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Andy Chambers
1 November 2016

It pays to be civil in the long run

Backlog execution should enable improved investor returns

By the end of September, Boeing and Airbus had surpassed an aggregate of 1,000 aircraft deliveries as previously announced product introductions and rate increases continue to drive up demand across the aerospace supply chain. By the year end the two companies are expected to deliver an aggregate of around 1425 aircraft, slightly higher than in 2015.

Whilst output of the ultra large widebody segment (B747 and A380) is set to decline, output across the rest of the widebody (twin aisle) and narrowbody (single aisle) large commercial aircraft markets (>150 seats) is set to continue to grow healthily with A320neo family, A330neo, A350, B737 MAX, and Boeing 787 all increasing through the end of the decade. Although the B777 transition to the new B777X model still requires order cover, overall Boing production is rising with yesterday’s modest increase in expected deliveries for the current year providing further encouragement. Whilst many commentators forecast a decline in output from 2020, we continue to believe the long term growth of the segment as likely to continue. This is due to increasing passenger demand, the growth trend in fleet replacement due to the historic progressive rise in aircraft deliveries, and the continued requirement for technologically driven fuel efficiency step gains where we are just seeing the entry into service of the newest generation.

Airbus quarterly deliveries 2010 - 2016 (Source: Airbus, Edison Investment Research estimates)

It is apparent from Senior’s trading statement on 21 October 2016 that the ramp up in the A320neo programme for Airbus continues to be dogged by issues with regard to the engine supply. Despite maintaining overall A320 family production numbers, Airbus have flexed up the number of A320ceo (classic engine option) aircraft that will be delivered in the current year. A320neo deliveries are now expected to total 45 this year and account for just under 15% of A320 deliveries compared to just under 20% previously. When combined with Bombardier’s comments in early September when it reduced its expected C-Series deliveries to just 7 from 15 previously, it is a reminder that new aircraft programmes seldom experience perfect introductions.

I would argue that Airbus has indeed managed the industrial impact extremely well, by ensuring enough ceo volumes in the order book to allow the type switch. In its Q3 call it indicated that customer requests for earlier production slots continue to outweigh deferrals, largely facilitated by its policy of overbooking in the narrowbody market. It is also aided by the variety of A320 family models, with FACC, the Austrian composite structures supplier owned by AVIC of China, noting increasing demand for A321 shipsets. As a result Airbus appears to have avoided the worst impacts on its production line that the engine delays could have caused. Whilst the mix shift may be less favourable financially for Airbus, given the purported premium of A320neo’s versus ceo’s, this may be mitigated by launch customer discounts at this early stage.

The good news appears to be on the A350 ramp up which is expected to meet delivery targets of over 50 this year according to Fabrice Bregier, with both Senior and FACC noting progress. Indeed FACC have been preloading interior work for the aircraft, incurring extra cost in Q2 to ensure interiors can be fitted earlier than previously scheduled in Toulouse. This would appear to be to try and ensure that cabin interior issues that have delayed final deliveries to date, largely attributed to performance by Zodiac, do not recur as output increases further in 2017.

At Boeing the B787 rate increases to come and the higher rates as the B737MAX is launched also point to growing volumes for suppliers. Add in China’s Comac and Embraer’s second generation regional jets and continued growth in civil output looks well set for the next few years despite the current softness in bizjet markets.

Boeing and Airbus deliveries and forecast 2000 - 2020E (Source: Boeing, Airbus and Edison Investment Research estimates)

All of this continues to drive volume growth into the large commercial aircraft suppliers, who should see revenues rise sharply and enable both learning curve and efficiency benefits to be realised across the supply chain. As it is the high value segment of the civil aerospace sector, suppliers who execute successfully into this environment should see returns improve significantly.

My view remains that civil aerospace is an attractive segment for long term growth and investment. Indeed FACC sees an additional €250m of revenues from organic development alone over the next five years. Not too bad on a base of €588m reported last year, especially considering other incremental programmes yet to commence.

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