Giving 'Em Away?

The incentives Airbus is using to sell its A380 now may backfire later

Beaming proudly, Airbus Industrie sales chief John J. Leahy strolls through a life-size mock-up of the A380 superjumbo jet at company headquarters in Toulouse, France. He lingers in the luxurious first-class cabin with its wood-paneled library and wine bar and lets his voice echo through the cavernous economy cabin, big enough for more than 550 passengers on two decks. Then he fixes his visitor with an intense gaze. "Isn't this the way you want to fly?" he asks.

It's an impressive pitch--and it's working. Since July, Leahy has logged 60 orders for the A380, which even can be configured to hold up to 800 passengers. It will be the biggest commercial aircraft ever made. Leahy has made archrival Boeing Co. look like an also-ran as he has signed up industry pacesetters such as Singapore Airlines and Federal Express and lured away Boeing stalwarts such as Qantas Airways. Indeed, Boeing hasn't won a single order for a stretch version of the venerable 747 that it's offering as an alternative to the A380.

A dazzling start, no doubt. But is it a good deal for Airbus? BusinessWeek has learned that the company is giving extraordinarily generous terms to early buyers. It's selling the cargo model of the A380 for as low as $133 million and the passenger model for just over $140 million--about 40% off list prices and less than the going rate of $140 million to $150 million for Boeing's 747. Airbus is accepting down payments as low as $500,000 per plane while giving customers the option of canceling orders 12 months before delivery without customary penalties. Airbus has offered lenient terms to buyers of established models before. But experts say it's unusual to offer them on a new plane.

True, manufacturers always sweeten the pot for first-time buyers of new aircraft, discounting them and throwing in everything from free pilot training to spare parts. And Leahy, a New Yorker who joined Airbus in 1985, is renowned for luring customers. His dealmaking skills helped the European company break into the U.S. market in the 1980s and boost its global market share from 21% to nearly 50% in the past five years. But, says an airline executive who has seen the terms Leahy is offering on the A380, "I don't know of a deal that has ever been quite this generous."

These concessions only steepen the already difficult path to profitability for the A380. To meet its break-even targets, Airbus says it expects to deliver 250 superjumbos by 2011. But to offset the deep discounts and raise needed working capital, it will have to demand bigger up-front payments from future customers and charge them close to list prices--$218 million to $235 million, says aerospace analyst Paul H. Nisbet of Newport (R.I.)-based JSA Research. Cost-conscious airlines won't readily agree to pay 40% more than their competitors did, say industry watchers. And Airbus has already plucked hot prospects, such as Singapore, Qantas, and Virgin Atlantic Airways, whose Asia and Pacific routes are well-suited to the mammoth jet.

Airbus isn't the only one at risk. To help finance development costs of at least $10.7 billion, it is counting on $2.5 billion in loans from European governments and $3.1 billion in credits from companies such as Saab, Fokker Aerospace, and Taiwan's AIDC, which are supplying major components of the plane. If Leahy can't keep orders rolling in, or if purchases are canceled or delayed, Airbus could be hard-pressed to meet its loan repayment schedules, analysts say.

NO GAMBLE. Airbus says such grim scenarios are nonsense. "This is anything but a gamble," says CEO Noel Forgeard. Chief Financial Officer Andreas Sperl says Airbus should average a 20% pretax margin on the A380 over the next 20 years, well above the industry average. The company says it can hold down costs because the A380's design is closely related to smaller models and because its factories tend to be more efficient than Boeing's. Airbus seems to be humming along smoothly: Last year, it booked a record $41.3 billion in orders. The European Aeronautics Defence & Space Co., which owns 80% of Airbus, says the planemaker accounted for 60% of its revenues and nearly all its operating profits last year.

Airbus, while acknowledging that it expects A380 orders to fall off this year, predicts the pace will soon pick up because of the plane's efficiency. With maximum seating capacity nearly double the 420 on the biggest 747s flying today--Airbus says the A380 will cost at least 17% less per seat to operate than the 747. That could give carriers a big edge on long-haul routes. Boeing says Airbus has overestimated demand because most air-traffic growth will occur on routes between smaller cities, where huge planes aren't needed. That's why Boeing has opted for a stretch 747, designed to carry up to 520 passengers. Retorts Leahy: "They're just flailing around looking for something to compete with us."

By 2008, less than two years after the scheduled delivery of the first A380 to Singapore Airlines, Airbus plans to ramp up production to 50 superjumbos per year and sustain that rate for more than a decade to maintain production efficiency. That means Leahy's sales staff will have to line up dozens more orders when only a handful of planes are in service. The carriers couldn't be happier. "I'm happy to put Boeing and Airbus into a box and let them thrash it out," says Peter Gardner, a vice-president at Cathay Pacific Airways Ltd., which is being wooed by Leahy.

Leahy shows no signs of letting up. To hammer out Federal Express Corp.'s order for 10 planes, he visited FedEx CEO Fred Smith's home last year while Smith was recovering from open-heart surgery. He sealed Virgin's order for five planes in a 1 a.m. phone call with Chairman Richard Branson. Leahy's biggest challenge now is Japan, where Tokyo's Narita Airport should be a prime destination for superjumbo flights.

AD: BOEING. Here Boeing has a daunting advantage. Japanese airlines give 80% of their plane orders to the U.S. company, which has cultivated strong ties by giving contracts to local manufacturers. Dimming Airbus' hopes for an A380 sale in Japan, Boeing recently struck a deal with Mitsubishi Heavy Industries Ltd. to produce the wings for the planned stretch version of the 747. Leahy has beefed up Airbus' sales operation in Tokyo and is scouting for deals with Japanese manufacturers. But he admits those efforts may not pay off quickly.

Boeing has worries of its own. Several years of production bottlenecks cost the company dearly. Boeing executives reckon that Wall Street wouldn't approve of their investing billions to develop their own superjumbo. But if the A380 catches on, Boeing would be hard-pressed to catch up. The 747 can't be stretched further than 520 seats, and designing a new plane would take years. For Boeing and Airbus, the dogfight of the century is only beginning.

By Carol Matlack in Paris and Stanley Holmes in Seattle, with Stanley Reed in London and Chester Dawson in Tokyo

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