Airbus at the Crossroads

Yesterday's announcement of a third round of delay, this time for roughly a year, in the delivery of Airbus A 380 superjumbo airliners drove down shares of parent company EADS so far that trading in them had to be suspended on the Paris arm of the Euronext market after they breached their 10 per cent loss limit. Trading resumed, but the shares drifted even lower.

The A 380 has now become the largest scale business fiasco in the history of manufacturing. That is very bad news indeed for European ambitions to displace the United States as the epicenter of the world civil aviation industry. Staggering financial losses from the delay — over six billion dollars at latest count — loom, and the reputation of Airbus is so tattered that its largest customer, Emirates, accounting for almost 30% of orders for the plane has issued a coded threat to cancel some or all of its massive order, and is reported to be talking with Boeing about ordering a smaller rival in the superjumbo game, the latest stretch derivative of the 747 lineage, a model; clearly aimed the jugular of the A 380.

The A 380 was launched to kill off the 747, a design that is over four decades old. Instead, with low cost tweaking of an airplane that has already delivered 1000 copies, Boeing's fangs are within millimeters of ripping into the underbelly flesh of the A 380 order book. It is an open question how many more wounds can be sustained by this product, which is already staggering from self—inflicted damage.

Yet there is a ray of hope. A savvy and experienced new boss has taken over Airbus management, and he is taking smart steps to fix the problems. Christian Streiff, an Alsace—born Frenchman with a Germanic name, who earned high marks for smart management at glassmaking giant St. Gobain, may yet pull off a turnaround at Airbus.

If Streiff succeeds, he will enter the history books alongside business legends Lee Iacocca and Carlos Gohsn, as the savior of a massive global manufacturing empire.

Will Streiff save the company? The answer will take years to become apparent. At stake are tens of billions of dollars and euros, tens of thousands of jobs, the survival of the company, and the momentum of further unification of Europe.

What went wrong

The company identified the installation of wiring and wiring harnesses as the source of the previous delays. Yesterday, it began to provide more detail, and own up to the classic business blunder of the age: a failure to use compatible computer systems in different parts of the company whose efforts must be tightly integrated. Its official press release reads:

the root cause of the problem is the fact that the 3D Digital Mock up, which facilitates the design of the electrical harnesses installation, was implemented late and that the people working on it were in their learning curve.

Word had already gotten around the industry that this was the case.  Because Hamburg, where the interior fittings of the A 380 were installed, used one type of Computer Aided Design (CAD) platform, and Toulouse, the center of Airbus manufacturing, used a different and incompatible CAD system, changes by one were not reflected in the design work of the other. Reportedly the company spent much effort trying to devise a tool that would link the two systems, but it never worked, leaving changes to be accomplished and documented almost by hand. As one observer pointed out to me, even if only one in a million of those human changes is wrong, that amounts to multiple defects per airplane, so complex are the hundreds of miles of wiring per airplane.

How could such a monumental obvious blunder have occurred? We don't know, but Airbus says that its investigation is continuing. Quite ominously for previous management, the New York Times reports this morning,

The EADS board said that it would investigate the conduct of individual managers at the company, a European alliance of the governments of France, Germany and Spain that controls Airbus.

EADS said it would examine the actions of managers at Airbus and EADS during the period preceding the announcement in June of the A380 delays. It said it was reserving the right to pursue legal action against managers.

'Shareholders have lost billions of dollars,' the EADS co—chief executive, Thomas Enders, said. 'This is very serious. We are not excluding anything.'

This likely refers to sale of stock by the family of former executive Noel Forgeard. But forensic examination of the factors weighing on the decision to proceed with an incompatible CAD system ought to be part of the inquiry. Particularly the matter of governmental pressure on the company to downplay problems and look good to the electorate for awhile.

The CAD divide echoes the nationalistic passions which the European Project, as it is known, was supposed to relegate to the ash heap of history. To unify, either the Germans were going to have to put aside current tasks and spend a year or so learning to do their jobs on a radically different system, or the French would. Computer language in the same role as national language, this round.

Nobody wanted all that down time, all those teething pains, all that expense, and all those unfortunate deadlines looming ever closer. The French must have insisted the Germans change, and vice versa. So, it would appear, they decide to muddle through.

There is probably much more more than this one mistake, though.  Rumors still abound that the A 380 unexpectedly gained weight when structural reinforcement was deemed necessary. This rumored redesign may not only affect range, fuel efficiency and other guarantees to airline customers, it also may have caused last minute changes to the wiring designs. Last minute changes that would bedevil a flawed, un—integrated computer design regime.

Every single change to one part of the hundreds of miles of wiring has ramifications for other parts of the wiring, which must in turn be changed, causing a cascade of necessary changes. Just the sort of thing at which an integrated CAD system excels.

The problem was magnified because the Airbus marketing effort promised each airline customer as separate custom cabin layout. The wiring for each airline version is different, multiplying the magnitude of the redesign effort. Solve a problem for Singapore Airlines, and it helps not at all with Emirates or Lufthansa.

Survival Surgery: Hardball with Germany

Not all details of Airbus' changes are hammered out, and a critical internal report is still four weeks away. But the outlines of the bet new Chairman Streiff is making are emerging. He is following the playbook for turnaround artists inheriting troubled companies: get the problems exposed early, take all the bad news upfront and write down earnings, so that future improvements are not obscured by lingering bad news. Then identify and  correct the underlying sources of the problems.

Streiff has declared a bold move of parts of of Airbus A 380 assembly from depressed Hamburg to booming Toulouse. This is an enormous undertaking, as in all probability a new building will need to be constructed to house the extra steps in France. But everyone finally will be together, and they will at last use the same CAD systems. But workers will need to be trained and a vast amount of material and machinery moved. This, too, will absorb considerable time and resources.

Certainly part of the reason the work was divided in the first place was to throw a bone to Germany, which has footed a good part of the subsidy bill European taxpayers have paid for the gloire of Airbus and the France—based airliner business.

The Hamburg works will receive in turn an assembly line housed in Toulouse that is currently building the hot—selling A 320 single—aisle jetliner, the bread and butter airplane that still fills Airbus order books. Hamburg is already assembling variants of the A 320, the smaller versions like the A 318 and stretch versions like the A 321.  As a newer facility, Hamburg may even be more efficient than Toulouse at putting them together.

But Germans are hardly happy with the news. UPI reports,

Hamburg area officials are reportedly enraged at prospects of layoffs. The German state has spent $955 million securing the future of the plant, which was supposed to make A380 cabins.

The German finance secretary is calling for Berlin to take a direct stake in Airbus to prevent the plant from being switched to cheaper sites in Russia, India and China. Specifically, Thomas Mirow wants the state—bank Kfw to buy a stake in Airbus from DaimlerChrysler AG, which owns 22.5 percent of the company.

The finance secretary correctly perceives that Streiff is blackmailing Germany.

The company had previously announced that it was exploring assembly of the A 320 in China. Additionally, the company is exploring further steps to move manufacturing and supply operations to locations where dollars are used to denominate value. A Russian state—controlled bank has already announced it wants to acquire shares in the company, and Russia has unused facilities and skilled workers able to assemble aircraft, and they don't receive German (or French) levels of compensation.

Ambrose Evans—Pritchard of the UK Telegraph reports,

The French government has raised its effective stake from 15pc to 17.3pc, using the state—owned Caisse des Depots to buy stock from the media group Lagardere. Berlin risks losing control altogether if Daimler floats its shares on the open market. Proposals for direct intervention by Berlin have been shot down so far by the Christian—Democrat wing of the Left—Right government of Angela Merkel.

However, the Suddeutsche Zeitung said the dispute had become a major bone of contention. The newspaper said Chancellor Merkel held a crisis meeting with her top ministers over the weekend.

A government spokesman said there were no plans to buy EADS stock "in the near future".

So already Airbus is experiencing creeping nationalization (albeit on a multinational scale) with the French government and the Russian government in effect taking more of the equity. If Germany is successfully blackmailed into taking the Daimler shares, on penalty of losing Hamburg jobs, the private sector role in future Airbus decisions will be even more muted, as politics takes command.

Power 8

Streiff has announced what appears to be a fundamental re—jiggering of the Airbus business process, and has adopted the rather opaque title 'Program 8', possibly indicating that its contents are not yet well—defined. After all, the company still has not yet completed its management audit. The company's opfficial statement reveals only goals, not plans.

Power8 programme. The objective of the programme is to reduce costs, save cash and develop new products faster. The development cycle times are to be reduced by two years while the overall productivity is to be increased by 20 per cent. The programme aims at annual cost savings of at least £ 2 billion from 2010 onwards and delivering some £ 5.0 billion in cumulative cash savings by 2010.

Streiff was a bit more forthcoming in a conference call yesterday. 

Chief Executive Christian Streiff said on Tuesday further delays in A380 deliveries would force Airbus to seek more engineering input from parent company EADS and suppliers.

This sounds a lot like the approach Toyota and other Japanese manufacturers have taken for decades, now widely emulated elsewhere, to entrust certain suppliers with work formerly performed by the final manufacturer. Some of these suppliers could switch from euro—denominated operations employing expensive (and tax—paying) Germans, French, Spaniards, and others, to non—euro—bloc operations employing, say, Russians, Chinese, or even Americans.

It is a tough business, and Streiff can rightly claim that this is necessary to save the company. But will the European public get sick of subsidizing the move of jobs overseas? If they do become alienated, will Airbus receive the life support it might need for years?

The dollar overhang

Previous Airbus management realized that because it was going to sell its airplanes to airlines for dollars, while paying most of its bills in euros, it was exposed to massive foreign exchange risks. Appropriately, they hedged that risk with futures contracts. All very competently done.

Except that those futures contracts, which protected the company from the subsequent decline in value of the dollar, were timed to expire about the time the company was expecting to get paid. Which was directly tied to the delivery schedule. The first A 380 to Singapore Airlines was supposed to have been delivered and paid for by now.

Now that delivery is delayed, so is payment. And the hedging is expiring. A very bad decision begat problem upon problem upon problem. And the end is not yet in sight.

The saga continues

There will be more news breaking on this story, both in the short term and the long term. Business media outlets might well consider opening a bureau in Toulouse, or at least establishing a Airbus Desk in their newsrooms.

Like the old serial drama The Perils of Pauline, the story is a cliffhanger. Right now Airbus dangles from the order book cliff, its fingernails barely holding on to orders from Emirates, financially troubled Malaysian, Virgin Atlantic, and others whose dissatisfactions are not yet on the public record.

But even more worrisome, if such is possible, is the fate of the new A 350, a medium—sized jumbo intended to compete with Boeing's 787 Dreamliner. All the money, energy, and especially the engineering resources that will be directed to overhauling the company, while overhauling the A 380, while training people on new CAD systems, while training assembly workers for new tasks, will not be available to catch up with Boeing in the category where demand is highest.

Boeing has booked up its production capacity for the 787 well into the future. That left a window of opportunity for Airbus if it could get the A 350 to market.

An industry hot line reports,

A350 XWB entry—into—service date appears to be sliding 6—12 months owing to the ongoing A380 wiring difficulties. At the Farnborough Airshow, Airbus said the 314—seat A350—900 would be the first variant to enter service, in mid—2012. However, sources at Airbus told ATWOnline that "the program is likely to slip into 2013 because all the engineering talent is focused on the A380," echoing a previous statement by ILFC [International Lease Finance Corporation — a huge customer for passenger jets] Chairman and CEO Steven Udvar—Hazy

Boeing, which has had its past difficulties, but has played the product planning game remarkably presciently, could decide to add a second production line for the 787, and expand production capacity. That would enable the company to offer potential customers of the A 350 who might well doubt the worth of an Airbus promise to deliver a new model on time, the option of buying a 787 instead without a delivery slot in the remote future.

The A 350 is far more important to the future of Airbus than the A 380. Right now the decision has been made to forge ahead and deliver the superjumbo no matter what the cost. But if the cost is a crippled A 350, late to market, the future of the company will look very dim.

Thomas Lifson is the editor and publisher of American Thinker.