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A Methodology For Comparing Aircraft Costs

by David Wyndham 13. July 2017 15:16
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When comparing aircraft costs, it is important to understand what costs are included and what aren't. Otherwise, you can end up comparing "apples and oranges." This can lead to making a decision with wrong or incomplete information. First off, let's review the predisposed views of some folks when talking about aircraft costs:

The Maintenance Director looks at what it takes to maintain the aircraft in an airworthy condition. The maintenance director can bid out major repairs to get the best price for quality work. Talk to maintenance professional and he/she will take that one "maintenance cost" item and really go into detail. As an example, a maintenance reserve for a twin-engine turboprop can be about $455 per hour ($180 for parts and labor, and $275 for the engine reserves).

The Pilot is responsible for the safe and efficient operation of the aircraft. That person is usually most concerned with fuel, maintenance (as one number), and travel expenses. The pilot can choose fuel vendors who have competitive prices. For our turboprop, that operating cost figure would amount to about $1,000 per hour. What else might be missing?

The Aviation Department Manager is concerned with the cost of the aircraft, plus the fixed overhead items such as hangar, training, insurance, and pilot salaries. Those items for our turboprop example can be about $300,000 per year, plus the hourly cost of the aircraft. For a nominal 400 hours per year operation, the Aviation Department Manager's budget for a turboprop is $700,000 annually, or $1,750 per hour average.

Lastly, the Executive/CFO is concerned with acquisition costs, amortization, interest, depreciation, taxes and the cost of capital. That can easily add another 70% onto the Aviation Department Manager's "costs" depending on the value of the aircraft. If the aircraft is operated for business use, the corporation has the ability to write off the expenses of ownership and operation. After taxes and depreciation, the total figure to own and operate an aircraft can change dramatically. An educated Executive will also consider not only what the costs are, but when they occur and the value of the aircraft at the end of a specified amount of time.

What is the general methodology to use when analyzing the acquisition of an aircraft? 

When analyzing the potential acquisition of a whole or share of an aircraft, Life Cycle Costing ensures that all appropriate costs should be considered. The Life Cycle Costing includes acquisition, operating costs, depreciation, and the cost of capital. Amortization, interest, depreciation, and taxes also play a part in what it costs to own and operate an aircraft and can be included in the Life Cycle Costing as appropriate.

The assumptions used need to be clearly spelled out. The costs should cover a specific period and take into account an expected aircraft value at the end of the term. Comparisons of two or more options should also cover the same period of time and utilization. This provides a fair (or "apples-to-apples") comparison. A complete Life Cycle Cost also accounts for the time-value of money in an NPV analysis. This way, the differing cash flows form two or more options that can be compared and analyzed from a fair and complete perspective. 

What is a Net Present Value? An aircraft acquisition involves a very complex financial decision. Accurately judging the financial impact of such a major acquisition project can best be done with a Net Present Value (NPV) analysis. An NPV analysis takes into account the time value of money, as well as income and expense cash flows, type of depreciation, tax consequences, and residual value of the various options under consideration. When an expense (or revenue) occurs can be as important as the amount of that item.

By using the time-value of money, an organization can thus judge whether a project will yield a better or worse return than the average return experienced on a company-wide basis. Thus, the NPV analysis allows the comparison of different cash flows based on a set target return. It also allows comparisons of buy versus lease versus finance options of the same aircraft. This type of analysis is also the only effective way of judging whether it is better to purchase, finance, or lease, even if different conditions and interest rates apply to each alternative, and is the standard financial analysis technique used by the chief financial officers of major organizations.

The Net Present Value calculation applies a time value of money rate to when income and expenses occur. This time value of money is referred to as internal rate of return (IRR) or return on investment (ROI). Many organizations have a published IRR or ROI target. For those that don't, a way to estimate it is by dividing the profit before taxes of the organization by the equity and expressing as a percentage the return the organization expects to make on the money it invests in the enterprise. For many organizations, such as Fortune 500 companies, this is typically from 10% to 25%. Government agencies can use the current rate of return for Treasury Bills or State Bonds.

An NPV of zero means that the target return has been met. A negative (less than zero) NPV means the target return has not been met. A positive (greater than zero) NPV means the target return has been exceeded.

When analyzing the potential acquisition of a whole or share of an aircraft, Life Cycle Costing ensures that all appropriate costs should be considered. The Life Cycle Costing includes acquisition, operating costs, depreciation, and the cost of capital. Amortization, interest, depreciation, and taxes also play a part in what it costs to own and operate an aircraft and can be included in the Life Cycle Costing as appropriate.

The assumptions used need to be clearly spelled out. The costs should cover a specific period and take into account an expected aircraft value at the end of the term. Comparisons of two or more options should also cover the same period of time and utilization. This provides a fair (or "apples-to-apples") comparison. A complete Life Cycle Cost also accounts for the time- value of money in an NPV analysis. This way, the differing cash flows form two or more options that can be compared and analyzed from a fair and complete perspective.

For a commercial operator, they expect a return on the money spent - or profit. An NPV of zero means that they have earned enough money to pay off their initial investment, plus pay all expenses and have generated a profit equal to their expected rate of return. 

Business aircraft do not directly generate revenue except for the sale of the aircraft. Thus, the NPV results are typically negative. When comparing negative NPVs, the "least negative NPV" is the more favorable. In other words, if option A has an NPV of ($5,000,000) and the NPV of Option B is ($6,000,000), Option A has the better NPV.

You don't have to be a financial expert to do an NPV.  There are spreadsheet programs that can do the math for you. Or leave it to the experts in finance, but understand what it means.


 

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David Wyndham

Thoughts From The National Waco Club Reunion Fly-in

by Tori Williams 2. July 2017 12:30
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Last weekend I had the opportunity to attend an aviation event that truly inspired me. The 58th annual National Waco Club Reunion was held at Wynkoop Airfield in Mount Vernon, Ohio. My husband and his father have flown into this particular fly-in for several years. This was my first year being able to join them, and I am so glad that I did.

Our trip to Wynkoop was a little over 200 nautical miles. We arrived Thursday evening and did our best to prepare for the incoming thunderstorms on Friday. The rain definitely hit full force and pilots were grounded for the majority of the day. Thankfully all was not lost, and the skies opened up to beautiful sun and favorable winds on Saturday. It was the perfect weather and a great backdrop to the 22 unique Waco aircraft that flew in.

There were several factors that made this fly-in so special. First, the majority of the Waco aircraft flown in are project planes that have been meticulously restored from the ground up. The passionate aviators who have dedicated thousands of hours to their planes aim to honor historical accuracy. These are friends that go back decades and have watched the progress of each other’s projects over time. They call it a reunion for a reason!

Second, the pilots at this fly-in wanted to do just that – fly! At any point in the day there would be several beautiful biplanes whirling around the field, doing low passes, and occasionally taking the lucky passenger for a ride. I like this aspect better than events like AirVenture because you are able to go up whenever you’d like, whereas it can be difficult to get into the air at AirVenture if you aren’t in an airshow.

The third special thing about the National Waco Club Reunion is the locals who come out to see the planes. They are always respectful and curious about general aviation. Unlike some fly-ins where the public seems to come just for the entertainment value, these people have a much deeper passion and respect for the work that goes into restoring and maintaining these aircraft.

An important part of every fly-in is the food that is available. There was a hearty breakfast served Saturday as pilots prepared for the day ahead. In the afternoon attendees enjoyed brats, burgers, and hotdogs with all of the fixings. Another great option was the homemade ice cream food truck parked outside the FBO. The Saturday night banquet was especially delicious and the catered buffet was served on the field!

The fly-in is not heavily publicized in the area. Locals just know that near the end of June the biplanes will come in, and they will show up after they see them flying around town. I had a good experience with every single person that I interacted with from the town of Mount Vernon. They were enthusiastic about the airplanes and we had several of them thank us for coming to town.

My husband especially enjoyed taking the locals up for rides during the fly-in. He said it’s important to him to show people that aviation is a lot more than a way to get from point A to point B. General aviation is more than a hobby, but rather a lifestyle for many. The more that the general public knows about it, the more they will be willing to support pilots and airports in legal matters they may have a voice in. Giving a face to general aviation and the people who enjoy it is an important mission for both of us.

Overall this fly-in was a great experience and I highly recommend attending in the future. The enthusiasm and zeal for aviation shared by the pilots is very clear as soon as you step onto the field. This fly-in truly serves as a great example of success for all other types of aviation events.

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Flying | Tori Williams | Vintage Aircraft



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