If you want to start a lively discussion with turbine and turboprop aircraft owners, ask their opinion about engine maintenance programs. Some owners consider them cost-effective, while others believe it is financially advantageous to pay directly for repairs and inspections as required. I own turbine-powered airplanes as well as assist owners with acquiring or selling their aircraft, and this is always a topic of discussion. One question is how do the engine programs affect the value of an aircraft?
Turbine engine maintenance programs or service contracts (sometimes called “power by the hour”) provide parts and inspection coverage on engines to owners in exchange for a set fee per hour. Providers of these programs include the engine manufacturers, aircraft manufacturers and independent companies such as JSSI and Aviall. Similar to insurance, these plans are a way to mitigate financial risk.
Each provider offers a variety of maintenance packages. Some include the most common components used during the typical life of an engine while others include time-limited parts such as rotor disks and varying levels of labor coverage. While usual wear and tear is covered under most programs, corrosion and damage from Foreign Object Debris (FOD) are only included with some plans. This can be a significant differentiator when evaluating maintenance programs since potential corrosion, and FOD damage can easily double, or triple, the cost of a maintenance event. With multiple options, it can be a challenge to evaluate the numerous program offerings.
For owners who decide not to participate in a program, the assumption is they can obtain a higher rate of return by investing the money rather than paying a provider a set fee per hour of operation. In essence, their view is the programs are a bad investment in comparison to other options. Whereas, owners with programs have determined that participation provides them with a capitalized cost to operate the engines with a known maintenance expense per hour.
Let’s look at two scenarios: purchasing a new turbine aircraft and purchasing a used jet. The jet in our analyses is a composite of multiple business aircraft currently flying with a per engine maintenance program average cost of $150 per hour over the life of the program. Let’s assume the jet engines have a TBO of 4,000 hours, with a hot section inspection (HSI) due at mid-life of 2,000 hours. Using a composite analysis for this engine, the HSI would cost $100,000 and the overhaul $500,000. Our examples reflect the costs for a single engine with simplified alternative investment assumptions.
Purchasing a New Turbine Aircraft
Our first scenario is the purchase of a new jet. For this analysis, let’s assume the aircraft operates 200 hours per year, which is slightly higher than many owner-operators and less than corporate-owned aircraft (and certainly less than charter operators). It would take 10 years to reach HSI and 20 years for engine overhaul at this usage rate.
Over the 4,000 hours, the owners of this aircraft would have incurred $600,000 in scheduled maintenance for each engine. Since these programs also cover unscheduled, as well as scheduled, events we will assume the engine would consume $30,000 to $50,000 in additional covered maintenance during its overhaul interval. This brings the total cost of maintaining each engine on this airplane to $650,000 after 4,000 hours of operation. If the operator had elected to participate in the engine programs under this scenario, they would pay about $2,500 per month for an average usage of 16.7 hours and benefit from an 8 percent return on their expenditures at the end of the 20-year period.
On the other hand, if the owner self-funded their engine maintenance and invested the $150 per hour at 5 percent annual rate of return, they would have amassed $388,000 (before taxes), less any engine maintenance that would have been incurred. At 2,000 hours, when the hot section inspection was due, the owner would have a $100,000 expense. Assuming $20,000 in unscheduled maintenance, not including periodic service, they would have amassed $268,000 in their reserve.
Continuing to the next phase in the engine’s life, overhaul, assume the same 10 years and the reserve balance of $268,000. At 4,000 hours and 20 years of total engine life, their reserve balance would $829,000 with the same investment assumptions and before taxes. After they pay for the overhaul cost of $500,000 and $30,000 in non-covered repairs they are still ahead by $299,000. Who says you can’t make money flying airplanes?
So, you ask the question what happens if the operator flies 400 hours per year? The time value of the self-funded investment is compressed, however, the monthly payment doubles. The self-funded owner would have accrued $340,000 and netted $220,000 after HSI and miscellaneous expenses after five years of operation. At overhaul, they would have accrued $622,000. After paying for the overhaul, and another $30,000 in maintenance outside of the scheduled events, the owner would be left with $92,000.
The next question is: What is the value proposition for engine programs when selling, or purchasing, a used jet aircraft?
It is impossible to cover all potential purchase combinations, so I’ll present one that is common and can give you ideas on how it might impact your sale or purchase.
Purchasing a Used Jet
You are now in the market for a pre-owned turbine. You are looking at jets with 1,000 hours on the engines. You are now presented with multiple available aircraft, some on engine programs while others are not. The question is how much do engine programs affect the value of these similar airplanes?
In purchasing the used jet with an existing (and assumable) engine service contract, the new owner would be taking advantage of equity accrued for maintenance. With HSI at 2,000 hours, the new owner would pay an additional $150,000 to the maintenance provider. If the owner then continued operating the aircraft until TBO, an additional $300,000 would have been paid through the contract. The new owner would have paid $450,000 for $600,000 of scheduled maintenance plus any other covered maintenance over their ownership. Of course, they would have also incurred expenses for non-covered maintenance during their 3,000 hours of operation.
If the purchaser decided in favor of the airplane without a program, their direct cost for an HSI would be $100,000 and $500,000 for the full overhaul at TBO. They would lose some time value of an alternative investment since one-quarter of the time before overhaul passed prior to purchasing the aircraft. Using our same 200 hours per year, investment model and $20,000 of unscheduled maintenance, they would be ahead at HSI by $50,000. Since they would be starting with a lower reserve balance after HSI, at TBO they would have a negative balance of approximately $70,000.
The advantage between the two paths is with the used aircraft not on the engine programs at HSI by $50,000, with the advantage reversing by a slightly larger amount at TBO. If you don’t consider the cost of any expensive repairs that might be covered by the service contracts, then the aircraft not on a program should sell for $50,000 to $70,000 less than the program-protected jet. With this scenario, the value of the engine program during the first 1,000 hours on our hypothetical jet has depreciated 46 to 67 percent. The first owner did receive value for his payments during ownership since they were protected for covered maintenance. So, it makes sense that the engine program value has depreciated along with the airframe.
As the used aircraft under consideration increases in hours, the comparison changes. The new owner would have even less time for an alternative investment if they didn’t participate in the engine programs. With two aircraft at 1,500 hours, the jet covered by an engine program would have a $25,000 to 30,000 advantage at HSI and $120,000 to 160,000 lead at TBO.
Of course, all the above examples assume the owner without engine-program coverage directly invests the equivalent service contract funds and their engine does not incur significant expenses not covered by the programs. Covered repairs, outside of scheduled maintenance, can be a considerable expense far exceeding most alternative investments.
How lucky do you feel? There is no clear conclusion with a preference for, or against, the engine programs. I wanted to illustrate just a few of the myriad scenarios that are possible. The programs are worthwhile for individuals and businesses that want to limit their risk and have a known engine operating cost, at least for covered events. For pre-owned turbine aircraft, the existence of a current engine maintenance program enrollment does add value. However, it is depreciated from the full investment before the sale, and the exact residual value is difficult to determine. For my recent turbine purchase, it was clear that obtaining a plane on an engine program was cost-effective in comparison with other options.
For those operators that understand the risks of operating without coverage and the advantages of alternative investments, the choice is clear for them. Over time, as the fleet ages, there are also more serviceable parts, complete engines and PMA options available at a lower cost, which can be utilized by the operators to reduce their maintenance costs if they are not covered by an engine program.
For purchasers of used aircraft not on programs, there are hybrid service programs offered by the engine manufacturers and others that allow them to reduce their upfront expenditure and share in the future repair risk with the providers. Owners also have the option of purchasing a used engine with time remaining on it or joining hybrid service programs that allow them to share the risk with the contract providers.