A400M Delays Creating Contract Controversies

A400M Delays Creating Contract Controversies (NSI News Source Info) September 30, 2008: Airbus’ A400M is a EUR 20 billion program that aimed to repeat Airbus’ civilian successes in the military market. A series of smart design decisions were made around capacity (35 tons, large enough for survivable armored vehicles), extensive use of modern materials, multi-role capability as a refueling tanker, and a multinational industrial program; all of which leave the aircraft well positioned to take overall market share from Lockheed Martin’s C-130 Hercules. If the USA’s C-17 is allowed to go out of production, the A400M would also have a strong position in the strategic transport market, with only Russian IL-76 and AN-124 aircraft as competition. To date, orders have been placed by Germany (60), France (50), Spain (27), Britain (25), Turkey (10), South Africa (8), Belgium (7), Malaysia (4), Chile (3, to finalize), and Luxembourg (1).

A400M rollout, Seville

In the immediate term, however, the firm’s biggest issue is timing. In November 2007, “Airbus A400M Program Delayed 6-12 Months” covered ongoing issues with Airbus’ new military transport aircraft. Without no flying aircraft and a backlog of almost 200 planes, Airbus has already lost potential opportunities in Norway, Canada, and India; even as Lockheed Martin uses that time to solidify the MC/HC-130J variant’s position as a Special Operations aircraft. June 26/08 saw the first A400M aircraft rolled out at the final assembly line in Seville, Spain, but aircraft weight growth is being reported as a critical issue, testbed issues are slowing engine certification, and first flight has now been moved back again again from summer 2008 to early 2009. The key milestone remains the beginning of deliveries, which has escalated into a significant contractual issue at Airbus. In September 2008, EADS CEO Louis Gallois has reportedly sent a letter to the governments of 7 countries who have ordered the A400M, asking them to waive the contract’s built-in penalties for late delivery. Or face a freeze in production from Airbus. Meanwhile, the plane’s engine maker has issued a volley of its own… Gallois is quoted as saying all expected profits from the initial 180 orders are already invested, adding that the A400M is “a heavy lossmaker” which is creating problems for EADS’ financial performance. He reportedly adds that the present position could become “untenable” within months unless a deal is agreed that “keeps everyone happy.” Based on reports in the French and German press, program cost escalation of around EUR 700 million could add cost renegotiation to the discussions, as well as the waiver of penalty clauses. EADS is currently facing several major investment sinks. One is the ongoing effort to address issues with its A380 super-jumbo, which has cost the firm billions of euros. Another is the decision to develop the A350XWB as a major new technology project, after existing customers told Airbus that its plan for incremental improvements to existing designs would not be able to compete with Boeing’s 777. Then there’s the market for “single-aisle” airliners like Airbus’ A320 family, which makes up the bulk of Airbus’ orders. With Boeing working on a 737NG project to bring the next generation of aircraft to market in that class, Airbus must continue to invest billions of its own or face the prospect of a serious strategic setback. The A400M’s issues leave the project flying directly into this financial storm. Project delays are already costly in that situation, and a November 2007 release from EADS reported a EUR 1.2 – 1.4 billion charge to earnings flow (up to $2 billion) as a result of the existing delay. Payment of significant penalty clauses on its first 180 aircraft would exacerbate that problem sharply, by slashing profitability on what could still turn out to be a majority of the A400M’s total lifetime orders. With anticipated A400M profits already invested, every dollar of profitability slashed would have to be replaced with investment dollars, at a time when multiple investment projects are already straining Airbus’ capacity. All without any assurance that the A400M’s initial margin issues would be made up with enough subsequent orders at full rate to create an acceptable average return. Worse, Airbus’ classic resort to government subsidies for investment dollars is constrained by a trade dispute with the USA over that exact issue, at a time when a $35 billion aerial tanker contract that Airbus now leads hangs in the balance. To date, Germany is holding somewhat firm, saying that “financial concessions” should only be discussed upon receipt of the planes. Reactions have yet to become public from other customers, but even a deal that achieved relief from penalties in Germany, France, and Spain would cover 76% of the aircraft’s initial orders. Reports from London’s Financial Times, however, indicate that partner governments in France and the UK were consulted before Germany issued its refusal.