Boeing: 95% Of Cash Improvement Has Been Ignored

| About: The Boeing (BA)

Summary

Learning curve is only a fraction of improvement in cash performance.

Order mix and cutting costs in the supply chain account for 95% of the improvement.

Zeroing out the deferred balance is still a major challenge.

The Boeing (NYSE:BA) 787 is probably one of the most revolutionary jets that has taken the skies and in terms of technology implementation I think it is safe to say that the aircraft is a big success, on which a lot of future airframes could be based. From a financial point of view the program is a failure, where Boeing has been unable to cut costs sufficiently.

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A lot of analyses pay a lot of attention to cost cutting that is achieved by repetition. In a previous article I already pointed out that this is not the holy grail towards cost reduction on the Dreamliner program.

I deemed production rate hikes, efficient use of materials and supplier contracts to be more important in the cost cutting process. In the weeks before the Boeing's earnings call in July, CEO Dennis Muilenberg actually gave a breakdown of cost cutting efforts. To me it seems that this information has been widely ignored due to the fact that Boeing announced a charge related to 2 unsaleable aircraft weeks later.

In this article I want to touch on Boeing's cost cutting effort per category. Although no breakdown in terms of absolute values has been given, the relative numbers do give somewhat of an idea on where Boeing is trying to cut costs or make things work out financially.

Order mix and pricing

There is quite a difference in average sales prices between the 3 models of the Boeing 787 family. As Boeing transitions towards producing more -9 aircraft and the introduction of the -10 the mix of deliveries the average sales price increases. Some 70% of zeroing out the deferred balance, which has peaked at $28.65B, should come from the change in pricing and order mix.

This is quite understandable, since the smallest Boeing 787 sells for roughly $117 million while the -9 sells for $135 million and approximately $158 million for the -10. Between these members there is a pricing difference of at least 15%. So the impact of the order mix on Boeing's cash performance is significant.

Additionally, Boeing paid some fees as it has been terribly late with some deliveries. As the number of aircraft for which Boeing has to pay a penalty decreases, the cash performances increases as well.

Supplier

In the article in which I already stated that the learning curve is not predominant in the cost cutting process, I stated that cutting costs in the supply chain would be more important. With the partnership for success program, Boeing has excellent means to cut costs in the supply chain. Although suppliers might be quite unhappy with it, the partnership program allows Boeing to aggressively turn things in their favor. It is a leverage that Boeing is using to the fullest. 25% of the cutting that should help Boeing zero out the deferred balance comes from cost cutting in the supply chain. Most of this improvement, some 85%-90%, is already committed.

Learning curve

The learning curve, which by many has been viewed as a way to validate whether Boeing will be able to zero out the deferred balance within the current accounting block only makes up for 5% of the cash improvement that Boeing is aiming to realize.

Conclusion

I reported earlier that the learning curve would in no way be predominant in the cost cutting process. The fact that this accounts for only 5% of the envisioned improvement clearly portrays this and renders analyses that solely depend on learning curves invalid.

It is safe to say that the order mix is predominant. The Boeing 787-8 has a production cost and pricing that is far from appealing to Boeing and it is possible that the jet maker makes little to no profit on the airframe in the best case scenario.

Whether these efforts to zero out the deferred balance will be enough will only show in the future. For now, Boeing claims that about 90%-96% of the cash improvement is already committed.

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Disclosure: I am/we are long BA.

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.