What should a Flight Department Manager know about aircraft financing, and why? Andre Fodor shares some of his own experiences in this aspect of aircraft ownership…
The exercise of asking tough questions and continuously broadening knowledge is crucial to the role of a Flight Department Manager. Knowledge enables us to ask good, thought-provoking questions that help others within our companies make good choices.
For example, learning about all of the options for the purchase and payment of an aircraft – either through cash buying, financing or a lease arrangement – will ensure you remain in the loop and are an active participant during the acquisition process.
Aircraft financing has been a topic at aircraft OEM sales meetings and management workshops for years, and for good reason…
If we were to use the argument that most cars sold at dealerships are financed, it would be a valid assumption that having accessible financing generates larger sales volume. But then, we’d need to consider the volume of cars sold that generate a critical mass, and the cash in-flow that helps balance and spread the risk of financing to the lending institutions.
In the case of car finance, if a borrower defaults on a loan, collection and re-marketing will not represent a single large value asset that damages the lessor’s balance sheet. Aircraft financing, however, presents a completely new set of risks.
For example, an aircraft can easily be flown to a location causing the collateral to be unreachable. For this reason, financing companies may require alternative collateral as a way to secure the loan and manage the risk. Higher interest rates may also be part of the risk mitigation.
Count the Cost of Borrowing
In deciding the best way to buy, an operator needs to consider the cost of borrowing money. While previously helping to structure a purchase, I learned a memorable lesson from one accounting wizard…
His metrics showed that although there were substantial cash reserves to purchase the aircraft, because of existing low interest rates and the fiscal benefits for borrowing money (tax deferrals and the lowering of bracketed tax rate), it made better sense to use the cash for business expansion and to borrow money for the aircraft purchase.
In another purchase I was involved with, when faced with the option of cash-buying or making multiple payments (and paying higher taxes), it was decided that a new factory could be bought with the cash in-hand and increase profitability, while an aircraft could be financed. (After all, taxes would always be lower than net profit.)
When Lease Becomes an Option…
An alternative to financing or cash buying is the option to lease. These transactions can work well for companies that can take full advantage of the tax benefits of leasing laws.
Some would argue that a large down-payment added to a sizable monthly leasing payment that ultimately leaves you with no ownership is a bad investment.
But that argument could be countered with the fact that at the end of a lease term the lessee returns the asset, unencumbered by the hassles of selling the aircraft, and is free to lease a newer airplane that’s still under warranty.
In some instances, lessors may consider a lease extension or a lease with an option to buy at the current market value. That means that at the end of the term, you can choose to pay the residual value and become the de-facto owner of the aircraft.
A Balancing Act
The above should highlight how financing is a valuable tool that creates options for buyers. Nevertheless, buyers must balance their aircraft needs with forecasted cash in-flow over time.
As the economy strengthens and financing institutions become more eager to lend money, they will create new models that capture the attention of qualified buyers who might otherwise have opted for a cash buy. Governments may further polarize the borrowing market by offering incentives in the form of tax benefits designed to warm up their economies.
But along with the incentives and availability, it is the responsibility of the Flight Department Manager and the rest of the acquisition team to be cautious.
Buyers must make sure they’re well matched to an aircraft that they can not only afford to buy, but also afford to operate. Buying a Larger jet simply because of their lower market prices irrespective of the actual mission need will invariably end badly.
You’re the Hub
Remember: As Flight Department Manager you are the catalyst - the hub of the knowledge network. It’s our goal to direct resources in the most efficient way. You will engage the accountants, financiers, technicians and lawyers that bring expert knowledge to your transaction.
It’s through your management skills that these professionals will use their expertise to yield the best aircraft, optimum terms and the happiest aircraft ownership experience.