Wings & Water: Air Turbulence
Change is in the air–literally. New business models are proliferating in private aviation, and a complicated industry is growing more so, as debit cards, hybrid ownership programs, and other options conspire to confuse and confound private fliers.
First, a word about the author: I flew an aircraft for the first time in 1970, when I was 14 years old, and have served as a pilot for both the U.S. Navy and various commercial airlines. I have logged more than 16,000 hours of flight time since receiving my naval flight training in 1978. In recent years, I have spent much of my time helping people sort through their private aviation options, a complex web of possibilities that includes aircraft ownership, partial (fractional) ownership, jet chartering, and jet cards.
Much has transpired in just the past year. More charter operators are embracing the debit-card model, in which customers pay a deposit up front. Companies are scrambling to recoup rapidly rising fuel costs, an effort that can be buried in a contract’s fine print. Fractional operators that traditionally have owned all their aircraft sometimes have found themselves forced, by their own success, to turn to charter firms to provide planes. And as fractional contracts come to term, many purchasers are realizing to their dismay that they have little control over the price at which they can sell their shares back to the issuers.
Here, I look at these and some other significant developments and offer guidance on how to take advantage of them–and, more important, how to avoid getting burned by them.
Increasingly, private aviation companies are adopting a one-stop-shop approach. Fractional companies are expanding into the charter and jet-card businesses; traditional charter firms are offering jet-card-like options; and jet-card programs are offering traditional charter flights or merging their services with those of their fractional parents. This trend offers convenience to customers, but it also threatens to degrade customer service as the companies stretch in too many directions.
Meanwhile, a number of smaller, niche companies have emerged. Among them are fractional operators that address fliers’ specific, limited requirements, usually on a regional basis. Because of their significantly lower operating costs, these companies require less capital investment from clients than do the larger fractional firms. One company, PlaneSense, based in Manchester, N.H., flies only the six-passenger configuration of the Pilatus PC-12 turboprop, which is less expensive to fly than a similar-sized jet and can operate on smaller runways. Another firm, Florida-based Avantair, flies only the seven-passenger Piaggio Avanti P.180. Companies such as these usually are suitable if you have a frequent need to make short flights with few passengers. While it may be more economical to fly with a specialized fractional operator, if you decide to sell your aircraft shares, these companies typically will provide only assistance in finding a buyer, not the guaranteed redemption that larger fractional providers generally offer.
One of the more interesting developments in the fractional world is the advent of hybrid programs that offer the benefits of ownership, the convenience of fractional service, a minimum of capital outlay, and volume discount pricing. Although these programs currently form only a small part of the fractional industry, they could well revolutionize it.
At a conference in April in Arizona, I met David Miller, the chief operating officer of one such operator, XO Jet of San Carlos, Calif. Miller described how his company gives owners of Citation X aircraft a chance to use their jets 250 hours or more per year and to have them chartered for as many as 800 hours per year while ensuring that the planes remain available for the owners. Chartering the aircraft spreads the fixed operating costs over more hours, he said, without compromising the convenience and scheduling flexibility of fractional service.
Another company, Apex Aviation Corp. in Northern California, has an Aircraft Co-Ownership program that assigns scheduling priority according to the percentage of an aircraft that you own. For instance, if you have purchased 25 percent of an aircraft, you receive first priority for scheduling it 25 percent of the time. While this approach requires some planning, it significantly reduces your investment, again by spreading fixed costs. Apex estimates that its hourly charges are 15 percent less and its monthly costs 65 percent less than those of a traditional fractional program for the same make and model of an aircraft.
In the United Kingdom, the executive jet services company Club328 offers a plan called SkyBond, in which you can pay for flight hours in the Raytheon Beechcraft Premier 1 jet (25 hours per year for six years) with the interest earned on about $1.75 million that you deposit in an escrow account. I am not a professional wealth manager, but it seems to me that there could be a better way to invest that amount of money than to sink it into aircraft flight time. Still, this program could work for certain individuals.
Several new programs undoubtedly will arise with the era of very light jets (VLJs). Despite some serious concerns about this new aircraft type, including worries about training and insurance, it seems destined to make private jet ownership much more accessible. When these aircraft become certified by the Federal Aviation Administration and are delivered by the manufacturers, fractional programs specializing in VLJs will make them even more affordable. The first FAA-certified VLJ, Eclipse Aviation’s Eclipse 500, recently rolled off the assembly line at a retail price of about $1.5 million. Jet-Alliance, a company based in Westlake Village, Calif., plans to offer shares in the Eclipse for prices beginning at less than $100,000, marking the first time that any fractional share has sold for five figures. Certainly, Jet-Alliance is just the first of many fractional operators that will offer VLJs.
These light jets are expected to allow the development of an air-taxi industry, in which companies would provide transportation between smaller, underutilized airports at prices that would approximate those of full-fare airline coach service. The first of these firms, DayJet, hopes to launch in the Southeast by the end of this year.
As these new business models emerge, the largest fractional operators struggle to find one that will be consistently profitable. In a couple of instances, these companies had plowed resources into subsidiary jet-card programs in an effort to introduce people to the world of private jets–hoping that once customers had a taste of it, they would graduate to fractional ownership. Unfortunately, these jet-card initiatives sometimes worked too well, pulling resources away from the fractional businesses and impeding the companies’ ability to deliver aircraft to fractional customers on time.
The fractional operators appear to be overcoming this problem. NetJets, by far the world’s largest fractional player, lost a significant amount of money in 2005 but seems headed for profitability this year as it redirects resources to its core business. Similarly, CitationShares has restricted the availability of its Vector JetCards to protect its fractional-share owners.
Jet-card programs generally have proved popular among customers and profitable for operators, but the card model has certain disadvantages compared to fractional ownership. For example, card programs usually require longer notification times prior to a trip, and they restrict or disallow travel more frequently. Typically, they also impose hourly rates higher than those charged to fractional owners, because they have no purchase dollars or monthly management fees to cover the costs of operating the aircraft.
Some card programs are compensating somewhat for these drawbacks by adding perks that can include free positioning to departure airports, special access to clubs and resorts, and a reduction in annual hour requirements. Delta AirElite, for instance, offers a package of as few as 10 flight hours per year. A number of programs also give cardholders access to multiple plane types, allowing them to use the same cards to fly large planes for family vacations and small jets for business trips.
A number of private aviation companies are adopting a business model pioneered in 1999 by Sentient Jet, which gives customers access to a wide variety of aircraft offered by charter operators. Under this model, which frequently is referred to as a membership program, customers pay a deposit, and the company deducts the flight costs from the member’s account, as with a debit card. Usually, customers choose between different membership (read: deposit) levels. Deposits can reach as high as $1 million or more, but a minimum of $100,000 is the most common requirement.
Like all models, the debit-card approach has drawbacks. Because the membership fee generally is small compared to the purchase price of a fractional share, the company must make money on its hourly rates, so those costs tend to be high. This is especially true if you travel only one way, in which case your hourly rate will help to defray the cost of the deadhead flight. With fractional shares, by contrast, the hourly charge generally is fixed whether the flight is one-way or round-trip. In addition, you should consider that companies may be embracing the membership model because they fear the impact of skyrocketing fuel costs. Having received its payments up front, a company could try to camouflage price hikes, surcharges, and the like–meaning that customers should watch carefully what is being deducted from their deposits.
Fractional owners should be mindful that their providers are grappling with fuel costs as well. Outside the sale of shares, fractional operators have a limited number of ways to generate revenue, and some are succumbing to the temptation to use fuel surcharges to make money. The purchase agreement for a share contains the formula used to calculate the surcharge, but the calculation can be confusing. As a consultant, one of the things I have done is help people understand these formulas.
Another sticking point in fractional ownership involves what is called the redemption or repurchase. Fractional contracts typically last five years, after which you have the option either to renew the agreement or to sell your shares back to the company. A good number of people, prompted by attractive share prices, purchased jet shares in the early part of this decade, while others renewed agreements that they had signed in the mid-1990s. Accordingly, many fractional contracts now are coming to term, which has brought the issue of redemptions to the fore.
The rate at which a fractional company buys back shares depends on a number of factors, most notably the condition of the owned aircraft and the state of the jet market in general when the repurchase takes place. Because of the high number of hours flown by fractional jets, values typically are lower than those for an aircraft used by a single owner.
Fractional companies currently are offering an average redemption rate of 70 cents on the dollar, but across the industry, those rates range from as high as 80 percent to as low as 40 percent. So it pays to be aware of an operator’s history regarding repurchases before you enter an agreement. All purchase contracts identify a process for determining the value of a share, and you may want to engage an expert to help you pursue a dispute. If you own only a one-sixteenth share (corresponding to 50 annual hours), however, you may find it difficult to justify this process because of the relatively small amount of money involved.
Fractional owners also should know that a recent change in the regulatory landscape can shift liability in their direction. Last year, the Federal Aviation Administration directed that fractional owners must identify the set of regulations under which they will operate their flights. The choice of regulations determines who is in “operational control” of an aircraft during a flight, which in turn assigns liability to either the fractional provider or the share owner in the event of an incident. Obviously, the owner will want to choose the regulations that assign the most liability to the provider while retaining as much flexibility in the agreement as possible. I recently helped some corporations purchase fractional shares, and their risk managers sat up straight as they realized the implications of the FAA’s decision. Individuals should be just as careful when they negotiate a fractional agreement.
As the world of private aviation continues to change, it will pay to keep an eye on the industry’s start-ups and smaller players. While the companies that pioneered the industry add services and grow larger, they may risk losing sight of what made their offerings attractive in the first place: flexible schedules; attentive, one-on-one service; the ease of stepping directly onto and off an airplane, bypassing check-in and security lines; and, in general, a recapturing of the romance that once characterized commercial flight. If the industry juggernauts can continue to offer this romance, I am confident they will thrive. But if, submitting to the pressures of growth, these players begin to slip, look to the young and the maverick to restore the extraordinary service culture that makes private flight so pleasurable.