Strategy still more important than fuel efficiency when acquiring aircraft

By James Geldenhuys, Head: Aircraft Finance at Nedbank Corporate and Investment Banking

_DSC7932

For any business, acquiring a high value asset typically involves much deliberation and challenging choices. When your business is an airline and the asset is an aircraft that is vital to your continued operations – but comes with a hefty price tag of anything up to $300 million – the decisions become significantly harder to make. Do you buy a new or used aircraft? Do you buy at all; or rather go the leasing route? If so, is the lower cost of a long-term lease better for business than the flexibility of a higher-cost, short-term leasing option?

Of course, there’s no simple answer to any of these questions because the correct response depends on many factors. Until fairly recently, the decision was made slightly simpler by the high price of oil. When airlines are faced with exorbitant fuel costs, the longer-term savings of an economical jet makes the decision to buy new far easier.

Today, however, while fuel efficiency remains a key component in any airline’s achievement of its targeted profit margins, the comparatively low cost of fuel makes it less of a determining factor when it comes to choosing what aircraft to buy, and how to buy them.

Instead, the major consideration these days has to be what that airline plans on doing with the aircraft once it is acquired. If, for instance, the intention is to test, or establish, a new route, then buying a new plane purely based on the fuel savings it offers would be less than prudent. In fact, even if the route is already fairly well established, a shiny new, fuel efficient aircraft with a multi-million dollar price tag may still be overkill, particularly for smaller airlines operating in developing economies – which is the case for most of Africa.

For such operations, the case for leasing as a way of ‘testing the waters’ is also strong. While a short-term lease can be relatively expensive for these airlines, the lower risk such a short-term agreement offers should the venture fail, makes the higher lease costs a comparatively small price to pay.

Given these arguments against buying new, one could question the viability of acquiring new aircraft altogether. But to do that would be equally naïve. There are a number of compelling reasons why acquiring a new aircraft makes sense if the airline concerned has the means to do so.

The lower maintenance costs associated with new aircraft is one such argument. And the lower fuel price environment, if sustained, is actually another. That’s because a new aircraft quickly becomes a used one. There is a significant trend emerging, particularly in the USA, towards importing good used aircraft and putting them to work, irrespective of the fact that they may cost a bit more to run. This has created a burgeoning market for good used aircraft, which effectively destroys the widely held belief that leasing is a more flexible option than buying because it’s easier to offload the aircraft if required.

Of course the costs of buying a new aircraft are, at best, prohibitive. And accessing finance to do so, particularly without clear evidence of existing passenger demand, remains a challenge. Then there’s the issue of long lead times as aircraft manufacturers remain on the back foot in terms of their ability to supply ongoing global demand, despite Boeing and Airbus working hard to meet this demand by ramping up production, particularly in their wide-body ranges.

All in all, the process of acquiring an aircraft – or fleet of aircraft – remains a very tricky balancing act particularly for smaller airline companies with limited financial means. The bottom line though, is that the decision by any airline whether to buy or lease a new or used aircraft should always have less to do with the price of oil, and more with which of these options best gives effect to that airline’s long-term strategy.

By | 2021-06-08T00:05:26+02:00 November 23rd, 2016|Investment Banking|0 Comments