:: March 2014 Letter ::
To create a good plane, aircraft designers need to be good shoppers. Just as airlines need the freedom to source the best planes for their needs, airplane designers need the freedom to source the best equipment at the best price. Since most of the value of an aircraft is in its components, and since most innovation happens in the supply chain, aircraft designers need to be free to buy the most cost-effective and innovative systems and structures, from engines to fuselage sections to smoke alarms.
Sourcing freedom is a key factor in determining a jetmaker’s competitiveness. As a result, Boeing’s Partnering For Success (PFS) initiative may be a serious self-inflicted wound. It could even threaten the company’s relationship with Japan, their biggest source of new product development cash.
Since the Orwellian-sounding PFS began last year, I don’t think I’ve met a supplier who wasn’t either angry about, or scared by this initiative. As BofA Merrill Lynch’s Ron Epstein put it in a recent note from this month’s Speednews conference, “[T]here was a palpable sense of “Boeing Fatigue” among suppliers regarding Boeing’s ‘Partnering for Success’ program. Many of the suppliers we spoke to said they were at a loss as to how Boeing expected them to reduce cost to drive price reductions. The general thought was – ‘Hey, we are not getting rich doing this, how are we supposed to give up 15% in price when we are only making 15% margins or less?’”
Boeing is entitled to be aggressive in their sourcing terms. They’re a business, and the company did go through a period where it was complacent with costs. But Boeing has been putting non PFS-compliant suppliers (that is, suppliers who won't surrender their profit margins) on what they’ve termed a “no-fly list.” This is effectively a blacklist of Boeing's healthiest and most successful suppliers, from which aircraft designers are no longer free to source.
For example, UTC Aerospace Systems (UTAS; legacy Goodrich) builds the 777 landing gear. Rightly or wrongly, UTAS is on Boeing’s no-fly list. In the old days, Boeing might re-bid this, looking at qualified large landing gear OEMs such as Safran (and keeping the door open to a UTAS bid). But last April, they selected Heroux-Devtek. This Canadian company has a good reputation for business jet and regional jet landing gears, but they’ve never done large twin aisle jetliner landing gear.
Analysts termed the contract “transformational” for Heroux. The company will probably rise to the challenge, but that’s a risk. I have heard stories of equally unusual 777X sourcing decisions. That’s more risk. The aerospace supply chain has high barriers to entry for a reason – it’s hard to learn how to do something new. When a jetmaker starts awarding “transformational” contracts, you know they’re relying on companies to be transformed, in the same way that Boeing relied on Vought and other companies to be “transformed” to meet the challenges of the 787. Or the way Bombardier relied on AVIC/Shenyang to be “transformed” to meet the challenge of the CSeries. If Boeing ties the 777X designers’ hands with no-fly lists, forcing them to rely on multiple “transformational” source decisions, they’ve just added levels of risk to the development program that are on par with the 787 development program. If memory serves, that didn’t go so well.
For an illustration of the importance of sourcing freedom, look at two contrasting examples, Brazil’s Embraer and China’s COMAC/AVIC. Both countries and companies have big markets, lots of talent, and lots of resources for an emerging aviation industry. The only major difference is that Embraer’s designers were given freedom to shop around the globe for the contents of their planes, with few local content mandates. China, by contrast, largely forbids its airplane designers from buying anything except equipment built by the companies who have agreed to transfer intellectual property to China. That often means they’re buying obsolete technology.
The results: Embraer has produced a stream of hits, and it’s the only company in the world that has successfully entered the civil aircraft market since 1960. China, by contrast, continues to disappoint, whether it’s with the crash-inclined MA60 turboprop or the ARJ21, the country’s first jetliner. To paraphrase Chevy Chase in Saturday Night Live Season One, the ARJ21 is still valiantly holding on in its fight to remain dead. The next generation C919 is headed down exactly the same path.
With its PFS-linked No-Fly List, Boeing management seems to think China’s approach is the right one. The consequences of this foolishness may involve more than just development risk for the 777X. For years, the company has relied on Japan as the biggest contributor of risk-sharing cash. Japan is Boeing’s greatest international partner and the biggest single customer (including military and civil jets). Other than the 747, all Boeing twin aisle jets have a very high level of Japanese content. Boeing even commissioned a nice coffee table book on the subject, Pacific Partners: 50 Years of Boeing in Japan.
The 787 was the first time Boeing had ever outsourced a wing, and it went to Japan. A few months ago, when Boeing announced that it would do the 777X wing itself, this was regarded as good news (and I agree). But if they’re not doing the wing, are the Japanese Heavy Industries (Mitsubishi, Kawasaki, Fuji) doing the fuselage, as on the current 777? Surprisingly little has been heard on the subject, and I’m wondering if PFS isn’t the problem.
Losing Japan would mean more to Boeing than losing their largest risk-sharing partner. Airbus may take advantage of Boeing’s strategic blunder. Airbus’s product line lacks twinjets that can compete with the 787-8/9 and 777-9X (240-280 seats and 400+ seats, respectively). If Japan (industry and government) defected to Airbus, it would be a huge product development enabler. JAL’s decision to go with A350XWB indicates that cracks are appearing in the Boeing-Japan alliance, implying an opportunity for Airbus.
PFS, and the no-fly list, therefore, could be more than just a self-inflicted wound that constrains Boeing jet designers. If it affects Boeing’s relationship with Japan, it will also be a strategic mistake of the highest order.
On a somber note, I would like to note with sadness the recent passing of Gil Speed. One of the very best people in the industry, he had a remarkable career in aviation, and he founded the industry’s foremost suppliers’ conference. He was an exceedingly nice person, too. The Speed family has my condolences.
Good news: we now have a new defense budget, with a new Five Year Defense Plan (FYDP). Bad news: since it is far from compliant with the Budget Control Act, this FYDP is probably DOA. We’ve done our best to forecast numbers with Teal’s annual F-35 report this month. Other Teal Aircraft updates include the A400M, A320, A330, A380, 767/KC-46, the Gulfstreams, Bell’s singles, and the M-346. Have a great month.
Yours, ‘Til Blacklisted Suppliers Join IAM751,
© Richard Aboulafia 1997-2006, All rights reserved.