Last week, British Airways parent company IAG (International Airlines Group) made the announcement regarding their intention to purchase up to 200 Boeing 737 MAX jets. Many saw this as a symbolic gesture of confidence to the controversial aircraft. However, others (perhaps rightfully so) point out that a letter of intent doesn’t mean much. Today we’ll look at the world of aircraft orders and what all the jargon actually means.
In this article we will explain all of the most commonly used terms, going from least committed to most. We’ll also provide real-world news examples of each.
1. Letter of Intent
Firstly, an announcement of a Letter of Intent (LOI) means that discussions have already taken place between the manufacturer and the airline. The letter of intent indicates a desire to do business together and provides an outline of the prospective deal.
Below is part of the definition as written by Investopedia:
“LOIs are useful in preliminarily bringing two parties together to hammer out the broad strokes of a deal before the finer points of a transaction are resolved. LOIs often include provisions stating that a deal may only go through if financing has been secured by one or both parties, or that a deal may be squashed if papers are not signed by a certain date.”
No deposit is put down for an LOI. However, it is important to remember that a letter of intent is non-binding.
Example: Slovenia’s Adria Airways walked away from a deal based on a letter of intent to lease 15 Sukhoi SuperJet 100 aircraft from Sukhoi Civil Aircraft. This agreement was never transferred to a firm order.
2. Memorandum of Understanding
Investopedia reports that a memorandum of understanding (MOU) is defined as:
“…an agreement between two or more parties outlining the terms and details of an understanding, including each party’s requirements and responsibilities. It is often the first stage in the formation of a formal contract and does not involve the exchange of money.”
Here’s where things get a little more complex, as there are subtle differences between an LOI vs an MOU.
Investopedia states that the primary difference between the two is that a letter of intent is not binding while legal courts consider a memorandum of understanding legally binding.
However, another article suggests that an LOI and MOU are essentially the same and used interchangeably. Both are not legally binding. An Airliners.net discussion mentions that money is, in fact, involved in an MOU, while the definition above says there is no exchange of money. Clearly there is no full consensus on this as far as we can tell.
Example: In the Adria Airways-Superjet deal the airline itself initially made use of the term letter of intent, but then made reference to the same event as the signing of a memorandum of understanding.
In general, however, in the aviation world it seems that an MOU is a greater commitment than an LOI.
3. Firm order
According to Airliners.net, in a firm order a deposit is put down in the deal. However, there are still conditions in place that allow the buyer to back out. If the buyer happens to back out then there are usually penalties. Conversely, if the planes are late there can be a refund of deposits.
Note that a firm order can come from either an LOI or MOU. A buyer does not need to go through each step. There is also a payment schedule in place for aircraft deliveries.
Example: United Airlines places a firm order for an additional 20 Embraer E175 jets.
Firm orders can include options. According to Wikipedia, airlines will commonly obtain options from the aircraft manufacturer which allow the airline to delay the purchase of additional aircraft until market conditions justify the purchase.
Options also save the airline a position in the manufacturing queue, for a guaranteed delivery slot. If the airline finally exercises its option(s), it can place its order without going to the end of the queue which would otherwise delay the delivery of the aircraft for years.
However, if future conditions do not justify expansion of the airline’s fleet, the airline is not under obligation to purchase the aircraft.
Example: Wizz Air agrees to exercise purchase option for Airbus A321XLR aircraft.
We hope this gives you a slightly better understanding of news headlines when airlines announce aircraft orders. If you have anything to add please feel free to leave us a comment!