Case Study #3: SWOT Analysis of AAR Corp.



|ATENEO GRADUATE SCHOOL OF BUSINESS |

|Case Study #3: SWOT Analysis of AAR Corp. |

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|Submitted by: |

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|Katrina Angelica Marañon |

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September 20, 2013

Submitted to:

Dr. Naomi Martin

PRIMAN – S50

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I. Company Overview

AAR CORP. is an aviation support company that provides diverse products and services to worldwide aerospace, commercial aviation and government/defense industries.

AAR combines a close-to-the-customer business model with a broad range of capabilities to help customers operate more efficiently, lower costs and maintain high levels of quality, safety and service. AAR is a financially stable, dedicated partner with an enduring commitment to innovation, execution, continuous improvement and customer value

Commercial Aviation

AAR serves passenger airlines, cargo carriers, tier two suppliers and aircraft and engine OEMs with diverse MRO, engineering, logistics and precision fabrication capabilities. AAR provides both stand-alone services and customized, integrated solutions offered though unique combinations of our diverse products and services. AAR products are built to meet customers’ exacting specifications and offer lasting performance. AAR services are performed by highly experienced, customer-focused engineers and technicians that leverage world-class training, techniques and technologies. AAR is the second largest independent provider of MRO services in North America.

Government/Defense

AAR provides specialized products and services to support national defense, homeland security and humanitarian aid operations. Our field-proven products move troops and equipment into theaters of operations, sustain in-theater activity and provide real-time communications and situational awareness. AAR’s logistics and MRO services keep advanced aircraft platforms and ground equipment mission ready and operating at peak efficiency. AAR also designs and fabricates machined and composite structures for aerospace and defense applications. AAR is dedicated to the very best in public/private partnerships and was recently ranked among the Top 100 defense contractors in the world.

Headquartered in Wood Dale, Illinois, a suburb near Chicago O’Hare International Airport, AAR employs more than 6,000 people at more than 60 locations in 13 countries.

ummary

AAR Corp. (AAR) is a US based company, engaged in providing diverse products and services for defense and aviation industries worldwide through its subsidiaries. The company operates its business activities through seven subsidiaries, namely, AAR International, Inc., AAR Manufacturing, Inc., AAR Aircraft Services, Inc., AAR Services, Inc., AAR Aircraft & Engine Sales & Leasing, Inc., AAR Parts Trading, Inc and AAR Logicor, Inc. AAR’s product portfolio comprises a wide range of products such as shelters, containers, airdrop, cargo loading and handling systems, mobility systems, airframe parts, engine and advanced composite materials. The company also provides various services such as aircraft maintenance and overhaul, components repair, parts replenishment, aircraft and engine leasing, avionic service and installation, painting, airframe maintenance inspection and overhaul, advisory and asset management. It operates through four business segments namely Aviation Supply segment, Government and Defense Services segment, Maintenance, Repair and Overhaul segment and Structures and Systems segment. AAR is headquartered in Wood Dale, Illinois, the US.

II. Company Problem

Today's aerospace and defense original equipment manufacturers are facing new challenges that require cost-effective solutions, without compromising quality.

III. SWOT Analysis

Strengths:

- Increased propensity to fly

- The safety record, and the associated public acceptance of air travel as both a fast and safe way to travel

- Airline staff is highly trained and experienced, from pilots and flight attendants to mechanics and ground staff

- Airlines have the ability to segment the market to establish different levels of service and pricing decisions

- Largest global aircraft manufacturer by revenue, orders and deliveries, and the second-largest aerospace and defense contractor in the world

- Efficient design and production systems

-  Largest exporter in the United States – provides leverage with US government

-  Product diversification (customer and commercial financing, information space and defense systems, and commercial aircraft)

• Customer loyalty combined with expanding closed ecosystem. While at first Apple’s closed ecosystem was a weakness for the business, this has now changed. First, Apple now has a full range of apps, software and products that are interlinked and support each other. Second, new products and supplements will be released soon (iTV), hence expanding the ecosystem. Third, Apple has a strong customer loyalty, which increases due to Apple’s closed ecosystem, which, in turn, is supported by customer loyalty. So the combination of Apple’s expanding closed ecosystem and customers’ loyalty increases firm’s competitive advantage.

• Apple is a leading innovator in mobile device technology. Apple has been chosen as the most innovative business in the world for the 3rd time in 2012. Company’s core competency of producing innovative products is the strength the company builds upon and is able to bring the most innovative products to the market.

• Strong financial performance ($10,000,000,000 cash, gross profit margin 43.9% and no debt). Apple’s financial performance is one of the best among many companies. Company currently (end of 2012) holds about $10,000,000,000 in cash, which can be used for acquisitions, buying back company shares and other matters. It also has higher gross profit margin than its main competitors, which is equal to 43.9%. Company has no debt and is not directly affected by interest rates or credit markets.

• Brand reputation. Apple has a reputation of highly innovative, well designed, and well-functioning products and sound business performance. Apple brand is valued at $76.5 billion and was the second most valuable brand in the world in 2012.

• Retail stores. Apple’s retail stores ensure high quality customer experience; provide direct contact with knowledgeable staff and increases brand awareness. Besides, Apple’s stores are one of the most profitable in terms of sales/ft2.

• Strong marketing and advertising teams. Marketing is one of the strongest functional areas Apple has. It can sell pricier products, build superior stores (they are more or less built to achieve marketing goals) and advertise their products in a compelling manner.

Weaknesses:

- Aircraft is expensive and requires huge capital outlays

- Large workforces spread over large geographic areas require continental communication and monitoring

- Airlines have difficulty making quick schedule and aircraft changes due to staffing commitments

- Too large, heavy reliance on subsidiaries and foreign companies in order to complete the manufacturing of aircraft

- High price

- Incompatibility with different OS

- Decreasing market share

- Patent infringements

- Further changes in management

- Defects of new products

- Long-term gross margin decline

1. High price. Apple’s products cost much more than its competitors devices. Some critics argue that the price is not justified. When there’s such a fierce competition, Apple products price becomes a weakness because consumers can easily opt for similar quality but lower price products.

2. Incompatibility with different OS. The iOS and OS X are quite different from other OS and uses software that is unlike the software used in Microsoft OS. Due to such differences, both in software and hardware, users often choose to stay with their accustomed software and hardware (Microsoft OS and Intel hardware).

3. Decreasing market share. The less market share Apple has, the less it can influence its potential customers and persuade them to jump into using Apple’s closed ecosystem products.

4. Patent infringements. The firm is often accused of infringing other companies’ patents and has even lost some trials. This damages Apple brand and its financial situation.

5. Further changes in management. Apple has lost Steve Jobs in 2012 and Tim Cook became the new CEO. Scott Forstall and John Browett (chief of retail) left the company too and this will have an impact on company’s management, which, as many think, will be negative.

6. Defects of new products. This is not current Apple weakness but one that jumps out time to time. Some of Apple’s iPod and iPhone releases had clear faults and thus disturbed sales of the products and firm’s reputation of superior product performance.

7. Long-term gross margin decline. Current Apple’s gross margin is one of the highest in the tech industry but analysts fear that due to increasing component prices and competition current margins will not be sustained. Hence, glooming firm’s future financial performance.

Opportunities:

UAVs carry great potential for public safety and agricultural, communications and law enforcement applications

- Offers continual expansion opportunities for both leisure and business destinations

- Technology advances can result in cost savings, from more fuel efficient aircraft to more automated processes on the ground

- Technology can also result in increased revenue due to customer-friendly Internet access and other value-added products for which a customer will pay extra

- Cost and Technical powerhouse from systems to aircraft

- IRAD (Industrial Research and Development)

- US-based and International market expansion

1. High demand of iPad mini and iPhone 5. iPad mini sales will increase Apple’s market share in the tablet market and, will strengthen firm’s competitive advantage.

2. iTV launch. iTV launch will support Apple TV sales and the products’ ecosystem.

3. Emergence of the new provider of application processors. Samsung, the main Apple’s competitor, is also the only provider of application processors for Apple’s products. Apple has to find a new source for the component but could not find a suitable one yet. Nonetheless, new manufacturers with superior engineering capabilities are arising and it’s just a matter of time, when Apple will seize upon the opportunity of being less dependent on its direct competitors.

4. Growth of tablet and smartphone markets. Growth of tablet and smartphone markets is a good opportunity to expand firm’s share in these markets.

5. Obtaining patents through acquisitions. Apple lacks of some patents to sustain its growth and the best way to acquire those patents is to acquire the firms holding them. In addition, Apple could develop new skills and competencies.

6. Damages from patent infringements. Apple patents are often infringed by its competitors. Thus, collecting the damages from the companies that do so is a viable opportunity to not only increase the cash reserves but to damage the competitor’s reputation and sales as well.

7. Strong growth of mobile advertising market. Apple has developed iAd advertising platform, which allows advertising on Apple iPhone, iPad and iPod touch. The growth of mobile advertising market is an opportunity which could be further seized upon.

8. Increasing demand for cloud based services. Apple could expand its range of iCloud services and software as the demand for cloud-based services is expanding.

Threats

Outdated federal regulations regarding airwave spectrum allocation and exports stand in the way of growth of unmanned aerial vehicles (UAVs)

- A global economic downturn negatively affects leisure, optional travel, as well as business travel

- An upward spike in the price of fuel can cause airline costs to shoot up

- Any unforeseen global events such as terrorist attacks, wars, pagues may negatively affect air travel

- Government intervention can result to costly taxes or unexpected new international competition

Airbus (key competitor) being subsidized by European common market

 -Boeing competing head to head with Airbus in the world market

 -Further focus on refurbishing vs. buying new planes across the airline industry could impact demand

[*] Rising commodity prices

 [*] Government contracts & future regulation

 [*] Potential decreases in US government spending

 [*] Employee retention & availability

 [*] NASA budget proposal to cancel Orion

 program

1. Rapid technological change. One of the most severe threats Apple and the other tech companies are facing is rapid technological change. Companies are under the pressure to release new products faster and faster. The one that cannot keep up with the competition soon fails. This is especially hard when a business wants to introduce something new, innovative and successful. Apple was able to bring very innovative products to the market so far but for the moment, even Apple hasn’t unveiled any plans for the new products (except iTV) and may lack new introductions to keep up with competition.

2. 2013 tax increases. Tax increases in USA in 2013 will negatively affect Apple.

3. Rising pay levels for Foxconn workers. Pay levels for Foxconn’s workers already rose 3 times from 2010 to 2012. Foxconn is the main manufacturer of Apple products and the rising pay level for Foxconn’s workers will likely raise the prices for Apple products.

4. Breached IP rights. The companies that breach Apple patents might not be discovered soon and may benefit from it, while weakening Apple at the same time.

5. Price pressure from Samsung over key components. Samsung has already asked Apple to pay higher price for its application processors. Due to intense competition and no viable substitutes, Apple may be asked to pay even more.

6. Strong dollar. Apple earned more than half of its revenues from outside US. Dollar appreciation against other currencies reduces potential profits from those countries.

7. Android OS growth. Android OS is the main competitor for iOS in mobile device market. The domination of Android decreases iOS power over influencing consumers to join Apple.

8. Competitors’ moves in online music market. Apple faces threat from online music stores, such as Amazon, Wal-Mart and online music subscription companies, such as Spotify.

9. Turkish Airlines is a rising force in the European and Middle East aviation industry, capturing the interest of investors, alliance partners and rivals. The fast-growing carrier is not only increasing its size at a time when the majority of its European counterparts are shrinking, but is profitable whilst doing so. After reporting the third largest net profit and seventh largest operating profits in the aviation industry in 2008, the airline's revenues and profits are expected to increase from these bases in 2009. Investors are clearly delighted with the airline’s growth trajectory, with Turkish Airlines’ stock surging 425% in 2009 – the biggest gain by far among carriers tracked by The Centre globally last year. But can the dream run continue?

10. Strong position in markets it serves

11. Turkish Airlines is not only a substantial full service carrier in its own right, but also maintains a solid position at the low cost end of the market, domestically through AnadoluJet and its Lufthansa JV in SunExpress.

12. This reinforcement allows the flag carrier to focus on its core, full service role, and to continually grow its position in the expanding Eastern European and Middle East and central Asian markets.

13. At present, Turkish really appears to be on a roll. Most of the key ingredients line up to make strengths and opportunities the dominant forces in the carrier's landscape. Even its weaknesses are little more than an inability to grasp opportunities fully (such as for example under-use of the potential of Star membership codesharing). In some ways the scenario almost appears too good to last. But most of the right building blocks are now in place for sustained and profitable growth in what is still in many ways an under-exploited market.

STRENGTHS:  Strong national features and  profitable growth in a difficult 2009

1. Expanding home market economy and favourable demographic: Turkish Airlines has a unique growth opportunity. With a population of 75 million, a dynamic economy, a relatively large geographical area (780,000 sq km) and increasing disposable income among its population, Turkey’s air travel demand continues to grow, at a time when the majority of Europe is experiencing sharp reductions. The main economic concern at present is a still high level of inflation, at around 6.5% in 2009 - but down from previous heights.

2. Strategic geographic position: The country is attractively geographically positioned, located only three hours flight time from 50 different countries (according to Turkish Airlines) and its unique position.

Turkish Airlines benefits significantly from the combination of its strategically valuable geographic position and its Istanbul hubbing capability. Straddling Asia and Europe, while relatively close to the Equator, Turkey offers its national airlines – and Turkish in particular – powerful access to:

1. A large and increasingly affluent domestic market and massive expatriate community, much of it in Germany;

2. Western Europe;

3. Eastern Europe;

4. The Middle East;

5. Central Asia; and

6. Long haul one-stop sixth freedom connections, in much the same way as the Gulf airlines, Emirates, Etihad and Qatar Airways have exploited global markets. Unlike those airlines, Turkish has the advantage of a large home base, to generate economies of scale.

For Turkish, there is still considerable upside in the latter of these, which in turn grows its network strength and connectivity options into its extensive short and medium haul European routes.

 

3. Revenues and profits on the rise: Turkish Airlines continued to grow in 2009, with the carrier stating it expects to slightly exceed its 2008 revenue figure of EUR3.2 billion in 2009.

In the nine months to Sep-2009, the carrier reported an operating profit of EUR285 million, a 17% year-on-year increase, on stable revenue of EUR2.4 billion.

4. Substantial cost advantage over rivals: During the nine months ended Sep-2009, Turkish Airlines claims it was the “most cost efficient among its European Peers”, with a cost per ASK of EUR 5.05 cents, a 19% year-on-year improvement (although RASK was also lower, down 17% in the period), and for the lowest CASK at the airline in at least the past five years, aided in part by lower-than-average personnel and fuel costs.

5. A beneficial revenue-expense profile: Also beneficial for Turkish Airlines is the advantage that its income is diversified among the major currencies, to a much major greater degree than most airlines, minimising exposure risk from both the income and expenses side. 

The strength of the euro against the US dollar over the past year has been a major contributor, as the TRY and the US dollar together account for 80% of expenses; meanwhile, 40% of revenues are in euros and only 13% of expenses.

6. Rising market share: Turkish Airlines also experienced continued strong traffic growth in 2009, going against the European trend, handling 26.8 million passengers. Turkish expects this to increase by 49% to 40 million passengers p/a in 2012.

During the nine months to Sep-2009, passenger numbers increased 10% to 18.6 million, as the carrier increased capacity (ASKs) by 20.6%, driven by a 24.3% expansion on international operations. As a result, passenger load factor declined 4.0 ppts to 70.9% and is one of the biggest issues going forward for the airline as its continues to aggressively enlarge its network.

7. Strong domestic presence: Turkish Airlines currently operates to 37 domestic destinations. Its domestic operations accounted for 22.5% of total revenues in the nine months ended Sep-2009. Turkish Airlines, excluding subsidiaries, currently has a 67% domestic market share, and a 59% international market share (approximately 67% including subsidiaries). This is a very high penetration by industry standards and one of Turkish Airlines' core strengths. It is a virtually impenetrable fortress, given the yield premium it also enjoys over its rivals.

WEAKNESSES: Expensive fleet structure and aircraft utilisation moving in the wrong direction

1. Higher risk organic growth strategy: In early Jan-2010, Turkish Airlines CEO, Temel Kotil, stated he believes now is the right time to expand, despite the lingering impacts of the global financial downturn.

The Star Alliance member (it joined on 01-Apr-2008) currently operates a network of 119 international and 37 domestic routes. It has set an ambitious target of eventually becoming the largest carrier in Europe, by operating to every major city in the Continent.

THY also plans to focus its expansion plans on the Asia Pacific region, in what Dr Kotil described as Stage 2 of the airline's development, looking to launch services to Australia, China, Pakistan, the Philippines and Vietnam in the near future, after launching Istanbul-Singapore-Jakarta service in Sep-2009.

2. Massive fleet growth to fund: The push is reflected in Turkish Airlines' massive aircraft order book, which will have a considerable financial drain on the airline in coming years. The carrier disclosed heavy Pre-Delivery Payments in conjunction with its fleet growth plan, totaling approximately USD900 million in 2009. Turkish Airlines, which currently operates a fleet of 130 aircraft, stated that it would purchase 105 aircraft according to its Fleet Plan for 2009-2023 (valued at approximately USD6 billion).

Specifically, the carrier has confirmed plans to add ten aircraft in 2010 (five B777s, four A330-300s and one A330-200F) and a further 11 aircraft (seven B777s, three A330-300s and one A330-200F) in 2011, at which point the carrier’s fleet composition will be 26.1% widebody and 70.3% narrowbody.

3. Fleet flexibility premium: With just 7% of its fleet currently owned, Turkish Airlines is paying a premium for the amount of flexibility it enjoys through its high level of leasing (the carrier has annual lease payments of well over USD500 million).

Industry practice is around 50% fleet ownership. Carriers like Turkish, Malaysia Airlines and others have had low levels of fleet ownership, but are now moving to reduce their reliance on leasing.

4. Decreasing fleet utilisation: In the nine months ended Sep-2009, Turkish Airlines’ fleet utilisation decreased, with average utilisation down by 8% for wide-bodied aircraft and 2% for medium-haul aircraft. This suggests recent fleet expansion rates have been overly ambitious, with Turkish slowing rates of fleet deployment. With rapid capacity growth planned again in 2010, load factors could again come under pressure and fleet utilisation rates could fall further in response, reducing the overall efficiency of asset deployment.

5. Under-utilising the potential of a strong alliance: Despite its commitment to an alliance strategy, in practice, Turkish Airlines' aggressive organic expansion push is still out of alignment with its alliances mantra. A relative newcomer to the alliances fold, Turkish is under-utilising its Star partners’ networks to/from and beyond Turkey.

Although it has 25 codeshare partners (including its Star Alliance partners), Turkish Airlines is still operating 63% of its total weekly capacity with its own aircraft. This is the second highest proportion in the Star Alliance after EgyptAir (also a newcomer to the Alliance, joining in Jul-2008), which increases the carrier’s fleet requirements, cost base and operational risk.

With its geographical location as a would-be (as opposed to genuine) aviation hub, Turkish has yet to exploit the connectivity potential of growing its point-to-point network, increasing its costs and potentially impacting on future profitability.

OPPORTUNITIES:  Turkey – a market of opportunities

1. A growing market, despite the economic crisis: According to EUROCONTROL, IFR movements in Turkey in 2009 increased 4.1% year-on-year, to be one of the few European countries to experience growth in the period, while several major nations saw reductions of 7% and more.

2. Cargo growth upside potential is large: For the first nine months of 2009, Turkish Airlines' total cargo traffic grew by 9% over the same period in 2008.

Coming against what was a "catastrophic" decrease in AEA airline cargo traffic by mid-2009, this was a remarkable result. For most other airlines globally, cargo is still contracting. European airlines again measured double digit reductions year on year in the latest month for which data is currently available, Oct-2009.

THREATS: LCCs and currency may challenge profitability

1. LCCs increasing their presence 

After bursting onto the scene five years ago, Turkish LCCs have increased their domestic market share to 21%.

(2) Currency shifts may inhibit profitability:

Just as Turkish Airlines has benefited from the highly valued euro since 2008, notably against the US dollar this equation could shift adversely. The carrier generates a significant portion of its revenues in euros, while the US dollar accounts for a disproportionate amount of its costs.

As noted previously, 80% of Turkish Airlines’ costs are in its local currency and US dollars, while 40% of revenues (against only 13% of costs) are in euros. This has been a positive for THY during 2009, but this may change.

There is no immediate indication that the US dollar will strengthen against the euro, but the latter is at all time highs, suggesting that the situation may reverse in the future; equally, the previously inflation-ridden Turkish economy can make predictions of the level of the Turkish Lira difficult. As the carrier expands its basket of currencies, with new long haul routes, the currency equation will become more complex, but for the time being, its effects have been benevolent.

OUTLOOK: Tougher conditions ahead?

Turkish Airlines is unquestionably one of the brightest stars in the region, enjoying profitable growth and compelling expansion opportunities. But the dream run could be ending, as the airline steps out of its niche in pursuit of aggressive organic growth.

A rapid build-up of new long-haul routes will take time to mature and could dampen future earnings. Its expansion agenda is also increasingly pitting Turkish against the likes of Emirates, Qatar Airways and Etihad Airways in many markets, which has yield implications going forward. Its geographic position means Turkish is also less able to leverage the benefits of extensive hub codesharing with its Star Alliance partners, which means Turkish must continue to grow its network with its own metal – a high cost and riskier option.

Turkish Airlines has been strongly dependent on the leasing market, although this strategy is now changing, which will also dramatically change its financial profile in the years to come. A significantly heavier debt load is ahead, which could also eat into earnings.

Turkish Airlines has undoubtedly been an investors’ paradise in recent years. But the airline’s mid-term agenda looks more like a bankers’ paradise and a tougher competitive grind for the airline’s management.

The carrier has had a remarkable year in 2009, while most others around it have faltered. There looks to be the momentum to keep this going well into 2010, if not beyond, but from a position of such dominance there will be a feeling that consolidation, as opposed to further rapid expansion, may be a safer strategy.

Overall however, Turkish Airlines appears very well-positioned to tackle the challenges – and opportunities - that lie ahead.

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