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Islamic Aircraft Financing Structures. Robert Fugard Linklaters Partner, Asset Finance Group. the current environment. reappraisal by banks of approach to aircraft finance - exit of some traditional lenders restriction of categories of airline credits considered

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islamic aircraft financing structures

Islamic Aircraft Financing Structures

Robert Fugard


Partner, Asset Finance Group

the current environment
the current environment
  • reappraisal by banks of approach to aircraft finance

- exit of some traditional lenders

    • restriction of categories of airline credits considered
  • difficulties in sourcing equity prepared to invest in the industry
    • as a reaction to uncertainty in the industry
    • as a result of changes to tax rules
  • restriction of tax-based leasing

- loss of traditional tax products: US, Germany and Japan

  • curtailing of Export Credit Agency support

- abolition of LASU fixed rate option

- increases in premia and reduction in advance rates

the islamic finance market
the Islamic finance market
    • Islamic funds estimated at over $200 billion
    • growing market

- return of Islamic funds to region

- opportunity to tap into the significant funds of Islamic investors seeking Shari’a compliant investments

- establishment of regional secondary market infrastructure in Dubai (DIFC), Bahrain, Saudi Arabia

    • over 250 Islamic Finance Institutions worldwide

- Western institutions most active in this market are HSBC Bank plc (through HSBC Amanah Finance) and Citigroup

- Local financial institutions include Arab Banking Corporation,

  • Dubai Islamic Bank,Abu Dhabi Islamic Bank, Kuwait Finance House, First Islamic Investment Bank, as well as Islamic Development Bank
what islamic finance offers
what Islamic finance offers
  • diversification of funding sources
  • investor’s regional understanding of risk
  • conventional-style documentation
  • bankable governing law
  • ability to combine with conventional funding sources

Islamic investors


Investment (Modaraba)



investment (85%)

Declaration of trust

Sale of aircraft


Islamic Lessor

(Cayman SPV)

Equity contribution (initial rental)(15%)

Islamic lease


Insurance & Maintenance Services


‘basic’ Islamic leasing structure

airline sukuk structure
airline sukuk structure
  • sukuk defined by AAOFI’S Shari’a standards as

“Certificates of equal value representing undivided shares in ownership of tangible assets, usufruct and services or (in the ownership of) the assets of particular projects or special investment activity”

  • can provide greater diversification of funding sources than ‘basic’ Islamic leasing structure
  • access to larger volumes of capital
  • potential to provide liquid investments for Islamic investors
airline sukuk structure1
airline sukuk structure
  • sukuk gives investors share in profits generated by investment in asset
    • ijara - based cash flows most appropriate for sukuks
    • real estate ijara - based sukuks

Malaysia $600m issue (June 2002)

IDB $400m issue (July 2003)

Qatar $700m issue (September 2003)

Bahrain $250m issue (June 2004)

Saxony € 100m issue (August 2004)

Dubai DCA $750m issue (proposed)

  • problems with morabaha - based sukuks and tradeability
    • sale of debt (bay al - dayn) prohibition
  • aircraft ijara - based sukuk would fuse aircraft ijara technology and conventional EETC technology
airline sukuk features
airline sukuk features
  • relationship of sukuk holders to issuer is that of investor, not creditor
  • sukuk holders are joint owners of trust assets, being
    • aircraft (subject to leases)
    • lease revenues
    • lease rights
  • sukuk holders exercise rights as owners through sukuk agent, who is empowered to enforce lease rights against airline, and can be compelled to do so by relevant proportion of sukuk holders
  • sukuk holders rights against Issuer are limited recourse to the trust assets
airline sukuk features1
airline sukuk features
  • complexity dictated by investor/rating requirements
    • rating agencies (eg Standard - Poor’s, Moody’s, Fitch) apply conventional rating criteria - Shari’a compliance not relevant - so need to minimise reliance on performance of ijara
  • likely rating agency focus on
    • level of over - collateralisation
    • bankruptcy protection
    • quality of assets
    • liquidity facility
  • possibility of credit enhancement
    • asset value guarantee
    • investment - grade put option
airline sukuk features2
airline sukuk features
  • investor loan to value ratio enhancements restricted by “one class only” certificates
    • possible solution: morabaha - based subordinated tranche (on limited recourse basis)
  • level of bankruptcy protection depends on jurisdiction of airline
    • relative under-development of regional bankruptcy laws (compared to s1110 US Bankruptcy Code)
    • repossession and deregistration risk mitigated by international route network and external flagging
  • liquidity facility - classic US EETC 18 month requirement versus 42 month “Iberbond” liquidity line
    • conventional interest - bearing liquidity line not possible
    • possible solution: morabaha - based secured liquidity facility
airline sukuk features3
airline sukuk features
  • ‘standard’ ingredients will include
    • aircraft management and remarketing agreements
    • lessor ‘ring fenced’ from other transactions for bankruptcy remoteness
    • lessor established in tax neutral jurisdiction
  • listing issues - eg: Luxembourg/London/DIFC
  • Shari’a board approval
    • structural and documentation review
    • written opinion in prospectus
    • composition of Shari’a board
airline sukuk structure2
airline sukuk structure

Sukuk Holders


Declaration of Trust

Up-front purchase price (85%)



Sale of aircraft (Morabaha)


Liquidity Facility



Deferred purchase price (15%)

Asset Value Guarantee

Head Lease


Asset Value

Support Provider

SPV Lessor

Sub Lease


Sub Lease


Sub Lease





market outlook
market outlook
  • regional inflow of Islamic funds increasingly matched by greater sophistication of regional financial intermediaries and investors
  • airlines’ requirement for funding seems likely to outstrip conventional funding sources available to region due to
    • huge aircraft orders
    • need for specialised appetite for regional risk
  • run of innovative Islamic aircraft financings (eg. by Emirates) have helped develop ‘downstream’ Islamic aircraft financing technology, while non-airline sukuks and airline bonds (eg. Emirates’ $500 million eurobond issue) have established investor appetite for this asset class