Here is the Flexjet article:
Sean Silcoff, Financial Post
Published: Monday, November 27, 2006
As Bombardier Inc. prepares to release third- quarter results on Wednesday, investors are looking for proof that the transportation giant can finally start to increase profits in its sluggish aerospace business.
Expectations are low. But within its aircraft division, the firm has begun to get help from an unlikely source.
For more than a decade, Bombardier has run its own airline -- a fleet of 85 Bombardier-made private jets owned in fractions by 635 corporations and wealthy individuals. It's been run at a loss but is about to start reporting its first profits. "We're in kind of uncharted territory," said Michael McQuay, president of Bombardier Aircraft Services, which oversees Flexjet, the fractional ownership program. "In the first 10 years of its existence my company made no money. Literally, [Flexjet] was a marketing arm for Bombardier to display the products. Now we're getting to the point where we're operating like a business. We are contributing to the parent company."
Don't expect Flexjet to turn the whole division around. Flexjet is barely in the black; Bombardier does not disclose its results, and Mr. McQuay, who is based in Dallas, said only that he is
US$12-million ahead of plan for the year ending on Jan. 31. But if Flexjet doesn't cost money -- and draws customers to Bombardier's Learjet, Challenger and Global luxury jets -- aerospace head Pierre Beaudoin is happy.
Mr. McQuay said Flexjet will
book close to US$420-million in revenue this year and US$600-million next year. Factoring out a bump in revenue resulting from a change in accounting rules, the business is growing by 15% per year, said Flexjet vice-president Sylvain Levesque.
Since early 2005, Flexjet has stolen 60 customers from rival programs, losing none in return, Mr. McQuay said. That is due partly to the popularity of Bombardier's Challenger 300, a large-cabin jet that seats eight passengers. Flexjet has 24 in its fleet and will add seven next year.
Flexjet has hit a groove just as the industry begins to slow after years of double-digit gains. UBS estimates fractional ownership programs sold 1,278 shares in the first nine months of the year, up 6% from 2005. The number of planes in such programs rose eight-fold from 1996 to 2003 -- but is up just 13% since then, to around 900.The idea behind fractional ownership -- pioneered in 1986 by Rick Santulli, the founder of industry leader NetJets -- is that there are many potential users of business jets who can't afford, or don't need to own, a jet full-time. The programs sell shares of jets in increments as small as 1/16th. In exchange, they keep the planes housed, maintained, staffed and ready to go with as little as four to six hours notice. Each program is hence an unscheduled airline.
Buying part of a jet is not cheap. Flexjet's smallest plane is a Learjet 40XR, which lists for US$8.75-million. A 1/16th share sells for US$530,000. That buys 50 hours of flying per year for five years. (At the end of the term, the company buys back the share and sells the plane). There is also a management fee of US$6,575 per month and US$1,625 cost per hour flown. Fuel is extra.
Mr. Santulli's idea was that with enough customers, he could fly each plane 800 hours a year, wringing maximum return and use from the assets. His biggest fan is Warren Buffett -- a Netjets customer -- whose Berkshire Hathaway Inc. bought New Jersey-based NetJets in 1998.
But as the industry has matured, the results have disappointed. NetJets, with 48% market share (Raytheon's Flight Options and Flexjet have 24% and 11%, respectively) has lost money four of the last five years.
As it turns out, juggling the demands of all those part-owners is tricky. Fractional jets fly with no passengers more than 40% of the time, just to get to the right place for their pickups. Bombardier has gotten its "deadhead" rate down to 37% from 46% five years ago using schedule-optimizing software, and that's about as good as it will get, Mr. McQuay said.
Owners call in last-minute changes to their flight requests 30% of the time. During peak times or other instances when planes aren't available, the operator must charter planes from outside services to ensure customers have a jet waiting. NetJets lost US$80-million pre-tax in 2005 because of excess chartering.
Flexjet has come a long way since it was launched in 1995. At the time, Bombardier was having no luck selling planes to Netjets. Because NetJets was the biggest buyer of business jets -- it has 645 in its fleet -- it lowballed on price and demanded excessive guaranteed resale values from Bombardier.
"We tried to come up with something that would make sense, but we could never find a way to do it," said a senior Bombardier source who asked not to be identified. Flexjet officials were not available for comment.
But top management at Bombardier sensed fractional programs would take off, so the company established its own operation. Flexjet offered Bombardier the opportunity to sell to first-time customers, fill its production line and keep its maintenance and repair shops busy. And Flexjet's heavy flying schedule made the operation an ideal lab for working out bugs on new planes. "It was never going to be a home run or core to the business, but it was a useful extension," said another source familiar with Flexjet.
Flexjet didn't have any trouble selling shares -- it had 661 customers in 113 planes by early 2002. Making money, however, was a challenge. The company was overwhelmed by the complexity of running the operation.
So in 2001, it recruited Mr. McQuay, 57, who held several top-level positions during 25 years at Continental Airlines.
He put in place several measures to improve operations, service and reliability -- and save costs. He banished the smallest Learjets from Flexjet, because it was hard to make money with them; likewise, he stopped selling Bombardier's top-of-the-line jet, the Global Express, due to limited demand for part-shares of Bombardier's most expensive jet.
He slashed costs by imposing strict discipline on inventory. Flexjet would add a jet to its fleet only once all of its shares were sold, and made quick work of getting rid of planes once they came out of the Flexjet rotation (the fleet is continually upgraded; the average age of a Flexjet plane is 3.5 years old).
At one point, 20% of the fleet's shares were unsold; now, the rate is about 5%. Those efforts allowed Flexjet to get related costs down to $12-million a year from $79-million. The new software also saved Flexjet US$27-million per year as better planning resulted in the need for 20% less crew, 40% fewer planes and 5% less chartering.
In addition, Flexjet added several options, including "jet cards" entitling users to buy blocks of 25 hours of flying. Owners can also now sell unneeded hours to a "pool" from which other users can buy them. Still, the fact remains that Bombardier, the largest maker of business jets, does not sell to Netjets, the largest buyer -- unlike two of its largest competitors, Gulfstream and Dassault, which do not run fractional programs. And as Bombardier struggles to increase margins, some analysts wonder if it is worth keeping a low-margin operation that is not core to the plane-building business and may inhibit sales. "It is probably something that Bombardier really doesn't need to do," said Greg Pau, director of corporate ratings with Standard & Poor's in Toronto.
Despite breaking the profit barrier, Flexjet still has much prove: "I've got to be viable, and create a mechanism that supports the parent company," Mr. McQuay said. "They have to recognize that they're getting a return for their investment."
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© National Post 2006
