The business jet market is doing well at the moment, with deliveries forecast to reach an all-time annual high of 1,200 by next year, but analysts at the 12th annual Corporate Aircraft Transactions conference, held July 19 and 20 in New York, fear that supply could outpace demand and lead to a market downturn.
But the globalization of the corporate jet market could help mitigate the effects of oversupply because it creates demand and new competition. And contrary to the conventional wisdom of a few years ago, the global market isn’t just a dumping ground for old aircraft. The demand is strong for new and slightly used aircraft, mainly because it is more difficult to finance, register and import older aircraft. Interest from buyers in Russia, India and China, for example, is “tremendous.”
“The market is extremely strong today, but there are signs that concern us,” said David Strauss, executive director, U.S. aerospace and defense senior analyst for UBS Investment Research. “We’re uncertain how much higher the market can go.” In addition to heightened GA security issues and infrastructure constraints, there are too many manufacturers offering the market too many product choices, he said. The broad product lines result in higher production costs and put a strain on suppliers. “The manufacturers would be better served with fewer models,” he said, adding that if history repeats itself, the market turnaround could happen quickly once it starts. Between 2002 and 2003, for example, deliveries dropped 30 percent during a cyclical downturn.
Another concern, according to Scott Ashton, PrivatAir’s vice president of aircraft sales and acquisitions, is the number of older aircraft available on the used market. Whereas newer aircraft–those made after 1984–are on the market an average of 75 to 200 days before being sold, aircraft manufactured before 1984 tend to stay on the market for 600 to 800 days. New buyers are traditionally owners of older aircraft, he explained, and these owners will be less likely to buy new aircraft if they can’t sell the older ones. He added that an increasing number of days on the market is the leading indicator of a market downturn.
Sean Lancaster, vice president of Bristol Associates, voiced another potential concern: the bankruptcy of one of the many fractional ownership companies joining the marketplace. If a large operation were to fail, the market could become unstable. “I don’t see it on the horizon, but if one fails, it will be a mess. It will be horrible,” he said. David Beach, senior vice president of contracts at NetJets, said–hypothetically– that if his company were to fail 580 aircraft would suddenly flood the used market. “There’s no way you could put that many aircraft back on the market without an impact,” he said.
But, maintained Ashton, “We’re a long way from worrying about the bankruptcy of a fractional,” though he emphasized that the industry needs new buyers. “If we could find 200 people per year, this wouldn’t even be an issue.” The answer, he said, might be the VLJ market if it attracts new U.S. buyers. “Anything that generates excitement outside the industry and brings people in is great for market expansion,” he said. “We can’t keep looking inward. We have to go outside and evangelize the benefits of private aviation.”
Air Transport Association (ATA) executive vice president John Meehan and NBAA president and CEO Ed Bolen went head-to-head on the issue of user fees during a panel session designed to “demystify the ongoing debate.” According to conference co-chair Eileen Gleimer, a partner at Crowell & Moring, no other issue has polarized the corporate industry and the airlines as this one has. Underscoring her assertion, the only thing Meehan and Bolen could agree on is the need for modernization of the air traffic system.
“I wouldn’t say that [the air traffic system] is in a complete gridlock,” Meehan said, “but it will be over the next few years. We are literally on the verge of collapse every day.” Bolen agreed: “Modernization is fundamentally important,” he said, “and general aviation is willing to pay for it.”
He added, however, that GA is not willing to pay for tax breaks for the airlines. The proposed Senate bill, he said, would give airlines a $157-per-flight tax cut, which amounts to millions of dollars per year. The GA community also opposes the creation of an independent aviation board outside the scope of the government that would be, Bolen contends, “dominated by the airlines.” The House bill, on the other hand, proposes significant fuel tax increases, but Bolen said the community supports it because the money would be used for air traffic modernization.
Meehan said ATA has been “quite surprised” by GA’s reaction to the proposed Senate bill. “It strikes us as hysterical,” he said, adding that the debate is “not about tax breaks.” The issue, he said, is having a rational funding system in which there is a balance between the revenue coming into the FAA and the services being provided.
The airlines use 70 percent of the services but pay 90 percent of the fees that fund the FAA, Meehan asserted, while business aviation uses 16 percent of the services and pays 7 percent. Nearly $1 billion of this money, he said, is used to subsidize GA airports. “We’re willing to pay our fair share, but we refuse to subsidize other users of the system,” Meehan said. “That money ought to come from the GA community, not the guy in seat 38C.” He added that if constraints on the system are ultimately proposed because of lack of funding, the airlines should have priority because the GA community is a “marginal user.”
Bolen countered Meehan’s argument by stating that if the GA community were grounded, the FAA would save only 7 to 9 percent. He also questioned Meehan’s figures. According to Bolen, the major airlines contribute 77 percent, not 90 percent, to the FAA fund. And data has shown, Bolen added, that weather and the airline’s own scheduling practices, not GA, are to blame for delays and capacity constraints. He noted, however, “When there is a capacity constraint, we’re the ones who get squeezed out. We’re the ones who deal with the consequences.”
“This is one of the most polarizing fights in aviation history,” Bolen said. “We are involved in a vicious war.”
Panelists also had the opportunity to discuss the issue of operational control. Gleimer characterized the FAA’s renewed interest in the subject as “a rude awakening for some operators,” adding that the effects are just now beginning to show. In addition to longstanding contracts and agreements being rendered invalid, aircraft owners might also face reduced tax benefits.
“A lot of people had their agreements [and] contracts written to satisfy the IRS,” said Jacque Rosser, director of NATA Regulatory Affairs. Owners have had to relinquish much of the control they once had, and many may lose income as a result. “Business people got creative to streamline cost,” added Dennis Keith, president of Jet Solutions. “Not a lot of attention was paid to the charter industry, and the FAA has been trying to snap it back into control.”
Many operators have had to change their operating procedures as well, such as how their maintenance is conducted. Operators are responsible for every aspect of the airplane, said FAA inspector Harlan Sparrow, acting manager of the Commuter, On Demand, and Training Center Branch, which means they can still be held responsible if maintenance is not done properly, even if the manufacturer conducts maintenance inspections.
He added that Operational Specification A008 inspectors will be trained to look for “flags” to ensure that operators are in compliance, and while “some inspectors are more enthusiastic than others,” he said all disagreements will be put through arbitration and will be reviewed by regional office inspectors and FAA headquarters staff before an operator loses a certificate. The inspections began last month to ensure that operators are in compliance with A008, which took effect in March. To date, he said, 2,332 operators have received the A008 guidelines and are listed as active operators.
Completions facilities are in a “crisis situation” as they attempt to accommodate the increasing numbers of large-aircraft owners requesting interior completions, according to Don Hammer, vice president of technical services at Leading Edge Aviation Solutions. “The demand is staggering, but there’s no place to take new aircraft.”
The problem, he explained, is that owners of large aircraft–the A380, 787, 777 and 767 for example–represent a “different class of owner.” Many request custom interiors, rather than the standard floor plans owners of smaller business jets generally accept, and only four or five reputable companies are able to provide
the services requested, he said. “Many want their cabinets shaped a certain way,” Hammer said.
The long wait–up to two years in some cases–is also caused by more stringent regulations. If an aircraft owner or flight attendant wants a coffeemaker moved, for example, an engineer can’t just move it. FSDO inspectors must test and analyze it in its new position, and the process could take months for final STC approval, Hammer said. One customer wanted a sliding door in his jet, and approval for the installation was an eight-month process.
According to Richard Chiariello, Gulfstream senior contracts manager, owners of smaller business jets might also face longer waiting periods, from nine to 18 months on average. “Supply has not kept up with demand,” he said.
“Decisions have to be made as early as possible,” he said. It’s important for the customer to be as specific as possible when choosing fabrics, woodwork and interior layouts. The customer should also decide early on if he requires any custom designs, because the decision will determine where the aircraft will be outfitted. Aircraft with non-custom interiors will be sent to the Savannah, Ga. facility, for example, where the waiting period might not be as long. Fewer than 10 percent of Gulfstreams are custom designed, he said.
Financing and Taxes
The strength of the market is evident not only in the increasing number of aircraft deliveries, but also in the increasing number of lenders and lessors. “Twelve years ago there were six or seven [aircraft] lenders. Today there are 25 and growing,” said Joseph Dini, senior vice president of Sovereign Bank. “There is so much money to be had,” added Mary Schwartz, director of aircraft finance at the Citigroup Private Bank, Citibank.
The problem, however, is that as the number of lenders and lessors has increased, so have lending/lease agreements and premiums. “Anyone and everyone who can lend money has,” Schwartz said. Some companies are signing 20-year agreements, whereas in the past, 10-year agreements were the maximum. Others are charging similar rates on both 20-year-old Cessna 182s and GIVs. In addition, premiums on older aircraft, especially, have been rising. “There’s a lot of wealth floating around out there. It gives strength to the market and should give us comfort. But these values–$10 million premiums–can’t continue,” Schwartz said.
Lenders, meanwhile, have a new means of protection against bankruptcy and non-payment, in the form of the Cape Town treaty, which provides an international legal framework to protect the security and leasing interests of aircraft owners and financers.
Cape Town–or international–registration isn’t mandatory, but it does establish priority of interests and takes precedence over FAA filings. “There’s no such thing as FAA perfection anymore,” said Amy Rhodes, associate general counsel for corporate aircraft at GE Capital Solutions. She added, however, that the process is still relatively new, and there are many questions about the treaty. “All we can do is use hypotheticals and analogies. We’re working without a map,” she said. “When we’re in doubt, we just file."
For in-depth coverage of aircraft financing and tax information, please see the special report on aircraft finance in the December issue of AIN.