Smaller Narrowbodies May Benefit As Airlines Readjust Networks

As fleets of widebodies fly into storage around the world, many of them never to leave, the coronavirus crisis poses equally challenging questions about the future of the smaller single-aisle aircraft at the other end of the capacity scale.

But what will that impact be? While it is virtually impossible to predict with any certainty, there appears to be a growing consensus that smaller is better—particularly as operators struggle over the more near-term recovery period forecast for the next two years. To further complicate matters, some observers believe not all small airliners are created equal and that the recovery scenario may favor the fortunes of some models and families over others.

• Amid expected production slump, the Airbus A220 may benefit
• Boeing/Embraer joint venture approval is key for E2 outlook
• Opportunities lie in rightsizing to markets once airlines restart orders

In this context and given the relative state of health of the two biggest manufacturers—Airbus and Boeing—going into the COVID-19 pandemic, it seems the European company with its A220 and smaller A320/A320neo may be better positioned. Boeing’s long-stalled efforts to recertify the troubled 737 MAX, added to the scenario in which airlines will face acute overcapacity problems even without taking any of the large numbers of MAX aircraft in storage, do not appear to bode well for a speedy recovery.Compounding the issue for Boeing is the 737 production halt, which seems likely to extend beyond even the provisional “worst-case” conditions originally considered last December. Growing delays to recertification of the aircraft and the termination of deliveries in 2019 have significantly affected the company’s cash flow, forcing it to consume a $13.8 billion drawdown loan much faster than the financial markets expected. Wall Street’s subsequent reaction to Boeing’s increased debt and lowered credit rating, exacerbated by the onset of the COVID-19 pandemic and its impact on air travel, triggered a collapse in the company’s share price in March. Later the same month, Boeing also appealed for state aid.

Not surprisingly, the signs of an accelerating erosion of the impressive MAX order backlog have begun to show. Following order losses in 2019 largely connected to the collapse of India’s Jet Airways, the latest figures show that by the end of February, before the full impact of the pandemic was felt outside of Asia, Boeing had already had a net loss of 43 orders for the year. 

In early April, Avolon offered a strong indication of what may come from the global leasing community in the next few years. Avolon canceled an order for 75 737 MAXs that would have been due for delivery between now and 2023, reducing its own exposure to what is likely to be a very weak airline market. The lessor also deferred deliveries for nine A320neos from 2020 and 2021 to 2027 or later.

But even as the backlog takes a hit, there is the possibility that order substitutions may also take place as airlines attempt to adjust for midterm capacity needs. Whether this is reflected in an uptick for orders of the slow-selling 737-7 variant of the MAX remains to be seen. Though Boeing does not provide a breakdown of MAX orders, the smallest member of the family is thought to currently account for only around 50 aircraft against 3,000 for the -8, more than 450 for the -9 and more than 520 for the yet-to-fly -10 stretch.

For now, deliveries—and even less so, orders—do not indicate that small aircraft are doing better. In fact, the Aviation Week Intelligence Network Fleet Discovery database shows such aircraft were worse off going into the COVID-19 crisis than the larger narrowbodies, although the numbers reflect previous market trends more than the impact of the crisis. But those numbers cannot be ignored either.

From January to March, Boeing delivered just two narrowbodies (both 737-800s); Airbus handed over 104 single-aisles in the period, already well below its targeted average output of 63 aircraft per month. But they included no A319s or A319neos and only eight A220s.

The A220 could be a winner in relative terms, as its combination of relatively small size, low unit costs and long range not only enables it to fly in secondary markets but also to replace larger narrowbodies on primary, longer-haul routes on which demand is temporarily suppressed. An Airbus production forecast by Agency Partners analysts envisions the A220 as the only model that can sustain increased production rates over the next seven years, albeit at lower numbers than initially planned.

Analysts Sash Tusa and Nick Cunningham forecast that Airbus will be able to deliver 65 A220s in 2020, compared to 48 in 2019. The number will rise to 97 in 2022 and stay around that level for several years, they say. Airbus had hoped to bring the A220 up to the current maximum possible rate of 14 aircraft per month, or close to 170 a year, by the middle of the decade, a target that now seems elusive.

But it is growth, at least. According to Agency Partners, Airbus will still be able to deliver 541 A320neo-family aircraft this year, roughly in line with 2019, but production will fall to just 319 in 2021 and not recover to precrisis levels until 2025.

The situation is even worse for Embraer, which delivered only six commercial jets in January-March—one E175 for American Airlines, one 190-E2 each for Air Kiribati and Helvetic Airways and one E195-E2 for Azul. While the E2 is generally accepted as a very efficient, well-designed aircraft with good seat-mile cost and even better trip-cost performance, its sales have been disappointing, with too few key orders from AerCap, Azul and KLM Royal Dutch Airlines, the type of orders that meet Embraer’s hopes of moving the E2 more into the mainline market.

For Embraer, timing and the market environment were horrible. In the years of high growth, business was too good for airlines to buy in to Embraer’s rightsizing argument in a meaningful way. It was still OK to fly an A320 or 737-800, even if that one midday flight was not generating profits. In the overall scheme of things, it did not matter. Then Airbus bought the former C Series program from Bombardier, forcing Boeing and Embraer to react.

The resulting joint venture, Boeing Brasil-Commercial, in which Boeing plans to own an 80% stake, has not yet received regulatory approval from the European Commission. While most observers agree it will ultimately get the green light even in Europe, the pre-COVID-19 deadline for the decision was the end of June, and Boeing and Embraer had hoped to close the deal at the end of 2019.

There has been much speculation as to whether the transaction was being held hostage in the wider trade dispute between Europe and the U.S., which has led to tariffs on Airbus aircraft imported into the U.S. But people with close knowledge of the matter say the issue has more to do with internal commission matters and how to exit an investigation that has gone too far in a face-saving way.

But even if Boeing Brasil-Commercial were to receive the last missing approval this summer, it would be cleared to go at the worst possible moment. Boeing would have to pay $4.6 billion for the commercial part of a company that the stock exchange currently values at $1.5 billion including its defense and business aviation segments. The low valuation may be temporary. But Boeing is asking for a government bailout on the order of $60 billion for itself and the supply chain, and may face political opposition to spending a significant amount on an acquisition in Brazil.

“Strategically, it is still a great partnership, and we have to get through the regulatory hurdles,” says Boeing Chief Financial Officer Greg Smith. “We will see how long that takes, but it still remains a priority for us.” Without the deal, Boeing will struggle to come up with an offering to compete with the A220, and Embraer would be left to compete on its own against Airbus and Boeing, a situation it has tried to avoid from the initial design of the latest E-Jet generation.

“My feeling is that this new climate will favor smaller aircraft, as long as they have necessary range and equivalent economics,” says Richard Aboulafia, vice president of analysis for the Teal Group. “For single-aisles, the A220 will be more relevant than ever, particularly now that Airbus is getting its costs in line with the rest of its product line.” Whether the same positive push also applies to the Embraer E-Jet family is still to be determined. “Much depends on Embraer being able to get its production economics in line with Airbus’. If they aren’t, this is a 75% Airbus market,” he adds.

According to Bert van Leeuwen, managing director and head of aviation research for MUFG Bank’s global aviation finance division, the industry may well be facing two possible scenarios, both of which point to significant downsizing across both single- and twin-aisle sectors. “After the COVID-19 crisis, the world will experience a major economic recession. With high unemployment, pensions and so on will be under pressure due to the collapse of the stock markets and some major corporations in bankruptcy, while Italy and other countries will be in crisis.”

He says one result will be that a fear of flying, along with economic issues, will reduce the number of passengers significantly. “[A]irlines will have to compete more intensely for passengers,” he says. “This may imply higher frequencies and smaller average aircraft sizes. With low fuel cost, the less favorable fuel burn per seat-mile for smaller planes won’t be that much of an issue for the airlines. Ultimately, A321s or 737-900s may even be parted out to support A319 or 737-700 fleets, as airlines won’t be in buying mode for new planes.” 

Leeuwen adds: “Another element to consider could be that passengers will strongly prefer smaller aircraft and point-to-point services rather than connecting through busy megahubs, to reduce the risk of contagion and crowded boarding areas.”

The second, equally gloomy, scenario builds on the premise of the first. “Now, let’s assume there will be more airline defaults or consolidation,” he says. “The few surviving airlines may compete on price, mainly to stimulate demand, less so to gain market share. This would imply that airlines will not increase frequencies but will focus on lowering seat-mile costs. They can achieve this by consolidating flights and deploying larger aircraft, like the MAX 9/10, A321. On long-haul [transatlantic] routes this may imply the A321neo XLR will replace even more twin-aisles.”

This sentiment is shared by Aboulafia. “The A321neo will continue to be hugely relevant as a widebody replacement. The 787, too, but if you don’t need its range and capacity, the A321neo will win,” he says.

“Initially, we will see increased utilization of smaller airplanes,” Leeuwen says. “But by 2023 we may slowly return to normality. As it stands right now, I don’t expect airlines to go out on a shopping spree to buy additional [smaller] aircraft. Leasing may be an option.”