High interest rate slows aircraft purchase, upgrade

High interest rate is negatively impacting airlines’ capacity to purchase new airplanes and upgrade aircraft needing maintenance, experts have said.

The Central Bank of Nigeria (CBN) recently increased its monetary police rate (benchmark interest rate) from 26.25 percent to 26.75 percent, raising the cost of lending in the economy.

The aviation sector’s funding source involves mostly secured loans and leases, according to the International Bar Association.

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The secured loan structure involves a lender granting a loan to an airline or leasing company to purchase an aircraft with the credit secured through a mortgage or other security interest. With this structure, the ownership of the aircraft resides with the airline (owner) or leasing company, and the aircraft is operated either by the airline or is leased to another party.

In the last two years, only few airlines have been able to bring in new aircraft and upgrade their equipment due to the high interests paid on loans obtained from banks.

Stakeholders say double-digit interest rates on loans are hurting airlines’ profits, impeding their growth and fleet upgrade.

“Successful airline businesses can be built largely on loans in Nigeria. It’s just not been done before. The loans last just a few years. So, unless you don’t intend to succeed in the longer term, you take the knock while the assets pay for themselves and all your other costs,” an airline operator, who did not want his name mentioned, said.

“Your challenge is to manage the assets optimally, knowing that soon you’ll be unencumbered. The better you are at doing this, the more the banks will finance you. They aren’t the banks of yester years,” the operator noted.

According to him, people do not often invest only their cash in capital intensive businesses such as the airline business anywhere in the world, stressing the need to make credit cheaper for the sector.

“And if one actually does this, does that guarantee that the business will become successful? In any case, most, if not all domestic airlines still have to borrow from local banks. If they aren’t borrowing to finance aircraft acquisition, they are borrowing for working capital. Crazy interest payments will still squeeze everyone,” he further said.

BusinessDay’s findings show that legacy carriers across the world access loans at two to five percent interest rate, making it easy for them to pay back and operate profitably.

The repo rate (benchmark interest rate) in South Africa is 8.25 percent and 6.5 percent in India. It is 3.45 percent in China. Benchmark rate often follows inflationary trends in an economy, with nations with higher inflation seeing higher rates than those with lower cost of living.

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Shehu Iyal, managing director of Afri-Air International Limited, said the government can address funding for airlines by creating special funds that can be disbursed through the Bank of Industry (BOI) at single-digit rates.

“This is strictly for airlines and strictly under their supervision. If we have that, I think it will go a long way in improving the situation that we have here,” Iyal said.

BusinessDay’s findings show that aviation fuel currently takes about 45 percent of operating cost; labour, 17 percent; aircraft rent and ownership, 8.5 percent; non-aircraft rents and ownership, 7 percent; professional services, 4.5 percent; landing fees, 2 percent; food and beverage, 1.5 percent; maintenance materials, 13 percent; and transport related, 1.5 percent.

Stakeholders say that with these heavy daily operating costs, airlines need single-digit interest rates to pull through and remain profitable.

Olumide Ohunayo, industry analyst and director of research at Zenith Travels, told BusinessDay that interest rate is a function of the financial system as it affects all sectors of the economy and the airlines.

Ohunayo said if the economy is affected, then the airline will be affected and if the economy shrinks, passengers shrink. Once passengers shrink, profit and revenue also drop for the airlines and agencies, he noted.

“When you increase the interest rate, you’re reducing their ability to have access to funds and for the small-scale industry are the most affected. There would be job losses and stagnation.

“When all these happen, it also affects travels both for official and leisure. When this affects travel, it affects the bottom-line of the airlines,” he said.

He hinted that the airlines and all other stakeholders in the aviation ecosystem need finance and high the interest rates can prevent them from getting new facilities.

He said high rate can also make it difficult for them to upgrade their facilities and properly fund training – both domestic and international.

Ohunayo further said that the country must find a way around interest rates to make it easy for airlines to fund aircraft acquisition and grow local airlines.

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Seyi Adewale, chief executive officer of Mainstream Cargo Limited, told BusinessDay that the current interest rates are stifling the growth of airlines because they obstruct expansion drive, including new route development.

“Airlines can restrict or stop routes with low passenger numbers and concentrate only on high passenger and higher revenue routes. This limits the growth of domestic aviation and airport profitability in general.

“In fact, it has a wider impact on their (other) service providers, and consequently lead to downsizing because losses loom larger,” Adewale further said.