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Boeing faces important strategic decisions on 737X

As Boeing moves closer to its mid-year target of deciding whether to opt for a clean-sheet narrowbody replacement or launch a re-engining programme for the 737 NG (Next-Generation) aircraft family, the Chicago-based airframer faces multiple important strategic decisions on the aircraft programme that will potentially change the game like the Boeing 787 Dreamliner does in the widebody segment.

Importantly, the possibility of launching a twin-aisle 737 replacement raised by Boeing executives promises a significant reduction in the operational cost of the aircraft over today’s existing A320 and 737 NG and threatens to make the A320 neo (new engine option) obsolete within a few years following the re-engined aircraft’s entry into service (EIS) in 2016.

At a press briefing held at the Asian Aerospace 2011 in Hong Kong on March 9, which Aspire Aviation attended and asked a question specifically on the twin-aisle 737 replacement studies, Boeing vice president (VP) marketing Randy Tinseth provided detailed information on the rationale behind a potential twin-aisle 737 replacement.

Image Courtesy of Airbus

Critically, Tinseth noted that a clean-sheet 737 replacement would deliver a 15-20% reduction in fuel burning, while delivering a staggering 20-30% improvement in the airframe maintenance cost and a significant 10-11% reduction in cash operating cost (COC) “to overcome the investment hurdles of all new spares and engines and that’s what your customers would want and require to make an investment in the airplane”.

Tinseth also revealed that a re-engined 737 would only deliver a 11-12% fuel burn saving and a less-than-glamourous “a couple of percents’ improvement on operating cost”.

“We ask ourselves, ‘Can we do better than that?’ and we may think we may be able to with a new airplane,” Tinseth declared.

Meanwhile, Tinseth said a twin-aisle 737 replacement would actually reduce the turnaround time and enable airlines to operate 9 sectors per day instead of 8 per day on the existing 737 NG, thereby enabling operators to earn a significantly higher revenue by “making 1 more flight per day”.

While Tinseth acknowledged that “the OEW (operating empty weight), fuel burn will increase a little bit” primarily owing to the twin-aisle effect, there will nevertheless be “a significant operational cost improvement for a twin-aisle”.

Coupled with the larger revenue cargo volume that a twin-aisle 737 replacement would provide which can carry the LD-3 container, it is apparent that a twin-aisle 737 replacement would enable carriers to maximise their yields and carry more lucrative cargo which will be an ideal fit to the rapidly-growing Middle-Eastern, Chinese and Indian markets.

The NPV/DOC debate
In addition, a twin-aisle 737 replacement would fair favourably in the net present value (NPV) and direct operating cost (DOC) analyses when compared to a single-aisle next-generation narrowbody replacement and the Airbus A320 neo as well.

Direct operating cost (DOC) of an aircraft is calculated according to the following formula:
Direct Operating Cost (DOC) = Cash Operating Cost (COC) + cost of capital

As the cash operating cost (COC) of the twin-aisle 737X is 10-11% lower than the existing 737 NG, the direct operating cost (DOC) of the twin-aisle 737X will also be significantly lower, whereas the DOC advantage of the A320 neo versus the existing A320 family aircraft is only limited to 2%-5%, depending on the selection of the CFM International Leap-X or Pratt & Whitney (P&W)’s PurePower 1100G engines, according to Aspire Aviation‘s source.

Interestingly, Aspire Aviation‘s source confirms that Air France has separately done an evaluation over the A320 neo and found that the DOC saving of the A320 neo is only 2% on intra-European missions.

In the meantime, capital value (CV) is the present value of the anticipated net receipt (i.e. net income) generated in the future and the capital value, or called the present value (PV) generally, is calculated according to the following formula:

As the net income generated by every twin-aisle 737X aircraft is substantially higher than the A320 neo, owing to the extra revenue generated by flying significantly more cargoes and operating an extra sector per day, as well as the 737X’s fuel burn saving of 15-20% whereas the A320 neo’s fuel burn saving is reduced to around 7% due to the strengthening of the aircraft’s outer wingbox, according to Aspire Aviation‘s source who works at the European airframer; the present value (PV) of the twin-aisle 737X will be less heavily discounted when compared to the A320 neo.

Net Present Value (NPV) = Present Value (PV) – cost of capital

Furthermore, the net present value (NPV), whose calculation method is listed above, for a twin-aisle 737X would be significantly higher than that for an A320 neo.

A point which is noteworthy is, this higher return of the twin-aisle 737X comes at a higher risk, as airlines, like every other company and everyone else, has a positive time preference, though Aspire Aviation believes the higher NPV and significantly higher fuel burn and maintenance cost saving, and a marginal lead-time offered by the A320 neo, more than justifies the higher risk of a twin-aisle 737X with an EIS in 2019 or 2020.

“The [A320]neo is a way for them to address their value gap that is in the market today. Our question is how do we even go better? How do we take that next step?,” Boeing vice president (VP) marketing Randy Tinseth said at Asian Aerospace 2011’s press briefing.

Market Positioning/Materials
While a twin-aisle 737X is a fascinating idea and has a robust business case,  it nevertheless presents unique challenges to Boeing, particularly over the market positioning.

A 180-200 seat twin-aisle 737X would ideally replace the lower end segment of the 757 market, while the higher-end segment would be replaced by the 240-seat 787-8. This concept has received the endorsements from Air Lease Corporation (ALC) chief executive Steven Udvar Hazy, and, surprisingly, the outspoken Qatar Airways chief executive Akbar Al-Baker, who strongly criticised the A320 neo and claimed he would support the idea of a clean-sheet 737 replacement.

“All I can tell you is our recommendation to Boeing, and we’ve bought over 800 new Boeing airplanes, is to build an aircraft family rather than a single sized model and that family hopefully will encompass at the upper end an airplane that could replace the 757,” Air Lease Corporation (ALC) chief executive Steven Udvar Hazy commented.

“In all of the studies that we have done and in talking to airlines, you can turn a twin-aisle aircraft faster if you have good passenger access. So the whole idea of a short- to medium-haul aircraft is maximizing utilization and if you can get ten minutes a turn and you do six segments a day you can get an hour more flight utilization,” said Hazy, concurring Boeing’s VP Marketing Randy Tinseth’s comments that a twin-aisle replacement would feature faster turnaround times.

“Look at the upper end of that market, once you get above 200 seats. How many of you have flown on a 757 when you’re in row 39F and how long does it take to get off the airplane if they’re loading only through the front. Sometimes it [feels like it] takes longer to get off the airplane then the flight itself. My feeling is that to be a really an effective airplane above 200 seats and a great competitor and have the cargo capacity, which is also an important element in the revenue generation of airplanes, a small twin-aisle has a lot of advantages once you get north of 200 seats,” Hazy lamented.

However, a 180-220 seat twin-aisle 737X would represent an up-gauging of the 132-seat 737-600 and 149-seat 737-700 in a single class configuration and given the fact that Boeing is highly unlikely to abandon this lower-end segment of the narrowbody market whereas the chances of launching two aircraft families to replace the 737NG family are slim, if not non-existent, the world’s second-largest aircraft manufacturer will undoubtedly have to address this difficult question.

Separately, Boeing vice president (VP) marketing Randy Tinseth acknowledged at the press briefing at the Asian Aerospace 2011 that the second or third-generation composite technology “just doesn’t exist yet” and that “right now the technology is not there because of the [scalability] issue”, though he cautioned that the use of composites has consistently exceeded Boeing’s expectations.

Tinseth also noted the significant improvement being made by the aluminium industry on the aluminium-lithium (Al-Li) technology while emphasising that Boeing has not decided which material the 737 replacement, whether it is a clean-sheet single-aisle aircraft or a “twin-aisle” single-aisle replacement, will use.

Aspire Aviation predicts that Boeing will eventually opt for a clean-sheet 737 replacement this summer but leaving the material options undecided to allow more time to study the latest developments on the Al-Li technology and the composite advancements.

In conclusion, while the A320 neo is going to sell well with Lufthansa, Indigo Airlines and Virgin America already committed to the aircraft and more sales are definitely to come (“A320 neo orders won’t clear doubts in years“, 12th Jan 11), a twin-aisle 737X replacement aircraft would arguably be a promising aircraft and may even become yet another game-changer, although it is obvious that Boeing cannot afford the 787-style delays and glitches this time around.

Image Courtesy of Pratt & Whitney

22 Comments

  1. Roger Melton March 22, 2011 Reply

    If the A320neo costs $1bn to develop and they’ve already sold 300 at a premium of $6m per plane, they’ve already recovered their development costs and so could probably think about an all new offering as soon as the new Boeing starts to notch up significant sales.

  2. Author
    Daniel Tsang March 22, 2011 Reply

    Well, if that is the case, Airbus would have no problem at all.

    The problem here is, however, that most of the aviation analysts don’t believe Airbus is able to charge a US$6 million price premium, and even have to discount the A320 neo, particularly the A319 neo, heavily in order to fend off the threat arising from Bombardier’s CSeries.

    Airbus faces a bigger issue here than Boeing does since the 737NG has a 5% fuel burn advantage versus the existing A320 family aircraft, from the data that I have seen from airlines, not Boeing.

    And this A320 neo issue is more complicated than it appears: it is essentially a double-edged sword, since it would significantly undermine the residual value of your existing A320 customer base, so whether this significant drop in residual value of its existing customer base should be taken account into the cost of the A320 neo program, Airbus did not answer, simply claiming the A320 neo would boost the residual value of the existing A320.

    Well, I have talked to several aviation analysts and the majority of them think that there will be a significant drop in residual value of the existing A320 family aircraft.

  3. Guy March 23, 2011 Reply

    Wouldn’t the problem of residual value hit Boeing as well RE: 737 vs 797 (or whatever the replacement is called). And regarding the 1st comment, is $1 billion a realistic figure for development costs of the A320NEO family

  4. keesje March 23, 2011 Reply

    “Tinseth acknowledged that “the OEW (operating empty weight), fuel burn will increase a little bit” ”

    An important line. If competitors have the same engines and a significant smaller cross section, expect no fuel burn miracles.

    Remarkable how Tinseth now suddenly ackowledges how important cargo / container capability is for a narrowbody. One of the distinct advantages of the Airbus A320 over Boeings 737 over the years, and for many years to come.

    Boeing started a campaign to convince everyone the 737 is more efficient then the A320 and Airbus is only catching up with the NEO. Smart marketing, but not consistent with airline numbers I have seen for all but very short flights.

    As noted in the article short haul (<100 minutes) 140-160 seats is where most narrow body flights are. I wonder if this twin addresses this market well enough. There is IMO a significant risk of others bringing on a dedicated design for that, like e.g. the ECR-20.

    http://www.pprune.org/tech-log/445308-ecr-20-200-seater-optimized-flights-700-nm.html

    I agree with Roger Airbus is in a relative comfortable position with their "cheap" NEO and Boeing has to move earlier then they hoped too. Maybe Boeing should form a JV with Embraer to offer an optimized 120-160 seat platform..

    • Author
      Daniel Tsang March 23, 2011 Reply

      keesje,

      Relatively comfortable position? Airbus will be facing significant strategic risk should Boeing’s 737X be able to deliver those significant gains.

      I must clarify here that the larger revenue cargo volume was not a point raised by Randy, but the opinion of Steven Udvar Hazy which I concur.

      Meanwhile, the total volume for freight on an A320 is 31.7 cubic metres, whereas the 737-800’s figure is 44 cu. m., according to both Airbus and Boeing’s websites.

      • keesje March 23, 2011 Reply

        Daniel,

        the ROI of an entirely new aircraft is at least 400-600 these days. ROI for a straightforward re-engining of a long paid for aircraft, 200 ?

        The dual engine offering will make sure both GE and PW offer competitive products and prices.

        In the 2015-2022 period Airbus will probably deliver 2000-3000 NEO’s from its Toulouse, Tianjin and Hamburg lines.

        The big question is how many 737 will be ordered for delivery in the 2015-2020 time frame and at what prices, with the better NEO, C919, CSeries and MS21 rolling off the FAL’s.. Positive estimations from Randy & McNerney carry lots of hope and hope.

        On freight, as you mentioned LD-3 container capability is what counts, not volume.

        • Author
          Daniel Tsang March 23, 2011 Reply

          Right, LD-3 capability is what counts, not volume, as fuselage length can lead to a larger cargo volume with a narrower cross-section.

          As you acknowledge, the ROI for a clean-sheet airplane is unquestionably significantly higher than the ROI for a re-engined airplane.

          The question then falls on whether the technological advancements can be realised within the specified timeframe and Airbus concluded that they can’t.

          While Boeing is indeed bullish on technological advancements, I think their optimism is justified and think that Airbus made the conclusion way too early, although Airbus launched the A320 neo also because of its lack of engineering resources.

          After all, how could possibly have imagined the emergence of tablet computers like iPad 2 just a few years ago?

          When you talk about technological advancements for the next 10 years or so, making the conclusion now is too early.

          And I think Boeing will be forced to carry out a realistic business case analysis while taking a wait-and-see approach.

  5. Author
    Daniel Tsang March 23, 2011 Reply

    A special thanks to all readers who submitted their comments, who help make Aspire Aviation a better site and reminding us to keep our minds open and keep improving.

    – On behalf of the Aspire Aviation team.

  6. Bryan March 24, 2011 Reply

    Huge credit to Airbus, who have been keeping up with their competition selling an aircraft that’s inferior. Impressive work.

  7. Bryan March 24, 2011 Reply

    Which I’m sure will be attributed to Airbus discounting more than Boeing.

  8. Jon March 25, 2011 Reply

    http://www.google.com.ng/url?sa=t&source=news&cd=2&ved=0CDgQqQIwAQ&url=http%3A%2F%2Fonline.wsj.com%2Farticle%2FBT-CO-20110324-709357.html&ei=j3qLTam2ONG04gba5uy5Dg&usg=AFQjCNGsIq2T98hEvAKoztZzBWUua9VuCQ

    The news says a senior Airbus exec said Airbus has indeed being getting the premiums on initial sales. Now, I don’t know much about how companies are run, but surely there are penalties if statements like the above are false?

    And why do people keep on with this view that Airbus makes the NEO, Boeing makes new aircraft, and boom Boeing wins, since when is the NEO Airbus’s answer to a new narrowbody? It’s nothing more than an interim solution.

  9. Author
    Daniel Tsang March 25, 2011 Reply

    Jon,

    Both Airbus and Boeing should be assessed by their acts, not their words.

    Airbus has been discounting heavily on its products, such as easyJet’s A319 giveaway deal and the discounts that A380 launch customers receive.

    By the same token, I am not convinced that Boeing is still not in a forward-loss position on the 787 program, given the lengthy delay and production glitches.

    I believe that the 787 program is only able to break-even at best.

    • Jon March 26, 2011 Reply

      Not trying to be rude, but your reply wasn’t anything I was implying. I never said Airbus hasn’t discounted heavily on products like the A380, neither has Airbus themselves for that matter, they’ve always held that they haven’t sold any A380 at a loss, which can be true as it’s very possible to discount heavily and still make profits on a per-frame basis.

      My question was aimed at the part of your article that said Airbus wouldn’t be commanding the 6% premiums on their A320, and I’m kinda pointing out that it seems they are, and I’d think Airbus as a company listed for trading would face penalties if such statements are false?

      Also, an important question here. Your 737 burning 5% less fuel than the A320 kinda reads like a Boeing marketing ploy, as you never tell us what configurations the two planes you’re comparing are flying, neither did you specify the distance or the engines compared. Most data I’ve seen on online forums from people who fly the plane put the distance at 1-3% at best with the A320 even coming ahead by the same distance on certain lengths of flight.
      Or are you saying overall, no matter what config, the 737 is 5% more efficient than the A320? If true, then it’s a wonder how Boeing haven’t been able to pull away with sales and everything still remains split evenly and why they’re even bothering to respond to Airbus this year as they already have the better plane to begin with and looking at data from analysts like you, it seems the NEO won’t even be that good, why the bother?

      • Author
        Daniel Tsang March 26, 2011 Reply

        The notion that Airbus does seem to be charging a 2% premium on the A320 neo cannot be verified by my Airbus source. In fact, the significant discount that launch customers are to receive more than offsets this premium.

        Furthermore, according to an AirInsight report, the A319 neo would have to be discounted by 40% in order to fend off the threat from Bombardier’s CSeries and the A320 neo by a lesser extent.

        You asked if the A320 neo weren’t that good at all, why bother to launch it? It was because Airbus was essentially running out of options, with its plates full with the A350 XWB, A380 weight-reduction program and the A400M, each of them demanding very scarce engineering resources. Boeing is better off should it able to meet the 2013 Boeing 787 Dreamliner production ramp-up, 787-9 EIS and 747-8I EIS. Though this is in itself doubtful, which I must admit.

        Regarding the 737 fuel burn, it does depend on configuration, but the 5% fuel burn advantage that I was referring to, is a 737-800 versus the A320, which an operator both operate. Though I cannot reveal its identity.

        • Jon March 27, 2011 Reply

          Okay, we’ll just have to leave the premium argument, though I find it very bizarre and un-businesslike for a company to publicly lie about such a thing. I don’t think Airbus have sold any A319NEOs yet, so the comment probably doesn’t apply to that model.

          On the NEO: Wouldn’t resource constraints be a reason NOT to do the NEO? But that wasn’t really what I said, I said if the A320NEO isn’t that good and Boeing already has the better aircraft anyways, why are Boeing replying?

          Before the NEO, both companies maintained that there wouldn’t be any need/ advanced enough technological materials to launch an all new narrowbody within the next 5 years, and both companies placed the time-frame for a narrowbody replacement launch at 2017-2020 upwards(statements like this were made as late as early last year). Suddenly, Airbus does the NEO(and still maintains there’s no new enough tech materials for an all new narrowbody so soon), while Boeing is thinking about a new plane, which makes me wonder why Boeing has shifted from their original position to launch a new plane if the NEO isn’t that good and Boeing are already better right now.
          Surely a re-engining which Boeing themselves admitted would give them some improvements but not much would be enough to keep the status quo?

          Thanks for clarification on the fuel burn issue, so the 5% figure is for one particular airline which I’m guessing doesn’t configure the two aircrafts in the same way and doesn’t fly both aircrafts on the same sector lengths as 737’s are markedly more efficient on shorter flights while the gap starts to close on longer flights.

          • Author
            Daniel Tsang March 27, 2011 Reply

            Jon,

            The reason why Boeing keeps talking about a new clean-sheet 737 replacement is that the 737NG’s performance will be “just in line” with the introduction of the A320 neo.

            Furthermore, if the Comac C919 were successful in delivering a 15% fuel burn saving, the 737NG and A320 neo would be obsolete. (Though the performance of the C919 will be addressed in one of my new posts due to be published in the 2nd week of April).

            Therefore launching a new airplane, should it be able to deliver a 20% fuel burn saving, 30% maintenance cost saving would position Boeing well through the next several decades.

  10. keesje March 25, 2011 Reply

    Daniel:

    “Both Airbus and Boeing should be assessed by their acts, not their words.
    Airbus has been discounting heavily on its products”

    No, I think it’s nothing more then a feel good reaction Boeingfans have invented to explain Airbus victories.

    An Easyjet cheap deal (btw never heard of it) rumour no doubt is a mirror reaction to a more confirmed 50% discount Boeing gave Ryanair to remain relevant in Europe.

    http://airobserver.wordpress.com/2011/03/10/perspectives-is-ryanair%E2%80%99s-future-growth-to-be-limited-by-lack-of-plane/

  11. Author
    Daniel Tsang March 25, 2011 Reply

    keesje:

    Easyjet’s A319 deal has been offered a 65% discount.

    A 65% discount is more relevant than a 50% discount and Airbus has a track record of pricing its airplanes, A320s and A380s, aggressively. Renowned aviation analyst Richard Aboulafia has long been saying this as well.

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