Fitch Ratings has assigned a 'BB' Long-Term Issuer Default Rating (IDR) to Rand Parent, LLC (known as Atlas Air).

The Rating Outlook is Stable. Fitch has also assigned 'BB+'/'RR2' ratings to the company's proposed senior secured revolver, term loan, and notes.

Atlas's IDR is supported by its contracted service offerings representing about 85%-90% of block hours in 2022 with terms that set pricing and minimum activity levels. Atlas also has a fleet of over 100 aircraft (48 aircraft within the collateral pool) that allows it operational and end-market flexibility. Leverage and coverage metrics are generally consistent with the rating level and supported by mandatory amortization on aircraft financings.

The ratings also reflect the softening outlook for the company's operating environment, as it comes off peak levels, and the impact on FCF that contract renewals and spot rate exposure have in a declining rate environment. Atlas also operates in a highly competitive environment due to similar service offerings and broad geographic reach of industry peers, as well as alternative transport options.

Key Rating Drivers

Contracted Flights Moderates Rate Exposure: About 85% of revenues are contracted under multi-year agreements, which can last up to five or more years. Around 10%-15% of block hours are subject to renewal or market spot rates over the next five years. Contracts set long-term pricing with fuel cost pass-throughs, which moderates fluctuations in air cargo rates and margins, and minimum flying levels. Susceptibility to air cargo rates are limited to ad-hoc flying and long-term contract renewals that combined make up roughly 20% of block hours per year.

Fitch does not believe there's a meaningful risk of contract cancellations through a rate cycle due to the high penalties for breaking contracts. Atlas's fleet has been operating well above minimum contracted flying levels, but Fitch recognizes the company could reposition aircraft with other customers if utilization drops.

Operating Conditions Softening: Fitch expects air cargo conditions, and as a result rates, to peak in 2022. A softening in rates over the next two to three years reflect weaker global economic conditions and a recovery in bellyhold capacity of passenger aircraft though the reopening of China provides some support for air freight. Fitch assumes block hour rates (excluding fuel) decline at a mid-to-high single digit rate over the next few years, but remain above pre-pandemic long-run historical averages largely due to higher rates associated with the company's new aircraft (four 747s and four 777s) being delivered between 2022-23.

Fitch will watch the evolution of block hour rates over the next few years given decreases in rates directly affect contract renewals, spot business and cash flow generation. Fitch forecasts that EBITDA contribution from the eight new aircraft and cost saving initiatives will be largely offset by declining rates, leading to relatively flat EBITDA in the $1 billion range through 2025.

Financing-Directed Capital Deployment After 2023: Subsequent to taking delivery of the new B777 and B747 aircraft, management indicated that new aircraft purchases and M&A are unlikely over the next few years. Fitch does not currently assume further new aircraft purchases or M&A through the medium term but believes fleet investment is likely over the long-term to replenish the fleet. The company has indicated an intent to pay down debt, and has the opportunity to do so via amortization of the rollover aircraft-secured debt. It also intends to pay annual dividends of about $125 million on the preferred stock though distributions can be limited by covenants in the new credit facility.

Contracts, PIK Support Financial Flexibility: Fitch expects FCF generation to be consistently positive after 2023 and at a level that supports maintenance capex, assuming no unannounced aircraft purchases, mandatory debt amortization and full distributions of about $125 million on the preferred stock. Fitch also believes the preferred dividend payments would be paid-in-kind if needed to support regular capex or its debt schedule.

Fitch's FCF forecast is based on annual EBITDA of $1 billion, or mildly more, up from about $830 million expected in fiscal 2022. EBITDAR/interest + rents is expected to be about 3.4x over the next two years before improving to the high-3.0x range, which is consistent with 'BB' category corporate.

Fitch also considers the impact of LTV levels on liquidity. In order to draw 50% or more of the $300 million revolving credit facility, the LTV is limited to 15% above the closing level (or around 78%), which is anticipated to be 63%.

Low-3.0x Leverage Improving to Mid-2.0x: Debt/EBITDA and adjusted debt/EBITDAR are expected to be about 3.2x in 2023, before declining to the mid-2.0x range through the intermediate term assuming no new aircraft purchases or M&A. The forecasted run-rate level is moderately below 2022 expectations of 2.8x and generally consistent with 'BB' rating category tolerances. The scheduled amortization on roll-over aircraft debt is expected to lead to debt repayment of generally $200 million-$230 million per year.

Flexible Service but High Competition: Atlas, as well as other cargo airlines, differ from passenger airlines in their flexible service geographies and end markets. This allows Atlas to reposition for changes in end market and geographic conditions but also reduces competitive barriers in the industry. Fitch believes these low competitive barriers also contribute to cyclicality in the industry. Atlas's competitive strengths are mainly focused on differences in aircraft mix, fleet efficiency, global geographic presence, and cargo focus, that supports contracted volume and better economics for customers by enhancing reliability and optimizing space.

Aircraft Lessor Considerations: Even though Atlas offers dry leasing services, which are akin to traditional aircraft lessors, the contribution from the business is relatively small at roughly 5% of revenue. Fitch does not anticipate the company shifting its service mix to focus on growing the dry lease segment. As an operator of a cargo airline, Atlas carries relatively higher operational risks than typical aircraft lessors.

Fitch also considers the relatively older, less liquid fleet with an average age of about 20 years compared with lessor averages of five years, though Fitch acknowledges that air freighters typically have longer operating lives. Further, Atlas's fully secured capital structure constrains financial flexibility relative to most lessors rated in the 'BBB' category which typically reflect a lower level of balance sheet encumbrance.

New Debt rated 'BB+'/'RR2': The ratings on the senior secured revolver, term loan and notes reflect Fitch's estimates on the recovery value of the 48 aircraft, equipment and other assets that collateralize the facilities and notes. Fitch also considers projected depreciation rates for the aircraft that outpace expected term loan amortization of 1% per year. The new credit facilities and notes are structurally subordinate to the existing aircraft-secured debts, which are borrowed under various subsidiaries and do not carry cross or downstream guarantees. The credit facilities receive a guarantee from Rand MidCo, LLC (Holdings), but the notes do not. There are no material assets held at Holdings.

Derivation Summary

Compared with other cargo airline, Western Global Airlines (WGA; B+/Negative), Atlas has a relatively larger fleet, which reduces operating risks associated with aircraft downtime. Atlas also benefits from lengthy contract terms, which should support rate stability. WGA's financial flexibility tightened in 2022 as a result of higher capex and operating costs that could lead to higher liquidity and refinancing risks. WGA's adjusted debt/EBITDAR is expected to peak in the low-4.0x range in 2022 before improving to the low-3.0x while EBITDAR/interest + rents is expected to be in the mid-2.0x to 3.0x.

Lingering impacts of pandemic-driven shutdowns and lower demand, along with the recent rise operating costs have pressured many passenger airline ratings. Fitch considers the liquidity and financial flexibility on the passenger airlines to manage through the recovery period. Fitch expects Alaska Airlines (BB+/Negative) adjusted debt/EBITDAR to approach 2.0x over the next one to two years. Allegiant Travel Company's (BB-/Stable) adjusted debt/EBITDAR also improves, falling to the mid-3.0x range by 2024/2025.

Aircraft lessors generally do not operate aircraft, a characteristic that fundamentally lowers operating risks such as air cargo rate exposure, operational efficiency and maintenance compared to Atlas. Atlas's aircraft are also relatively older than other rated aircraft lessors' and are fully encumbered by various aircraft financing arrangements and the proposed debt. While Debt/Equity in the mid-3.0x range is similar to other Fitch-rated aircraft lessors, these entities typically benefit from a better underlying asset quality and portfolio diversification.

Key Assumptions

Revenue, excluding fuel, is somewhat steady around $3.5 billion post-close, reflecting contributions from new aircraft and recovery in block hours largely offset by lower air cargo rates;

Similarly, EBITDA is fairly steady around $1.0 billion through the forecast, including a change in accounting methodology for heavy aircraft maintenance, as contributions from the higher-margin new aircraft and cost saving actions are largely offset by declining rates;

No new aircraft purchases are assumed after 2023 leading to annual capex in the low $300 million range;

Capital deployment after 2023 is focused on annual debt amortization and preferred dividend payments of around $125 million;

The LBO and aircraft purchases are completed as anticipated, increasing the total debt balance to about $3.4 billion in 2023 before any debt amortization.

RATING SENSITIVITIES

Factors that could, individually or collectively, lead to a positive rating action/upgrade:

Clear, credit-conscious capital allocation policy that enhances collateral asset quality and financial flexibility;

A less encumbered capital structure with EBITDAR/ interest + rents sustained below 3.0x and/or first-lien LTV around 60%;

Continued operational execution that improves FCF stability through business cycles, including a healthy contract mix/duration.

Factors that could, individually or collectively, lead to a negative rating action/downgrade:

EBITDAR/ interest + rents sustained below 3.5x and/or first-lien LTV sustained above 66%;

Capital deployment actions that reduce collateral asset quality (e.g.., increased average age) and financial flexibility;

Shift in cash flow risk profile that heightens through-the-cycle variability, including weaker contract mix/duration.

Best/Worst Case Rating Scenario

International scale credit ratings of Non-Financial Corporate issuers have a best-case rating upgrade scenario (defined as the 99th percentile of rating transitions, measured in a positive direction) of three notches over a three-year rating horizon; and a worst-case rating downgrade scenario (defined as the 99th percentile of rating transitions, measured in a negative direction) of four notches over three years. The complete span of best- and worst-case scenario credit ratings for all rating categories ranges from 'AAA' to 'D'. Best- and worst-case scenario credit ratings are based on historical performance. For more information about the methodology used to determine sector-specific best- and worst-case scenario credit ratings, visit https://www.fitchratings.com/site/re/10111579.

Liquidity and Debt Structure

Atlas's debt structure will include a $300 million senior secured revolving credit facility, $800 million senior secured term loan, $800 million of senior secured notes and $1.6 billion of rollover aircraft-secured debt.

Fitch does not treat the new $900 million of preferred stock as debt because it is being issued outside of the rated entity/restricted group, the inability to trigger a default under the new debt terms and the absence of event of default provisions or debt-like remedies under terms of the preferred stock.

Liquidity pro forma at closing is expected to be adequate comprised of $100 million of cash and full availability under the $300 million revolving credit facility. Fitch recognizes, however, that availability under the revolver is linked to maintenance of a LTV within 15% of closing levels (or estimated at about 78%). Debt repayments are expected to range from $200 million-$230 million through the forecast primarily from amortization of existing roll-over aircraft debt and the new term loan.

Issuer Profile

Atlas Air is a global cargo airline that operates over 100 aircraft including a mix of Boeing 747, 777, 767 and 767 aircraft. It serves a variety of customers in as freight forwarding, express shipping, retail & e-commerce and military markets.

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