Airbus A3XX: Developing the Worlds Largest Commercial Jet

Group 1 111 Rakshit Jhunjunwala 115 Ankitesh Mathur 211 Manu Shrivastava 301 Balagopal Padmakumar 402 Rishi Bajaj

Airline Industry An Overview

Highly competitive
Capital and Labor intensive Seasonal industry increased revenues in 2nd and 3rd quarters Sensitive Fuel Prices, Price of airfares and customer demand

Industry Trends
Growth

in the industry
RPK Growth 17.00% 11.70% 1.80% 48.40% 4.10% 11.70% 8.10% ASK Growth 13.60% 14.90% -0.20% 43.20% -0.50% 7.60% 7.20% PLF 1.9 -2.0 2.6 2.6 3.4 2.7 0.6 FTK Growth 11.50% 25.30% 6.90% 53.50% 2.00% 13.90% 15.90% ATK Growth 4.00% 21.80% 3.00% 51.20% 3,20% 18.80% 11.80%

YTD (2004 over 2000) Africa Asia Pacific Europe Middle East North America South America Industry

Where RPK : Revenue per Passenger Kilometer ASK : Available Seat Kilometers PLF : Passenger Load Factor FTK : Freight Ton Kilometer ATK : Available Ton Kilometer Source : www.iata.org

Dynamics of Airline Industry

Competitiveness of an Airline depends on two factors: 1. Revenue - ability of a firm to fill the seats in an airplane Break Even Load Factor (BLF) which measures the percentage of capacity needed on a plane to cover its costs. BLF for profitable airlines has generally fluctuated between 60% and 65%. 2. Costs mostly uncontrollable Labour Competitive Wage Structure Fuel Maintenance Costs are also attributed to flight time, flight distance, landing fees, en-route charges, handling, administrative costs and opportunity costs of not flying.

Dominant Business Models

Currently 2 dominant business models in the airline industry Hub and Spoke Model used by traditional / dominant airlines who concentrate their long haul and international flights at a hub while branching out short haul services to other cities. A long haul flight out of the hub typically waits for passengers from connecting flights to board. Since the volume of passengers is significantly higher, there is a need for Very Large Aircrafts.

Point to Point Model

used by regional or budget airlines who deploy their aircrafts on a specific route between 2 airports
the airplane typically does not need to wait for connecting flights; which results in a faster turnaround time as compared to the 1st model

Washington DC

London
Atlanta

The Boeing Company

Founded in 1916.

Forefront of Civil Aviation for almost a century From B17s and B29s during World War II,

B52 during Cold War to Boeing787.

Is into sales of: Commercial Aircrafts Military Aircrafts Missiles Space System Controls

 Revenues:-US$ 64.306 billion (2010) Commercial Aircraft -2/3 Military Aircraft ,missiles, space systems- 1/3 Boeing unique importance for US It Supplies:-

F-15 fighter aircraft to Air Force One Space Shuttle to support its political strength
Largest contributor to the US BOP in terms of exports

 Boeing fleet consists of 14 models

Flagship of Boeing fleet :-747-400, held 420 passengers in the standard three-class configuration.

B747 bought for its range and not its capacity

AIRBUS INDUSTRIES
Founded in 1970 by consortium of principle agencies:
DASAGermany BAE SystemsEngland Aerospatiale Matra France CASASpain

Later become simplified joint-stock company in 2001, owned by EADS (80%) and BAE Systems (20%).

 Employs around 57,000 people

Revenue: 27.45

billion (FY 2008)

Known for producing and marketing: First commercially viable fly-by-wire airliner, the Airbus A320, and World's largest airliner, the A380.

 A3XX is estimated to cost $13 billion to launch

Investment R&D Capital Expenditure Working Capital Total $11 billion $1 billion $1 billion

Uncertainty in demand => more risky Highly capital intensive project Chances of failure could lead to diverse effects on the entire company (Failure of prominent companies while attempting to launch new planes) Ultimate success : ability to break-even and future demands

Why is Airbus interested in building the A3XX?

Enter new segment VLA
An optimistic outlook at receiving orders for VLA aircraft owing to its capture of more than half of the VLA market by terms of orders (in 1999)

Market research potential and increased demand

Growing economies in Asia like China Increasing point to point route frequency is not a solution as it leads to congestion

Cont.
Large range of travel without any stopovers - key point in purchase decision making Better operating economy 12 % more to operate as compared to 747s but has 35% more space More customer satisfaction, comfort Higher number of premium flyers

Cont.
4 engines per aircraft as compared to the usual 2 engines increase the safety factor
Would be the King of the air and any premium airline would feel the need to have it

More sources of revenue due to increased space

Commercial aviation sector leader

What are its objectives

Ascertain the need
Secure as many orders Build a new product that could match the requirements of the industry over the next 20 years Meet the standards and norms for building very large aircrafts according to the U.S Federal Aviation Administration (FAA)

Cont.
Secure cheap source of financing with risk mitigation of the project
Create a product that would be the highest level of luxury and thus would be imperative for any premium airline brand to purchase to drive up revenues from its high yield business class flyers Increase sales of its product and capture majority of the commercial airline industry to become a leading player (ahead of the current leader Boeing)

Economies of Large Projects

Benefits of large scale projects

Setting cost:
Project cost of new capacity = (Project cost of old capacity) * (New capacity/Old capacity)n

Where n ranges from .5 to .9 (usually its around .7)

Example
Say old capacity is 100 TPD and cost is 1000 crore. Now the new capacity is 200 now the cost calculation.
= 1000 * (200/100).7 = 1624.5 Crore Thus instead of expected proportional cost of 2000 crore we are saving 376 crore.

Higher Debt to equity ratio

D/E ratio

Less than 500 crore

More than 10000 crore

1.5:1

4:1

Benefits
Projects finance SPV benefits Benefits given by Government

Economies of scale.

CONTD...

ADVANTAGES
Cheap credit.
Bargaining power for interest rates. Efficient use of capital equipments. Bargaining power in buying and selling. Benefits of R&D. Utilization of byproducts. Lower advertisement cost per unit.

DISADVANTAGES
Restrictions by lenders.

Time and cost over run.

Large payback period

possible changes in policy, tax rates, technology etc.

Easy monitoring Less borrowerseasy to manage Lenders can afford to spend more in reports etc.

Advantages

High risk

Project financing limited recourse.

Lenders

Disadvantages

Airbus economics
Cost Cost overrun 13 Bn. 2 Bn.

In general for large projects

Usually very high over 1 Billion Cost overrun can be a problem, in most of the cases it takes place, because of many issues ranging from political issues to design problem. Are good but also the interest rates are high to adjust. Depends upon the country. Depends upon the country and other factors. High

Operating margins Effective tax rate Inflation Production capacity

15%-20% 38% 2% 48 planes per year

Limited Optionality
On the decision making process, Airbus has limited optionality with respect to the fact that it does not have a product in the Very Large Aircraft (VLA) category that is therefore dominated by rival Boeing and its 747 series of aircraft. If it fails to take the decision of going ahead, there is no other option for the aircraft operators but to purchase VLAs from Boeing.

Cont.
In Finance, Optionality: The value of additional optional investment opportunities available only after having made an initial investment. The investment decision itself involves considerable optionality (to ramp up, abandon, change, etc.) It is important to recognize that there is limited optionality here. For example, the value resulting from an ability to stage investment is less in this case because one does not learn much about demand during the construction processmost of the demand will not materialize until several years hence.

Cont.
A decision to wait before committing to industrial launch has limited benefit for the same reason, as the demand cannot be ascertained in a short period of time. It will be a trade off if they decide to hold on until sufficient demand rises at the risk of not being able to fulfill the orders in a timely manner. Finally, the highly specialized nature of the assets and development research implies that abandonment has little value. The investments put into the development and construction of the final product cannot fetch a sizeable percentage of the initial value.

Thank you