Boeing reported earnings this week and disappointed the Street with both Q4 results and 2011 guidance.
Specifically, Boeing lowered guidance for 2011 to $3.80 from $4.00. With the stock trading near $70 that puts the forward PE at around 18. That seems like a stormy forecast. However, as arguably the premier member of an aircraft oligarchy, Boeing is truly a unique company. Its long product cycles and economic sensitivity make it the ultimate cyclical stock. Earnings are cyclical with peak earnings, the last cycle being $5.28. Over the past 10 years the PE has ranged all the way from a low near 11 to a high of 47, with PEs in the 20 during up cycles almost the norm. Peak earnings during this cycle seem very likely to reach or exceed $5 again. It seems like common sense that the stock can reach and exceed the $100-plus it reached last cycle during the next cycle. That represents an almost 50% upside potential. So it seems there is upside in Boeing over time.
But when should an investor establish a position in Boeing?
Some rays of sunshine are shining through the clouds that make it time to buy now. Specifically:
The Dreamliner – Its problems are well documented. As with any complex product more issues could arise at any time. The earnings call stated that they are 75% of the way trough flight test. At some point they will get through this hurdle. I'll let those more knowledgeable of the details debate the exact schedule, but to me the question is not if the 787 Dreamliner will be delivered but when it will be delivered. My understanding is Boeing is assuming no margin contribution from the 787 in 2011. Customers continue to be confident. Demand for the Dreamliner does not appear to have softened and major cancellations have not occurred. Once the initial hurdles are met and planes in progress are retrofitted it appears as if demand will soak up the products quickly.
As far as defense spending, current sentiment is that a new Congress will be cutting defense spending. Several points:
Politicians don't actually do everything they say ... especially with a presidential election cycle starting.
Developing countries will clearly want military aerospace products, and the U.S. government will want Boeing to export these products for several reasons.
Global tensions have not eased. It is possible there could be some international flare up in any of a number of spots around the world that would change this sentiment quickly.
A cursory review of potential cuts seems to indicate that Boeing might not be impacted by U.S. defense cuts as much as other aerospace firms.
Company backlog remains strong ($320b) and most importantly book to bill increased last quarter.
Some of the reduction of the 2011 earnings projections was due to an increase in pension contributions. Perhaps Boeing was forced to do this from an accounting perspective, or perhaps they were was just being prudent. In any event, this expense is kind of a pay me now vs. pay me later situation. Taking the hit and paying now is not entirely a bad thing.
More settled capital markets probably continue to help Boeing Capital.
Boeing's key competitor in Europe (EADS) has its own complex set of issues.
- Boeing management has had challenges over the past two years. They probably can't afford to miss again, without career implications. Hence it would seem like the time for management to be cautious and set expectations low.
I take all that to mean that Q4 could be viewed as somewhat of a kitchen sink quarter, and things could look much better fairly soon. It is hard to have exact perfect timing in acquiring a stock and I don't think an investor needs to rush to get on board with Boeing. But it is time to gather your capital and to start to get in line to board early.
Since it is hard to get the timing perfect when establishing a position it makes sense to build a position in Boeing across a few lots. In full disclosure, I bought the first lot of the stock at an average price of $69. Based on the earnings info, I am looking to find an attractive entry point for the second lot of a position. I would tentatively plan to add a third lot after some confirmation of my thesis is seen in future earnings and the stock has a positive move. The 200dma is $66.80 so that seems like a possible support level to add to the position.
To that end, I sold March $70 puts for $3. Implied volatility was just over 24. If the stock stays flat or falls I'm comfortable adding to my position at the cost of $67 for all the reasons mentioned above. Obviously the stock could also settle into a range in the low $70s. If this is the case, the option trade will have a 4% return over about two months, and it would probably make sense to re-establish a similar trade. The stock could zoom straight up from here, but I view that as the least likely alternative. If that does happen, this option trade will have a 4% return but a bigger opportunity would have been missed. Perhaps only two lots of the stock would be acquired in this scenario.
In conclusion, Boeing is a unique company that likely has good mid-term prospects. Timing of when to jump on board can be challenging. But it seems like they are close enough to moving into the upswing of a cycle.
Disclosure: I am long BA.
Additional disclosure: This posting is for informational, educational and entertainment purposes only and should not be considered investment advice.
