The dream is still alive for urban air mobility. We will need to succeed in aligning everybody to one single standard. We need to be coaches in the corner, those of us in aviation. Our aerospace industry is strong and resilient. Some of the fastest-growing segments within USM will be expensive to overhaul parts. It’s a great marketplace where we need to invest in the future. We're looking at domestic markets recovering faster, with shorter routes in higher demand. Our aerospace defense companies need to view and assess the opportunity to build.
Dennis Santare
Welcome, everyone, to the Velocity Podcast brought to you by management consulting firm Oliver Wyman. I'm Dennis Santare, a New York-based Partner in our Aerospace and Defense practice. The aerospace industry has faced the most acute shock in its history. As COVID-19 spread across the world, the industry lost over $118 billion in 2020, and it saw dozens of airlines seek bankruptcy protection or stop flying entirely. There's really no sugar-coating the fact that the industry has been through a major crisis. Although there is more work to do to achieve full recovery, as our current forecasts show, the recovery is indeed happening, and commercial aircraft activity is poised to return. It is now time to design a resilient next chapter for aerospace in a post-pandemic world. Key characteristics of our market have changed dramatically from pre-COVID to post-COVID. These include, but are not limited to, market growth rate, volatility, cost of capital, outsourcing trends, and capacity shortages. Today's discussion will focus on the Oliver Wyman next chapter design elements, focusing on market and portfolio choices that aerospace companies can make as they design their next chapter. In general, strategic sustainability for A&D players will be critical post-COVID. Business design needs to be founded on where and how you play, i.e., market and portfolio choices, and optimizing to your operating model strengths and weaknesses while guarding against risks presented by the move to the new normal in the next chapter. This brings me to our host for this episode. We have quite the international cohort today. I'm being joined by my colleagues Ken Aso, based in Seattle, Jérôme Bouchard, joining from Toulouse, and David Stewart, who is based in London. Together, we'll be examining the key aspects of a pre-and post-COVID market and which design elements will position aerospace companies to win in 2021 and beyond. Let's jump straight into the discussion. Ken, can you offer our listeners a view on the platform portfolio, typically thinking in terms of wide-body vs. narrow-body choices?
Ken Aso
Absolutely. After many years of rapid growth, aerospace is now entering its most unprecedented period of uncertainty in the history of modern commercial aerospace. Pre-COVID, we saw a high rate of growth, intense production ramp-ups across the entire commercial manufacturing industry, effectively scaling the global supply chains to have the capacity to produce over 2,000 aircraft per year. But on the other side of COVID, with the industry significantly impacted, fewer than 1,200 aircraft were actually delivered. We're going to see a slow production ramp-up, not a snapback, with an emphasis on narrow-body over the next few years. And so, as we think about the aircraft types, there will be a difference. We've been looking at several ways to see forward indicators, leading indicators around the industry's growth. In terms of narrow-body, we're looking at domestic markets recovering faster, shorter routes that are in higher demand, and we're seeing airlines downgrade their aircraft for several point-to-point routes and shrunk routes, even on international routes. From the standpoint of international routes, crossing international boundaries, we're seeing many pandemic-related challenges. You have international regulations, higher risk factors on the flights themselves, and customer perception leading airlines to favor the accelerated recovery of the narrow-body market. On the Airbus side, the 321 XLR is a well-positioned aircraft to recover across the narrow-body portfolio, being better poised to respond relative to wide-body. As we think about wide-body, the A380 and the 747 were accelerated in terms of what was already kind of a planned phase-out of production. In terms of the medium-gauge aircraft, we’ve seen negative net orders, reduction in production scale, and no real demand for medium-gauge wide-body aircraft. It's really wait-and-see with the exception of some cargo-specific routes and for cargo-specific carriers. Boeing 787 and the A350 are very good aircraft, but production has been cut by 25% or more, 25% or so for Airbus, and even more for the 787 as they've consolidated from two production facilities down to one. And so, we'll need to see those international routes rebuilt over time. Jérôme, do you have any perspective on cargo, as well as the rise of regional traffic in particular regions?
Jérôme Bouchard
Yeah. Thank you, Ken. Nice to meet you again on this podcast. Regarding the cargo, I think it has been a very stable driver for the sustainability of the airline industry over the past years. So many cargo aircraft have been flying a lot. And when I say a lot, I mean much more than before, okay? And the majority of those aircraft are vintage aircraft, I would say. We have seen a rise in the utilization of old Airbus A300s, for instance, and that generated an interesting dynamic, especially in the aftermarket because all of these vintage aircraft need some very specific parts for maintenance. And obviously, the number of cycles in utilization has gone up a lot. Beyond cargo, there was also very good momentum on the regional jet fleet, especially for regional aircraft in some regions of the world. We can think about India, we can think about China, but still also in the US and Canada. So, very large countries where domestic flights are very important and can be operated from point to point with smaller jets, and in fact, smaller regional jets.
Ken
Yeah. It's clear that regional has been affected much less than international traffic and long-haul point-to-point domestic traffic. That's a good point.
Jérôme
Yeah, and I think we can see it in the very good order book that the A220 is actually having. This plane has had quite a success, I would say, with some airlines, very few cancellations, good commercial traction on the market, and good ramp-up prospects, despite the COVID trend.
Ken
Yeah. That's right. As we're seeing recovery in varying degrees across different markets, as we look to see the aerospace industry build a resilient production posture, aerospace companies need to pinpoint and diagnose which areas of the business will need to be restructured to adapt to this post-pandemic market. Jérôme, what does this mean if we're approaching the recovery from the standpoint of specific airframers?
Jérôme
Maybe before talking about the recovery, Ken, let's take a look at what was happening during the 2010s. That particular decade was a growth decade for Boeing, Airbus, and also ATR and Embraer and others, especially in the second half after 2015, when production rates skyrocketed and quickly evolved toward record years such as 2018, which was, I would say, the peak year before the 737 Max and industrial problems. We recorded more than 1,800 commercial aircraft actually delivered and produced that year. I would still say it was a balanced market to the advantage of Boeing over this decade – a slight advantage, but still an advantage both in terms of orders and overall production. But in 2019, the problems with the 737 Max arose. Unfortunately, we had a big gap in terms of production between Boeing and Airbus. It's public knowledge that Airbus started the COVID crisis in much better shape than Boeing did because of the 737 Max issues. So, at the very beginning of this COVID crisis, if I'm taking the two leading airframers, we had, on one hand, Airbus with a very good backlog, a strong commercial pipeline, and a growing capability to deliver and produce aircraft. On the other hand, unfortunately, Boeing was already facing big issues with the 737 Max, with many aircraft parked on the tarmac in Seattle. So taking a look ahead, we see 2020 as a very strong year for others in terms of delivery and production, with 566 aircraft. This solid production and delivery rate put the Airbus fleet much ahead of Boeing's production, which was close to 170 aircraft in 2020. Of course, we're not talking about the same aircraft – the Boeing fleet is much more on the long-range side, and the Airbus fleet is focused on the single-range – but overall, this has created a big discrepancy in financial results and fleet mix. Slowly but surely, short-hauls will take over a large portion of the total fleet. If we take a look at our Oliver Wyman Fleet MRO forecast for 2020, in the overall commercial fleet, there was one long-range aircraft for every three narrow-bodies. Well, in 2030, there will be one long-range aircraft for every four narrow-bodies. And that’s, of course, a huge shift in just 10 years, showing both the retirement of long-range aircraft and the increasing market share of narrow-bodies. Within this narrow-body fleet, there will be one winner in the next decade: the A321LR or XLR. We can see a strong progression in this mix. We also know that starting in 2022, the A321 family will represent more than 50% of the total A320 family production. And that particular proportion will only grow over the decade to a large majority of A321 production in the end.
Dennis
Jérôme, what do you think restores the duopoly? Does the Max help? I just flew in one last night, and it felt great to see that aircraft back in operation. It’s been ungrounded by both the FAA and EASA. Is that going to help? Is that going to get Boeing there? Or does it really take something external or something dramatic like the MMA aircraft coming back, or the Embraer JV being reinvestigated and pushed through? What gets us back there? Or is Airbus just too far ahead?
Jérôme
That's a very fair question, Dennis. I think, first of all, the 737 Max being back in the air is very good news for the industry overall. The recertification by the FAA and EASA is clearly a very positive sign, not only for Boeing but also for its whole supply chain and for its clients, mainly US airlines. Having said that, I don't think that having the 737 Max back in operation will be an actual game-changer. The aircraft that has already been produced will take, we believe, up to two years to be reintroduced and redelivered to the market. So, that will be relatively slow in comparison to the rate of production of the A320 family, which is currently around 43-45 aircraft a month. But still, it's good news for the industry overall.
Talking about the middle of the market program for Boeing, Ken, maybe I should turn this question over to you. What are the perspectives regarding that particular segment, and what could be Boeing’s positioning in the middle of the market?
Ken
It’s been debated hotly around the opportunity for Boeing to participate in that middle of the market. It’s clear there’s a trend toward up-gauging aircraft on the narrow-body side, and it’s clear there’s been a need. Boeing was studying it very heavily around launching, but unfortunately, due to challenges around the Max and perhaps other quality issues along the production system, it seems like a lost opportunity. The market is a bit smaller now in general, and Airbus has a fantastic product with the XLR, a very efficient aircraft. There’s definitely a need for Boeing to launch a new aircraft on the narrow-body side, but the challenge right now is the significant investment required for that airframe. It’s a team effort when you’re launching a new aircraft – you need to align and partner with several tier-one suppliers, most notably on the propulsion side. You have to work closely with engine OEMs, and they need to be ready to launch around a particular specification. All of this takes time, and I think that’s the challenge Boeing is currently facing.
Jérôme
I agree with you, Ken. It takes time, and it also takes money. We can estimate that the development cost for a new aircraft of that kind would be between $2 billion and $3 billion a year. So, even with the best effort, it will take at least six to seven years for a full redevelopment. We're talking about an investment of approximately $18 billion to $20 billion. In this particular COVID situation, which came after the 737 Max issues, Boeing would face huge financial pressure if they had to fund such a new program. Don’t you think?
Ken
Yes, and let’s remind ourselves that airframers have been notoriously optimistic about how long it takes to develop new aircraft programs and have often underestimated the sheer amount of time required to get an aircraft designed, engineered, prototyped, tested, and then launched and approved. So, if you’re thinking about a realistic timeframe, it points to the need to comprehensively rethink Boeing's narrow-body portfolio.
Jérôme
Commercialization far exceeded expectations pre-pandemic, and we have seen significant shifts in the post-COVID market. Dennis, how can aerospace companies design the right approach to tackle these changes?
Dennis
Thanks, Jérôme. Obviously, defense is something that's near and dear to my heart. Coming out of COVID, we believe defense is going to lead. Companies should seriously consider incorporating more defense work into their business models, even with talks of a flat budget under the new administration and other headwinds, particularly in the US context. First, we’re not going to see major budgetary impacts in the US for at least a year or more as the new administration finds its footing in managing the defense department and budget itself. Globally, trends are pointing towards a bullish outlook for defense due to geopolitical instability, ongoing conflicts, and competition. The commercial OEM market, which includes parts, systems, and components production, will face a slower recovery, with full recovery expected no earlier than 2024. If you look at our forecast, the market's total value destruction over the next 10 years compared to where we thought we'd be in 2019 is significant. So, for companies heavily invested in commercial aerospace production and the supply chain, it’s a good time to reassess capabilities, leverage invested capital, supply chain relationships, and engineering teams to build or repurpose products for defense applications. It may be tricky to turn this around quickly, but it’s essential to look at our operating models and pivot toward defense.
Ken
Dennis, for those thinking about defense, we’ve seen the US usher in the Biden administration recently, which could bring new priorities for defense spending. What are the medium-term implications for the defense sector’s growth?
Dennis
It's going to be a wait-and-see situation, Ken. The 2021 budget is largely intact, with limited changes. The 2022 budget will be more actionable, but the real effects will be seen in fiscal year 2023 and beyond. There’s been talk about force reductions and some budget tightening, particularly in investment and procurement. Some programs might face challenges, but established programs with secure funding and infrastructure should remain safe. Programs of record, particularly legacy aircraft and weapon systems, should see consistent operations and maintenance spending, with growth in some areas. There’s room for organizations not currently in defense to enter the market by leveraging their capabilities. The defense industry offers steady, predictable revenue that commercial aerospace can't currently match. Uncle Sam pays his bills on time, and long-term programs like the B-52, which has been flying since 1952, have decades-long life cycles. Winning defense contracts takes time, but once you’re in, it provides steady income, aftermarket opportunities, and retrofit projects.
David Stewart
Another angle I’d like your thoughts on, Dennis: Could strong defense OEMs consider entering the commercial market during this downturn, knowing that commercial growth will eventually return? Could the defense industry be part of the solution for commercial aerospace?
Dennis
That’s a great question, David. For OEMs with commercial exposure, we might see them seeking more commercial capabilities, taking advantage of the low prices in the market right now. For pure defense primes, it's harder to see them shifting to commercial aerospace. However, we’re seeing lots of acquisition activity in software and high-tech systems—companies in these sectors are being snapped up by defense primes like Lockheed Martin and Northrop Grumman. These are often commercial software and technology companies, but their technologies can be repurposed for defense, particularly in cyber and artificial intelligence.
Narrator
Thank you all for joining us for this episode. In part two, we’ll continue the conversation about optimizing operating models for the next chapter, including supply chain agility, IP control, positioning, and footprint. Thank you to my co-hosts, and thank you to our listeners at home. If you have any questions about today’s discussion, please reach out to us at Oliver Wyman on Twitter and LinkedIn.
This transcript has been edited for clarity.
