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Chapter 6.10

Use Alternative Equipment Sourcing Programs


Summary

The Texas Department of Transportation (TxDOT) has over 7,600 vehicles and 9,500 pieces of equipment, some of which are old and some of which are underused. TxDOT faces a shortage of skilled mechanics in the face of private sector competition, increasingly complex repair and maintenance needs, and a limited ability to outsource repair in rural areas. Other states and private sector companies have turned to options like leasing. TxDOT should be given the funding flexibility to spend capital funds on leasing and should explore new financing options.



Background

The TxDOT vehicle fleet is the largest of the Texas agency fleets, with approximately 9,500 on-highway vehicles and 7,600 off-road units. Highway vehicles include autos, pick-up trucks and dump trucks, and off-road units include tractors, motor-graders and asphalt lay-down equipment. The average age of the TxDOT fleet is 8 years old, and 33 percent of TxDOT equipment is more than 10 years old.[1] TxDOT fleet operations and maintenance are decentralized through the 25 districts, 119 area engineer offices[2] and 288 maintenance sections. [3]

TxDOT faces several difficult issues managing its fleet:

  • a shortage of skilled mechanics;
  • difficulty competing with the private sector for existing mechanics;
  • rapidly changing technology, requiring specialized skills, tools and equipment-specific training; and,
  • limited maintenance outsourcing firms available in some areas.[4]

The first three of these are common to construction and transportation fleets,[5] both public and private. These issues are particularly difficult at TxDOT, however, as the existing pool of TxDOT mechanics is relatively small—240 of its 14,463 employees, or under 2 percent.[6] This compares to the Pennsylvania DOT which has 500 mechanics, or 4 percent of its employees,[7](Internet document.) and the Virginia DOT which has 550 mechanics, or 5 percent of its employees.[8]

To meet fleet maintenance needs with limited shop personnel, TxDOT currently outsources 36 percent of equipment maintenance.[9] The availability of outsourcing opportunities varies significantly between TxDOT facilities, with some facilities facing a lack of local private firms able to work on heavy equipment.

Maintaining heavy equipment requires specialized tools, machinery and skills outside the capability of most general repair facilities. Like any business, heavy equipment vendors need an adequate market to support their investment. The construction industry represents the primary market for most heavy equipment vendors and companies and equipment tend to concentrate in larger metropolitan areas. TxDOT thus must rely on in-house staff to perform more highway work in rural areas, increasing the relative amount of heavy equipment in such areas and the reliance on TxDOT shop personnel to perform repairs. TxDOT staff has voiced concerns that expanded equipment outsourcing could be difficult in rural locations.[10]


Alternate financing strategies

When faced with aging fleets, shrinking budgets and mechanic shortages, other states and the private sector have used a variety of strategies to return their fleets to a more sustainable age and composition. These alternatives include the use of standard leases, lease-to-purchase and the use of purchase/buy-back programs.

In standard leases, the operating entity contracts to operate a piece of equipment for a specific period without ever owning the vehicle. At the end of the lease, the operating entity has no additional commitment to the vehicle or the contractor. However, contract terms vary significantly in areas such as length, maintenance terms, allowable mileage and damages.

An example of a typical large fleet user of standard leasing is Texas Utilities (TXU), a large, multinational utility operating over 7,000 vehicles in Texas. According to TXU, advantages to the typical user of leased equipment (lessee) include:[11]

  • no up-front capital requirements[12] and no impact on the lessee’s debt-to-equity[13] ratio with important credit and stock price implications;[14]
  • leasing costs are usually fully deductible to the lessee;[15]
  • equipment disposal issues are settled in advance;
  • equipment replacement is typically quicker, reducing the period not covered by manufacturer’s warranties and total maintenance demands;
  • the number of mechanics employed can be minimized (TXU only employs 25 mechanics in Texas, relying on outsourcing for other maintenance needs);[16]
  • the cost of equipment maintenance is a negotiable item which can be contracted through the leasing company (lessor) or provided by the customer (lessee); and,
  • the recurring nature of lease costs discourages fleets from keeping less-used equipment, leading to more prudent fleet management.

A factor discouraging standard leasing is that equipment is never paid for, requiring the use of operating funds rather than capital funds to meet equipment needs. This means that leasing can significantly reduce fleet age and maintenance costs but requires long-term dedication of funds.

Lease-to-purchase is essentially a form of financed purchase where the lessee owns the equipment at the end of the lease period, similar to a standard auto or home loan. This practice is used by some public sector entities to reduce fleet age more aggressively than can be accomplished through direct purchase, since it requires less initial funding. The drawback to this practice is that financing charges are an additional cost beyond the purchase price.

Pennsylvania DOT aggressively used lease-to-purchase during the early 1990s to reduce fleet age after a period of purchasing freezes during the 1980s. Pennsylvania has since returned to direct purchase of equipment as fleet age has approached their target level, and as funds for direct equipment purchases have became available. Direct purchase also allows them to avoid finance charges. Additional factors include Pennsylvania DOT’s need for excess equipment capacity due to their significant snow-clearing duties, and the fact that they had a relatively large number of staff mechanics.[17]

Purchase/buy-back refers to an equipment practice wherein the agency and vendor negotiate two prices: 1) a price to purchase the new equipment, and 2) repurchase terms (when and at what price) for selling the equipment back to the vendor. Operationally, this practice is similar to a standard lease since the agency only has the use of the equipment for a contracted period. However, unlike a standard lease, equipment ownership transfers between the parties.

Purchase/buy-back programs can be cost effective compared to traditional purchasing or leasing practices. The attractiveness of purchase/buy-back programs relates to the willingness of the manufacturer to sell equipment to state agencies at significantly lower prices than those offered to dealers. This makes buy-back programs attractive to dealers because such programs supply the dealer with a source of below market equipment that he can pre-sell. The demand for new and used construction equipment at the time of the negotiation determine the attractiveness of the purchase/buy-back terms compared to traditional equipment purchasing, as the market condition impacts the repurchase price the seller is willing to pay.

The Arkansas DOT has used purchase/buy-back programs for wheeled tractor and backhoes since 1988.[18] The Louisiana DOT operates a program similar to Arkansas’ program, differing in that all types of off-road equipment have been purchased through this program.[19] With seven years experience in this program Louisiana indicates that buy-back recovery ranges from 97.9 to 94.5 percent cost recovery after 12 months. The Arkansas and Louisiana DOTs combine both purchase/buy-back and traditional purchase based on prevailing market conditions to minimize overall fleet costs.

Since 1988, the Hewlett-Packard Corporation has replaced their entire fleet of 9,300 Ford vehicles annually through a purchase/buy-back program direct with the manufacturer.[20] Research did not identify any public sector firms with a similar program, although California has a buy-back program with BMW for Highway Patrol motorcycles, with the buy back applying to the purchase of another BMW motorcycle.

Current Texas state law does not allow the expenditure of funds designated for fleet equipment purchases to be used for fleet equipment lease payments. Any use of standard leasing requires using funds from TxDOT’s operating budget. This current restriction effectively prevents TxDOT from leasing fleet equipment.


Recommendations

A. State law should be amended to authorize alternative fleet equipment sourcing programs such as leasing.

Increased vehicle purchases under these alternative methods should not exceed 5 percent over the previous budget period without approval by the Governor’s office and Legislative Budget Board.

B. Texas Department of Transportation (TxDOT) equipment purchasing personnel should contact equipment manufacturers and dealers to explore the best options for using alternate equipment purchasing methods.

C. TxDOT should report to the 78th Texas Legislature concerning the alternative financing options it explored and which, if any, it selected.


Fiscal Impact

The impact of any level of accelerated fleet replacement program cannot be estimated.


Endnotes

[1] Texas Department of Transportation, General Services Division, Texas Department of Transportation Major Equipment Fleet (Austin, Texas, January 1999).

[2] E-mail from Jefferson Grimes, manager, State Legislative Affairs, Texas Department of Transportation, Austin, Texas, November 8, 2000.

[3] Letter from Kirby W. Pickett, P.E., deputy executive director, Texas Department of Transportation, to Clint Winters, Research and Policy Development Division, Texas Comptroller of Public Accounts, August 21, 2000.

[4] Interview with Jose Chavez, equipment manager, Texas Department of Transportation-Bryan District, Bryan, Texas, February 24, 2000.

[5] “Fleet Management and Selection Systems for Highway Maintenance Equipment,” National Cooperative Highway Research Program Synthesis 283, Transportation Research Board, Published in 2000, p. 5.

[6] Texas Department of Transportation, “Pocket Facts,” June 2000 (ftp://ftp.dot.state.tx.us/pub/txdot-info/pio/pfacts/pf_0600.pdf).

[7] Telephone interview with James Bretz, operations manager, Pennsylvania Department of Transportation, Harrisburg, Pennsylvania, April 19, 2000.

[8] NOTE: The Virginia Department of Transportation maintains all Virginia State agency vehicles, not just Virginia Department of Transportation vehicles.

[9] Texas Department of Transportation, General Services Division, Texas Department of Transportation Major Equipment Fleet (Austin, Texas, January 1999).

[10] Telephone interview with Zane Webb, director, Maintenance Division, Texas Department of Transportation, Austin, Texas, August 7, 2000.

[11] Telephone interview with Hal Hughes, Jr., equipment manager, Texas Utilities, Inc., Dallas, Texas, May 17, 2000.

[12] Leasing frees up-front capital for alternate uses, substituting the expenditure of operational funds over time instead. The time value of money creates the benefit to this approach.

[13] Debt-to-equity ratio is not pertinent to public entities like the State of Texas. However, to the extent that capital purchases are funded by bonds, total State borrowing capacity is impacted by capital expenditures.

[14] Stock price issues are only pertinent for private sector firms. Texas Department of Transportation does not pay income taxes.

[15] Deductibility issues are only pertinent for private sector firms. Texas Department of Transportation does not pay income taxes.

[16] Telephone interview with Hal Hughes, Jr., equipment manager, Texas Utilities, Inc., Dallas, Texas, May 17, 2000.

[17] Telephone interview with James Bretz, operations manager, Pennsylvania Department of Transportation, Harrisburg, Pennsylvania, April 19, 2000.

[18] Telephone interview with Doug Neilson, Arkansas Department of Transportation, Little Rock, Arkansas, April 12, 2000.

[19] Telephone interview with Ferdinand Theriot, Louisiana Department of Transportation Development, April 13, 2000.

[20] Telephone interview with Wayne Sonnenberg, fleet manager, Hewlett-Packard Corporation, Rockville, Maryland, April 7, 2000.