As Boeing and Airbus Ramp up, it's Crunch Time for Aerospace Suppliers

As Boeing and Airbus Ramp up, it's Crunch Time for Aerospace Suppliers

Fueled by surging demand in Asia, commercial-aircraft production is hitting record levels. Can the supply chain keep pace?

B/E Aerospace Inc. heads into 2012 flush with optimism. The Wellington, Fla.-based manufacturer of aircraft-cabin products is coming off a record 2011, in which the company landed an $800 million order from Boeing Co. to supply its modular lavatory system for the Next-Generation 737 and the 737 MAX.

In February, B/E Aerospace Chairman and CEO Amin Khoury declared that the Boeing order could be "our most important award ever." Khoury pointed out that the $800 million order not only positions B/E Aerospace as a Tier 1 supplier to Boeing but also opens the door for "substantial" opportunities to retrofit existing jets with the modular lavatories.

Despite soaring to all-time highs in sales, earnings, cash flow and bookings in 2011, the sky could be the limit for B/E Aerospace. The company is forecasting a 23% jump in 2012 earnings per diluted share, thanks to a record backlog of $7.9 billion and "our expectation for continued growth in global passenger travel and attendant increases in capacity," Khoury said in February.


Citing strong demand, Airbus in February 2011 announced plans to ramp up production of its A330 wide-body to 10 airplanes per month by second-quarter 2013. Final assembly of the A330 and A340 takes place at a hangar at Toulouse/Blagnac Airport (pictured here) in southwestern France. Photo courtesy of Airbus SAS
Indeed, these are boom times for some aerospace suppliers. With Boeing and Airbus SAS projecting a worldwide demand for some 30,000 new commercial jets over the next two decades, suppliers such as B/E Aerospace could be poised for a good run.

However, as Boeing and Airbus push toward aggressive production-rate ramp-ups on a number of major programs, there are murmurs that some manufacturers in an already stretched supply chain might struggle to keep pace.

When aviation-industry consultant Scott Hamilton attended the Pacific Northwest Aerospace Alliance's annual conference in early February, the production crunch was a hot topic.

"The suppliers are very concerned about their ability to meet the ramp-ups that Airbus and Boeing are talking about, as well as continuing to service Bombardier, Embraer and the new entrants that are coming along," says Hamilton, who is managing director of Leeham Co. LLC, an Issaquah, Wash.-based commercial-aviation consulting and research firm.

The larger suppliers, Hamilton adds, aren't the only ones biting their nails.

"The concern is coming from up and down the line, because the supply chain is only as good as its weakest link," Hamilton says.

The numbers certainly point to a gargantuan task ahead for the OEMs and suppliers, asserts Scott Thompson, U.S. aerospace and defense leader for PwC.

While 2011 marked the first year that Boeing and Airbus combined to deliver more than 1,000 commercial airplanes (477 for Boeing and 534 for Airbus), the aerospace titans also ended 2011 with a record combined backlog of more than 8,000 jets (3,771 for Boeing and 4,437 for Airbus).

"So they have eight years of backlog at current production rates," Thompson says. "And they've been taking up the production steadily in recent years."

In its most recent market forecast, Boeing predicted that surging demand in the Asia Pacific region will propel a $4 trillion market for new commercial aircraft over the next 20 years. Boeing foresees a global need for 33,500 new commercial jets over the next two decades, while Airbus forecasts a need for 27,800 new jets over the same time period.

If the long-term demand comes in at, say, 30,000 airplanes, that means Airbus and Boeing will need to crank out 1,500 commercial airplanes per year -- after producing 1,000 planes for the first time ever in 2011.

"Simple math is they need to raise production 50% to 60% over the long term to meet the demand," Thompson says. "For this industry, that's very, very challenging."

Risky Business

The industry's operating model is moving into uncharted territory. A recent PwC report assessing the operational readiness of the aerospace supply chain notes that the aircraft OEMs have "pushed much of the design and manufacturing work to suppliers, often in the form of risk-sharing partnerships."

The much-publicized shortage of fasteners for the 787 Dreamliner -- one of a number of supply chain glitches that pushed the program three years behind schedule -- illustrates how, in this new dynamic, one supplier's risk is everyone's risk, asserts Doug Gates, a partner in KPMG's Global Aerospace & Defense practice.

"It could be the smallest component that could really come back and get you," Gates says.

In the case of the Dreamliner, transferring more risk to Boeing's far-flung global supply chain added "a lot of complexity" and "a lot of failure points" to the program, Gates says.
"Granted, that [risk sharing] was just at the Tier 1 level. But we're seeing more responsibility rolling down the supply chain, and more assumption that they'll step up and assume a broader role," Gates adds.

Unfortunately, there could be more ugly failure points lurking around the corner. When PwC recently analyzed the readiness of suppliers to deliver the ramp-ups projected for the Boeing 737 and 777, the Airbus A320 and A380, and other major programs, the firm concluded that 21% of suppliers face a high risk of falling behind on the demand.

"The bottom line," says PwC's Thompson, "is our recommendation that all companies really scrutinize the supply base, and really talk to their suppliers about what their plans are. But also they need to independently assess what their realistic capabilities are to increase throughput and, if necessary, to have the capital expenditures to keep up."

More and more, Thompson is seeing companies "all the way up and down the supply chain" assessing the operational and financial readiness of their suppliers.

They're also recognizing the "growing interdependence" between themselves and their suppliers, says Bruce King, senior vice president, operations, for Rockwell Collins Inc.

Given the dizzying complexity of the components and assemblies involved in aircraft production, King believes it's time to jettison "that old model of buyer and supplier."

"We're going to have to form more what I'll characterize as relationships down the supply chain," King says. "We will expect more from our suppliers in their performance, and we're also going to have to hold ourselves -- as a customer to our supply base -- more accountable for how we interact with them as well."

Rockwell Collins keeps the lines of communication open with its supply chain through a number of mechanisms, including an annual supplier conference and an advisory council comprised of representatives from key suppliers.

"It really gives us an opportunity to hear from our suppliers about what we can do to be more effective in how we engage with them," King says.

A Perfect Storm?

Like B/E Aerospace, Cedar Rapids, Iowa-based Rockwell Collins is in a prime position to profit from the global boom in commercial-aircraft sales.

The company's electronics and communications systems have a major presence on the 787 Dreamliner -- which features more Rockwell Collins content than any other commercial jet in the company's history -- as well as the Boeing 747-8 and the Airbus A350. And in recent months, there's been a steady stream of new commitments, including an Emirates Airlines order in November for Rockwell Collins's threat-detection and navigation-sensor technology on 32 new Airbus A380s and 30 new Boeing 777s.

The company's robust commercial-aircraft business helped Rockwell Collins post a 15% increase in fiscal 2011 earnings per share and boost overall revenue from $4.6 billion in fiscal 2010 to $4.8 billion in 2011 -- despite a decline in its government business.

As production ramps up on the commercial-aircraft side, continuing weakness in Rockwell Collins's government business could play to the company's advantage. King notes that the company employs an "integrated business model," in which its government and commercial divisions share manufacturing, quality-control, purchasing and R&D resources and facilities.

"This allows us to flex our capability to accommodate those peak demands in a very efficient manner by leveraging those resources from across the entire Rockwell Collins enterprise, not just those from within a single business area," King says.

Flexibility, though, is not a luxury that some smaller suppliers enjoy -- especially in the wake of the Great Recession. While some suppliers are licking their chops over the opportunities in commercial-aircraft manufacturing, others are still licking their wounds.

"The supply chain really took a hit back in late 2008, early 2009," says Chuck Gumbert, founder of the Tomcat Group, a Wichita, Kan.-based aerospace and aviation consulting firm. "A lot of companies cut way back. And as part of that cutting back, they let go of experienced, key talent because it cost too much, and they tried to backfill that with lower-caliber individuals."

At the same time, Gumbert has watched the aerospace supply chain shrink through consolidation and acquisitions. The most recent data from PwC show that the number of mergers and acquisitions in the aerospace and defense industry has surged steadily from 173 in 2002 to a record 341 in 2011.

When the dust settles on the smaller deals, aerospace suppliers often find themselves owned by private-equity firms, Gumbert notes. The new owners usually push the companies to grow their business and cut costs -- without investing in manufacturing capacity.

"So you have people in place, who are under the gun with the new owners, who've already cut everything to the bone, and now we're going to have the ramp-up take place with the Boeings and the Airbuses and hopefully business aviation," Gumbert says. "Now [the suppliers are] going to try to produce, and they're not going to be able to -- which is going to put more angst on the individuals running these organizations. It's going to be a painful event."

Gumbert, a former fighter pilot who named his consulting group after the F-14 Tomcat that he flew in the Navy, says he saw this production crunch coming. That's why he formed the Tomcat Group, which specializes in turnaround consulting services for distressed aerospace and aviation suppliers.

"I had a good discussion with a large OEM this morning, and they said, 'Yeah, we're already starting to see it,'" Gumbert said in February. "[The suppliers] can't keep up. They haven't maintained their investment. They're trying to do more with less, and they seem to think, 'That's OK, let's just take an organization that has 250 people and double our output by adding 25 people.' That isn't going to happen."

Richard Aboulafia, however, is a bit more sanguine about the prospects of the industry meeting its production targets.

"They're really going to be flexing their industrial muscles over the next year or two," says Aboulafia, who is vice president, analysis, for the Teal Group. "I think they'll probably get most of the way there. But there are going to be some pitfalls."

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