What Will the 737 Max Debacle Cost Boeing?

If companies like General Motors and Bank of America were considered too big to fail during the economic downturn of a decade ago, Boeing, one of U.S.’s most critical defense contractors, is even bigger. The company has 150,000 employees and had a market valuation of around $275 billion… before the most recent crash. Boeing shed around $30 billion of value in the week following the Ethiopian Airlines Flight 302 disaster. And it could get worse.

The whole reason for the creation of the “Max” version of the 737 is that it would offer far better fuel efficiency than previous 737s. The move to Max was necessitated by the introduction by Airbus of the A320neo, which, like the Max, is far more fuel-efficient than the standard issue A320. If Boeing wanted to keep selling 737s, it needed a product that could compete with Airbus.

MCAS, short for Maneuver Characteristics Augmentation System, is the computerized safety net that seeks to prevent the 737 Max from crashing should its pilots begin to lose control of the jet. The FAA’s certification of the jet and the MCAS system was by all accounts expeditious.

MCAS is the prime suspect in the crashes of both the Lion Air and Ethiopian Airlines jets. Both of those planes went down after the pilots were apparently unable to control the vertical flight path of the aircraft.The flight path of Ethiopian 302 was confirmed by satellite data. Some have pointed to MCAS as a strategy to meet certification standards without extensive aerodynamic changes to the aircraft. The move enabled Boeing, the theory goes, to bring the new airliner to market more quickly than it otherwise could have.

Boeing did not highlight MCAS in its training materials, and that fact could prove the most costly mistake of all.  

But just what did Boeing know about MCAS issues after the crash of Lion Air 610?

In a Washington Post article, Boeing met with a group from the Allied Pilots Association, the pilots union representing American Airlines Pilots, which is 16,700 members strong. At the meeting, the Post reported, a Boeing representative said that Boeing didn’t want to add the MCAS training information to the syllabus for the new plane because it didn’t want to “inundate [airline pilots] with information,” a statement that Boeing, according to the Washington Post, denies making. Regardless, the reaction of the APA pilots in attendance was quite clear. They were outraged that Boeing would fail to provide that information.

In terms of liability, if Boeing were to be shown to be negligent in its actions or inactions in the introduction of the new safety system and if that system were to be shown to have caused or contributed to the two disastrous crashes of 737 Max planes, the liability could be in the billions of dollars. This is especially true if Boeing knew there were critical issues with the system after the Lion Air crash and failed to address them until after a second disaster.

The plane maker faces huge potential damages from airlines seeking to recover losses from the grounding of its 737 Max planes, as well.

With US GDP in Q1 already tracking at a barely positive 0.4% according to the Atlanta Fed and expected to barely hit 2.0% for the full year, it wouldn't take much to push the US economy into a contraction in the current quarter.

The fiasco involving the Boeing 737 MAX, which according to JPM economist Michael Feroli, could begin impacting the economic dataflow. According to the biggest US bank, the issues affecting the 737 MAX should have no short-run impact on GDP, as production of this airplane is continuing, but will affect the composition of GDP, implying more growth in inventories and less growth of business investment and gross exports.

However, if the issues are not resolved in a timely manner and production of the 737 MAX needs to be halted for an extended period of time, it would take about 0.15% off the level of GDP, or about 0.6%-point off the quarterly annualized growth rate of GDP in the quarter in which production is stopped.

The value of total shipments of aircraft by domestic producers in the US totaled $129 billion in 2016. Extrapolating that figure using monthly shipments data by the aircraft and parts industry implies a similar figure for 2018, around $130 billion. Around 55% of that production is destined for export, 35% is purchased by domestic businesses, and 10% by the Department of Defense.

Of this total (in 2019), sales of the 737 were projected to total about $35 billion, with about 90% accounted for by the MAX model. About one-quarter of total domestic aircraft production according to JPM's equity analysts. This value of shipments figure includes parts suppliers, not just the value added by Boeing, and so should be a reasonably accurate approximation of the GDP impact of the 737 MAX for this year: about 0.15%. 

References:

1. What could 737 Max Debacle cost Boeing? Isabel Goyer, March 14, 2019, Plant & Pilot, (https://www.planeandpilotmag.com)

2. U.S. GDP may be hit by the Boeing 737 Max Fiasco, Tyler Durden, March 22, 2019 (https://www.zerohedge.com)