Insight: Comparative Economics – MAX7 vs. A220-300

The comparative economics of aircraft is a key driver in fleet planning decisions. Many factors come into play in analyzing the differences between models, particularly when there is an incumbent aircraft with existing infrastructure in place. Such was the recent decision by Southwest Airlines to choose the Boeing 737 MAX 7 over the competing Airbus A220-300. Of course, airframe OEMs know one game quite well, which is pricing to the point of economic indifference. Each of the manufacturers has a good idea of how well their competition will perform in terms of fuel burn, maintenance costs, training and crew costs, landing fees, and the intangibles such as ground support equipment and initial spares provisioning. An economic analysis of all of the factors will typically find one aircraft a few percentage points better than another, which forces the competing manufacturer to reduce margins and cut price. A Critical Order for Boeing The recent decision at Southwest Airlines to order additional Boeing 737 MAX aircraft was critical for Boeing. Southwest is the largest single customer for the MAX, and the defection of Southwest, which has been an all 737 airline for most of its existence, would have sent a vote of no confidence to the industry on the MAX family. As a result, this order was a "must-win" for Boeing, and we are certain that pencils were well sharpened on this deal. Airbus also had a strong incentive, which was to gain a new customer in the US, especially one that is currently an all Boeing 737 operator. A win here would have been a coup and would have likely resulted in an expansion of the Mobile final assembly line. But this order was not as crucial for Airbus as it was to Boeing, which needed to win it at any cost. Compounding the issue, Boeing owes Southwest a considerable sum for a contractual provision that no additional simulator training would be required for the MAX, in addition to costs for delayed deliveries and aircraft downtime. Taking those payments via new airplanes is one way for Boeing to minimize its cash outlays. Let's take a closer look at the comparative economics of the two aircraft. Operating Costs There are four major factors that make up the bulk of the operating costs of the competing aircraft. We've taken an opportunity to provide an independent comparison of each of them to determine how each aircraft stacks up, and what the impact on price would need to be to achieve economic equivalence. Such an analysis needs a series of assumptions to create an apples-to-apples comparison between the aircraft. Typically, for this type of analysis, our requirements presented to aircraft OEMs run several pages long, with specifications ranging from passenger layouts to the weather conditions (e.g. ISA standards) on which performance estimates are made. Airlines, leasing companies, and other buyers want accurate apples-to-apples comparisons, while most OEMs try to skew or overlook assumptions to show their model in the best light in the economic projections they present. While OEMs often speak of seat-mile costs, fleet planners tend to look at the costs for operating the aircraft on a certain mission, assuming that the number of predicted passengers for routes on which the aircraft are required would be the same for each type. While the number of seats may differ between the two aircraft, if both are above the expected traffic levels, either would fit the bill. In this case, there is a difference of about 5 seats between the larger MAX 7 and the smaller A220-300 in Southwest's typical configuration. For this analysis, we focus on the four largest elements of cost, fuel, maintenance, crew costs, and landing fees. The remaining expenses, such as initial provisioning, tooling, and training, are less significant and can be estimated separately from the operating cost analysis, as they are primarily one-time items. Fuel Burn The A220 is much lighter than the 737-7. Both have fuel-efficient engines, the Pratt & Whitney GTF and the CFM LEAP, respectively. While both engines are fuel-efficient, the lighter weight and more modern aerodynamics of the A220-300 provide better fuel burn than the 737-7, as shown in the following table for 500 nm and 1,000 nm missions: The comparative economics advantage for fuel burn is to the A220 by 7.7% at 500nm and 7.8% at 1,000nm. Maintenance Cost There are two elements of maintenance cost that are critical. One is the engines on the aircraft, each of which can be covered by power by the hour programs from engine OEMs. The other is airframe maintenance, including the costs of heavy maintenance checks, which we amortize to a per-hour cost over the life of the airframe. This is an area where each manufacturer typically claims an advantage over the other but is also an area of profitability for the OWMs. Our independent analysis in the chart below shows an advantage for the A220-300 over the MAX 7 in both engine and airframe maintenance. The P&W GTF simply has fewer parts than the CFM LEAP and fewer parts translate to lower costs. Similarly, the newer design of the A220 was built with ease of maintenance in mind, including access areas for virtually every line removable unit (LRU) on the airplane. The comparative economics advantage goes to the A220-300 by 9.7% at 500 nm to 9.8% at 1,000nm. Crew Cost Crew costs are a significant element of cost, but for Southwest, would likely be identical irrespective of aircraft under union contracts. As a result, we have cost even for our analysis between the two aircraft, as the carrier would not wish to create A and B scales among its workforce. The comparative economics in this case is a tie. Landing Fees Landing fees in the US are based on Maximum Landing Weight and typically priced per 1,000 pounds. While rates vary considerably between a hub and non-hub airports, an average rate of $4 per 1,000 would be typical, and we utilized that assumption to calculate landing fees. The comparative economics advantage goes to the lighter A220 by 11.1% per landing. Total Operating Costs Based on our analysis, the A220-300 has a 7.3% comparative economic advantage over the 737 MAX 7 at 500nm, and a 7% comparative economics advantage at 1,000nm, as shown in our summary tables below. With a comparative economic advantage of more than 7% between the two aircraft, the differential in price needs to be significant between the two airplanes to maintain the advantage for Boeing. Let’s calculate the price differential that would be required between the two aircraft to make up the difference in operating costs. Let’s also assume a cost of capital to the airline of 3% for financing an aircraft in today’s market. With a block time of about 94 minutes for a 500nm mission and 159 minutes for a 1,000 nm mission, we calculate an average of about 126.5 minutes for a 750nm mission, about 2.1 hours. Southwest typically operates about 5 missions per day or 10.5 hours per airplane at an average stage length of 750nm. The cost differential between the aircraft would be about $448 per trip. Operating 5 trips per day for 360 days (allowing 5 days for maintenance downtime) the cost differential annually would be $806,000 between the two aircraft. We assumed a cost of capital for Southwest in aircraft financing of 3% and annual operating cost inflation of 2%. Calculating the net present value differential of the comparative economics would indicate that a price difference of $11.82 million per aircraft would be required to bring the two aircraft into parity, a significant advantage for the A220-300. Bottom Line If Airbus indeed offered Southwest a strong competitive bid, Boeing must have given Southwest an incredible price on the aircraft or earlier delivery positions than Airbus could have to win this deal. Boeing may also have chosen not to fight the Southwest positions on penalties and added costs from the MAX crisis, taking the potential of a long dispute delaying payments through potential litigation or arbitration off of the table. On the basis of operating cost, the MAX 7 is not the choice we would have likely made without incredibly large concessions from Boeing. Southwest must have received an offer that was simply "too good to refuse" from Boeing.

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