North America leading the upswing
The 2018 NBAA Convention is the first in a decade, which can set out its stall in a seller’s market.
In the largely stagnant interim since the Great Crash in 2009, buyers, in their short supply, have had the whip hand as excess fleet capacity accumulated and prices withered. The industry’s recovery, which now appears to have started back in late 2016, has seen a gradual erosion of the glut, accelerating this year to record-low pre-owned inventory levels of under 9%. The recovery in prices has lagged behind, but for the younger and higher quality pre-owned fleet, increasingly scarce, sellers are back in business. OEMs should finally have a platform to sell in their latest suite of new aircraft.
The market’s collapse ten years ago was, however, so prolonged and traumatic that memories are still fresh, and whilst the supply side is turning in favour of sellers, buyers are as cautious as ever. Sales of new aircraft have been underwhelming so far this year, with under 300 business jets delivered in the first half, and the majority of the OEMs reporting fewer deliveries year on year. Had it not been for newcomers Pilatus, Cirrus and Honda, deliveries would be skirting at their lowest since 2005. The pre-owned transactions market has also slowed this year, probably indicating the floor held up by much older aircraft which are behind in equipment mandates, uneconomical to maintain and likely heading for scrap.
So the question remains whether potential buyers will heed the cycle and buy back into new corporate aircraft. There is little doubt that the traditional recovery indicators are green-lit, but the last decade is now strewn with correlations which should have worked out but haven’t: corporate profits and stock markets have broken records, business confidence has recovered, PMIs are strong, balance sheets solid, unemployment at historic lows, yet business jet sales to the key US and European markets have stubbornly refused to follow suit. The Emerging Markets´ demand for business jets has, on the other hand, correlated closely to deteriorating trends in oil revenues and currency depreciation. Back in 2012, these markets took over a third of new jet deliveries, mitigating the slump in mature markets. This year their share of new aircraft is well under 20% of all deliveries.
On the brighter side, growth in the largest economies in North America, Europe and Asia is persisting in the face of increased geopolitical turbulence this year. The US economy is in its longest expansionary cycle in 50 years, even picking up speed this year in the wake of Trump’s fiscal expansion and tax cuts. European economies have modest growth, but now 20 quarters´ long. If China’s economic transition fell off the rails, the global economy would swiftly retract, as it threatened to do back in 2017, but so far, despite the trade war hotting up with the US, economic growth is on track. The most likely disruption to the common growth of these regions is divergence in economic policy, in particular the combination of rising US interest rates and protectionist trade.
The Charter market has also been buoyed by new operating models, which have increased access to business aviation.
In the recent tariff escalation between the US and China, heavy business jets were first included and then removed from the list of tariffed goods. The leading OEMs may in any case suffer from the impact on US firms‘ purchasing power as the dollar strengthens. And as demand from Emerging Markets wilts, US buyers are the best prospect for recovery in global aircraft sales. The domestic market has a convincing combination of incentives and signals: the top end of the market is going to be galvanised by a swathe of new ultra-long range models, with Gulfstream 500 certified in July and entering service in Q4 2018, G600 following in 2019, and Bombardier will hope to challenge the G650 for top-spot as its Global 7500 enters service in the next few weeks.
Tax cuts & bonus depreciation measures
On the demand side, the OEMs will be hoping that buyers‘ appetites are still whetted from the tax cuts and bonus depreciation measures launched late last year. It’s been a bumper year for corporate profits in the US, up almost 20% on last year, and at last there are signs that businesses are directing cash piles towards asset replacement and upgrades instead of defensive share buy-backs. At least for now, interest rates are still low and financing terms favourable. The next few months will tell whether a generalised shift towards corporate capex will extend to business jets. Will the opportunity to purchase an aircraft – the ´best ever window´ for buying a corporate jet, so the brokers tell us – overcome buyers´ aversion to the risk of another slump in asset prices, besides the unsympathetic shareholder perception of executives who choose to fly private?
US flight activity trends
As a precursor of demand, flight activity trends in the US give us a mixed picture. Total business aviation activity, measured in flight hours, just over 3.1 million year-to-date August, is up 3.5% compared to the same period in 2017, as shown in Chart 1.
Charter activity, operated by aircraft on Part-135 certificate, has grown by most, up 6.5% so far this year. Although that growth is down from the double-digit surge in the Charter market last year, it underlines the sustained demand for ad-hoc usage. With Private and Fractional activity languishing in the 1%-2% growth range, the relative strength in the Charter market is no doubt a marker of users‘ aversion to taking any significant ownership risk. The same trend is apparent in Europe, with AOC market up 4% this year, and Private missions barely 1% up. With the active fleet growing around 3% both sides of the Atlantic, the modest growth in aggregate activity is a reminder that asset utilisation is barely recovering.
The domestic market has a convincing combination of incentives and signals: the top end of the market is going to be galvanised by a swathe of new ultra-long range models, with Gulfstream 500 certified in July and entering service in Q4 2018, G600 following in 2019, and Bombardier will hope to challenge the G650 for top-spot as its Global 7500 enters service in the next few weeks.
New operating models
The Charter market has also been buoyed by new operating models, which have increased access to business aviation. Wheels Up, which only emerged back in 2015, has taken delivery of almost 80 King Air 350s and Citation Excel/XLS jets and aimed to add a further 20 by the end of this year, to serve almost 5,000 members. Wheels Up believes that the user base for business aviation should be double the size, given the right platform and product, and Kenny Dichter, the CEO, has projected a long-term goal of 100,000 members. Flight activity trends, operating under the Gama Aviation certificate, show impressive growth and utilisation rates for the Wheels Up fleet as shown in Chart 2.
Surf Air and Jet Smarter are two more recent mould-breakers, leveraging the interest of wealthy backers to create an uber-style platform for bypassing the airlines. Many of the larger operators have similarly introduced a range of hybrid membership and shuttle products in the last year. Much is being made of the potential for gaining customers and building operational scale by harnessing tech platforms to match up dynamic supply and demand. But this year appears to have been tougher for operators, both old and new. The newcomers have somewhat retreated, with Surf Air and Jet Smarter largely withdrawing from their market entry into Europe and the Middle East. Wheels Up has declared its interest in geographic expansion for several years, but seems to have baulked at the opportunity.
Instead, there appears to be more emphasis on consolidation. Vista Jet highlighted the trend in September, with its acquisition of XO Jet. As shown in Chart 3, XO Jet has a substantial fleet of Super Midsize and Midsize aircraft, with 41 aircraft Challenger 300 and Citation X. XO Jet has operated a private charter franchise for over a decade, mainly orientated around transcontinental city pairs. XO Jet´s investors have substantial stakes in the airline business and its business jet operations have the same emphasis on value for money and efficiency. Vista Jet meanwhile has long harboured an ambition to challenge for NetJets’ top-spot but has relatively little traction in the US market. That will change with the acquisition of XO Jet´s significant regional operating base.
Transatlantic one-stop shop
Directional Capital is no newcomer to consolidation, and Kenn Ricci´s private aviation group is maintaining this trend, adding UK-based PrivateFly to its US digital brokerage platform Skyjet. Directional clearly has an eye on building a transatlantic one-stop shop for business aviation services, adding European platforms such as PrivateFly and Flair Jet to its US-based shared ownership programs, jet card services, as well as Nextant’s remanufactured aircraft. The transatlantic impulse is also coming the other way, with Gama Aviation providing the platform for Wheels Up, and Luxaviation hinting at expansion to the US market through its partnership with the Paragon FBO network.
The underlying message is that operational scale is a prerequisite to market leadership at this stage of the cycle. The sector is strewn with ambitious ventures, which have lacked geographic dimension, customer base and services coverage. Zetta Jet was last year´s prime example and this year will see other contenders. The easy financing conditions of the last few years are drying up, and original investors are now looking harder at proof of profitability than growth. The combination of vertical customer touch points is becoming a necessity as much as a virtue: the collaboration of the UK brokerage Victor, Air BP and BBA Signature under the Alyssum Group; Stratajet white-labelling its B2C booking platform to operators; Stellar securing the inventory for its digital charter reservations through buying up the leading flight operations software.