Aircraft, Engine & Parts Manufacturing
Christopher Muise analyzes the U.S. aircraft, engine and parts manufacturing industry’s market trends and pricing and provides advice for lenders based on the short- and long-term outlook.
Projected Values (12-Month Outlook)
CURRENT TRENDS
- The commercial airline industry could return to profitability by 2023 despite incurring net losses in 2022.
- Major U.S. carriers have limited flying in 2022 as rising costs, ongoing flight disruptions and air traffic congestion hamper a return to full capacity.
- Analysts expect continued consolidation among suppliers and defense contractors while smaller operators enter the market to fill niche positions in the supply chain.
- Projections indicate the number of companies engaged in aircraft, engine and parts manufacturing will increase at an annualized rate of 2.5% through 2027.
MARKET OUTLOOK
The COVID-19 pandemic caused a severe decline in global air travel and negatively affected demand for industry products. Demand has slowly rebounded since 2021, and net jet orders trended up for the first half of 2022 as travel rates have steadily improved. Major manufacturers Boeing and Airbus expect air traffic to recover to 2019 levels between 2023 and 2025.
Travel Demand Rises as Disruptions Challenge Recovery
Although COVID-19 variants remain a concern for travelers worldwide, air travel demand soared this year with the increasing availability of vaccines. Although U.S. passenger airline operating revenue totaled a net loss of approximately $3.5 billion for the first half of 2022,[1] industry experts anticipate global industry losses of $9.7 billion for the year, which is an improvement from losses of $137.7 billion in 2020 and $42.1 billion in 2021.[2]
Despite a pre-tax loss in the first half of this year, operating revenues are in line with pre-pandemic levels from the first half of 2019. However, major U.S. carriers reported a 13% increase in operating expenses for 2022 compared with the same period in 2019.[3] Although commercial airlines continue to incur net losses, loosening of travel restrictions and greater vaccine availability are driving expectations for a potential return to profitability by 2023.[4]
Commercial air travel, specifically domestic travel, shows signs of recovery from pandemic lows. Global airline capacity hit 98 million seats at the end of September 2022, which is consistent with travel in the last week of August, but capacity had retreated to just over 90 million by early November, 15.4% below the same period in 2019.[5]
The International Air Transport Association expects travel to and from North America to recover ahead of other regions with demand reaching 94% of 2019 levels by the end of the year and exceeding them in 2023.[6] North American original equipment manufacturers (OEMs) have ramped up production of narrow-body aircrafts among other products as air travel demand continues to rebound.[7]
Global Seat Capacity
Source: OAG
Amid rising demand, airlines continue to grapple with higher fuel and labor expenses that are hampering their ability to rebound to full capacity. American Airlines and other major U.S. carriers limited flying this year to confront cost increases, ongoing flight disruptions, air traffic congestion and economic volatility, which combined have restricted their ability to take full advantage of improving travel demand.[8]
In July, American Airlines reported its expected flight capacity to be down 9.5% for the year from pre-pandemic levels. Similarly, United limited flying to 13% below pre-pandemic levels for the year and cut its growth expectations for 2023. Delta is also curtailing capacity for the remainder of the year, with its third-quarter capacity to decrease as much as 17% from 2019.[9]
Russia-Ukraine War Compounds Global Supply Chain Disruption
The Russia-Ukraine war continues to affect the global supply chain by obstructing the flow of goods and driving dramatic cost increases for a range of commodities, including oil.
2018 and 2019 trade war disruptions escalated during the pandemic and were compounded by Russia’s invasion of Ukraine. Ensuing trade sanctions and other obstacles have obstructed logistics and trade route operations. Approximately 600,000 businesses worldwide rely on suppliers from Russia and Ukraine, with over 90% based in the U.S.[10]
The aerospace and defense industry’s complex yet fragmented supply chain consists of over 1,000 small- and medium-sized suppliers serving an extremely limited number of major OEMs, which causes difficulties and can result in various cost overruns for manufacturers.
Supply shortages stemming from the pandemic and compounded by the Russia-Ukraine war have upended the global marketplace, impeded supply chains and increased time costs as manufacturers wait for delayed parts to arrive. This has made it more difficult for companies to keep up with demand and resulted in a struggle to meet production needs.[11]
Emerging Technologies Expected to Grow Through Mergers and Acquisitions
The aerospace and defense industry experienced significant merger and acquisition (M&A) activity in 2021 with overall deal volume increasing more than 26% over 2020.[12] 2022 M&A activity has centered among smaller defense companies with megamergers unlikely as government approval for a merger of two already highly concentrated OEMs is improbable.
Additionally, increases in defense spending and fewer available large military contracts have increased M&A activity. This could result in some subsegments not having enough contracts for the same product lines and potentially lead operators to leave certain fields or acquire companies to diversify and break into the civil sector or other defense segments.[13]
Although industry analysts expect continued consolidation among supplier and defense contractors, smaller operators may enter the market to fill niche positions in the supply chain. As a result, experts project the number of companies engaged in aircraft, engine and parts manufacturing to increase at an annualized rate of 3.3% through 2027.[14]
VALUATION CONSIDERATIONS
Forecasts indicate the aircraft, engine and parts manufacturing industry revenue in the U.S. will increase at an annualized rate of 2.5% to over $238.8 billion through 2027[15] because of the increase in military hardware exports and an anticipated short-term increase in the defense budget.
Additionally, industry experts anticipate defense sector growth as the production of aircrafts, such as the F-35, begin to ramp up. However, even with the increased demand for commercial aircraft and the defense market picking up, profit for the industry will most likely remain constrained because of volatile purchase costs.[16] Rising inflation, interest rates, and environmental and government regulations for fuel efficiency have the potential to negatively affect the industry over the next several years.
In the short term, Gordon Brothers recommends monitoring costs as any deterioration in margin would have a negative effect on appraisal values. In the long-term, our firm recommends monitoring inventory levels, specifically slower moving inventory, as an accumulation can occur over time rendering the inventory undesirable or obsolete.
[1] Alaska, Allegiant, American, Delta, Frontier, Hawaiian, JetBlue, Southwest, Spirit and United
[2] https://www.iata.org/en/pressroom/2022-releases/2022-06-20-02/
[3] Alaska, Allegiant, American, Delta, Frontier, Hawaiian, JetBlue, Southwest, Spirit and United
[4] https://www.aerotime.aero/articles/31357-iata-updates-airline-industry-financial-outlook
[5] https://www.oag.com/coronavirus-airline-schedules-data
[6] https://www.businesstravelnews.com/Transportation/Air/IATA-Projects-Full-Air-Passenger-Recovery-in-2024
[7] https://www2.deloitte.com/content/dam/Deloitte/us/Documents/manufacturing/us-eri-outlooks-2022-aerospace-defense.pdf
[8] https://www.bloomberg.com/news/articles/2022-07-21/american-air-limits-flying-plans-on-challenging-conditions
[9] https://www.bloomberg.com/news/articles/2022-07-21/american-air-limits-flying-plans-on-challenging-conditions
[10] The Ukraine-Russia War’s Impact On The Supply Chain: Why MRO Optimization Is A Top Priority (forbes.com)
[11] Aircraft, Engine & Parts Manufacturing in the US – Industry Data, Trends, Stats | IBISWorld
[12] Meridian Capital, Aerospace, Defense & Space Market Monitor, Spring 2022
[13] us-eri-outlooks-2022-aerospace-defense.pdf (deloitte.com)
[14] Aircraft, Engine & Parts Manufacturing in the US – Industry Data, Trends, Stats | IBISWorld
[15] Aircraft, Engine & Parts Manufacturing in the US – Industry Data, Trends, Stats | IBISWorld
[16] Aircraft, Engine & Parts Manufacturing in the US – Industry Data, Trends, Stats | IBISWorld
