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Visualizing the Power of Residual Value

The classic decision matrix for purchasing a business aircraft goes something like this: (1) codify mission requirements; (2) identify specific models that can accomplish those missions; (3) compare the acquisition and operating costs of the models over the projected ownership life; (4) identify specific serial numbers (new and used) available; (5) negotiate the best possible terms and purchase the unit selected.

AvBuyer   |   1st January 2013
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The residual value of a business aircraft can reduce the cost of ownership by millions, asserts marketing expert W. Barry Smith.

The classic decision matrix for purchasing a business aircraft goes something like this: (1) codify mission requirements; (2) identify specific models that can accomplish those missions; (3) compare the acquisition and operating costs of the models over the projected ownership life; (4) identify specific serial numbers (new and used) available; (5) negotiate the best possible terms and purchase the unit selected.

An additional item—residual value--should be included in the decision matrix, however. Look at the two graphs set within this review. Each traces the price history for a specific model aircraft. Each line in the graph tracks the pricing history of that model for the particular year in which that model was manufactured and in subsequent years.

For instance, the bottom line for Model A, a well-known popular design of which just under 300 units have been produced, shows how the price of units produced in 2004 have declined since the day the aircraft was delivered from the factory.

If you look carefully you can see that in 2Q 2004 you would have paid approximately $12,600,000 for this aircraft. By 2Q 2008, 2004 models were selling on average for approximately $9,600,000. Thus the decline in this model’s residual value following four years of operation was about $3,000,000. During 3Q 2008 the bottom dropped out of the aircraft’s selling price as it did for virtually all private jets.

Just ignore that last major dip after 2008 and note that during some really strong market conditions in 2004-2007, this aircraft’s residual value was continually dropping and its resale value averaged about 76% of the initial purchase price.

COMPARISON AIRCRAFT
Now look at Model B aircraft. Note that like Model A, just over 300 units were manufactured during the same period. You can’t tell it from this graph, but we can assure you that not only was the initial acquisition price the same, the speed, range, hourly operating cost and annual fixed cost are generally the same for this and Model A aircraft.

But look at the residual values of Model B during the exact time period as analysed for Model A. In 2Q 2004 the acquisition price was about $14,100,000. But by 2Q 2008 Model B was, on average, selling for $15,000,000; a $900,000 price increase after four years of operation! Model A’s resale value decreased by $3,000,000 during the same time period as Model B’s value increased by $900,000. And, the two aircraft are virtually identical in every other major aspect of consideration.

In reality, total ownership cost of your business jet over a given period—say four years—is (a) total direct operating cost for four years of flying, plus (b) total fixed cost over the four years, plus (c) the cost of capital to own the aircraft for four years, THEN, MINUS (d) the residual value when you sell the aircraft. In this instance, the direct operating, fixed and capital costs of each model will be essentially identical.

But with Model A you receive $3,000,000 less when you sell the aircraft. That amount is capital that you did not recover. With Model B you actually lowered the total ownership cost by $900,000 because you sold the aircraft for more than the initial acquisition cost. With these two aircraft, the cost of ownership differed by $3,900,000 over four years! That’s a variance of over $80,000 per month.

Absolutely no other cost factor comes close to resulting in such a dramatic difference in total ownership cost. Even if Model A had an hourly operating cost of zero and you flew 500 hours per year for four years, Model B would still have a lower total ownership cost during the period because of the higher residual sales value.

KEY CONSIDERATION
The single largest factor that determines total ownership cost will normally be the resale value, or residual value after your years of ownership when subtracted from its initial price. This key element historically has not been considered by organizations and individuals during their acquisition process. Why doesn’t everyone factor this into their purchase equation? Simple. The information has never been readily available, until now.

Created by marketing executive W. Barry Smith using data by permission from the Aircraft Bluebook Price Digest, his unique charts plotting residual value of business jets and selected business turboprops have been offered exclusively to World Aircraft Sales Magazine.

Read more about: Residual Value

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