CAROLE SHIFRIN IN WASHINGTON
Fractional jet ownership offers the benefits of private flying at a fraction of the cost of buying a dedicated corporate aircraft. Major carriers are now starting to tap into this market sector, and stem the loss of high-end business
Some major carriers have already dipped their toes into the corporate jet market. British Airways, Virgin Atlantic Airways and Air Canada are all planning to test the water. But it is United Airlines which has now donned its swimsuit and dived in. That has left the industry undecided as to whether a life preserver is in order.
Growing airline interest in business jet operations stems from phenomenal growth over the last few years of fractional jet ownership. It is a creative system whereby "high net-worth" individuals and corporations can own a share - a fraction - of a business jet which enables them to use the aircraft for a specified number of hours per year.
For those who can afford it, these programmes offer the benefits of private flying at a fraction of the cost of buying a dedicated corporate aircraft. The advantages are obvious: direct routings between departure cities and destinations; avoidance of congested airports and crowded terminals; and reduced sitting-around time caused by air traffic or airline-induced delays.
As such, the programmes attract those who might have purchased a business jet themselves but do not really need an entire aircraft. Also attracted are those who might charter on occasion and, increasingly (or so the airlines believe), the high-revenue, first- and business-class passengers they count on.
To tap into this market, which has seen double-digit growth for the past five years, and stem the loss of high-end business - or at least recoup it in another way - airlines have been considering their own ventures into corporate aviation. Each is doing it a little differently.
British Airways has joined with Air Partner, the world's largest corporate aircraft charter broker, to allow BA passengers to hire a business jet much as they would hire cars. Air Partner can arrange to meet a passenger arriving on a flight and whisk him/her off to a waiting business jet for transport to a location not served by BA or perhaps with no scheduled service at all. It can also take the traveller to two or more places in one day, enabling a multi-stop trip that would be difficult to duplicate on a scheduled airline. And the passenger gets BA frequent-flyer miles.
Called "Business Jets in association with British Airways", the new service requires no investment from BA. Its primary involvement is marketing the service to companies with travel agreements with BA and to selected members of its Executive Club scheme. Under the initial one-year agreement with Air Partner, BA gets a percentage of revenue the new business generates. Air Partner owns no aircraft itself but contracts them as needed from charter providers.
Air Canada has also linked up with a corporate jet operator - Skyservice Aviation - and has agreed to acquire a 30% holding in it, plus a share in parent company Skyservice Airlines. Calling it a strategic partnership, the companies say the corporate aircraft part of the business would complement Air Canada's service by offering business travellers an additional "productivity enhancing tool".
For its part, Virgin Atlantic is considering the creation of a new subsidiary that would operate a high-end premium airline using a small fleet of business jets. Possibly to be named Virgin Jetset, it would operate out of a London regional airport like Farnborough or Northolt to similar airports in the USA, especially in the Northeast. Virgin says that "a lot of people" have asked to go to places such as White Plains, an airport in New York's Westchester County, a suburb that is home to numerous large corporations. "There is a market for services to places like that," Virgin adds.
That would be particularly true if the Anglo/French Concorde does not return to full service, Virgin officials believe. "If Concorde service is resumed, it would still work, but not necessarily to New York," an official says. "The high net worth individual would clearly go for the biggest corporate jet in the world. That's what Concorde is, after all."
For its venture, Virgin originally looked at the Boeing Business Jet and Airbus Corporate Jet but is now considering a fleet of six Bombardier Global Express aircraft, equipped with 18 flat-bed seats. Bombardier's top-of-the-line, long-distance business jet, the Global Express flies higher and faster than scheduled airliners.
Virgin plans to decide something by autumn. "We're looking at different business plans: one assuming Concorde comes back and another if it doesn't," the official says.
By far the most ambitious venture is that of UAL, United Airlines' parent, which has set up a separate subsidiary, United BizJet Holdings, to focus on fractional ownership of business jets. Additionally, the business plan calls for "a portfolio of products" including corporate shuttle and air charter services using business jets.
To get started, United BizJet placed firm orders for 12 Gulfstream aircraft in the 14-15-seat range - seven Gulfstream IV-SPs and five Gulfstream Vs - and took options for 23 more. It also said it would enter into a long-term maintenance agreement for support of the fleet. The pricetag for the venture comes to $1.25 billion, and the first aircraft is to be delivered next May. The new unit has also signed a letter of intent with Dassault Aviation for up to 100 eight-seat Falcon business jets. The $2.5 billion deal includes firm orders for 40 aircraft and options for 60 more. Deliveries would start late next year.
United plans growth
Stuart Oran, the United senior vice president-international who was nominated in May to be president of the new subsidiary, says he anticipates having a fleet of up to 200 business jet aircraft - in a range of sizes - in fractional service by 2006. The subsidiary is to begin marketing shares in the fourth quarter and begin operations in the first quarter of 2002, with as-yet unidentified aircraft.
UAL is making a substantial investment, estimated at $250 million. "It's going to be a significant operation, and a business we intend to succeed in," says a United official, "so we're hiring the right people - outside of United - who have expertise in this marketplace."
In outlining the new venture, United chairman and chief executive James Goodwin noted that the business aviation industry's dramatic growth reflected both the market and "particularly, the needs of our corporate customers". Given its experience in aviation, United believes itself positioned to supply "a unique product" with the highest standards of customer service to the market.
Although company officials exude confidence, others are less sanguine about the venture's chances of big success. Among the risks cited: the high capital costs involved; United's lack of experience in a corporate aviation world that is vastly different to the scheduled airline business; the limited size of the overall market; and stiff competition in the fractional jet ownership marketplace.
Moreover, efforts to attract executive travellers to new fractional ownership and other corporate aircraft services are being launched at a time when the US economy is in serious slowdown, corporate profits are under pressure, and many companies are taking steps to cut travel and entertainment expenses. This is already reflected in a substantial reduction in higher-yield business travel.
Kevin Mitchell, chairman of Business Travel Coalition (BTC), agrees that an exodus of premium passengers from the airlines helped boost fractional ownership over the last few years. "Part of what was going on here is that corporations were reacting to the unreliability of the system, as well as to eroding customer service levels," he says. His organisation, funded by 51 large corporations, acts as an advocacy group for the interests of business travel customers.
But now Mitchell thinks there is a second reaction taking place. "Last September and October as companies started to get uncertain about the economy, they decided to review comprehensively everything to do with travel," he says. "I think this second wave-may take away from the momentum toward these fractional jet programmes."
Travel budget threat
A BTC survey of 62 major corporations - with a combined annual travel and entertainment expenditure of $6 billion - found they are seeking an average reduction in travel activity of 28%. That would translate into $1.7 billion for the whole group. Even if the 28% goal isn't reached, Mitchell thinks, a substantial cut in travel expenditure is in the offing.
Survey data and comments also lead Mitchell to believe that when economies rebound, business travel levels are unlikely to snap back as in previous economic downturns. In the recession of the early 1990s, corporations used what Mitchell says were "crude tools" to save on travel expenses, like across-the-board 10-15% cuts. Now they're putting teams together to do top-to-bottom reviews, he says, with an eye to making permanent, productivity-enhancing changes. They are considering greater use of technologies that are now more mature, effective and less costly - video conferencing and web conferencing, for example - as alternatives to some travel.
A potentially permanent reduction in travel expenditure represents one risk for United's plan. Another stems from the airline's eroded reputation for quality service and reliability over the last year. "The executives they are seeking to attract are the same executives trying to run away from United," Mitchell says.
Too, if executives want to participate in fractional ownership, they would likely shop around and might choose one of the already established companies in the marketplace, such as Executive Jet's NetJets. The brainchild of Richard Santulli, NetJets was launched in 1986 and is now the undisputed powerhouse in the field. Though Executive Jet was acquired by Warren Buffett's Berkshire Hathaway in 1998, Santulli remains as NetJet's chairman and chief executive.
As of July, NetJets operates a fleet of 365 business jets and continues to take between six and eight new aircraft a month, ranging from the $6.5 million Cessna Citation V Ultra, its most popular aircraft, to the $48 million Boeing Business Jet. According to Kevin Russell, senior vice-president of Executive Jet, its order book stands at 580 aircraft, including 50 Gulfstream 200s ordered in May. The company has 12 types of aircraft in its fleet and is adding five more.
This year, NetJets will operate more than 200,000 flights for its 2,400 fractional owners. The company is adding 40-50 owners each month, Russell says, and all aircraft being delivered in 2001 are already committed to owners. The "owners" have shares ranging from 1/16th or 1/8th of an aircraft to whole aircraft and some owners have shares in multiple aircraft; some fly in excess of 2,000 hours a year. About 30% of the owners are individual, the rest are corporations.
As an example of ownership costs, Russell says NetJets will sell a 1/16th interest in a seven-passenger Citation V Ultra for a one-time purchase price of $375,000 and a five-year renewable contract. The owner then pays a management fee of $5,000 a month and $1,300 an occupied hour. If the owner uses the aircraft for 50 hours, the cost per year would be $135,000, in addition to the initial share. The money buys an undivided lien-free business interest in a specific serial-number aircraft, registered with the Federal Aviation Administration. Tax benefits accrue if an owner has a 50% or more share of an aircraft. NetJets maintains the aircraft and hires, trains and pays the air crew.
Guaranteeing that an owner can use a business jet when and where needed, these "interchange agreements" dictate that NetJets will substitute, at no additional charge, a comparable or better aircraft if the "owned" aircraft isn't available. NetJets will also buy back an owner's share after two years (three years for some models) at fair market value. Russell says residual values of its aircraft remain high.
Russell says Executive Jet is not surprised others are trying to jump in. "Any good idea in the history of mankind has invited imitation," he says, noting that 57 other companies that have tried to enter the field in the last six years. Analysts, however, warn that this is not an easy market in which to compete. NetJet's extensive fleet and the wide-ranging locations from which it flies - vital for cost-effective operations - will be hard to duplicate.
Indeed, of the 57 companies to enter the field, only six remain, and they are primarily offshoots of aircraft manufacturers, offering the aircraft types their parent companies make and sell.
Glenn Engel, analyst for Goldman Sachs, also sounds a cautionary note about the soundness of United's plan. "There are a number of issues," he says, naming "synergy" between the airline and the new business as one. "Do I see a lot of synergy between the two? Frankly, no." The airlines have certain schedules and customers come to them, while the flexible jet business is a pretty different market that is "very entrepreneurial", he notes. "Airlines are not known to be that entrepreneurial."
Whatever the case, the industry will be watching to see whether UAL's efforts see it get an Olympic gold or whether it limps out of the pool.
Source: Airline Business
