Lately, one has really had the right to react to the revelation that the compensation of Bombardier's senior executives had been increased. This "revelations" is in fact pulled from the shareholder report and thus constitutes a decision taken by the board of directors in full transparency. However…
It turns out that the $1 billion investment made October 2015 in Bombardier by the Quebec Government – specifically, in a limited partnership dedicated to the C Series – means that from now on, the entire company is likely to be scrutinized much more by journalists and taxpayers. At the end of this saga, management decide to postpone the wage increase by a year or two.
All this noise, however, should not keep us from seriously contemplating how the particularities of the aeronautics market make Quebec's investment and Ottawa's support relatively cheap in the current landscape.
When analyzing the world aerospace industry, it must be admitted that the presence in Montreal of a player as large as Bombardier is a fortunate one; an opportunity as great as it is improbable. To better understand the situation, let us go back in time.
All-in, Like in Poker
In April 2005, Airbus entered the very large aircraft market by unveiling the first prototype of the Airbus 380, an aircraft capable of carrying more than 600 passengers. This market was previously the exclusive monopoly of its rival, Boeing, and the 747. In total, the development of the A380 cost nearly 13 billion euros, not including the manufacturing costs of the first aircraft.
A few years later, Boeing announced of the advent of the 787, an aircraft that is redesigned from A to Z which promised performance almost beyond imagination. The implementation of this project will cost Boeing $32 billion US.
In each of these cases, the development of a new product has absolutely nothing to do with "routine" innovation, which can be marginal and progressive. In Europe as well as in the United States, these huge conglomerates must endanger the entire company and risk bankruptcy every time a new aircraft model is introduced.
In both cases, the companies were supported by massive public investments: military purchases, interest-free loans, start-up assistance, tax reduction on wages... In 2015, 35% of Boeing's revenues came from purchases made by the US Defense Department.
In Brazil, where Bombardier's main competitor, Embraer, is located, the government is no longer trying to hide the repeated investments it makes in its national aircraft manufacturer. From all evidence, these are the rules of the game in a sector where the whole company is endangered each time the next flagship product is developed.
Learning Curve: To Better Understand the Situation
If we set aside the debate about the relative increase or absolute wages paid to individuals, it is even more important for investors to be interested in the progress of the manufacturer's learning curve.
The "learning curve effect" is one of the main indicators that helps anticipate the potential performance of a complex technological product like the C Series. The Spanish engineer Javier Madiavilla explains this effect very well on his blog. The "learning curve effect" refers to the reduction of manufacturing cost when the number of manufactured devices doubles.
Measuring the learning curve determines the level at which the unit cost of a device will change at a given time in the future and, therefore, how profitable it will be. When Boeing's Chief Financial Officer announces, for example, a 20% reduction in the cost of manufacturing the 787 for 2013, this corresponds to a coefficient of 0.8. At this rate, the 1,000th Boeing 787 produced will cost about 20% of the unit cost of the first one manufactured.
In comparison, a learning curve with a 10% improvement would entail a cost close to triple the above scenario for the 1,000th aircraft. In this case, the 1,000th unit would cost nearly 40% of the price of the first.
When looking at Bombardier as an economic player or as an investment target, it is immensely more constructive and relevant to examine the fundamentals of this flagship of the Quebec economy. The future of the Montreal aerospace industry depends on it.
In the end, whatever the blunders in public relations, one thing is certain: Bombardier will grow – or die – at home. In this regard, the company's ability to learn is much more important than the issue of executive salaries.