April 13, 2016, © Leeham Co.: Alcoa, a major supplier to Airbus and Boeing, lowered its 2016 guidance on anticipated lower demand for aluminum on lower orders for legacy commercial airliners and a slower than expected transition to new airplanes.
In a first quarter earnings call Monday, Alcoa didn’t specify which of the Big Two OEMs it was thinking of, or whether these might have been Bomabrdier and Embraer, for which it also is a supplier. But Sam Pearlstein, the aerospace analyst for Wells Fargo, believes it is Airbus and the A320/A350 programs.
“Alcoa reduced 2016 aerospace global sales growth guidance to 6-8% from 8-9% with large commercial aircraft growth now expected to be about 9% (vs. 15% previous forecast) largely due to lower orders for legacy models and a ”more careful” ramp-up of new models (which we presume means A320NEO and A350),” Pearlstein wrote in a note published yesterday.
“Alcoa expects lower aerospace demand in Q2 as a result of a slower ramp-up for next generation platforms due to the ”simultaneous launches of new technologies and inventory overhang at OEMs.”
Airbus is known to have had slower ramp-up and deliveries of the A350 due to supplier issues, principally for delayed deliveries of business class seats from Zodiac. Airbus delivered 14 A350s last year against a target of 15. It forecasts 50 deliveries this year.
Deliveries of Pratt & Whitney-powered A320neos has been slower than planned. Teething issues with the Geared Turbo Fan engines, for issues unrelated to the GTF technology, have caused some carriers to refuse delivery while other airplanes have been rolling out of the factory without engines. These are being stored along the flight lines while PW works through the issues, which it says will be accomplished by June.
Pearlstein’s conclusion that Alcoa was referring to Airbus is logical, given the issues described above. Furthermore, Boeing is only at the beginning of its transition from the 737NG to the 737 MAX. Sales for the 777 Classic have slowed, but for 2017-18 and beyond, not for the balance of this year, which is sold out. Deliveries of the 787 have been affected by the Zodiac issues, but LNC hasn’t heard of any delays of the 777 due to similar problems.
However, statements by Alcoa’s CEO during the earnings call could also suggest the issue is engines rather than airframes.
Evan Kurtz of Morgan Stanley asked, “It seems like the market might be weakening a little bit. I was wondering how you protect yourself from that. Do you have any sort of minimum requirements contracts where you get some sort of take-or-pay penalties if they dip below a certain amount in a given year?”*
Klaus-Christian Kleinfeld, Alcoa’s chairman and CEO, responded, “The contracts very substantially, but typically, the way this works is you get certain components on a jet engine or on a plane platform and then it all depends on whether – how much this sells. And typically if it doesn’t sell, you don’t get it. If it sells more, you get more. That’s really how this works.”
Kurtz followed up: “[I]f they were to cut production schedules more, that would be kind of a one-for-one relative to your revenue in aerospace? Is that how to think about it?
“That’s exactly how you have to think about it, but what you are seeing here is a little bit of a different phenomenon,” Kleinfeld said. “They are very carefully ramping up the new platforms and that’s I think a very responsible behavior on their side because there’s a lot of new technology in the jet engines as well as in the structures so they are carefully ramping it up so they are not spreading the goods all over the planet and then if there are maintenance issues, they have an issue.”
Buckingham Research sees Alcoa’s move as related to some Boeing programs, however.
|“We think the read across to Boeing programs could be to the B747, B767, and B777,” Buckingham wrote in a note issued late yesterday. “We see no issues impacting planned production rate increases for the B737 to 47/mo in 2017 and the B787 ramp to 12/mo in 2016. However, Alcoa’s Aerospace demand may have been impacted by planned reductions to B747 and B777 production rates. While we don’t see an issue affecting the planned B767 production rate increase to 2.5/mo in 2017, we think its possible Alcoa’s actions could be driven, in part, by KC-46 program delays (which is based on the 767 airframe). It’s been known for some time that development issues are causing program delays.”
*Transcript via CallStreet.