MIAMI — Airbus presented mixed signals on the future of its A380 superjumbo at its Global Investor Forum on December 13. The next day, CFO Harald Wilhelm noted that while the A380 would break even at current production levels in 2015, 2016, and 2017, persistent sales weakness would push the program back into the red for 2018. Additionally, Wilhelm opined that without significant sales success or upgrades to the A380, Airbus was considering ending production of the A380.
After the predictable fallout, Airbus CEO Fabrice Bregier walked back the statements a day later: “We have commercial momentum on the A380, we will get additional customers. We have to get more customers, and convince them there is much more upside than downside to the A380. We are reducing the recurring costs. Longer term this aircraft has stronger potential. We will one day launch an A380neo and one day launch a stretched A380,”
Bregier was of course referring to the prospect of a re-engined A380neo and the announced and delayed A380-900 stretch, which would have seated 650 passengers in standard configuration versus 525 for the current A380-800.
The A380-900 had been announced by Airbus’ lead salesman John Leahy in 2007, but delayed in 2010 in order to stabilize the base A380-800 variant. The A380, launched in December 2000 as an ambitious and prestigious project by the European consortium of aircraft manufacturer EADS, has suffered from sluggish sales, cost overlays and shifts in airline industry demand trends.
The analysis that follows is a complete look at the A380 program, considering its strategic implications, current competitiveness, and the prospect of an A380neo.
Strategic Analysis: VLA Market Weakness
When Airbus launched the A380 in 2000, the world was a very different place. The Boeing 747-400 was still a key component of most long-haul fleets, the A340-600 had been launched but was two years away from entry into service (EIS) and the 777-300ER was four years from EIS. The business case for the A380 was predicated on development costs of roughly $15 billion, with EIS in 2005, and sales of 750 aircraft over a 20-year period.
The aircraft was designed to break even on cash flow at 250 deliveries, with targeted production rates of 45 aircraft per year. At the time, it seemed like a solid business case. Air travel demand around the world was growing at a substantial rate, and congested airports like Toyko Narita and New York JFK were increasingly running up against constraints. Long-haul traffic was concentrated in the hands of relatively few long-haul carriers (such as Singapore Airlines), who had undergone massive traffic growth over the previous decade as Asia’s air travel market awakened.
From the start, Airbus ran intro trouble. The A380 was an ambitious project — some would argue over-ambitious — layered with new complex systems and myriad design failures. Once planned for EIS in 2005, the A380 didn’t enter service until 2007. Problems abounded during the manufacturing ramp up, most notably with cabin wiring. The first aircraft were delivered six tons overweight, missing on promised fuel burn performance by at least 3-4 percent. By EIS, the program’s development cost had ballooned to $25 billion.
Even after entering service, the A380 did not exactly enjoy a smooth journey into airline fleets. While its safety issues were not as severe as those suffered by the Boeing 787, the 2012 wing cracks incident, and the oil leaks from the Rolls Royce Trent 900 engines in 2010 were substantial safety problems in their own light. And unlike the 787, the A380 was not already a fast-selling aircraft with a backlog of more than 800 aircraft.
Despite these development and safety snafus, the A380 was still the best aircraft in its class and perhaps the most capable airliner on the planet. But technical merit alone could not sustain the profitability of the A380, for that, it needed to sell.
To date, Airbus has won 317 orders (plus 28 purchase options) for the A380, including nearly half (140) from leading customer Emirates. Of those, 152 aircraft have been delivered (56 to Emirates), leaving a backlog of 165 aircraft. But even amongst those 165 outstanding aircraft, there are several orders that are of questionable, which may never be delivered.
Air France has struggled to ingest the aircraft, so its final two aircraft on order may never be delivered; ditto for Qantas’ eight. The 10 unidentified A380 orders, widely suspected to have been placed by China’s Hainan Group have also come into question, given China Southern’s difficulty in utilizing the aircraft. Amedeo has thus far found it difficult to place the 20 aircraft it ordered, trading away four of its early slots (in 2016) to Emirates in order to give itself more time to place its order with airline customers. Transaero’s order for four A380s and Air Austral’s order for two are now questionable given macroeconomic weakness for the former and financial weakness for the latter.
And Virgin Atlantic’s order for six airframes might have been a certainty under previous management, but the new regime, directed in part by 49 percent owner Delta Air Lines, appears to be more conservative in its outlook. To accurately reflect the risk that some or all of these aircraft may never be delivered, one can discount them by 50 percent, yielding a risk-weighted A380 backlog of 139 aircraft.
Now clearly this ignores the possibility for follow up orders from existing customers (our view is that British Airways, Korean Air, Singapore Airlines, and Qatar Airways are likely to place top-up orders over the next two to four years). But even if you add an average of 6-8 new aircraft per airline, at most you end up with a risk-weighted backlog of 161 aircraft, with only Turkish Airlines as a realistic possibility for additional orders. As I wrote back in December, the VLA market is smaller than Airbus (and Boeing’s) projections.
A380 Sales Weakness Not For a Lack of Competitiveness
But the reasons for this weakness is not immediately clear. The A380 has not been a poor performer; in fact far from it. Its operators have found that the A380 saves millions of dollars in operating costs (example from British Airways below), and that it is a fantastic marketing tool. Despite its higher capacity, the A380 (at between 80 and 90 percent for most airlines) actually operates at higher load factors than any other long-haul aircraft.
Thus despite conventional opinion to the contrary, the A380 has actually been a smashing success. So what explains the A380’s relative sales weakness? In our opinion, the key driver is a mix of latent conservatism at airline route planning departments in the developed world and macroeconomic weakness in the developing world.
Over the past five to six years, U.S. and Japanese airlines restored their finances in the wake of the late 2000s recession by adopting a strict stance of capacity discipline, a view that European airlines have shifted toward as well, given macroeconomic weakness in their home markets. Moreover, developed world airlines are especially sensitive to pressure from the investment community in New York, London, and Tokyo, which tends to view the A380 with extreme skepticism.
In the developing world, many of the same attitudes of risk aversion apply, though they are not as severe as those for developed world carriers. But the problem for them is more outward; their domestic markets are suffering from macroeconomic weakness. Between growth slowdowns throughout much of Asia and crumbling commodity prices elsewhere, large swaths of the developing world are home to airlines that lack the financial wherewithal to place A380 orders. Even if they wanted to, moreover, local lenders have many of the same biases against the A380, which could complicate funding.
Airbus Likely to Launch A380neo with Sharklets and Rolls-Royce Advance Engine
The A380’s problems are exacerbated by the advent of the Boeing 777-9X and the Airbus A350-1000, two new competitors in the broader VLA space that offer much better fuel burn and operating economics than the present-day Boeing 777-300ER and Boeing 747-8. These aircraft do not necessarily surpass the A380-800’s operating economics (let alone those of a proposed neo), but given the risk perception of the A380, they are relatively more attractive than the A380 to airline planners. Both sales figures and empirical observation bear this out, as the A350-1000 and Boeing 777-9X have together sold 412 copies despite neither aircraft being in service, while 15 years and 10 years after launch for the A380 and 747-8 respectively, the two very large aircraft (VLAs) have sold a combined 436 copies.
In part to combat the threat posed by the 777-9X, which has also outstripped the A350-1000, we believe that Airbus is likely to launch an A380-800neo within the next 12 to 18 months. The aircraft will be aimed for entry into service (EIS) in either 2020 or early 2021, and will in all likelihood be powered by a Rolls-Royce Advance three-stage engine (launched in conjunction with the Ultrafan for lower-thrust uses).
We also believe that the A380neo will have sharklets, so as to increase effective wing length (and aspect ratio) while reducing drag. All told, the goal would be to accomplish at least a 10 percent (and ideally 12-13 percent) reduction in specific fuel consumption (sfc), with a program development cost of roughly $2.5 billion (perhaps shared with Rolls-Royce due to the latter’s motivations) driven primarily by required structural modifications. Our sources at the European manufacturer indicate that the Airbus team is developing a proposal based on these figures to show the board in an attempt to win authority to offer (ATO).
Assessing the A380 (and A380neo’s) Competitiveness
Since we view Airbus as likely to launch the A380neo, we thought it would be useful to assess the competitiveness of the varying aircraft on an operating cost basis.
For our analysis, we ran our proprietary model based on a still air distance (ESAD) of 6,500 nautical miles (nm), roughly the required range for a flight of the length of Los Angeles – Beijing (5432 nm), including winds.
Seating capacity for each aircraft was estimated as follow:
A350-1000 – 333 seats ( 4F / 60J / 269Y )
Boeing 777-9X – 380 seats ( 4F / 70J / 306Y )
For the A380, two seating counts were used. The first, 502 seats, was estimated by taking a blended average of current A380 operators’ seating configurations as shown in the table below. The second, 579 seats ( 8F / 100J / 471Y ) was estimated using similar proportions of premium cabin seats as the A350 and 777-9.
Each aircraft was evaluated for a high, medium, and low price of fuel ($4, $3, and $2 per gallon). For capital costs, we applied a standard 46 percent discount to list price. In real life, the more-demanded A350-1000 and 777-9X will likely have a lower discount rate than the A380neo, however we opted for the most conservative comparison possible.
As the analysis clearly indicates, today’s A380 is actually quite competitive with the new-generation large twins on an operating cost basis, both in terms of cash costs and including the cost of capital. The key constraint appears to be the lower density configurations that many of the aircraft’s operators have opted for, though it should be noted that the more premium heavy configurations do offer higher revenue potential per seat. Still, the result (driven heavily by price competition on the part of Airbus), is eye-opening, and confirms our analysis of what actually is holding the A380’s sales back.
How Big is the Market for an A380neo?
Our analysis indicates that the potential market for the A380neo is anywhere from 250-400 airframes, with a midpoint of around 350 sales, more than enough to recoup the minimal development costs. Emirates has already said that it would sign up for 100 A380neo aircraft if launched (admittedly with some conversions of existing orders). Beyond Emirates (whose long run potential is closer to 160 aircraft including some turnover), here are some back-of-the-envelope examples for likely A380neo subfleets.
Qatar Airways – 25
Turkish Airlines – 20
Etihad Airways – 8
British Airways – 25
Chinese Airlines – 60
Singapore Airlines – 25
LATAM – 10
Korean Air – 15
Asiana – 5
Lufthansa – 10
This is an achievable scenario for Airbus. Furthermore, Airbus may take aggressive actions to broaden the A380’s customer base in the interim. Especially for end-of-line A380ceos, aggressive leasing deals like their short-term narrowbody leases to American Airlines (resulting from the landmark 2011 order), or even an Eastern Airlines A300-style deal, where Airbus loans a few white-tail A380s to an airline at risk could help illustrate to airline planners the narrow-mindedness of their bias against the A380.
The A380-900 Faces an Uphill Battle
While the A380neo seems like a virtual certainty, prospects for the larger A380-900 (re-engined or otherwise) are less clear. The stretched A380, seating roughly 650-700 passengers, would have incredible seat-mile costs and operating efficiency. But given market perception of risk for aircraft of the size of the current A380, the A380-900 would only exacerbate the current A380’s sales handicap.
For existing A380 customers, adding seats to the existing A380-800 sized aircraft would allow them to boost seating capacity in a lower risk manner. Emirates might certainly order the aircraft, and Cathay Pacific has been vocal about ordering the variant in the past as well. But by and large, there does not appear to be a massive customer base. And given that the A380-900 would nearly treble development costs for the A380neo, it appears as though the 100 or so incremental sales could not justify the added costs. We do not view the A380-900 as a likely development.
Despite its uneven start, the A380’s hegemony as the largest passenger aircraft on the planet has just begun. The A380neo will extend that period for at least another 15 years.