Group E10, MBA 2011
Airbus A3XX case study, Group E10
Both Airbus and Boeing, as well as industry experts expected worldwide passenger traffic to grow at an average annual growth rate of 4.8-4.9% for the next 20 years (up until 2019). Given that the traffic was expected to almost triple in volume, both manufacturers expected a significant increase in aircraft sales, although their views on the market structure were different. Airbus expected hub-to-hub routes to become the dominant type of transportation in key regions (transatlantic and transpacific), opposing Boeing’s preference for point-topoint routes. Therefore, Airbus forecasted high growth rates in very large aircraft (VLA) segment, that was expected to reach 1,235 aircraft by 2019. Although Airbus had considerably increased its market share by 1999, it still did not have a product to compete with Boeing’s 747 in the highly-promising VLA market segment. Introduction of A3XX could help Airbus capture more than a half of this segment, and given the segment’s very positive prospects, it could position Airbus as the commercial aviation industry leader.
The model estimates Airbus free cash flows associated with the potential implementation of A3XX project in 2001-2020. All calculations are performed in US dollars, net present value is calculated as of December 31, 2000. Given the uncertainty of model assumptions and the long-term nature of the model itself, additional sensitivity analysis was performed in respect of (a) operating margins, (b) discount rate, (c) inflation rate, (d) aircraft sales, (e) investment expenditure, and (f) sale price.
Sales & production
• Sale price: $216m as of 2006, rising afterwards at the inflation rate. Although some of the first contracts are expected to be executed with a significant discount, this is not factored into the model due to low data availability. • Operating margin: 15%, learning curve effect was ignored due to insufficient data (assuming lower margin in early years and higher margin at later stages — averaging at 15% over the forecasted period). • Sales ramp-up: based on the assumptions used in Lehman Brothers equity research reports (25% of ‘steady state’ capacity in 1st year, 75% in the second year). • Production capacity: 53 aircraft annually in ‘steady state’ (based on a total sales estimate of 730-750 aircraft in 2001-2020). • Pre-payments: although a fraction of the sale price is usually paid in advance, this factor was ignored due to insufficient data (all costs and payments are assumed to occur in the year when aircraft is delivered).
Airbus A3XX case study, Group E10
Funding & investments
• Funding: $11.9b of quasi-equity, debt is not used in the project. • Launch costs: $11.0b for research & development, $1.0 for capital expenditures, $1.0b for additional working capital (as per Dresdner Kleinwort report). • Additional capital expenditures: assumed at zero after the investment stage (20012008) is over • Discount rate: 11.0% as cost of equity (CAPM = 6.0% risk-free rate + 0.84 commercial aviation beta * 6% market risk premium). • Depreciation: straight line over 10 years, starts immediately after corresponding capital expenditures are performed. • R&D expenses are not capitalised.
• Inflation: constant at 2.0%. • Tax rate: 38.0% (standard French rate). • Terminal value: growing perpetuity where growth is set at the rate of inflation. • Boeing’s response to A3XX launch is not explicitly modelled (assuming this factor is already taken into account through unit sales and margins). • Although the market demonstrates considerable cyclicality, this factor was ignored for the sake of simplicity.
Net present value of the A3XX project is estimated at $528m, consisting of ($1,447m) NPV of 2001-2020 cash flows and $1,975m of terminal value. The break-even number of planes after the investment stage...