the call today are Nick Finazzo, Chief Executive Officer; and Martin Garmendia, Chief Financial Officer. Before we discuss this quarter's results, we want to remind you that all statements made on this call that do not relate to matters of historical fact should be considered forward-looking statements within the meaning of the federal securities laws including statements regarding our current expectations for the business and our financial performance. These statements are neither promises nor guarantees, but involve known and unknown risks, uncertainties and other important factors that may cause our actual results, performance or achievements to be materially different from any future results. Important factors that could cause actual results to differ materially from forward-looking statements are discussed in the Risk Factors section of the company's annual report on Form 10-K for the year ended December 31, 2021, and filed with the Securities and Exchange Commission on March 15, 2022, and its other filings with the SEC. These filings identify and address other important risks and uncertainties that could cause actual events and results to differ materially from those indicated by the forward-looking statements on this call. We'll also refer to non-GAAP measures that we view as important in assessing the performance of our business. A reconciliation of those non-GAAP metrics to the nearest GAAP metric can be found in the earnings presentation materials made available on the Investors section on the AerSale website.

Thank you, Kristen. Good afternoon, everyone, and thank you for listening in today. I'll begin with a brief overview of the quarter, followed by operational updates and progress we're making on our key objectives. I'll then turn the call over to Martin for a detailed review of our first quarter financial results. In the first quarter of 2022, we built on the strong momentum we had exiting 2021. Revenue in the quarter was $122.8 million, up 110% compared to the prior year. Higher revenue was driven by the success of our 757 passenger-to-freighter conversion program, the sale of a 737 that was utilized for AerAware testing and the recovery in commercial aerospace. These gains versus the prior year were partially offset by reduced sales in our MRO business as we reallocated resources in our Goodyear facility to support the 757 freighter conversion program as we have detailed in past quarters. Turning to profitability, we reported strong revenue of $22.9 million of operating profit during the period, which compares to $12.7 million in the prior year. Adjusted EBITDA during the quarter was $29.9 million or 24.4% of total sales, setting another single-quarter record compared to $16.5 million or 28.3% of sales in the prior year. Higher adjusted EBITDA resulted from the strength of our 757 program coupled with an improving commercial aviation environment. Turning to segment specifics and beginning with asset management. In the first quarter, we sold $51.9 million of flight equipment that included 6 aircraft and 4 engines in the quarter. I do want to take a moment to reiterate to investors that flight equipment sales like the 757 program are a very important part of our business and overall strategy. It is critical to our competitive advantage to fully use our end-to-end solution to acquire and ultimately direct these assets to get the highest return on investment, whether it be as whole flight equipment, leases, or feedstock to our customers. That being said, these large flight equipment sales can be lumpy and should be assessed by both the feedstock going into them and the long-term performance of these programs. I am pleased to report that we retain sufficient aircraft to continue feeding our 757 freighter conversion program through 2023, giving us good visibility in our current guidance period that Martin will elaborate on further during his remarks. Beyond the 757 program, our feedstock pipeline has markedly improved over the past several quarters, and our current pipeline of flight equipment acquisition opportunities is the strongest we have seen since 2015, which was the end of the previous aviation down cycle caused by the Great Recession. These are generally smaller packages of less than 10 aircraft or engines and include platforms such as the A320, A330, A340, Boeing 737, 757, 767 and 777. We view this change in the market backdrop as a significant positive tailwind for our medium-term outlook as it will allow us to leverage the approximately $322 million of cash and available revolver capacity to increase our feedstock and aircraft available for sale or lease. Within our used serviceable material or USM parts business, airframe and engine parts sales were notably higher than the prior year as we are starting to benefit from the recent feedstock acquisitions that we made and increased demand from the commercial aviation recovery. As we look out beyond the next couple of quarters, we anticipate feedstock will improve further as we are able to execute on the broadening asset availability in the market. During the first quarter, our leasing revenue increased due to higher engine utilization as well as additional engines on lease compared to the prior year. Leasing revenues also included recognition of deposits related to the 2 aircraft leases that were terminated due to the sanctions against Russia that we discussed last quarter. Currently, we have 2 cargo aircraft on lease and 29 engines. We were able to redeploy some engines quickly, which has led to upside to our forecast following the lease terminations with airlines serving Russia. Further, we have recovered all of our flight equipment, with the exception of 1 engine, and we continue to work with the lessee and our insurance companies to recover any potential losses associated with the detention of this engine. In our TechOps segment, total sales were $48.3 million compared to $29.2 million in the prior year. Higher sales were entirely attributable to the initial AerAware 737 test aircraft that was sold during the period for $23.9 million. This was partially offset by a decline in third-party sales as we continued the strategic reallocation of resources to intercompany activities in support of the 757 freighter conversion program. Airline demand during the quarter remained strong and in excess of our capacity during the first quarter, particularly as we continue to allocate MRO resources to our 757 conversion program. This strategic initiative was instrumental in delivering record results last year and through the first quarter of 2022. Looking forward, we have been successful in identifying several additional MRO partners to perform 757 freighter conversions, which will allow us to free up MRO capacity while maintaining overall 757 program profitability. This is a meaningful development as it will allow us to service commercial airline MRO demand and further grow our business beyond its existing capacity. Moving to Engineered Solutions, we have continued work on product development and obtaining FAA approval of AerAware, which is our advanced technology enhanced flight vision system, incorporating a military-style head-wearable display that allows pilots to see through poor weather conditions. We have developed it in partnership with Universal, a subsidiary of Elbit Systems. Our partner has indicated a completion date of software upgrades late this quarter, at which point, we will be positioned for final FAA flight testing and STC certification. Before turning the call over to Martin, I would like to touch a bit on the macro environment. On the commercial side, the market continues to firm, particularly for domestic air travel, where anticipated volume will be at or near pre-pandemic levels over the summer. On the international side, passenger demand is still down but steadily improving. This favorable backdrop creates steady demand across AerSale's integrated business model, which we anticipate will drive further improvement throughout the balance of the year and into 2023. The freighter market also remains critically undersupplied, both from the lasting effects of the shift in consumer habits to e-commerce and lower system capacity from reduced freight tonnage on commercial aircraft. We have continued to invest in this end market, and our 757 conversion program is secured through at least 2023. Lastly, AerSale is at its strongest against the backdrop of plentiful feedstock and attractive pricing. We have spoken for some time regarding the eventual rising tide of asset availability as airline operators assess their post-pandemic fleets. We believe we're in the early stages of this environment, and there has been a notable shift in the number of deals our team has identified during the first quarter. In the long term, AerSale is excellently positioned. We operate a purpose-built, fully integrated, multidimensional, adaptive aviation aftermarket aviation model that includes part procurement, flight equipment sales and leasing, MRO, FAA certifications and aircraft storage and decommissioning. Our unique model enables us to closely monitor the market, capitalize on opportunities in advance of our peers, and drive internal and external value to all of our stakeholders. At this time, I'll turn the call over to Martin for a closer look at the numbers.

Thanks, Nick. I will start with an overview of our first quarter financial performance and end with our guidance for 2022. Our first quarter revenue was $122.8 million, which included $75.9 million of flight equipment sales. Revenue in the first quarter of 2021 was $58.4 million and included $13.8 million of flight equipment sales. As a reminder, our business may fluctuate from quarter-to-quarter and year-to-year based on flight equipment sales, and therefore, it is important to monitor our progress on asset purchases and sales over the long term. First quarter Asset Management Solutions, or AMS, revenue, increased to $74.5 million from $29.3 million in the first quarter of 2022, primarily on account of the flight equipment sales mentioned before. Consumption of Used Serviceable Material, or USM parts, for maintenance was higher as airlines accelerated the pace of returning aircraft into operation. In addition, leasing revenue was higher on the back of stronger volume and utilization from our leased assets. Within our USM business, we anticipate an increasingly favorable market for feedstock availability against the backdrop of growing demand for airframe and engine part sales as airline demand expands. In addition, demand for passenger-to-freighter conversions is expected to increase and we are well on our way to monetize the remaining Boeing 757 aircraft in 2022 and 2023. First quarter revenue from TechOps was $48.3 million compared to $29.2 million in the first quarter of 2021 as a result of the monetization from the flight equipment sale of an AerAware-dedicated Boeing 737. This increase was offset in part by lower revenue from MRO activities within TechOps. During our third and fourth quarter earnings calls, we mentioned that we are reallocating resources away from third-party work to support the cargo conversion line for our 757 aircraft at our Goodyear facility. This process continued through the first quarter, leading to lower revenue. However, this reallocation has been pivotal in our ability to generate higher margins from the sale of 3 757 cargo conversions since the beginning of 2021, with an additional 3 conversions expected to be completed and sold in the remainder of 2022. MRO activities at our Roswell facility was also lower due to a decrease in aircraft stored in our facilities as customers reactivate aircraft. We believe that the commercial market recovery will gain further traction, and our MRO facility should continue to benefit from return to service revenues. First quarter gross margin was 38% compared to 33.9% in the first quarter of 2021, with the improvement largely due to a greater mix of high-margin flight equipment sales. Selling, general and administrative expenses were $23.8 million in the first quarter compared to $6.9 million in the first quarter of 2021, primarily from higher payroll expenses on account of higher wages and the hiring of additional workers. We received $6.4 million in payroll support program proceeds during the first quarter of 2021 and did not receive any corresponding proceeds in the first quarter of 2022. We also incurred $3.8 million of noncash equity-based compensation expenses in the first quarter compared to $0.1 million in the first quarter of 2021. Income from operations was $22.9 million in the first quarter versus $12.9 million in the first quarter of 2021. Net income was $17.2 million in the first quarter compared to $10 million in the first quarter of 2021. Adjusted for noncash equity-based compensation and mark-to-market adjustments related to our private warrants, adjusted net income was $22.2 million in the first quarter and $10.3 million in the first quarter of 2021. Diluted earnings per share was $0.32 for the first quarter compared to $0.23 in the first quarter of 2021. Adjusted for noncash equity-based compensation and mark-to-market adjustments related to our private warrants, diluted earnings per share was $0.41 for the first quarter of 2022 compared to $0.24 in the first quarter of 2021. First quarter adjusted EBITDA was $29.9 million or 24.4% of revenue, while adjusted EBITDA in the corresponding year-ago period was $16.5 million or 28.3% of sales. The improvement is largely attributable to higher revenues. In addition, adjusted EBITDA for the first quarter of 2021 reflected the benefit from $6.4 million in Payroll Support Program proceeds, for which, there were no corresponding proceeds in the first quarter of '22. Cash flow provided by operating activities was $43 million in the first quarter compared to $14 million of cash flow used in operating activities in the first quarter of 2021. The main driver of increased cash generation was stronger operating income and timing of inventory purchases. At quarter end, AerSale had approximately $171.7 million of cash on its balance sheet and an undrawn revolver of $150 million. Finally, moving to our guidance for 2022 and summary. As a result of strong first quarter performance and a supportive outlook for the year, we are reaffirming our guidance calling for revenue of $420 million to $450 million and adjusted EBITDA of $80 million to $90 million in 2022. In providing this guidance, we are mindful that recent geopolitical events related to the Russian invasion of Ukraine may impact the global commercial aerospace industry. That said, we have not specifically adjusted our outlook for those factors beyond the identifiable impacts to our business related to assets leased to air carriers serving the Russian market which were terminated in the first quarter and the loss of AerSafe contracts with Russian operators. Furthermore, our outlook is based on an improvement in the AMS segment, ongoing demand for on-airport MRO services, accelerating demand in cargo and e-commerce markets and continued request for passenger-to-freighter conversions and other TechOps products and services. We also continue to make progress on the FAA certification of our innovative AerAware product. We are progressing towards certification, but labor constraints have impacted the timely completion of software. While we remain confident that certification will be completed in 2022, we have only included modest AerAware sales in our guidance to account for the ramp-up phase to commercialize this product once the supplemental type certificate for AerAware is issued to AerSale by the FAA. Finally, the ongoing and continued monetization of the Boeing 757 fleet acquisition is expected to be the predominant driver of the AMS segment. We expect to sell the remaining Boeing 757s as converted freighters in 2022 and 2023 as a result of strong demand for cargo-converted aircraft. In summary, we have proven our best-in-class execution and flexibility as a company throughout the pandemic and through the recovery. We remain committed to stakeholder value and will continue to direct capital to the highest-ROI opportunities for the company. As the market backdrop turns progressively more favorable, we believe we are well positioned to drive value for our customers and shareholders and execute to our long-term strategy.

Yes. I have two questions. First, can you provide more details about the improvement in USM availability? Also, what bids are currently out or what is the total value you are pursuing? Second, could you elaborate on the timing for AerAware considering the recent changes at the FAA? Do you believe the personnel changes will affect the timing?

I'm jotting down your questions to ensure I address them in the right order. Regarding the improvement in USM availability, last year, during our acquisition process, we acquired feedstock knowing it would take time for the USM business to recover and that repair timelines with third-party vendors were extended. The acquisitions we made in the last two quarters of last year are beginning to yield results now in the second quarter this year, and we've been consistently purchasing feedstock at reasonable prices. We anticipate extended repair and overhaul intervals, but as the market recovers, we expect the USM parts will be available for sale in the upcoming quarters. The contributions from our acquisitions over the last two quarters are evident, and we feel confident we will exceed purchasing $100 million in feedstock this year, with expectations for that number to continue to rise. I previously compared this situation to an incoming tide, and it truly feels like that now; the water is rising, and more materials are becoming available. AerSale is in a strong position to monetize feedstock, whether it's whole aircraft, engines, or individual parts, and we can decide to either return aircraft to service, lease them, convert them for cargo, or disassemble them into components for the aftermarket. We're optimistic about the increasing USM availability, and the timing indicates we are at the beginning stages of a rapid rise that we expect will peak in the next 12 to 24 months. Regarding AerAware certification, we are nearing completion of all tasks necessary for certification, and our confidence in finishing this project soon is growing compared to the previous couple of years when factors beyond our control delayed progress. Issues like COVID, manpower shortages, and limited FAA engagement due to remote work have largely resolved. The FAA is now mostly back in the office, which should help. We are close to completing software validation with the help of our partner, Universal Avionics, and we have our avionics engineer on site overseeing this process. We have received positive feedback from the FAA on our submitted documentation, which makes us feel we are close to the final stages. Once Universal finishes validating the software, we will complete our flight tests, which will allow the FAA to consider us for certification.

And do you know how many hours you need to accrue for the flight testing to be adequate?

No. That will be up to the FAA. Our expectation, based on feedback we've received from them, is that after approximately 200 hours of flying done with our FAA designated engineers, the usual flight testing requirement of 50 to 100 hours will be reduced to something less than 25 hours. We expect to complete this in just a couple of days. Keep in mind that with summer approaching, weather conditions will play a significant role, as the FAA wants to assess how the system performs in adverse weather.

Nick, I have a quick question regarding the MRO business. I understand that you're reallocating resources to focus on your own 757 work. As you consider your third-party MRO operations, are you sensing that your customers may want to delay or postpone any anticipated projects coming out of the summer? I'm trying to gauge concerns about demand for the latter half of the year and your guidance expectations, especially given the many worries we've heard recently about the pace of recovery.

From what I recall from our last conversation with the President of our heavy MRO group, we are fully booked through the end of the year. This will help us because once we complete our conversion #6, we will have additional capacity available. I anticipate we will finish by July. Following that, the next 6 to 10 conversions will be handled by third-party MROs, further increasing our capacity to serve our existing airline customers. I don't foresee any issues filling this capacity and expect to remain fully booked for the rest of the year. Given the current trajectory, we will continue to stay busy. We do not anticipate any change in MRO demand in the near future. We believe we will be operating at capacity even with the additional labor and facilities available from the 757 conversion work done by a third party.

That's helpful. Regarding the 757 work and the passenger-to-freighter conversion outlook, you seem quite confident about this market. To what extent could there be a softening in passenger-to-freighter demand as international belly capacity from passenger aircraft continues to increase? You appear very optimistic about the cargo markets in the near term, but are there any concerns for the next couple of years that could pose headwinds to growth in the cargo segment?

I believe that a significant recovery in the international wide-body market is necessary for certain changes to take place. The 757, while a long-range aircraft, primarily serves longer routes within a continent or between nearby countries, typically no farther than five hours apart. In contrast, long-range wide-body aircraft are designed for flights lasting 10 to 12 hours. We don't anticipate a substantial recovery in the international market until late 2023 at the earliest, likely extending into 2024, and it may not fully rebound to pre-COVID levels until 2025. This perspective suggests that demand for wide-body freighters, like the 767, could diminish. However, we expect the 757 to remain unaffected as it caters to a different segment of the market. We're optimistic about the demand for the 757 program we are developing. Similarly, we anticipate strong demand for the narrowbody 737 NG cargo conversions, which will remain robust despite the recovery of the wide-body international market. The surge in e-commerce and the shift in consumer behavior, which has increased online shopping due to the pandemic, will help sustain a strong freight market. This reinforces our commitment to the freighter conversion program, giving us confidence in its continued strength. Okay. Everyone, again, thank you for listening to our call today and for your interest in AerSale. We just completed another record quarter. We're off to a great start in 2022, and we expect that to continue through the balance of the year. So we're feeling good. Again, thank you for listening today, and I hope everyone has a good day.

This concludes today's conference call. You may disconnect your lines. Thank you for participating, and have a pleasant day.