Innovation is the key for UK aerospace industry

August 2013  |  FEATURE  |  SECTOR ANALYSIS

Financier Worldwide Magazine

Since the onset of the global economic downturn, the commercial air travel industry has undergone a number of formative changes. In the US alone, 12 airlines have been forced to enter bankruptcy protection since 2008. Notable airlines Skybus, Pinnacle and American were all among those forced into insolvency. Equally, the landscape of the US industry is set to shift again in October when American Airlines is scheduled to complete its $11bn merger with the US Airways group, a move which would create the world’s largest carrier. 

Historically, airline carriers and the wider aerospace industry have both been extremely susceptible to external economic shifts. Indeed, factors such as fluctuating oil prices and global recessions often have a significant impact on the profitability of carriers and manufacturers. However, since the financial crisis a number of companies have attempted to transform their operations. Spurred on by the economic downturn, many businesses have embarked upon concerted drives to not only become more fuel efficient and cost effective, but also to increase profit margins and returns – which have remained particularly thin for some time – to shareholders. 

In 2013 the commercial aerospace sector expects to earn a profit of around $12.7bn. While this figure represents a healthy increase from 2012’s $7.6bn profit, it is less than 2 percent of the industry’s wider revenue and is the equivalent of only $4 profit per passenger. 

In the defence sector, the outlook is also dour. According to Deloitte’s ‘2013 Global Aerospace and Defence Industry Outlook’, while global defence revenues were flat in the first nine months of 2012, in the US they continued to drop at rate of -.05 percent year over year. Only three of the top 13 defence contractors doing business with the US Department of Defense experienced any revenue growth at all. Defence spending, particularly in Europe and the US, is being drastically scaled back. 

Clearly, a number of challenges face companies across all aerospace sectors. Yet there are also plenty of opportunities for growth, particularly in the civil aerospace sector where firms should be willing to take risks and continue to push innovation in order to drive revenue growth. Ongoing investment in research and development (R&D) will prove crucial for any that wish to capitalise on the next wave of aerospace innovation. 

The nascent global economic recovery and the rise of the emerging markets will be key drivers in the innovation and expansion delivered by the aerospace industry over the next few years. On the back of the growth of budget airlines, the increased demand for fuel efficient aircraft and the soaring demand for air travel in the emerging markets, particularly Asia, South America and the Middle East, the commercial aerospace sector, particularly in the UK, could well be entering a golden era. 

There is consensus amongst analysts which suggests that the emerging markets will lead the surge in demand for fixed wing aircraft and helicopters between now and 2031. These markets are expected to account for 58 percent of new fixed wing aircraft and 45 percent of rotor craft orders. Reflecting the desire for newer, more innovative craft, orders at the Paris Air Show in mid June exceeded $100bn. With blossoming sales such as those made in Paris, it is clear that the opportunities for firms in the aerospace industry will continue to grow. 

Innovation

Currently, the wider aerospace industry stands on the precipice of the next generation of design innovation and revolutionary new manufacturing processes. The introduction of around half a dozen new boundary-pushing plane designs at the Paris Air Show, by companies such as Airbus, Boeing and Bombardier, presents the industry with a tremendous opportunity to put into place new cost-cutting and transformative techniques, materials and technologies. At the Paris Air Show, both Airbus and Boeing found a number of enthusiastic buyers for their longer-range aircraft which consume less fuel. These aircraft will undoubtedly help serve the burgeoning demand from emerging markets. 

However, despite the triumphs of the Paris Air Show, it is important that companies continue to focus on the future development of the industry, with particular regard to manufacturing processes. Whereas other sectors such as the automotive industry quickly adapted to and embraced automation in the manufacturing process, the aerospace industry has been much slower to take up new processes. For cost effective and practical reasons, it has historically been difficult for the aerospace industry to follow suit. However, analysts have suggested that within the next five years, aircraft entering service may well have parts manufactured by industrial 3D printers. Additionally, the next generation of aircraft may have paint applied by robotic arms, and rivets installed by machine. 

The UK industry has led innovation in new focus areas such as advanced composite materials and electrical actuators, while also maintaining its leadership in more traditional manufacturing areas of strength, such as engines and wings. Advancements in manufacturing processes should not be disregarded. Respondents to a survey carried out by KPMG, commissioned by the UK aerospace and defence trade body ADS, noted that innovation in the way components are produced are as important as the products themselves. 

It is clear that 3D printing is due to have a major impact on many industries. David Fitzpatrick, leader of the North American aerospace and defence practice at AlixPartners, feels that 3D printing is “going to really rip through the industry in the next five to 15 years”. This boom is due to really take hold as next generation planes enter production. It is believed that 3D printing will dramatically reduce costs, while also helping to cut manufacturing time for some components from months to days or hours. 

In particular, the UK civil aerospace sector is in a strong position to capitalise on this new wave of automation.

Currently, with 17 percent of global market share, the UK aerospace industry is second only to the US. According to KPMG, British aerospace companies stand to secure contracts worth almost £500bn over the course of the next 18 years. KPMG estimates that the civil aerospace market could have demand for 27,000 new passenger aircraft, 24,000 business jets and 40,000 helicopters worth £2.8 trillion between 2013 and 2031. According to KPMG’s data, 45 to 60 percent of demand for new aircrafts will come from high growth economies by 2031.

In order to capitalise on the expected boom in the UK aerospace business and the growing need for expanded R&D programs, in March Business and Energy Minister Michael Fallon announced that via the Aerospace Growth Partnership, the British aerospace industry would enter into a collaborative partnership with the government to increase investment in UK innovation, supply chains and engineering skills. Both the industry and the government agreed to commit £1bn each toward the Aerospace Technology Institute (ATI). The institute, according to Iain Gray, chief executive of the Technology Strategy Board “demonstrates the UK’s long term commitment to this key industrial sector”. 

In June, the government also announced the first tranche of funding from the £2bn fund aimed at supporting the ATI. The funding will help the industry capitalise on the fast-growing global demand for new technologies. The scheme calls for up to £25m of research funding to be made available to UK aerospace businesses in order to help maintain Britain’s position at the forefront of aerospace innovation. Although the UK no longer produces entire passenger jets, the industry currently employs around 290,000 people across some 3000 firms, many of which are key suppliers to aerospace superpowers Airbus and Boeing. 

Owing to its relationship with firms like Airbus and Boeing, the UK aerospace industry is expected to grow at an annual rate of 6.8 percent over the next few years; this figure represents a significant leap forward from the post-financial crisis growth of 4.7 percent, recorded in recent years. Annually the industry contributes around £24bn to the UK economy. Sarah Owen-Vandersluis of KPMG’s strategy practice notes that “As one of the most dynamic sectors in the UK, civil aerospace is well positioned for strong growth in the UK and overseas. Building from a position of strength, the UK civil aerospace sector and the government have joined to develop a framework to support a long term industrial strategy. This makes the UK highly attractive for inward investment, whether it be through R&D, a proven supply chain or favourable tax environment. This is critical in an increasingly global supply chain.” 

Yet despite the UK industry’s established position as a global market leader, it is beginning to face increased competition, particularly from countries such as China, Brazil and Russia. Many of the major original equipment manufacturers (OEMs) and maintenance repair and overhaul (MRO) providers are shifting some of their operations to these emerging, high growth markets. In order to remain competitive in emerging markets, many UK prime contractors and their suppliers are establishing satellite locations or investing in joint ventures with local partners which could ultimately provide better strategic access to growing markets and supply chains. Incentives are being offered by emerging markets to make it more attractive for foreign primes to set up operations or enter joint ventures with domestic businesses. Currently, global exports account for 75 percent of the UK aerospace industry’s revenue; accordingly it is vital for the future of the industry in the UK that avenues into emerging economies are fully exploited. By embracing emerging economies as partners in the development of new technologies and manufacturing processes, the UK aerospace industry can continue to thrive. UK companies will be able to expand and diversify their customer bases, while establishing a firm footing in regions where the majority of future aircraft demand is likely to be generated. 

Going forward

The commercial airline sector is currently enjoying a prolonged upswing, but in order for this boom to continue, companies in the aerospace sector must relentlessly pursue innovation. As evidenced by the financial crisis, the sector’s fortunes are inexorably linked to the volatile and often changeable cost of fuel. Therefore, it is vital that companies strive to develop more fuel efficient and economical aircraft. 

The next generation of airplanes will undoubtedly service emerging markets in increasing numbers, so companies must develop larger, more efficient vehicles and technologies in association with local manufacturing hubs in those regions. Due to their position as market leaders, businesses in the UK aerospace sector are well placed to lead the way in this regard. By collaborating with suppliers, other native aerospace companies, and non-aligned industries such as telecoms or consumer electronics, UK businesses can establish a strong presence in emerging markets. Up and coming companies in China and Russia, looking to challenge the bigger traditional players in the narrow body aircraft market, should represent partnership opportunities for British companies both large and small, rather than a competitive threat. By partnering with smaller, rising firms British companies can find willing outlets for their considerable expertise and experience.

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Richard Summerfield