Yesterday, United Technologies (UTC) at its Investor and Analyst Meeting announced a series of efforts to boast profitability. Included was a $1.5 billion multi-year restructuring plan focused on structural manufacturing cost reduction within high-cost locations. Actions under this plan are expected to be implemented through 2018.
Because UTC is a major component supplier to the commercial aerospace OEM’s, this announcement has specific significance for that sector. UTC Aerospace Systems includes brands such as Goodrich and Hamilton Sundstrand which provide a broad array of aerospace focused systems and aircraft components. The Pratt & Whitney segment of UTC is a supplier of aircraft engines, and its newly developed PurePower Geared Turbofan aircraft engines are scheduled to enter commercial service. OEM’s Airbus, Bombardier, Embraer and Mitsubishi have each adopted this new design and certified these engines for use in their newer model single-aisle aircraft.
Pratt has been involved in some prior supply chain snafus. In 2013, there was a stunning public disclosure regarding faulty testing certification related to forged metal parts. In October, The Wall Street Journal revealed that Pratt’s production activities were stalled nearly a month due to major snafu at a newly deployed UPS logistics center that was contracted to pre-kit engine parts for manufacturing. The presumption was that this initiative was launched to drive added manufacturing efficiencies and reduced costs. While these problems have subsequently been fixed, the delays cost UTC $500 million in lost sales in its third quarter. According to yesterday’s WSJ report, the company’s aerospace businesses have incurred other stumbles including misreading demand for aerospace spare parts.
Pratt itself has entered a rather important investment phase as it attempts to ramp volume production of its new engines to meet the subsequent ramp-up needs of OEM customers. Approximately 200 new PurePower engines are expected to be delivered in 2016. This will be added drain on near-term profitability, as has been the case with other aerospace engine providers such as Rolls Royce, who garner breakeven profits much later in the development program. For Pratt, negative margin has been reported to be as high as $1 billion by 2019, when production reaches 1500 engines annually.
For UTC, the obvious implication of introducing a major new manufacturing cost-cutting program is to insure that cuts become neither a significant impact nor a distraction to current business commitments. While the specifics are yet to be unveiled, it will be important to observe which UTC businesses will be subject to such cuts. Aerospace components mandate high quality standards and exact tolerances that conform to specifications and regulatory standards. Supply Chain Matters has previously communicated that with current high industry production ramp-up requirements, there is little tolerance for a disruption from a major supplier.
When reporting in third-quarter financial results in October, UTC announced a $16 billion stock buyback program extending through 2017 to boost its shares in the midst of a current pattern of declining sales and profits. This is an obvious backdrop to this week’s cost reduction announcement, one that has played-out in multiple industry sectors feeling the pressure from activist investors. The risk in this case is servicing aerospace OEM’s whose order backlogs currently stretch as much as ten years and who have their own profitability challenges.
The notions of supply chain risk seem to be growing at the expense of needs for appeasing investors.