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It was voted “Airline of the Year” in the world’s largest assenter poll, conducted by Ashtray Research In 2005, and named “Airline of the Year” by Alarm Transport World magazine In 2006. 2 However, there was an operational pain that continued to bother Cathy Pacific. In March 2007, Robert Taylor, manager of inventory operations, and Paul Barbell, manager of procurement of aircraft components and maintenance, were requested to head up a task force to optimism the supply chain management of spare parts operations at Cathy Pacific.

Aviation spare parts constituted a significant expense In Cathy Pacifism’s financial statements. From the balance sheet perspective, as of December 2005, the total Inventory value of all aviation spare parts amounted to over SUSSEX million. Dead and Inactive stock accounted for 3% per annum and was an issue to manage with care due to obsolescence and unpredictable demand patterns. Supply chain management for aviation spare parts was complex because of the need to ensure timely service availability of a huge variety of stock and to comply with stringent quality and regulatory requirements. Company interview on 25 July 2007. For details, see Cathy Pacifism’s website: http://move. Catalytically. Mom. Karen Lee and Jonathan Polloi prepared this case under the supervision of Ben]mall Yen for class discussion. This case is not intended to show effective or ineffective handling of decision or business processes. 0 2009 by The Asia Case Research Centre, The university of Hong Kong. No part of this publication may be reproduced or transmitted in any form or by any means?electronic, mechanical, photocopying, recording, or otherwise (including the the permission of The university of Hong Kong.

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Ref. 09/ICC Aviation Spare Parts Supply Chain Management Optimization at Cathy Pacific Airways Limited 9/ICC A bolt for a desk chair costs a dollar. The same bolt for a chair on an airplane would cost 30 dollars. It is that magnitude of difference. Everything for an aircraft is massively expensive. – Paul Barbell, manager of procurement, Cathy Pacific The challenge for the management team was to explore alternatives for optimizing spare parts supply chain management and instigate process improvement.

The Aviation Spare Parts Industry Managing spare parts in the aviation industry had always been a challenge for airline operators because the aviation supply chain was unusually complicated. The aviation industry was regulated by international and local authorities such as the US Federal Aviation Administration (“FAR), the European Aviation Safety Agency (“EASE”) and the Civil Aviation Department of the Government of the Hong Kong Special Administrative Region.

Mechanics certified by the FAA were required to check all non-deferrable repairs before a plane’s departure and verify that all regulations were met. In addition, the FAA had the authority to ground a plane if airline operators did not complete the deferrable repairs within the stipulated timeshare. All suppliers of airplane spare parts were required to possess special legal certifications and formal protocols, which were stipulations that indicated assumption of responsibility in case of an accident.

Turnaround time for repairs was critical, as highlighted by measurable and non-measurable costs. In addition to standard passenger compensation for flight delays such as hotel accommodation, it cost IIS$60 per minute to keep an aircraft on the runway. 5 Moreover, there existed a risk that customers might be upset or even shift to other airlines if delays caused them to lose heir connecting flights. Therefore the cost of aircraft delays was a key decision making element in engineering. Aviation spare parts themselves were also expensive and complex.

To illustrate, the average cost of an engine was IIS$12 million and comprised thousands components and assemblies ranging from nuts and bolts to ten thousands. In addition to manufacturing expenses, the high costs were attributed to regulatory and testing requirements of spare parts for reliability. The variability of airplane spare parts, coupled with the sporadic nature of demand for aircraft maintenance repair parts, made spare parts demand forecasting more difficult, necessitating increased manpower. Buyer’s Market The carrying costs for aviation spare parts inventory were relatively expensive.

Future demands for spare parts were made based on maintenance information, scheduled However, the usage pattern of spare parts remained highly unpredictable because of the high level of demand variability. It was reported that 30% of the inventory of a traditional airline was active, another 30% was slow-moving but necessary to have on hand and the remaining 40% was dead stock. It was estimated that the airline industry spent over IIS$II billion per year on spare parts, of which 10% came from airlines’ and overhaul agencies’ pre-owned stocks. The value of spare engines for major airlines was estimated at over IIS$II billion and the 3 SHCOON, M. And Pat©-Cornell, E. (2000) “Delays and Safety in Airline Maintenance”, Reliability Engineering and System Safety, 67 (3), up. 301-309. 5 6 Harrington, L. (2007) “From Just in Case to Just in Time”, Air Transport World, 44 (4), up. 77-80. 7 Doug, B. (2000) “Spares Apart”, Aerospace International, 27 (6), up. 14-17. 4 verbal value of spare parts stored by the airline industry had increased from IIS$45 billion in 1995 to IIS$50 billion in 2002, of which 80% was owned by airline operators. Aircraft components were complex, high-level modules consisting of dozens or hundreds of parts. The life span of a component could exceed two decades, during which it might be repaired or overhauled more than a dozen times. These issues, combined with aviation authority requirements such as certification and traceability and issues of reliability and safety, increased the cost of obtaining and keeping aviation spare parts. Since the majority of the inventory value in the aviation supply chain was tied up in spare components, they represented the primary target for inventory value reduction. Supplier’s Market Similar to any other industry, price and quality were two major determining factors for airline operators in evaluating their spare parts suppliers. As a result of tight aviation regulations, airline operators, as customers, were constrained in supplier selection. Moreover, there were situations that were dominated by a single supplier, as with parts solely supplied by an original equipment manufacturer (“MOM”). Moms ere companies who were original manufacturers of a component for a product that might be resold by another company.

The limited choice and high concentration of Moms limited airline operators’ negotiation power. Unlike consumable products, the criticality of the engine and the long usable life of an aircraft had contributed to Moreover, there was limited room to negotiate after an aircraft was purchased; the purchaser was now dependent on the Memo’s products. Because of tight regulations and dependence on Moms, seeking alternative suppliers was a challenge for Cathy Pacific 10 . The supplier’s market was concentrated in a mindful of aerospace conglomerates, including Goodrich Corporation and Honeywell Aerospace.

This was very much unlike the car industry, in which Volvo could choose from a number of suppliers to purchase a new engine for a new car. Joint purchasing activities amongst airline alliances to influence procurement processes were also likely to be opposed for anti-trust reasons. Joint purchasing activities pursued by airline alliances were deemed as similar actions undertaken by a conglomerate trying to influence the supply market. Strict regulations were in place, in countries like Australia, to govern the extent of Joint archiving activities allowed. 1 To alleviate over-dependence upon single source suppliers, airline operators had begun exploring opportunities of sourcing certain categories of approved parts manufactured under a regulated program called “AMA” (Parts Manufacturer Approval). Through the AMA process these categories of part were generally available at more competitive pricing with reduced lead times. Supplier selection was also influenced by whether the parts in question were new or old part models. Because Moms were the original manufacturers, they were generally he preferred suppliers for new part models owing to their level of expertise in maintenance and repairs.

For older, non-critical models, AMA suppliers were a viable option. 8 Kill, J. And Epsilon, A. P. J. (2004) “Pooling of Spare Components between Airlines”, Journal of Air Transport Management, 10 (2), up. 137-146. 9 10 11 3 Company History air force pilots, American Roy Farrell and Australian Sydney De Kantian. With a single Douglas DC-3 (a small passenger plane), Cathy Pacific launched its first routes between Hong Kong, Sydney, Manila, Singapore, Shanghai and Canton, with limited scheduled service to Manila, Singapore and Bangkok.

In 1948, Butterflies & Swirl, which later became the Swirl Group, bought 45% of Cathy Pacific and had since then become the De facto flagship carrier of Hong Kong. The asses to asses marked the development and growth era of Cathy Pacific [see Exhibit 1], owing to successful corporate strategy implementation in product innovation and to acquisitions. During the asses, Cathy Pacific had demonstrated its commitment to product innovation through its introduction of flight simulators and one of the industry first computerized reservation systems. These technological investments further enhanced Cathy Pacifism’s service offering.

In addition, Cathy Pacific had made timely acquisitions allowing the airline to become one of the world industry leaders. With access to capital markets for fund raising following their initial public offering in Hong Kong in 1986, Cathy Pacific pursued its plan of expansion into Europe and North America. Recognizing destination reach as a critical factor for excellent customer service and acknowledging the increasing demand in China, in September 2006, Cathy Pacific not only integrated with Dragon Air but also enhanced its cooperative agreement with Air China.

Cathy Pacific was also one of the founding members of the enamored Alliance in 1998, a network of airlines designed to increase efficiency by offering nearly 700 destinations. 12 Turnover in 2006 exceeded IIS$7. 77 billion and profits surpassed IIS$523 million. Cathy Pacific employed over 25,000 staff worldwide, serviced over 43 destinations throughout Asia, North America and Europe and carried over 16. 7 million passengers 2006. Spare Part Supply Chain Management at Cathy Pacific Managing the inventory is tough. With the aviation business, the supply chain tends o be much more complicated compared to regular businesses.

In addition, they included serialized assemblies, end items, line-replaceable units and units that incorporated repairable parts. Because they were assembled units, they could consist of parts belonging to the other four categories of spare parts, meaning retable’s could be built from parts which were expendables or consumables. For example, an engine was a ratable component, but there were many different assembly parts inside the engine. Retable’s were depreciable over time and had an extensive life expectancy through repetitive overhaul processes that would, under normal operating conditions, equal the life of an aircraft.

Unserviceable units were normally routed to overhaul/repair shops for inspection, repair or overhaul and ere rectified for serviceability based on authorized procedures. Repairable included parts that were considered economically repairable and were continually rehabilitated in the normal course of operation to a fully serviceable condition over a period which was usually less than the life of the flight equipment with which they were associated.

These parts were repaired until declared no longer of value because of obsolescence either of themselves or of the flight equipment to which they related, or because the assemblies had become damaged beyond repair. A fuel pump in the airplane was an example of a repairable part. Expendables included both integral and non-integral parts of assemblies that were reused or replaced based on inspection findings. Some examples of integral expendables were dowels, pins and sleeves. Examples of non-integral expendables included bearings, springs, bulbs and brackets.

Consumables included replacement items that were discarded and replaced at each consumable parts were oil, chemicals, paints, fabrics and metals. Expendables-repairable included any expendable that might be recovered through minor repairs, such as seat arm caps. These five classes could also be addressed from two different points of view. The first was an inventory management perspective that focused on whether the units could be repaired or not. For example, retable’s and repairable were components that could be repaired. The second perspective was that of accounting and focused on depreciable lifespan.

Retable’s, for instance, had a lifespan equal to that of an aircraft. 15 16 Cathy Pacifism’s website: http://www. Psychiatric. Com/CPA/en_us/about/ cacophonous/faceted (accessed 14 May, 2008). Definitions taken from: Cathy Pacific (1 May 2006) “Engineering Procedure Manual Inventory Operations Volume AAA”, Company Presentations. Spare Parts by Criticality Cathy Pacific further subdivided their spare parts by classifying the above five categories broadly into critical components and non-critical components, which could further be classified by the criticality codes O, 1, 2, 3 and 4 [see Exhibit 3].

Critical components were parts that were essential to operating an aircraft safely and effectively. They could make the difference between a safe landing and a mid-air catastrophe. These parts were usually very expensive and complex. An example of a critical component was the IIS$I million Electronic Engine Controller 17. Non-critical components encompassed all parts of the plane that were not essential to the effective and safe operation of an airplane. There was a diverse range of non-critical components, from in-flight entertainment systems to nuts and bolts.

Expendables and consumables qualified as non-critical components in the majority of cases. Nevertheless, there were instances where these types of parts were considered critical components, such as a dowel required to keep a ratable part in operational form. The critical and non-critical dimension could be applied to all five classes of materials [see Exhibit 4]. 8 Current Practices in Aviation Spare Parts Supply Chain The spare parts supply chain operations at Cathy Pacific flowed from procurement and inventory management to repair management and logistics management.

Cathy Pacifism’s internal supply chain strategy had been driven by ensuring quality and service to the aircraft operation in the most cost efficient manner. Procurement The supply chain of spare parts at Cathy Pacific was a very complex, large-scale operation with thousands of suppliers and distributors. Aviation spare parts were handled and directly purchased by Cathy Pacific. The purchasing activities were transaction-orientated, from sourcing and storage to consumption and repurchase.

Cathy Pacifism’s procurement process could be triggered by normal replenishment, initial provisioning or special provisioning [see Exhibit 5]. In line with the nature of the business, Cathy Pacific had to ensure that adequate airworthy spare parts were available at all times. In addition to purchasing activities, the procurement process involved Cathy Pacifism’s cross-functional teams in selecting, monitoring, evaluating and managing relationships with part providers to ensure operational effectiveness. Key performance indicators were set as quantifiable objective measures to assess the quality and the performance of the parts.

Some of these measures included average and variance of lead time, quality levels and component performance. The airline industry had very few choices for critical parts component suppliers. Moreover, the sensitive nature of these critical parts limited Cathy Pacifism’s ability to switch suppliers because of the significant costs associated with switching. There was a greater level of flexibility for non-critical spare parts, with over 200 consumables and expendables suppliers. This, however, had, consumed much of Cathy Pacifism’s resources in managing supplier relationships. 7 18 An electronic engine controller is used to monitor and control the operation of the engine Cathy Pacific (1 May 2006) “Engineering Procedure Manual Inventory Operations Volume AAA”, Company Presentations. Inventory Management Inventory management for Cathy Pacific is determining the right quantity of spare parts and material at the right time and at the right place to meet anticipated and unanticipated demands to maintain aircraft operations at the desired service level at the optimal costs Engineering Procedure Manual, Cathy Pacific management, was thus an integral component of Cathy Pacifism’s inventory management process.

Timely stock replenishments were needed once reorder points were reached. An extensive system, Ultramarine, was in place for management of components replacements and newly acquired spare parts [see Exhibit 6 and 7]. Cathy Pacific also needed to minimize inventory holding costs. In theory, an exhaustive inventory was needed to reach a service level that could satisfy all the possible demand of its aircraft.

Because this was financially and operationally infeasible, Cathy Pacific had to operate in the most economically responsible way and strike a balance between the most effective inventory levels to hold on to relative to the corresponding service level. To guard against the risk and cost of prolonged downtime, Cathy Pacific normally built in a buffer stock and, as a result, additional cost was incurred to engineering operation in general. Despite Cathy Pacifism’s efforts to manage their spare parts inventory in an optimal manner, they still encountered circumstances where a certain part was needed and no stock was available.

Coping tit such a situation was referred to as “shortage management”. Shortage management was a process of sourcing parts that, for one reason or another, were unavailable to meet the expected demands. 19 When Cathy Pacific required a spare part immediately and none was readily available, they explored several options to meet the urgent need: Aircraft-on-ground (“AGO”) orders were employed in situations where a Cathy Pacific plane was grounded and could not take off without a certain part. When an AGO order was placed, the part would be shipped via same- day express delivery. Cathy Pacific could retrieve the necessary spare part by rowing it from another airline. Pool loans were another way Cathy Pacific was able to manage part shortages. By signing a contract with the International Airline Technical Pool, Cathy Pacific was granted access to a network of over 100 airlines with which they could share spare parts when in need without incurring a surcharge. Cathy could also borrow a part from one of its other aircraft. Repair Management On average, Cathy Pacific managed over 80,000 repair orders per year, or over 7,000 repair orders per month. 0 After determining whether faulty parts were repairable r not, Cathy Pacific had to determine whether their existing repairers had both the required capability as well as necessary capacity to repair the full range of components installed on its aircraft. To this end, Cathy Pacific compiled a database of over 300 of the world’s major airplane spare part repair shops. Repair shops were selected based on the types of spare parts the shop specialized in, quality, price and service level.

In 2000, Cathy Pacific collaborated with 13 other airlines to develop Archangel, a system designed to facilitate the sharing and exchange of information, such as paired sourcing, 19 20 Company interview on 15 December 2006. Between the participating airlines [see Exhibit 8]. Information such as the types of spare parts availability and suppliers lists was available through the Archangel program, Cathy Pacific forecasted future demand for components on projected fleet utilization and an individual component’s life cycle.

However, this only represented part of the picture as the method lacked the ability to forecast demand arising from unscheduled removals, which counted for nearly 79% of all removals.. Logistics Management Given that appropriate quality and quantity of inventory was available and that the inventory was processed and repaired accordingly, effective supply chain management was dependent on effective logistics management. Logistics management in this context was the practice of minimizing the duration and number of processes required to transport spare parts from one place to another.

Cathy Pacifism’s logistics management arm was responsible for managing the shipment of ordered inventory from warehouse to airplane as well as to and from the repair centers. In order to reduce lead times, Cathy Pacific usually shipped parts individually between repair houses and Cathy Pacific hubs. However, in order to minimize costs, Cathy Pacific consolidated shipments of spare parts that were less sensitive to lead times. In Australia, for example, a fixed import tax was charged on every shipment.

Cathy Pacific would therefore weigh the time and costs associated with allowing several spare parts to be accumulated for the purpose of consolidating them into one shipment. Cathy Pacific outsourced to third-party logistics companies to transport their unserviceable parts to various repair houses across the globe. This outsourcing approach allowed Cathy Pacific to capitalism on the expertise possessed by the logistics partners in shipping and handling fragile parts, which in turn generated cost savings to Cathy Pacific.

Due to the high level of sensitivity of some of the spare parts that were transported, Cathy Pacific conducted extensive due diligence on potential logistics prior to establishing relationships. Factors considered included: satisfactory previous shipping record; the appropriateness of licenses and insurances held by the logistics companies; transportation networks of the logistics impasses; and extent of performance reviews.

Reducing spare parts inventory level depended on reducing the lead time from suppliers and turn around time from repair shops. Through the Just-in-time practices, 21 Cathy Pacific attempted to balance quality service with minimal inventory levels in order to generate the lowest inventory holding costs possible. Supply Chain Management Optimization Proposal Although Cathy Pacific was known to be one of the most profitable airlines in the world and well positioned for future expansion, it was critical for Cathy Pacific to

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