Let’s start with a typical situation that comes up daily - a banker faced with financing an aircraft and let’s presume that this banker has financed an aircraft or two during their career but it has been some time since their last experience or this may even be their first experience. Let’s also presume that this banker has three reports on their desk. Report #1 is little more than a number on a piece of paper. It may have been obtained through a website or telephone conversation but there may be little else on the page other than the aircraft’s registration number. Report #2 is commonly called a “desktop appraisal” and contains a few additional pages of information and details about the subject aircraft. It may or may not be signed and the name of the evaluator may or may not be on the report. Report #3 is a more formal aircraft appraisal report. It contains quite a bit more detail about the subject aircraft and the name of the appraiser is clearly identified on the report and the report is signed. For the purposes of this situation, let’s also presume that the final number on each of the reports is the same although this is rarely the case. Here are the questions facing the banker. Which of these reports should the bank accept and why? Which of these reports is the most accurate and trustworthy? How much do these reports cost? You may be surprised to learn that all three of these reports technically qualify as an appraisal because each of them contains an opinion of value and by definition this is what an appraisal is. Think about this. A casual conversation with someone (who may or may not know anything about the subject aircraft) regarding an aircraft which results in a figure technically caries as much weight in some banks as someone who physically examined an aircraft and records and who provided a detailed report of findings! The banker in question also faces a critical choice at this point that will determine the risk level they have committed themselves to and which they have committed the bank to. Sometimes it is a simple choice that involves proper risk management techniques and in other situations the choice is as serious as supporting bank fraud (intentionally or not). There are other issues to consider as well such as insurance and the filing/recording of the bank’s Security Agreement but the focus here will be on the evaluation and documentation of the aircraft as part of the bank’s aircraft financing efforts.
Let’s start with the first question. Which of these reports should the bank accept and why? The answer will depend on the bank’s aircraft financing policy along with the goals and objectives of the bank. Some of my banking clients have a simple statement in their policy that says (in essence) when an aircraft loan comes up, call me for further instructions. In these cases, I speak with the banker about the project and we put together a plan that will document the bank’s collateral and ensure a successful transfer of ownership before any funds are disbursed. In other cases where no policy is in place, the banker is left to figure a process out or make the process up as they go along which leads to a variety of problems for the bank. These policies may simply state that an appraisal of some sort must be obtained but there is no stated requirement regarding the qualifications of the appraiser or how the result is obtained so the cost to obtain these services tends to be the overriding factor. After all, if the selling broker is willing to provide an “appraisal” then why hire someone impartial that increases the cost to the bank and the buyer? However, if we were talking about real estate, then this position would raise several red flags – as it should. Since all three reports meet the technical qualification of an “appraisal” or an opinion of value, then a number from anyone or any resource will meet the requirements of the policy – regardless of their accuracy, reliability or the accountability of the evaluator. Taking any number from any report is not a strategy I recommend to my clients and choosing a report based on how much it costs to obtain the final opinion of value can be very risky as we will find in the final article.
An important point to realize when financing aircraft is that all aircraft are not alike nor do they command a certain “value”. Many individuals have a misconception that a “private jet”, for example, must be worth at least $1,000,000 or more – regardless of its age or condition. After all, it’s a BUSINESS JET! In this market, this is certainly not the case. There are private jets worth well over $1M but there are also quite a few whose only real value is scrap value and it is critical to know which one is being used for collateral purposes. A discussion over the phone with the selling broker or the buyer may not highlight which jet is under discussion.
The use of “beliefs and assumptions” also speaks to the manner in which aircraft are evaluated or how the overall process evolves. Generally, there are two basic concepts when evaluating aircraft. The first involves the use of publications and the effort to “shoe horn” the subject aircraft into the “average retail” configuration. This type of approach involves the use of “rules of thumb”, SWAGs, assumptions and picking numbers that look right or meet particular criteria with very little analysis involved. The use of this method introduces several “degrees of error” – some more serious than others and the resulting opinion of value should not be relied upon. The other method uses a “clean sheet of paper” approach and focuses on gathering specific details about the subject aircraft and making decisions about the final opinion of value based on what is found through first-hand research. The “degrees of error” are reduced and there are fewer assumptions or “rules of thumb” involved. In my opinion, the “clean sheet of paper” approach leads to a more reliable result and assumptions are greatly reduced or eliminated altogether.
When examining the three reports mentioned, some bankers will also ask additional questions. One key question includes – who is providing this information or report and are they “qualified”? In many cases, an appraisal is developed and accepted from someone inside the bank (possibly the banker completing the loan). In other cases the appraisal is accepted from the buyer of the aircraft (the bank’s customer) or the broker with very few questions from anyone at the bank. Because the aircraft appraisal industry is not regulated, anyone can technically qualify as an aircraft “appraiser” and provide an opinion of value. There are no minimum qualifications, training or certification requirements and typically none specified in the bank’s lending policies. The use of internal resources, brokers or buyers is not a recommended approach when there is a need to obtain an impartial opinion of value. Bankers should also remember that the buyer and the broker have a direct interest in the outcome of the deal and tend to be biased. This does not mean that buyers, brokers and dealers are bad people or dishonest but just that they are biased. Furthermore, neither the broker/dealer nor buyer has ANY incentive to identify or discuss the aircraft’s market value with the banker nor is there any incentive to identify any attributes about the subject aircraft that would negatively influence the bank’s lending decision. In fact, the selling broker’s/dealer’s key objective is to obtain as much money as they can for that aircraft as part of the sale (think about the business jet whose value is “scrap value” here). Evaluators internal to the bank may also be under some pressure to “make it happen” regardless of any facts they may have – or not have. Corporate objectives and revenue targets can also influence evaluation/lending decisions. Over recent months, internal bank auditors have been recommending the use of “qualified” outside appraisal sources for this very reason.
There is an article on my website entitled “What You Should Know Before Hiring an Aircraft Appraiser” that covers more detail than I can address in this article and it discusses the attributes of professional and unprofessional aircraft appraisers. In summary it states that the bank should be using someone who is unbiased and disconnected with the deal and someone who is following a nationally recognized set of appraisal guidelines and ethical behavior if the objective is to obtain a creditable, reliable and unbiased opinion of value. It should go without saying that the individual in this case should also have some background in aviation. The professional aircraft appraiser should not be thought of as a “deal stopper” but someone who is providing unbiased, critical information about the asset to the bank. What the bank chooses to do with this information is another topic.
The second question – Which of these reports is more accurate and trustworthy? – may be a little misleading since we presumed that all three reports have the same result or number even though this is rarely the case because “opinions” vary between individuals as do the methods of developing these opinions. The answer to this question really gets to the heart of “who” does the bank trust and what information/process do they trust. It also involves the appraiser’s “support” of their opinion of value. If all parties are in agreement about the final opinion of value then there is very little discussion and a mistaken belief that Report #1 is as accurate and reliable as Report #2 or #3. However, situations routinely arise wherein the final opinion of value is questioned by the bank and/or the buyer and/or the broker/dealer. This type of condition occurs when the market is changing rapidly or the broker/dealer has misrepresented the aircraft in some manner but it is at this point when the banker knows the value of the report(s), information they have in front of them and the professionals they are working with.
Evaluation methods that do not rely on first hand analysis of factual data are manipulated very easily. As a result, those reports most trusted by the banking industry contain key details supporting the final opinion of value and those details are obtained from a physical examination of the aircraft and records by a trained professional. Evaluators who routinely (or solely) use desktop methods typically do not possess the knowledge skills and abilities to perform a field appraisal and it shows in the report itself. Developing an opinion of value is fairly straightforward when assumptions are made regarding the status of all log books, verification of the airframe time, damage history, condition of the airframe itself, verification of documents on board the aircraft and airframe/engine mods – just to name a few key items. Using reports that are unsigned which contain no statement or scope of work (what the appraiser actual did or did not do to obtain an opinion of value), the appraiser’s relationship to the aircraft, market data supporting their opinion of value or any calculations are indications of a superficial analysis. We will also see in the last article that making assumptions about key value point can prove to be problematic when repossessions occur and there is no real reason for the bank to avoid obtaining first-hand information about the aircraft from an independent third party.
The last question involves the price paid for each report. Unfortunately, there is no single answer here but pricing generally is related to the effort and the type of individual involved. In other words, the bank receives what they pay for. For example, if the bank goes to a website and pays a few dollars to get a Market Analysis or a number on a piece of paper based on a limited set of data, they can expect limited support and questionable results. Banks that require professional assistance or desire professional results will pay profession rates but they will also get reliable information and a report that meets or exceeds industry recognized standards along with support from a trained professional appraiser should any questions or issues arise. Generally, the price paid for a report should be reflective of the type of aircraft under consideration and the effort involved. Professional rates usually begin at a few hundred dollars for single engine piston aircraft to several thousand dollars for larger business jets and helicopters.
The only question we have not addressed so far is “why”. Why should the bank undertake the time and expense to better understand their collateral at all? After all, the local broker tells the banker that this aircraft is worth $X and he must know what he is talking about – right? The person buying the aircraft is a pilot and they must know what they are buying – right? Or, they are only financing a small portion of the overall value so there is no real need to document the collateral as it is too expensive to follow bank policy – right? The answers to these questions gets back to the question of cost and the one cost that is not discussed very often - that is the cost to the bank of making a bad lending decision based on inaccurate or incomplete data. In these cases, the costs of obtaining professional assistance are relatively insignificant when compared to the costs associated with losses related to a bad lending decision (loss of the aircraft’s value, additional costs associated with the effort expended by internal resources, legal fees, etc.) and it is these types of losses that we want to avoid or limit.
Unfortunately, the person who initiates the loan at the bank generally is not accountable or responsible if the loan goes into default at some point in the future or they may have left their position altogether. In default situations, the bank finds out how good their aircraft financing policy and collateral management program really is. In too many cases, there are a number of “surprises” along the way which could be avoided very easily and cost effectively.
The final article will focus on aircraft repossessions and disposals and how proper collateral management helps avoid “surprises”.
As an Aircraft Consultant, I routinely help banking clients in all phases of the aircraft lending process and I can help your bank too. Many in the banking industry have questions that they want to ask but they may believe them to be too basic. I think that the more information available to all parties, the better the decisions being made and I welcome any question or any discussion on this topic.
Mike Simmons has written and published many articles on the subject of documenting and evaluating aircraft and worked with a variety of banking clients both large and small as an aviation consultant assisting them in their aircraft financing policies and day to day projects. The aircraft he has been involved with over the years includes single engine piston models all the way up to business jets such as Challengers, Gulfstreams, and Citations along with a few helicopters along the way. Mike’s assignments have taken him all across the U.S. including Hawaii. As a normal course of business, he has observed several bankers over the years making questionable decisions when financing aircraft because those questionable decisions were the easy thing to do at that time, the banker may have been unsure about the right action to take (unaware of the services that could have been helpful) or they simply did not have good data to work from – and these are the types of situations that Mike attempts to highlight along with other options to consider. The objective is to help banking clients make solid business decisions based on creditable, reliable information.
Plane Data, Inc.