MEGA MATRIX CORP.
10-Ks and 10-Qs
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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
FORM 10-Q
(Mark
One)
☒
QUARTERLY
REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For
the quarterly period ended March 31, 2020
☐
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:
001-13387
AeroCentury Corp.
(Exact
Name of Registrant as Specified in Its Charter)
|
Delaware
|
|
94-3263974
|
|
(State or Other Jurisdiction of Incorporation or
Organization)
|
|
(I.R.S. Employer Identification No.)
|
1440 Chapin Avenue, Suite 310
Burlingame, California 94010
(Address
of Principal Executive Offices)
(650) 340-1888
(Registrant’s
Telephone Number Including Area Code)
None
(Former
Name, Former Address and Former Fiscal Year, if Changed Since Last
Report)
Securities registered pursuant to Section 12(b) of the
Act:
|
Title of each class
|
Trading Symbol(s)
|
Name of each exchange on which registered
|
|
Common Stock
|
ACY
|
NYSE American
|
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
☒
No
☐
Indicate
by check mark whether the registrant has submitted electronically
every Interactive Data File required to be submitted pursuant to
Rule 405 of Regulation S-T (§ 232.405 of this chapter) during
the preceding 12 months (or for such shorter period that the
registrant was required to submit such files).
Yes
☒
No
☐
Indicate
by check mark whether the registrant is a large accelerated filer,
an accelerated filer, a non-accelerated filer, a smaller reporting
company, or an emerging growth company. See the definitions of
“large accelerated filer,” “accelerated
filer,” “smaller reporting company” and
“emerging growth company” in Rule 12b-2 of the Exchange
Act.
Large accelerated
filer
☐
Accelerated filer
☐
Non-accelerated
filer
☒
Smaller reporting
company
☒
Emerging growth
company
☐
If an emerging growth company, indicate by check
mark if the registrant has elected not to use the extended
transition period for complying with any new or revised financial
accounting standards provided pursuant to Section 13(a) of the
Exchange Act.
☐
Indicate
by check mark whether the registrant is a shell company (as defined
in Rule 12b-2 of the Exchange Act).
Yes
☐
No
☒
The number of shares of the registrant’s
common stock outstanding a
s of June 3, 2020 was
1,545,884.
As used
in this report, unless the context indicates otherwise,
“AeroCentury” refers to AeroCentury Corp. and the
“Company” refers to AeroCentury together with its
consolidated subsidiaries.
Forward-Looking Statements
This
Quarterly Report on Form 10-Q includes "forward-looking statements"
within the meaning of Section 27A of the Securities Act of 1933, as
amended (the "Securities Act"), and Section 21E of the Securities
Exchange Act of 1934, as amended (the "Exchange Act"). All
statements in this report other than statements of historical fact
are forward-looking statements for purposes of these provisions,
including any statements of the Company’s plans and
objectives for future operations, the Company’s future
financial or economic performance (including known or anticipated
trends), and the assumptions underlying or related to the
foregoing. Statements that include the use of terminology such as
"may," "will," "expects," "plans," "anticipates," "estimates,"
"potential," or "continue," or the negative thereof, or other
comparable terminology, are forward-looking
statements.
Forward-looking
statements in this report include statements about the following
matters, although this list is not exhaustive:
●
The Company’s
business plans and strategies, including its continued focus on
acquiring used regional aircraft, any potential for acquiring and
managing new types and models of regional aircraft, and its
expectation that most of its future growth will be outside of North
America;
●
Certain industry
trends and their impact on the Company and its performance,
including: increasing competition that results in higher
acquisition prices for many of the aircraft types that the Company
has targeted to buy and, at the same time, downward pressure on
lease rates for these aircraft; relatively lower market demand for
older aircraft types that are no longer in production, which could
cause certain of the Company’s aircraft to remain off lease
for significant periods of time; and expectations of shakeouts of
weaker carriers in economically troubled regions, which could
impact the financial condition and viability of certain of the
Company’s customers, and as a result, their demand for the
Company’s aircraft and their ability to fulfill their lease
commitments and other obligations to the Company under existing
leases;
●
The effects on the
airline industry and the global economy of events such as public
health emergencies or natural disasters, such as the recent
coronavirus (COVID-19) outbreak;
●
Expectations about
the Company’s future liquidity, cash flow and capital
requirements;
●
The Company’s
ability to obtain additional debt or equity financing to repay its
indebtedness;
●
The Company’s
ability to comply with its recently established term loans and
other outstanding debt instruments, including making payments of
principal and interest thereunder as and when required and
complying with the financial and other covenants included in these
instruments;
●
The Company’s
ability to reach agreement with its special-purpose subsidiary term
loan lender regarding certain lessee payment defaults arising from
COVID-19 pandemic fallout;
●
The Company’s
ability to access additional sources of capital in the future as
and when needed, in the amounts desired, on terms favorable to the
Company, or at all;
●
The expected impact
of existing or known threatened legal proceedings;
●
The effect on the
Company and its customers of complying with applicable government
and regulatory requirements in the numerous jurisdictions in which
the Company and its customers operate;
●
The Company’s
cyber vulnerabilities and the anticipated effects on the Company if
a cybersecurity threat or incident were to
materialize;
●
General economic,
market, political and regulatory conditions, including anticipated
changes in these conditions and the impact of such changes on
customer demand and other facets of the Company’s business;
and
●
The impact of the
foregoing on the prevailing market price and trading volume of the
Company’s common stock.
All of
the Company’s forward-looking statements involve risks and
uncertainties that could cause the Company's actual results to
differ materially from those projected or assumed by such
forward-looking statements. Among the factors that could cause such
differences are: the Company’s ability to comply with the
MUFG Loan Agreement, as amended, and achieve the milestones set
forth in the amended agreement for execution of strategic
transactions that would enable repayment of the indebtedness
thereunder; the potential impact on the Company’s debt
obligations of developments regarding LIBOR, including the
potential phasing out of this metric; the Company's ability to
raise capital on acceptable terms when needed and in desired
amounts, or at all; the Company's ability to locate and acquire
appropriate and revenue-producing assets; deterioration of the
market for or appraised values of aircraft owned by the Company;
the Company’s ability to retain its existing customers, or
attract replacement customers or prospective purchasers for
off-lease aircraft if and when existing customers are lost or
become unable to maintain lease compliance; a surge in interest
rates; any noncompliance by the Company's lessees with obligations
under their respective leases, including payment obligations; any
economic downturn or other financial crisis; the timing, rate and
amount of maintenance expenses for the Company’s asset
portfolio, as well as the distribution of these expenses among the
assets in the portfolio; limited trading volume in
AeroCentury’s common stock; and the other factors detailed
under "
Factors That May Affect
Future Results and Liquidity
" in Item 2 of this report. In
addition, the Company operates in a competitive and evolving
industry in which new risks emerge from time to time, and it is not
possible for the Company to predict all of the risks it may face,
nor can it assess the impact of all factors on its business or the
extent to which any factor or combination of factors could cause
actual results to differ from expectations. As a result of these
and other potential risks and uncertainties, the Company’s
forward-looking statements should not be relied on or viewed as
predictions of future events.
This
cautionary statement should be read as qualifying all
forward-looking statements included in this report, wherever they
appear. All forward-looking statements and descriptions of risks
included in this report are made as of the date hereof based on
information available to the Company as of the date hereof, and
except as required by applicable law, the Company assumes no
obligation to update any such forward-looking statement or risk for
any reason. You should, however, consult the risks and other
disclosures described in the reports the Company files from time to
time with the United States Securities and Exchange Commission
(“SEC”) after the date of this report for updated
information.
Table of Contents
AeroCentury
Corp.
Condensed Consolidated Balance Sheets
(Unaudited)
|
ASSETS
|
||
|
|
March
31,
|
December
31,
|
|
|
2020
|
2019
|
|
Assets:
|
|
|
|
Cash
and cash equivalents
|
$
1,746,200
|
$
2,350,200
|
|
Restricted
cash
|
2,251,900
|
1,076,900
|
|
Accounts
receivable, including deferred rent of $867,200 and $828,000
at
March 31,
2020
and December 31, 2019,
respectively
|
2,469,700
|
1,139,700
|
|
Finance leases receivable, net of allowance for
doubtful accounts of $1,170,000 and $2,908,600 at
March 31,
2020
and December 31, 2019,
respectively
|
2,880,000
|
8,802,100
|
|
Aircraft and aircraft engines held for lease, net
of accumulated depreciation of $33,507,300 and $31,338,700
at
March 31, 2020
and December
31, 2019, respectively
|
106,200,000
|
108,368,600
|
|
Assets
held for sale
|
18,288,800
|
26,036,600
|
|
Property, equipment and furnishings, net of
accumulated depreciation of $11,300 and $9,600 at
March 31,
2020
and December 31, 2019,
respectively
|
18,000
|
62,900
|
|
Office lease right of use, net of accumulated
amortization of $600,700 and $524,500 at
March 31, 2020 and
December 31, 2019, respectively
|
442,500
|
948,300
|
|
Deferred
tax asset
|
630,700
|
517,700
|
|
Prepaid
expenses and other assets
|
995,100
|
292,800
|
|
Total
assets
|
$
135,922,900
|
$
149,595,800
|
|
LIABILITIES
AND STOCKHOLDERS’ EQUITY
|
||
|
Liabilities:
|
|
|
|
Accounts
payable and accrued expenses
|
$
1,234,300
|
$
736,000
|
|
Accrued
payroll
|
107,200
|
164,200
|
|
Notes payable and accrued interest, net of
unamortized debt issuance costs of $3,606,200 and $3,825,700
at
March 31, 2020
and December
31, 2019, respectively
|
110,957,800
|
111,638,400
|
|
Derivative
liability
|
1,105,100
|
1,824,500
|
|
Derivative
termination liability
|
3,075,300
|
-
|
|
Lease
liability
|
36,200
|
336,400
|
|
Maintenance
reserves
|
2,395,400
|
4,413,100
|
|
Accrued
maintenance costs
|
58,000
|
446,300
|
|
Security
deposits
|
666,000
|
1,034,300
|
|
Unearned
revenues
|
2,459,500
|
3,039,200
|
|
Deferred
income taxes
|
-
|
2,529,800
|
|
Income
taxes payable
|
164,200
|
175,000
|
|
Total
liabilities
|
122,259,000
|
126,337,200
|
|
Commitments
and contingencies (Note 8)
|
|
|
|
Stockholders’
equity:
|
|
|
|
Preferred
stock, $0.001 par value, 2,000,000 shares authorized,
no
shares issued and outstanding
|
-
|
-
|
|
Common stock, $0.001 par value, 10,000,000 shares
authorized, 1,545,884 shares outstanding at
March 31, 2020
and December 31,
2019
|
1,800
|
1,800
|
|
Paid-in
capital
|
16,782,800
|
16,782,800
|
|
Retained
earnings
|
703,700
|
10,882,100
|
|
Accumulated
other comprehensive loss
|
(787,100
)
|
(1,370,800
)
|
|
|
16,701,200
|
26,295,900
|
|
Treasury stock at cost, 213,332 shares at
March 31, 2020
and
December 31, 2019, respectively
|
(3,037,300
)
|
(3,037,300
)
|
|
Total
stockholders’ equity
|
13,663,900
|
23,258,600
|
|
Total
liabilities and stockholders’ equity
|
$
135,922,900
|
$
149,595,800
|
The accompanying notes are an integral part of these condensed
consolidated financial statements.
AeroCentury Corp.
Condensed Consolidated Statements of Operations
(Unaudited)
|
|
For the
Three Months Ended
March
31,
|
|
|
|
2020
|
2019
|
|
Revenues
and other income:
|
|
|
|
Operating
lease revenue
|
$
4,768,300
|
$
7,148,300
|
|
Finance
lease revenue
|
56,300
|
236,100
|
|
Net
(loss)/gain on disposal of assets
|
(24,200
)
|
178,300
|
|
Other
(loss)/income
|
(23,200
)
|
4,200
|
|
|
4,777,200
|
7,566,900
|
|
Expenses:
|
|
|
|
Impairment in value
of aircraft
|
6,654,900
|
1,408,400
|
|
Interest
|
6,012,900
|
2,912,400
|
|
Depreciation
|
2,170,300
|
3,200,700
|
|
Professional fees,
general and administrative and other
|
850,300
|
825,500
|
|
Bad debt
expense
|
1,170,000
|
-
|
|
Salaries and
employee benefits
|
516,900
|
599,000
|
|
Insurance
|
186,900
|
140,500
|
|
Maintenance
|
80,200
|
107,400
|
|
Other
taxes
|
25,600
|
37,600
|
|
|
17,668,000
|
9,231,500
|
|
Loss
before income tax benefit
|
(12,890,800
)
|
(1,664,600
)
|
|
Income
tax benefit
|
(2,712,400
)
|
(356,400
)
|
|
Net
loss
|
$
(10,178,400
)
|
$
(1,308,200
)
|
|
Loss per
share:
|
|
|
|
Basic
|
$
(6.58
)
|
$
(0.85
)
|
|
Diluted
|
$
(6.58
)
|
$
(0.85
)
|
|
Weighted
average shares used in loss per share computations:
|
|
|
|
Basic
|
1,545,884
|
1,545,884
|
|
Diluted
|
1,545,884
|
1,545,884
|
The accompanying notes are an integral part of these condensed
consolidated financial statements.
AeroCentury Corp.
Condensed Consolidated Statements of Comprehensive
Loss
(Unaudited)
|
|
For the
Three Months Ended
March
31,
|
|
|
|
2020
|
2019
|
|
Net
loss
|
$
(10,178,400
)
|
$
(1,308,200
)
|
|
Other
comprehensive loss:
|
|
|
|
Unrealized
gains/(losses) on derivative instruments
|
(575,000
)
|
(543,500
)
|
|
Reclassification
of net unrealized losses on derivative instruments to interest
expense
|
1,318,400
|
(1,300
)
|
|
Tax
(expense)/benefit related to items of other comprehensive
loss
|
(159,700
)
|
117,000
|
|
Other
comprehensive income/(loss)
|
583,700
|
(427,800
)
|
|
Total
comprehensive loss
|
$
(9,594,700
)
|
$
(1,736,000
)
|
The accompanying notes are an integral part of these condensed
consolidated financial statements.
AeroCentury Corp.
Condensed Consolidated Statements of Stockholders’
Equity
For the Three Months Ended March 31, 2019 and March 31,
2020
(Unaudited)
|
|
Number of Common
Stock Shares Outstanding
|
Common
Stock
|
Paid-in
Capital
|
Retained
Earnings
|
Treasury
Stock
|
Accumulated Other
Comprehensive Loss
|
Total
|
|
Balance, December
31, 2018
|
1,545,884
|
$
1,800
|
$
16,782,800
|
$
27,540,600
|
$
(3,037,300
)
|
$
-
|
$
41,287,900
|
|
Net
loss
|
-
|
-
|
-
|
(1,308,200
)
|
-
|
-
|
(1,308,200
)
|
|
Accumulated other
comprehensive income (loss)
|
-
|
-
|
-
|
-
|
-
|
(427,800
)
|
(427,800
)
|
|
Balance, March 31,
2019
|
1,545,884
|
$
1,800
|
$
16,782,800
|
$
26,232,400
|
$
(3,037,300
)
|
$
(427,800
)
|
$
39,551,900
|
|
|
|
|
|
|
|
|
|
|
Balance, December
31, 2019
|
1,545,884
|
$
1,800
|
$
16,782,800
|
$
10,882,100
|
$
(3,037,300
)
|
$
(1,370,800
)
|
$
23,258,600
|
|
Net
loss
|
-
|
-
|
-
|
(10,178,400
)
|
-
|
-
|
(10,178,400
)
|
|
Accumulated other
comprehensive income/(loss)
|
-
|
-
|
-
|
-
|
-
|
583,700
|
583,700
|
|
Balance, March 31,
2020
|
1,545,884
|
$
1,800
|
$
16,782,800
|
$
703,700
|
$
(3,037,300
)
|
$
(787,100
)
|
$
13,663,900
|
The accompanying notes are an integral part of these
condensed
consolidated financial
statements.
AeroCentury Corp.
Condensed
Consolidated Statements of Cash Flows
(Unaudited)
|
|
For
the Three Months Ended
March
31,
|
|
|
|
2020
|
2019
|
|
Net cash
(used)/provided by operating activities
|
$
(624,500
)
|
$
3,957,200
|
|
Investing
activities:
|
|
|
|
Proceeds from sale
of aircraft and aircraft engines held for lease,
net
of re-sale fees
|
-
|
1,710,600
|
|
Proceeds from sale
of assets held for sale, net of re-sale fees
|
3,104,800
|
1,079,900
|
|
Net cash provided
by investing activities
|
3,104,800
|
2,790,500
|
|
Financing
activities:
|
|
|
|
Issuance of notes
payable – Credit Facility
|
-
|
5,100,000
|
|
Repayment of notes
payable – Credit Facility
|
(1,165,000
)
|
(33,800,000
)
|
|
Issuance of notes
payable – Term Loans
|
-
|
44,310,000
|
|
Repayment of notes
payable – UK LLC SPE Financing
|
-
|
(9,211,100
)
|
|
Repayment of notes
payable – Term Loans
|
(664,000
)
|
(1,580,700
)
|
|
Debt issuance
costs
|
(80,300
)
|
(5,063,200
)
|
|
Net cash used in
financing activities
|
(1,909,300
)
|
(245,000
)
|
|
Net increase in
cash, cash equivalents and restricted cash
|
571,000
|
6,502,700
|
|
Cash, cash
equivalents and restricted cash, beginning of period
|
3,427,100
|
1,542,500
|
|
Cash, cash
equivalents and restricted cash, end of period
|
$
3,998,100
|
$
8,045,200
|
|
Non-cash
financing activities:
|
|
|
|
Non-cash issuance
of notes payable – Credit Facility
|
$ 414,800
|
$ -
|
The
components of cash and cash equivalents and restricted cash at the
end of each of the periods presented consisted of:
|
|
March
31,
|
|
|
|
2020
|
2019
|
|
Cash and cash
equivalents
|
$
1,746,200
|
$
1,542,500
|
|
Restricted
cash
|
2,251,900
|
-
|
|
Total cash, cash
equivalents and restricted cash shown in the statement of cash
flows
|
$
3,998,100
|
$
1,542,500
|
During
the three months ended
March
31, 2020 and 2019, the Company paid interest totaling $1,722,500
and $2,014,200, respectively. The Company paid income taxes of
$110,500 and $421,400 during the three months ended
March
31, 2020 and 2019,
respectively.
The accompanying notes are an integral part of these condensed
consolidated financial statements.
AeroCentury
Corp.
Notes to Condensed Consolidated Financial Statements
(Unaudited)
March 31, 2020
1.
Organization and Summary of Significant Accounting
Policies
(a)
The Company and Basis of
Presentation
AeroCentury Corp. (“AeroCentury”) is a Delaware
corporation incorporated in 1997. AeroCentury together with its
consolidated subsidiaries is referred to as the
“Company.”
In August 2016, AeroCentury formed two wholly-owned subsidiaries,
ACY 19002 Limited (“ACY 19002”) and ACY 19003 Limited
(“ACY 19003”) for the purpose of acquiring aircraft
using a combination of cash and third-party financing (“UK
LLC SPE Financing” or “special-purpose
financing”) separate from AeroCentury’s credit facility
(the “MUFG Credit Facility”). The UK LLC SPE Financing
was repaid in full in February 2019 as part of a refinancing
involving new non-recourse term loans totaling approximately $44.3
million (“Nord Loans”) made to ACY 19002, ACY 19003,
and two other newly formed special-purpose subsidiaries of
AeroCentury, ACY SN 15129 LLC (“ACY 15129”) and ACY
E-175 LLC (“ACY E-175”), which were formed for the
purpose of refinancing four of the Company’s aircraft using
the Nord Loans. See Note 6(b) for more information about the Nord
Loans.
Financial information for AeroCentury and its consolidated
subsidiaries is presented on a consolidated basis in accordance
with accounting principles generally accepted in the United States
of America (“GAAP”) for interim financial information,
the instructions to Form 10-Q and Article 8 of Regulation S-X.
Accordingly, they do not include all of the information and
footnotes required by GAAP for complete financial statements. In
the opinion of management, all adjustments (consisting of normal
recurring accruals) considered necessary for a fair presentation
have been included. Operating results for the three-month period
ended March 31, 2020 are not necessarily indicative of the results
that may be expected for the year ending December 31, 2020 or for
any other period. All intercompany balances and transactions have
been eliminated in consolidation.
(b)
Going Concern
As
discussed in Note 4, the Company was in default under its MUFG
Credit Facility as of December 31, 2019 and March 31, 2020. As
discussed in Note 11, on May 1, 2020, the Company and
the MUFG Credit Facility Lenders
(“MUFG Lenders”) executed an amendment to the MUFG
Credit Facility (as amended, the “MUFG Loan Agreement”)
to convert the MUFG Credit Facility into
a term loan
facility (as converted, the “MUFG Loan”)
.
The amendment includes
certain requirements and establishment of deadlines for achievement
of milestones toward execution of Company strategic alternatives
for the Company and/or its assets that would enable repayment of
the MUFG Loan Agreement indebtedness.
The
MUFG Lenders have the right to exercise any and all remedies for
default under the MUFG Loan Agreement. Such remedies include, but
are not limited to, declaring the entire indebtedness immediately
due and payable and, if the Company were unable to repay such
accelerated indebtedness, foreclosing upon the assets of the
Company that secure the indebtedness under the MUFG Loan (the
“MUFG Indebtedness”), which consist of all of the
Company’s assets except for certain assets held in the
Company’s single asset special-purpose financing
subsidiaries. As discussed in Note 5, the Company is obligated to
pay $3.1 million related to the termination of the MUFG Swaps in
March 2020. As discussed in Note 4, the Company also defaulted on
payment under the Nord Loans.
The
COVID-19 pandemic has led to significant cash flow issues for
airlines, and some airlines, including some of the Company’s
customers, may be unable to timely meet their obligations under
their lease obligations with the Company unless government
financial support is received, of which there can be no assurance.
Any additional significant nonpayment or late payment of lease
payments by a significant lessee or combination of lessees could in
turn impose limits on the Company’s ability to fund its
ongoing operations as well as cause new defaults under the
Company’s debt obligations, which in turn could lead to an
immediate acceleration of debt and foreclosure upon the
Company’s assets.
As a
result of these factors, there is substantial doubt regarding the
Company’s ability to continue as a going concern. The
condensed consolidated financial statements presented in this
Quarterly Report on Form 10-Q have been prepared on a going concern
basis and do not include any adjustments that might arise as a
result of uncertainties about the Company’s ability to
continue as a going concern.
(c) Impact of COVID-19
In
January 2020, the World Health Organization (“WHO”)
announced a global health emergency because of a new strain of
coronavirus and the risks to the international community as the
virus spreads globally (the “COVID-19 Outbreak”). In
March 2020, the WHO classified the COVID-19 Outbreak as a pandemic,
based on the rapid increase in exposure globally. The ongoing
COVID-19 Outbreak has had an overwhelming effect on all forms of
transportation globally, but most acutely for the airline industry.
The combined effect of fear of infection during air travel and
international and domestic travel restrictions has caused a
dramatic decrease in passenger loads in all areas of the world, not
just in those countries with active clusters of COVID-19, but in
airline ticket net bookings (i.e. bookings made less bookings
canceled) of flights as well. This has led to significant cash flow
issues for airlines, including some of the Company’s
customers. Four of the Company’s eight customers have not
made rent payments that were due in March, April and May 2020. The
Company has permitted one customer, which leases two regional jet
aircraft, to defer quarterly payment of March 2020 rent to June
2020, and the Company has permitted another customer to reduce the
amounts due in April, May and June 2020. In addition, the Company
and two other customers, each of which leases an aircraft subject
to a sales-type lease, are discussing remedies regarding
non-payment of a portion of the rent due during the first quarter
of 2020. As discussed in Note 3, during the first quarter of 2020,
the Company recorded impairments for four assets that are held for
sale, based on estimated sales proceeds. The impact of COVID-19 has
also lead the Company to determine that there is uncertainty
related to rent, interest and debt payments such that, as disclosed
in Notes 4 and 5, the Company has dedesignated its interest rate
swaps as hedges in March 2020 since the payments related to the
swaps were deemed not probable to occur.
Furthermore,
for the duration of the pandemic and a period of financial recovery
thereafter, sale and acquisition transactions are likely to be
curtailed entirely or delayed while the industry returns to
financial stability, which could impact the Company’s ability
to implement a recapitalization plan (“Recapitalization
Plan”). While the Company’s results of operations, cash
flows and financial condition would be negatively impacted, the
extent of the impact for the remainder of 2020 cannot be reasonably
estimated at this time.
(d)
Use of Estimates
The Company’s consolidated financial statements have been
prepared in accordance with GAAP. The preparation of consolidated
financial statements in conformity with GAAP requires management to
make estimates and assumptions that affect the reported amounts of
assets and liabilities and disclosures of contingent assets and
liabilities at the date of the consolidated financial statements
and the reported amounts of revenues and expenses during the
reporting period. Actual results could differ from those estimates.
The Company bases its estimates on historical experience and on
various other assumptions that are believed to be reasonable for
making judgments that are not readily apparent from other
sources.
The most significant estimates with regard to these consolidated
financial statements are the residual values and useful lives of
the Company’s long-lived assets, the current value of the
Company’s assets held for sale, the amount and timing of
future cash flows associated with each asset that are used to
evaluate whether assets are impaired, accrued maintenance costs,
accounting for income taxes, the assumptions used to value the
Company’s derivative instruments, the valuation of the right
of use asset and related lease liability associated with the
Company’s office, and the amounts recorded as allowances for
doubtful accounts.
(e) Comprehensive Income/(Loss)
The
Company reflects changes in the fair value of its interest rate
swap derivatives that are designated as hedges in other
comprehensive income/(loss). Such amounts are reclassified into
earnings in the periods in which the hedged transaction occurs or
when it is probable that the hedged transactions will no longer
occur, and are included in interest expense.
(f) Finance Leases
As of
December 31, 2019, the Company had three aircraft subject to
sales-type leases and three aircraft subject to direct financing
leases. All six leases contain lessee bargain purchase options at
prices substantially below the subject asset’s estimated
residual value at the exercise date for the option. Consequently,
the Company classified each of these six leases as finance leases
for financial accounting purposes. For such finance leases, the
Company reports the discounted present value of (i) future minimum
lease payments (including the bargain purchase option) and (ii) any
residual value not subject to a bargain purchase option, as a
finance lease receivable on its balance sheet, and accrues interest
on the balance of the finance lease receivable based on the
interest rate inherent in the applicable lease over the term of the
lease. For each of the three sales-type leases, the Company
recognized as a gain or loss the amount equal to (i) the net
investment in the sales-type lease plus any initial direct costs
and lease incentives less (ii) the net book value of the subject
aircraft at inception of the applicable lease.
In the
first quarter of 2020, the Company sold the underlying aircraft in
one of its sales-type leases and all three of its direct finance
leases to the lessees, resulting in net losses totaling $39,300.
The remaining two sales-type leases were substantially modified
and, as a result of payment delinquencies by the two customers, the
Company recorded a bad debt allowance of $1,170,000 during the
first quarter of 2020. The two leases remain treated as sales-type
leases.
(g) Interest Rate Hedging
During
the first quarter of 2019, the Company entered into certain
derivative instruments to mitigate its exposure to variable
interest rates under the Nord Loan debt and a portion of the MUFG
Indebtedness. Hedge accounting is applied to such a transaction
only if specific criteria have been met, the transaction is deemed
to be “highly effective” and the transaction has been
designated as a hedge at its inception. Under hedge accounting
treatment, generally, the effects of derivative transactions are
recorded in earnings for the period in which the hedge transaction
affects earnings. A change in value of a hedging instrument is
reported as a component of other comprehensive income/(loss) and is
reclassified into earnings in the period in which the transaction
being hedged affects earnings.
If at
any time after designation of a cash flow hedge, such as those
entered into by the Company, it is no longer probable that the
forecasted cash flows will occur, hedge accounting is no longer
permitted and a hedge is “dedesignated.” After
dedesignation, if it is still considered reasonably possible that
the forecasted cash flows will occur, the amount previously
recognized in other comprehensive income/(loss) will continue to be
reversed as the forecasted transactions affect earnings. However,
if after dedesignation it is probable that the forecasted
transactions will not occur, amounts deferred in accumulated other
comprehensive income/(loss) will be recognized in earnings
immediately.
As
noted in Note 5, in October 2019 the Company became aware that, as
a result of certain defaults under its MUFG Credit Facility,
certain of the forecasted transactions related to its MUFG Credit
Facility interest rate swaps are no longer probable of occurring
and, hence, those swaps were dedesignated from hedge accounting at
that time. The two swaps related to the MUFG Credit Facility were
terminated in March 2020 and the Company incurred a $3.1 million
obligation in connection with such termination, payment of which is
due no later than the March 31, 2021 maturity of the MUFG Loan. As
a result of the forecasted transaction being not probable to occur,
accumulated other comprehensive loss of $1,167,700 related to the
MUFG Swaps was recognized as interest expense in the first quarter
of 2020.
In
March 2020, the Company determined that the future hedged interest
payments related to its five remaining Nord Loan interest rate
hedges were no longer probable of occurring, and consequently
dedesignated all five swaps as hedges.
(h)
Recent Accounting
Pronouncements
ASU 2016-13
The
FASB issued ASU 2016-13,
Financial
Instruments – Credit Losses (Topic 326)
, in June of
2016 (“ASU 2016-13”)
.
ASU 2016-13 provides that financial
assets measured at amortized cost are to be presented as a net
amount, reflecting a reduction for a valuation allowance to present
the amount expected to be collected (the “current expected
credit loss” model of reporting). As such, expected credit
losses will be reflected in the carrying value of assets and losses
will be recognized before they become probable, as is required
under the Company’s present accounting practice. In the case
of assets held as available for sale, the amount of the valuation
allowance will be limited to an amount that reflects the marketable
value of the debt instrument. This amendment to GAAP is effective
in the first quarter of 2023 for calendar-year SEC filers that are
smaller reporting companies as of the one-time determination date.
Early adoption is permitted beginning in 2019. The Company plans to
adopt the new guidance on January 1, 2023, and has not determined
the impact of this adoption on its consolidated financial
statements.
ASU 2019-12
In
December 2019, the FASB issued ASU 2019-12,
Income Taxes (Topic 740),
a new
accounting standard update to simplify the accounting for income
taxes. The new guidance removes certain exceptions for recognizing
deferred taxes for investments, performing intra-period allocation
and calculating income taxes in interim periods. It also adds
guidance to reduce complexity in certain areas, including
recognizing deferred taxes for tax goodwill and allocating taxes to
members of a consolidated group. This guidance will be effective
for fiscal years, and interim periods within those fiscal years,
beginning after December 15, 2020. The Company is currently
evaluating the impact of the new guidance on its consolidated
financial statements and related disclosures.
FASB Staff Guidance on Effects of COVID-19
In
April of 2020, the FASB staff provided some relief from the
unprecedented effect of the COVID-19 pandemic. Under this guidance,
lessors may elect to treat lease concessions due to COVID-19 as if
they arose from enforceable rights and obligations that existed in
the lease contract, with the consequent effect that the concessions
would not be treated as a lease modification which could require
reclassification and remeasurement of the lease. Other guidance
released in April 2020 provides that when hedge accounting is
discontinued and it is probable that the forecasted transaction
that had been hedged will occur beyond two months after its
originally expected date as a result of the effects of COVID-19,
the reporting entity may still defer recognizing related AOCI
immediately and should defer recognition of such amounts until the
forecasted transactions actually occur. The Company is currently
evaluating the impact of this guidance on its consolidated
financial statements and related disclosure.
(i)
Reclassifications
Certain prior period amounts have been reclassified to conform with
the current period presentation.
2.
Aircraft Lease Assets
The
Company’s leases are normally “triple net leases”
under which the lessee is obligated to bear all costs, including
tax, maintenance and insurance, on the leased assets during the
term of the lease. In most cases, the lessee is obligated to
provide a security deposit or letter of credit to secure its
performance obligations under the lease, and in some cases, is
required to pay maintenance reserves based on utilization of the
aircraft, which reserves are available for qualified maintenance
costs during the lease term and may or may not be refundable at the
end of the lease. Typically, the leases also contain minimum return
conditions, as well as an economic adjustment payable by the lessee
(and in some instances by the lessor) for amounts by which the
various aircraft or engine components are worse or better than a
targeted condition set forth in the lease. Some leases contain
renewal or purchase options, although the Company’s
sales-type leases all contain a bargain purchase option at lease
end which the Company expects the lessees to exercise or require
that the lessee purchase the aircraft at lease-end for a specified
price.
Because
all of the Company’s leases transfer use and possession of
the asset to the lessee and contain no other substantial
undertakings by the Company, the Company has concluded that all of
its lease contracts qualify for lease accounting. Certain lessee
payments of what would otherwise be lessor costs (such as insurance
and property taxes) are excluded from both revenue and
expense.
The
Company evaluates the expected return on its leased assets by
considering both the rents receivable over the lease term, any
expected additional consideration at lease end, and the residual
value of the asset at the end of the lease. In some cases, the
Company depreciates the asset to the expected residual value
because it expects to sell the asset at lease end; in other cases,
it may expect to re-lease the asset to the same or another lessee
and the depreciation term and related residual value will differ
from the initial lease term and initial residual value. Residual
value is estimated by considering future estimates provided by
independent appraisers, although it may be adjusted by the Company
based on expected return conditions or location, specific lessee
considerations, or other market information.
Two of
the Company’s operating lease assets are subject to
manufacturer residual value guarantees at the end of their lease
terms in the fourth quarter of 2020 and totaling approximately $20
million.
Three additional aircraft are
subject to residual value guarantees, but the Company expects to
retain the aircraft after the date of such guarantees and re-lease
them to the current or other lessees.
The Company considers
the best market for managing and/or selling its assets at the end
of its leases, although it does not expect to retain ownership of
the assets under finance leases given the lessees’ bargain
purchase options or required purchase.
During the first quarter of 2020, the Company recorded no
impairment losses for its aircraft held for lease. As discussed in
Note 1(b), the Company recorded losses totaling $6,654,900 for four
of its assets held for sale to write three regional jet aircraft
and its parts inventory down to fair value, which has been
significantly affected by the COVID-19 Outbreak, less cost of
sale.
(a)
Assets Held for Lease
At
March 31
, 2020
and December 31,
2019, the Company’s aircraft held for lease consisted of the
following:
|
|
March
31, 2020
|
December
31, 2019
|
||
|
Type
|
Number
Owned
|
% of
net book value
|
Number
owned
|
% of
net book value
|
|
Regional jet
aircraft
|
9
|
80
%
|
9
|
80
%
|
|
Turboprop
aircraft
|
2
|
20
%
|
2
|
20
%
|
The
Company did not purchase or sell any aircraft held for lease during
the first quarter of 2020. None of the Company’s aircraft
held for lease were off lease at
March
31
, 2020.
As of
March 31, 2020
, minimum future
lease revenue payments receivable under non-cancelable operating
leases were as follows:
|
Years ending
December 31
|
|
|
|
|
|
2020
|
$
12,840,200
|
|
2021
|
10,343,800
|
|
2022
|
8,591,400
|
|
2023
|
8,591,400
|
|
2024
|
6,783,900
|
|
Thereafter
|
1,683,400
|
|
|
$
48,834,100
|
The remaining weighted average lease term of the Company’s
assets under operating leases was 38 months and 41 months at March
31, 2020 and December 31, 2019, respectively.
(b)
Sales-Type and Finance Leases
In
January 2020, the Company amended the leases for three of its
assets that were subject to sales-type leases. The amendments
provided for (i) the sale of one aircraft to the customer in
January 2020, which resulted in a gain of $12,700, (ii) application
of collected maintenance reserves and a security deposit held by
the Company to past due amounts for the other two aircraft, (iii)
payments totaling $585,000 in January for two of the leases and
(iv) the reduction of future payments due under the two leases.
As a
result of payment delinquencies by the two customers of these
aircraft, the Company recorded a bad debt allowance of $1,170,000
during the first quarter.
In
January 2020, the lessee for an aircraft leased pursuant to a
direct financing lease notified the
Company of its intention to exercise the lease-end purchase option
for the aircraft in March 2020. In February 2020, the Company and
the same lessee agreed to the early exercise of lease-end purchase
options for direct financing leases that were to expire in March
2021 and March 2022.
All three aircraft were sold to the
lessee in March 2020, resulting in a loss of $52,000.
At
March 31, 2020
and December 31,
2019, the net investment included in sales-type leases and direct
financing leases receivable were as follows:
|
|
March 31
,
2020
|
December
31,
2019
|
|
Gross minimum lease
payments receivable
|
$
4,138,000
|
$
9,096,400
|
|
Less unearned
interest
|
(88,000
)
|
(286,600
)
|
|
Allowance for
doubtful accounts
|
(1,170,000
)
|
(7,700
)
|
|
Finance leases
receivable
|
$
2,880,000
|
$
8,802,100
|
As of
March 31, 2020
, minimum future
payments receivable under finance leases were as
follows:
|
Years ending
December 31
|
|
|
|
|
|
2020
|
$
1,013,000
|
|
2021
|
1,284,000
|
|
2022
|
1,284,000
|
|
2023
|
557,000
|
|
|
$
4,138,000
|
The remaining weighted average lease term of the Company’s
assets under sales-type and finance leases was 34 months and 20
months at March 31, 2020 and December 31, 2019,
respectively.
The
following is a roll forward of the Company’s finance lease
receivable allowance for doubtful accounts from December 31, 2019
to March 31, 2020:
|
Balance, December
31, 2019
|
$
2,908,600
|
|
Deductions upon
sale of assets
|
(735,200
)
|
|
Deductions upon
lease amendments
|
(2,173,400
)
|
|
Additions charged
to expense
|
1,170,000
|
|
Balance, March 31,
2020
|
$
1,170,000
|
3.
Assets Held for Sale
Assets
held for sale at
March 31
, 2020
included three regional jet aircraft, one turboprop aircraft, which
is subject to a short-term operating lease, and airframe parts from
two turboprop aircraft.
During
the first quarter of 2020, the Company recognized losses totaling
$6,654,900 to write three regional jet aircraft and its parts
inventory down to fair value, which has been significantly affected
by the COVID-19 Outbreak, less cost of sale.
During
the first quarter of 2020, the Company received $175,500 in cash
and accrued $77,300 in receivables for parts sales. These amounts
were accounted for as follows: $117,400 reduced accounts receivable
for parts sales accrued in the fourth quarter of 2019; $117,800
reduced the carrying value of the parts; and $17,600 was recorded
as gains in excess of the carrying value of the parts. During the
first quarter of 2019, the Company received $216,900 in cash and
accrued $94,400 in receivables for parts sales. These amounts were
accounted for as follows: $133,100 reduced accounts receivable for
parts sales accrued in 2018; $151,500 reduced the carrying value of
the parts; and $26,700 was recorded as gains in excess of the
carrying value of the parts.
4.
Notes Payable and Accrued
Interest
At March 31, 2020 and December 31, 2019, the Company’s notes
payable and accrued interest consisted of the
following:
|
|
March 31
,
2020
|
December 31
,
2019
|
|
MUFG Credit
Facility:
|
|
|
|
Principal
|
$
83,333,900
|
$
84,084,100
|
|
Unamortized
debt issuance costs
|
(2,979,100
)
|
(3,084,200
)
|
|
Accrued
interest
|
710,700
|
376,200
|
|
Nord
Loans:
|
|
|
|
Principal
|
30,250,600
|
30,914,500
|
|
Unamortized
debt issuance costs
|
(627,000
)
|
(741,500
)
|
|
Accrued
interest
|
268,700
|
89,300
|
|
|
$
110,957,800
|
$
111,638,400
|
(a)
MUFG Credit Facility
In
February 2019, the
MUFG
Credit Facility, which
was to expire on May 31, 2019, was extended to February 19, 2023,
and was amended in certain other respects. Also, four aircraft that
previously served as collateral under the
MUFG
Credit Facility and two
aircraft that previously served as collateral under special-purpose
subsidiary financings were refinanced in February 2019 using
non-recourse term loans (the “Nord Loans”) with an
aggregate principal of $44.3 million.
In
addition to payment obligations (including principal and interest
payments on outstanding borrowings and commitment fees based on the
amount of any unused portion of the MUFG Credit Facility), the MUFG
Credit Facility agreement contained financial covenants with which
the Company must comply, including, but not limited to, positive
earnings requirements, minimum net worth standards and certain
ratios, such as debt to equity ratios.
The
Company was not in compliance with various covenants contained in
the MUFG Credit Facility agreement, including those related to
interest coverage and debt service coverage ratios and a
no-net-loss requirement under the MUFG Credit Facility, at
September 30, 2019, December 31, 2019 and March 31,
2020.
On October 15, 2019, the agent bank for the MUFG Lenders delivered
a Reservation of Rights Letter to the Company which contained
notice of the Borrowing Base Default and a demand for repayment of
the amount of the Borrowing Base Deficit by January 13, 2020, and
also contained formal notices of default under the MUFG Credit
Facility relating to the alleged material adverse effects on the
Company’s business as a result of the early termination of
leases for three aircraft and potential financial covenant
noncompliance based on the Company’s financial projections
provided to the MUFG Lenders (the Borrowing Base Default and such
other defaults referred to as the “Specified
Defaults”). The Reservation of Rights Letter also informed
the Company that further advances under the MUFG Credit Facility
agreement would no longer be permitted due to the existence of such
defaults.
In
October, November and December 2019, the Company, agent bank and
the MUFG Lenders entered into a Forbearance Agreement and
amendments extending the Forbearance Agreement with respect to the
Specified Defaults under the MUFG Credit Facility. The Forbearance
Agreement (i) provided that the
MUFG Lenders
temporarily
forbear from exercising default remedies under the MUFG Credit
Facility agreement for the Specified Defaults, (ii) reduced the
maximum availability under the MUFG Credit Facility to $85 million
and (iii) extended the cure period for the Borrowing Base Deficit
from January 13, 2020 to February 12, 2020. The Forbearance
Agreement also allowed the Company to continue to use LIBOR as its
benchmark interest rate, but increased the margin on the
Company’s LIBOR-based loans under the MUFG Credit Facility
from a maximum of 3.75% to 6.00% and set the margin on the
Company’s prime rate-based loans at 2.75%, as well as added a
provision for paid-in-kind interest (“PIK Interest) of 2.5%
to be added to the outstanding balance of the MUFG Credit Facility
debt in lieu of a cash payment. The Company paid cash fees of
$406,250 in connection with the Forbearance Agreement and
amendments, as well as a fee of $832,100, which was added to the
outstanding balance of the MUFG Credit Facility debt in lieu of a
cash payment. The Forbearance Agreement was in effect until
December 30, 2019, after which the Company and the
MUFG Lenders
agreed not to
further amend the Forbearance Agreement.
On February 12, 2020, the agent bank
for the MUFG Lenders delivered a Reservation of Rights Letter to
the Company which contained notice of the failure to cure the
Borrowing Base Default by February 12, 2020.
As discussed in Note 11, on May 1, 2020, the Company and
the
MUFG Lenders executed an amendment to the MUFG Credit Facility to
convert the MUFG Credit Facility into term loan indebtedness. As a
result, the MUFG Credit Facility is no longer a source of
acquisition financing
.
The Company has engaged B. Riley FBR as an investment banking
advisor to help (i) formulate a Recapitalization Plan and analyze
various strategic financial alternatives to address the
Company’s capital structure, strategic and financing needs,
as well as corporate level transactions aimed at achieving maximum
value for the Company’s stockholders; and (ii) locate and
negotiate with potential lenders, investors or transaction partners
who would play a role in the Company’s Recapitalization
Plan.
The Company’s ability to develop, obtain
approval for and achieve its Recapitalization Plan is subject to a
variety of factors. If the Company is not able to satisfy the
requirements under the Recapitalization Plan, maintain compliance
with its MUFG Indebtedness or raise sufficient capital to repay all
amounts owed under the MUFG Indebtedness, the Company’s
financial condition and liquidity would be materially adversely
affected and its ability to continue operations could be materially
jeopardized.
The
unused amount of the MUFG Credit Facility was $1,666,100 and
$915,900 as of
March 31, 2020
and December 31, 2019, respectively.
The weighted average
interest rate on the
MUFG
Credit Facility was
8.50% and 10.23% at
March
31, 2020 and
December
31, 2019
respectively.
(b)
Nord Loans
On
February 8, 2019, the Company, through four wholly-owned subsidiary
limited liability companies (“LLC Borrowers”), entered
into a term loan agreement NordDeutsche Landesbank Girozentrale,
New York Branch (“Nord Loans”) that provides for six
separate term loans with an aggregate principal amount of $44.3
million. Each of the Nord Loans is secured by a first priority
security interest in a specific aircraft (“Nord Loan
Collateral Aircraft”) owned by an LLC Borrower, the lease for
such aircraft, and a pledge by the Company of its membership
interest in each of the LLC Borrowers, pursuant to a Security
Agreement among the LLC Borrowers and a security trustee, and
certain pledge agreements. Two of the Nord Loan Collateral Aircraft
that are owned by the Company’s two UK special-purpose
entities were previously financed using special-purpose financing.
The interest rates payable under the Nord Loans vary by aircraft,
and are based on a fixed margin above either 30-day or 3-month
LIBOR. The proceeds of the Nord Loans were used to pay down the
MUFG
Credit
Facility and pay off the UK LLC SPE Financing. The maturity of each
Nord Loan varies by aircraft, with the first Nord Loan maturing in
October 2020 and the last Nord Loan maturing in May 2025. The debt
under the Nord Loans is expected to be fully amortized by rental
payments received by the LLC Borrowers from the lessees of the Nord
Loan Collateral Aircraft during the terms of their respective
leases and remarketing proceeds.
The
Nord Loans include covenants that impose various restrictions and
obligations on the LLC Borrowers, including covenants that require
the LLC Borrowers to obtain Nord consent before they can take
certain specified actions, and certain events of default. If an
event of default occurs, subject to certain cure periods for
certain events of default, Nord would have the right to terminate
its obligations under the Nord Loans, declare all or any portion of
the amounts then outstanding under the Nord Loans to be accelerated
and due and payable, and/or exercise any other rights or remedies
it may have under applicable law, including foreclosing on the
assets that serve as security for the Nord Loans. The Company was
in compliance with all covenants under the Nord Loans at December
31, 2019 but, as discussed below, was in default of its obligation
to make its quarterly payment due on March 24, 2020.
As a
result of the COVID-19 Outbreak, in March 2020, one of the
Company’s customers, which leases two regional jet aircraft
subject to Nord Loan financing, did not make its quarterly rent
payment of approximately $1.4 million. The nonpayment led to a
corresponding Nord Loan financing payment event of default under
the Nord Loans for each of those
subsidiaries. As discussed in Note 11, in
May
2020, with Nord’s consent, the Company collected
on the customers security letters of credit and paid a portion of
the financing payment due under the Nord Loans, and entered into
agreement with the customer to defer payment of the remaining
balance of the March rent to June 2020. The customer also replaced
the security letters of credit, and the Company agreed not to
collect on such new security letters of credit unless and until the
lessee fails to make its quarterly and deferred payment due in June
2020. As a result of the non-payment on the two regional jets by
the Company’s customer and potential consequent uncertainty
concerning future interest payments under the related Nord Loans,
the Company dedesignated the related derivative instruments as
hedges since the swapped interest was not deemed as probable to
occur.
After
discussions with the lessee for the remaining three swaps related
to the Nord Loans, the Company determined that there was sufficient
uncertainty related to rent payments and related debt payments on
the other three Nord Loans, and that the Company could not conclude
that the payments related to the swaps were probable of occurring,
so that the Company dedesignated those swaps as hedges in March
2020 as well.
5. Derivative Instruments
In the
first quarter of 2019, the Company entered into eight fixed
pay/receive variable interest rate swaps. The Company entered into
the interest rate swaps in order to reduce its exposure to the risk
of increased interest rates. With respect to the six interest rate
swaps entered into by the LLC Borrowers, the swaps were deemed
necessary so that the anticipated cash flows of such entities,
which arise entirely from the lease rents for the aircraft owned by
such entities, would be sufficient to make the required Nord Loan
principal and interest payments, thereby preventing default so long
as the lessees met their lease rent payment obligations. The two
interest rate swaps entered into by AeroCentury were intended to
protect against the exposure to interest rate increases on $50
million of the Company’s MUFG Credit Facility
debt.
The
Company estimates the fair value of derivative instruments using a
discounted cash flow technique and uses creditworthiness inputs
that corroborate observable market data evaluating the
Company’s and counterparties’ risk of non-performance.
Valuation of the derivative instruments requires certain
assumptions for underlying variables and the use of different
assumptions would result in a different valuation. Management
believes it has applied assumptions consistently during the
period.
The
Company designated seven of its interest rate swaps as cash flow
hedges. Changes in the fair value of the hedged swaps are included
in other comprehensive income/(loss), which amounts are
reclassified into earnings in the period in which the transaction
being hedged affects earnings (i.e., with future settlements of the
interest rate swaps). One of the interest rate swaps was not
eligible under its terms for hedge treatment and was terminated in
2019 when the associated asset was sold and the related debt was
paid off. Changes in fair value of non-hedge derivatives are
reflected in earnings in the periods in which they
occur.
Six of
the interest rate swaps were entered into by the LLC Borrowers and
provided for reduced notional amounts that mirror the amortization
under the Nord Loans entered into by the LLC Borrowers, effectively
converting each of the six Nord Loans from a variable to a fixed
interest rate, ranging from 5.38% to 6.30%. Each of these six
interest rate swaps extended for the duration of the corresponding
Nord Loan. Two of the swaps have maturities in 2020 and three have
maturities in 2025. The sixth swap was terminated in the fourth
quarter of 2019 in connection with the sale of the related
aircraft,
As
discussed in Note 4, in March, the Company determined that the
future hedged interest payments related to its five remaining Nord
Loan interest rate hedges were no longer probable of occurring, and
consequently dedesignated all five swaps as hedges. As a result of
dedesignation, future changes in market value will be recognized in
ordinary income and AOCI will be reclassified to ordinary income as
the forecasted transactions occur. Accumulated other comprehensive
loss of $48,100 related to the Nord Swaps was recognized as an
expense in the first quarter of 2020.
The
other two interest rate swaps (the “MUFG Swaps”),
related to the Company’s MUFG Credit Facility, were entered
into by AeroCentury and had notional amounts totaling $50 million
and were to extend through the maturity of the MUFG Credit Facility
in February 2023. Under the ISDA agreement for these interest rate
swaps, defaults under the MUFG Credit Facility give the swap
counterparty the right to terminate the interest rate swaps with
any breakage costs being the liability of the Company. The
counterparty agreed under the Forbearance Agreement and subsequent
amendments to refrain from exercising any termination or other
remedies as a result of the Company’s defaults under the MUFG
Credit Facility during the forbearance period under the Forbearance
Agreement.
In
October 2019, the Company determined that it was no longer probable
that forecasted cash flows for its two interest rate swaps with a
nominal value of $50 million would occur as scheduled as a result
of the Company’s defaults under the MUFG Credit Facility.
Therefore, those swaps were no longer subject to hedge accounting
and changes in fair market value thereafter were recognized in
earnings as they occurred. In March 2020, the Company was notified
that the counterparties had terminated the MUFG Swaps and the
Company became obligated to pay $3.1 million to the counterparties.
As a result of the forecasted transaction being not probable to
occur, accumulated other comprehensive loss of $1,167,700 related
to the MUFG Swaps was recognized as interest expense in the first
quarter of 2020.
The
Company has reflected the following amounts in its net
loss:
|
|
For the Three
Months Ended
March
31,
|
|
|
|
2020
|
2019
|
|
Change in value of
interest rate swaps
|
$
1,908,300
|
$
408,400
|
|
Reclassification
from other comprehensive income
|
150,700
|
(1,300
)
|
|
Reclassification
from other comprehensive income – forecasted transaction not
probable to occur
|
1,167,700
|
-
|
|
Included in
interest expense
|
$
3,226,700
|
$
407,100
|
|
|
|
|
|
The
following amount was included in other comprehensive income/(loss),
before tax:
|
||
|
|
|
|
|
Unrealized
gain/(loss) on derivative instruments
|
$
(575,000
)
|
$
(543,500
)
|
|
Reclassification
from other comprehensive income
|
150,700
|
(1,300
)
|
|
Reclassification
from other comprehensive income – forecasted transaction not
probable to occur
|
1,167,700
|
-
|
|
Change in value of
hedged interest rate swaps
|
$
743,400
|
$
(544,800
)
|
Approximately
$515,000 of the current balance of accumulated other comprehensive
income is expected to be reclassified in the next twelve
months.
At
March 31
, 2020, the fair value
of the Company’s interest rate swaps was as
follows:
|
Designated
interest rate hedges fair value
|
$
-
|
|
Other
interest rate swaps
|
1,105,100
|
|
Total
derivative (liability)
|
$1,105,100
|
The Company evaluates the creditworthiness of the counterparties
under its hedging agreements. The swap counterparties for the
Company’s interest rate swaps are large financial
institutions in the United States that
possess
an investment grade credit rating. Based on this
rating, the Company believes that the counterparties are
creditworthy and that their continuing performance under the
hedging agreements is probable.
6. Lease Right of Use Asset and Liability
The
Company is a lessee under a lease of the office space it occupies
in Burlingame, California, which expires in June of 2020, but also
provides for two, successive one-year lease extension options for
amounts that are substantially below the market rent for the
property. The lease provides for monthly rental payments according
to a fixed schedule of increasing rent payments. As a result of the
below-market extension options, the Company determined that it was
reasonably certain that it would extend the lease and, therefore,
included such extended term in its calculation of the right of use
asset (“ROU Asset”) and lease liability recognized in
connection with the lease.
In
addition to a fixed monthly payment schedule, the office lease also
includes an obligation for the Company to make future variable
payments for certain common areas and building operating and lessor
costs, which have been and will be recognized as expense in the
periods in which they are incurred. As a direct pass-through of
applicable expense, such costs have not been allocated as a
component of the lease.
Effective
January 1, 2020, the Company reduced both the size of the office
space leased and the amount of rent payable in the future. As such,
the Company recognized a reduction in both the capitalized amount
related to the surrendered office space and a proportionate amount
of the liability associated with its future lease obligations. In
January 2020, the Company recorded a loss of $160,000 related to
the reduction in its ROU Asset, net of the reduction in its
operating lease liability, and expected to recognize amortization
of $308,100, $317,600 and $162,600 in 2020, 2021 and the first half
of 2022, respectively.
In
March 2020, the Company elected not to exercise the extension
options for its office lease. The lease liability associated with
the office lease was calculated at March 31, 2020 and December 31,
2019 by discounting the fixed, minimum lease payments over the
remaining lease term, including the below-market extension periods,
at a discount rate of 7.25%, which represents the Company’s
estimate of the incremental borrowing rate for a collateralized
loan for the type of underlying asset that was the subject of the
office lease at the time the lease liability was evaluated. As a
result of non-exercise of its extension option, the Company reduced
the lease liability to reflect only the three remaining rent
payments in the second quarter of 2020. The Company estimates that
the maturities of operating lease base rent of its office space
were as follows as of March 31, 2020 and
December 31
, 2019:
|
|
March
31,
2020
|
December 31
,
2019
|
|
2020
|
$
36,300
|
$
145,000
|
|
2021
|
-
|
147,200
|
|
2022
|
-
|
74,700
|
|
|
36,300
|
366,900
|
|
Discount
|
-
|
(30,500
)
|
|
Lease
liability
|
$
36,300
|
$
336,400
|
During
the quarter ended
March 31
,
2020, the Company recognized amortization, finance costs and other
expense related to the office lease as follows:
|
Fixed rental
expense during the quarter
|
$
81,900
|
|
Variable lease
expense
|
22,600
|
|
Total lease expense
during the quarter
|
$
104,500
|
The
Company expects that the variable lease expense will total
approximately $7,500 per month through the end of the
lease.
7. Fair Value Measurements
Fair value is defined as the exchange price that would be received
for an asset or paid to transfer a liability (an exit price) in the
principal or most advantageous market for the asset or liability in
an orderly transaction between market participants on the
measurement date. Valuation techniques used to measure fair value
must maximize the use of observable inputs and minimize the use of
unobservable inputs, to the extent possible. The fair value
hierarchy under GAAP is based on three levels of
inputs.
Level 1 - Quoted prices in active markets for identical assets or
liabilities.
Level 2 - Inputs other than Level 1 that are observable, either
directly or indirectly, such as quoted prices for similar assets or
liabilities; quoted prices in markets that are not active; or other
inputs that are observable or can be corroborated by observable
market data for substantially the full term of the assets or
liabilities.
Level 3 - Unobservable inputs that are supported by little or no
market activity and that are significant to the fair value of the
assets or liabilities.
Assets and Liabilities Measured and Recorded at Fair Value on a
Recurring Basis
As of
March 31, 2020, the Company measured the fair value of its interest
rate swaps of $29,225,700 (notional amount) based on Level 2
inputs, due to the usage of inputs that can be corroborated by
observable market data. The Company estimates the fair value of
derivative instruments using a discounted cash flow technique and
has used creditworthiness inputs that corroborate observable market
data evaluating the Company’s and counterparties’ risk
of non-performance. The interest rate swaps had a net fair value
liability of $
1,105,100
as of
March 31, 2020. In the quarter ended March 31, 2020, $1,908,300 was
realized through the income statement as an increase in interest
expense.
As of
December 31, 2019, the Company measured the fair value of its
interest rate swaps of $80,914,500 (notional amount) based on Level
2 inputs, due to the usage of inputs that can be corroborated by
observable market data. The Company estimates the fair value of
derivative instruments using a discounted cash flow technique and
has used creditworthiness inputs that corroborate observable market
data evaluating the Company’s and counterparties’ risk
of non-performance. The interest rate swaps had a net fair value
liability of $1,824,500 as of December 31, 2019. In the year ended
December 31, 2019, $255,200 was realized through the income
statement as an increase in interest expense.
The
following table shows, by level within the fair value hierarchy,
the Company’s assets and liabilities at fair value on a
recurring basis as of
March 31
,
2020 and December 31, 2019:
|
|
March
31, 2020
|
December
31, 2019
|
||||||
|
|
Total
|
Level
1
|
Level
2
|
Level
3
|
Total
|
Level
1
|
Level
2
|
Level
3
|
|
Money
market
funds
|
$
-
|
$
-
|
$
-
|
$
-
|
$
400
|
$
400
|
$
-
|
$
-
|
|
Derivatives
|
(1,105,100
)
|
-
|
(1,105,100
)
|
-
|
(1,824,500
)
|
-
|
(1,824,500
)
|
-
|
|
Total
|
$
(1,105,100
)
|
$
-
|
$
(1,105,100
)
|
$
-
|
$
(1,824,100
)
|
$
400
|
$
(1,824,500
)
|
$
-
|
There
were no transfers between Level 1 and Level 2 during the first
quarters of 2020 or 2019, and there were no transfers into or out
of Level 3 during the same periods.
Assets Measured and Recorded at Fair Value on a Nonrecurring
Basis
The Company determines fair value of long-lived assets held and
used, such as aircraft and aircraft engines held for lease and
these and other assets held for sale, by reference to independent
appraisals, quoted market prices (e.g., offers to purchase) and
other factors. These are considered Level 3 within the fair value
hierarchy. An impairment charge is recorded when the Company
believes that the carrying value of an asset will not be recovered
through future net cash flows and that the asset’s carrying
value exceeds its fair value.
Based on expected sales proceeds, the Company
recorded impairment charges totaling $6,654,900 on four of its
assets held for sale in the first quarter of 2020, which had an
aggregate fair value of $15,828,200. The Company recorded
impairment charges totaling $1,408,400 on three of its assets held
for sale in the first quarter of 2019, which had an aggregate fair
value of $3,363,000.
The
following table shows, by level within the fair value hierarchy,
the Company’s assets at fair value on a nonrecurring basis as
of
March 31
, 2020 and December
31, 2019:
|
|
Assets
Written Down to Fair Value
|
Total
Losses
|
||||||||
|
|
March
31, 2020
|
December
31, 2019
|
For the
Three Months Ended March 31,
|
|||||||
|
|
|
Level
|
|
Level
|
|
|||||
|
Total
|
1
|
2
|
3
|
Total
|
1
|
2
|
3
|
2020
|
2019
|
|
|
Assets
held for sale
|
$
15,828,200
|
$
-
|
$
-
|
$
15,828,200
|
$
25,880,700
|
$
-
|
$
-
|
$
25,880,700
|
$
6,654,900
|
$
1,408,400
|
There
were no transfers between Level 1 and Level 2 and no transfers into
or out of Level during the first quarter of 2020.
Fair Value of Other Financial Instruments
The
Company’s financial instruments, other than cash and cash
equivalents, consist principally of finance leases receivable,
amounts borrowed under the MUFG Credit Facility, notes payable
under special-purpose financing and its derivative instruments. The
fair value of accounts receivable, accounts payable and the
Company’s maintenance reserves and accrued maintenance costs
approximates the carrying value of these financial instruments
because of their short-term maturity. The fair value of finance
lease receivables approximates the carrying value as discussed in
Note 1(
f)
. The fair value
of the Company’s derivative instruments is discussed in Note
5 and in this note above in “Assets and Liabilities Measured
and Recorded at Fair Value on a Recurring
Basis.”
Borrowings
under the Company’s MUFG Credit Facility bear floating rates
of interest that reset periodically to a market benchmark rate plus
a credit margin. The Company believes the effective interest rate
under the MUFG Credit Facility approximates current market rates
for such indebtedness at the dates of the consolidated balance
sheets, and therefore that the outstanding principal and accrued
interest of $84,044,600 and $84,460,300 at March 31, 2020 and
December 31, 2019, respectively, approximate their fair values on
such dates. The fair value of the Company’s outstanding
balance of its MUFG Credit Facility is categorized as a Level 3
input under the GAAP fair value hierarchy.
Before
their repayment in February 2019 in connection with the Nord Loans
refinancing, the amounts payable under the UK LLC SPE Financing
were payable through the fourth quarter of 2020 and bore a fixed
rate of interest. As discussed above, during February 2019, the UK
LLC SPE Financing and four assets that previously served as
collateral under the MUFG Credit Facility were refinanced using the
Nord Loans. The Company believes the effective interest rate under
the special-purpose financings approximates current market rates
for such indebtedness at the dates of the consolidated balance
sheets, and therefore that the outstanding principal and accrued
interest of $30,519,300 and $31,003,800 approximate their fair
values at March 31, 2020 and December 31, 2019, respectively. Such
fair value is categorized as a Level 3 input under the GAAP fair
value hierarchy.
There
were no transfers in or out of assets or liabilities measured at
fair value under Level 3 during the first quarters of 2020 and
2019.
8. Commitments and Contingencies
In the
ordinary course of the Company’s business, the Company may be
subject to lawsuits, arbitrations and administrative proceedings
from time to time. The Company believes that the outcome of any
existing or known threatened proceedings, even if determined
adversely, should not have a material adverse effect on the
Company's business, financial condition, liquidity or results of
operations.
9. Income Taxes
The
Company recorded income tax benefit of $2.7 million for the three
months ended March 31, 2020, or 21.0% of pre-tax loss, compared to
$356,400 income tax benefit, or 21.4% of pre-tax loss, for the
three months ended March 31, 2019. The difference in the effective
federal income tax rate from the normal statutory rate was
primarily related to the recording of a valuation allowance in the
current period on U.S. deferred tax assets.
In
assessing the valuation of deferred tax assets, the Company
considers whether it is more likely than not that some portion or
all of the deferred tax assets will not be realized. The ultimate
realization of deferred tax assets is dependent upon the generation
of future taxable income or availability to carryback the losses to
taxable income during periods in which those temporary differences
become deductible. The Company considered several factors when
analyzing the need for a valuation allowance including the
Company's current five-year cumulative loss through March 31, 2020,
the impacts of COVID-19 pandemic on the worldwide airline industry
and the need to rapidly refinance its debt or sell its assets in
accordance with the provisions of its MUFG Indebtedness. Based on
this analysis, the Company has concluded that a valuation allowance
is necessary for its U.S. deferred tax assets not supported by
either future taxable income or availability of future reversals of
existing taxable temporary differences and has recorded a valuation
allowance of $31,800 for the three months ended March 31,
2020.
In
March of 2020, the Coronavirus Aid, Relief, and Economic Security
Act (the “CARES Act”) became law. The CARES Act
included tax provisions under which net operating losses from 2018,
2019 and 2020 can be carried back for five years, modifying the law
that had previously not permitted any carryback, and also increased
the amount of deductible interest from 20% to 30% of adjusted
taxable income for the 2019 and 2020 years. These changes have not
had any effect on the Company’s expected cash tax
expenditures or income tax expense. The CARES Act also accelerated
the ability to receive refunds of AMT credits from prior year,
which will allow the Company to accelerate $11,400 of the refund of
such credit into its 2019 return.
10.
Computation of Loss Per Share
Basic and diluted earnings per share are calculated as
follows:
|
|
For the Three
Months Ended
March
31,
|
|
|
|
2020
|
2019
|
|
Net
loss
|
$
(10,178,400
)
|
$
(1,308,200
)
|
|
Weighted average
shares outstanding for the period
|
1,545,884
|
1,545,884
|
|
Basic loss per
share
|
$
(6.58
)
|
$
(0.85
)
|
|
Diluted loss per
share
|
$
(6.58
)
|
$
(0.85
)
|
Basic
loss
per common share is
computed using net
loss
and the
weighted average number of common shares outstanding during the
period. Diluted
loss
per common
share is computed using net
(loss)/
income and the weighted average number of common
shares outstanding, assuming dilution. Weighted average common
shares
outstanding, assuming dilution, include potentially
dilutive common shares outstanding during the period. There were no
anti-dilutive shares outstanding during the three months ended
March 31, 2020 or 2019.
11
. Subsequent
Events
(a) MUFG Credit Facility Amendment
On May 1, 2020, the Company and the MUFG Lenders entered into a
Fourth Amended and Restated Loan and Security Agreement, which
amended and restated the existing agreement regarding the Company's
indebtedness to the MUFG Lenders and effected the following changes
to the terms and provisions of such indebtedness:
●
A forbearance of
the existing defaults and events of default under the MUFG Loan
Agreement until June 29, 2020, with a provision to extend such
forbearance to August 15, 2020, if the Company is still in
compliance with the agreement at June 29, 2020,
respectively;
●
Elimination of the
borrowing base collateral value covenant under the MUFG Loan
Agreement, and of the existing event of default under the Loan
Agreement for a borrowing base deficiency, along with cessation of
the default interest accrual on the outstanding loan
amount;
●
Conversion of the
revolving MUFG Credit Facility structure to a term loan structure
with an initial principal balance of $83,689,900.86 and a final
maturity date of March 31, 2021;
●
Interest accrual on
the indebtedness based on the Base Rate (defined as the greater of
(i) the rate of interest most recently announced by MUFG as to its
U.S. dollar “Reference Rate”, or (ii) the Federal Funds
Rate plus one-half of one percent (0.50%)), according to the
following schedule: (a) Base Rate + 525 bps (0 bps as cash interest
and 525 bps as payment in kind ("PIK")) until June 30, 2020, and
(b) Base Rate + 525 bps (100 bps as cash interest and 425 bps as
PIK) from and after July 1, 2020, subject to a Base Rate floor at
325 bps for both time periods;
●
Deferral of the
cash component of the interest payments (on the loan indebtedness
and swap termination payment obligation) that was due on April 1,
2020 and May 1, 2020, until the earlier of (i) the date of receipt
of net proceeds into the Company's restricted account held at MUFG
to hold sales proceeds (the "Restricted Account") from the sale of
certain enumerated aircraft assets and (ii) July 1,
2020;
●
Required sweep of
any unrestricted cash in the Company’s bank accounts in
excess of $1,000,000 at the end of each fiscal
quarter;
●
Addition of certain
default provisions triggered by certain defaults or other events
with respect to the Company’s aircraft leases for the
Company's aircraft that are collateral for the MUFG Loan Agreement
("Aircraft Collateral");
●
Provision for certain payments from the
Restricted Account to (i) the
Company’s investment banking advisor; (ii) payments due under
the agreement and for interest on the swap termination indebtedness
owed by the Company; and (iii) Lenders’ outside counsel and
consultants;
●
Addition of a
requirement for the Company's engagement of a Financial
Advisor/Consultant, at the Company’s expense, with a specific
scope of work as prescribed by the MUFG Loan
Agreement;
●
Revisions to the
Company’s required appraisal process for the Aircraft
Collateral; and
●
Establishment of
deadlines for achievement of milestones toward execution of Company
strategic alternatives for the Company and/or its assets that would
enable repayment of the MUFG Loan Agreement indebtedness
("Strategic Alternatives") as follows: (a) obtaining
indications of interest for Strategic Alternatives by May 6, 2020,
which was subsequently extended to May 20, 2020 and was met by the
Company at that time; (b) obtaining a fully-executed (tentative or
generally non-binding) agreement on the terms and conditions for a
Strategic Alternative by June 29, 2020, and (c) consummation of the
selected strategic Alternative by August 15, 2020.
The borrowings under the MUFG Loan Agreement continue to be secured
by a first priority lien, which lien is documented in an amended
and restated mortgage and security agreement (the "Mortgage"), in
all of the Company's assets, including the
Company’s aircraft portfolio, except those aircraft that are
subject to special purpose financing held by subsidiaries of the
Company. The MUFG Loan Agreement and the Mortgage
(collectively the "MUFG Loan Documents") require the Company to
comply with certain covenants relating to payment of taxes,
preservation of existence, maintenance of property and insurance,
and periodic financial reporting. The MUFG Loan Documents
restrict the Company with respect to certain corporate level
transactions and transactions with affiliates or subsidiaries
without consent of the Lenders. Events of default under the Loan
Agreement include failure to make a required payment within three
business days of a due date or to comply with other obligations
under the MUFG Loan Documents (subject to specified cure periods
for certain events of default), a default under other indebtedness
of the Company, and a change in control of the Company.
Remedies for default under the Loan Agreement include acceleration
of the outstanding debt and exercise of any remedies available
under applicable law, including foreclosure on the collateral
securing the MUFG Loan Agreement debt.
(b) Impact of COVID-19 Outbreak
As
discussed in Note 4, in March 2020, one of the Company’s
customers, which leases two regional jet aircraft subject to Nord
Loan financing, did not make its quarterly rent payment which, in
turn, resulted in a loan payment default by the Company’s
special-purpose subsidiary that owns the aircraft. In April 2020,
the Company drew funds on the letters of credit that served as
security deposits under the leases in order to fund interest
payments due to Nord. In May 2020, the Company and the customer
agreed to defer payment of the March rent to June
2020.
Another
of the Company’s customers, which leases two aircraft did not
make rent payments that were due in April. The Company has agreed
to reduce the amounts due from the customer in April, May and June
2020. In addition, the Company and two other customers, each of
which leases an aircraft subject to a sales-type lease, are
discussing remedies regarding non-payment of a portion of the rent
due during the first quarter of 2020.
(c) Paycheck Protection Program Loan
On May
20, 2020, JetFleet Management Corp. (the “PPP
Borrower”), a subsidiary of AeroCentury Corp., was granted a
loan (the “PPP Loan”) from American Express National
Bank in the aggregate amount of $276,353, pursuant to the Paycheck
Protection Program (the “PPP”) under Division A, Title
I of the CARES Act, which was enacted March 27, 2020. The
application for these funds required the Company to, in good faith,
certify that the current economic uncertainty made the loan request
necessary to support the ongoing operations of the Company. This
certification further required the Company to take into account its
current business activity and its ability to access other sources
of liquidity sufficient to support ongoing operations in a manner
that is not significantly detrimental to the business. The receipt
of these funds, and the forgiveness of the loan attendant to these
funds, is dependent on the Company having initially qualified for
the loan and qualifying for the forgiveness of such loan based on
its future adherence to the forgiveness criteria.
The PPP
Loan, which was in the form of a Note dated May 18, 2020 issued by
the PPP Borrower, matures on April 22, 2022 and bears interest at a
rate of 1.00% per annum, payable in 18 monthly payments commencing
on November 20, 2020. The Note may be prepaid by the PPP Borrower
at any time prior to maturity with no prepayment penalties. Funds
from the PPP Loan may only be used for payroll costs and any
payments of certain covered interest, lease and utility payments.
The Company intends to use the entire PPP Loan amount for
qualifying expenses. Under the terms of the PPP, certain amounts of
the Loan may be forgiven if they are used for qualifying expenses
as described in the CARES Act. No assurance can be provided that
the Company will obtain forgiveness of the PPP Loan in whole or in
part.
The following discussion and analysis
should be read together with
the Company’s annual
report on Form 10-K for the fiscal year ended December 31, 2019 and
the audited consolidated financial statements and notes included
therein (collectively, the “2019 Annual Report”), as
well as
the Company’s unaudited
condensed consolidated financial statements and the related notes
included in this report.
Pursuant to Instruction 2 to
paragraph (b) of Item 303 of Regulation S-K promulgated by the SEC,
in preparing this discussion and analysis, the Company has presumed
that readers have access to and have read the disclosure under the
same heading contained in the 2019 Annual Report.
This discussion and analysis contains
forward-looking statements. Please see the cautionary note
regarding these statements at the beginning of this
report.
Overview
The
Company provides leasing and finance services to regional airlines
worldwide. The Company is principally engaged in leasing its
aircraft portfolio, primarily consisting of mid-life regional
aircraft, through operating leases and finance leases to its
customer base of eight airlines in six countries. In addition to
leasing activities, the Company sells aircraft from its operating
lease portfolio to third parties, including other leasing
companies, financial services companies, and airlines. Its
operating performance is driven by the composition of its aircraft
portfolio, the terms of its leases, and the interest rate of its
debt, as well as asset sales.
The COVID-19 pandemic has led to significant cash flow issues for
airlines, and some of the Company’s customers were unable to
timely meet their obligations under their lease obligations with
the Company during the first quarter of 2020.
This in turn
has caused lessees to make requests for lease payment concessions
and/or deferrals from the Company, which requires the Company to
reach accommodations with its lenders to allow the Company
corresponding concessions under its debt financings. The Company
expects these circumstances to continue for the foreseeable
future.
The
Company purchased no aircraft during the first quarter of 2020.
During the same period, the Company sold one aircraft that been
held for sale, one aircraft that had been held under a sales-type
lease and three aircraft that had been held under direct financing
leases. The Company ended the quarter with a total of eleven
aircraft held for lease, with a net book value of approximately
$106 million. This represents a 2% decrease compared to the net
book value of the Company’s aircraft and engines held for
lease at December 31, 2019. In addition to the aircraft held for
lease at quarter-end, the Company held two aircraft subject to
finance leases and held four aircraft and airframe parts from two
aircraft held for sale.
Average
portfolio utilization was approximately 85% and 98% during the
first quarters of 2020 and 2019, respectively. The year-to-year
decrease was due to aircraft that were on lease in the 2019 period,
but off lease in the 2020 period.
Net
loss for the first quarters of 2020 and 2019 was $10.2 million and
$1.3 million, respectively, resulting in basic and diluted loss per
share of $(6.58) and $(0.85), respectively. Pre-tax profit margin
(which the Company calculates as its (loss)/income before income
tax (benefit)/provision as a percentage of its revenues and other
income) was (270%) in the first quarter of 2020 compared to (22%)
for the first quarter of 2019.
As discussed above,
on
May 1, 2020, the Company and the MUFG Lenders entered into a Fourth
Amended and Restated Loan and Security Agreement (the "MUFG
Loan Agreement"), which, amended and restated the existing
agreement regarding the Company's indebtedness to the MUFG
Lenders.
The Company has engaged B. Riley FBR as an
investment banking advisor to help (i) formulate and analyze
various strategic financial alternatives to address the
Company’s capital structure, strategic and financing needs,
as well as corporate level transactions aimed at achieving maximum
value for the Company’s stockholders; and (ii) locate and
negotiate with potential lenders, investors or transaction partners
who would play a role in the Company’s plan
(“Recapitalization Plan”).
Until
the MUFG Loan and the swap termination payment obligation are
repaid, the Company’s cash flow will be subject to monitoring
and approval by the MUFG Lenders. Because the MUFG Loan Agreement
requires any accumulation of cash in excess of $1 million as of
each quarter end to be used to pay down the balance of the MUFG
Loan, the Company’s ability to meet unanticipated cash
payment obligations may be wholly dependent upon obtaining approval
from the MUFG Lenders to access the restricted cash account that is
controlled by the MUFG Lenders.
In addition, two of the Company’s special purpose
subsidiaries that are borrowers under the Nord Loans are in default
of their loan obligations due to their failure to fully pay the
March quarterly payment when due, which was in turn the result
of their lessee’s failure to make its quarterly
lease payment in March. The special purpose entities do
not themselves have sufficient free cash to cure such defaults, nor
is the Company permitted to direct funds to the special purpose
subsidiaries without the consent of the MUFG Lenders.
The special purpose subsidiaries’ ability to cure their
loan default is therefore likely dependent solely on the
lessee’s cure of its overdue March rent payment
obligations. With Nord’s consent, the special
purpose subsidiaries collected on the lessee’s letters of
credit to partially fund the overdue lease payments, and
the leases with the lessee have been amended to permit the
lessee to cure the remainder of its March lease payment default
when it makes its upcoming June quarterly payment, but there is no
assurance that the lessee will be able to comply with that
obligation.
As a
result of these factors, there is substantial doubt regarding the
Company’s ability to continue as a going
concern.
Fleet Summary
(a) Assets Held for Lease
Key
portfolio metrics of the Company’s aircraft held for lease as
of
March 31,
2020 and December
31, 2019 were as follows:
|
|
March 31
,
2020
|
December 31,
2019
|
|
Number of aircraft
and engines held for lease
|
11
|
11
|
|
|
|
|
|
Weighted average
fleet age
|
12.0
years
|
11.8
years
|
|
Weighted average
remaining lease term
|
38
months
|
41
months
|
|
Aggregate fleet net
book value
|
$
106,200,000
|
$
108,368,600
|
|
|
For the
Three Months
Ended
March
31,
|
|
|
|
2020
|
2019
|
|
Average
portfolio utilization
|
85%
|
98%
|
The
following table sets forth the net book value and percentage of the
net book value, by type, of the Company’s assets that were
held for lease at
March 31,
2020
and December 31, 2019:
|
|
March
31, 2020
|
December 31,
2019
|
||
|
Type
|
Number
owned
|
% of
net book value
|
Number
owned
|
% of
net book value
|
|
Turboprop
aircraft:
|
|
|
|
|
|
Bombardier
Dash-8-400
|
2
|
20
%
|
2
|
20
%
|
|
|
|
|
|
|
|
Regional jet
aircraft:
|
|
|
|
|
|
Embraer
175
|
3
|
27
%
|
3
|
26
%
|
|
Canadair
CRJ-1000
|
2
|
20
%
|
2
|
21
%
|
|
Canadair
CRJ-700
|
3
|
20
%
|
3
|
20
%
|
|
Canadair
CRJ-900
|
1
|
13
%
|
1
|
13
%
|
During
the first quarter of 2020, the Company purchased no aircraft and
sold one aircraft that been held for sale, one aircraft that had
been held under a sales-type lease and three aircraft that had been
held under direct financing leases. During the first quarter of
2019, the Company purchased no aircraft, and sold one aircraft and
certain aircraft parts.
The
following table sets forth the net book value and percentage of the
net book value of the Company’s assets that were held for
lease at
March 31, 2020
and
December 31, 2019 in the indicated regions (based on the domicile
of the lessee):
|
|
March
31, 2020
|
December 31,
2019
|
||
|
Region
|
Net
book value
|
%
of
net
book value
|
Net
book value
|
%
of
net
book value
|
|
North
America
|
$
62,991,700
|
59
%
|
$
63,799,600
|
59
%
|
|
Europe
|
43,208,300
|
41
%
|
44,569,000
|
41
%
|
|
|
$
106,200,000
|
100
%
|
$
108,368,600
|
100
%
|
For the
three months ended
March
31,
2020, approximately 41%, 30%, 14% and 12% of the Company’s
operating lease revenue was derived from customers in the United
States, Spain, Croatia and Canada, respectively. Operating lease
revenue does not include interest income from the Company’s
finance leases. The following table sets forth geographic
information about the Company’s operating lease revenue for
leased aircraft and aircraft equipment, grouped by domicile of the
lessee:
|
|
For
the Three Months Ended March
31,
|
|||
|
|
2020
|
2019
|
||
|
Region
|
Number
of
lessees
|
%
of
operating
lease
revenue
|
Number
of
lessees
|
%
of
operating
lease
revenue
|
|
North
America
|
3
|
53
%
|
4
|
36
%
|
|
Europe
|
3
|
47
%
|
4
|
60
%
|
|
Asia
|
-
|
-
%
|
1
|
4
%
|
At
March 31
, 2020 and December 31,
2019, the Company also had two aircraft and six aircraft,
respectively, subject to finance leases. For the quarter ended
March 31
, 2020, 100% of the
Company’s finance lease revenue was derived from a customer
in Europe.
(b) Assets Held for Sale
Assets
held for sale at
March 31
, 2020
consisted of three Canadair 900 aircraft, one Bombardier Dash-8-300
aircraft and airframe parts from two turboprop
aircraft.
Results of Operations
(a)
Quarter ended March 31, 2020 compared to the quarter ended March
31, 2019
(i) Revenues and Other Income
Revenues
and other income decreased by 37% to $4.8 million in the first
quarter of 2020 from $7.6 million in the first quarter of 2019. The
decrease was primarily a result of decreased operating lease
revenues and a loss on sale of assets in the 2020 period as opposed
to a gain on sale of assets in the first quarter of
2019.
Operating
lease revenue decreased by 33% to $4.8 million in the first quarter
of 2020 from $7.1 million in the first quarter of 2019, primarily
due to reduced rent income resulting from the early termination of
four aircraft leases with one of the Company’s customers in
the third quarter of 2019 and the sale of an asset in the first
quarter of 2019 that had been on lease until the time of
sale.
During
the first quarter of 2020, the Company recorded losses totaling
$39,300 on the sale of four aircraft and a loss of $2,500 for legal
work related to the sale of an aircraft that the Company expects to
occur in the third quarter of 2020. Such losses were partially
offset by $17,600 of gains on the sale of aircraft parts. During
the first quarter of 2019, the Company recorded gains totaling
approximately $178,300 million on the sale of an aircraft and
aircraft parts.
(ii) Expenses
Total
expenses increased by 91% to $17.7 million in the first quarter of
2020 from $9.2 million in the first quarter of 2019. The increase
was primarily a result of increases in asset impairment
losses
, interest
expense and bad debt expense, the effects of which were partially
offset by a decrease in depreciation.
During
the first quarter of 2020, the Company recorded impairment charges
totaling $6.7 million on four assets held for sale, based on
expected sales proceeds. During the first quarter of 2019, the
Company recorded impairment charges totaling $1.4 million on two
aircraft and an engine held for sale, based on expected sales
proceeds.
The
Company’s interest expense increased by 106% to $6.0 million
in the first quarter of 2020 from $2.9 million in the first quarter
of 2019, primarily as a result of a higher average interest rate
and $1.9 million of valuation charges related to the
Company’s interest rate swaps
,
the effects of which were partially offset by
a lower
average debt balance.
As a result of payment delinquencies during the first quarter of
2020 by two of the Company’s customers under its two
sales-type leases and decreases in the appraised values of the
underlying assets, the Company recorded a bad debt expense of $1.2
million. The Company recorded no bad debt expense during the first
quarter of 2019.
Depreciation
expense decreased 32% to $2.2 million in the first quarter of 2020
from $3.2 million in the first quarter of 2019 primarily as a
result of the sale of an aircraft during the first quarter of 2019
and the reclassification of four aircraft from held for lease to
held for sale during the third quarter of 2019.
The
Company had tax benefit of $2.7 million in the first quarter of
2020 compared to tax benefit of $356,400 for the first quarter of
2019. The effective tax rate for the first quarter of 2020 was a
21.0% tax benefit compared to a 21.4% tax benefit in the first
quarter of 2019. The difference in the effective income tax rate
from the normal statutory rate was primarily related to the
recording of a valuation allowance in the current period on the
Company’s U.S. deferred tax assets. In assessing the
valuation of deferred tax assets, the Company considered whether it
is more likely than not that some portion or all of the deferred
tax assets will not be realized. The ultimate realization of
deferred tax assets is dependent upon the generation of future
taxable income or availability to carryback the losses to taxable
income during periods in which those temporary differences become
deductible. The Company considered several factors when analyzing
the need for a valuation allowance, including the Company’s
current five-year cumulative loss through March 31, 2020, the
impacts of the COVID-19 Outbreak on the worldwide airline industry
and the need to rapidly refinance the Company’s debt or sell
its assets in accordance with the provisions of its MUFG
Indebtedness. Based on this analysis, the Company concluded that a
valuation allowance is necessary for the Company’s net U.S.
deferred tax assets not supported by either future taxable income
or availability of future reversals of existing taxable temporary
differences and has recorded a valuation allowance of $31,800 for
the three months ended March 31, 2020. The Company did not
establish a valuation allowance for its foreign deferred tax
assets, because they represent expected losses to be realized in
2020 and carried back to profitable periods for refunds in the
foreign jurisdictions.
In
March of 2020, the Coronavirus Aid, Relief, and Economic Security
Act (the “CARES Act”) became law. The CARES Act
included tax provisions under which net operating losses from 2018,
2019 and 2020 can be carried back for five years, modifying the law
that had previously not permitted any carryback, and also increased
the amount of deductible interest from 20% to 30% of adjusted
taxable income for the 2019 and 2020 years. These changes have not
had any effect on the Company’s expected cash tax
expenditures or income tax expense. The CARES Act also accelerated
the ability to receive refunds of AMT credits from prior year,
which will allow the Company to accelerate $11,400 of the refund of
such credit into its 2019 return.
Liquidity and Capital Resources
As a
result of the factors discussed below, there is substantial doubt
regarding the Company’s ability to continue as a going
concern.
(a)
MUFG Credit Facility
On May 1, 2020, the Company and the MUFG Lenders entered into a
Fourth Amended and Restated Loan and Security Agreement (the
"MUFG Loan Agreement"), which, amended and restated the existing
agreement regarding the Company's indebtedness to the MUFG Lenders
and effected the following changes to the terms and provisions of
such indebtedness:
●
A forbearance of
the existing defaults and events of default under the MUFG Loan
Agreement until June 29, 2020, with a provision to extend such
forbearance to August 15, 2020, if the Company is still in
compliance with the agreement at June 29, 2020;
●
Elimination of the
borrowing base collateral value covenant under the MUFG Loan
Agreement, and of the existing event of default under the Loan
Agreement for a borrowing base deficiency, along with cessation of
the default interest accrual on the outstanding loan
amount;
●
Conversion of the
revolving MUFG Credit Facility structure to a term loan structure
with an initial principal balance of $83,689,900.86 and a final
maturity date of March 31, 2021;
●
Interest accrual on
the indebtedness based on the Base Rate (defined as the greater of
(i) the rate of interest most recently announced by MUFG as to its
U.S. dollar “Reference Rate”, or (ii) the Federal Funds
Rate plus one-half of one percent (0.50%)), according to the
following schedule: (a) Base Rate + 525 bps (0 bps as cash interest
and 525 bps as payment in kind ("PIK")) until June 30, 2020, and
(b) Base Rate + 525 bps (100 bps as cash interest and 425 bps as
PIK) from and after July 1, 2020, subject to a Base Rate floor at
325 bps for both time periods;
●
Deferral of the
cash component of the interest payments (on the loan indebtedness
and swap termination payment obligation) that was due on April 1,
2020 and May 1, 2020, until the earlier of (i) the date of receipt
of net proceeds into the Company's restricted account held at MUFG
to hold sales proceeds (the "Restricted Account") from the sale of
certain enumerated aircraft assets and (ii) July 1,
2020;
●
Required sweep of
any unrestricted cash in the Company’s bank accounts in
excess of $1,000,000 at the end of each fiscal
quarter;
●
Addition of certain
default provisions triggered by certain defaults or other events
with respect to the Company’s aircraft leases for the
Company's aircraft that are collateral for the MUFG Loan Agreement
("Aircraft Collateral");
●
Provision for certain payments from the
Restricted Account to (i) the
Company’s investment banking advisor; (ii) payments due under
the agreement and for interest on the swap termination indebtedness
owed by the Company; and (iii) Lenders’ outside counsel and
consultants;
●
Addition of a
requirement for the Company's engagement of a Financial
Advisor/Consultant, at the Company’s expense, with a specific
scope of work as prescribed by the MUFG Loan
Agreement;
●
Revisions to the
Company’s required appraisal process for the Aircraft
Collateral; and
●
Establishment of
deadlines for achievement of milestones toward execution of Company
strategic alternatives for the Company and/or its assets that would
enable repayment of the MUFG Loan Agreement indebtedness
("Strategic Alternatives") as follows: (a) obtaining
indications of interest for Strategic Alternatives by May 20, 2020
and was met by the Company at that time; (b) obtaining a
fully-executed (tentative or generally non-binding) agreement on
the terms and conditions for a Strategic Alternative by June 29,
2020, and (c) consummation of the selected strategic Alternative by
August 15, 2020.
The borrowings under the MUFG Loan Agreement continue to be secured
by a first priority lien, which lien is documented in an amended
and restated mortgage and security agreement (the "Mortgage"), in
all of the Company's assets, including the
Company’s aircraft portfolio, except those aircraft that are
subject to special purpose financing held by subsidiaries of the
Company. The MUFG Loan Agreement and the Mortgage
(collectively the "MUFG Loan Documents") require the Company to
comply with certain covenants relating to payment of taxes,
preservation of existence, maintenance of property and insurance,
and periodic financial reporting. The MUFG Loan Documents
restrict the Company with respect to certain corporate level
transactions and transactions with affiliates or subsidiaries
without consent of the Lenders. Events of default under the Loan
Agreement include failure to make a required payment within three
business days of a due date or to comply with other obligations
under the MUFG Loan Documents (subject to specified cure periods
for certain events of default), a default under other indebtedness
of the Company, and a change in control of the Company.
Remedies for default under the Loan Agreement include acceleration
of the outstanding debt and exercise of any remedies available
under applicable law, including foreclosure on the collateral
securing the MUFG Loan Agreement debt.
Substantially
all of the Company’s proceeds from sale of assets is required
to be deposited in its restricted cash account, disbursements from
which are directed by the MUFG Lenders for payment of certain
costs, or otherwise to reduce the outstanding MUFG Indebtedness.
Unless and until the MUFG Indebtedness is refinanced with a new
lender, substantially all the excess cash flow of the Company will
be required to be applied toward repayment of the MUFG
Indebtedness, unless the Lenders approve other uses of such excess
funds.
In March 2019, the Company entered into interest rate swaps (the
“MUFG Swaps”) with respect to the variable interest
rate payment amounts due for $50 million of the $84 million of
outstanding MUFG Credit Facility debt.
On
March 12, 2020, MUFG notified the Company that it had terminated
the MUFG Swaps. The Company incurred a liability to the swap
counterparties of $3.1 million in connection with such termination,
payment of which is due no later than the March 31, 2021 maturity
of the MUFG Loan. As a result of the forecasted transaction being
not probable to occur, accumulated other comprehensive loss of
$1,167,700 related to the MUFG Swaps was recognized as interest
expense in the first quarter of 2020.
The
Company has engaged B. Riley FBR as an investment banking advisor
to assist in obtaining debt or equity financing which, if
successful, would be used to repay the MUFG
Indebtedness.
The
Company’s ability to develop, obtain approval for and achieve
its Recapitalization Plan is subject to a variety of factors, as
discussed in
Liquidity and Capital
Resources—MUFG Credit Facility
. If the Company is not
able to maintain compliance with the MUFG Loan Agreement and raise
sufficient capital or refinancing debt to repay all amounts owed
under the MUFG Indebtedness, then the Company’s financial
condition and liquidity would be materially adversely affected and
its ability to continue operations could be materially
jeopardized.
If the
Company does not achieve its Recapitalization Plan and its
anticipated results, the Lenders would thereafter have the right to
exercise any and all remedies for default under the applicable MUFG
Loan Agreement. Such remedies include, but are not limited to,
declaring the entire indebtedness immediately due and payable, and
if the Company were unable to repay such accelerated indebtedness,
foreclosing upon the assets of the Company that secure the MUFG
Indebtedness, which consist of all of the Company’s assets
except for certain assets held in the Company’s single asset
special-purpose financing subsidiaries.
(b)
Special-purpose Financing and Nord
Loans
In August 2016, the Company acquired, using wholly-owned
special-purpose entities, two regional jet aircraft, using cash and
third-party financing (referred to as “special-purpose
financing” or “UK LLC SPE Financing”) separate
from the MUFG Credit Facility.
In
February 2019, the UK LLC SPE Financing was repaid as part of a
refinancing involving the Nord Loans, which were made to
special-purpose subsidiaries of AeroCentury (the “LLC
Borrowers”). Under the Nord Loans, four aircraft that
previously served as collateral under the MUFG Credit Facility were
moved into newly formed special-purpose subsidiaries and, along
with the aircraft owned by the two existing special-purpose
subsidiaries, were pledged as collateral under the Nord
Loans.
All of
the
Nord Loan
s
contain cross-default provisions, so that any default by a lessee
of any of the subject aircraft could result in the
Nord
exercising its remedies
under the
Nord
Loan
agreement, including, but not limited to, possession of
the aircraft that is subject to a lessee default. Currently, the
Nord Loans are fully performing and were unaffected by the
Company’s default under the MUFG Credit
Facility.
Collectively,
the LLC Borrowers entered into six interest rate derivatives, or
interest rate swaps. Each such interest rate swap has a notional
amount that mirrors the amortization under the corresponding
Nord Loan
entered
into by the LLC Borrowers, effectively converting each of the six
Nord Loan
s from a
variable to a fixed interest rate. Each of these six interest rate
swaps extend for the length of the corresponding
Nord Loan
, with maturities
from 2020 through 2025.
One of the aircraft that was subject
to Nord Loan financing was sold during the fourth quarter of 2019
and the related Nord Loan and
interest rate
swap were terminated.
Accumulated other comprehensive loss of $48,100 related to the Nord
Swaps was recognized as an expense in the first quarter of
2020.
In
March 2020, one of the Company’s customers, which leases two
regional jet aircraft subject to Nord Loan financing, did not
timely make its quarterly rent payment. As a result, the
special-purpose subsidiary borrowers that hold the aircraft did not
have sufficient cash to meet the corresponding quarterly Nord Loan
payment installments. The parent corporation was not permitted to
fund the special-purpose subsidiary borrower’s loan payment
obligations due to restrictions under the MUFG Credit Facility. The
late payment by the lessee constituted an event of default under
the Term Loan on March 19, 2020, and the Term Loan nonpayment
constituted
an event of
default under the Nord Loan for each subsidiary on March 27, 2020.
The lessee was severely impacted by the COVID-19 pandemic, and was
required to cease operations as part of its country’s
lockdown, but has indicated to the Company that it intends to honor
its lease commitments in due course when able. In April 2020, the
Company fully drew on the letters of credit that served as security
deposits under the leases in order to fund a partial repayment of
the overdue lease rental, which was then used by the Company to
make a partial quarterly payment on the Nord Loan installment
payment. In May 2020, with the consent of Nord, the Company and the
customer entered into a deferral agreement whereunder the customer
agreed to issue replacement letter of credits as required under its
lease, and the Company agreed to waive the default for failing to
fully pay the March 2020 quarterly lease payment when due, and to
defer the required payment date for the unpaid balance of the March
lease rental payment until the June 2020 quarterly payment date so
long as no other defaults under the leases arise prior to such
date. The Company further agreed not to collect under the newly
issued replacement letters of credit during such forbearance
period.
(c) Cash Flow
The Company’s primary sources of cash from operations are
payments due under the Company’s operating and finance
leases, maintenance reserves, which are billed monthly to lessees
based on asset usage, and proceeds from the sale of aircraft and
engines.
The
Company’s primary uses of cash are for (i) principal and
interest due under the MUFG Indebtedness and the Nord Loans, (ii),
salaries, employee benefits and general and administrative
expenses, (iii) maintenance expense and (iv) reimbursement to
lessees from collected maintenance reserves.
As discussed above,
on
May 1, 2020, the Company and the MUFG Lenders entered into a Fourth
Amended and Restated Loan and Security Agreement, which
amended and restated the existing agreement regarding the Company's
indebtedness to the MUFG Lenders.
The Company has engaged B. Riley as an investment
banking advisor to help (i) formulate and analyze various strategic
financial alternatives to address the Company’s capital
structure, strategic and financing needs, as well as corporate
level transactions aimed at achieving maximum value for the
Company’s stockholders; and (ii) locate and negotiate with
potential lenders, investors or transaction partners who would play
a role in the Company’s Recapitalization
Plan.
Until
the MUFG Indebtedness is repaid, the Company’s cash flow will
be subject to monitoring and approval by the MUFG Lenders. Because
the MUFG Loan agreement requires any accumulation of cash in excess
of $1 million as of each quarter end to be used to pay down the
balance of the MUFG Loan, the Company’s ability to meet
unanticipated cash payment obligations may be wholly dependent upon
obtaining approval from the MUFG Lenders to access the restricted
cash account that is controlled by the MUFG Lenders.
The
Company’s ability to develop, obtain approval for and achieve
its Recapitalization Plan is subject to a variety of factors, as
discussed under
Liquidity and
Capital Resources—MUFG Credit Facility
. If the Company
is not able to either satisfy the requirements under the
Recapitalization Plan, maintain compliance with its MUFG
Indebtedness or raise sufficient capital to repay all amounts owed
under the MUFG Indebtedness, then the Company’s financial
condition and liquidity would be materially adversely affected and
its ability to continue operations could be materially
jeopardized.
In that case, the Company may need to curtail certain of its
operations, including any asset acquisition or other growth plans,
cut costs in other ways, incur additional debt or sell equity or
certain of its revenue-producing assets in order to raise capital
(which it may not be able to do on reasonable terms, or at all), or
be forced into bankruptcy or liquidation.
The
Company’s payments for maintenance consist of reimbursements
to lessees for eligible maintenance costs under their leases and
maintenance incurred directly by the Company for preparation of
off-lease assets for re-lease to new customers. The timing and
amount of such payments may vary widely between quarterly and
annual periods, as the required maintenance events can vary greatly
in magnitude and cost, and the performance of the required
maintenance events by the lessee or the Company, as applicable, are
not regularly scheduled calendar events and do not occur at uniform
intervals. The Company’s maintenance payments typically
constitute a large portion of its cash needs, and the Company has
in the past borrowed additional funds under the MUFG Credit
Facility to provide funding for these payments. Such funding is no
longer available under the MUFG Loan and the Company will need to
use excess cash flow or obtain permission from the MUFG Lenders to
use funds in its restricted account.
The
amount of interest paid by the Company depends primarily on the
outstanding balance of the MUFG Indebtedness and Nord Loans and any
future debt incurred in connection with the Company’s
Recapitalization Plan.
The
entire Nord Loan indebtedness is covered by interest rate swaps,
and therefore, the Company has effectively converted the Nord Loan
interest payments to fixed rate payments.
The swaps were initially treated
as interest rate hedges under which changes in market value were
reflected in AOCI and were reclassified to ordinary income when the
forecasted interest rate payments occurred. However, as a result of
the default on two of the Nord Loans and likely rent deferrals,
reductions or abatements on the leases related to the other three
Nord Loans, all five swaps were dedesignated in March of 2020, AOCI
already accrued will be reflected in ordinary income as the
forecasted transactions occur, and future changes in market value
will be reflected in ordinary income.
A
portion of the Company’s indebtedness, as well as related
interest rate swaps, use LIBOR as a benchmark for establishing the
rates at which interest accrues. LIBOR is the subject of recent
national, international and other regulatory guidance and proposals
for reform. These reforms and other pressures may cause LIBOR to
disappear entirely on or after December 31, 2021, or to perform
differently than in the past. Although the consequences of these
developments cannot be entirely predicted, they could affect cash
flow, as they may require the Company to pay increased costs for
its LIBOR debt or even cause an acceleration of maturity of such
debt if a suitable replacement index cannot be agreed upon or is
not available.
Actual results could deviate substantially from the assumptions
management has made in forecasting the Company’s future cash
flow. As discussed in
Liquidity and Capital
Resources – (a) Credit Facility
and in
Outlook
and
Factors that May Affect Future
Results and Liquidity
, there
are a number of factors that may cause actual results to deviate
from these forecasts. If these assumptions prove to be incorrect
and the Company’s cash requirements exceed its cash flow, the
Company would need to pursue additional sources of financing to
satisfy these requirements, which may not be available when needed,
on acceptable terms or at all. See
Factors that May Affect Future
Results and Liquidity
for more
information about financing risks and
limitations.
(i) Operating activities
The
Company’s cash flow from operations decreased by $4.6 million
in the first quarter of 2020 compared to the first quarter of 2019.
As discussed below, the decrease in cash flow was primarily a
result of decreases in payments received for rent and maintenance
reserves and an increase in payments for maintenance, the effects
of which were partially offset by a decrease in payments made for
interest, income taxes and salaries, employee benefits and
professional fees, general and administrative
expenses.
(A)
Payments
for
rent
Receipts
from lessees for rent decreased by $4.3 million in the first
quarter of 2020 compared to the same period of 2019, primarily due
to delinquencies related to one of the Company’s customers,
the sale of an aircraft during each of the first and fourth
quarters of 2019, and the repossession of four aircraft during the
third quarter of 2019.
(B)
Payments
for
maintenance
reserves
Receipts
from lessees for maintenance reserves decreased by $0.6 million in
the first quarter of 2020 compared to the first quarter of 2019,
primarily due to the repossession of four aircraft during the third
quarter of 2019.
(C)
Payments
for
maintenance
Payments
made for maintenance increased by $0.3 million in the first quarter
of 2020 compared to the first quarter of 2019 as a result of
maintenance performed by the Company on an off-lease aircraft that
was sold during the 2020 period.
(D)
Payments for
interest
Payments
made for interest decreased by $0.3 million in the first quarter of
2020 compared to the first quarter of 2019 as a result of
non-payment of rent due in March for two aircraft subject to Nord
Term Loan financing which, in turn, resulted in a loan payment
default by the Company’s special-purpose subsidiary that owns
the aircraft. In April 2020, the Company drew funds on the letters
of credit that served as security deposits under the leases in
order to fund interest payments due to Nord.
(E)
Payments
for
income
taxes
Payments
made for income taxes decreased by $0.3 million in the first
quarter of 2020 compared to the first quarter of 2019 as a result
of a change in timing of such payments.
(F)
Payments
for
salaries,
employee benefits and professional fees, general and administrative
expenses
Payments
made for salaries, employee benefits and professional fees, general
and administrative expenses decreased by $0.3 million in the first
quarter of 2020 compared to the same period in 2019 primarily as a
result of lower payments for salaries, legal, accounting and office
rent.
(ii) Investing activities
The Company did not acquire any aircraft during the first quarters
of 2020 and 2019. During the same periods, the Company received net
cash of $3.1 million and $2.8 million, respectively, from asset
sales.
(iii) Financing activities
During the first quarters of 2020 and 2019, the Company borrowed
$0.4 million, in the form of paid-in-kind interest that was added
to the outstanding principal balance, and $5.1 million,
respectively, under the MUFG Credit Facility. During the same
periods, the Company repaid $1.2 million and $33.8 million,
respectively, of its total outstanding debt under the MUFG Credit
Facility. Such repayments were funded by excess cash flow, the sale
of assets and, in the 2019 period, a portion of the $44.3 million
in proceeds from the Nord Loans. During the first quarters of 2020
and 2019, the Company’s special-purpose entities repaid $0.7
million and $9.2 million, respectively, of UK LLC SPE Financing.
During 2019, the Company also repaid $1.6 million of principal
under the Nord Loans. During the first quarters of 2020 and 2019,
the Company paid $0.1 million and $5.1 million, respectively, for
debt issuance and amendment fees.
(iv) Off balance sheet arrangements
The Company has no material off -balance sheet
arrangements.
Critical Accounting Policies, Judgments and Estimates
The Company’s discussion and analysis of its financial
condition and results of operations are based upon the condensed
consolidated financial statements included in this report, 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 and
liabilities, revenues and expenses, and the related disclosure of
contingent assets and liabilities at the date of the financial
statements or during the applicable reporting period. In the event
that actual results differ from these estimates or the Company
adjusts these estimates in future periods, the Company’s
operating results and financial position could be materially
affected. For a further discussion of Critical Accounting Policies,
Judgments and Estimates, refer to Note 1 to the Company’s
condensed consolidated
financial statements in this report
and the Company’s consolidated financial statements in the
2019 Annual Report.
Outlook
MUFG Indebtedness.
As discussed in
Overview
and
Liquidity and
Capital Resources
, the Company, with the assistance of B.
Riley FBR as the Company’s investment banking advisor, in May
2020, entered into an amendment and restatement of its loan
agreement with the MUFG Lenders to convert the MUFG Indebtedness
from a revolving credit facility into a term loan facility. The
Company’s future financial condition and prospects are now
almost wholly dependent on two critical factors: (i) the
Company’s ability to maintain compliance with such MUFG
Indebtedness and achieve the milestones set forth thereunder to
repay and/or refinance such indebtedness and (ii) the
Company’s ability to obtain new debt and/or equity capital to
fund its asset growth. If the Company is not able to satisfy these
conditions, the Company’s financial condition and liquidity
would be materially adversely affected and its ability to continue
long-term operations could be materially jeopardized.
The
MUFG Loan provides for certain required milestones that the Company
is required to achieve toward an ultimate strategic corporate
transaction, asset sale, or refinancing transaction, or a
combination thereof that will enable repayment of the term loan
indebtedness by August 15, 2020. The first milestone, submission of
indications of interest from third parties acceptable for such a
strategic transaction has been met. The next milestone,
obtaining a
fully-executed (tentative or generally non-binding) agreement on
the terms and conditions for a Strategic Alternative, must be met
by June 29, 2020.
Nord Loan Default
.
As discussed in
Overview
and
Liquidity and Capital Resources
, due to
nonpayment of quarterly lease payments due on March 17, 2020 by the
lessee of two aircraft, and the corresponding Nord Loan payment
default by the Company’s special-purpose subsidiary
borrowers, an event of default has occurred under the Nord Loans
for each of those subsidiaries. The lease payment default by the
lessee, which is a well-established major regional European carrier
that has been consistently in compliance with its lease obligations
over the history of its lease with the Company, was a direct result
of the COVID-19 pandemic and the catastrophic impact of the
pandemic and the ensuing governmental response on the airline
industry. The Company covered a portion of the defaulted payment by
collecting on the letters of credit that acted as a security
deposit under the Lease. The lessee has since replaced the letters
of credit and, with Nord’s consent, has entered into a
workout agreement with the Company to pay the remaining balance of
its quarterly payment with its quarterly rent payment due in June
2020 . The Company used the letter of credit proceeds to cover the
interest payments due under the Nord Loans and its swap obligations
under the interest, but still is in default of the principal
portion of the March quarterly payment. The Company anticipates
that Nord will not exercise any default remedies under the Nord
Loan, so long as the lessee complies with the workout agreement
which will allow the Company to return to compliance with its Nord
Loan payment obligations once the June 2020 quarterly and deferred
payments are received.
COVID-19 Pandemic
. As discussed
below, in
Factors that May Affect Future
Results and Liquidity -- Impact of COVID-19
Pandemic
, the COVID-19 pandemic
has had and will continue to have a significant impact on the
Company’s financial circumstances mainly due to the impact on
the Company’s primary customers, regional airlines. The
COVID-19 pandemic has resulted in a loss of revenue for such
customers. This in turn has caused four of the Company’s
eight customers to make requests for lease payment concessions
and/or deferrals from the Company. The Company has so far been able
to reach accommodations with its lenders to allow the Company with
certain of its lessees to keep its leases with such lessees intact
while giving such lessees short-term deferrals on lease
obligations. If the financial fallout from the COVID-19 pandemic
continues, and the Company receives additional requests from
lessees for further concessions, then the Company may not be able
to gain the agreement of its lenders for further corresponding
concessions under its debt financings. If that occurs, then the
Company may be required to terminate such leases and attempt to
resell or release such assets, or the lenders themselves may
foreclose upon such assets, and take possession of such assets as a
remedy for default under the Company’s debt agreements.
Beyond this short-term effect of the COVID-19 pandemic, there will
be a medium-term effect on the Company through the lowered demand
for aircraft capacity due to governmental health and safety
protocols, shelter-in-place restrictions, passenger appetite for
travel and discretionary spending. The onset of the COVID-19
pandemic reduced passenger air travel to a small fraction of what
it was in prior years. This in turn has reduced the airlines’
need for aircraft capacity, resulting in a current excess supply of
aircraft relative to demand for leased aircraft such as those owned
by the Company. Some airlines may be forced to cease operations,
which will further exacerbate the oversupply of aircraft for lease
or sale. Even if the global economy quickly rebounds to
pre-COVID-19 levels, the Company anticipates that it may take much
longer for passenger air travel and demand for aircraft capacity to
return to such levels and then grow beyond such levels that
additional aircraft capacity is required, and uncertainties in our
industry may prevent us from accessing the equity or debt capital
markets on attractive terms or at all for a period of time, which
could have an adverse effect on our liquidity position. To the
extent that the Company is able to retain its aircraft on lease
with lessees during this recovery period, this oversupply in the
medium-term may not have a significant impact on the
Company’s financial circumstances, other than a potential
reduction in appraised values of the Company’s portfolio when
it receives its periodic appraisals. If, however, at the time that
the Company is required to repossess an aircraft upon termination
or expiration of its lease, demand for aircraft for lease or
purchase is still depressed, then the Company may experience
substantial difficulty in locating a new lessee or purchaser for
such aircraft. On the other hand, the depressed valuations for
aircraft could result in substantial opportunities to acquire
assets at discounted prices. If the Company is able to successfully
weather the impact of the pandemic and refinance its MUFG
Indebtedness and then obtain new sources of capital for acquisition
funding, the post-COVID-19 recovery may present the Company with a
good supply of favorable asset acquisition
opportunities.
Factors that May Affect Future Results and Liquidity
The
Company’s business, financial condition, results of
operations, liquidity, prospects and reputation could be affected
by a number of factors. In addition to matters discussed elsewhere
in this discussion, the Company believes the following are the most
significant factors that may impact the Company; however,
additional or other factors not presently known to the Company or
that management presently deems immaterial could also impact the
Company and its performance and liquidity.
Impact of COVID-19 Pandemic
.
The ongoing COVID-19 pandemic has had an overwhelming adverse
effect on the Company during the first quarter of 2020, as it has
had on all forms of transportation globally, but most acutely for
the airline industry. The combined effect of fear of infection
during air travel, quarantines, and international and domestic
travel restrictions has caused a dramatic decrease in passenger
loads in all areas of the world, not just in those countries with
active clusters of COVID-19, as well as in airline ticket net
bookings (
i.e.
, bookings made less bookings canceled) of
flights. This has led to significant cash flow issues for airlines,
including some of the Company’s customers, and some airlines
may be unable to timely meet their obligations under their lease
obligations with the Company. For example, the Company has
permitted one customer, which leases two regional jet aircraft, to
defer quarterly payment of March 2020 rent to June 2020, and the
Company has permitted another customer to reduce the amounts due in
April, May and June 2020. In addition, the Company and two other
customers, each of which leases an aircraft subject to a sales-type
lease, are discussing remedies regarding non-payment of a portion
of the rent due during the first quarter of 2020. Since the
Company’s aircraft are financed with debt, rent payments fund
the Company’s repayment of debt obligations, and any default
under the leases by lessees will generally lead to a default by the
Company under its loan obligations, and require the lender and the
Company to agree to a financial workout with respect to such debt
obligations. The Company has thus far been able to achieve such
accommodations from its lenders with respect to lessees that have
been unable to remain current in their obligations, but there is no
assurance that if such lessees do not return to compliance in the
near term, or other lessees who are now current in their
obligations fall out of compliance, that the Company will be able
to obtain concessions or a workout from its lenders with respect to
the Company’s obligations under its debt agreements. Any
significant nonpayment or late payment of lease payments by a
significant lessee or combination of lessees could in turn impose
limits on the Company’s ability to fund its ongoing
operations as well as cause new defaults under the Company’s
debt obligations, which in turn could lead to an immediate
acceleration of debt and foreclosure upon the Company's assets. If
this were to occur, we may be prevented from accessing the equity
or debt capital markets on attractive terms or at all for a period
of time, given the volatility in securities and financial markets
caused by the COVID-19 pandemic. Furthermore, for the duration of
the pandemic and a period of financial recovery thereafter, sale
transactions are likely to be curtailed entirely or delayed while
the industry returns to financial stability, which could impact the
Company’s ability to implement any aspects of its
Recapitalization Plan that require disposition of its
assets.
Noncompliance with MUFG Indebtedness.
The Company’s
primary acquisition financing had been the MUFG Credit Facility,
which was secured by a blanket lien on all assets of the Company,
including its ownership interests in the Nord Loan-financed
special-purpose
subsidiaries
.
The
Company converted the MUFG Credit Facility into a term loan on May
1, 2020.
If the Company fails to comply with any of the new
MUFG Indebtedness requirements, including achievement of certain
milestones with respect to consummation of a strategic alternative
that would enable repayment of the MUFG Indebtedness in the
timeframes required under the MUFG Loan Agreement, the MUFG
Lenders
can
declare a default and accelerate the indebtedness and foreclose
upon the Company’s assets.
Nord Payment Default.
As discussed in
Overview
and
Liquidity and Capital Resources
, due to
nonpayment of quarterly lease payments due on March 17, 2020 by the
lessee of two aircraft and the corresponding Nord Loan payment
default by the Company’s special-purpose subsidiary
borrowers, an event of default has occurred under the Nord Loans
for each of those subsidiaries. The parent company is not in a
financial position to cure such default and is prohibited from
doing so in any event under the MUFG Indebtedness. The Company
covered a portion of the defaulted payment by collecting on the
letters of credit that acted as security deposits under the leases.
The lessee has since replaced the letters of credit and, with
Nord’s consent, has entered into a workout agreement with the
Company to pay the remaining balance of its March payment with its
quarterly rent payment due in June 2020. The Company used the
letter of credit proceeds to cover the interest payments due under
the Nord Loans and its swap obligations under the interest, but
still is in default of the principal portion of the March quarterly
payment. If the Nord Loan default is not eventually cured through
the lessee’s full compliance with its lease obligations which
would allow the Company to return to compliance with the Nord Loan
obligations, the Company may need to exercise repossession remedies
with its lessee, which would require the cooperation of Nord to
accommodate the Company under the Nord Loan, while the Company
attempts to remarket the repossessed aircraft or refinance the Nord
Loan. Failure to reach such an accommodation could lead to
repossession of all five aircraft owned by the Company’s
special-purpose subsidiaries, and may have a significant impact on
the Company’s financial circumstances, including the
Company’s ability to consummate a strategic alternative as
required under the MUFG Loan.
Availability of Financing.
T
he Company converted the MUFG Credit
Facility into the MUFG Loan, and that debt facility is no longer
available to
fund acquisition of aircraft assets. The
Company will need to find a new source of acquisition funding,
either through equity investment proceeds, a new revolving credit
facility, or new asset-specific financing, or a combination of any
of the three. Until the final Recapitalization Plan is executed the
Company will not have any means to acquire new aircraft assets.
There can be no assurance that the Company will be able to obtain
such additional capital when needed, in the amounts desired or on
favorable terms.
General Economic Conditions and Lowered Demand for Travel.
Because of the international nature of the Company’s
business, a downturn in the health of the global economy could have
a negative impact on the Company’s financial results, as
demand for air travel generally decreases during slow or no-growth
periods, and thus demand by airlines for aircraft capacity is also
decreased. As discussed above, the COVID-19 pandemic has caused
significant disruptions to the global supply chain, the stock
market and consumer and business-to-business commerce, the effects
of which may endure well beyond the current pandemic’s life
cycle and result in low or negative growth in future periods.
According to current reports, scheduled airline flights in June
2020 are a fraction of the number compared to the same period in
2019. While lower demand for air travel may actually lead to
business opportunities as airlines turn to smaller aircraft to
right-size capacity, it also presents potential challenges for the
Company as it may impact the values of aircraft in the
Company’s portfolio, lower market rents for aircraft that are
being offered for lease by the Company, cause Company customers to
be unable to meet their lease obligations, or reduce demand by
airlines that would be potential customers for additional or
replacement regional aircraft offered by the Company.
Because
the Company’s portfolio is not globally diversified and is
focused on North America and Europe, a localized downturn in one of
these two regions in which the Company leases assets could have a
significant adverse impact on the Company. Each of these regions
has seen a significant impact from the COVID-19 pandemic and may be
heading into recession due to both COVID-19 effects and normal
business cycles. The Company’s significant sources of
operating lease revenue by region are summarized in
Fleet Summary – Assets Held for
Lease
.
A
downturn in the Chinese domestic or export economy that reduces
demand for imported raw materials, such as an extended period of
economic slowdown associated with the COVID-19 pandemic, could have
a significant negative longer-term impact on the demand for
business and regional aircraft in developing countries, including
in some of the markets in which the Company seeks to do
business.
Furthermore,
instability arising from new U.S. sanctions or trade wars against
U.S. trading partners, and the global reaction to such sanctions,
or due to other factors, could have a negative impact on the
Company’s customers located in regions affected by such
sanctions.
Also,
the withdrawal of the United Kingdom (“UK”) from the
European Union, known as “Brexit,” could threaten
“open-sky” policies under which UK-based carriers
operate throughout the European Union, and European Union-based
carriers operate between the UK and other European Union countries.
Losing open-sky flight rights could have a significant negative
impact on the health of the Company’s European lessees and,
as a result, the financial performance and condition of the
Company.
If
international conflicts erupt into military hostilities, heightened
visa requirements make international travel more difficult,
terrorist attacks involving aircraft or airports occur, or a major
flu or pandemic outbreak occurs, passengers may avoid air travel
altogether, and global air travel worldwide could be significantly
affected. Any such occurrence would have an adverse impact on many
of the Company’s customers.
Airline
reductions in capacity in response to lower passenger loads can
result in reduced demand for aircraft and aircraft engines and a
corresponding decrease in market lease rental rates and aircraft
values. This reduced market value could affect the Company’s
results if the market value of an asset or assets in the
Company’s portfolio falls below carrying value, and the
Company determines that a write-down of the value is appropriate.
Furthermore, if older, expiring leases are replaced with leases at
decreased lease rates, the lease revenue from the Company’s
existing portfolio is likely to decline, with the magnitude of the
decline dependent on the length of the downturn and the depth of
the decline in market rents.
Nord Loan Risks
. The special-purpose subsidiaries that own
the five aircraft serving as collateral for the Nord Loans are the
named borrowers, and each Nord Loan is secured by the corresponding
aircraft owned by the applicable LLC Borrower. AeroCentury, as the
parent corporation of each LLC Borrower, is not a party to the Term
Loan agreements, but has entered into agreements with lessees of
the LLC Borrowers to guarantee certain obligations to such lessees
under each lessee’s lease agreement with an LLC Borrower and
with Nord to guarantee certain representations, warranties and
covenants delivered by the LLC Borrowers to the Nord in connection
with the refinancing transaction. As a result, although the Term
Loans are non-recourse to AeroCentury, AeroCentury could become
directly responsible for the LLC Borrowers’ obligations under
the Term Loans and the related lease agreements pursuant to these
guaranty arrangements. Moreover, any noncompliance under the Term
Loans by any LLC Borrower could negatively affect the liquidity,
aircraft portfolio and reputation of the Company as a
whole.
The
required payments under each Nord Loan are expected to be funded by
the operating lease rental revenue received from the lessee of and
sales proceeds from the corresponding aircraft, and each LLC
Borrower’s continued compliance with its Nord Loan will
depend upon the lessee’s compliance with its lease payment
obligations. One of the lessees of two aircraft securing the Nord
Loans defaulted on its March quarterly lease payment obligations,
but the LLC Borrowers, with Nord’s consent, each agreed to
defer the unpaid lease payment obligation until June 2020. Failure
by that lessee to return to compliance in June, or if there is a
payment default by any lessee of aircraft securing the Nord Loans
to make timely payments could result in a default under the
applicable Nord Loan and could result in an acceleration of all
Nord Loan indebtedness of the applicable LLC Borrower or
foreclosure by Nord on all aircraft securing the Nord Loan.
Furthermore, the exercise of any remedy by Nord upon a default by
any LLC Borrower under the Nord Loan would also constitute a
default under the MUFG Indebtedness, and therefore any failure by
an LLC Borrower’s lessee to comply with its lease payment
obligations or any other compliance failure by an LLC Borrower
under its Term Loan could result in the Company’s
noncompliance under the MUFG Indebtedness, which could have a
material negative adverse effect on the Company’s liquidity
and capital resources and lead to foreclosure on the aircraft
assets securing the MUFG Indebtedness.
Nord Swap Hedging Dedesignation.
In March 2020, the Company
determined that it was no longer probable that the interest
payments related to the Nord Loans would occur; consequently, the
swaps were dedesignated and no longer were eligible for hedge
accounting. As a result of dedesignation, future changes in market
value will be recognized in ordinary income and AOCI will be
reclassified to ordinary income as the forecasted transactions
occur. If a default on the underlying debt related to such swaps
were to occur, the counterparty to the swaps could terminate the
swaps and demand immediate payment of the termination value of such
swaps, which the Company or the related subsidiaries may not have
the funds to pay.
Lessee Credit Risk.
The Company carefully evaluates the
credit risk of each customer and attempts to obtain a third-party
guaranty, letters of credit or other credit enhancements, if it
deems them necessary, in addition to customary security deposits.
There can be no assurance, however, that such enhancements will be
available, or that, if obtained, they will fully protect the
Company from losses resulting from a lessee default or
bankruptcy.
If a
U.S. lessee defaults under a lease and seeks protection under
Chapter 11 of the United States Bankruptcy Code, Section 1110 of
the Bankruptcy Code would automatically prevent the Company from
exercising any remedies against such lessee for a period of 60
days. After the 60-day period had passed, the lessee would have to
agree to perform the lease obligations and cure any defaults, or
the Company would have the right to repossess the equipment.
However, this procedure under the Bankruptcy Code has been subject
to significant litigation, and it is possible that the
Company’s enforcement rights would be further adversely
affected in the event of a bankruptcy filing by a defaulting
lessee.
Lessees
located in low-growth or no-growth areas of the world carry
heightened risk of lessee default. The Company has had customers
that have experienced significant financial difficulties, become
insolvent, or have entered bankruptcy proceedings, including the
European regional airline that ceased operations and declared
bankruptcy after the Company terminated its leases and repossessed
the four aircraft subject to the leases in the third quarter of
2019. A customer’s insolvency or bankruptcy usually results
in the Company’s total loss of the receivables from that
customer, as well as additional costs in order to repossess and, in
some cases, repair the aircraft leased by the customer. The Company
closely monitors the performance of all of its lessees and its risk
exposure to any lessee that may be facing financial difficulties,
in order to guide decisions with respect to such lessee in an
attempt to mitigate losses in the event the lessee is unable to
meet or rejects its lease obligations. There can be no assurance,
however, that additional customers will not become insolvent, file
for bankruptcy or otherwise fail to perform their lease
obligations, or that the Company will be able to mitigate any of
the resultant losses.
It is
possible that the Company may enter into deferral agreements for
overdue lessee obligations. When a customer requests a deferral of
lease obligations, the Company evaluates the lessee’s
financial plan, the likelihood that the lessee can remain a viable
carrier, and whether the deferral is likely to be repaid according
to the agreed schedule. The Company may elect to record the
deferred rent and reserves payments from the lessee on a cash
basis, which could have a material effect on the Company’s
financial results in the applicable periods.
Concentration of Lessees.
For the quarter ended March 31,
2020, the Company’s two largest customers accounted for
approximately 30% and 22% of the Company’s monthly operating
lease revenue. A lease default by or collection problem with one or
a combination of any of the Company’s customers could have a
disproportionately negative impact on the Company’s financial
results, and, therefore, the Company’s operating results are
especially sensitive to any negative developments with respect to
these customers in terms of lease compliance.
Ownership Risks.
The Company’s leases typically are
for a period shorter than the entire, anticipated, remaining useful
life of the leased assets. As a result, the Company’s
recovery of its investment and realization of its expected yield in
such a leased asset is dependent upon the Company’s ability
to profitably re-lease or sell the asset following the expiration
of the lease. This ability is affected by worldwide economic
conditions, general aircraft market conditions, regulatory changes,
changes in the supply or cost of aircraft equipment, and
technological developments that may cause the asset to become
obsolete. If the Company is unable to remarket its assets on
favorable terms when the leases for such assets expire, the
Company’s financial condition, cash flow, ability to service
debt, and results of operations could be adversely
affected.
The
market for used aircraft equipment has been cyclical, and generally
reflects economic conditions and the strength of the travel and
transportation industry. The demand for and value of many types of
used aircraft in the recent past has been depressed by such factors
as airline financial difficulties, airline consolidations, the
number of new aircraft on order, an excess supply of newly
manufactured aircraft or used aircraft coming off lease, as well as
introduction of new aircraft models and types that may be more
technologically advanced, more fuel efficient and/or less costly to
maintain and operate. Values may also increase or decrease for
certain aircraft types that become more or less desirable based on
market conditions and changing airline capacity. Declines in the
value of the Company’s aircraft and any resulting decline in
market demand for these aircraft could materially adversely affect
the Company’s revenues, performance and
liquidity.
In
addition, a successful investment in an asset subject to an
operating lease depends in part upon having the asset returned by
the lessee in the condition as required under the lease. Each
operating lease obligates a customer to return an asset to the
Company in a specified condition, generally in a condition that
will allow the aircraft to be readily re-leased to a new lessee,
and/or pay an economic settlement for redelivery that is not in
compliance with such specified conditions. The Company strives to
ensure this result through onsite management during the return
process. However, if a lessee becomes insolvent during the term of
its lease and the Company has to repossess the asset, it is
unlikely that the lessee would have the financial ability to meet
these return obligations. In addition, if a lessee files for
bankruptcy and rejects the aircraft lease, the lessee would be
required to return the aircraft but would be relieved from further
lease obligations, including return conditions specified in the
lease. In either case, it is likely that the Company would be
required to expend funds in excess of any maintenance reserves
collected to return the asset to a remarketable
condition.
Several
of the Company’s leases do not require payment of monthly
maintenance reserves, which serve as the lessee’s advance
payment for its future repair and maintenance obligations. If
repossession due to lessee default or bankruptcy occurred under
such a lease, the Company would need to pay the costs of
unperformed repair and maintenance under the applicable lease and
would likely incur an unanticipated expense in order to re-lease or
sell the asset.
Furthermore,
the occurrence of unexpected adverse changes that impact the
Company’s estimates of expected cash flow from an asset could
result in an asset impairment charge against the Company’s
earnings. The Company periodically reviews long-term assets for
impairment, particularly when events or changes in circumstances
indicate the carrying value of an asset may not be recoverable. An
impairment charge is recorded when the carrying amount of an asset
is estimated to be not recoverable and exceeds its fair value. The
Company recorded impairment charges as recently as the fourth
quarter of 2019 and the first quarter of 2020 and may be required
to record asset impairment charges in the future as a result of the
impact of COVID-19 on the aviation industry, prolonged weak
economic environment, challenging market conditions in the airline
industry, events related to particular lessees, assets or asset
types or other factors affecting the value of aircraft or
engines.
Interest Rate Risk.
As a result of the termination of the
MUFG Swaps, the amount of interest paid by the Company under the
MUFG Indebtedness will fluctuate depending on prevailing interest
rates. Consequently, interest rate increases could materially
increase the Company’s interest payment obligations under its
MUFG Indebtedness and thus could have a material adverse effect on
the Company’s liquidity and financial condition. Lease rates
typically, but not always, move over time with interest rates, but
market demand and numerous other asset-specific factors also affect
lease rates. Because the Company’s typical lease rates are
fixed at lease origination, interest rate changes during the lease
term have no effect on existing lease rental payments. Therefore,
if interest rates rise significantly and there is relatively little
lease origination by the Company following such rate increases, the
Company could experience decreased net income as additional
interest expense outpaces revenue growth. Further, even if
significant lease origination occurs following such rate increases,
other contemporaneous aircraft market forces may result in lower or
flat rental rates, thereby decreasing net income.
Concentration of Aircraft Type.
Although the Company’s
aircraft portfolio is currently focused on a small number of
aircraft types and models relative to the variety of aircraft used
in the commercial air carrier market, most of these types are used
extensively by regional airlines. A change in the desirability and
availability of any of the particular types and models of aircraft
owned by the Company could affect valuations and future rental
revenues of such aircraft, and would have a disproportionately
significant impact on the Company’s portfolio value. In
addition, the Company is dependent on the third-party companies
that manufacture and provide service for the aircraft types in the
Company’s portfolio. The Company has no control over these
companies, and they could decide to curtail or discontinue
production of or service for these aircraft types at any time or
significantly increase their costs, which could negatively impact
the Company’s prospects and performance. These effects would
diminish if the Company acquires assets of other types. Conversely,
acquisition of additional aircraft of the types currently owned by
the Company will increase the Company’s risks related to its
concentration of those aircraft types.
Competition.
The aircraft leasing industry is highly
competitive. The Company competes with other leasing companies,
banks, financial institutions, private equity firms, aircraft
leasing syndicates, aircraft manufacturers, distributors, airlines
and aircraft operators, equipment managers, equipment leasing
programs and other parties engaged in leasing, managing or
remarketing aircraft. Many of these competitors have longer
operating histories, more experience, larger customer bases, more
expansive brand recognition, deeper market penetration and
significantly greater financial resources.
Competition
in the Company's market niche of regional aircraft has increased
significantly recently as a result of increased focus on regional
air carriers by competitors who have traditionally neglected this
market, new entrants to the acquisition and leasing market and
consolidation of certain competitors. This can create upward
pressure on acquisition prices for many of the aircraft types that
the Company has targeted to buy and, at the same time, create
downward pressure on lease rates, resulting in lower revenues and
margins for the Company.
Competitors
in the niche that have lower costs of capital than the Company
could gain have a significant advantage over the Company. Lower
capital costs allow competitors to offer lower lease rates to
carriers and/or the prices the competitor is able to pay for a
leased asset. Due to the Company’s recent defaults under its
MUFG Indebtedness, locating debt financing in line with the
Company’s historical cost of capital in the short term could
be difficult thereby exacerbating the competitive disadvantage of
the Company with respect to cost of capital, until the Company
re-establishes its financial stability following execution of its
Recapitalization Plan.
Risks Related to Regional Air Carriers.
The Company’s
continued focus on its customer base of regional air carriers
subjects the Company to certain risks. Many regional airlines rely
heavily or even exclusively on a code-share or other contractual
relationship with a major carrier for revenue, and can face
financial difficulty or failure if the major carrier terminates or
fails to perform under the relationship or files for bankruptcy or
becomes insolvent. Some regional carriers may depend on contractual
arrangements with industrial customers such as mining or oil
companies, or franchises from governmental agencies that provide
subsidies for operating essential air routes, which may be subject
to termination or cancellation on short notice. Furthermore, many
lessees in the regional air carrier market are start-up,
low-capital, and/or low-margin operators. A current concern for
regional air carriers is the supply of qualified pilots. Due to
recently imposed regulations of the U.S. Federal Aviation
Administration requiring a higher minimum number of hours to
qualify as a commercial passenger pilot, many regional airlines
have had difficulty meeting their business plans for expansion.
This could in turn affect demand for the aircraft types in the
Company’s portfolio and the Company’s business,
performance and liquidity.
International Risks.
The Company leases some assets in
overseas markets. Leases with foreign lessees, however, may present
different risks than those with domestic lessees.
A lease
with a foreign lessee is subject to risks related to the economy of
the country or region in which such lessee is located, which may be
weaker or less stable than the U.S. economy. An economic downturn
in a particular country or region may impact a foreign
lessee’s ability to make lease payments, even if the U.S. and
other foreign economies remain strong and stable.
The
Company is subject to certain risks related to currency conversion
fluctuations. The Company currently has one customer with rent
obligations payable in Euros, and the Company may, from time to
time, agree to additional leases that permit payment in foreign
currency, which would subject such lease revenue to monetary risk
due to currency exchange rate fluctuations. During the periods
covered by this report, the Company considers the estimated effect
on its revenues of foreign currency exchange rate fluctuations to
be immaterial; however, the impact of these fluctuations may
increase in future periods if additional rent obligations become
payable in foreign currencies.
Even
with U.S. dollar-denominated lease payment provisions, the Company
could still be negatively affected by a devaluation of a foreign
lessee’s local currency relative to the U.S. dollar, which
would make it more difficult for the lessee to meet its U.S.
dollar-denominated payments and increase the risk of default of
that lessee, particularly if its revenue is primarily derived in
its local currency.
Foreign
lessees that operate internationally may also face restrictions on
repatriating foreign revenue to their home country. This could
create a cash flow crisis for an otherwise profitable carrier,
affecting its ability to meet its lease obligations. Foreign
lessees may also face restrictions on payment obligations to
foreign vendors, including the Company, which may affect their
ability to timely meet lease obligations to the
Company.
Foreign
lessees are not subject to U.S. bankruptcy laws, although there may
be debtor protection similar to U.S. bankruptcy laws available in
some jurisdictions. Certain countries do not have a central
registration or recording system which can be used to locally
record the Company’s interest in equipment and related
leases. This could make it more difficult for the Company to
recover an aircraft in the event of a default by a foreign lessee.
In any event, collection and enforcement may be more difficult and
complicated in foreign countries.
Ownership
of a leased asset operating in a foreign country and/or by a
foreign carrier may subject the Company to additional tax
liabilities that are not present with aircraft operated in the
United States. Depending on the jurisdiction, laws governing such
tax liabilities may be complex, not well formed or not uniformly
enforced. In such jurisdictions, the Company may decide to take an
uncertain tax position based on the best advice of the local tax
experts it engages, which position may be challenged by the taxing
authority. Any such challenge could result in increased tax
obligations in these jurisdictions going forward or assessments of
liability by the taxing authority, in which case the Company may be
required to pay penalties and interest on the assessed amount that
would not give rise to a corresponding foreign tax credit on the
Company’s U.S. tax returns.
The Trump administration and members of the U.S. Congress have made
public statements about significant changes in U.S. trade policy
and have taken certain actions that materially impact U.S. trade,
including terminating, renegotiating or otherwise modifying U.S.
trade agreements with countries in various regions and imposing
tariffs on certain goods imported into the United States. These
changes in U.S. trade policy have triggered and could continue to
trigger retaliatory actions by affected countries, including China,
resulting in “trade wars” with these countries. These
trade wars could generally increase the cost of aircraft, aircraft
and engine components and other goods regularly imported by the
Company’s customers, thereby increasing costs of operations
for its air carrier customers that are located in the affected
countries. The increased costs could materially and adversely
impact the financial health of affected air carriers, which in turn
could have a negative impact on the Company’s business
opportunities, and if the Company’s lessees are significantly
affected, could have a direct impact on the Company’s
financial results. Furthermore, the Company often incurs
maintenance or repair expenses not covered by lessees in foreign
countries, which expenses could increase if such countries are
affected by such a trade war.
Level of Portfolio Diversification.
The Company intends to
continue to focus solely on regional aircraft.. Assuming a
successful implementation of its Recapitalization Plan, the Company
may continue to seek acquisition opportunities for new types and
models of aircraft used by the Company’s targeted customer
base of regional air carriers. Acquisition of aircraft types not
previously owned by the Company entails greater ownership risk due
to the Company’s lack of experience managing those assets and
the potentially different types of customers that may lease them.
Conversely, the Company’s focus
on a more limited set of aircraft
types and solely on regional aircraft subjects the Company to risks
that disproportionately impact these aircraft markets, which are
described elsewhere in this discussion. As a result, the level of
asset and market diversification the Company chooses to pursue
could have a significant impact on its performance and
results.
Transition to LIBOR Alternative Reference Rate.
The London Inter-bank Offered Rate
(“LIBOR”) represents the interest rate at which banks
offer to lend funds to one another in the international interbank
market for short-term loans, and is the index rate for the Nord
Loan
s
of the LLC Borrower
subsidiaries. Beginning in 2008, concerns were expressed that some
of the member banks surveyed by the British Bankers’
Association in connection with the calculation of LIBOR rates may
have been under-reporting or otherwise manipulating the interbank
lending rates applicable to them. Regulators and law enforcement
agencies from a number of governments have conducted investigations
relating to the calculation of LIBOR across a range of maturities
and currencies. If manipulation of LIBOR or another inter-bank
lending rate occurred, it may have resulted in that rate being
artificially lower (or higher) than it otherwise would have been.
Responsibility for the calculation of LIBOR was transferred to ICE
Benchmark Administration Limited, as independent LIBOR
administrator, effective February 1, 2014. On July 27, 2017, the
U.K. Financial Conduct Authority announced that it will no longer
persuade or compel banks to submit rates for the calculation of
LIBOR rates after 2021 (the “July 27th Announcement”).
The July 27th Announcement indicates that the continuation of LIBOR
on the current basis cannot and will not be guaranteed after 2021.
Consequently, at this time, it is not possible to predict whether
and to what extent banks will continue to provide LIBOR submissions
to the administrator of LIBOR or whether any additional reforms to
LIBOR may be enacted in the United Kingdom or elsewhere. Similarly,
it is not possible to predict whether LIBOR will continue to be
viewed as an acceptable benchmark, what rate or rates may become
accepted alternatives to LIBOR or the effect of any such changes in
views or alternatives on the value of LIBOR-linked
securities.
Although the Financial Stability Oversight Council has recommended
a transition to an alternative reference rate in the event LIBOR is
no longer available after 2021, which could affect the
Company’s
indebtedness,
such plans are still in development and, if
enacted, could present challenges. Moreover, contracts linked to
LIBOR are vast in number and value, are intertwined with numerous
financial products and services, and have diverse parties. The
downstream effect of unwinding or transitioning such contracts
could cause instability and negatively impact the financial markets
and individual institutions. The uncertainty surrounding the
sustainability of LIBOR more generally could undermine market
integrity and threaten individual financial institutions and the
U.S. financial system more broadly.
With respect to the Company’s indebtedness,
if any of its
indebtedness remains based on LIBOR when LIBOR is no longer
published after 2021
and
the
Company and its lenders
are unable
to agree on a mutually acceptable LIBOR
alternative
for any outstanding
debt indexed to
LIBOR
,
the debt
agreements could
be terminated and repayment of the
indebtedness
could be
accelerated
to become
immediately due and payable to the
lender
. This
outcome
could also lead to substantial
breakage fees being payable by the Company in addition to the
outstanding principal of such debt.
If any of these risks
were to occur, the Company could experience material cash
shortfalls or be forced into bankruptcy or
liquidation.
Swap Counterparty Credit Risks.
AeroCentury
and its LLC Borrowers have entered into certain
interest rate swaps to hedge the interest rate risk
associated
the Nord Loan
indebtedness. These interest rate swap agreements
effectively convert the variable interest
rate
payments under the LLC Borrower Term Loan
indebtedness to fixed rate
payments
. If an interest rate swap counterparty cannot
perform under the terms of the interest rate swap due to
insolvency, bankruptcy or other reasons, the Company would not
receive payments due from the counterparty under that interest rate
swap
agreement, in which case
,
depending on interest rate conditions at the time of such default,
the Company
could be
unable to
meet its variable interest rate debt obligations
and may
default under one or more loan
agreements. In such a case,
the debt under the loan
agreement could be accelerated and become immediately due and
payable,
the collateral securing the
loan indebtedness could be foreclosed upon, and/or the Company
might incur a loss on the fair market value of the interest rate
swap agreement.
Any such outcome could have a material
adverse effect on the Company’s performance, liquidity and
ability to continue operations.
Swap Breakage Fees.
To reduce
the amount of interest that accrues under its indebtedness, the
Company could choose to prepay certain amounts borrowed under such
loans. If the Company has hedged its variable
interest
rate indebtedness, in addition to
prepayment fees that might be payable to the lender
of
the underlying indebtedness, the
Company may also be obligated to pay certain swap breakage fees to
the interest rate swap counterparty in order to unwind the interest
rate swap
related to
the
indebtedness that is being prepaid. Thus,
the
Company’s
interest rate swaps
could reduce the economic benefit that the Company might otherwise
achieve through prepayment or could render an otherwise
advantageous debt prepayment uneconomical.
Government Regulation.
There are a number of areas in which
government regulation may result in costs to the Company. These
include aircraft registration safety requirements, required
equipment modifications, maximum aircraft age, and aircraft noise
requirements. Although it is contemplated that the burden and cost
of complying with such requirements will fall primarily upon
lessees, there can be no assurance that the cost will not fall on
the Company. Additionally, even if lessees are responsible for the
costs of complying with these requirements, changes to the
requirements to make them more stringent or otherwise increase
these costs could negatively impact the Company’s
customers’ businesses, which could result in nonperformance
under their lease agreements or decreased demand for the
Company’s aircraft. Furthermore, future government
regulations could cause the value of any noncomplying equipment
owned by the Company to decline substantially. Moreover, any
failure by the Company to comply with the government regulations
applicable to it could result in sanctions, fines or other
penalties, which could harm the Company’s reputation and
performance.
Casualties and Insurance Coverage.
The Company, as an owner
of transportation equipment, may be named in a suit claiming
damages for injuries or damage to property caused by its assets. As
a triple-net lessor, the Company is generally protected against
such claims, because the lessee would be responsible for, insure
against and indemnify the Company for such claims. A “triple
net lease” is a lease under which, in addition to monthly
rental payments, the lessee is generally responsible for the taxes,
insurance and maintenance and repair of the aircraft arising from
the use and operation of the aircraft during the term of the lease.
Although the United States Aviation Act may provide some additional
protection with respect to the Company’s aircraft assets, it
is unclear to what extent such statutory protection would be
available to the Company with respect to its assets that are
operated in foreign countries where the provisions of this law may
not apply.
The
Company’s leases generally require a lessee to insure against
likely risks of loss or damage to the leased asset and liability to
passengers and third parties pursuant to industry standard
insurance policies, and require lessees to provide insurance
certificates documenting the policy periods and coverage amounts.
The Company has adopted measures designed to ensure these insurance
policies continue to be maintained, including tracking receipt of
the insurance certificates, calendaring their expiration dates, and
reminding lessees of their obligations to maintain such insurance
and provide current insurance certificates to the Company if a
replacement certificate is not timely received prior to the
expiration of an existing certificate.
Despite
these requirements and procedures, there may be certain cases where
losses or liabilities are not entirely covered by the lessee or its
insurance. Although the Company believes the possibility of such an
event is remote, any such uninsured loss or liability, or insured
loss or liability for which insurance proceeds are inadequate,
might result in a loss of invested capital in and any profits
anticipated from the applicable aircraft, as well as potential
claims directly against the Company.
Compliance with Environmental Regulations.
Compliance with
environmental regulations may harm the Company’s business.
Many aspects of aircraft operations are subject to increasingly
stringent environmental regulations, and growing concerns about
climate change may result in the imposition by the U.S. and foreign
governments of additional regulation of carbon emissions, including
requirements to adopt technology to reduce the amount of carbon
emissions or imposing a fee or tax system on carbon emitters. Any
such regulation could be directed at the Company’s customers,
as operators of aircraft, at the Company, as an owner of aircraft,
and/or on the manufacturers of aircraft. Under the Company’s
triple-net lease arrangements, the Company would likely try to
shift responsibility for compliance to its lessees; however, it may
not be able to do so due to competitive or other market factors,
and there might be some compliance costs that the Company could not
pass through to its customers and would itself have to bear.
Although it is not expected that the costs of complying with
current environmental regulations will have a material adverse
effect on the Company’s financial position, results of
operations, or liquidity, there is no assurance that the costs of
complying with environmental regulations as amended or adopted in
the future will not have such an effect.
Cybersecurity Risks.
The Company believes that its main
vulnerabilities to a cyber-attack would be interruption of the
Company’s email communications internally and with third
parties, loss of customer and lease archives, and loss of document
sharing between the Company’s offices and remote workers.
Such an attack could temporarily impede the efficiency of the
Company’s operations; however, the Company believes that
sufficient replacement and backup mechanisms exist in the event of
such an interruption such that there would not be a material
adverse financial impact on the Company’s business. A
cyber-hacker could also gain access to and release proprietary
information of the Company, its customers, suppliers and employees
stored on the Company’s data network. Such a breach could
harm the Company’s reputation and result in competitive
disadvantages, litigation, lost revenues, additional costs, or
liability to third parties. While the Company believes that it has
sufficient cybersecurity measures in place commensurate with the
risks to the Company of a successful cyber-attack or breach of its
data security, its resources and technical sophistication may not
be adequate to prevent or adequately respond to and mitigate all
types of cyber-attacks.
Possible Volatility of Stock Price.
The market price of the
Company’s common stock is subject to fluctuations following
developments relating to the Company’s operating results,
changes in general conditions in the economy, the financial markets
or the airline industry, changes in accounting principles or tax
laws applicable to the Company or its lessees, or other
developments affecting the Company, its customers or its
competitors, or arising from other investor sentiment unknown to
the Company. Because the Company has a relatively small
capitalization of approximately 1.55 million shares outstanding,
there is a correspondingly limited amount of trading and float of
the Company’s shares. Consequently, the Company’s stock
price is more sensitive to a single large trade or a small number
of simultaneous trades along the same trend than a company with
larger capitalization and higher trading volume and float. This
stock price and trading volume volatility could limit the
Company’s ability to use its capital stock to raise capital,
if and when needed or desired, or as consideration for other types
of transactions, including strategic collaborations, investments or
acquisitions. Any such limitation could negatively affect the
Company’s performance, growth prospects and
liquidity.
Disclosure
under this item has been omitted pursuant to the rules of the SEC
that permit smaller reporting companies to omit such
information.
CEO and CFO Certifications.
Attached as exhibits to this
report
are certifications of the
Company’s Chief Executive Officer (the “CEO”) and
the Company’s Chief Financial Officer(the “CFO”),
which are required pursuant to Section 302 of the Sarbanes-Oxley
Act of 2002 (the “Section 302 Certifications”).
This
Item 4
includes
information concerning the evaluation of disclosure controls and
procedures referred to in the Section 302 Certifications and should
be read in conjunction with the Section 302 Certifications for a
more complete understanding of the topics
presented.
Evaluation of the Company’s Disclosure Controls and
Procedures.
Disclosure controls
and procedures (“Disclosure Controls”) are controls and
other procedures that are designed to ensure that information
required to be disclosed in the Company’s reports filed or
submitted under the Exchange Act, such as this
report
, is recorded, processed,
summarized and reported within the time periods specified in the
rules and forms of the
SEC
and
that such information is accumulated and communicated to the
Company’s management, including the CEO and CFO, as
appropriate, to allow timely decisions regarding required
disclosure.
In the
course of the review of the consolidated financial results of the
Company for the three months and nine months ended September 30,
2018, the Company identified a material weakness in its internal
control over financial reporting (“Internal Control”)
at June 30, 2018 related to the Company’s incorrect
accounting for management fees and acquisition fees associated with
the Management Agreement between JHC and the Company. A material
weakness is a deficiency, or combination of deficiencies, in
internal control over financial reporting, such that there is a
reasonable possibility that a material misstatement of the
Company’s annual or interim financial statements will not be
prevented or detected on a timely basis. Although the Company
implemented controls over identifying the proper accounting
treatment for the JHC acquisition and those controls operated as of
December 31, 2018, the Company’s tax review control did not
identify a complex component of the acquisition accounting,
resulting in an adjustment to the Company’s tax expense in
2018. Management has determined that this deficiency continues to
constitute a material weakness as of March 31, 2020. Management is
in the process of enhancing the tax review control related to
unusual transactions the Company may encounter.
The Company’s management, with the participation of the CEO
and CFO, evaluated the effectiveness of the Company’s
Disclosure Controls as of March 31, 2020. Based on this evaluation,
the CEO and CFO concluded that the Company’s Disclosure
Controls were not effective as of March 31, 2020 due to the
material weakness described above.
Changes in Internal Control.
No
change in the Company’s Internal Control occurred during the
fiscal quarter ended
March 31
, 2020
that has materially affected, or is reasonably
likely to materially affect, the Company’s Internal
Control.
Inherent Limitations of Disclosure Controls and Internal
Control.
In designing its
Disclosure Controls and Internal Control, the Company’s
management recognizes that any controls and procedures, no matter
how well-designed and operated, can provide only reasonable
assurance of achieving the desired control objectives. In addition,
the design of the Company’s controls and procedures must
reflect the fact that there are resource constraints, and
management necessarily applies its judgment in evaluating the
benefits of possible controls and procedures relative to their
costs. Because of these inherent limitations, the Company’s
Disclosure Controls and Internal Control may not prevent or detect
all instances of fraud, misstatements or other control issues. In
addition, projections of any evaluation of the effectiveness of
disclosure or internal controls to future periods are subject to
risks, including, among others, that controls may become inadequate
because of changes in conditions or that compliance with policies
or procedures may deteriorate.
Under
the Credit Facility agreement, the Company is not permitted to pay
dividends on any shares of its capital stock without the consent of
the MUFG Lenders.
|
Exhibit
Number
|
Description
|
|
10.1
|
|
|
10.2
|
|
|
31.1
|
|
|
31.2
|
|
|
32.1*
|
|
|
32.2*
|
|
|
101.INS
|
XBRL
Instance Document
|
|
101.SCH
|
XBRL
Schema Document
|
|
101.CAL
|
XBRL
Calculation Linkbase Document
|
|
101.LAB
|
XBRL
Label Linkbase Document
|
|
101.PRE
|
XBRL
Presentation Linkbase Document
|
|
101.DEF
|
XBRL
Definition Linkbase Document
|
* These
certificates are furnished to, but shall not be deemed to be filed
with, the SEC.
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of
1934, as amended, the registrant has duly caused this report to be
signed on its behalf by the undersigned thereunto duly
authorized.
|
|
AEROCENTURY CORP.
|
|
|
Date: June 3, 2020
|
By:
|
/s/ Harold M. Lyons
|
|
|
|
Name: Harold M. Lyons
|
|
|
|
Title: Senior Vice President-Finance and
|
|
|
|
Chief Financial Officer
|
TABLE OF CONTENTS
Part I Financial InformationItem 1. Financial StatementsItem 2. Management S Discussion and Analysis Of Financial Condition and Results Of OperationsItem 3. Quantitative and Qualitative Disclosures About Market RiskItem 4. Controls and ProceduresPart II Other InformationItem 2. Unregistered Sales Of Equity Securities and Use Of ProceedsItem 6. Exhibits