Early Exuberance Over Bombardier-Airbus Deal Overlooks Many Significant Challenges

Can a plane designed in Montreal, financed in Ottawa and Quebec City, made from major parts built in Belfast, Northern Ireland (wings), and Shenyang, China (main fuselage), managed by a multinational European company, and built in Mobile, Ala., really fly?

Physically speaking, of course it can.

In fact, though fewer than two dozen CS100 and CS300 commercial jetliners, built by Canada’s Bombardier, are in service so far, the early reviews are say these new aircraft types provide  passengers more comfort and airlines impressive fuel and operating efficiency gains.

The first of 30 Bombardier CS100 passenger jets order By Swiss Airlines Arrived in Zurich, Switzerland in July 2016. Bloomberg/Michele Limina

But the CS100 and the CS300 have had a long, very rocky $4.8 billion development history. Indeed, it was so rough that despite their notable technological advances and apparent commercial advantages within their respective niches in the global aviation industry the CSeries aircraft were headed for near-certain market failure until they were thrown a lifeline this week by Airbus SE.

Montreal-based Bombardier’s lack of capital and strong cash flows from its other niche aviation, rail equipment and outdoor power sports equipment businesses made developing what eventually became the CSeries aircraft a three-decade-long ordeal. And it required two controversial government financial rescues of the company, one by the provincial government of Quebec, which injected 1 billion Canadian dollars (about $800 million in U.S. dollars) into the company in June 2016, and another C$372 million bailout by the Canadian federal government this past February.

Still, nothwithstanding their excellent economic performance and technology marks, Bombardier was struggling mightily to sell CSeries jets to any airlines of import. Today only Swiss, a small European carrier, and airBaltic, an even smaller Latvian carrier, actually fly CSeries aircraft in commercial service.

Airlines are wary of Bombardier’s financial weakness and its inability to provide the kind of financing, training, maintenance and customer support that larger rivals Boeing and Airbus routinely provide their airline customers. Bombardier’s small scale aircraft production capabilities also make it hard for any carrier to get lots of CSeries planes into its fleet in a relatively short period of time. And the manufacturer can’t offer cost-saving operational and maintenance commonality to other planes in carriers’ fleets, the way Boeing and Airbus can.

Bombardier’s desperation became a full-fledged crisis last month when the U.S. Commerce Department responded to a loud complaint from Boeing over Delta’s surprising 2016 order for 75 CS100s. It is widely believed that Delta agreed to pay less than $20 million each, vs. the $32 million that Boeing estimates that it costs Bombardier to actually build the planes. Boeing cried foul, alleging Canadian government bailouts were allowing Bombardier to dump its products on the U.S. market in violation of international trade agreements and U.S. law. Commerce, in response, said it would slap a nearly 300% duty on any CSeries aircraft imported to U.S. airlines as a penalty for the company’s acceptance of market- and price-distorting government bailout money.

Barely three weeks later Bombardier announced that Airbus will take a 50.01% stake in the CSeries program (not in Bombardier itself) and will begin building CSeries planes for delivery to U.S. customers at its plant in Mobile, where it already builds Airbus A320s and A321s.  For half ownership of a line of aircraft nominally valued at C$4 billion ($3.2 billion)  Airbus has agreed to pay the whopping sum of C$1.

Bombardier itself will retain a 31% stake in the CSeries program and would continue to assemble CSeries planes at Dorval, Quebec, outside Montreal in order to comply with the terms of the Quebec provincial government’s investment. That investment requires Bombardier to keep a certain number of Quebec residents on the job. Quebec’s stake in the CS series would fall to just 19%.

If trying to make sense out of all that is challenging, just think how hard it could be to actually manage such a “company,” which is probably better understood as a product line that has multiple  stakeholders with competing interests behind it.

For starters, the folks at Boeing don’t buy the Bombardier-Airbus argument (which naturally is supported by Delta) that assembling the Canadian-designed and engineered planes from pieces made in Canada, Northern Ireland and China, will obviate the imposition of those high duties on planes eventually delivered to Delta and other U.S. carriers. It may take a year or more to deal with the newly threatened legal challenges from Boeing.

That, in part, is why Bombardier and Airbus say the deal won’t close until sometime in the second half of 2018. And if the legal fight gets really complex, it could take even longer for the deal to be consummated.

The early betting is that Boeing will lose any potential further challenges to the CSeries, in large part because Airbus and Bombardier cleverly have positioned it as a jobs-generator for U.S. workers in Alabama. Not only is that one of the most pro-Trump states in the nation, President Trump has made job creation one of his very highest political and economic policy priorities.  Yet, when matters get into the courts, as they are likely to do in this case, the results sometimes can be surprising. And even if the results aren’t at all surprising, the legal process often can take far more time to reach its conclusion than expected.

And until there’s a legal resolution to all such questions, it’s not likely that Airbus will want to spend much money or time on building and installing the tooling that’ll be necessary to churn out American CSeries aircraft in Mobile. Nor is it likely to begin hiring the several thousand people it’ll need to assemble, test, sell and support that program until all the legal issues are resolved a year or more from now.

That span of time – especially if it grows longer than expected – will give rival Boeing more time to work out some sort of competitive deal with Brazil’s Embraer, Bombardier’s (financially far healthier) direct global competitor in the shallow end of the airliner-making pool. Boeing and Embraer already have a small deal for technology sharing in place. And though there’s no guarantee it’ll actually happen, most analysts now expect Boeing to tighten its relationship with Embraer to compete better in the 100-150 seat end of the $125-billion-a-year global jetliner market.

Additionally, though the CSeries planes get high marks for their technology and economics Bombardier is not a European entity. And as only those who have spent any time around French-speaking Quebecois know, there’s a huge (and tense) cultural and linguistic gulf between French-speaking Quebec and France itself, where Airbus’ headquarters are located. That leaves open the possibility of significant difficulties developing around the “Aibus-izing” of the CSeries planes and their manufacturing processes.

An Airbus SE A321 being assembled at the company’s plant in Mobile, AL. Bloomberg/Luke Sharrett

Not only are the two companies dramatically different in corporate culture, size and reach, their engineering and design outlooks are – I’m told by engineers and designers who know about such things – dramatically different. Airbus clearly will be calling the shots. They will have a majority of seats on the CSeries program’s board and will appoint the CEO. But the CSeries are Canadian designs and products that are very different – and more advanced in some key technical ways –  from Airbus’s  largely French-German planes.  Will Airbus’ people adapt to the CSeries, or will the CSeries be adapted to the Airbus people and their technical standards and methods? The answer to that question could be the difference between success and failure of this somewhat unique arrangement.

Historically, there aren’t many examples of existing aircraft lines being taken over by other companies. But in the one obvious instance, Boeing’s acquisition of McDonnell Douglas led to the rather rapid demise of the three lines of planes being built at the time by McDonnell Douglas. The MD-11, an updated version of the venerable DC-10 tri-jet, lasted only three years after the merger, but that was expected. It competed against Boeing’s then-new 777, and was quite uneconomical by comparison. The MD-80 and MD-90 line of twin jets, both updates of the old DC-9 design, were also destined for extinction because they were older designs that were far less efficient competitors to Boeing’s own wildly successful 737 line of twin jets.

But the MD-95, a smaller version of the MD-80 that was in development at the time of the 1997 merger, was renamed the B-717 and first delivered two years after the merger. It had a viable niche market – one the CS100 now competes in – and very good operating economics. Boeing, however, always saw it as the red-headed-stepchild in its family of planes and put little effort and money into promoting it heavily with its airline customers. Not surprisingly production was discontinued in 2006 after only 156 of them were built. Had it remained in production and received serious backing from Boeing’s leadership today’s CSeries planes, and perhaps competing planes from Embraer, China, Russia and even Japan never would have been launched, meaning Boeing would have had that end of the market to itself.

Are the CSeries jets headed for a similar fate?

Probably not. That’s because they fill a gap in Airbus’ sales lineup at the low end of the market. Yes, the Airbus A319 is almost the same size, but Airbus hasn’t actually sold one of those in several years. That’s largely because it retains the higher operating costs of its larger stablemate, the A320, but fewer revenue-producing seats. The CSeries should solve that problem because its operating costs are well below those of the A320 series of planes.

But will the CSeries be able to compete with Embraer’s rival models (especially if Boeing buys into Embraer and gives those planes the same corporate backing Airbus’ is promising for the CSeries).

There’s also similarly-sized new designs coming soon from China, Russia, and Japan that could get toeholds in the market if the Bombardier-Airbus deal gets delayed beyond a year. No one seriously expects the Chinese, Russian and Japanese new entrants to make a dent in the U.S. airline market. But demand for 100-150 seat jets is strong in emerging and rapidly growing markets in Asia, South America, and Africa, and in much of Europe, where high frequency service aboard smaller jetliners serving relatively short routes increasingly is the preferred and most economical form of intra-Europe travel. Those upstart aircraft makers, plus Embraer could capitalize on any delays in getting the Bombardier-Airbus deal approved and the Mobile production line started.

Obviously, there are more questions than answers at this point.  Logically, one would expect that placing a quality aircraft design like the CSeries in the hands of a respected global powerhouse manufacturer like Airbus will lead to great success. And that may well happen, in time.