Porter Model Evaluation
The Porter model provides a structural analysis of the industry any given company competes in. It is not limited to the use of Information Technology, on the contrary it defines in a broad sense all the competitive forces in the market, existing alliances, potential threats and other sources of positive and negative influence.
The analysis of the commercial aircraft industry shows that very few competitors compete for market share—namely Boeing, Airbus and McDonnell Douglas—, and usually they have extremely close relationships with their suppliers and their customers. As a matter of fact, the industry is extremely concentrated.
Figure 2: Porter Competitive Model for the Commercial Jet Aircraft Industry
The Bargaining Power of Buyers
The buyers, mainly airlines and leasing companies detain considerable power that is increasing since there is a downturn in orders. As the airlines optimize their operations and cut their investments, the competition among the suppliers becomes deadly.
It can also be assumed that the regulating bodies are buyers as well as suppliers. Indeed, the aircraft industry has to constantly deal with these institutions to convince them to approve regulations in their favor and not take decisions that would jeopardize their competitive positioning.
The Bargaining Power of Suppliers
The suppliers can be split in two different groups, based on their relative bargaining power;
Engine manufacturers represent the single most significant group of suppliers and it can be assumed that their bargaining power is going to significantly increase as they undergo concentration. General Electric, Pratt & Whitney (US), Rolls Royce (UK), CFM (Europe) are the main competitors. However, this power is somewhat balanced by the fact that oftentimes airlines enter in separate negotiations with the engine suppliers to determine the choice of the engine for their planes. Planes are usually designed for more than one engine type. On the other hand, the required fuel efficiencies, increased reliability needs—especially for twin engine transatlantic wide bodies—and the need to provide more power for the new large body aircraft require aircraft manufacturers to enter in joint development programs.
Regulating bodies, such as the FAA, EPA, etc., may be considered as suppliers to the industry as they determine a number of constraints that the industry has to deal with. The bargaining power of these institutions is considerable as they can create major obstacles for the final approval of the planes.
As the industry is extremely capital intensive, all sources of investment and financing detain considerable power. A recent trend is the development of financing and leasing companies who buy planes from the manufacturers, then lease them to various airlines. ILFC (International Lease Finance Corp) is one such company that recently ordered 30 Airbus aircraft. Meanwhile Airbus Industrie itself has formed its own financing service which has access to more than $1.5 billion revolving credit facility from 46 different banks.
We anticipate that on the avionics and materials side, since the military markets keep shrinking and there is heavy pressure on defense suppliers to move to commercial applications, the bargaining power of these industries as they fight for additional share of the commercial market is at the advantage of the aircraft industry.
New Entrants
At first look, any new entrant in this market faces a steep, uphill battle. Regulations, capital requirements, extremely skilled labor needs and sophisticated support industries, necessary proven track record and the perspective of a long wait to reach profitability are but a few of the very high barriers to entry. However, one cannot completely exclude this possibility.
Just as Europe did, Japan or China may decide that this industry is strategically vital for their long term well being and encourage a highly subsidized entry in the market by their national champions. In the case of Japan, subsidies may even not be necessary as the sophisticated industrial infrastructure and naturally protective trade policies may very well encourage Mitsubishi or another firm to engage in the battle.
The former Soviet Union represents a significant growth potential for the big three, but also has its own national aircraft industry. While this market may be open to competition, it also possible that the Russian Tupolev enhances its capabilities, rationalizes its operations and succeeds in entering the market with a low cost, no frills product strategy, especially in emerging countries.
Finally, although highly unlikely, existing defense aerospace companies my be tempted by a late entry or re-entry—such as Lockheed—as they see their traditional military market dwindle.
Threats of Substitute Products or Services
It is difficult to imagine, for the foreseeable future, a direct substitute for commercial aircraft, especially in the long haul transport. Air travel is the most effective, secure, convenient and economic transportation method. However, a few threats exist, especially in the low end:
Fast bullet trains offer between cities less than 400 miles apart a very attractive solution. As their speeds approach and exceed 200 mph, they bring such travel below two hours from downtown to downtown; a performance that hardly any airline can match. After the start of TGV service between Paris and Lyons, Air Inter faced a 50% reduction in air travel between the two cities. If such solutions are implemented widely in the USA—a very speculative assumption—between, say San Francisco and Los Angeles for instance, a great many airlines may lose market share and as a consequence reduce their fleets.
Likewise, advances in automotive industry, such as cars capable of very high speeds, under electronic control on specially equipped freeways may have an impact on air travel.
Finally, advances in telecommunications techniques, collaborative computing, desktop video-conferencing based on broadband ISDN type services may reduce business travel requirements and impact the airlines’ investment in new planes and routes.
Globalization of the Commercial Aircraft Industry
The industry is rapidly becoming global for the following reasons:
There are very few players, but intense competition and very high capital requirements drive the need to maximize volume and tap all possible markets. It is unthinkable to have a national or regional strategy and expect to succeed in this industry.
As many customers—including various governments across the world—consider the aircraft industry strategic, they want a share of the action. As a consequence, partnerships, joint ventures are aplenty. In fact such deals, mergers and joint ventures become a must in order to remove trade barriers.
Importance of I/T to the Industry
I/T’s importance to the industry can be evaluated from two different perspectives:
Operations management, such as in inventory management, etc. I/T is key to optimize resources, reduce costs, improve efficiencies.
As an extremely high technology and complex industry, integrating electronics, mechanics, chemicals, metallurgy, etc. CAD/CAM tools used in simulation, modeling, concurrent engineering are not only key in reducing time to market but also a must in the industry’s ability to cope with the complexity of the task.
As it can be observed from the value chain (figure 3, page 13), I/T intervenes in almost every phase of Boeing’s operations. Its role is most significant in inbound logistics, operations and service. These are the steps of the value chain where Boeing uses I/T to gain a competitive advantage. I/T’s presence in the other segments is not negligible either, but its value is limited to a more traditional support role.
II Boeing Corporation Analysis
Boeing has three business units:
Commercial Jet Aircraft (President: Ron Woodward): By far the largest, this unit designs, develops and manufactures commercial jet aircraft. It has a very comprehensive product portfolio ranging from the 737 series with seating capacity from about 100 to 150 passengers, to the 747 with seating capacity from 420 to 566 passengers. Other models are the twinjets Boeing 767 (long range, 210 to 325 passengers) and the 757 (mid-range, 180 to 230 passengers). The company introduced in 1993 its newest model, the Boeing 777 with seating capacity of 305 to 440 passengers and the first to be 100 percent equipped with fly-by-wire technology. Boeing also plans to renew its 737 line with the next generation 737-700 which is scheduled for delivery in 1997. Boeing’s commercial aircraft sales amounted to $20,568 million in 1993.
Defense and Space (President: Jerry King): Despite the strong decline in the U.S. Defense projects and Boeing’s declining sales in this domain, the company had sales of $4,742 million defense business with an operating profit of $303 million. Major contributors to the defense revenues were Space Station work packages, F-22 fighter aircraft, V-22 Osprey tiltrotor transport and RAH-66 Comanche helicopter. These programs are principally funded under cost-reimbursement type contracts.
Computer Services (President: John Warner): Although this division’s primary mission is to provide cost-efficient computing support for company operations, it generated revenues of $331 million by mainly competing for selected federal contracts to manage information systems. Profits for this group were a slim $2 million, down from $16 million in 1993. However, this group’s main mission is to serve the other internal divisions and it is still remarkable that it is more than self sustaining.
The company is based in Seattle. Frank Shrontz is its Chairman and Chief Executive Officer and Philip M. Condit is its President.
Market and Financial Performance
Highlights of Boeing’s financial performance for the last five years are summarized in tables 3 and 4; After an all time high of revenues in 1992, Boeing faced a severe downturn, due to the dismal financial performance of most airlines and increased competition from Airbus. The trend continued in 1994; Boeing closed the fourth quarter with sales of $5,120 million, down 9% from the previous year, and the overall results in 1994 were $21,924 million, down 14% from 1993 sales of 1993. Profitability severely declined also with net earnings of $856 million; -31% compared to last year.
| Operations | 1994 | 1993 | 1992 | 1991 | 1990 |
|---|---|---|---|---|---|
| Sales & Other Operating Revenues: | |||||
| Commercial aircraft | $16,851 | $20,568 | $24,133 | $22,970 | $21,230 |
| Defense & Space | 4,742 | 4,407 | 5,429 | 5,846 | 5,862 |
| Other Industries | 331 | 463 | 622 | 498 | 503 |
| Total | 21,924 | 25,438 | 30,184 | 29,314 | 27,595 |
| Net Earnings | 856 | 1,244 | 1,554 | 1,567 | 1,385 |
| Per Share | 2.51 | 3.66 | 4.57 | 4.56 | 4.01 |
| Percent of Sales | 3.9% | 4.9% | 5.2% | 5.3% | 5.0% |
| R&D | 1,704 | 1,661 | 1,846 | 1,417 | 827 |
| Average Employment | 119,400 | 134,400 | 148,600 | 159,100 | 161,700 |
Table 3: Summary of Boeing’s Operations
Business Week lists Boeing in Aerospace & Defense category. The average return on common equity in the industry is 13.1%, while Boeing only achieves 8.9%. However, Boeing is the least military of its group and this comparison is probably not very fair. Interestingly enough, McDonnell Douglas, the only other defense company with a significant commercial activity in this group fares quite well with 15.7% return. While Boeing’s defense activity is dwindling, McDonnell Douglas’ remains strong and probably helps keep it afloat in the commercial aircraft business.
Boeing’s employment figures show great variations and match closely its financial performance. It is expected that Boeing cut its employment by at least 7,000 jobs in 1995, as the industry doesn’t show any strong recovery signs.
| Financial Position as of 12/31 | 1994 | 1993 | 1992 | 1991 | 1990 |
|---|---|---|---|---|---|
| Total Assets | $21,463 | 20,450 | 18,147 | 15,924 | 14,591 |
| Working Capital | $3,587 | 2,601 | 1,947 | 2,462 | 1,396 |
| Net Plant & Equipment | $6,802 | 7,088 | 6,724 | 5,530 | 4,448 |
| Cash & Short Term Investments | $2,643 | 3,108 | 3,614 | 3,453 | 3,326 |
| Total Debt | 2,610 | 2,630 | 1,793 | 1,317 | 315 |
| Shareholder's Equity | 9,700 | 8,983 | 8,056 | 8,093 | 6,973 |
| Contractual Backlog (commercial) | 60,614 | $70,497 | $82,649 | $92,826 | $91,475 |
Table 4: Boeing Balance Sheet
Boeing has a strong balance sheet as of 12/31/94, however, as seen in table 4, there are some negative trends; debt has significantly increased during the last three years. The cash situation remains strong— although it has shrunk by nearly $1 billion in the last two years—, but new aircraft orders’ backlog has been steadily shrinking since 1991. Finally its profitability still follows a negative trend, with net earnings having receded from $1,244 million in 1993 to $856 million in 1994.
Competitive Strategy Statement
In the 1993 annual report, Frank Shrontz says: “...the cornerstone of our business strategy, is continuous improvement in the quality of products and processes. Boeing is committed to continuous improvement, and we are determined to cut waste and boost productivity with the goal of producing higher quality products in less time at the lowest possible cost.”
It is clear from these lines that Boeing is betting on higher productivity in beating its archrival, Airbus. The underlying assumption here is that Boeing will not be able to outspend Airbus that can always count on government subsidies and friendly national airlines, therefore it must be able to match Airbus Industrie’s lower sale prices and it must be first to the market with innovative and technologically advanced products.
Significance of Information Systems
Boeing’s action plan as outlined by Condit and Shrontz is summarized as follows:
- Slash costs by 25% to 30% by year 2000.
- Speed up manufacturing time for the 737 from 13 months to 6 months.
- Cut inventory, moving toward a just-in-time system.
- Train the entire workforce in “competitiveness”; 15,000 managers have already completed four-day course.
- Bring customers and suppliers into the once-secret process of designing new planes.
A quick look at the Porter Value Chain model (Figure 3) indicates where and how these efforts will enhance Boeing’s competitiveness.
Boeing has nearly $8 billion of inventory that turns only twice a year, compared with nearly 10 times a year or higher for world class manufacturers in other industries. And since an aircraft has about 132,500 engineered parts, plus about three million rivets, screws, etc., it becomes apparent that the management of such an inventory and its procurement with a just-in-time system will not only require world class Information Technology, but it will also need to be closely integrated with its principal suppliers.
On the other hand, the quick development and manufacturing cycles that Boeing has targeted require state
of the art CAD/CAM systems that enable the transition from concept to fabrication without costly and time
consuming adjustments. Ironically—and probably quite rightfully—Boeing chose a French CAD tool;
Catia, developed by Dassault, a military aircraft manufacturer, designer among others of the famous Mirage
series.
Figure 3: Porter Value Chain for Boeing
Therefore advanced Information Technology tools and their application in both design and development, and operations are critically important to Boeing’s success in implementing its competitive strategy.
Strengths and Weaknesses of Boeing
We will assess Boeing’s strengths and weaknesses under the light of its formulated strategy in competing against Airbus. Boeing doesn’t believe that just having the best technology will be enough to conquer the markets, but the final battle will be fought on pricing and financing. It is therefore key for Boeing to improve its productivity and achieve the lowest possible cost structure and flexibility to beat Airbus, despite its being subsidized.
Strengths:
- Boeing is already on its way to achieve its goals in productivity, and it is safe to assume that it already has a lower cost structure than Airbus. It has trimmed its workforce to the minimum and it has plans to further cut 7000 jobs this year. It has improved its inventory management systems.
- It has put in place the best CAD/CAM tools to cut development time and achieve first time success with its new designs. It has innovated in many areas and has a very strong technological position, albeit not necessarily more advanced than Airbus.
- It has a well established, complete family of planes from the small 737 to the world’s largest carrier the 747 which allows it to serve any airline in any category. It still has a leadership position in the industry.
- It has seasoned and well focused leadership in the persons of Frank Shrontz and Philip Condit. They have well identified Boeing’s challenges, potential problems and established a clear plan in keeping Boeing in its leadership position. I do feel, however, that their current strategy is still a tad reactive, and lacks the clear vision of where the commercial aircraft industry should be.
- It has understood the importance of market driven approach and started to let its customers and its suppliers to fully participate in new product development.
- It finally has access to a significant, albeit declining, source of R&D funding from government defense contracts. Boeing is the leading U.S. exporter and as such it has the attention of the government. Although it may not count on direct government subsidies or assistance, it is well positioned to influence future U.S. trade policy decisions.
Weaknesses:
- While Boeing is trimming its workforce and becoming lean and mean, it may also jeopardize its ability to attract and maintain skilled workers in the future when the market conditions improve, if the general perception is that Boeing will lay off as soon as the market deteriorates.
- Its balance sheet and income statement point to some weaknesses; R&D spending of $1,661 million, around 8% of sales is rather low. Its long term debt is increasing and its overall return on common equity is around 8.9%, below the average industry rate which is 13.1%. That, associated with its declining defense revenues may restrict its access to additional capital in times of crisis.
- Boeing is late in adopting some of the technological innovations that its rival Airbus has implemented such as getting family approval for different planes, thus allowing pilots to move from one model of plane to another without requiring a certification.
- Boeing is also behind Airbus in getting a financing and leasing operation to support its sales.
- Finally, Boeing should not hope that in the foreseeable future the European Union will cut its subsidies to Airbus and let it compete without any protection in the world markets and that at that moment, thanks to its much higher productivity, Boeing will outperform its rival. On the contrary, Boeing should plan on a much longer competition period, and should seek alliances that could enhance its financial position and open new markets.
Bibliography
- Commercial Aircraft Market Environment, Boeing Annual Report 1993, p. 29.
- "Steve Wolf’s Soft Landing," Business Week, 13 March 1995, p. 91.
Estimate, full financial results not available for 1994.
- Airbus claimed a $275 million operating profit in 1993, but this figure is being challenged by many
sources. Source: Bureau of Census Report EM 545, U.S. Exports. This figure includes all aircraft
shipments.
- Corporate Scoreboard, Business Week, 6 March 1995, p. 101.
- "Boeing's Win is a Setback for McDonnell Douglas," San Jose Mercury News, 15 March 1995, 3F.
- And Airbus Comes of Age Amid Squabbling," Aircraft Value News, Phillips Business Information,
Inc., 23 January 1995.
- "FAA Approves Airbus Mixed Fleet Flying," Aviation Week & Space Technology, 29 August
1994, 25-26.
- Five Year Summary, Boeing Annual Report 1994, p. 55.
- "Puzzle in the Skies," The Economist, 11 February 1995, p. 59.
- Airbus Finance Unit Up and Running With $1.5 billion, Aircraft Value News, Phillips Business
Information, 9 January 1995.
- Corporate Scoreboard, Fourth Quarter & Full Year 1994, Business Week, 6 March 1995, p. 101.
- "Reinventing Boeing", Business Week, 1 March 1993, pp. 60-67.
- Can Boeing Reinvent Itself?”, Fortune, 8 March 1993, pp. 66-73.
Back