As the Covid-19 pandemic ripped across the global economy, devastating the civil aerospace industry, the chief executive of Mitsubishi Heavy Industries had to make a defining decision: whether to go through with the $550 million (€475 million) acquisition of Bombardier's regional jet division.
Seiji Izumisawa, who took the helm of the Japanese industrial group in April last year, already anticipated a 2019 loss as a result of $2.5 billion in writedowns in the aerospace division. With the market for passenger jets collapsing as coronavirus brought travel to a standstill, the Bombardier assets would have to be written off on day one, wiping out profits for 2020 as well.
Nonetheless, Mr Izumisawa last month opted to press ahead, upping the stakes in a business adventure with few parallels: the Japanese national champion has spent the past two decades and billions of dollars trying to break into the market for commercial aircraft.
It is a bold gamble that could catapult MHI into the global leagues of the aerospace industry at a time of unprecedented upheaval. Its success or failure will test whether Japan’s traditional conglomerates can transform themselves into nimbler, international players.
"There are some investors who look at Mitsubishi group as being symptomatic or emblematic of problems inherent in Japan, " said Citigroup analyst Graeme McDonald. "If you think Japan is changing, we need to see change from Mitsubishi group."
MHI’s project to develop a regional jet – an airliner with fewer than 100 seats – has strained the finances of a company with more than 80,000 employees and sprawling interests ranging from forklifts, shipbuilding and turbochargers to space rockets, coal power stations and the defence industry.
Few Japanese CEOs have a tougher assignment than Mr Izumisawa, who is also contending with the impact of Covid-19 across other divisions and the shift to renewable electricity in MHI’s mainstay energy business. “Our aerospace and automotive businesses have suffered the biggest impact [from coronavirus],” he said in an interview.
With MHI projecting that cash outflows this year could hit ¥400 billion (€49bn), analysts warn investors will lose interest entirely barring bolder moves to sell or merge struggling divisions. “Mr Izumisawa has to deal with decisions made five to 10 years ago,” said Mr McDonald. “Whether he is the person to transform Mitsubishi Heavy remains to be seen. It’s going to be a real struggle.”
SpaceJet
The Mitsubishi SpaceJet, as the jet project is known, could still prove "one of the worst projects in corporate Japan's history", said Mr McDonald. Yet the opportunity is tantalising: Canada's Bombardier is gone and Embraer of Brazil – the other big regional jets player – is vulnerable after the collapse of its tie-up with Boeing.
"With only two companies now...it's a chance for us to break into the market," said Mr Izumisawa. "At the same time, there has been a severe impact on our clients in the airline industry and the market is shrinking. The question is how we set our strategy to deal with both." Airbus is also a threat, with the 108-160 seat A220, formerly the Bombardier C-Series.
Mr Izumisawa’s answer is to try to nurse SpaceJet through the downturn. While going ahead with the Bombardier deal, he suspended development of the 76-seat M100 model, halving this year’s budget. MHI will concentrate on finally winning regulatory approval for the 88-92 seat M90, which was supposed to enter service seven years ago.
But in Bombardier, Mr Izumisawa has the daunting task of integrating a business that is bigger and more international into the Japanese group. “We have sent a few key people from Japan, but it will be a huge challenge for them to manage the local engineers, salespeople and other staff,” he said.
Ideally, the downturn caused by the pandemic will give MHI time to overcome longstanding technical problems and get the M90 certified so it is ready to sell when the market bounces back. “It’s not a bad time to not be producing a regional jet,” said Sash Tusa, aerospace and defence analyst at Agency Partners in London.
For its regional aircraft foray to succeed, however, MHI will almost certainly have to revive the M100 as well, because “scope clause” restrictions mean the M90 is too heavy for the crucial US market. These terms in pilot union contracts limit the size of jets that can be flown by a US carrier’s regional affiliate, so eventually MHI will need to offer the 76-seater.
Boeing
Another question for Mr Izumisawa is the company’s relationship with Boeing, for which MHI manufactures wings for the 787 Dreamliner and fuselage sections for the 777. The foray into regional jets threatened to turn the two companies into competitors, when Boeing last year agreed to take an 80 per cent stake in Embraer’s commercial aircraft division.
However, Boeing walked away from the deal in April, blaming Covid-19. That not only weakens Embraer as a competitor but also creates a gap in Boeing's product line-up, said Scott Hamilton, managing editor of industry website Leeham News.
“I can paint a scenario where Mitsubishi and Boeing create some kind of partnership” to compete with the Airbus A220, said Mr Hamilton. “It would be a great opportunity for Mitsubishi to jump into the big leagues a lot sooner than they could on their own.”
So far, the 136-year-old Japanese group has kept the high-profile national project afloat using cash from stronger divisions, such as gas turbines. But that traditional conglomerate approach is faltering as MHI tackles the transition to renewable energy and coronavirus fallout.
"The company has struggled to take advantage of its conglomerate model," said JPMorgan analyst Tomohiko Sano. "Instead, they're moving in step with their rivals by retrenching in the face of tough business conditions."
The challenge for MHI is to use earnings gleaned from its considerable strengths – a reliable defence business and high-margin niche businesses – to capitalise on its opportunity to become a fully-fledged aircraft manufacturer.
“Our approach to the whole aerospace segment will be a big issue in our next medium-term business plan,” Mr Izumisawa said.
MHI’s share price has dropped 37 per cent this year as the longer-term outlook darkens for its nuclear, shipping and coal-fired power station businesses.
To improve profitability and finally get SpaceJet off the ground, analysts are looking to Mr Izumisawa to undertake the kind of radical business shake-up shunned by his predecessors.
“I have not ruled out my options including the sale of businesses,” Mr Izumisawa said. “I think our current portfolio is better than before but that doesn’t mean it will remain better two or three years down the road.”– Copyright The Financial Times Limited 2020
