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The Recession Need Not Cripple Fleet Replacement Programs

Rather than simply defer replacement purchases to meet short-term budget-balancing goals, fleet managers should use today's fiscal challenges to reappraise their organization's approach to fleet replacement.

June 15, 2010  |  by Paul Lauria

Photo collage courtesy of Government Fleet.

In countless organizations around the country, the "Great Recession" has sidetracked—if not wreaked havoc on—fleet replacement plans and funding levels. Unlike employees, vehicles don't talk back when officials decide trimming fleet size or postponing replacement purchases is a good way to help balance an organization's budget. And let's be honest about such cuts: deferring $1 million worth of replacement purchases this fiscal year in a fleet that typically spends this amount annually on fleet replacement will not result in an immediate increase in fleet operating costs of $1 million or more.

We all know there is an inherent trade-off between fleet capital and operating costs: spend more on replacement to replace vehicles sooner, and operating costs will be lower and residual values higher; spend less on replacement, however, and the reverse will be true. But such trade-offs don't occur so quickly that most organizations can't "save" money in a given fiscal year by postponing replacement purchases.

Over the long term, however, organizations risk increasing overall fleet costs by curtailing replacement spending too much in pursuit of short-term budget savings. Depending on the current age of a given fleet, the supposed savings from such actions may prove nothing more than a temporary, costly illusion. While recessions often serve a useful corrective to unchecked increases in fleet size and fleet-related spending that can occur during economic boom times, fleet managers should work very hard to try to prevent such economically difficult times from doing lasting damage to fleet replacement plans and, as a consequence, to the performance and total cost of ownership of their fleets.

In keeping with the old adage that necessity is the mother of invention, fleet managers need not view the recent recession and its continuing aftermath simply as a time to keep their heads down and wait for the economic storm clouds to clear, but rather as an opportune time to reassess and perhaps re-engineer the methods they use to manage and pay for fleet replacement costs. Significant fiscal challenges represent an opportunity to explore fleet management strategies and practices often given little attention during good times and to get decision makers to consider which courses of action really can reduce fleet costs and which ones won't.

Vehicle Replacement Economics

The economic principles of timely vehicle replacement are well known to fleet professionals and are illustrated in Chart 1 (see pdf), derived from cost data on a particular type of truck in a large municipal fleet. As the trend lines in this chart indicate, the capital (i.e., depreciation) cost of a vehicle diminishes over time, while its operating (e.g., maintenance, repair, and fuel) costs increase. The combination of these two costs produces a U-shaped total lifecycle cost curve.

Ideally, a vehicle should be replaced around the time this total cost of ownership is at a minimum—before the total cost curve begins to turn upward. In the case of the types of trucks shown in Chart 1 (see pdf), we found the optimal replacement cycle—from the standpoint of minimizing total cost of ownership—to be four years. The actual cost estimates and computations on which this conclusion was based are shown in Chart 2 (see pdf).

As indicated in this table's bottom row, the equivalent annual cost of the type of truck analyzed is lowest under a replacement cycle of four years, but only moderately more so than under a three- or five-year replacement cycle.

Conducting a lifecycle cost analysis of a particular vehicle type frequently reveals its total cost of ownership curve is, as in this particular example, somewhat shallow or flat at the bottom. This means there is not a single point in time at which an asset should be replaced to minimize its total cost, but a period of time, often lasting as much as two or three years in duration, during which it can be replaced with only a small variation in this cost.

Thus, deferring fleet replacement purchases to accommodate short-term budget constraints does not necessarily increase total fleet costs immediately. However, if an organization traditionally has not replaced vehicles in a timely manner, even a temporary reduction in replacement spending can result in immediate increases in fleet operating costs—principally in maintenance and repair expense.

Decision makers who assume cutting replacement purchases is a good way to help balance the budget must understand such cuts usually transfer a portion of the fleet costs from the capital to the operating side of the general ledger. Regardless of its net effect on current fleet capital and operating costs, the deferral of replacement purchases today unquestionably increases future replacement spending needs, and continually putting off or underfunding vehicle replacements unquestionably creates replacement spending backlogs that can become quite large and difficult to overcome.

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