When it comes to plane manufacturers, two companies come to mind: Boeing (NYSE:BA) and Airbus. But which one is a better buy?
In this week's episode of Industry Focus: Industrials, Sean O'Reilly has special guest host Adam Levine-Weinberg on to answer that question. Find out which company sells more planes, which comes out on top for customer comfort, which has the lead in fuel efficiency, which are the most important models for each company and what they specialize in, how the companies strategies have started to drift and what that means for the future, which makes a better buy for investors, and more.
A full transcript follows the video.
This podcast was recorded on Jan. 26, 2017.
Sean O'Reilly: Welcome to Industry Focus, the podcast that dives into a different sector of the stock market every day. Today is Thursday, January 26th, 2017, so we're talking about energy, materials and industrials. I'm your host, Sean O'Reilly, and joining me today in studio is Motley Fool contributor Mr. Adam Levine-Weinberg. Good morning, Adam. How are you?
Adam Levine-Weinberg: I'm great. Good morning, Sean. How are you?
O'Reilly: Not too bad. I got my coffee, got a good podcast companion -- we're good to go here.
O'Reilly: So it's been a little while since I've had you on the show, a month or two. You were good enough to join me, we talked about Buffett's investments in the airline industry for the first time since the '80s, when he did the preferred stock investment in US Airways. Anyway, I wanted to get you in here and answer the eternal question: who makes a better plane, Boeing or Airbus?
Levine-Weinberg: It's a great question. We're going to slice this a few different ways.
O'Reilly: I remember when I first posted this to you, and you were like, "Oh, that's a good one." Anyway, go ahead.
Levine-Weinberg: To start off, I wanted to say, safety-wise, both of these companies make very safe airplanes these days. There's really no difference. Both of them have incredible safety records. Obviously, there are accidents sometimes. Most of the time, it's pilot error or some kind of human error. So, safety-wise, both of these companies know what they're doing; they make very reliable planes. When you get beyond that, there's some really interesting comparisons between the planes of both companies. We'll start off with what's probably the most important for a lot of the Fools listening to this show out there, which is passenger comfort. How do you feel when you're on the plane? Is there space? Do you feel like you're cramped in like a sardine? A lot of that actually doesn't depend so much on the airplane as much as it does on the airline itself, because the airlines have a lot of leeway to set up the plane the way they like.
O'Reilly: So they can move the seats, is what you're saying?
Levine-Weinberg: They can move the seats around in their own configuration. There are some limits to that, but not a lot. What's interesting is that, in general, Airbus planes tend to have wider seats than Boeing. And there's a few reasons for that. On the narrow-body side, these are the single-aisle planes that you see flying all around the United States and on some of the shorter international flights, the Boeing 737 is the best-selling plane in history. The runner-up is Airbus' A320, which is their competitor. And it just happens that the Boeing 737 has been around since the 1960s, and Boeing keeps just redesigning it and redesigning it.
O'Reilly: Wow. So this is a 50-some-year-old plane now?
Levine-Weinberg: When it was originally designed, it was a small plane meant to carry about 100 passengers. And now it's gotten up to 150 and even 200 passengers in many configurations. They made it longer; they have obviously upgraded of the engines several times; they've upgraded all of the interiors and the cockpits. But what they haven't done --
O'Reilly: They downgraded leg room -- I'm kidding.
Levine-Weinberg: That's true, but again, that's up to the airlines. But what hasn't changed is the width. This was a plane that was originally meant for relatively short flights, so it's a little narrower than the Airbus A320, which was designed about 20 years later, in the '80s. The result is, generally speaking, the seats on a Boeing 737 are about a half inch to an inch narrower than the seats you'd see on an A320, and the aisle is often usually narrower, about a 7- or 8-inch difference.
O'Reilly: Which doesn't sound like a lot, but you're talking about that on every seat. It adds up.
Levine-Weinberg: Yeah. Critics of the industry have said that the average weight is going up, especially in the United States --
O'Reilly: I was going to make a joke, like, it's interesting that the European plane has the wider seats; what's up with that?
Levine-Weinberg: Yeah, it's just from when it was designed and what it was designed for. The 737 grew into its current mission. Five or 10 years ago, Boeing was really strongly considering sunsetting the 737, getting a completely new design. But the problem is, when you think about the cost of a completely new plane compared to what it costs to upgrade one when it's already selling --
O'Reilly: There's no incentive, yeah.
Levine-Weinberg: They've sold thousands of these, looking out five and even 10 years. So there's just no reason right now.
O'Reilly: That's so funny, because the joke is obviously, oh, you Americans and your big cars, and Europe makes the slightly bigger plane.
Levine-Weinberg: Yeah. You've seen the same thing on the widebody side. These are the planes with two aisles that you typically see on the longer haul international routes. The Airbus A330 and A350 were designed with 18-inch seats. If you talk to Airbus, they'll talk to you about how they love passenger comfort and they have decided that 18 inches is the correct width, and the seat can't be any less than that or you're going to be uncomfortable, especially when you're trying to sleep, or just stuck in your seat for a 12-hour flight. The funny thing is that Boeing didn't intend to have narrower seats on its widebody planes, which are the 777 and the 787, which is also popularly known as the Dreamliner. Those were actually designed with wider seats. The planes are actually so wide that airlines realized they could fit an extra seat in each row --
O'Reilly: Oh, here we go.
Levine-Weinberg: -- so that's what they did. So, originally, these were meant to have 18-and-a-half-inch or 19-inch seats, even wider than the Airbus ones, and now virtually every airline, especially the ones that are taking the airplanes now as opposed to the ones that got them 15 or 20 years ago, in the case of the 777, they're all configuring them with an extra seat in each row. So, now, they have 17 inches of seat width, which is OK for a while, but a lot of passengers find that uncomfortable if you're traveling for a really long time.
Other aspects of travel, the newest planes from both Boeing and Airbus, so this is the 787 from Boeing and the Airbus A350, they have some really innovative changes because of the new materials they're working with, they can keep the cabin a lot more humid than it used to be possible to do. They've also increased the air pressure so it's closer to the ground level pressure. Usually, it's pressurized now at about 6,000 feet instead of 8,000 feet. They've said that it greatly increases passenger comfort, and can also help a lot with reducing jet lag. So, those are two big improvements that both manufacturers have made. But just based on the seat width alone, Airbus has a bit of an edge over Boeing in terms of passenger comfort.
O'Reilly: Got it. So I just took over an airline. I'm an executive at an airline. I was completely sold by Buffett's extremely modest investment in the sector. And I am coming to you and I am talking to Boeing and Airbus, and I'm like, "So, guys, biggest cost is fuel, it's oil, it's gasoline. Oil prices are cheap right now, gasoline, too, it's actually been a huge boon for the industry, but that might not last forever. Which of you guys is more fuel efficient?"
Levine-Weinberg: Yeah, this is another big point where the two manufacturers disagree with each other and put out all kinds of statistics that are usually doctored in one way or another to show why their planes are so much more fuel efficient. The best people to talk to on this are actually the airlines, because they don't have a dog in the fight. Generally, when you talk to either the airlines or the aircraft leasing companies, historically, Boeing has had a small advantage in terms of fuel efficiency. It's not a lot --
O'Reilly: What do you mean by small?
Levine-Weinberg: We're talking about maybe 2% or 3%, for a comparable generation of planes. So, obviously, a 20-year-old Airbus plane is going to be way behind a Boeing plane that just rolled off the assembly line today. But for what they're building at the same time, they've been pretty similar. On the narrowbody side, so, this is the 737 and the A320, historically, Boeing has had an advantage, and that may have disappeared just now. One of the problems with Boeing having this really old design that it keeps reusing for the 737 is that it can't use the same type of engines as Airbus has been able to use because the plane is very short. It's not very high off the ground. So without making really big changes to the landing gear to prop up the plane higher, they can't use bigger engines. And those bigger engines tend to have better fuel efficiency.
O'Reilly: Yeah, just because of more surface area on the blades and stuff.
Levine-Weinberg: It's very complicated science. The bigger engine creates more drag, which reduces the fuel efficiency, but the engine itself tends to be more efficient, and that usually more than balances it out. Boeing has found some workarounds. It got pretty close. But Boeing has typically talked about its next-generation plane, the 737 MAX, which is going to be available to the first airlines this year, as being about 13% better than the previous generation, whereas the new A320neo, which is the version of the A320 with upgraded engines, that's about a 15%-16% advantage in terms of fuel consumption. So that alone probably closed the 2%-3% advantage that Boeing had previously held over Airbus. So now, they're pretty much neck-and-neck on that.
On the widebody side, the Boeing planes are also probably a little bit better, but it's pretty close, especially with the new A350, which is a new Airbus plane that came out a couple years ago. Then there's an upgraded engine version of the A330 that will be available early next year. With those coming from Airbus, it's pretty much neck-and-neck. And that's really not that surprising, because these two companies are using the same engine suppliers. And the engine, obviously, is the most important part of the plane in terms of determining how much fuel it uses.
O'Reilly: Got it. Adam, fuel efficiency is a bit of a tie. Airbus has a modest advantage in terms of seat size, and again, that's up to the airline. Talk to me about the market. Boeing has long been known -- if you think of the quintessential example of an American manufacturing firm, it's either Boeing or [General Electric]. And GE sells the engines to Boeing, so it is what it is. What's the marketplace look like right now? What's Boeing's backlog? It's some enormous number, in the hundreds of billions or trillions or something.
Levine-Weinberg: Yeah, it's been hovering for the last few years in the $450 [billion] to $500 billion range.
O'Reilly: Of all the future orders, they may or may not happen, but bottom line, they have this backlog of future orders. You hear, like, Qatar bought like $50 billion worth of planes from Airbus. So what does it look like today with the market in terms of market share and all that stuff?
Levine-Weinberg: In terms of overall market share, Airbus is a little bit higher in terms of the orders for the future. But in terms of annual sales -- that's what's being delivered in each year right now -- Boeing still has a little bit of an advantage. That will probably, at least, it might flip at some point. Obviously, if Airbus continues to have more orders than Boeing, then eventually it will be building more planes than Boeing.
O'Reilly: So future orders are higher for Airbus.
O'Reilly: Was there ever a time where Airbus was way in the lead, or has Boeing been it for ...
Levine-Weinberg: This being over the past five years, particularly since the A320neo went on sale, that's really where Airbus has built up this advantage. For a long time, the A320s and 737s were splitting that single-aisle market pretty evenly, but Airbus was at a big disadvantage on the wide bodies. Now, they're even split or thereabouts on the widebodies, and the single-aisle planes Airbus is starting to gain an advantage. So, basically, when we look at the market, Boeing has really done some pretty innovative things in the way that the Dreamliner -- this is the 787 -- has opened up a lot of new markets for airlines. They basically created a plane that is small on the widebody scale; it can seat, typically, 200 to 250 people in a three-class layout where you have lie flat, first class, and that kind of stuff. And it can still fly 8,000 miles around the world, whereas usually only the biggest jets in the past were able to do that.
O'Reilly: And those are hard to fill up. That's the trick, right?
Levine-Weinberg: Right. What happened was, either you had to put all your flights through one or two very big hubs to generate the traffic, or you had to sell a lot of fares at really low prices that weren't profitable. Great for travelers; not great for the airlines, typically. So basically, Boeing has created this plane that has opened up new markets -- 6,000- to 7,000-mile flights where it was never possible before to profitably fly that on a nonstop basis.
O'Reilly: So that was a bit of a brilliant move on their part.
Levine-Weinberg: It really was. Boeing and Airbus had different philosophies. Airbus developed the A380, which is this enormous plane, two decks along the entire length of it, can seat 500-600 people. Their idea was, air traffic keeps growing at a really quick rate, it's doubling every 15-20 years, so we just need bigger planes. And that's true, except that Boeing said, "Wait, rather than having everybody continue to go through these hubs and just make them bigger and bigger, why don't we let people go nonstop on routes where you couldn't go nonstop until there was enough of a critical mass of traffic?" And so they had different philosophies.
The result is that, right now, Boeing has better coverage of the full market. They have their narrowbodies, which are the shorter-haul flights, usually less than 3,000 miles, and between 120 to 200 seats at the most at the high end of the range. Then they have the small widebody with the 787, and they also have the 777, which is a somewhat larger widebody, which is more in the 250- to 350-seat range. That actually has a new version coming out that's going to make it even bigger and stretch that range up to as many as 400 seats. Airbus, by contrast, they also are very strong, even stronger, in fact, on the narrowbody side, where they have, especially, the largest variant of the A320, which is called the A321, which has really taken off, seen a lot of interest from airlines, because it reduces the cost per seat the more seats you can put on the same version of a plane. The A321 is just better suited to that market than Boeing's largest narrowbody is right now. So Boeing kind of needs to respond to that, and they're very close, potentially, to announcing an even larger version of the 737 that would get it closer in size to the A321. But, after the A321, there's a big gap in Airbus' lineup, where they don't have a lot in the 200- to 250-seat range like Boeing does.
O'Reilly: Yeah. It's probably 20/20 in hindsight, but that seems like they dropped the ball there.
Levine-Weinberg: Yeah. They've talked about how they've come up with new cabin configurations for the A321, where you can cram more seats on it, but then that starts to give up their advantage in terms of comfort, because some of that comes from actually coming up with a better way of organizing the plane. But for the most part, it's shrinking seats, it's shrinking in the bathroom, it's doing all kinds of stuff, shrinking the galleys, so that they can't serve food out of them anymore. It's really not as easy as Airbus' management has made it seem. So as a practical matter, most airlines aren't going to take them up on the possibility of putting 220 seats onto an A321. It's only going to be the ultra-budget airlines that are going to do that.
O'Reilly: Let's talk some numbers before we head out of here. Who sells more planes?
Levine-Weinberg: As I said before, Airbus definitely has a lead right now in terms of the orders. Every year for the last few years, they have pretty reliably come in ahead of Boeing in terms of orders. On the widebody side, both companies had about 1,200 or 1,300 orders in backlog, and those planes tend to go for $100 million or more. So, between the two of them, that's several hundred billion dollars of planes. On the narrowbody side, the numbers are actually even bigger. Boeing has over 4,400 planes that are in backlog just with the 737 and the upcoming 737MAX. Airbus has over 5,600. That's quite a bit ahead.
O'Reilly: This is a lot of planes we're talking here.
Levine-Weinberg: So there's definitely an advantage for Airbus, but the fact remains that it's going to take Boeing seven years just to build all the planes that it has. Airbus, it's kind of overkill. It's great to have that many orders in backlog; it means that you can survive a recession where you might have orders dry up suddenly for a couple years at a time. But unless that happens, it's not going to really matter so much, because Airbus doesn't have the capacity to build planes much faster than it's already planning to build them, which is less than 700 a year. So it has eight or nine years of production already locked in. As a result, it's just not going to sell as many planes in the future, or it's going to have to figure out some way to build new factories or squeeze more planes out of the existing factories it has.
O'Reilly: So, obviously, this is The Motley Fool; we're investors. What do you see coming around the bend for these guys, and what do you think of the valuations of these companies? I have looked, Boeing is long -- I cannot believe this company's return on capital and equity. It's like in the '90s, some years, 90% return on equity in a year. It's a fun balance sheet, and we can talk about that a little bit more another time. But it's got a 12, 13 multiple P/E. Airbus, it's a good business, but it's inferior by every measure. They're not free cash flow-positive most years. Boeing just throws off money like it's its job. Which stock do you like? What do you see coming around the bend for these guys?
Levine-Weinberg: I still like Boeing's stock. It has run up quite a bit in the last few months. Early last year, about a year ago, it had dived down to the low hundreds, and it's risen about 15% since then. But I still think that Boeing could continue to gain ground over the next few years. Right now, they have a little bit of a transitional period where a couple of their models, particularly their 777, which has been a big cash cow for them in the past few years, demand is really falling off. But the reason why is that you have a new version of that plane which is coming out in 2020 --
O'Reilly: And they all know it, so they're not ordering it.
Levine-Weinberg: Everyone knows; they announced it several years ago. It's really hard to keep selling an old plane when everybody knows that a new, better model, more fuel efficient, more range, is coming out not that far in the future. And it's also true that right now, a lot of the developing world in particular has been having trouble both with a strong dollar, which makes it more expensive to buy these planes, and also just unsteady demand, especially in places like Russia and Brazil, where you've had big drops off in GDP recently. So that's definitely cut into the demand for these planes. But if you look out to 2020 and beyond, once that new version of 777 ramps up, Boeing is going to be, I think, in pretty good shape to continue growing its free cash flow.
O'Reilly: Awesome! All right, Adam. Thank you so much for your time!
Levine-Weinberg: Thanks for having me, Sean!
O'Reilly: Cannot wait to have you on the show again. That is it for us, folks. Be sure to tune in tomorrow for the Technology show with Dylan Lewis. If you're a loyal listener and have questions or comments, we would love to hear from you. Just email us at email@example.com. As always, people on this program may have interests in the stocks that they talk about, and The Motley Fool may have formal recommendations for or against those stocks, so don't buy or sell anything based solely on what you hear on this program. For Adam Levine-Weinberg, I am Sean O'Reilly. Thanks for listening, and Fool on!