Rising jet fuel costs, declining air passenger bookings, and squeezed profits have not stopped private equity firm Apollo from making a £5.7 billion to acquire European airline EasyJet.

The bid, which trumped an offer by rival firm Castlelake, values EasyJet at £7.15 per share, and represents a premium of around 80% on the share price prior to Castlelake’s initial offer.

The key question, however, is why Apollo is willing to pay a big premium for an airline when the air travel industry is facing the toughest trading conditions since the pandemic?

The effective closure of the Strait of Hormuz, which prior to the Iran conflict transported around one-fifth of global jet fuel exports, has seen jet fuel prices increase by almost 70% year-on-year. This has led to high double-digit declines in airline profits, which have also been knocked by the first contraction in global airline passenger demand since the post-lockdown recovery.

A long-term view

But while recent disruption has put stock market investors on a cautious footing regarding airlines, private equity firms like Apollo, with previous experience in the airline space, see the market dislocation as a buying opportunity.

Apollo is no stranger to aviation. It operates an aviation and leasing and financing division, and has invested in a number of airlines, including Sun Country Airlines, Aeromexico and air cargo operator Atlas Air Worldwide.

Even at a premium valuation, Apollo sees long-term value in the sector. Industry body IATA forecasts that air travel demand could more than double by 2050, and Bain & Co models show that even if the Iran conflict persists and fuel and operating costs continue to rise, passenger demand on key routes will support higher fares and revenue growth, even if overall passenger volumes fall and margins narrow.

EasyJet is particularly attractive target as it runs a modern, fuel-efficient fleet, has built a high-growth holidays business, and controls a portfolio of incredibly valuable landing and take-off sites at premier European airports. 

More airline deals to come into the frame

Other PE firms could also see opportunities to buy the dip and invest in airlines, despite short-term headwinds. 

The balance sheets of a number of smaller carriers have come under strain as fuel prices have increased, spurring demand for financing to help them steer through the current environment.

Anti-trust and competition rules would make it very tricky to shepherd through a rescue deal with one of the large national carriers (which are focusing on their own operations and cost bases, and unlikely to pursue expansionary M&A), but PE firms could step in to provide financial back-up.

Regulation, however, isn’t only an issue for strategic buyers. One of the biggest hurdles facing the Apollo EasyJet bid are European rules that require European airlines to be majority-owned by member states or EU nationals in order to operate.

It has been possible to structure deals to comply with ownership regulations, but the EU is reportedly seeking to clarify the rules to ensure that “strategic autonomy” is protected, which has knocked EasyJet’s share price as stock markets question whether the Apollo deal can clear regulatory hurdles.

Apollo and EasyJet are primed to launch, but there could be a delay before take-off yet.