The 2014 Aerospace Forecast

Aerospace continues to be a leading growth sector in the overall U.S. economy.

Boeing, Airbus, Bombardier, and Embraer forecasts for the next two decades are effulgently optimistic. Near-term, the commercial aircraft manufacturers filled order books with record numbers of aircraft in 2013, from single-aisle regional jets to intercontinental, twin-engine wide-bodies. Many of these orders originated from Middle East, Asian, and African customers, but most of the new, fuel-efficient jetliners won’t be delivered until 2017 and beyond. The same can be said of major turbine engine producers, with GE, CFM, and Rolls Royce racking up record orders also.

All of this growth has been tempered by draw-downs in defense spending for Iraq and Afghanistan, on-again-off-again mandated sequester cuts, and uncertainties about the Pentagon’s priorities for the funding that is appropriated.

AMD asked several aerospace industry experts to weigh in with their prognostications for this year exclusively for our readers. Among the topics are global markets, business operations costs, investment in processes, government regulation, and trends.
 

Commercial transport

Frost & Sullivan Aerospace and Defense Industry Manager Wayne Plucker predicts that the air transport aircraft market will have another banner year in 2014, at least for Airbus and Boeing. The demand is far highest in Asia and the Middle East. He thinks Embraer and Bombardier will have flat years as the regional aircraft market will remain soft. However, both of those companies will benefit from continued good sales of large corporate jets, as will FalconJet and Gulfstream. Airbus and Boeing will also benefit from that trend on the very large business jets, Plucker notes, while medium and light business jets will continue to be soft markets.

“Turboprops continue to defy the reports of their market’s death,” Plucker says, noting business jet and turboprop demand is still predominantly North American and European-driven. Rotorcraft demand is good, he says, but it is moving away from North American and European markets. There will be flat growth in western countries and significant growth in Asia and the Middle East.

“General aviation is a basket case. The market is losing manufacturers every year,” Plucker says. An example of industry consolidation was the year-end announcement that Textron – with its Cessna division – was acquiring the assets of Beechcraft. The market is flat to declining slowly from its current low production, Plucker notes.

“Normally, some of the deferred new aircraft acquisitions would prompt significant number of modifications, but the overall economic uncertainty has resulted in limited modification revenue,” Plucker adds.
 

Military markets

“The military acquisition process has been significantly affected by several factors,” Plucker says. The U.S. is still the largest single military market, but defense cuts have already started. Europe has been under spending restrictions for several years. He observes that this has resulted in the end of many fixed-wing aircraft procurement programs and delays in new starts.

“2014 will be another down year for fixed wing aircraft globally with a market decline at a 7.6% CAGR through 2018,” he states. At that point, F-35 [fighter jet] and KC-46 [refueling tanker] production will start an up-trend. “Rotorcraft spending by the U.S. military is declining at a 9.7% rate through 2018 and is currently dependent on remanufacture for much of that revenue.” Conversely, the European market will grow through 2017 and then resume a general decline, as will the Middle East, according to Plucker. Asia is the clear growth area contributing to overall market growth through 2018, he says.

UAV/UAS

The UAS marketplace is a study in changing dynamics. Plucker says, “Virtually every country in the world is looking at the potential of purchasing UAS vehicles. The market driver has been the U.S., but actual platform purchases are declining.”

U.S. spending for UAS will decline, but mission packages for the UAS will soften that decline, Plucker believes. “Globally, there is interest almost everywhere, much to the joy of Israel who is the greatest provider of export UAS.” A number of countries are developing or marketing homegrown UAS, but that is a fairly small market, other than China, he notes.
 

Spacecraft/satellites

“The satellite market changes only slowly since it takes many years for the satellite to be designed, built, and launched,” Plucker says. Demand remains good with a solid, if unspectacular growth rate. Launch services have been the most dynamic area as new competitors have entered the market and older competitors have ceased offering the service. “The demand for launch services for satellites follows the satellite market, but is decremented by the reduction in civil launches for NASA and ESA,” Plucker says.
 

Business operations and costs

On the matters of personnel and labor, Plucker limits his comments to the United States, where he notes the aerospace and defense (A&D) market has always had layoffs and employment challenges, especially the defense industry, which is laying off thousands.

Many efforts are underway to minimize training costs. “For those who are involved in virtual training, this may be an opportunity,” Plucker says. There is also a critical need to replace baby boomers and to interest young people to pursue engineering, aircraft maintenance, and in being pilots.

In the areas of real estate and financing, Plucker says most real estate costs have moderated. Renting versus owning has become more expensive as fewer loans are readily available.

Investment in process – machines and machine tools – is restrained as companies are uncertain about market viability and economic conditions, according to Plucker. The credit crunch has a role in that reluctance. Those with strong order books and good cash positions are ordering new machines. “Those machines are aimed at production efficiencies and replacing highly skilled people who are retiring,” he explains. “The rest of the industry must follow but can’t until cash positions are better.”

Robots are finding new places every month. However, small production runs, and the initial cost of robots, tends to limit the use to larger manufacturers.

Plucker sees that contracts are increasingly tied to unpredictable production demand. “That is resulting in significant difficulty in capacity and schedule management. It has also resulted in very poor operating margins for second and third tier suppliers – often averaging near zero.” This is unsustainable.

Government

“The federal budget is still looking for $2.3 trillion in cuts over 10 years,” Plucker says. “That will impact A&D significantly since defense represents roughly 50% of total U.S. government discretionary spending.”

Additionally, Plucker says aerospace will be affected by reductions to the FAA and NASA budgets. States are being affected by federal budget cuts and are challenged to meet their demands and cities are in even worse shape, he warns. “Anyone relying on government spending will be challenged.”

There is a bright spot concerning regulations, where inactivity in Congress has lowered the rate of rulemaking – other than administrative rules from federal agencies. Also, “There is a genuine movement in the Congress to relax ITAR restrictions,” he notes. “They acknowledge that it is very restrictive on U.S. global competitiveness.”
 

Trending – or not

Among the recent trends that get attention in the marketplace, some are now overrated. Plucker is of the opinion that the BRIC countries are not the attractive targets that they were 5 years ago. “China carries IP [intellectual property] issues. Russia is a red-tape conundrum. India wants co-production and IP sharing and has many government bureaucracy issues. Brazil is still a good market, but government spending is inconsistent and unpredictable.” He thinks the post-BRIC countries such as Vietnam and Malaysia may offer better opportunities.
 

Rotorcraft ups & downs

In a separate report on rotorcraft, Frost & Sullivan analysts say the military helicopter industry will decline by almost half by 2018. While DoD budgets are slashed, civil helicopter purchases will grow modestly to support a broader range of industries. The declining defense budget is also driving trends of upgrading and remanufacturing existing platforms rather than funding new helicopter programs. Conversely, the civil helicopter market has rebounded after the 2008-2009 recession that resulted in a lack of financing to support civil helicopter purchases. The improving U.S. economy has allowed for recapitalization of old aircraft as well as new purchases to support growing demand from industries such as emergency medical services, oil and gas.

Mergers & acquisitions

Andrew Carolus, managing director, Mesirow Financial’s investment banking practice, looks at the aerospace market from the standpoint of mergers and acquisitions. A circumstance making his analysis more difficult is what he describes as “no clarity” coming out of Washington regarding the shrinking defense budget and what programs will get priority. “We won’t get an understanding of who specifically gets hit until the second half of 2014,” he says.

Carolus sees a flat market in 2014 for defense products, but notes some legacy programs continue to be attractive, such as retrofitting the F-15 fleet with upgrades instead of buying more F-22s, although there are fewer of these programs and some may just go away. He says smart small- and mid-market companies are looking for international programs or equipment the U.S. is selling to its allies.

One trend driving recent mergers is big companies buying mid-size companies for a particular expertise. Liquidity in the market and cash reserves generated from a decade of defense-business has set up perfect conditions for companies to grow through acquisition instead of internally. Companies are acquiring for capabilities to capture a larger portion of value up and down the supply chain, says Carolus, “because they want to touch the customer in a bigger way.”

As an example, he names Precision Cast Parts, which has expanded capability over the last several years to provide a complete solution to customers, with casting, forging, swaging, and heat-treating, in addition to machining.

“We are very bullish on 2014 simply because there is a pent-up demand,” Carlous says. Barring any unforeseen liquidity crisis or banking crisis, he is of the opinion that all the conditions are ripe to see an acceleration of mergers and acquisitions in aerospace. “Those companies that have exposure to commercial aerospace as opposed to defense will garner a higher premium in terms of valuation and prospects.”

www.frost.com
www.mesirowfinancial.com

About the author: Eric Brothers is senior editor of AMD. 330-523-5341 • ebrothers@gie.net.