October 23, 2017

Optimal replacement cycles for fleet operators

The question of what the optimal vehicle replacement cycle should be, is a common concern of fleet operators. Depreciation, corporate tax recovery and availability of cash remain the key considerations. However, there are other crucial factors that need to be taken into account and each vehicle class should be treated differently.  Murray Price, MD of Eqstra Fleet Management states: “One replacement cycle applied to an entire fleet is not ideal.”

Eqstra Fleet Management has used six years historical and statistical data for a particular vehicle class and has published a methodology which will allow companies to adopt an optimal replacement cycle for all vehicles in their fleet, instead of using one blanket approach across the fleet.

“In calculating the optimal replacement cycle of a vehicle, we recommend that consideration is given to five key factors,” said Murray Price. “Many companies make the mistake of only considering depreciation when determining replacement cycles but our review has proven that this is inadequate. In addition to the five factors, companies should consider at least three replacement tenures to be able to calculate the most effective operating cost of any one vehicle or vehicle class.”

Eqstra recommends fleet operators should consider the following five factors:

1.Inflationary impact on replacement vehicles. The purchase price of the vehicle assessed increased on average by 4% per annum over a 6 year period. Replacing the vehicle every 6 years will therefore require a major cash-flow outlay when it is being replaced. The shorter the replacement cycle, the more balanced the fixed and variable fleet values will reflect on company accounts, allowing for a more sensible cash flow and Net Present values.

2.Impact of age on the residual/resale value – the shorter the replacement cycle, the more aggressively the company will generally depreciate the asset.  Thus the vehicle will be worth more on its balance sheet than the actual asset value from year 2 on a 4 year replacement, whereas on a 6 year replacement the company stands the risk of losses if it is forced to sell the vehicle earlier than anticipated

3.Fuel efficiency: fuel related costs now equate to between 40% and 45% of overall fleet expenditure.  Thus any improvements a company can make with regard to fuel efficiency will have a substantial impact.  A shorter replacement cycle allows the company to purchase more fuel efficient vehicles when they are introduced to the market. The longer the replacement cycle, the more risk a company has in driving a less efficient vehicle.

4.Maintenance costs and inflationary increase: vehicles operating longer than 5 years and exceeding mileage of 150 000 km have an extremely high rate of increase on maintenance. Companies should consider the fact that even though fully depreciated, the increased maintenance and part pricing on an older vehicle could result in significant and unexpected costs.

5.Potential for major repairs: when vehicles reach their 5th year, the cost of maintenance increases dramatically.  By year 6, maintenance costs increased by 14,2%, and thereafter by 22% (year 7) and 44% in year 8. This is mainly due to major component failure and should be considered.

“Taking these factors into account allows a company to calculate the total cost of operation per year and then compare this across various replacement cycles.  A company can also opt to include the cost of finance into the calculation,” said Mr Price.

Using this methodology on the vehicle class assessment (LCV) and comparing the total operating costs over a 48, 60 and 72 month periods proved that a five year (60 month) replacement cycle will cost approximately R118 000 per year when weighted over a 15 year period.   This is lower than both the 48 and 72 month replacement cycles costs, therefore indicating that a 60 month replacement is optimal for this type of vehicle.

“It is important to remember that this calculation will vary for other vehicle types, but the methodology allows companies to adopt optimal replacement cycles for all fleet vehicles, thereby reducing their overall operating costs” he concluded.

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