- 21 Oct 2022
- Rebecca Applegarth
- BizAv Market Insight
With economic challenges ahead, what will happen to pre-owned aircraft values? Sonny Davis shares evidence that a new floor has been established for used aircraft sales, with values unlikely to shrink back to pre-Covid levels...Back to Articles
Used jet values have exploded over the last 24 months, and only since the summer have they shown signs of ‘topping out’. Demand cooled slightly in the Memorial Day through Labor Day period, as was typical prior to the Covid pandemic. As a result, inventory increased slightly, and prices eased a little. Nevertheless, demand remains strong.
In the longer term, pricing trends are expected to revert to somewhere near a 7% annual depreciation on any single asset until scrap value approaches. But this time it could be a little different... The 7% annual decrease will be from today’s prices, as opposed to a resumption of the lower, pre-Covid used aircraft values.
The reasons why can be broken into ‘supply’ and ‘demand’...
Pre-Owned Aircraft Demand
Low Interest Rates/High Depreciation: The 2017 Tax Cuts and Jobs Act allowed for 100% depreciation of most new and used airplanes in the year they were placed into service.
At the same time, during the pandemic interest rates hit an historic low: a company or individual could make a 20% downpayment on a used airplane, deduct 100% of its purchase price against profits, and finance the payments at historically low interest rates.
With the opportunity to use zero net cash in the first year of operation, the rising tide of demand that ensued was certain to lift prices in the used airplane market.
The ‘punchbowl’ was never going to last forever, though. Starting in 2023, bonus depreciation drops by 20%, meaning that only 80% of the purchase price of a used jet can be captured. In addition, ten-year treasuries are trading at an implied rate over eight times the pandemic low of 0.51%, while credit standards have also tightened.
While the reversal of these affordability trends has yet to bring prices down materially, a noticeable reduction seems to be only a matter of time.
By 2024, bonus depreciation will drop another 20% to 60%. Of course, not every so-called business jet is subject to depreciation. And even for the vast majority of buyers for which bonus depreciation is a factor, the drop from 100% to 80% is unlikely to be a deal breaker on whether to enter the market.
The phased reduction in depreciation is even less likely to have a material effect on the decision to replace an airplane already in service. However, the enormous interest ‘rate-of-change’ shock is certain to be financially burdensome for owners heavily exposed to the whims of the credit market, and as a result we may again see some forced sales in the coming months.
The other side of that coin will be a healthy supply of buyers who are attracted by distressed sale prices.
ADS-B/LPV: The 2020 ADS-B Out data mandate required owners to invest heavily in their airplanes, with some equipage installations exceeding $250k. As many of the installation packages available to owners also offered the recently developed LPV approach capability, a few installations even approached $500k.
This forced owners to re-examine their current and future investment in both airplane and upgrades in the years prior to the ADS-B deadline. Those who invested in this upgrade had, in a sense, renewed their commitment to their airplane, establishing a desire to allow their asset to earn its return on the investment.
This ‘love the one you’re with’ effect has served to reduce the number of airplanes for sale, though the effect will fade with time as that investment amortizes, if only emotionally.
Pre-Owned Aircraft Supply
New-builds are Tight: In response to extraordinary Covid-related demand, fractional ownership providers have again largely locked up the business jet OEM order books, forcing aspiring jet owners to shop the used market if a timely delivery is desired.
Distorted Trend: The salad years of fractional ownership was the economic space between the 2001-2002 recession and the Great Recession of 2008-2009. Times were good, and the private aviation marketplace was like a wet sponge for the fractional providers.
Market leaders FlexJet, NetJets, Flight Options and CitationShares placed unprecedented orders for new aircraft.
Fractional service agreements typically have a duration of five years, with the airplane itself usually being in service with the provider for ten. Thus, given an order lead time of 12-18 months, this initial tranche of airplanes flowed on to the used marketplace between 2014 and 2018, increasing the pool of available inventory and causing a depression in prices.
China and Russia: The large cabin market is traditionally more volatile than the owner-flown market, being more susceptible to war, stock market fluctuations and additional regulations.
Regarding Russia’s invasion of Ukraine, we are unlikely to see the type of price adjustment we saw after the annexation of Crimea, as Russia had already been sanctioned since that 2014 action and the market had already somewhat adjusted.
Likewise, there have been several aircraft coming out of China for sale recently, but not at the bargain-basement prices of years past.
While it is probably safe to say the major price increases seen as a result of the ‘Covid-economy’ are largely behind us, it is unrealistic to expect major downward price shifts either. After flying privately, Warren Buffet is credited with saying that going back to flying on the airlines is like going back to holding hands in a relationship.
Nobody who is currently flying privately is going to return to the airlines unless forced to do so by circumstance. Therefore, with more turbine airplanes in service now than ever before, current transaction and operational activity levels should establish a permanently higher floor for the future.
This step up will be the new trend line that prices will soon recede toward, as the credit cycle and business cycle ebb. Should there be some existential need for owners to rush to the exit, an overshoot of the trend is always a possibility, but this newly broadened base of demand is better for all private aviation stakeholders, longer term.
ABOUT THE AUTHOR
Sonny Davis is the Founder of CoAir, a boutique aircraft management company based in Portland, Oregon. His flying career began in 1993, and he has since logged over 14,000 hours and flown around the world four times. Sonny has flown freight across the desert Southwest, crossed the Great Plains, seen the world serving two major air carriers, but his passion lies in the personal touch of private aviation. More information from www.coairmgmt.com