Boeing/airbus Case Study

Memorandum

To: The Boeing Company, Board of Directors

From: Consultant

Date: October 3, 2005

Re: Options and Recommendations in Response to Airbus

We have recently discussed Airbus's effective effort in capturing market share in the past few years. We have also agreed that I will conduct an analysis of the underlying circumstances concerning the situation, address the challenges facing Boeing, provide options available to Boeing, and recommend actions to be taken. I will provide an analysis of the Aerospace industry, an analysis of the firms involved, and an analysis of the international implications concerning the situation.

Background

The aerospace industry is dominated by three major companies: Boeing, Airbus, and McDonnell Douglas. Boeing has long been the dominant market share leader. However, due to the recent downfall of McDonnell Douglas, Airbus has gained significant market share and is threatening Boeing's position as the market leader.

The Nature of the Aerospace Industry

The aerospace industry is a long-term engagement. It is typical for the development of a new plane to take an average of five years before the model even begins production. Thus, the research and development costs are extremely high and have been estimated at a cost of up to $20 million per seat. Manufacturers usually do not even break even until 400 units have been produced, which can take up to 12-14 years after research and development begins. Therefore it is very difficult for new companies to enter this market. It would take a huge capital investment for a company to even get started, with no guarantee of any type of success.

Boeing funds its own research and development costs

The nature of the funding of research and development costs is very influential in this industry. Boeing has long been a leader in developing new technology in aerospace. The research and development costs associated with new technology are extremely high. Boeing has received some funding from the U.S. government through defense contracting, such as contracts to develop and produce military aircraft that also have commercial uses. However, most of Boeing's research and development cost have been funded from within the company.

Airbus funds research & development costs through government subsides

Contrary to Boeing, Airbus's research and development costs are subsidized by European governments. Airbus and the European governments claim that subsidies are needed for Airbus to compete with the dominant aerospace producers, such as Boeing and McDonnell Douglas. Due to the large costs of research and development and Boeing's dominance of the market share, Airbus contends that they would not even be able to stay in the market without government intervention. European governments are willing to fund Airbus because they see aerospace production as highly lucrative industry in which American companies almost have a monopoly over.

Challenges facing Boeing

Boeing has long been the market leader in the aerospace industry and never has seriously been threatened from this position. Even with Airbus's extensive effort to gain market share, they are still significantly behind Boeing. However, Airbus is planning the introduction of two new planes - the A-330 and A-340 - which would be the first real competitor to Boeing's 747. The challenges that Boeing now faces are to maintain its current market share while having increased competition and to do so while still maintaining profitability. Boeing also faces challenges in technology development; European government subsides allow Airbus to match new Boeing technology within short periods of time.

Airbus's A-330 and A-340 threaten Boeing's 747

Boeing has long monopolized the large jumbo jet sector of the industry. The Boeing 747 is in a class of its own. It seats up to 400 people and up till now has not faced any direct competition. No other manufacturers have offered any thing close to its size. The 747 represents Boeing's last unique product. With Airbus's introduction of the A-330 and A-340, the Boeing 747 will now have direct competition.

Airbus threatens Boeing's market share

Airbus has already taken most of the market share that was previously held by McDonnell Douglas, raising its market share to 30%. With the introduction of new aircraft similar to the 747, Boeing is likely to loose a further percentage. The industry is growing and orders are continuing to grow, however, the industry is very cyclical and it is important for Boeing to maintain its clients and relationships to protect themselves in the event of an industry downturn. Boeing must continue to try to differentiate itself from Airbus via new technology despite the fact that Airbus will likely be able to match the technology in short period of time with the large subsidies they receive from European governments.

Staying profitable while maintaining market share

Selling competition in the industry has been continually progressing in recent years. Profits have been very thin for the world's airlines, and thus made competition very fierce. In past years Airbus has priced for market share, forcing Boeing to choose between losing a sale and cutting prices below costs. Boeing must not get into a bidding war with Airbus for sales of the 747 and A-330 or A-340. Airbus is set on increasing market share and may price to do so, but Boeing must maintain its prices and rely on customer relations to maintain current customers.

Options to respond to Airbus

There a number of different ways for Boeing to respond to Airbus's attempt to gain market share. Boeing could essentially do nothing, and rely on its relationships with its customers in hope that they will stay loyal to Boeing. A more broad option would involve government intervention. Boeing could lobby the U.S. government to provide subsidies as European governments do, or lobby the U.S. government to attack Airbus on the basis of violating trade agreements. Their last option would be to differentiate themselves from Airbus