• Joe Breitfeller

Opinion: Has Everyone Forgotten How Fragile the Cyclical Global Commercial Aviation Business is?

Updated: Sep 5

With yesterday’s World Trade Organization (WTO) decision allowing the U.S. to impose up to $7.5B in tariffs on European Union (EU) products, the uncertainty added to the historically unstable airline business couldn’t come at a worse time.


Photo Credit: David Clode/Unsplash

Let’s face it, in a world with a 24-hour news cycle, memory is short. While it is true that the global airline industry has been profitable since 2010, it’s easy to forget that in the years 2008 and 2009 the industry lost over $30B in aggregate. Sure, that was during the global economic downturn, but it is incomprehensible to think the industry will ever be delinked from general economic conditions. Since deregulation in 1978, the U.S. market has matured, consolidated and stabilized, but at its heart remains completely vulnerable. As economic conditions move from recession to growth and back to recession, we wonder if even the best operators have lost sight of the inevitable headwinds. The best operators should have been hoarding cash during the boom cycle of the last decade, so they can weather whatever economic conditions the future holds. Delta Air Lines, who many consider the best U.S. legacy mainline operator, has been on a spending spree, taking stakes in both Korean Air and more recently Chile-based LATAM, but only time will tell if this was a prudent move.


Global Airline Net Profits 2006-2019 - Courtesy Statistica

Regardless of overall economic conditions, airlines continue to face the perpetual difficulty of unpredictable Jet-A fuel prices and a unionized labor force. Naturally, unions will fight for generous contracts during the boom cycle, only having to submit to concessions during the bust cycle. Next, when the economy turns positive, they fight to claw back those concessions and the vicious cycle continues.


Yesterday, the World Trade Organization (WTO) ruled in favor of the U.S., allowing them to levy up to $7.5B in tariffs on EU products. While some may see this as a victory for Boeing, beleaguered by the 737 MAX grounding, reports of quality control issues and more recently structural problems with 737 NG (Next Generation) aircraft, we see it as an additional and unnecessary threat to the industry. It isn’t a foregone conclusion that these tariffs will be levied on Airbus SE products, so there is still hope. As explained in an October 2, 2019 Airbus Press Release, it will be up to the United States Trade Representative (USTR) to determine whether these tariffs will be applied to imported aircraft and aircraft components. Airbus manufactures/assembles certain narrow-body models in Mobile, Alabama (A320 Family/A220), which will suffer less impact, but the potential harm to U.S. airlines with Airbus widebodies such as the A350-900XWB, could be catastrophic. Regarding the WTO announcement, Airbus CEO Guillaume Faury stated,


“Airbus will continue working with its US partners, customers and suppliers, to address all potential consequences of such tariffs that would be a barrier against free trade and would have a negative impact on not only the US airlines but also US jobs, suppliers and air travelers. Airbus is therefore hopeful that the US and the EU will agree to find a negotiated solution before creating serious damage to the aviation industry as well as to trade relations and the global economy.”


The EU currently has a case before the WTO which will allow for “tariff countermeasures” against US products, including Boeing aircraft. There is a question as to whether US defense contracts with Boeing represent a de-facto government subsidy, and the WTO has already determined that the US has not properly addressed the issue. In the end, the EU may receive countermeasure relief which could exceed the $7.5B sanctioned to the US. Therefore, this measure-countermeasure attitude is likely to cause financial harm to both US and EU airlines. According to Airbus, around 40% of procured parts come from US aerospace suppliers in a supply chain that supports as many as 250K jobs in 40 states.


Airbus vs. Boeing, The Duopoly Strengthens


We have ended up with a duopoly in the commercial aircraft business, which has only been strengthened over the last few years. Bombardier has sold off their C-Series (A220) regional jet program to Airbus and Boeing expects to finalize their 80% stake partnership stake in Embraer by early 2020. Incidentally, Bombardier also spun-off the Q-Series program to DeHavilland Canada and their RJ program to Mitsubishi Aircraft Corporation. In a Boeing Press Release today, the company announced that the partnership approved by Embraer shareholders last February has received clearance from the US Federal Trade Commission and is awaiting clearance from the European Commission, which is opening a “Phase II” assessment of the transaction. Embraer will retain 20% ownership in the new entity which will be called Boeing Brasil – Commercial.


Opinion

Although the situation isn’t ideal, we have a duopoly in the commercial aviation business, which shouldn’t be looked upon as a zero-sum game. The success of both Boeing and Airbus, on a level playing field, must be the goal of regulators. The idea of harming one of the only two companies in the commercial aviation business for the benefit of the other is short-sighted and childish. We believe the industry was far more innovative when Airbus, Boeing, McDonnell-Douglas and Lockheed-Martin were all competing, but those days are long gone, and unlikely to return unless you believe in the Commercial Aircraft Corporation of China (COMAC). Innovation won’t occur unless we have two robust, healthy and profitable competitors. In recent years, both companies have been turning successful aircraft models into derivatives which bear little resemblance to the original aircraft. Boeing, with the 737 MAX and Airbus with the A321neo (suffering from a pitch up tendency) are both discovering that derivatives can only go so far. The only way new and innovative “clean sheet” aircraft will be developed in the future is to ensure the financial health of both companies. In conclusion, we hope all parties involved will “tap the brakes” and remember that both aircraft manufacturing and the airline business are difficult, capital-intensive and tenuous, even under the best of circumstances. Starting a “war” during the cyclical airline boom cycle is likely to result in a bust, the likes of which we have not seen.


Editor's Note: The opinions expressed in this post are solely those of the author. The content has not been reviewed and/or approved by any affiliated advertisers or content providers. As always, we welcome differing points of view.


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