FTAI Aviation Ltd. (FTAI) Earnings Call Transcript & Summary

Okay. Great. Well, thanks, and good afternoon, everybody. It's Chris Wetherbee on the transport side back for the last, but certainly not least of the transport track today on our third day here at the conference. We're really pleased to be joined by Joe Adams, who's the Chairman and CEO of Fortress Transportation and Infrastructure Investors. And Joe, thanks very much for joining us. Appreciate it.

Thank you.

We've talked a lot over the last couple of days about current events and sort of what's going on. But what will maybe be the best way to start, and before I even get to that, just to remind folks, we want this to be interactive. So you have a dialogue box that you can ask questions. And so feel free to do that. You can also simply shoot me an e-mail, and I'll get that, and I can relay them to Joe. We do want it to be interactive. So certainly, I would encourage you to do that. But maybe the best way to get started before we really dig in deep into some of the exciting things going on with Fortress is, Joe, could you give us maybe a bit of a lay of the land, quick overview of the company, and sort of the businesses that you guys are in, and then we can go into the details.

Sure. Thanks, Chris, and thanks for having us again this year. It's good to be a participant. It would be better to be in person, but next year, I'm sure we'll be back. Just by recap, FTAI, as we call it, Fortress Transportation and Infrastructure is by design in 2 different businesses. One is our aviation business or aerospace business, which you can think of us as the engine people. So we have been a focused and a big investor in the engine, which is the thing that hangs on the wing of an airplane that flies the plane, and engines are very different in many ways as an investment and as an asset to manage and requires a unique set of skills and capabilities. And also, from my point of view, is a better investment profile than an aircraft in that engines tend to go up in value if they're properly maintained because every 5 or 6 years, you have to put it through a major shop visit and spend quite a bit of money, keeping it in good shape and safe. So those costs tend to escalate, which means the asset itself tends to go up in value. So we focused on this area, and in particular, we have focused on the CFM56 engine, which is the largest engine category in the world with 22,000 of those engines, which are the engines that fly the 737-800 and 60% of the A320 fleet. So it probably will be the largest engine market ever in the world. So that's where we're focused. We own about $1.5 billion in assets today, which we leased out to a variety of airlines around the world. This is about 90% of the fleet, even though we list that we own aircraft, the aircraft have engines on them. And about 90% of that value is in the engine. Obviously, this has been a really challenging unusual year. Feels a lot better today than it did in April. And we believe as has happened in past cycles that when you have available assets parked on the ground, people stop leasing them or they stop doing shop visits on those assets and the available supply, particularly on the engine side, decreases fairly quickly as green time is used up and burned off. And we believe with the pent-up demand and the recovery and the distribution of vaccines that's coming that we see a very strong recovery this year, 2021, in aviation, and our fleet is extremely well positioned to take advantage of that, in particular, as the CFM engine is the core of the world's narrow-body fleet. So we're looking ahead, aviation, we think will do quite well and return to our previous levels of profitability. And we'll talk more about that in the future. We have 3 partnerships, which we've also announced, and we can talk in more detail about that. The other part of our business is in infrastructure business. We've historically been a big investor in railroads and rail and port terminals. We have 3 in the portfolio today. One's in Beaumont, Texas, one's in New Jersey, on the Delaware River, and one is in Ohio in the Utica on the Ohio River. And all 3 have been development projects where we've invested capital. We've grown the businesses, built new relationships, and this is a big year for us across the board on all of them. In Beaumont, we have 6 pipelines we just finished and are working that connects our terminal with Exxon, Beaumont refinery, which is across the river. And we're finishing up, which we should be complete on in March or April, a pipeline connectivity to Motiva. Motiva, owned by Saudi Aramco is the largest refinery in North America. And Exxon by 2023 will be the largest refiner in North America. So the 2 largest refineries are our 2 best customers. So very well positioned there this year to take advantage of new product offerings and a lot of work has gone into that. In Ohio, we have a power plant that is going to finish in spite of COVID, to finish about 2.5, 3 months ahead of schedule, which is quite a feat, but a great job by the team in Keywood, in particular for getting that done in August. And we also announced, in addition to the natural gas that we locked in and the electricity spread we've sold, we'll have a contracted margin -- EBITDA margin of about $120 million a year. We also announced that we're going to be able to convert a portion of that power plant over to use hydrogen as fuel. Hydrogen is obviously on everybody's lips in terms of a carbon-free source of fuel, and it's GE's, first time converting one of their turbines and it will be one of the largest in North America. So we're very pleased with the -- that development. We have a number of other initiatives along that -- in that area that we're working on as well. And then the project in New Jersey, Repauno is the other business has a -- we just started operating the export terminal. We loaded a first ship of butane in January. So that's a great achievement to be open. And we have quite a bit of the terminal's capacity contracted for this season. And we're starting to work very soon on Phase 2, which will be to expand the underground granted storage cabin system to be able to grow that terminal and load ultimately VLGC's full of NPL. So very significant progress across the board on all 3 of those businesses. And we think the business combination is attractive one in that we generate a lot of cash flow and EBITDA from the aviation business on a contracted basis. And at the same time, we have EBITDA growth and capital appreciation potential from our infrastructure investments. So all of those are facing what I think is a very positive environment from an economic environment, investment in infrastructure in North America and a recovering aviation investment. So that's -- and we pay a nice dividend of $1.32 a share.

So yes. Can't forget the dividend. There's nothing wrong with that. Sure.

No.

Great. Well, listen, I appreciate the overview. That was super helpful. We got to start on the aviation side. So lots of stuff has been going on in the aviation side, including FAA approval that you just got on one of your products in one of the JVs there. So maybe what I'd ask you to do is sort of, can you frame up a bit of what you're doing there? There's a whole shop dynamic, and a maintenance dynamic that I think has been a significant focus for you guys internally over the last year plus, and is beginning to really start to shape and come together now. So can you sort of maybe just give us like the 30,000-foot view of what you guys are doing there? And then maybe we can drill down a little bit deeper.

Yes. That's a great lead in. And actually, we started on this probably 4 years ago. Yes, we maybe started talking about it 2 years ago, but it's been on our radar and are very much focused. And it really comes down, as I mentioned in the introduction, an engine has to go through a major overhaul every 5 to 6 years. And in some cases, you spend as much on that overhaul as you pay to buy the original engine. So that can be today, in 2020 -- dollars -- it's over $6 million to overhaul an engine. So when we got in this business, we started figuring out how do we become better than anybody else in the field as a better owner and a better manager of that engine and we've really focused on the shop visit. How do you do that for less than what other people can do. And it really came down to, we have what I call the 3-legged stool right now. We have partners with Chromalloy who manufacturers PMA and PMA is effectively the generic drug equivalent for the aviation industry, where you can get a license to produce a part as long as it's as good as the OEMs part, you get to sell it and you got to make it and sell it, and there's very high margins there. We funded a joint venture years ago that is working on parts for the CFM56 engine and the first part received final FAA authorization a couple of weeks ago. There's 5 parts in total that are in the queue. Another one coming this year. And in total, because we funded the development of those development costs for that, which is a total of about $30 million, we were able to get 2 things in return for that. One is 25% ownership in the venture that makes those and produces and sells those, which we would sell those to other airlines around the world. And then the second is the ability to buy those parts for our own engines at a preferential price. And so what that all means is that, that $6 million shop visit, when you put together the cost savings that we can achieve from our 3-legged stool will bring that shop visit down to below $3 million for us. So it's a huge competitive advantage in the business where you're going to have a $6 million investment if you didn't have what we have and we can do it for under $3 million. So that's what we tried to build, and we built it in a way that other people can't copy it. So one of the most frustrating things about being in a leasing business is most people don't do anything differently than anybody else does, and you end up competing on rent. And so we've built a business that is more oriented towards cost savings and service, and we have products that are proprietary and can't be duplicated. The other 2 legs of the stool, just while we're on it is when you put an engine through the shop, we negotiated the ability with a partner, Lockheed Martin in Canada, to be able to commit to use their facility. And in return, it allows us a lot of flexibility in how we manage the shop visit. One of the things we're doing is we've been focused on for years is creating -- every engine is really 3 different modules. So it's like if you had a car, you have wheels, you have a chassis and you have a steering wheel. An engine has a fan that has a core and a low-pressure turbine, and each one can be interchanged. So when we bring an inducted engine in, we will take it apart and put it into 3 components. And what that means is if you have only need to overhaul 1 portion of that engine, you will have inventory available to be able to swap modules and shorten that shop visit from 6 months down to maybe 30 days, and it gives us a great degree of flexibility in terms of how we manage the shop visit, and we can produce real savings that way. And we could also decide 1 portion of the engine we might want to part out and another part we might want to overhaul, and yet we don't have to scrap the whole engine. So that's a change in practice that has been facilitated and allowed to us by the Lockheed Martin, which has got tremendous potential and additional savings on top of the savings on the part side. And then the last part of it, as I mentioned, when you do have that flexibility, they're going to be parts of the engine that you want to sell and liquidate it and part out. And we will -- we have partnered with AAR, which is the largest distributor in the aftermarket parts to be exclusive together on the CFM56. And we will then create rather a significant amount of used serviceable material USM, which is very valuable because every airline is trying to reduce the cost to shop visits, everybody is looking for USM to put in their engines, which is the biggest part of an overhaul shop business. So that stream of USM could be used on our engine. It could also be sold into the third -- the market and that's a new way of us generating income and reducing costs. So we have all 3 bases covered with, I think, the best partners that you could find in each one of those areas, and they're all exclusive to us.

So this is really interesting to me. So you guys, when we first got to know you, as you were coming public, you were doing sort of aviation leasing, engine leasing, and airframes, and obviously, infrastructure was big on this before. You guys might have been sort of envisioning this, but it was relatively new. So how did you make the progress that you did in terms of building sort of the reputational horsepower with the right contacts, the right sort of partners in this business, to be able to build it out to the point where it appears that you guys have a really interesting position in the market that is very difficult for other folks to kind of compete with you over the course of sort of that 3 legged stool, if you will. So how ultimately did you do that? Was the connection through the aviation, the relationships that you built through the leasing side of it? Or are there other angles that you worked?

Yes. So it started by buying engines. And it's one of these businesses once you own an engine and then you have to deal with managing it, you learn what the keys are, and what are the levers you need to work on? What things do you need to focus on? And how do you do things? For instance, on shop visits, we found a lot of people will put an engine into a shop visit, and it's a bit like going to a printer, they give you a quote, and then it ends up costing 3x what you expected because once it's in the shop, they're like, oh, you got to replace this, you got to replace that. And so we were like we really need to get smart about the shop visit, and how to manage that. And then it was meeting Chromalloy through we started leasing CF6-80 engines, which is the engine that powers the 747 and the 767. And through that process, Chromalloy sells PMA blades, they call the BELAC blade for the CF6-80 engine, and we were putting those in our engines. And I went to the people and said, by the way, there's this thought out there, people think that PMA, you have to offer a discount, you have to give people a price break or whatever, I said, anybody that leases a CF6-80 engine from us asks for a lower rent? And they're like, no, they don't, because they're interested in thrust. They don't care whether it's got BELAC blades or GE blades, it doesn't matter. I said, well, is there anybody out there that won't lease an engine that has PMA in it? They're like, no, they all take it. So I was like, well, that's interesting. That's actually a very, very relevant fact, is it means you can put PMA in an engine, we're putting it at a big discount, and you don't give anybody a lower rent. It's effectively monetizing it for full value, the OEM value. So then we went to Chromalloy and said, you know what, we should -- you should be looking at the biggest engine market in the world now, not waiting. And so we actually went to them and proposed to fund the development of those parts, and we put up money to do it. So that -- and then as we got into it, then I said, well, one of the areas we have vulnerability is we have to have some control over the shop. We can't just be at everybody's whim, and so we spent 2 years, like looking all around the world, talking to everybody, looking at facilities we were going to build from scratch, partners in Serbia. There was no stone unturned in that, and then COVID hit. And all of a sudden, shops went from being full to shops went to being empty. And so it was a big change in dynamic, and we were able to do a deal, I think that we would never have been able to do pre COVID with -- on the MRO side. And then the last part of it is, we're now putting new parts into our engines, which means you're taking old parts out. And I said, well, we're going to be in the parts business, whether we like it or not. So -- but we don't want to build a parts distribution company, who's the best in the business, and we've done a lot with AR. And so we went and worked out a deal, and we give them a supply of USM product, which is what they do, and they get a commission, and we get to leverage off of that without building the whole infrastructure.

Okay. Yes. No, it's an interesting sort of process of taking you from where you were before to where you are now. And I guess when we think about sort of this entire opportunity, can you help us size up sort of what the potential is for you here. Obviously, the engine market that you participate in is the biggest in the world and has a huge opportunity. It feels like the service piece of it also is quite compelling. So maybe only have one part done, so one piece, one part of the sort of process approved by the FAA, but sort of what's the big picture then maybe drilling down to the individual items?

Yes. So I mean, as I mentioned, there's 22,000 engines out there in the universe. We own about 200. So we're like 1% ownership. And so we're just talking as a group about like what is the right size. And actually, as you get bigger, do you get better? And the answer is, yes. You do get better because you have more options to mix and match, particularly with module exchanges the way we're thinking about it. So what is the right number of engines to manage or control? Is it 10% or is it 1%? Somewhere in between. But the asset side itself, the opportunity is massive to be able to expand. But more than -- other than that, I mean, we also have said, well, we don't want to just grow our income by just buying everything in sight. We want to make money by applying our skills and our service and get paid for doing that. That to me is more valuable than just growing your asset base. So one of the goals we have this year is to try to generate income and revenue by managing people's fleets and managing a fleet of CFM engines for people. And so we have several discussions and dialogue and proposals out on that now. But that's something that would allow us to expand our universe without just continuing to buy everything. So those are the 2 -- that's where I think it's going. And then obviously, we're now engaged with people that we probably wouldn't have been engaged with previously given AAR capabilities and our partners put us -- we're putting -- we're in the mix. We're at the table or in the room where it happens, as they say, and with customers that are probably higher, bigger and higher quality than pre COVID we would have had access to, given that now airlines need everything. They're a little humbler today than they used to be. So I think that opens the door for us to, over time, expand what we can do for people. And as I said, many times, AWS came out of a company that sold books and shoes. So I hope we can figure out something else. We have a couple of ideas of new products that we could introduce and use that as an opportunity to sort of grow and diversify with that client base.

Yes. Okay. No, that's helpful. I guess thinking about that AWS analogy, which is really interesting because my mind was kind of going to where do you see this opportunity? How does that fit in relative to sort of your core historical aviation and engine leasing business? And does this have the potential to be bigger or equally sized relative to the leasing side?

Yes. I think it does, yes. And also, I think it will -- it's not going to be static, right? We're going to keep doing things every year. Every year for the last -- as long as we run FTAI, we sat around and said, what are we going to be doing next year because you can't just sit and wait. And we always were worried that people were going to copy us, and we tried to build barriers and things that we had that we started way ahead of other people. So yes, I think we're going to continue to grow off of that.

Okay. That makes sense. Now let's think about sort of the core business here for a second on the aviation side and then how it's sort of reacting to sort of the hopeful emergence from COVID. So obviously, some of your customers have been in sort of challenging periods over the course of the last several months, maybe a year or so. How do we see sort of this emerging? I think you've had the opportunity to maybe be opportunistic and do more business and more interesting deals with partners as a result of them maybe being forced to look at alternate sources of capital in the way to sort of monetize their asset base. But sort of what's the trajectory for you guys coming out into 2021, in the aviation side?

Yes. So it has -- we did a deal with Air France second quarter last year. We've got another European sovereign that we're working on now that could happen soon. We are after assets that are for sale, people who are looking to monetize older 737s and A320s to generate cash. And so that's been a good investment opportunity. And so I think that all of those, we're going to come out of -- we were talking the other day, we'll come out of this with a very attractive customer list that probably would have -- a year ago, wouldn't have dreamed we would have been able to access in terms of names, in terms of credit, everybody is -- they're all struggling. But if you're owned by a government, that helps. So I think it's going to be a very healthy transition for us. Obviously, this fourth quarter, first quarter is difficult because it's still not, border restrictions are up everywhere, and travel restrictions and company restrictions, and every restriction. So it's hard to get momentum on the passenger side yet. But people are planning to travel as soon as they can. And it looks like it's going to be April, May, June, and certainly, a good third quarter, I would expect for the industry. Europe is lagging a little bit. Obviously, I saw a number that France only has administered vaccines to 3% of the population so far. So Europe is still behind. Freight is good. Freight, we have about 30% of our business comes from the freight markets. So that's been a real positive, and I see that continuing next year as well. So it's a little bit of balance, but I think it's coming. Second quarter and third quarter bounce back, and the first part of the market that's going to be full up is going to be your 737 and A320 markets. Those are the narrow-body short -- medium short-haul markets where you're going to go visit our relatives that you haven't seen in a year or your customers who just you haven't seen in a year. And all those trips are -- that's what's going to kick in, I think, pretty soon.

Yes, as opposed to the sort of long haul, so you guys have exposure to the market that probably recovers first. That makes sense.

Yes. As I remind people, after the Spanish Flu in 1918 came the roaring '20s.

Let's hope. Let's hope. I think we're all ready for some fun like that. That's for sure. So a question came in while we were chatting here, and I think it sort of -- it sort of ties into what we've been talking about here. So the question is, how do you expect aircraft retirements to impact the engine leasing business? Is there a base assumption you're making?

Yes. So I think the -- we have been seeing aircraft retirements particularly like 737-700s, and A318s, A319s. Those are going out of the fleets fairly soon. They're both old and they're not optimal in terms of size, capacity. I think the core of the A320 and the 737-800s though are not -- we're not expecting to see a large retirement of those, and people have not been planning to scrap those aircraft. So it's modest because I think that if you do assume that traffic recovers to pre-pandemic levels, you're going to need all those assets. And they're very consistent moneymakers, the A320 and 737-800s are the core of everyone's fleet. They make a lot of money off them. Maintenance costs are highly predictable. So it's a very good base. And the engine, which is what we're really focused on as we've gone through this period, there have been very few shop visits of engines. And so you're using up the green time on a lot of engines. And so by the third quarter this year, we expect that airlines are going to be out looking to add engines on lease for sure given that they're not going to have enough engines that have been maintained during this period.

Okay. That makes sense. One more maybe to wrap up, and I do want to sort of move on to the infrastructure side also, though, you mentioned that you've got 1 -- product approval for 1 of the 5 from the FAA. I think there's another one coming later this year. Any sense on timing?

Yes. That -- the first 2 parts we started when we set up the joint venture in early 2018. And so those -- the second one is about to be -- the final submission is about to occur in the month of March or April. So we expect second quarter on that part. And those first 2 parts were chosen because they're the most expensive parts in the engine. And that's about half -- I mentioned $2 million savings per shop. It's about half of that. So it's about $1 million. The other 3 parts are started in 2019, we would expect to have approval in 2022. And that's a great timing because if you look at the aftermarket activity for that engine, it's sort of -- that's when it hits a very nice level of aftermarket shop visits is 2022, '23 up to really 2028.

Okay. Yes, that's great. That's good color. I appreciate that. So let's transition here and talk a little bit about infrastructure because that's obviously an interesting piece of the story as well. Let's start in Jefferson. So I guess from a very short-term perspective, I would imagine, currently, there's maybe some challenges around the weather, which we would expect to be transitory, given what's going on down there. But then I think bigger picture, we've talked a little bit more about Exxon. Can you give us a little bit -- kind of run through, I think you have the Exxon connection that is certainly a benefit. I think the rail business arguably has been picking up. And then I know there's probably a refined outbound business that probably flows through there to some degree, too. So maybe you can help us unpack those.