Boeing aircraft case study solution PDF

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Teaching Note: Boeing Teaching Notes – Boeing Synopsis of Case

This case takes a detailed look at the economics of the market for large commercial jet aircraft, the rise of Boeing’s commercial aerospace business, the product development decisions of Boeing and its global rival, Airbus, and the strategies that Boeing has adopted to try and gain a competitive edge over its rival. The case also explores the trade tensions between the U.S. and the European Union over subsidies that have been granted to both Airbus and Boeing. This is an excellent case for discussing competition in a global duopoly where the rivals are engaged in intense product market competition, and where buyers (airlines) exert considerable power. Teaching Objectives The main teaching objectives are as follows: 1. Learn how to apply Porter’s competitive forces model 2. Explore how business strategy is a response to competitive forces in the market for a firm’s products. 3. Discuss how strategy execution at the functional level can help a firm to achieve a competitive advantage. The case works well as the basis for an in class discussion or a written and presentation. The case is best position in the middle part of a strategy course, since it requires students to have good working knowledge of industry analysis (chapter 2), competitive advantage (chapter 3), functional strategies (chapter 4) and business level strategy (chapter 5). Most students are familiar with Boeing and Airbus and have flown as passengers on their aircraft. They typically find the economics of the industry to be fascinating. Strategic Issues and Discussion Question 1. Analyze the economics of the market for large commercial jet aircraft. What are the implications of these economics for the strategy of Boeing? The large commercial get aircraft industry is generally taken to mean the market for jet aircraft of 100 seats or more. This market definition excludes the makers of regional jet aircraft, such as Embraer of Brazil and Bombardier of Canada. Boeing and Airbus, who split the market almost equally, currently dominate the market. Like any market, the economics of this one can be analyzed using Porter’s competitive forces model. When doing this, it is important to highlight some striking features of the market place, such as high development costs, high minimum efficient scale relative to industry demand (such that the industry can only profitably support 2-3 producers), significant

Teaching Note: Boeing

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learning effects, powerful buyers who are highly motivated to bargain down prices, and complex global supply chains. I approach this topic by answering a series of subsidiary questions. I typically start by asking students the following: Subsidiary Question 1: What advantages the two incumbents, Boeing and Airbus, enjoy over potential rivals (most notably Embraer, Bombardier, and the Commercial Aircraft Corporation of China)? Economies of Scale: Boeing and Airbus enjoy significant economies of scale. These arise because the fixed costs of developing aircraft are huge (amounting to $15 billion for modern aircraft) and a firm needs to be able to capture a significant proportion of global demand in order to justify the risk associated with investing this amount of money. The minimum efficient scale of production is so large relative to global demand that many observers believe the market for large commercial jet aircraft can only profitable support 2 to 3 players. Learning Effects. Learning effects are well documented in aircraft manufacture, with costs falling by 20% every time cumulative production of a model is doubled. These give the incumbents a tremendous potential cost advantage over potential rivals. Engineering knowhow. Both Boeing and Airbus have accumulated significant engineering knowledge for designing and manufacturing very complex machines that comprise of more than a million components parts. The fact that Boeing and Airbus have demonstrated their ability to effectively designs and produce very safe, cost efficient, reliable aircraft cannot be underestimated. This translates into another cost advantage for the incumbents, and enhances their brand. Product Proliferation. Boeing and Airbus both produce families of aircraft with different seating configurations and range (e.g. there are several versions of the 737). By serving all available niches of demand, these aircraft families effectively make it very difficult for a potential rival to find an underserved market niche. Interestingly, Airbus was able to enter the market in the 1970s because Boeing had not sufficiently proliferated its product line. That lesson has been learned. The one exception to this is the market for regional jet aircraft of less than 100 seats, which Boeing and Airbus have ceded to Embraer and Bombardier (this may come back to haunt them – see below). Brand Loyalty. Boeing and Airbus planes have stood the test of time. Other things being equal, customers are more likely to prefer the products of the incumbents, than those of a potential new entrant where quality and reliability are less assured. Subsidiary Question 2: What does this mean for Entry Barriers?

Teaching Note: Boeing

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The barriers to entry into the large commercial jet industry are clearly high and based upon:     

Economies of Scale Absolute Cost Advantages from Learning Effects Knowledge Product Proliferation Brand Loyalty

Subsidiary Question 3: Does this mean that Boeing and Airbus are secure from new entry? Which segment of the market are potential new entrants most likely to focus on? The quick answer in no, Boeing and Airbus have big advantages, but they are not secure. Most notably, Embraer and Bombardiers have been able to accumulate knowledge, scale, and brand loyalty by succeeding in the market for regional jets. This has given them the capability to build narrow-bodied jets that could compete with the 737 and A320. In addition, the Chinese have significant Government support and a strong domestic market. All three of these companies are now focusing on the narrow bodied segment with new offerings, although how successful they will be against Boeing and Airbus remains to be seen. For the time being, the wide-bodied segment seems secure. Having covered entry conditions, I then switch and starts to discuss buyers (i.e. passenger and cargo airlines). I start by asking the following question: Subsidiary Question 4: What are buyers looking for from Boeing and Airbus? How much power do they have? What are the strategic implications for Boeing? Competition among passenger airlines is intense, prices wars are endemic, and profit margins are slim. Fuel is a major source of variable costs for airlines. Therefore, what airlines want are fuel efficient, reliable, and inexpensive aircraft that are configured to best match their needs. The fact that two companies produce comparable families of aircraft that compete directly with each other gives buyers a lot of bargaining power. Moreover, buyerswitching costs are quite moderate – many airlines have mixed fleets of Boeing and Airbus planes – and when ordering, airlines often place orders for many aircraft that can total billions of dollars. The combination of leverage, moderate to low switching costs, and choice between two equivalent manufacturers, gives the airlines considerable bargaining power. They can and do use this power to play Boeing and Airbus off against each other, requesting substantial discounts of list prices in return for orders.

Teaching Note: Boeing

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Other things being equal, this extracts profits out of the industry. For Boeing (and Airbus) the strategic implication are twofold. 

First, they must constantly strive to exceed their rival and differentiate their offerings on engineering design (both the A380 and the B787 were attempts to do this). By offering airlines superior fuel efficiency, for example, the Boeing 787 was an attempt to reduce the incentive that airlines had to bargain down prices.

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Second, they must lower their development and manufacturing costs. It’s clear from the case that Boeing as managed to drive down manufacturing costs through adoption of Toyota like lean production systems. However, it has not been as successful on development costs.

Subsidiary Question 5: How about suppliers, how powerful are they? What are the strategic implications for Boeing? On the face of it, you would think that Boeing (and Airbus) enjoys considerable bargaining power over their suppliers. After all Boeing (and Airbus) are large enterprises that place big orders, and the suppliers are typically smaller, and depend upon Boeing (and Airbus) for a substantial portion of their business, thereby limiting their bargaining power. While this is true, there are two caveats to this. First, to gain orders from a national airline Boeing may have to outsource production of some components to suppliers in that country. Commonly referred to as offsets, this may mean that Boeing has no choice but to order certain components from inefficient suppliers if it wants to win orders from airlines in that nation. This can raise Boeing’s cost structure. Second, in order for a supplier to gains full economies of scale, Boeing (and Airbus) often have to single source their components. This can create risks if the supplier doe not perform. Many of the problems that led to delays in Boeing’s 787 program, for example, came about because key suppliers were unable to deliver on time. This implicit power negatively impacted Boeing’s earnings (Airbus has had similar problems). The strategic implications for Boeing are as follows:  

First, if it can, Boeing should duel source (this is not always possible due to the need for suppliers to gain scale economies). Second, Boeing needs to pay close attention to the make or buy decision. Making a component part in house may give Boeing more control over the process, and result in fewer delays. On the other hand, too much vertical integration can lock Boeing into activities that could be produced more efficiently by independent suppliers.

Teaching Note: Boeing

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Third, Boeing needs to work closely with suppliers to ensure that they do not create problems with schedules. There are indications that Boeing’s failure to do this on the 787 program created many of the delays.

Subsidiary Question 6: What about substitutes, are they a threat? The quick answer is no! For speed and cost there is currently no alternative on most routes to air travels. It is true that high-speed trains in some areas might reduce demand for air travel (and hence aircraft), but this is not a major risk as yet. It is also true that better video conferencing technologies might reduce the need for business travel. This is something worth watch, but so far the impact is marginal. At this point I typically switch to a discussion on rivalry between Boeing and Airbus. I start with a quick discussion of demand trends. Specifically: Subsidiary Question 7: What is the outlook for demand for large commercial jet aircraft? What are the implications of this? Both Airbus and Boeing produce detailed forecasts of future demand for large commercial jet aircraft. In general, the forecasts suggest that: 

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Demand is income elastic. Passenger and cargo traffic grows at a faster rate than the world economy. For example, Boeing’s 2014 forecast was that the world economy would grow at 3.2% per annum over the next 20 years, while passenger and cargo traffic would grow by 5% and 4.7% per annum respectively. Future demand looks strong: In 2014 Boeing believed that there would be orders for 37,000 aircraft valued at over $5 trillion over the next 20 years. Airbus has similar figures. Narrow Bodied Dominate: Up to 70% of new orders by volume will be for narrow bodied aircraft such as the 737 and A320. Asia Leads: The strongest demand will come from Asia Pacific airlines, accounting for perhaps 40% of all orders.

In general this is very good news for both Boeing and Airbus and it implies that other things being equal, strong demand will moderate competition. However, other things are not equal. It’s now time to pull everything together….. Subsidiary Question 8: Given everything we have discussed so far, how do you think rivalry in this industry plays out? A few key points should be summarized at this juncture. Specifically;

Teaching Note: Boeing    

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Fixed costs and the minimum efficient scale of production are high, so Boeing and Airbus need a high volume of orders to make money on their aircraft models. Airlines have significant bargaining power. They can and do play Boeing and Airbus off against each other. There is a risk of entry, particularly in the narrow-bodied segment where unit orders are going to be most robust. Differentiation is difficult. Airbus and Boeing tend to match each other’s innovations quickly (e.g. Airbus developed a similar aircraft to the 787, both companies are using super efficient engines in the next generation narrow bodied aircraft).

The implication is that there is constant downward pressure on prices from airlines. Price competition is intense. Airbus and Boeing have to match each other’s price cuts. Typically, most big orders involve substantial discounts of list prices, although these are rarely published. Any new entry will only make this situation worse, and price discounting to forestall new entry is likely. Boeing and Airbus are thus trapped in a classic prisoners dilemma. It’s very hard for them to unilaterally raise prices, because if they do so they will simply lose orders to their equally capable rival (at this point, I frequently put a 2x2 prisoners dilemma payoff matrix on the board to illustrate the problem). 2. Given the answer to question 1, how has Boeing positioned itself to compete effectively in the commercial aerospace industry? Given the downward pressure on prices, Boeing has done two things. Product Differentiation: Boeing has tried to gain and edge over its rival, to differentiate itself, by placing some big bets in the development of new aircraft. Most significantly, the 787 program was a very aggressive move on Boeing’s part. Airbus was unable to respond in a timely manner due to the large capital commitments involved in building the A380. Had Boeing not mismanaged its supply chain, it could have had a huge lead over Airbus. Unfortunately Boeing made multiple missteps, which allowed Airbus to significant close the gap, introducing its rival plane 2 years behind the 787, rather than 5 years as would have been the case. Even so, strategically the move made great sense. At the margin, it enabled Boeing to capture more demand, and for a time charge incrementally higher prices, than would otherwise have been the case. Cost Reductions through Lean Production: Boeing has worked very hard to bring down its cost structure, implementing Toyota like lean production systems in its assembly plants. It has been quite successful at this, which has enabled the company to make good profit margins, even at relatively low price points. Put simply, due to its lean production initiative, Boeing probably has a lower cost structure than Airbus. The lean production system has

Teaching Note: Boeing

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Enabled Boeing to make parts in smaller lots. Reduced the amount of inventory in the system Reduced the amount of waste through tighter quality control Reduced the amount of space needed for warehousing and assembly Empowered employees to look for ways to boost productivity Substantially reduced the build time for aircraft, cutting it in half.

This translates into a substantial boost in labor and capital productivity, lower costs, and higher profitability.

3. Was Boeing right to cede the super jumbo market to Airbus? What factors drove Boeing’s decision? This is an important question. Boeing dominated top end of the wide-bodied market for decades with its 747 aircraft, which was one of the most profitable programs in the history of the industry. Why then would they abandon this niche to Airbus and its A380? The main reason is that Boeing’s forecasts called for weaker demand for jumbo jets, and stronger demand for superefficient, long haul, wide-bodied jets just below the 747 capacity (i.e. the 777 and 787) that could fly point to point across oceans. Boeing essentially bet the company on this demand forecast, which turned out to be correct. Moreover, Boeing wanted Airbus to invest in the A380 because they thought that (a) the capital requirements would limit Airbus’ strategic flexibility, slowing down their ability to build a rival to the 787 in a timely manner, and (b) they did not think there was enough demand to support the A380. Boeing was proved correct on both counts. As an aside, I often tell my class that in the early 2000s I had dinner with a recently retired very senior executive from Boeing. He told me that Boeing tried to signal that they were interested in building a super jumbo to compete with the A380. These signals included two studies that looked at the possibility of building a stretch version of the 747 to take on the A380. He told me these studies were actually “head fakes”, the purpose of which was to get Airbus to commit to a program that Boeing through would not be profitable and would limit their financial flexibility. If true (and my source was very good), Boeing played one of the greatest hands of poker in business history. Had Boeing not subsequently made multiple errors in managing its supply chain, it could have cleaned up. 4. What should Boeing’s strategy be going forward? A number of points come out of the foregoing discussion. Specifically: Continue to improve its product offering. This includes aggressive development of the 737MAX (discussed at the end of the case), along with the next generation 777.

Teaching Note: Boeing

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Boing must do this to stay abreast of Airbus in the industry. Also, it is very important for Boeing to have a top tier narrow-bodied offering (737 MAX) in order to make new entry difficult. Given the cost pressures on airlines, Boeing need to do everything it can to produce the most fuel efficient, reliable, safe and comfortable aircraft that it can. Continue to look for productive gains in assembly. Boeing has done well implementing its own version of the Toyota lean production system. It must continue to push the envelope forward here. Price competition is not going away, and the only way to guarantee that Boeing makes significant profits is for it to have the lowest cost structure in the industry, which can best be achieved through superior productivity of both labor and capital. Work closely with Suppliers. One of the big takeaways from the 787 program is that Boeing needs to work more collaboratively with its suppliers. The 787 was late to market because Boeing through its design specifications over the wall. Boeing should follow the Toyota model of having its people work in suppliers for a period of time as part of their career development. Consider Locating some Operations in Asia Pacific It’s a contentious point, but given the importance of the Asia Pacific region to future demand, and particularly China, Boeing might want to consider sourcing more work from the region as a tactic for winning more orders. In point of fact, in late 2015 Boeing announced it would open a finishing facility in China. A finishing facility is responsible for the painting and final fitting out of aircraft that have already been assembled. While some might say Boeing is outsourcing American jobs to China by doing this, its probably more accurate to say that by outsourcing a few finishing jobs, it is helping to ensure assembly jobs in its US plants....