Sunday, April 19, 2015

Cessna's Corporate Diversification

Since it is rolled up into Textron's financial report, gathering data for Cessna's performance as a company in and of itself has proven next to impossible.  Looking at Textron's financial report, though, the aviation division is significantly diversified.  Apart from Cessna (which in and of itself is made up of multiple divisions), Textron Aviation also contains Beechcraft and Hawker, new acquisitions to the corporation.  One thing I've learned is that diversification can have many levels set up and get quite confusing if one is interested in gathering information on one business unit in the whole.

Tuesday, April 14, 2015

Diversification - A Winning Strategy?

In this installment, I want to again take a step back from Cessna and focus on Textron, its parent company.  Textron started as a small textile company in 1923 and started diversification in 1953 after significant success from the textile boom in WWII.  The strategy of purchasing smaller firms paid off, and in while in 1958 sales dropped 4%, earnings rose 24%.  The company branched out to the aviation industry in 1960 with its acquisition of Bell Helicopter.  At this time, the company was diversified rather into rather unrelated businesses.

With the appointment of new leadership in the late 1980s, Textron began to focus on related businesses.  Today, the company is still very diversified, but now that diversification is related into aviation, vehicles, and aircraft simulators.  A full list can be found at  Who would have imagined that a small textile company would grow into what it is today?

Sunday, April 12, 2015

Climbing to Vertical Integration

Vertical integration refers to the number of steps in a value chain that a company has internalized.  The more steps that a company controls, the more vertical integration it has.  To see how vertically integrated Cessna is, I actually want to step back and talk about its parent company, Textron.

Cessna was acquired by Textron in 1992, placing it in a conglomerate of other companies owned by this giant.  Let's take a look at a standard new Cessna 172 and see which components come from inside Textron and which are from outside manufacturers:

Airframe: Cessna 172; manufactured by Cessna aviation (internal)
Avionics: Garmin G-1000 suite; manufactured by Garmin (external)
Engine: Lycoming IO-360-L2A 180 hp piston; manufactured by Lycoming (internal)
Propeller: McCauley two-bladed fixed pitch propeller; manufactured by McCauley (internal)

Of the major components to producing an aircraft, Textron has internalized everything except for the avionics.  This goes a long way in terms of decreasing costs to produce a new Cessna 172 and streamlining manufacturing.

Collusion in the General Aviation Market

Collusion in aviation is not unheard of, and a handful of years ago several commercial carriers were implicated in price collusion that cost the flying public a significant amount of money.  The companies included in this incident colluded to fix fuel and cargo surcharges between 2000 and 2006 to make up for lost profits (  The price collusion came to light after some of the participating airlines came clean, toppling the scheme.  If the airline industry was affected by price collusion, could this also be a possibility for general aviation manufacturers?

Many individuals who fly are concerned with the price of doing so; between the cost of purchasing an aircraft, regular maintenance, and fuel prices, owning and operating even the most basic of aircraft can cost $150,000+ initially and upwards of $10,000/year in annual costs, depending on how often the plane is flown.  With such high costs, one would wonder if the general aviation industry is colluding on pricing against consumers.  Let's take a look at how the general aviation industry compares to a typical industry that facilitates the development of price collusion:

1) Small number of firms: According to the General Aviation Manufacturer's Association, there were 12 companies that delivered GA aircraft in 2013 (the last reporting year).  In addition, there were several companies listed in the report that are still in existence but had no deliveries in the same year.  The number of firms in the industry is not small, by any means.

2) Product homogeneity: While there are similarities between some GA aircraft, once outside of the basic trainers, products diverge rather significantly.  For those looking for just speed, one could purchase a Mooney or a Cessna TTx and travel at 200+ knots.  However, these aircraft are not as spacious as others, and, especially in the case of the TTx, out of the reach of some budgets.  For those with large families and not a lot of capital, a Cessna 182 or Piper Arrow might be a better fit.  Lastly, there are several aircraft for the casual weekend flyer just looking to get in the air.  A Cub or anything from the American Champion line would be a good low-cost fun flyer.  In short, there is not much product homogeneity.

3) Cost homogeneity: For new aircraft deliveries, costs range from $100,000 for a new light sport aircraft all the way up to $1.15 million for a new Piper M350.  This is just a comparison between piston single aircraft.  For turboprop or multi-engine aircraft, prices just continue to go up from here.  Prices are all across the board.

4) Price leaders: While there may be price leaders for aircraft that can fulfill similar missions, no one company stands out as being above the rest.

5) Industry social structure: While general aviation pilots can be seen as part of a club in and amongst themselves, I do not know enough about the social structure of the industry to comment on this.

6) High order frequency and small order size:  As large capital purchases, aircraft are purchased in small quantities, and rather infrequently.

7) Large inventories and order backlogs: While there may be order backlogs after an unexpectedly large order, it is not in the interest of any manufacturer to keep a large inventory on-hand.

8) Entry barriers: There are significant entry barriers to a company looking to get started in general aviation aircraft.

In looking at the above analysis, general aviation aircraft manufacturers are not in a position that facilitates price collusion.  The high costs associated with a new aircraft are likely due to market factors and not any deals behind the scenes.

Cessna and Flexibility

The last two posts I made would both apply to the flexibility of Cessna.  I will again revisit the design of the 162 as it is a great example of the company exerting its options in being flexible.  While I do not have the actual numbers, I assume that Cessna completed a complete analysis prior to launching the project.  However, in order to achieve the low manufacturing costs needed for the LSA market, Cessna invested in a new factory in China.  While this was officially announced in 2007, there were delays in plant opening that likely added unexpected costs to this and other expansion projects Cessna had in mind.

The addition of a plant in China would permit Cessna to achieve lower production costs not just for its 162 Skycatcher line, but also for some of its other models.  Since expanding operations into China, Cessna originally had grown to multiple factories, but has since decided that this move was not practical and has consolidated operations abroad.  Unfortunately, the projections around both the 162 and the Chinese expansion were far above what reality had in store for Cessna.  Thankfully, the company did not invest so much that it was unable to recover from this failed venture.

Sunday, April 5, 2015

Product Differentiation

Cessna has a large product line and has differentiated itself very broadly throughout its history.  While venturing into the LSA market was not as successful as initially imagined (covered in my last post), the rest of Cessna's products cater to several different markets and therefore can protect itself against several different threats.

For Cessna, this helped protect the company during the downturn of the 1980s-90s.  During this time period, piston aircraft sales nosedived from a high of over 14,000 units in 1978 to less than 1,000 in the late 1980s.  The numbers have never fully recovered, mostly due to increased operating costs, but Cessna was forced to discontinue its flagship piston aircraft, the 172, for over a decade (1986-1998).  If the company was focused just on small piston aircraft, it likely would not have survived this extended slump.  However, with since it had differentiated its products, Cessna was able to survive and reintroduce a much beloved aircraft.

Learning Curves and Failed Designs

The learning curve in business can certainly play into how smoothly a product launch goes.  As a company becomes more comfortable with the life cycle of its products, costs and economies of scale will benefit.  While Cessna was quite experienced in aircraft manufacturing from both a business jet and small piston aircraft standpoint, the company had some challenges expanding its product line into the newer Light Sport Aircraft (LSA) category.

The LSA category of aircraft was developed in response to the sport pilot certificate developed in 2004.  This new pilots license allowed aspiring individuals to get in the air with fewer hours of training and less scrutiny of their medical history.  Training was overall less expensive; however, pilots with this new type of license were limited in the type of aircraft they could fly and how they could fly them.  The new weight (<1320 lbs) and speed (<138mph/120 knots) restrictions meant that Cessna would have to develop a new product if it wanted to capture this market.  While the company used to manufacture a smaller and slower training aircraft (the 150/152), even these models were too heavy for the LSA category.

The solution to this was the 162 Skycatcher.  First delivered in 2009, the newest model Cessna was approximately half the cost of a new 172.  It was a completely new design, which required significantly more time and resources than redesigning an existing aircraft.  While the company missed its target price of less than $100,000, initially there were several orders for the new smaller trainer.  This price target was not achievable and rose significantly through the product's life cycle, up to a staggering $149,000 in 2011.  This caused many who initially placed order to cancel them, as the price point was significantly higher than the competition.  In a market of mostly cost-conscious buyers, a major price change pushed many away.  Cessna stopped production in 2013, and of the 262 aircraft registered, 92 of them are to Cessna itself, meaning only 170 had been sold.

Other companies that were more experienced with lighter aircraft excelled in this market, and some new models can be obtained for less than $100,000 to this day.  Cessna ventured into a market it didn't have much experience in, and it didn't fare well against those with more experience.

Saturday, April 4, 2015

Evaluating Cessna's Resources

I have been a bit lax in updating this blog, mostly due to things picking up substantially at work.  As the semester is getting close to ending, I will be updating much more often and probably putting in some late nights.  Please accept my sincerest apologies if some things don't make sense, as sleep deprivation can be a wild ride.

In this installment, I want to take a look at a resource-based analysis of Cessna and its internal strengths and weaknesses.  This can easily be done with the VRIO framework.  Below, we will look at Value, Rarity, Imitability, and Organization to determine how strong or weak the company is looking.

Value - The main question to ask here is Do Cessna's resources and capabilities enable it to respond to environmental threats or opportunities?  Cessna is has significant capabilities and experience in the aircraft manufacturing business and can easily respond to a changing environment.  The company has longstanding relationships with organizations, and has recently negotiated with the Civil Air Patrol to provide them with 21 new aircraft.  Agreements such as this will help provide a baseline number of aircraft sales even if the economy puts many individual buyers out of the market.

Rarity - Is a resource currently controlled by a small number of firms? I don't see Cessna as controlling many resources in the raw materials sense.  The company may be able to negotiate lower prices due to its sheer size.

Imitability - Do firms without a resource face a cost-disadvantage in obtaining or developing it?  I see Cessna as having somewhat of an advantage in this area.  Cessna does have a subsidy, McCauley Propellers, which gives the company a cost advantage in producing a key component to many of its aircraft.

Organization - Are Cessna's other policies and procedures organized to support the exploitation of its valuable, rare, and costly-to-imitate resources?  I think that Cessna is certainly able to exploit its resources.  Being a division of much larger Textron gives the company significantly more power as both a buyer and a supplier of resources and finished products.  Cessna can offer many products at competitive prices and still maintain a high quality product.