KPMG LLP | <strong>Fractional</strong> Aircraft <strong>Ownership</strong> <strong>Programs</strong> 21ConclusionDespite the financial challenges, fractional aviation is here to stay. Driven by the passionand dedication of thousands of people, the outstanding level of service reported by thevast majority of customers is remarkable. Customers clearly want this service.Visionary fractional operators have an opportunity to redefine the business model just asadvances in airframe, engine, and navigation capabilities align in the most dramatic aerospaceconvergence in decades. Many new markets will be opened from the portal offered by thefractional aircraft ownership model, and to those prepared with a disciplined operation andthe vision to recognize and deliver value, the future is bright indeed.Contact InformationJ. Peter FuchsKPMG LLPOne Cleveland CenterSuite 26001375 East Ninth StreetCleveland, Ohio 44114Office: 216-875-8242Fax: 216-803-5740pfuchs@kpmg.com© 2006 KPMG LLP, a U.S. limited liability partnership and a member firm of the KPMG network of independent member firms affiliated with KPMG International, a Swiss cooperative. All rights reserved. TYC 14846
KPMG LLP | <strong>Fractional</strong> Aircraft <strong>Ownership</strong> <strong>Programs</strong> 22Notes1 Recent accounting pronouncements haverequired that fractional operators recognizeshare margin under the rules proscribed byEITF-0021. Rather than booking revenues andexpenses associated with the sale of aircraftshares at the time of the sale, operators mustspread them over the course of an expectedfractional contract life.2 Source: http://www.netjets.com/The%20NetJets%20Program/cost.asp(May 2006)3 Over the last few years most fractionals haveinstituted a fuel surcharge to recover the cost ofrising fuel prices. The net impact of this, however,is simply to increase the hourly flight fee.4 EITF-0021’s adjustments to the recognition ofshare sale revenue can have a significant impacton the relative weight of each revenue stream.Also, membership cards can be accounted for anumber of ways, and here they are assumed tobe in hourly flight revenue.5 In most programs, hourly flight revenue actuallyconsists of several parts:• Base hourly revenue, which is based on thecontracted rates for hours flown in the fleetthat the shareowner holds an interest. Theoperators average rate in any period is mostimpacted by the mix of fleet types flown.• Interchange revenue represents the premiumrates paid by shareowners when theyrequest flights in a fleet other than the onein which an interest is held.• Fuel surcharge revenue seeks to recapturethe operator’s rising fuel costs. The expensethat exceeds the base fuel componentincluded in the contracted rate is passed tothe shareowner as an hourly surcharge.• Miscellaneous revenue, such as supplementalcatering, repositioning charges forflights outside of predetermined serviceareas, cancellations, etc.6 The fixed expenses are assumed to generate apositive margin as previously mentioned. If anoperator were to maintain an excessive corefleet, one might expect that monthly managementrevenue would not be sufficient to overcomethe additional carrying costs. But anexcess core fleet would be expected to drivelower charter sell-off expenses, and this wasnot the case in 2005.7 Remember that while some core expenses areincluded, the management fees are set once atthe beginning of a customer’s five year contractwith a forecasted core fleet size built-in for theentire term. A increase in the core fleet wouldnot be offset by any additional revenue.8 Source: http://www.eclipseaviation.com/index.php?option=com_newsroom&task=viewarticle&id=138&Itemid=347(May 2006)9 In the first quarter of 2005 the major fractionalsexperienced extremely high levels of demand,and Warren Buffet, the Chairman of NetJets’parent company Berkshire Hathaway, specificallyblamed the expenses from charter sell-offsfor the dismal financial performance of theperiod. Most fractional shareowners are willingto pay a premium for the perceived benefits thebusiness model provides, including a perceptionof enhanced safety, simplified pricing, and moreconsistent service. For the most part, they willnot accept more than the very occasional sellofftrip.10 Same as previous.11 For the most part, a higher occupied rate isbetter, but it’s not always that simple. Systemoccupied rate can be inflated by using morecharter, as trips that are known to have lowoccupied rates can be sold off. The result isoften higher total costs.12 “Remote” is a relative term, as it describes theproximity of an origin or destination relative to anetwork’s typical service area. Fleet size canmitigate some of the effects of remote operations,as can a limited service area. In eithercase, an operator is theoretically more likelyhave aircraft in a position to be deployedwithout excessive repositioning.13 Same as previous.14 Many charter operators have often enjoyed theability to “double dip” their customers, chargingone for the “repositioning” of an aircraft thatin reality was occupied by another paying customer.This will continue, but increased competition,improved transparency and better insightwill allow many customers to avoid the practiceor pay reduced “empty-leg return” rates.15 The industry has for the most part definedcertain days as “peak travel days” whereadvance-booking notification requirements arelengthened and where departure times can beadjusted by the operator within given limits. Buteven once capacity is reached, the operator stillhas no ability to refuse flights.16 Where the aircraft are positioned geographicallycan also have an important impact on capacity.A large proportion of aircraft positioned on thewest coast after a typical wave of late afternooneast to west trips will leave a large proportionout of position for early morning departures onthe east coast. This can be particularly true forlarge cabin aircraft.17 In this context, “excess” does not mean “any”core aircraft, but any above and beyond what isconsidered to be optimal for the target mix ofinternally flown and chartered aircraft.© 2006 KPMG LLP, a U.S. limited liability partnership and a member firm of the KPMG network of independent member firms affiliated with KPMG International, a Swiss cooperative. All rights reserved. TYC 14846
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