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Oklahoma Aerospace Summit & ExpoTulsa Convention Center, Tulsa, OK
6-8 June 2011
Photo: US Air Force
Commercial & Defense Industry UpdateCommercial & Defense Industry Update
Presented byPresented by
Hal Chrisman, PrincipalHal Chrisman, PrincipalAeroStrategy LLCAeroStrategy LLC
© 2011 AeroStrategy OAA Aerospace Summit 2011
Agenda
Defense Market Outlook
Commercial Market Outlook
Aftermarket Implications
2
© 2011 AeroStrategy OAA Aerospace Summit 2011 3
US And Western Europe Face Massive Structural Deficits That Must Be Addressed …
Country
2011Defense
Budget (B US$)
Defense as % of
GDP
2011 Deficit
2011 National
Debt
Nat’l Debt as % of
GDP
USA $698 B 4.7% $1.5 T $14.3 T 91%
UK $60 B 2.7% £131 B £1.1 T 77%
France $59 B 2.3% € 102 B € 1.7 T 87%
Germany $45 B 1.4% € 60 B € 2 T 80%
Italy $37 B 1.8% € 69 B € 1.9 T 120%
Spain $16 B 1.1% € 67 B € 693 B 64%
Greece $9 B 3% € 17 B € 320 B 142%
Source: IMF World Economic Outlook April 2011 SIPRI Military Expenditures Database
Fiscal Summary For USA And Select Western European Countries
DefenseDefenseMarketMarketOutlookOutlook
© 2011 AeroStrategy OAA Aerospace Summit 2011
… Some European Union Countries Are Changing Military Spending Plans As A Result Of Budget Pressures …
Cuts up to $9B through 2016
At least $3B cut over next 5 years
Cut 5% since 2009 Planned cuts of 10%
•Cost overruns,•Reduced orders•Cancelled orders?
Germany France Spain Greece
A400M Eurofighter
DefenseDefenseMarketMarketOutlookOutlook
Source: AeroStrategy analysis 4
© 2011 AeroStrategy OAA Aerospace Summit 2011 5
… While The US Has Been Slowly Coming To Terms With The Current Fiscal Situation …
Robert GatesSecretary Of Defense
“Given the fiscal challenges facing the nation, the Department of Defense must make every dollar count. But as I’ve stressed before, this effort is ... about getting more bang for the buck by shifting resources”
“The reductions would likely fall most heavily on our operations and maintenance accounts. Cuts in maintenance could force parts of our aircraft fleet to be grounded… Cuts in operations would mean fewer flying hours…all of which directly impacts readiness.”
2001-2010 US Defense Budget And Annual Budget Deficit
Source: IMF World Economic Outlook April 2011 SIPRI Military Expenditures Database
DefenseDefenseMarketMarketOutlookOutlook
© 2011 AeroStrategy OAA Aerospace Summit 2011 6
… But Recent Rhetoric Suggests That This Will Change Quickly
FY 2010 FY 2011 Change Percent
Milpers $152,997 $151,842 ($1,155) -0.8%
O&M $291,763 $294,428 $2,665 0.9%
Procurement $135,889 $134,164 ($1,725) -1.3%
RDT&E $80,655 $80,905 $250 0.3%
Mil Const $23,379 $17,319 ($6,060) -35.0%Family
Housing $2,425 $3,108 $683 22.0%
Resolving Funds $4,683 $4,568 ($115) -2.5%
TOTAL $691,971 $686,317 ($5,457) -0.8%
Source: DoD FY 2012 Budget Request
FY 2010 & 2011 Defense Base And OCO Budget Comparison
DefenseDefenseMarketMarketOutlookOutlook
© 2011 AeroStrategy OAA Aerospace Summit 2011
0
200
400
600
800
1,000
1,200
1,400
1,600
1980 1991 1994 1997 2001 2007 2011
7
Initial Production1,368 Aircraft
Major Aircraft Review1,196 Aircraft
Navy version terminated in 1992
Successive Program Reductions thru FY2007
Final F-22 (187)
Air
craf
t
Current Programs At Risk?
JSF
2,456 (p)
V-22
430 (p) / 135 (b)
Programs Probably Safe
Programs Definitely Safe
F/A-18E/F
515 (p) / 454 (b)
C-130J
307 (p) / 120 (b)
P-8
117 (p)
EA-18
114 (p) / 28 (b)
UH-60M
1,221 (p) /270 (b)
MH-60R/S
572 (p) / 238 (b)
Source: Teal Group
The History Of The F-22 Sheds Some Light On The Future Of New Weapons Systems
DefenseDefenseMarketMarketOutlookOutlook
Font too way small
© 2011 AeroStrategy OAA Aerospace Summit 2011 8
As The Economic Growth Shifts, The Relative Size Of Domestic Defense Budgets Will Shift As Well …
?
Source: CIA World Factbook Economist Intellgence Unit
2010 – 2020 GDP Versus Military Expenditures
Asia & China26%
Asia & China
36%
19%
DefenseDefenseMarketMarketOutlookOutlook
© 2011 AeroStrategy OAA Aerospace Summit 2011 9
… While The Rise Of China Will Change The Geopolitical Environment …
• China’s defense capabilities are growing in parallel with its torrid economic growth− Defense budget growing 8-10% per annum− Expanding deep-water navy− Large investments in asymmetric warfare capability− Unexpected unveiling of J-20 Stealth Fighter program in 2010
• In addition, China is expanding its use of foreign aid, diplomacy, and alliances throughout Asia, Africa and Latin America to support its national interests…including access to raw materials, shipping lanes, and oil
• China’s rise, in turn, is creating angst throughout Asia and beyond from potential rivals− USA− Japan− India− South Korea− Vietnam− Russia− Australia
China’s Share Of Global GDP*
China’s J-20 Steath Fighter
SouthChina Sea
Source: IMF, Global Security ; Note: GDP data in purchasing power parity
DefenseDefenseMarketMarketOutlookOutlook
© 2011 AeroStrategy OAA Aerospace Summit 2011 10
…And That Will Drive Defense Budgets In Asia Pacific
2010 Estimated GDP, Asia Pacific Countries
Country
GDP Growth (2011-2015)
Key Programs
Japan 3.0%Fighter ReplacementP-1 Maritime Patrol
India 10.4%Fighter Competition
Attack/Utility HelicopterMultiple Other Programs
Australia 1.2% F-35 JSF
S. Korea 6.1%Utility Helo (KUH)
Figher Replacement (JSF)
Taiwan 10.8%Attack Helo (AH-64)Utility Helo (UH-60)
Source: CIA World Facebook AeroStrategy analysis
DefenseDefenseMarketMarketOutlookOutlook
© 2011 AeroStrategy OAA Aerospace Summit 2011 11
An Outbreak Of Democracy Could Slow Growing Military Budgets In the Middle East
2011 Middle East Defense Budgets And Percentage Of GDP
Source: CIA World Facebook AeroStrategy analysis
Global Average = 3.6% of GDP
DefenseDefenseMarketMarketOutlookOutlook
Sa
ud
i A
rab
ia
© 2011 AeroStrategy OAA Aerospace Summit 2011 12
Conventional Warfare Irregular Warfare
Threats Faced Today Are Different Than 20 Years Ago, Dictating A Change In The Nature Of Warfare …
ISR ParapublicExpeditionary / Urban Warfare
DefenseDefenseMarketMarketOutlookOutlook
© 2011 AeroStrategy OAA Aerospace Summit 2011 13
Technological Innovations Such As The UAV Have Driven Growth In Battlefield Intelligence
Airborne ISR Full Motion Video Collection (Flight Hours)
Source: US DoD Briefing
DefenseDefenseMarketMarketOutlookOutlook
© 2011 AeroStrategy OAA Aerospace Summit 2011 14
Para-Public Missions Have Grown And Driven The Demand For More Vertical Lift Capability
Drug Interdiction
Plan Colombia: $1B international aid program
includes the acquisition and support for approx. 100
helicopters
Humanitarian
US Civil and Military Forces have participated in over 30 humanitarian missions since 2001, most requiring significant vertical lift
Border Patrol
US Borders And Customs Patrol has added 50 helicopters in the past decade (total force on 70) and expected to add 55 more in the next 5 years
Source: AeroStrategy analysis
Examples Of Parapublic Missions
DefenseDefenseMarketMarketOutlookOutlook
© 2011 AeroStrategy OAA Aerospace Summit 2011 15
Expeditionary Battlefield Requirements Are Driving Demand For Vertical Lift, ISR, And Transport Aircraft
Expeditionary Warfare:
Robust Intel And Communications (C4ISR)
Technological Interoperability
Flexible and Swift Logistics
Adaptive Force Packaging
Mission Impact
Fighters
Helicopters
Tactical Transport
Strategic Transport
ISR
UAV
The Impact Of Expeditionary Warfare Of Aviation Needs
Source: AeroStrategy analysis
DefenseDefenseMarketMarketOutlookOutlook
© 2011 AeroStrategy OAA Aerospace Summit 2011 16
Over The Next Decade, Fixed Wing Aircraft Production Will Be Replaced In Part By UAV Production …
Worldwide Military Fixed Wing Aircraft Production (2011-2020)
Source: OAG Aviation
Un
its
Mission, CAGR
DefenseDefenseMarketMarketOutlookOutlook
© 2011 AeroStrategy OAA Aerospace Summit 2011
DefenseDefenseMarketMarketOutlookOutlook
17
… While Helicopter Production Is Expected To Remain Relatively Flat
Source: OAG Aviation
Worldwide Military Rotary Wing Aircraft Production (2011-2020)U
nit
s
Helicopter OEM
© 2011 AeroStrategy OAA Aerospace Summit 2011
Agenda
Defense Market Outlook
Commercial Market Outlook
Aftermarket Implications
18
© 2011 AeroStrategy OAA Aerospace Summit 2011
Air Transport Production Rates Are Driven By The Complex Interrelations Of Several Factors
19
Air TravelDemand
EconomicGrowth
Air TravelValue
Proposition
RequiredAircraft
AircraftDemand
For Growth
Aircraft operatingfactors
(utilization, speed, size, load factors)
Current Fleet
TemporaryStorage
Retired/Scrapped
TotalAircraftDemand
AircraftDemand For Replacement
Air Transport Production Demand Drivers
Source: AeroStrategy
CommercialCommercialMarketMarketOutlookOutlook
© 2011 AeroStrategy OAA Aerospace Summit 2011
Oil Prices Are Approaching The High Levels Of The 2008 Price Spike…
20
Annual Average Fuel Costs 1978 to present
(cents per gallon)
Source: Air Transport Association, IATA
2002: 11% of airline expenses
Current: 30+% of airline expenses
March 2011
price
CommercialCommercialMarketMarketOutlookOutlook
© 2011 AeroStrategy AMMAMM
…Which Is Changing The Economics Of Aircraft Operation…
21
US Airlines – 2009 Fuel Costs/ASM (cents)
Winners
Winners Losers
Losers
Source: US Air Transport Association
* 2009 figures are based on $1.75 - $1.95 gallon fuel
gal
Fuel cost/
ASM (cents)
High fuel costs exacerbate aircraft
cost differences
*
CommercialCommercialMarketMarketOutlookOutlook
© 2011 AeroStrategy OAA Aerospace Summit 2011 Source: Airline Monitor
Air Transport Retirements and Deliveries
Retirements
Deliveries
400 Retirements per year is the new normal
Production breakdown
~60% for growth
~40% for replacement
Aircraft
...And Contributing To A Surge Of Aircraft Retirements...
22
CommercialCommercialMarketMarketOutlookOutlook
© 2011 AeroStrategy OAA Aerospace Summit 2011
AeroStrategy Developed Three Scenarios For Air Transport Production Rates Based On Fuel Prices
23
2011 – 2021 Air Transport Production Scenarios
Sources: AeroStrategy analysis, Airline Monitor
Aircraft Demand Factor
Optimistic Nominal Pessimistic
Long-term Oil Price (WTI)
$50-60/bbl $80 – 120/bbl $150+/bbl
Average Global GDP growth
~4% ~3% ~2%
Average Global RPK growth
5.1% 4.4% 3.6%
Net Return of Parked Aircraft
400 Nil Nil
Total 2011-21 Aircraft Retirements
5,100 5,600 6,000
Aircraft Utilization (hrs/day)
7.7 8.0 8.2
2021 Projected fleet(2010 = 20,500) 32,900 30,400 27,000
Aggregate 2011-21 Aircraft Production
17,000 16,000 12,500
Downside Risk Outweighs Upside Opportunities
CommercialCommercialMarketMarketOutlookOutlook
© 2011 AeroStrategy OAA Aerospace Summit 2011
In AeroStrategy’s Nominal Scenario, Air Transport Production Exceeds 1,600 By 2021
24Source: AeroStrategy
Air Transport Nominal Production Scenario 2011-2021*By OEM
* Drop in production rates from 2014 to 2016 is due to a change in orders, shifting from legacy aircraft to next generatin
Un
its
Aircraft Demand Factor Nominal
Long-term Oil Price (WTI) $80 – 120/bbl
Average Global GDP growth ~3%
Average Global RPK growth 4.4%
Net Return of Parked Aircraft
Nil
Total 2011-21 Aircraft Retirements
5,600
Aircraft Utilization (hrs/day)
8.0
2021 Projected fleet(2010 = 20,500)
30,400
Aggregate 2011-21 Aircraft Production 16,000
CommercialCommercialMarketMarketOutlookOutlook
© 2011 AeroStrategy OAA Aerospace Summit 2011
Agenda
Defense Market Outlook
Commercial Market Outlook
Aftermarket Implications
25
© 2011 AeroStrategy OAA Aerospace Summit 2011
The Air Transport And Military Aftermarket Combined Were Almost $130B In 2010
AIR TRANSPORT
• Airlines and freight carriers
• Turboprop and jet aircraft
• Fleet of about 25,000
• 60 million hours a year or ~ 2,400 per aircraft
MILITARY
• Attack, transport, trainers
• Fixed- and rotary wing
• Fleet of about 39,000
• 11 million hours a year or ~ 300 per aircraft
$87.1B
2010 Military Sustainment Market
$43.6B
2010 Air Transport MRO Market
AftermarketAftermarketImplicationsImplications
© 2011 AeroStrategy OAA Aerospace Summit 2011
AeroStrategy Anticipates Mid-To-Upper Single Digit MRO Growth In 2011…
27
Air Transport MRO Market – Realized Supplier Revenue($B) *
Source: AeroStrategy* Constant 2009 US$
0
10
20
30
40
50
60
2008 2010 2012 2014 2016 2018
Fundamental MRO demand
Realized supplier
revenue
2011: Mid-to-upper single digit growth
2012: Low double digit growth
Key Assumptions• Fuel costs in $80
– $110 /bbl range
• 2-3% global GDP growth and modest airline profitability
• Some make up for deferred maintenance and modest inventory restocking
2009: MRO demand down 15-20%
2010: 1-3% growth
AftermarketAftermarketImplicationsImplications
© 2011 AeroStrategy OAA Aerospace Summit 2011
… But The Impact Of High Fuel Prices Could Further Change Airline Supply Chain Practices …
28
200
8-20
10
Economic Crisis
Supply Chain Practices•Burn Inventory
•Deferred Maintenance•Cannibalization / Surplus
Depressed Demand
+%
-%
“Normal”MRO Demand
(FundamentalDemand = realized supplier demand)
Factors Supressing Fundamental MRO Demand
2009/10: Reduction to fundamental demand from destocking and deferred maintenance
Further Depressed Demand+%
-%
“Normal”MRO Demand
(FundamentalDemand = realized supplier demand)
2009/10: Reduction to fundamental demand from destocking and deferred maintenance
2010/11: MRO demand suppressed by aircraft
cannibalization and high use of surplus
parts….
201
0-20
12
High Fuel Prices
Supply Chain Practices•Aircraft Retirements
•Parting Out•Excess Surplus Parts
AftermarketAftermarketImplicationsImplications
Source: AeroStrategy
© 2011 AeroStrategy OAA Aerospace Summit 2011
…And Future Growth Will Be Highly Dependent On The Fluctuation In Fuel Prices
29
MRO Growth Scenarios Based On Fuel Costs
Nominal case
Oil $80 – 110/bbl
Source: AeroStrategy
Best case
Oil < $80/bbl
• Fuel costs fall to less than $80/bbl
• Falling costs boost GDP, air travel growth, and airline profits
• Facilitates return of hundreds of aircraft from storage – which need MRO
• Fuel costs remain in $80-110/bbl range
• Modest (2-3%) global GDP growth…and airline profitability
• Fuel costs limit return to service of most stored aircraft
Worst case
Oil > $110/bbl
• Fuel costs escalate to >$110/bbl…or much higher
• A dramatic spike in fuel costs could lead to a “W” shaped recession and reduced air travel growth
• Airlines again in red, which results in further capacity reductions and cost cutting
• More aircraft to desert
AeroStrategy
Forecast
AftermarketAftermarketImplicationsImplications
© 2011 AeroStrategy
Recent Rhetoric Suggests That All Aspects Of The Defense Budget Will Feel Pressure …
30
AftermarketAftermarketImplicationsImplications
“Although reducing the defense budget cannot alone solve our deficit problem, it is hard to envision an overall solution that does not include some contribution from the 20 percent of government spending that goes toward defense.” – Deputy SecDef Bill Lynn
© 2011 AeroStrategy OAA Aerospace Summit 2011 31
… And Reductions In O&M Spending Will Impact The Military Aftermarket
Bil
lio
ns
All Values In 2010 U.S. Dollars
2010-2015 North America & Europe Military Sustainment Forecast
Source: AeroStrategy analysis
Lower utilization reduces sustainment … or lower
budgets reduce readiness which lowers utilization
Recovery to expected levels by 2014?
10% reduction in utilization for aircraft excluding
helicopters and fixed wing transport results in a 6% decline in sustainment
spending
AftermarketAftermarketImplicationsImplications
© 2011 AeroStrategy OAA Aerospace Summit 2011
In Summary….
32Source: AeroStrategy
US And Western Europe face Massive Structural Deficits That Must Be Addressed resulting in severe defense budget pressures
China’s Emergence As A Great Power Creates Angst Throughout Asia … and drives Asian Defense budgets
An outbreak of democracy in the Middle East could slow robust growth in defense spending
Changing mission requirements drive increasing need for ISR, vertical lift and fixed wing transport
UAVs are the bright spot is fixed wing production and rotary wing production is projected to be flat
• Aircraft economics have fundamentally changed as a result of high fuel prices, leading to premature retirement of hundreds of aircraft
• The air transport MRO market, after a difficult recession, is currently valued at $43.6 billion
• The parting out of aircraft is suppressing a rapid recovery in MRO demand with 15-20 aircraft parted out per month
• The shape of MRO recovery is tightly linked with the price of oil
• 2011 MRO demand growth of mid-to-upper single digits is anticipated in the nominal scenario
• Long-term MRO growth will be 3.3% CAGR, led by engines and modifications
US And Western Europe face Massive Structural Deficits That Must Be Addressed resulting in severe defense budget pressures
China’s Emergence As A Great Power Creates Angst Throughout Asia … and drives Asian Defense budgets
An outbreak of democracy in the Middle East could slow robust growth in defense spending
Changing mission requirements drive increasing need for ISR, vertical lift and fixed wing transport
UAVs are the bright spot is fixed wing production and rotary wing production is projected to be flat
• Aircraft economics have fundamentally changed as a result of high fuel prices, leading to premature retirement of hundreds of aircraft
• The air transport MRO market, after a difficult recession, is currently valued at $43.6 billion
• The parting out of aircraft is suppressing a rapid recovery in MRO demand with 15-20 aircraft parted out per month
• The shape of MRO recovery is tightly linked with the price of oil
• 2011 MRO demand growth of mid-to-upper single digits is anticipated in the nominal scenario
• Long-term MRO growth will be 3.3% CAGR, led by engines and modifications
© 2011 AeroStrategy OAA Aerospace Summit 2011
1Thank you for your attention!
33
www.aerostrategy.com
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AeroStrategy is a specialist independent management consulting firm devoted to aviation and aerospace sectors with offices in Ann Arbor,
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