Pre-Owned Aircraft Market – Where Do We Go From Here? (Part III)

So, where do we go from here… you’ve heard a lot of bad news.  What about the GOOD NEWS / NOT SO GOOD NEWS:

European stocks have gained for the past 2 months on the expectation that government efforts to revive the economy will work.  However, Germany is experiencing its worst recession in 60 years.  Its economy (Europe’s largest) contracted nearly 4% in the 1st Qtr and unemployment is nearing 8 ½ %.

Volkswagen (2-900Exs) started construction on a $1B plant in TN, where they will make a new sedan and create 2,000 jobs on site.

Sears Holdings’ (2-Lear 60s) stock traded above $190 2 years ago, had a 52 week low of $26 in Dec and is now trading around $60

Kia Motors completed an assembly plant in GA and will start production of a new SUV in late 2009, creating 2,500 jobs.

Barclays Capital, Britain’s third-largest bank, plans to hire 65 bankers for its mergers advisory business this year. It’s a start!! 

Deere & Co (2-CEXs, GV) 2nd Qtr profit fell 38% to 473M, down from $763M last year.  The company plans to keep their business jets. 

British Airways reported a $595M loss.  They’re switching focus from premium traffic, which has fallen by 13%, to competing for lower-fare volume business.

Yes flying activity is down worldwide. Charter market is off 30%.

A UK limo company reported a 30% increase in business jet ground transportation ops during 2008. They’re projecting 20% growth this year. There’s been a 25% reduction in bookings from charter flights, but an increase from corporate flight departments.  About 50% are from the US, 30% from Russia and 20% from Europe.

According to statistics from United Business Aviation, the number of business jet flights in Russia is around 10,000 a month / 120,000 per year, near the same level as in 2007 and the 140,000 in 2008.  Not so good news, Russia had 74 billionaires last year, this year only 27.

On the asset side, market pricing of immediately available new and pre-owned aircraft is adjusting to the new supply / demand situation.  For business jets, the market dynamics have turned in a very short time to a buyers’ market.

 After 30 – 40 years experience with some aircraft (GIIs, GIIIs, F20s, Lr55s, CL600s), we are in a much better position today to determine economic obsolescence and salvage value.  We can actually look at value in terms of both tangible and intangible factors, and draw a corollary between inspection costs and value. 

We can follow a fundamental analysis and look at both qualitative (business model, governance, target market factors) and quantitative (ratios, financial analysis) aspects to see if the asset is out of favor with the market or is really worth more / less than its current valuation.

By way of illustration, we look at the Falcon 50 with a 30-year production run, 2 iterations, 3000 nm range, great modern cabin, late generation cockpit, yet a 5 – 10M price spread.  As aircraft cease production, we as an industry need to come to terms with value and pricing.

Falcon 50

IN CONCLUSION, aircraft markets are not that bad.  

Yes there are more aircraft in service today than in 2000.  However, there is 11% of the Falcon 2000 fleet on the market today, the same as in 2002, 14% of the F900s, 7% of GVs.

2009 vs 2002

This recession is going into its 18th month, the longest running since 1933, which lasted 43 months, and it’s not over yet.  For markets to go up from here, the news doesn’t have to be good, it just has to be not has bad as it’s been.  The world is not ending.  However, we need to temper optimism about a recovery, refrain from “exaggerating” [recent] positive signals. Keep in mind that recent gains in economic markets are not justified by fundamentals. Calling an end to the current situation too early is risky. 

No doubt, there was great volatility in aircraft pricing.  An aircraft sold new for 38M, prices were run up, and a financial institution lends 44M, because their models told them they couldn’t lose.  Then there’s a global economic decline, followed by high unemployment and default.  The value of the aircraft is in actuality 32M.  The result: selling prices return to ‘normalcy’, banks demand more collateral, there is none, so they foreclose and try to sell in an illiquid market, forcing prices lower. 

Ambiguous values were being placed on aircraft.  There are multiple versions of value… some think an aircraft is worth what it cost to build, others view value as replacement cost, or what the last one sold for, some even believe an aircraft is worth what the bank will lend.  But the fact is an aircraft is a depreciating piece of equipment that loses value every year.

Business aviation has historically been a cyclical industry impacted by many factors, including the U.S. and now global economies. Our industry has historically lagged behind changes in general economic conditions by 18 months. As the current economic environment improves, activity will increase.

However, rather than being led by the changed circumstances, we need to lead the change, align ourselves with a value-centric approach, incorporating accountability, transparency and inverting the pyramid. As we move forward, we need to focus on high-value integrated service.

As the world emerges from the slowdown, we do not believe it will return the results of 2006 / 2007. There has to be a shift in the mindset: an increasing endeavor to value; a grip on discipline and cost efficiencies, on sustainability. As we look forward, I truly believe the apparent frankness about the state of our industry actually plays well in the market. Trust is a big feature currently and anything that reinforces trust will be well received.

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