What Chinese Acquisitions Mean For Competition

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Americans love competition, or say that they do. A fundamental assumption of American business is that capital will find the most efficient way to reproduce itself and companies that fail deserve to fail. Plain and simple, it’s economic Darwinism. It’s a universal principle until, that is, it’s your own ox getting gored or you’re subjected to distorted competitive forces with unknown long-term outcomes.

In Tuesday’s blog on Continental’s Chinese-funded expansion in Mobile, I didn’t delve into these specific details about how AVIC’s investment could affect the competitive environment for a critical part of GA in the U.S.: aftermarket parts and services. It’s worth a look.

In the U.S., the GA market is flat at best, but really in decline with regard to OEM manufacturing and overall flight activity. In real dollars and in units shipped, recent trend lines have been downward and sharply downward since 2008. GAMA data shows that 2016 saw $20.7 billion in new aircraft against $24.8 in 2008. There’s no point in sugarcoating the fact that the pie is shrinking. Continental’s business strategy, which has animated its opportunistic purchases of two companies, is to grow by expanding its share of the pie.

In buying Danbury Aerospace/ECI, Continental creates something that existed only in the margins before: direct competition between Continental and Lycoming. In the old order, these two engine companies competed to the extent that they tried to entice OEMs to select their engines, but once that was done, they left overhauls to independent field shops and were satisfied to provide the necessary parts. As the industry declined, both companies aggressively entered the overhaul markets and the field shop universe declined.

More competition arrived in the form of companies like ECI and Superior, which competed with the engine manufacturers in supplying overhaul parts, especially cylinders but eventually major assemblies like crankshafts and crankcases and even entire engines based on PMA parts. If there was a golden age of this PMA competition, I would peg it between 1995 and 2005, when Superior’s Millennium cylinders were a thing and ECI was finally figuring out nickel-treated cylinders. These gave meaningful competition to both Lycoming and Continental and kept prices in check, at least on popular cylinders.

As the market has declined, both of those companies got into trouble. Superior went down with the Thielert bankruptcy in 2007, not so much as a result of market trends but of mismanagement. ECI got caught short after 2008, probably squeezed between soft sales and high internal costs. With U.S. investors uninterested, AVIC saw an opportunity and snapped it up. I suspect the decision was animated by both a longer term view that looks past short-term returns and the overarching goal to build Chinese expertise at all levels of aerospace. That’s another way of saying Textron’s version of the numbers is very different from AVIC’s.

And that gets us to the significance of Monday’s new factory announcement by Continental. As I said Tuesday, $40 million isn’t a huge investment but if it’s huge enough to fundamentally reset the economics of manufacturing parts like cylinders, crankshafts, pistons and the like, it changes the competitive landscape. Continental is now is a position to compete directly against Lycoming on everything, up to and including complete engines if it certifies and expands the Titan line. With a state-of-the-art factory, it may have internal cost advantages that give it a powerful edge.

Of course, Textron could easily write a check to fund similar reinvestment at Lycoming, but is unlikely to do so because it wouldn’t see the return on investment. Heretofore, Lycoming has largely funded reinvestment with its own internally generated capital with the expectation of certain returns. AVIC isn’t concerned about quarterly earnings in quite the way Textron is so if it sounds like Lycoming is competing on a tilted playing field against a state-owned enterprise, that’s exactly what’s happening.

Is this unfair? Probably, but what about real competition is? Any company will quite naturally leverage whatever assets it can bring to bear to beat the other guy in the market. That’s capitalism 101. The short-term effects of this aren’t necessarily predictable. In purchasing ECI, Continental removed one competitor from the market. Less competition almost always means fewer choices and higher prices. On the other hand, an anemic market will tolerate only so much price escalation before it really heads south. We’re already well into the era of cannibalistic competition. The long-term effects are equally uncertain. If AVIC’s acquisitions eventually force more competitors from the market, it becomes the dominant player and can set prices at will. This would be true whether the investment comes from China, India, the U.S. or Japan.

In aviation, we tend to focus on our narrow universe without regard to broader geopolitics. There’s a tradeoff here. Chinese aerospace investments in the U.S. clearly benefit China and serve its goal to become a dominant economic player on the world stage. But the investment has also at least preserved and probably created jobs in the U.S. that might have otherwise gone the way of the textile industry.

So, take your pick. Chinese investments in Europe are nearly double what they are in the U.S., but the U.S. may be unique for less regulation and oversight of such investments. Why don’t we, by government fiat, stop these acquisitions? Wouldn’t that be in the long-term best interest of the country? Perhaps. And perhaps this will be a topic of conversation when President Trump meets China’s Xi Jenping this week. Then again, circle back to the first line: Americans love competition.

Dueling Idiocy

On the way to the gym Friday morning, I heard this report on NPR. I found it dispiriting that western civilization has declined to the point that we consider the idiocy described in this report as sane enough to merit five minutes of radio time. I kept waiting for the reporter to just burst out and say … seriously?

The story is about TFR violations on Florida’s east coast, where the government throws up a 30-mile restricted area when President Trump is at Mar-a-Lago. He’ll be there this week, by the way, just as Sun ‘n Fun gets fired up.

I’ve already opined about this in a VLOG. The dueling idiocy part is that these TFRs are so large and that the security edifice feels so threatened by an errant Skyhawk that they feel the need to intercept with an armed fighter. At least one has exceeded Mach 1 during the intercept. I get the we’re-not-taking-any-chances approach to this, but by now they have plugged enough data into the security algorithm to realize these incidents have a low probability of threat. I’ve argued to make the TFRs smaller and/or provide the airports impacted by them, especially Lantana, with some relief.

On the other hand, there have been 38 TFR violations. For as excessive as I might argue that TFRs are, that’s a degree of cluelessness that stuns even me. It’s not like these TFRs aren’t publicized for anyone who looks even casually. AOPA sends out an email alert on them. There’s really no excuse for busting one and with Sun ‘n Fun coming, the opportunities expand.

So if you do nothing else before flying in Florida, where the weather rarely requires a detailed briefing, at least check the NOTAMs for TFRs. There’s enough idiocy out there without adding to it.

Comments (22)

As the NPR article mentioned President Trump has yet to go to his New York home after his election victory. Can you imagine Teterboro airport shut down due to the same "security" requirements? What a mess that would/will be!

Posted by: matthew wagner | April 2, 2017 9:26 AM    Report this comment

We do well to remember that competition requires two or more players. With hybrid electric coming over the horizon, much of this seems like excessive concern over foreign-nation-sourced carbon paper.

Posted by: Tom Yarsley | April 2, 2017 9:55 AM    Report this comment

You should look at what China is doing in Africa. That is perhaps the biggest economic story getting little coverage. The U.S. has missed the huge opportunity as parts of Africa become leading economic players while China aggressively saw the opportunity.

Posted by: andrew schmertz | April 2, 2017 10:39 AM    Report this comment

The bigger picture, who is going to buy any of these engines in 10 years? The average age of the General Aviation population is north of 60. Every day the GA pilot population goes down and the expense and restrictions goes up. The real loser in your competition theory is everyone in aviation. The automotive, marine and train transportation industries are the winners in the transportation world. Insurance companies and banks are not gamblers and they are not betting on General Aviation. The Chinese are the only ones left willing to bet on GA. Maybe they're not gambling maybe they see something I don't. Hope they win the bet then all of us in GA win.

No Pilots No Owners No More GA.

Posted by: Klaus Marx | April 2, 2017 1:11 PM    Report this comment

Actually, the average age of GA pilots is around 45. Just the ones you hang around with are north of 60.

But I take your point. Future demand doesn't look rosy, which is why AVIC is betting on China, Africa and Asia at large.

Posted by: Paul Bertorelli | April 2, 2017 1:16 PM    Report this comment

"Americans love a winner and will not tolerate a loser" General George S.Patton

"But I take your point. Future demand doesn't look rosy, which is why AVIC is betting on China, Africa and Asia at large."

AVIC is CHINA. There is NO separation. Their goal is to carry out missions or to provide services for CHINA. Simplistically, CHINA is successfully spreading their political, economic and military authority worldwide without firing a shot. It seems to me that we are helping them by ignorance or greed.

On Presidential TFRs. Well, we had many throughout the Obama visits here at PSP. As a flight school operator they are disruptive and costly. Violations were pretty much the same as the tally in Florida.

Posted by: Rafael Sierra | April 2, 2017 3:32 PM    Report this comment

Klaus:
A vibrant GA doesn't need pilots or owners. It just needs autonomous aircraft that Everyman can use on demand.

Posted by: Tom Yarsley | April 2, 2017 6:24 PM    Report this comment

Paul re your comments on capitalism - how much debt was these companies running while they were paying out profits to shareholders? A modern phenomenon is that there seems to be a belief that shareholder dividends come before paying down debt. That is as clueless as your TFR busts. Banks of course love debt as they have the controlling measure, and will always support you to grow your debt, but look at the fine print, they lock you up on security, effectively owning your heart and soul. The only sensible business approach is to shed debt as fast as possible.

Posted by: Murray Shaw | April 2, 2017 7:35 PM    Report this comment

Continental was previously part of a conglomerate so I'm not sure we know its debt structure. It was believed to be marginally profitable as a discrete business unit, but even that is speculation.

Posted by: Paul Bertorelli | April 3, 2017 3:36 AM    Report this comment

Chinese money, American money, Indian money, British money and even Greek money all smells the same when it is used to pay for factories and salaries.
There have been one or two cases, especially in the wine world, of Chinese investors buying good businesses and ruining them, but most run at least as well, if not better than under previous management.
Volvo cars is a good example.
So I am guessing that the investment in the new factory was carefully thought through with profit in mind and, as such, should cause no problems. And even if the president should have another Taiwanese moment, or decide on the spur of a moment to launch a trade war, once the machines are turing it takes a lot to stop them.

Posted by: John Patson | April 3, 2017 5:26 AM    Report this comment

A new factory in a sunset industry like aviation sounds risky. Its a lot less risky than investing in anything under the rule of a sunset Communist party. Just ask anyone who survived Mao. Plan accordingly...

Posted by: Peter Kuhns | April 3, 2017 6:26 AM    Report this comment

The Chinese invest in business all over the globe, we invest in the military industrial complex all over the world. We'll find out soon enough who the better investors are.

Posted by: Hans M | April 3, 2017 8:26 AM    Report this comment

When American businesses started the large scale sell-out of the middle class American worker in favor of cheap overseas labor (or they just bring it in by the 747-full as in the case of companies like Microsoft and Amazon), the assured downfall of the nation as a whole was set in motion. But they will do that so long as their personal fortunes grow, in the same way an alcoholic looks for their next drink. The Greatest Generation are turning in their graves..

Posted by: Ken Keen | April 3, 2017 8:56 AM    Report this comment

Klaus Marx ... I believe you are correct. As Paul points out -- likely correctly because he is a guru of statistics -- the average age of PILOTS in the US may be 45. But ... the average age of aircraft owners -- a statistic which cannot easily be gleaned from the databases -- is likely much older because owning an airplane isn't for the faint of heart or wallet. I don't know of but a couple under 40. It's the aircraft owners and FBO's that purchase engines, not freshly minted twenty somethings.

Yars ... I think you need to join Autonomous Aircraft Anonymous ... AAA !! You are possessed by that notion. Ain't gonna happen seriously while WE are "able to fog up a mirror," despite the fact that it is doable if money is no object and has been done in the military. Long term, all bets are off.

Posted by: Larry Stencel | April 4, 2017 11:13 AM    Report this comment

Larry:

I'll take your advice under counsel. To be clear, I have characterized autonomous aircraft as the FUTURE of GA.

Meanwhile, a perfect storm is brewing: the January 1, 2020 deadline for ADS-B equipage and the potential implosion of BasicMed (between a dearth of participating physicians, and the drumbeat of opposition from ALPA and the NTSB) are going to cause a massive drop in resale values of light aircraft, as the available pool of potential buyers concomitantly implodes on and immediately after that date.

The marketplace for manually-flown aircraft will bifurcate into home-builders and millionaire Cirrus-buyers - to a great extent, it already has. The emergence of an Uber-like autonomous-vehicle paradigm will be the only thing that will restore participation of the common man. And with man-sized quad-copters (among other designs) already appearing.....

Posted by: Tom Yarsley | April 4, 2017 12:07 PM    Report this comment

I love the smell of bifurcation in the morning, Yars. :-) OK, you clarified 'future' so ... as long as it ain't when I want to fly something, I could care less. I don't want no stinkin' robot airplanes carrying people around my neighborhood. It's bad enough that my beer will soon be delivered that way when I push the "Dash" button on my refrigerator door.

As pessimistic as I normally tend to be, I don't think things are quite as dire as you portend. I just found out that Garmin has lowered the price of their GTX335 with GPS and antenna to $2995 and will be allowing A&P installs (I'm assuming with premade harnesses?) followed by Part 145 Repair Station certification. I think other price adjustments are likely, too. Lots of people don't need ADS-B in their aviation life so they're going without. As long as the boys in DC don't THEN mandate ADS-B everywhere, I think that problem will work itself out. It does make me angry that portable ADS-B is permissible in the UK in any airspace where a transponder isn't currently required, however. If the price of used airplanes falls into the toilet, twenty something new pilots will scarf them up pronto. There's always a price-salability point where the eutectic point crosses. All we can do is hope for the best.

Then, this afternoon I receive a mass email from the Savvy Aviator saying, "Extremely Costly AD may be in the works" for all owners of Continental 520 and 550 engines and some 470's. MSB05-8B will require replacement of the cam gear within the next 100 hour for engines built before 2005. It gets complicated but here's the question that fits into the narrative of this blog ... who within Continental Motors decided -- on the basis of one Bonanza incident -- that all of these engines need to be taken down for cam gears via a MSB and is asking the FAA to make it a formal AD? Was it Rhett Ross or was it the new Chinese owners? And, if it's the later, is it because they really care about safety OR ... need to pay for that $40M plant modernization effort. See how fast things get convoluted here, boys?

Posted by: Larry Stencel | April 4, 2017 5:14 PM    Report this comment

YARS, Larry is correct. Twelve step the hell out Autonomous Aircraft. Mark my words, a hundred years from now we will still be cowboying the stick. Manually! All in knockoff Cessnas and Cirri.

Posted by: Rafael Sierra | April 4, 2017 5:26 PM    Report this comment

Raf:

Today, the average age of the light GA fleet is close to 50 years. If that had been the case when many of us learned how to fly, we would have done so in equipment designed and built by the Wright brothers.

100 years from now, manually-flown aircraft will be as commonplace as Fifi and Doc. You heard it from the local "automation fundamentalist."

Posted by: Tom Yarsley | April 5, 2017 7:29 AM    Report this comment

Food fight!! :-)

To "AAA" for you, Yars. At least we got you to admit it'd take a century which Es macht nichts to those of us here. Besides, think of how special Fifi and Doc are to all of us. Maybe Raf's and my C172 will be revered as much IF that happens and they survive?

Back to the blog topic ... it hit me at dinner. So now we have people in aviation who think electric airplanes are de rigueur and will keep glaciers from retreating and the seas from rising. Airlines and even the USAF are running turbine airplanes on used salad oil. NASA is building an X-57 airplane with 14 electric motors for purposes yet TBD and have named it "The Maxwell." Yars opines that people moving robotic airplanes will be "commonplace." Our daily needs will be delivered by hoards of autonomous drones in near real time with a mere push of a button. Instrument panels of even the simplest airplanes are filled with gadgets and gizmos that become the topic du jour rather than the airplane or flying itself. Some of "our" airspace is being stolen from us unless we pay the ADS-B price of entry. (Isn't that a tax?). Who'd have thunk it'd come to this when 'we' started flying 50 years ago? 50 years after Wilbur and Orville, we were breaking the sound 'barrier' and now ... this! 1984 and Soylent Green have arrived.

Driverless cars. Pilotless airplanes. Like the monikers given to the different generations, maybe "we" will henceforth be known as ... the Fossil pilots? Maybe it's a good thing that AVIC bought CM. We should offer up Lycosaurus, too ... they won't be needed much longer unless we run out of electrons or salad oil.

Phooey ... I'm goin' to Sun-N-Fun ... I heard there are still a few 'real' airplanes with steam gauges there.

Posted by: Larry Stencel | April 5, 2017 9:23 AM    Report this comment

Admittedly, technology can do all kinds of wondrous things, but the real issue is more grounded in human nature; who gets to decide how it will be used and for what purpose?

That, sir, is the ultimate question. Human history doesn't bode well...

Posted by: A Richie | April 5, 2017 9:59 AM    Report this comment

Food fight, indeed!!! ;-)

Can't let my comments be mis-characterized! When I responded to Raf's 100-years comment, I was NOT saying that it will TAKE 100 years to make autonomous flight the standard - merely that that's where we (still) will be in 100 years.

Incoming!!!

Posted by: Tom Yarsley | April 5, 2017 5:45 PM    Report this comment

What is this "competition" of which you speak. As the owner of a C182P. What actually are my competitive options when it is time for OH or factory reman. Lycoming vs Continental vs third party?
I am eager to know all the options available in this certified AC.

I also always find myself at a loss when trying to understand why a factory reman O470S (without installation or accessories) costs about 1.5 times the cost of a Ford/Honda/Toyota/Nissan compact car. Said car pretty well equipped lots of safety features and electronics. Yes I do understand economies of scale but perhaps these engines (certified 1950) were certified using the alloy unobtainium which I understand is in short supply.

Posted by: Howard Nelson | April 7, 2017 12:16 PM    Report this comment

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