178-Meeting a Challenge from Below

Boeing and Airbus have an interesting problem. These two companies had been sparring back and forth for several years in the large plane market. The industry’s largest customers, such as United and Republic Airways Holdings, are among the most important customers for the large planes and thus for Boeing and Airbus.

Recently, though, a new set of challengers has entered the lists. The two most important of these challengers are Canada’s Bombardier, Inc. and Brazil’s Embraer. These new challengers are much smaller companies. (See the Symptom & Implication, “Demand continues to grow but margins are low and new entrants are taking share” on StrategyStreet.com.) They also build smaller airliners with shorter ranges than Boeing’s 737 and Airbus’ A320. Normally, these smaller competitors would sell to the industry’s smaller regional airlines.

These new competitors, though, have offered something new and attractive. The new companies are each offering a 150 seat jetliner with 15% better fuel economy compared to current 737s and A320s. Now customers, including United and Republic, are demanding that Boeing and Airbus produce a plane with an equivalent savings.

But this is a problem for the leaders. After years of jostling back and forth for market share and industry leadership, the industry leaders’ margins on airliner sales are low, even though there are only two competitors fighting this price war. (See the Perspective, “What Ends Hostility?” on StrategyStreet.com.) Last year, Boeing had an operating profit of about 3% on $68 billion in sales. The price wars have indeed been tough. Furthermore, the company has only $2 billion in equity to support $62 billion in total assets. Things aren’t quite as bad as that may sound because about $11 billion of those assets are cash and equivalents. Still, the company’s margin for safety is relatively thin.

Now you can understand how Embraer and Bombardier were able to come up with new, cheaper, technology in the small jetliner market. They have been earning better profits selling to regional airlines. Both Boeing and Airbus had hoped to wait several more years before updating their small airliners, but the customers won’t stand for it. Instead, both of the larger companies seemed poised to improve the fuel economy of their 737s and A320s by changing the engine configuration as a way of updating and improving the jetliner’s efficiencies. This should close part of the 15% fuel economy gap, but not all of it.

It appears that the industry’s smaller, lower-end, competitors are in for a few good years. The industry leaders simply don’t have the resources to stop them in the near term. We’ll see something similar in the next blog, though the reasons for the success of the lower-end competitor are less in resources and more in will.

Posted 3/25/10

Bombardier and Embraer were smaller competitors who dared to challenge the two behemoths who controlled the market for large airliners sold to larger airlines. These two small companies originally grew because they served small and medium customers whom the larger competitors viewed as unattractive, near core or non-core customers. See HERE and HERE for an explanation of those terms. These small competitors’ sales of smaller jets to the industry’s larger customers got the full attention of the two large market leaders.

In 2017, Boeing sued Bombardier accusing it of dumping 75 planes to Delta at prices below the cost of manufacturing. These planes competed with some of Boeing’s smaller jets.  Boeing lost that suit. However, the disruption caused by the suit paved the way for Bombardier to sell a controlling interest in these C series products to Airbus in 2017.  Airbus renamed the C series as Airbus A220 – 100/300.  Airbus then delivered the aircraft to Delta.  Once Airbus was in control, it increased orders by 50% in just the first year over what Bombardier had achieved in 10 years of sales. The larger airlines were concerned about the long-term stability and brand-name of Bombardier and were hesitant to buy from them.  The airlines had no such fears with Airbus as the controlling shareholder

in 2019, Boeing proposed a joint venture with Embraer to build and sell airliners globally. This plan was unpopular in much of Brazil.  Boeing then proposed an 80% acquisition of Embraer. This proposal cleared most of the regulatory hurdles. But, citing problems caused by Covid, Boeing withdrew from the proposal.

Both of these initiatives of Boeing against its smaller, low-priced, competitors follow patterns we have seen in other similar situations. See HERE for an explanation and more examples.

9/22

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