The Economic Face of Boeing’s Crashes

March 26, 2019
Editor(s): Anna Ruddel
Writer(s): Kate Chow, Thomas Galanti, Ivan Hasjim, Gordon Liu

The crashes of two Boeing 737 MAX 8 (M8), in quick succession, have in recent weeks put the airplane manufacturer under increasing scrutiny. This article examines the economic face of airline crashes: what it means for Boeing and airline operators in the short and long term. Against a trend of declining air tragedies in recent decades, the failure of two identical jets in quick succession is striking. It is also difficult to find a comparable series of events in recent aviation history.

Context

The first 737 flew in 1967 and has since emerged as the best-selling airplane in history, with over 10,000 planes produced and more than 5,000 planes outstanding. The M8 model is the latest addition to the 737 family, boasting 14% reduction in fuel consumption and carbon emissions over its predecessor. It was championed for its dual benefits to airlines and consumers: higher profitability and cheaper air travel. Nicole Piasecki, former Boeing vice president, articulated that the M8 would provide “max efficiency, max reliability and max passenger appeal”, and in doing so, is more attractive than newer, competing models produced by Airbus.

The two crashes claimed a total of 346 lives. The first, operated by Lion Air, crashed into the Java Sea in October 2018. The second, operated by Ethiopian Airlines crashed into mainland Africa in early March. The cause of the crash is disputed and an investigation is underway to find a definitive reason. However, according to initial reports the crashes are likely attributed to  automated flight software called the Manoeuvring Characteristics Augmentation System (MCAS). The MCAS is a system that prevents an aircraft from stalling, by automatically lowering the plane’s nose when the aircraft is pitched too steeply or flying too slowly. The MCAS receives information from the angle of attack (AOA) sensors located on the nose of the 737 M8, which measure the angle at which the aircraft is pitched. If the aircraft is at risk of stalling, the system forces the aircraft to a nosedive. This was suspected to be the cause of the two crashes, as the MCAS was able to move the aircraft in the opposite direction of a pilot’s intentions, rendering their attempted correction useless and eventually losing control of the aircraft. The main problem that potentially lies here is Boeing (and airlines)’s failure to train pilots adequately on the new technology; in some cases they were not aware it even existed.

Product flaws in the airline industry lack many comparable examples: in many other sectors, if a product is faulty, companies can rely on a number of channels and workarounds to alleviate the issue. These may be alternative products that can be substituted or a rapid fix in a supply chain where the product is delivered within a matter of hours. The nature of the airline industry, in all of its peculiarities, does not have this luxury. The capacity to identify the flaw and fix it, coupled with the timeline and cost of producing a single plane means that the fault in Boeing’s 737 MAX 8 has long-lived consequences for all stakeholders.

 

Short and Long Term Prospects: Boeing

What do two accidents on one of the world’s safest mode of traveling, mean for Boeing? As an airplane manufacturer with a popular model, the 737 Max line was designed to cater to the industry demand for narrow body long haul models, fuel efficient and technology dominated airplanes, and extra seating capacity.

Orders of the 737 Max model consist up to 76% of total orders of the entire 737 line, outpacing Boeing’s competitors with similar models such as the A220 Airbus with cheaper prices.

There is a short term risk to Boeing – the cancellation of orders of the Boeing 737 Max 8, worth more than half a trillion dollars, pending a thorough investigation into the crashes. However, the growing market demand for air travel in Asia outlines a strong underlying growth opportunity for airlines within the Asia-Pacific region, showing promising signs if Boeing is able to implement new procedural requirements within the next 6 months. The future success of the company is backed up by its other divisions of business. The likelihood of potential cancellations lies in the results of the investigations underway into the crashes, and Boeing’s capacity to fix the potential system issue promptly. Moreover, Boeing observed a 10%drop in share price after the recent disasters, causing reputational damage and rattling investor confidence.

The long term risk to Boeing is perhaps not as severe. The airplane manufacturer exists in a duopoly vacuum, where it would be virtually impossible for a third player to capture substantial market share. It is unlikely Airbus, with a long list of orders, and limited supply capacity, will come to the rescue. The current duopoly structure between Airbus and Boeing is also unlikely to change given existing powers in intellectual property, research and development, and global presence. Even to the extent that airlines drop their orders, they may still opt for older Boeing models with better safety records. In addition, the fact that both crashes occurred shortly after take-off, and not during mid-flight, indicate that consumers may be incorrect to assume detrimental structural issues with the new model, as it now emerges that the MCAS system may be at fault. This points us towards operational inefficiencies all throughout the supply chain and could possibly be the result of several key parties operating within the carrier industry. Despite a dip in investor confidence, the fact that Boeing’s stock price still remains higher than in previous months suggests that market consensus is that the problem – whether a software or operational – can be remedied fairly efficiently, and does not indicate a wholesale redesign of the plane.

Short & Long Term Prospects: Airline Operators

Harm to commercial airlines may be more severe and apparent in the short run, specifically to Southwest Airlines, American Airlines, and Air Canada, who constitute the majority of existing airlines with the largest 737 Max fleets. The following graph provides an insight into the airlines most likely to be affected by the grounding of 737 Max’s.

This would not only force the airlines to scale down on the number trips taken in a given day, but also to utilise it’s existing resources as efficiently as possible. Here is a significant challenge; given the time it takes to order and make an airplane, these companies cannot simply substitute a different plane in overnight. Globally, all airlines have grounded their fleets, resulting in prolonged delays for travellers and cuts to profits for companies. For instance, American airlines continues to cancel over 90 flights a day. The loss represents potentially billions of dollars for the industry. Consumers are likely to be affected by delays for a considerable period as aircrafts remain grounded.

The economic fallout from the recent air disasters is likely to be prolonged and unpredictable. Regardless, it will continue to impact on a variety of stakeholders for the foreseeable future.

The CAINZ Digest is published by CAINZ, a student society affiliated with the Faculty of Business at the University of Melbourne. Opinions published are not necessarily those of the publishers, printers or editors. CAINZ, its Partners and the University of Melbourne do not accept any responsibility for the accuracy of information contained in the publication.

Meet our authors:

Anna Ruddel
Editor
Kate Chow
Writer
Thomas Galanti
Writer
Ivan Hasjim
Writer
Gordon Liu
Writer

Gordon is a 3rd year Bachelor of Commerce student majoring in Finance and Marketing. He is an amateur writer interested in technology, sustainability, and the future of work.