Published on October 2nd, 2016 | by Jim Lee0
Comptroller and Auditor General’s report confirms that the Department did not formally appraise the costs of returning the Air Corps Gulfstream IV to a serviceable condition before committing to major service
In a piece posted on 19th July 2015, we noted that in the aftermath of the disposal ‘251’, the Air Corps 14-seater Gulfstream IV jet, concerns were expressed in some quarters, that the sale of the Government jet had failed to realise its potential value. Indeed, many had questioned the disposal procedure itself, and in particular, the reason it was not put up for sale by public auction, as is the norm for Air Corps aircraft disposals.
The issue was raised again more recently in the Dáil on 28th June 2016, when Clare Daly T.D. asked the Taoiseach and Minister for Defence the amounts received by the Department of Defence (‘the Department’), for the sale of the aircraft. These figures were already in the public domain and the Taoiseach had no hesitation in confirming that the aircraft had been sold for $500,000 (around €418,000 at the exchange rates then prevailing). Subsequently, the Air Corps stock of spare parts was sold in February 2015, for a sum of $60,000 (around €53,000).
In September 2016, the Comptroller and Auditor General, as part of his Report on the Accounts of the Public Services for 2015, examined the disposal of the Gulfstream IV and concluded, that while a competitive sales process or auction, normally used for the disposal of State assets with a significant market value, was more likely to achieve the fair market price, it accepted that in the circumstances, that the Department found itself, with few alternatives, that a competitive tendering process, would have been impossible. It added however, that the rationale for this decision should have been documented at the time.
However, it noted that the Department did not formally appraise the economic case for increased maintenance costs in 2013 or 2014, nor did it formally appraise the costs of returning the aircraft to a serviceable condition, against the benefits that would accrue from its use.
Given these stated conclusions, which are in marked contrast with some of the newspaper coverage of the report, it is perhaps worth looking at the report in some detail.
Background to the disposal of the Gulfstream IV
Like all aircraft in the Air Corps fleet, the Gulfstream was maintained in accordance with the original manufacturer’s recommended maintenance and overhaul cycle. This involved routine maintenance carried out by Air Corps personnel (home maintenance) and an annual maintenance inspection by Gulfstream in the USA (annual maintenance).
As previously noted ‘251’ was flown to the Gulfstream Aerospace Corporation (GAC) facility in Savannah, Georgia, United States of America (USA), for its annual and planned maintenance inspection and service, on 27th of July 2014.
During the inspection, it became apparent that the servicing and repair cost would be significantly higher than originally anticipated. Given the age of the aircraft, which had been in service for 23 years, and the number of flying hours achieved (over 13,100) and the significantly higher level of investment required to return it to service, than had been anticipated, it was decided that all work on the aircraft should cease, the servicing and repair of the aircraft would not be completed. Consequently, the aircraft was to be withdrawn from operational service in the Air Corps and the aircraft would not be returned back to Ireland.
This level of investment was determined by a decision of the Department and the Minister, who decided in 2010, that if any costly non-routine maintenance or major structural repair was required, that the aircraft would be grounded and the Government would decide, at such time, on its future. A total maintenance cost of €400,000 in any year was deemed by the Department to represent the upper limit that should be incurred.
Costs significantly in excess of the €400,000 threshold were incurred in 2013, due to the repair of a fire detection system and the overhaul of a brake unit, and to treat corrosion. That corrosion was identified during the course of the annual maintenance inspection.
Prior to the 2014 annual maintenance inspection, it was known that an overhaul of the aircraft’s landing gear was necessary. Therefore, Government approval was obtained for increased expenditure up to a total of €750,000 to cover home maintenance (€150,000), annual maintenance (€350,000), and the required overhaul of the landing gear (€250,000). In total therefore, the estimate for repairs and maintenance in 2014 had increased to €1.34 million.
A memorandum to Government in July 2014, noted that the aircraft would require an overhaul of both engines by 2018/2019, at an estimated cost of €2.5 million and therefore retention of the aircraft beyond that date would be unsustainable given its age.
Given these circumstances and following discussions with the Taoiseach, the Minister for Defence (the Minister) directed in August 2014 that all work on the aircraft should cease and that the aircraft should be disposed of.
Objectives of the Comptroller and Auditor General’s report
Against this background, the Comptroller and Auditor General’s report examined;
- the circumstances that gave rise to the decision to sell the aircraft
- the process used to sell the aircraft and spare parts
- the progress on the review of ministerial air transport services.
In his report, the Comptroller and Auditor General noted that the Department had not conducted a formal analysis of the projected ‘remaining life’ costs and benefits associated with the operation of the aircraft, in either 2013 or 2014, when faced with costs exceeding the €400,000 threshold. “Such an analysis would estimate expected future economic costs and benefits associated with the jet, and discount these in order to recognise the ‘time value’ of money” he noted. This would have allowed the Department to assess quickly, whether incurring unforeseen additional costs, was economical.
The Department for its part, expressed the view that it would have been “highly speculative” to produce contingency cost projections, that might arise from unidentified or unforeseen problems. It also stated that the only maintenance and repair figures that could be relied upon, “were the minimalist projections referred to in the memorandum to Government in 2014 when increased expenditure amounting to €750,000 was sought”. The Department also commented that there would have been no basis for calculating a projected cost of an undetermined alternative service in the absence of a Government decision on what that would be, for example, the acquisition of a replacement aircraft or some other service model.
Once the aircraft was in the United States and with costs escalating, the Department sought the recommendation of the General Officer Commanding the Air Corps, as to whether the additional expense to repair the aircraft, should be incurred.
In his response dated 8th August 2014, he noted that in considering whether to conduct the repair, due cognisance had to be taken of the age of the aircraft and the likelihood that other corrosion or other fatigue issues may arise. Noting the maintenance programme takes into consideration the high number of flights and flying hours, and calls for deeper and more extensive investigative maintenance processes annually, he recommended that the aircraft should be repaired. The Deputy Chief of Staff (Operations) also recommended that the aircraft be returned to service. However, the Comptroller and Auditor General noted that no formal discounted cash flow analysis, underpinning the recommendation, was conducted.
The report also reveals that the Department made informal contact with an Irish aviation consultant company in August 2014 who advised that:
- the necessary repairs could be carried out and the aircraft kept for another few years but it seems to ‘have had its day’
- an immediate sale would likely be to a parts dealer, in which case it would be worth in the ‘sub $1 million range’ – i.e. less than €750,000 at the prevailing exchange rates
- the jet could be used as a deposit against another aircraft.
In addition, the Department officials prepared briefing notes for the Minister outlining the sequence of events and the accumulating costs and the options. The Department has stated that a formal analysis of the costs and benefits of repairing and retaining the aircraft compared to those arising from a disposal had not been prepared, as an immediate decision was demanded. This was because;
- the aircraft was in a stripped down state blocking a busy scheduled production line
- any further delays were likely to incur substantial charges and the full cost of the contracted maintenance inspection.
This led to the Minister directing on 15th August 2014, that no further work should be carried out on the aircraft and it should be disposed of for the best possible price.
Following the Ministers decision, officials from the Department and Air Corps officers travelled to the Gulfstream facility in the USA in August 2014 to finalise the maintenance costs already incurred and any further liabilities accruing. The options for sale were also discussed.
In his report the Comptroller and Auditor General indicates the Department had stated that the costs for the contracted maintenance inspection could have been up to €425,000. Following negotiation, the costs were agreed at labour costs already incurred and a small element of costs relating to parts that had been removed and sent for refurbishment. The amount agreed was €76,000. Additional costs to put the aircraft into a serviceable condition, prior to a sale, were estimated by Gulfstream at a further €710,000.
This comprised an estimated €600,000 to transfer the aircraft to the civil register and a further €110,000 in contingency for possible further corrosion. Together with the previous estimate of repairs, this would bring the maintenance bill with Gulfstream to €1.8 million. However, the estimated €600,000 to transfer the aircraft to the civil register, which had previously referred to by the Minister in Dáil replies, as costs required for “the demilitarisation of the aircraft, the transfer of the aircraft to the civil register and the re-registration of the aircraft,” seems significant, given the role of the aircraft and its relatively quick return to ‘civilian use’, once the sale was agreed.
The Department has stated that it considered the most viable option was to dispose of the aircraft for salvage and that this decision was based on, the costs involved in repairing it to a serviceable condition, the depressed market conditions for executive jets, charges for its continued retention in the USA and the absence of any guarantee as to the future serviceability of the aircraft.
Nevertheless, as the Department confirmed, despite its best efforts, Gulfstream “declined an invitation” to submit an offer to acquire the aircraft for salvage and to buy back spare parts held in Baldonnel. In addition, the original manufacturer of the engines “was not willing to make an offer for the engines” and this contributed to Gulfstream’s decision. However, Gulfstream agreed that it would use its knowledge of the market to see if there was any interest from potential purchasers.
That offer, coupled with the fact that the Department had decided not to use a USA-based broker to handle the disposal, led to that offer being pursued. Use a USA-based broker was considered to be a time consuming and difficult process, while the normal process for the disposal of major assets by a public tender competition, or a public auction, was not used as it was deemed impossible to do as in this case. This was because the aircraft was in a stripped down state in a facility where very high standards of security applied. For that and other reasons Gulfstream would not have allowed prospective buyers, responding to a public sale or auction process, to view the aircraft on its premises. The alternative of boxing the aircraft up in parts for sale elsewhere would also have been completely untenable. Therefore, it considered that it had no choice other than to execute a sale in the circumstances that occurred.
In early December 2014, the Department received a letter of intent through Gulfstream from a USA based company (Journey Aviation), who offered to buy the aircraft for €836,000, on condition that it was brought back into a serviceable state. The Department declined this offer as the aircraft was for sale on an ‘as seen’ basis and it had no ministerial or Government sanction for any further expenditure on the aircraft.
The company then offered €418,000 to purchase the aircraft ‘as seen’. This offer was accepted by the Department in January 2015. Subsequently, Journey Aviation arranged for the aircraft to be repaired, “through the use of the company’s own resources and stock of spare parts, registered on the civil register and brought it back into use”. This was more likely done for considerably less that the €600,000 estimated by the Department.
So what was the aircraft worth and did we get a fair price for it?
Apart from the conclusions in the Comptroller and Auditor General’s report in relation to the sales process, the real question is what was the aircraft worth and did we get a fair price for it?
The total cost of acquiring the Gulfstream was approximately €45 million, which included lease payments, for the first ten years. The aircraft was recorded on the Department’s asset register in 2005 at an historical cost of €19 million, which was an estimate applied by the Department for accounting purposes, when it was implementing a new management information system. It did not necessarily represent an accurate market valuation of the aircraft at the time.
The Department’s accounting policy is to depreciate military assets over their planned useful lives to projected residual values, and by way of explanation, the Department has stated that the projected residual value of a military asset is a nominal amount, used to show that the asset may still have a value in use, rather than an intention to reflect the market value of the asset at the end of its planned life. In this case, the depreciated value of the aircraft had been its residual value of €952,000, a figure that applied since 2012.
So given that the Departments independent advice from an Irish aviation consultant, that an immediate sale would realise less than €750,000 based on a likely sale to a parts dealer, the offer of €836,000 from Journey Aviation on condition that it was brought back into a serviceable state and its residual book value of €952,000, it is unlikely that it could be considered to be worth much more €1 – €1.2 million max. With the total estimate of €1.8 million for maintenance and repairs from Gulfstream it did not make economic sense to carry out the work and attempt a sale on the open market. The only other way to have realised more money for the aircraft would have been to trade it in against another aircraft and that was not a realistic option at the time.
Disposal of spare parts – how did we fare?
The Air Corps had 87 spare parts for the jet in stock with an original acquisition cost of €1.4 million. This was the value at which they were recorded on the stock management and control system, and in the appropriation account. Just over half of the parts held were used parts, and some of those could only be used as a trade in for a replacement. At 30th October 2014, the Air Corps estimated that the value of the parts was €405,000.
Normal practice would have been to include any aircraft spare parts as part of the sale of an aircraft in a public tender competition. However, given the status of the aircraft in the USA and the complexities involved, the Department decided to complete the sale of the aircraft in the first instance and to deal with the issue of the spare parts, with the buyer of the aircraft, at a later date. Accordingly, Journey Aviation was invited to make an offer for the spare parts. The parts were sold to Journey Aviation ‘as seen’ in February 2015 for €53,000 and dispatched in July 2015. In spite of this poor return on assets acquired at a cost of €1.4 million and with a book value of €405,000, the Department still considers that the sales price was reasonable, given the nature of the spares, their age and the ‘as seen’ sales condition. The question that has to be asked here is whether offering them to Journey Aviation, rather than offering for sale by tender, was best option. In the absence of a competitive sales process, the report states that it is difficult to conclude on whether best value was obtained, and we would agree with that view.
Interestingly, the report states that Journey Aviation informed the Department in October 2015 that 55 of the 87 spare parts did not have certification documentation attached. Such documentation validates the parts as being in conformance with the design specification for the aircraft, serviceable and fit for use. The documentation was not available. The Department has stated that it relied on the ‘sold as seen’ condition in the sales agreement, under which no warranties or guarantees were given to the purchaser, and “consequently, certification was not an issue”. Given that in the past issues have arisen in relation to counterfeit spare aircraft parts, which saw the Air Corps ground a number of aircraft in 2000, it is surprising that there was no further comment on this aspect of the matter.
Journey Aviation subsequently registered the aircraft as N297PJ on 20th March 2015 and returned it to service. The aircraft’s certification Issue date, with a maximum of 22 seats, is given as 7th April 2015 and airworthiness certification was issued on 31st July 2015, with an expiration date of 30th April 2018. It underwent a change of ownership to Pontiac Aviation LLC of Troy, Michigan, on 7th April 2015 and is currently operated by that company and available for charter.
The report’s conclusions and recommendation
The report recommends that the Department should ensure that discounted cash flow analysis of life cycle costs is undertaken for all major items of equipment, as a framework to assist decision making. Decisions for retention or disposal of major assets should be informed by such assessment of continued versus alternative service delivery options to ensure the maximisation of net benefits to the State.
The Department does not agree in this case having regard to the extenuating circumstances that applied which it said “were not conducive to carrying out a formal discounted cash flow analysis of life cycle costs in this case”. It adds that “a cost benefit analysis was carried out in an informal manner, taking account of the broader considerations which uniquely applied in this case”. In any event, it notes “in light of the escalation in costs to over €1.3 million, it was clear that any future benefits that might accrue, over a maximum five year remaining life span, would not have outweighed this level of increased costs and the risk of further unforeseen costly maintenance and repair issues arising at any time”.
In relation to the broader question of whether the sale was good value for money, in conclusion it notes “An informal valuation of the aircraft estimated that its value without repair could be below €750,000. The Air Corps estimated the value of the spare parts at just over €400,000. The aircraft was sold for €418,000 and the spare parts for €53,000. In the absence of a competitive sales process, it is difficult to conclude on whether best value was obtained. The Department has stated that it is fully satisfied with the value achieved in the sale of the aircraft and spare parts, given the extenuating circumstances involved”.
The future of the Ministerial Transport Service
The Ministerial Air Transport Service (MATS) is now delivered mainly by the use of the Learjet 45 aircraft and which is not due for replacement until 2024. The Learjet has a capacity to carry seven passengers and can be tasked with short and medium haul missions to the UK and Europe. A total of 68 Lear missions took place in 2015. The capabilities maintained for this service also provide the ability of the Air Corp to operate at short notice into regions, access to which may otherwise be denied to non-military aircrafts (due to conflict, security issues and natural disaster, (including for Non-Combatant Evacuation Operations (NEO)) at the request of the Department of Foreign Affairs and Trade.
Following on from a Government decision in 2014 and prior to the emergence of the problems with the Gulfstream IV, the Government decided to establish an inter-departmental group, chaired by the Department, to review the options for the future provision of ministerial air transport services in the medium to long term. The group includes representatives from the Departments of the Taoiseach, Public Expenditure and Reform, and Transport, Tourism and Sport.
The group’s review includes an examination of how other countries, particularly island nations, arrange ministerial air transport. The option of seeking independent aviation expert advice on operational and cost implications is currently under consideration. To support the work of the inter-departmental group, an internal working group within the Department was established including representatives from the Air Corps.
The inter-departmental group is currently in the process of preparing a report for submission to Government.