The Value of New-Technology Single-Aisles
Transcript of The Value of New-Technology Single-Aisles
Executive Summary
Given the precipitous drop in oil prices, the value of new-technology aircraft
has been questioned, but is this warranted? New-technology aircraft create
revenue opportunities and reduce operating costs, enabling airlines to
build competitive moats that support sustainable business models. Airlines
with less fortunate geography will now be able to improve their economic
geography by operating routes not previously possible. Not all airlines value
fuel efficiency the same. The trade off between increased ownership cost and
fuel savings is dependent on utilization. To better understand which types of
airlines value new-technology, we analyzed the forecasted share of single-
aisle deliveries from 2016 to 2019. New-technology aircraft account for two-
thirds of high-growth, high-utilization airlines’ deliveries, demonstrating that
the business case for these types closes at any fuel price if the operator flies
enough. During this decade’s technology transition, a variety of options will
permit airlines to acquire the right tools to meet their needs. Lessors will play
a key role, providing access to OEM’s overbooked skylines and transitioning
used aircraft between operators. While the price paid for the new-technology
will be crucial to continued competitiveness, the timing of the adoption may
be more so.
By Steve Mason & James K.D. Morrison
The Value of New-Technology Single-AislesNew-technology aircraft create revenue opportunities and reduce operating costs
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The Value of New-Technology Single-Aisles
© 2016 CIT Group Inc. CIT and the CIT logo are registered trademarks of CIT Group Inc.
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Introduction
The value of new-technology single-aisle aircraft is being
challenged given the precipitous drop in oil prices. Some airlines
have opportunistically questioned the premium OEMs and lessors
are seeking for re-engined and clean-sheet designs. The past
decade’s high fuel prices overshadowed the other benefits of
these aircraft. When Bombardier’s C Series, Airbus’ A320neo,
Boeing’s 737 MAX, and Embraer’s E2 were launched, fuel cost
was at the forefront of the manufacturers’ minds. Brent crude oil
peaked at $143 per barrel in July 2008, and by 2011 appeared set
to stabilize at more than $100 indefinitely. The manufacturers’
focused their marketing efforts on one prime advantage of their
new-technology: fuel cost savings.
This singular focus missed a key point: aircraft do more than
burn fuel. New-technology aircraft create revenue opportunities
and reduce non-fuel operating costs, enabling airlines to build
competitive moats that support sustainable business models.
While lower fuel bills will decrease early adopters’ costs, the
relative cost advantage will dissipate once the competition takes
delivery of the same models in a few years’ time. Competitive
advantage must be built and can’t be easily replicated. The
increased payload-range, airfield performance, lower noise
footprint, and product branding opportunities of new-technology
aircraft will enable early adopters to gain a first-mover advantage
in developing new network structures and leveraging new
revenue opportunities that can’t be matched with old metal.
Fuel costs can be managed
Historically, jet fuel has been four times more likely than the S&P
500 to have a year-over-year price change in excess of 30%,
up or down (EIA, S&P). While incredibly volatile and inherently
uncertain, airlines have become exceptionally capable at
managing fuel costs.
Pricing is an airline’s strongest tool. By dynamically pricing
seat inventory to reflect changes in costs, airlines mitigate their
exposure to fuel price fluctuations. Changing economic and
competitive environments make it challenging to fully offset
sudden changes in fuel prices with revenue, but on an industry
level, airlines have been highly successful at adjusting passenger
yields to track jet fuel price changes.
With a 0.93 coefficient of determination over the past decade,
changes in the industry’s passenger yields and fuel prices have
a stronger correlation than the oft cited relationship between
growth in passenger traffic and world GDP at 0.80 (IATA,
ICAO, IMF).
Airlines have the option to use financial instruments to hedge
their fuel price exposure, providing greater cost certainty within
their planning horizon. While some airlines have used hedges to
build a cost advantage spanning several years (e.g. Southwest
Airlines between 2003 and 2008), airlines that hedge tend to pay
higher fuel costs over the cycle, revealing an important lesson:
hedging costs money.
New-technology aircraft act as long-term hedges against fuel
cost increase. On recent earnings calls, Alaska Airlines indicated
a cost of $3 per barrel (7¢ per gallon) for call options on fuel
prices six months in advance, while American Airlines stated a
fixed price option premium of $8 to $10 per barrel (19¢-24¢ per
gallon) one year out. Depending on the airline’s strategy, the cost
of hedging one single-aisle aircraft could range from $15,000 to
$50,000 per month, which makes one question the benefit of
paying to place bets instead of paying for the sure-bet of new-
technology.
Not all airlines value fuel efficiency the same. The trade between
increased ownership cost of new-technology aircraft and fuel
savings is dependent on utilization. Airlines that fly fewer than
six hours per day do not benefit from the fuel cost savings of
new-technology, whereas the business case for new-technology
aircraft closes at any fuel price if the operator flies enough.
Competitive advantage must be built
Competitive advantage is built by doing something that the
competition can’t. Long delivery lead-times will create technology
monopolies for early adopters to exploit. In addition to fuel cost
savings, new-technology single-aisles offer revenue and operating
cost opportunities.
Figure 1: With elevated oil prices, the manufacturers focused their marketing efforts on fuel cost savings.
Data Source: EIA, OEMs. EIS – entry-into-service
Figure 2: The airline industry has been highly successful at adjusting passenger yields to track jet fuel price changes.
Data Source: IATA
The Value of New-Technology Single-Aisles
© 2016 CIT Group Inc. CIT and the CIT logo are registered trademarks of CIT Group Inc.
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Revenue Opportunities of New-Technology Single-Aisles
New-technology single-aisles will open network opportunities
with smaller-gauge, lower risk aircraft. Direct flights in markets
previously only served with connections will shorten travel times,
attracting passengers willing to pay higher fares.
The first carrier to build a network made possible by new-
technology will create a lasting incumbent advantage.
Bombardier’s C Series, Boeing’s 737 MAX, Embraer’s E2Je and
Airbus’ A320neo families will enable airlines to open routes that
historically would have only been possible with twin-aisles or
Boeing’s 757, aircraft which may be too large to support the
passenger demand.
The transition from Boeing’s 737 Classic to Next Generation
allowed for US east coast to west coast operations, a market
today that is three times the size of France’s entire domestic
market. New-technology single-aisles will transform markets in
the rest of the world in the same manner as the last technology
transition changed US trans-con.
For western European carriers, the re-engined single-aisles
are capable of serving the US east coast, typically their largest
market. While twin-aisles will continue to consolidate passenger
traffic from hub airports, the re-engined single-aisles allow for
direct trans-Atlantic service between smaller cities (such as
Manchester, Milan, and Barcelona to places such as Boston,
Montreal, and Ottawa) and between business focused airports
(such as Westchester, Hartford, and London City).
New-technology single-aisles will allow for the right-sizing of
aircraft by season and departure time. TAP Portugal and jetBlue
(USA) have both ordered the A321LR, hinting at new trans-
Atlantic service.
Traveling east from Europe, Norwegian has stated that the UK
city of Manchester is a “very interesting area, especially if you
think about India.” While Turkish Airlines has been successful
using current-generation single-aisles to flow east-west
passengers through its hub in Istanbul, new-technology single-
aisles will enable many markets to be connected non-stop.
An operator based in Seoul or Tokyo will now be able to open
markets in Malaysia, India, Thailand and Indonesia. For Indonesian
operators, the aircraft will open markets in China, India, South
Korea and Australia. The list goes on.
Today, Copa Airlines (Panama) benefits greatly from the perfect
marriage of geography and its single-aisle fleet’s range capability,
maximizing revenue opportunities connecting the Americas.
Airlines with less fortunate geography will now be able to use the
A320neo and 737 MAX to improve their economic geography by
operating single-aisle aircraft routes not previously possible.
Not only will the new-technology single-aisle aircraft open range-
dependent revenue opportunities, but they will also bring runway
performance improvements. The A320neo offers enhanced
take-off performance due to aerodynamic, engine and control law
improvements resulting in up to four tons more take-off weight
compared to the A320ceo on occasions when the A320ceo
would have been otherwise limited, the equivalent of 30 to 35
more passengers.
Optimized use of cabin space as well as innovations in seat
design and monument layout have resulted in one to two
more seat rows on new-technology single-aisles with the same
passenger comfort. Increased available floor space is also being
used to expand premium economy cabins and experiment with
differentiated business class products, such as jetBlue’s Mint.
While some of these cabin enablers are available for retrofit, the
cost is not always economical. Airbus’ Cabin Flex option on the
A321neo is only available on the re-engined variant, enabling
four additional seats in a two-class configuration and up to ten
additional seats in high-density. Boeing’s 737 MAX 200 adds
a new exit door to the 737-8, enabling Ryanair (Ireland) and
other low-cost carriers to fit 200 seats in a hull that formerly
accommodated up to 189.
Non-fuel Operating Cost Savings of New-Technology
Single-Aisles
The smaller noise footprint of new-technology single-aisles
may enable access to certain airports previously only served by
turboprops and will extend curfews. 128 airports that account
for 15% of scheduled passenger take-offs worldwide have
implemented noise charges (Boeing, Innovata). An additional 181
airports have curfews or other noise limits. In total, 309 airports
accounting for 32% of take-offs have implemented some type of
noise restriction.
Frankfurt Airport has implemented higher charges for aircraft
movements operated during the late evening or early morning.
City airports, such as London City, Toronto City, and Bromma-
Stockholm City, restrict operations based on aircraft noise
characteristics. While restrictions reduce revenue opportunities,
noise charges increase the cost of operations. Airbus estimates an
A320neo with two landings a day at London Heathrow will save
$60,000 per month over the A320ceo just on lower noise charges.
Aviation noise is a policy issue on all continents, affecting human
health and welfare. He et al. (2014) estimated the capitalized
monetary impacts of aviation noise in 2005 to be $23.8 billion
around 181 airports worldwide, including 95 in the United States.
As urban areas encroach on airports, technology will be relied
upon to reduce the burden of air transport on local communities.
Figure 3: The trade between increased ownership cost of new-technology aircraft and fuel savings is dependent on utilization.
The Value of New-Technology Single-Aisles
© 2016 CIT Group Inc. CIT and the CIT logo are registered trademarks of CIT Group Inc.
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While engine manufacturers are targeting equivalent
maintenance costs to the previous generation, they are
accomplishing this by keeping engines on-wing longer and by
providing competitive maintenance agreements. Airframers are
using advanced materials to extend heavy maintenance intervals,
and in some cases, repackaging maintenance checks to bring
greater maintenance cost efficiencies.
Data analytics will be used to diagnose issues faster and
improve maintenance forecasting, reducing line maintenance
requirements and aircraft on ground situations. New-technology
aircraft will require fewer man-hours to be maintained and will
spend fewer days on the ground, generating more revenue
service days and spreading ownership costs over more flights.
High-utilization airlines favor new-technology
Not all airlines are positioned to take advantage of the benefits
new-technology aircraft deliver. Airlines replacing existing
capacity may not require additional payload/range capabilities.
Airlines that operate out of airports without noise restrictions will
not assign an economic value to smaller noise footprints. Low-
utilization airlines may not save enough fuel to pay for increased
ownership costs.
To better understand which types of airlines value new-
technology, we analyzed the forecasted share of single-aisle
deliveries from 2016 to 2019. During this period, Airbus, Boeing,
and Embraer will transition production from their A320ceo, 737
NG, E190/195 families to A320neo, 737 MAX, and E190/195 E2.
Bombardier will ramp-up C Series production, while COMAC
and Irkut plan to deliver their first C919s and MC-21s. Airlines
operating single-aisles in 2015 were segmented based on
utilization (greater or less than 8.8 hours per day) and by
average single-aisle fleet growth since 2012 (more or less than
6.1% annually). These thresholds were selected to roughly
split evenly the number of deliveries forecasted by Ascend to
announced passenger airlines (52% new-technology vs. 48%
current-generation) and within each quadrant defined by
utilization (high/low) and single-aisle fleet growth (high/low),
ranging from 23% to 27%.
New-technology aircraft account for two-thirds of high-
utilization, high-growth airlines’ deliveries. High-utilization,
low-growth airlines also prefer new-technology single-aisles,
although replacement demand is higher in this quadrant,
resulting in a lower propensity to select new-technology.
Low-utilization, low-growth carriers’ are indifferent in their
technology selection. With fewer flying hours per day, the
business case for new-technology is weaker, while current-
generation types can fulfill near-term replacement demand.
Low-utilization, high-growth carriers demonstrate a preference
for current-generation aircraft which are available sooner without
the complexity of integrating a new type.
Segmenting by region, Middle East operators with orders have
the highest average single-aisle utilization, and 61% of deliveries
this decade will be new-technology. Although European
operators are the most exposed to noise charges, they have
a low average utilization: 48% of deliveries are to be new-
technology. While Asia Pacific has the fastest growing single-
aisle fleet, it also has a low average utilization: 54% of deliveries
will be new-technology. Latin America has bet heavily on the
new-technology types, accounting for 78% of deliveries this
decade, while North America has the lowest share of the major
regions for new-technology at 43%.
Trends are harder to discern on an airline-by-airline basis, but
differences in rivals’ business models can be compared. Rapidly
expanding low-cost carriers, such as IndiGo (India) and AirAsia
(Malaysia), have high utilization operations favoring new-
technology. Mature low-cost carriers, such as Ryanair (Ireland)
and Southwest (USA), are relying on current-generation types
to renew their fleets. Both categories of LCCs will experience an
increase in fleet complexity as they operate multiple generations
of single-aisles in parallel.
Table 1: New-technology single-aisles as a percentage of forecasted 2016-2019 deliveries by operator business model.
Data Source: Ascend Fleets. Lessor orders placed with an airline included.
Unannounced operators excluded.
Figure 4: 309 airports accounting for 32% of take-offs have implemented some type of noise restriction.
Data Source: Boeing, Great Circle Mapper
The Value of New-Technology Single-Aisles
© 2016 CIT Group Inc. CIT and the CIT logo are registered trademarks of CIT Group Inc.
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Network carriers generally have low-utilization due to the
need to align flight times with hub banks. Delta’s fleet strategy
diverges from its US mainline competitors as it focuses on
current-generation types, while United and American have more
balanced fleet plans. Lufthansa (Germany) and British Airways
are focused on new-technology single-aisles, whereas Air France
has yet to commit. Most Chinese carriers are relying on current-
generation types to fuel their rapid expansion.
How much is new-technology worth?
Manufacturers desire payback after their costly period of
product development, but new-technology brings a different
value proposition to each airline. During this decade’s technology
transition, a variety of options will permit airlines to acquire
the right tool to meet their needs. New-technology aircraft will
appeal to high-utilization operators, airlines looking to develop
new network structures, and carriers operating out of noise or
runway-restricted airports. Current-generation aircraft will meet
the needs of low-utilization carriers and fast growing carriers in
need of a lift.
The operator’s business case will drive their maximum
willingness to pay. Given that some operators will see little
value in the early adoption of new-technology while others
are relying on it to transform their network, the value of
new-technology must not be benchmarked against the lowest
return business case. Deliveries will flow to those carriers that
make best use of the assets, opening new revenue opportunities
while optimizing costs.
There remain more than 300 airlines operating single-aisle
aircraft today with an average age of 13 years that have no
aircraft on order. Lessors will play a key role, providing access to
OEM’s overbooked skylines and transitioning used aircraft to new
operators, supporting a strong secondary market.
The advantages of adopting new-technology early will dissipate
as the world’s fleet shifts to the new types. It will be the early-
adopters who fully utilize the benefits of new-technology that
build lasting competitive advantage. While the price paid for the
new-technology will be crucial to continued competitiveness, the
timing of the adoption may be more so.
About the Authors
Steve Mason is Director and Head of
Aircraft Evaluation and Asset Strategy
at CIT Aerospace. Steve joined CIT in
2012 after 12 years spent working with
Rolls-Royce PLC and International Aero
Engines, where he was responsible for
aircraft engine sales for Western Europe
and leasing markets. In his current role,
Steve is responsible for aircraft investment
analysis, new aircraft strategy, airline
market assessment and aircraft valuations.
James K.D. Morrison is an Assistant Vice
President at CIT Aerospace. Jim is a
Professional Engineer and holds a Master
of Science in Technology and Policy from
the Massachusetts Institute of Technology.
Prior to joining CIT in 2015, Jim was a
Research Assistant at MIT’s International
Center for Air Transportation and held
marketing and strategy roles with
Bombardier Commercial Aircraft.
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Figure 5: New-technology single-aisles as a percentage of forecasted 2016-2019 deliveries by region.
Data Source: Ascend Fleets
Figure 6: New-technology single-aisles as a percentage of forecasted 2016-2019 deliveries by operator.
Data Source: Ascend Fleets