A commenter on my post about Soyuz launches from Kourou raised the question of whether launch prices would really drop with an increase in flight rate. This question may be due to discussions about a report prepared for NASA by a Dr Hertzfeld of GWU that was discussed on the Space Show last year. I’ve been meaning to discuss the topic of launch economics for a while, since it was raised during my Space Show, and also because its a rather important question to answer for the emerging space industry as a whole.
There are a few pieces of anecdotal evidence that leads me to believe that increased flight rates typically will lead to lower prices. This doesn’t mean Dr H’s research was wrong, or that I’m more knowledgeable about economics than he is (because I’m not), but might mean that some people may be drawing incorrect conclusions from his paper.
I remember at one point while developing our current line of rocket engines, we had found an analytical model to help us estimate a couple of design parameters. The model (which is a fairly well-accepted one) was suggesting that our design flat out wasn’t going to work, and that we were going to have to try some drastic measures to get it to work. One of my coworkers though had been looking over actual data from our system, and questioned the model. It turns out that he was right, and as far as I can tell my understanding of this model (or possibly the model itself) was off by over a factor of 3! Ever since this situation, I’ve tried to be a little more humble about my capacity for correctly understanding things the first time, and have been a little less willing to brush-off inconvenient facts that ruin my otherwise perfect theories.
Two of the pieces of evidence that lead me to believe that there is something wrong with the theory that increases in flight rate won’t decrease price are:
- There is a lot of evidence that when you sign an order for multiple flights, you can usually negotiate a better per-flight price than if you order them one at a time. One publicly available piece of evidence corroborating this common knowledge is shown on the SpaceX site:
Pricing and Performance
SpaceX offers open and fixed pricing that is the same for all customers, including a best price guarantee. Modest discounts are available for contractually committed, multi-launch purchases.
I’m sure that others that have dealt with launch providers (such as Dennis Wingo) could provide additional support to this piece of evidence–that “bulk buys” of launches will almost always net you a lower price per launch. The price reduction is probably modest mostly because most such bulk buy contracts are for a relatively small amount of launches spread out over several years.
- As part of their study to try and determine if Atlas V could be used for servicing Bigelow Aerospace’s planned Sundancer station, the ULA Atlas V team investigated the business case as well as the technical requirements. According to several sources, the total per-person price for a visit to Bigelow’s station (including launch price, the price of the capsule flight, and the price of spending time there at the station) is actually substantially below what the current prices of Atlas V would suggest. One online article (whose numbers jibe with several other sources I’ve seen) states that:
So how much will a space cruise cost the Average Joe? One week on the Sundancer alone will cost $7.9 million per person, predicts Bigelow. While pricey, it’s a steal compared to the $20 million that Space Adventures, another orbital flight company, charges for a week-long whirl on the International Space Station.
Even assuming the $7.9M/seat only covered the Atlas V launch costs (and all the info I’ve seen says that includes Bigelow’s fee and the capsule providers fee as well as the Atlas V launch price) , you’re talking about less than $60M for an Atlas V 401 flight. That’s more than a factor of 2 drop from the current Atlas V 401 price, and is only possible because Bigelow is talking about providing for a much higher flight rate than the measly 1-2 flights per year Atlas V has been bringing in so far. Now obviously whether they will charge that price or not depends very strongly on if they think they can get enough demand to justify it. If Bigelow only buys 2-4 flights per year from them, the price will likely be a lot higher. But if the flight rate ever reaches the 16/year that Bigelow was talking about, their case can close on the $8-10M/person price point that Bigelow has been talking about.
While those two examples don’t conclusively prove that in all situations increases in flight rate will drop price, they do show that that is in fact the case at least some of the time. Another commenter, Habitat Hermit, I think gave a much better explanation about the fundamental idea that governs whether prices will drop or rise–profit maximization:
[T]here isn’t a conflict between demand & supply elastics (what you’re reacting to) and profit maximization (what you’re alluding to even if you manage to contradict yourself), quote contrary the two depend upon each other (which is sort of beautiful if you think about it and its consequences).
The launch industry’s publicly traded companies will always seek to maximize their profits, they’re even bound by the law to do this to protect the interests of their shareholders (privately owned companies without shareholders is a different story but I don’t know of any currently available launch company that is).
Now as to whether the price will increase or decrease can be simplistically illustrated by where on the supply & demand curve the company presently is and where it is moving to. You are absolutely right that increased demand does not always lead to decreased prices and both scarcity and oversupply are important factors.
So what is the current situation?
– almost all launch companies are looking for more customers (could be interpreted as oversupply but it isn’t, the correct term for this is overcapacity: the business as a whole has spare unused capacity it would like to fill to maximize its profits further)
– however it’s not like the launch companies are constantly producing more launch vehicles than they have any use for (that would be real oversupply as well as the opposite of profit maximizing and if they did that the leadership would be quickly thrown out by the shareholders)
– there are plenty of available launch windows, especially for LEO (no scarcity)
– there is no lack of material or factory capacity for increasing the production of launch vehicles (no scarcity)
– most launch complexes can be easily expanded (and NASA is trying to get rid of a rather large one in an excellent location…)
– the main cost to the launch company is in maintaining the infrastructure and workforce required (fixed capital costs) and not in the launch vehicle production and launch itself (variable cost depending on units produced). Actually the fixed costs dwarf the variable costs, the two aren’t remotely close.
Regarding the last point there are at least two things worth mentioning:
1. This is the explanation for why the barrier to entry into the industry is rather high unless you can evade or mitigate the huge fixed costs. A NewSpace company like SpaceX is able to attempt it because it is lead by an “angel” investor (Elon Musk) willing to spend a lot of money for little in return in order to establish the company. Another NewSpace company is attempting to evade the fixed costs by using air-launches (that would be t/Space) and thus has less of a need for money (but they’re still struggling getting enough investors).
2. The second thing is that this is a very strong indication that increased production even if at a lower price would be more profitable. In other words if a somewhat lower price would bring in significantly more sales your total profit would rise (thus profit maximization).
What would cause the price of a launch for the customer to go up even though there was high demand? Scarcity in the launch industry. If the launch industry has little additional capacity and/or the fixed costs are no longer such a major cost relative to the product production and/or when investing in additional infrastructure (industry expansion) would not lead to increased profits through increased sales, then profit maximization would result in price increases to the customer (taking advantage of the oversupply of customers).
However that simply isn’t the case in the immediate future and even an additional 40 Atlas launches a year would not make it so for the industry as a whole, likely not even for LM. It’s also important to understand that guaranteed sales as would be the case with Bigelow Aerospace is somewhat different than one-by-one sales and makes any need for additional capital investments much more tenable (if theres should be such a need at all that is).
Might as well stop now or this is going to become very long and cumbersome. I guess any introductory textbook on microeconomics should do a better job at this than I have.
I could probably go on as well, but I think that Habitat Hermit put it very well. The ULA team will do whatever they think will lead to the most profit for their investors, as will any other publicly held company (and even most privately held ones unless they are owned and run by the sole investor–like SpaceX or Bigelow), and in many cases the best way to maximize profits will involve dropping their launch prices.