Seeking Alpha
We cover over 5K calls/quarter
Profile| Send Message|
( followers)  
TRANSCRIPT SPONSOR
Wall Street Breakfast

The Boeing Company (NYSE:BA)

Q2 2007 Earnings Call

July 25, 2007 10:30 am ET

Executives

David Dohnalek - Vice President, Investor Relations

W. James McNerney - Chairman of the Board, President, Chief Executive Officer

James A. Bell - Chief Financial Officer, Executive Vice President

Tom Downey - Senior Vice President of Communications

Analysts

Howard Rubel - Jefferies & Co.

Ronald Epstein - Merrill Lynch

Joe Campbell - Lehman Brothers

Steve Binder - Bear Stearns

Heidi Wood - Morgan Stanley

Robert Stallard - Banc of America

Cai von Rumohr - SG Cowen & Co.

Troy Lahr - Stifel Nicolaus

Douglas Harned - Sanford Bernstein

Robert Spingarn - Credit Suisse

David Strauss - UBS

Myles Walton - CIBC World Markets

Joseph Nadol - JP Morgan

David Gremmels - Thomas Weisel Partners

George Shapiro - Citigroup

Jb Groh - D.A. Davidson

August Cole - Wall Street Journal

James Gonzales - Bloomberg News

Peter Pae - Los Angeles Times

James Wallace - Seattle P.I. Newspaper

Paul Marion - Crane’s Chicago Business

Molly McMillan - Wichita Eagle

Presentation

Operator

Thank you for standing by. Good day, everyone and welcome to the Boeing Company's second quarter 2007 earnings conference call. Today's call is being recorded. The management discussion and slide presentation, plus the analyst and media question-and-answer sessions, are being broadcast live over the Internet. At this time, for opening remarks and introductions I am turning the call over to Mr. David Dohnalek, Vice President of Investor Relations for the Boeing Company. Mr. Dohnalek, please go ahead.

David Dohnalek

Good morning and welcome to Boeing's second quarter earnings call. I am Dave Dohnalek and with me today are: Jim McNerney, Boeing's Chairman, President and Chief Executive Officer; and James Bell, Boeing's Chief Financial Officer. After brief comments by Jim and James, we will take your questions and in the interest of time, we ask that you limit yourself to one question, please.

As always, we have provided detailed financial information in our press release issued earlier today. As a reminder, you can follow today's call and slide presentation through our website at boeing.com.

Now, before we begin I need to remind you that any projections and goals we may include in our discussions this morning are likely to involve risks which are detailed in our news release, in our various SEC filings, and in the forward-looking statement at the end of this web presentation.

Now I will turn the meeting over to Jim McNerney.

W. James McNerney

Thanks, Dave and good morning, everyone. Let me begin with some comments about the second quarter and then James will walk you through our results more specifically. After that, I will say a few words about what's ahead for us and then take your questions.

We continued to make solid progress across all of our businesses during the quarter. We delivered double-digit top line growth and sharply grew our operating margin, net income, earnings per share and cash flow. Our commercial airplane and defense businesses are performing well, as we made progress on our significant growth and productivity goals. Based on our strong first-half performance, we are raising our 2007 financial guidance. We will say more about that in a few minutes.

Our total backlog expanded again this quarter to another record level of $279 billion, which represents more than four times our current revenue. Our backlog has grown 27% over the past year thanks to the strong demand for our commercial airplane products and our key defense program wins. Boeing products and services continue to be the choice of commercial and defense customers around the globe.

Our integrated defense systems business generated solid growth and double-digit margins by executing well on its large and balanced portfolio. IDS also made great progress on the business development side with some key wins, including the U.S. Air Force A-10 wing replacement program, a significant proprietary contract, and the U.S. joint cargo aircraft program.

We also made the decision during the quarter to sustain our long lead supply chain for the C-17, since we see positive indications of continued U.S. purchases of the airplane, and we are looking forward to the U.S. Air Force decision later this year on the tanker platform, a national priority that this entire company is committed to and supporting. We submitted our proposal for that program during the second quarter and we believe that not only is the KC-767 the best match for the Air Force's requirement, but that Boeing can uniquely deliver both the military and commercial expertise and teamwork to make it successful.

Boeing Commercial Airplanes continued building on its strong momentum during the quarter. BCA officially increased production, expanded its operating margin and continued to strengthen its product line with key development programs. BCA had another strong quarter for airplane orders and has now grown its backlog to more than $200 billion. That backlog reflects the growth we are experiencing in virtually all our commercial airplane models.

Our product strategy is clearly yielding very strong results in the marketplace.

Earlier this month, the world watched us roll out the first 787 airplane. That revolutionary airplane embodies the inspiration and hard work of a very talented global team. Although the rollout was a great success and a well-deserved celebration of the team's progress, we have lots of work ahead of us as we approach our flight test program.

Since the rollout, we have continued with final assembly activities as well as installation and testing of our various systems on the airplane. We have also begun final assembly work on airplane number 2 in Everett and partners in our supply base are working all the way up to airplane number 7 as we speak.

While we are pleased with the progress we are making with regard to schedule, weight reduction and supplier ramp-up, we are spending more than originally planned to ensure we meet our commitment to deliver the first airplane in May 2008. As a result, we are raising R&D guidance for 2007 primarily to preserve the 787 schedule. This is absolutely the right thing to do because keeping our commitments to customers is paramount here.

BCA's continued growth and productivity improvements will allow it to more than offset the impact of this R&D growth, so we are raising our BCA margin guidance for 2007, despite the higher R&D forecast.

Now let me tell you what we need to accomplish on the 787 program between now and the start of flight testing, which we are targeting to begin by the end of September.

First of all, I am confident we are beyond what I will call the invention activities. We have proven the airplane's technologies, especially its large composite sections and its major systems. It took longer and cost more than planned, but we are confident we know how to build this airplane.

Now that we know how to make the 787, we have to fly it and certify it. We are working three areas right now -- areas that we understand because they are common at this stage of a new airplane development program. We are not inventing anything at this point. We just have a lot of hard work to do in a compressed timeframe but we have the resources to get the job done.

That work includes: integrating the airplane with its systems so we are sure that the systems we successfully tested individually work as well together on the airplane; completing and testing the flight critical software; and working through preflight static test points so we know that structural components such as the fuselage, control services and wings meet their strength requirements.

As I said, the target is to complete these activities so we can begin flight testing by the end of September. However, we recognize the risks inherent in what we are doing and we will not fly the airplane until it is ready.

Now, on the demand side, interest in the 787 from customers around the world remains very strong. We now have 683 firm orders from 47 customers which continues to set records as the highest order tally ever achieved by a commercial jet program at this stage. Our order book for the 787 has grown to more than $100 billion at list prices, and despite higher spending, the tremendous market success we have enjoyed with the 787 makes the current business case for this airplane even stronger than when we launched the program.

Overall, mindful of the inherent challenges and risks that lie ahead, particularly in the latter stages of major airplane development programs, we are satisfied with the progress we're making on the 787. Scott Carson and Mike Bear will discuss the program again in our next 787 webcast update scheduled for September.

Let me wrap up my opening comments by saying that we have raised our financial guidance for 2007 revenue, EPS and cash flow despite the higher R&D forecast. James will cover this increase in guidance in more detail. The growth in productivity we see coming from our core businesses gives us the confidence to set even higher goals for ourselves and higher commitments to our customers and shareholders.

Now let me turn it over to James for a review of the numbers.

James Bell

Thank you, Jim and good morning. I will begin with the second quarter results on slide 3.

Our revenue increased 14% in the quarter, driven by sharply higher commercial airplane revenue and modest growth in our defense business. Our EPS grew to $1.35 per share, while our net income expanded to $1.1 billion.

Earnings from operations increased to $1.5 billion. Our earnings were driven by higher commercial airplane deliveries and good performance across BCA and IDS.

Last year's results included charges of $0.77 per share for a legal settlement and $0.41 per share for the AEW&C program. Excluding the legal settlement, our adjusted EPS more than doubled this quarter from $0.56 per share to $1.35 per share. Even after excluding the AEW&C charge, we delivered strong growth. Our core business engine is running very well and delivering great performance.

Now, turning to our business unit review, beginning with commercial airplanes on slide 4. BCA continues to profitably manage its production ramp-up while investing in growth and achieving a record backlog. BCA delivered 114 airplanes in the quarter which, along with higher service volumes, drove total revenues to $8.7 billion, a 22% increase. The delivery mix this quarter was approximately 75% single aisle and 25% twin aisle aircraft.

Operating earnings grew 34% to $960 million and operating margins grew to 11%. BCA’s margins reflect growth and productivity improvements across its products and services, which more than offset a planned increase of $243 million in R&D.

R&D spending for the second quarter was slightly lower than that in the first quarter. Now, as Jim discussed, we have increased our R&D guidance for 2007 primarily to address the risk we see in the 787 program. We now expect total R&D for all Boeing programs to be approximately $3.7 billion in 2007, which is $300 million above the high-end of our previous range. The increased R&D for 787 is to protect schedule, provide supplier support and continue weight reduction efforts.

Now, on protecting schedule, our focus is now on completing our systems development work. We are running slightly behind in certain areas. We need to add lab capacity to enable concurrent testing and we expect to hold on to testing resources longer than originally planned. The good news is that the testing that we have already completed so far is going very well, which tells us that our design tools are working effectively. In fact, many of the software and system glitches that are typically discovered during flight tests are being found and addressed early in this ground test phase.

On suppliers support, we continue to assist partners as needed with design and integration activities to a greater extent than we had originally planned.

And on weight reduction, as we talked about previously, we have had to redesign some parts of the airplane to address our weight challenges. Examples of this include redesigning parts of the wing and changing the design in materials on the window frames. We continue to be a bit over where we want to be on weight, but we remain confident that we will deliver the unprecedented operating efficiency that our customers expect.

So putting all this together, we have told you that R&D spending in the second-half of this year would be lower than in the first and we still believe that will happen. Engineering headcount has already begun declining on the 787 but at a slower rate than planned. We are devoting additional resources to ensure that our development programs stay on schedule.

Now, turning to commercial airplane orders, we have captured 360 gross orders in the second quarter, which lifted BCA's backlog to another record of $208 billion, which is approximately six times current BCA revenues.

We also achieved important milestones during the quarter. As Jim mentioned, we premiered the first 787 and we certified two large cargo freighters known as Dreamlifters. We also delivered the first 737-900 Extended Range aircraft to Lion Air during this quarter.

Program margins exceeded unit margins as expected this quarter due to new customer introduction costs and pricing mix that reflect airplanes sold two to three years ago in a tougher pricing environment. We expect this trend to continue for the rest of this year.

Boeing Commercial Airplanes delivered very strong financial performance in the first-half of 2007. This performance has led us to increase our 2007 revenue and operating margin guidance for BCA, despite the additional R&D pressure we discussed.

Moving to slide 5 and our defense business, IDS delivered 3% revenue growth and double-digit margins in the second quarter, driven by higher volume across all three of its segments. The unit delivered 27 production aircraft and one satellite during the quarter. Results were led by strong performance in support systems and double-digit margins in precision engagement and mobility systems. Margins in the network and space systems area grew to 8.7% on a modest increase in revenue.

For the first-half of 2007, volume increased all IDS segments and operating earnings were higher by 45% compared to the first six months of last year.

We have made important progress capturing new business during the quarter. The U.S. Air Force selected Boeing for it’s A-10 wing replacement program and the Republic of Korea indicated its plans to proceed with the acquisition of 20 additional F-15K aircraft.

IDS also completed major milestones during the quarter, including a critical design review of the P-8A program, a successful first flight of the Phase II small diameter bomb program, and the completion of the critical design for the future combat systems, Spin Out 1.

IDS remains well-positioned for growth and profitability with its broad portfolio of development, production and support programs. The IDS team is performing very well across the business and is on track to achieve its goals for both 2007 and 2008.

Next slide, please. Boeing Capital delivered another strong quarter with pretax earnings of $70 million on revenue of $209 million. BCC grew its earnings despite the planned reduction of its portfolio during the quarter, totaling approximately $900 million. The portfolio reduction was driven by a normal run-off and customer prepayments during the quarter.

The aircraft financing market continues to be robust and BCC is executing well as it supports Boeing's core business.

The other expense category improved by $60 million in the quarter, due mainly to our exit last year from the Connexion business. Unallocated expenses also fell sharply due to lower expenses on share-based plans and deferred compensation. Both of these declines are due to changes to our long-term compensation plan we implemented last year.

Non-cash pension expense grew as expected to $251 million in the second quarter. We expect to realize significant savings in these areas this year. We expect total other expense this year to be under $150 million. We also expect total unallocated expense to be about $1.4 billion this year, which includes about $600 million of FAS cash pension adjustment and $300 million of share-based plan expense. These savings are included in our guidance.

Now let’s move to our balance sheet on slide 7. Our balance sheet and liquidity remained strong. We ended the second quarter with $10.5 billion in cash and liquid investments, which is up 30% from the end of first quarter on strong order flow and working capital performance. Total consolidated debt was stable for the quarter and our credit quality is very strong, and we continue to earn credit ratings that are at the top of our industry.

Moving to cash flow on slide 8, we generated $3.6 billion of operating cash in the quarter, a 49% increase over the same period last year. Strong net income, aircraft finance prepayments, and effective working capital management drove these results.

We continued our balanced cash deployment strategy during the quarter as we invested in organic growth programs, repurchased 6.5 million shares for $620 million, and paid our quarterly dividend.

Now, let’s turn to our financial guidance on slide 9. As Jim mentioned, we are increasing our financial guidance for 2007 and reaffirming our outlook for 2008. We are increasing our 2007 revenue guidance to approximately $65 billion on higher commercial airplane revenues. Our 2007 EPS guidance is raised to between $4.80 and $4.95 per share, driven by higher BCA revenues and margins.

Operating cash flow guidance for 2007 is increased to greater than $6 billion on effective working capital management, customer financing prepayments, and very strong airplane orders.

We raised BCA guidance due to a higher outlook for revenue and operating margins. BCA revenue guidance is up to approximately $33 billion, while margin guidance has been increased to approximately 10.5%. We expect BCA to deliver between 440 and 445 airplanes this year. The timing of customer deliveries that we see for the second-half of this year will probably bring us in at the lower end of that range.

IDS segment guidance is unchanged.

We are raising our R&D guidance for 2007 to approximately $3.7 billion to hold schedule on our key development programs. For 2008, we continue to expect that R&D will trend down to a range of between $2.8 billion and $3 billion. Given the nature of development programs, there is upward pressure on the 2008 R&D number. However, we do not currently believe that that R&D pressure will effect the EPS guidance we have given you for 2008.

You will find more details on our outlook in the earnings release we issued this morning.

With that, I will turn it back over to Jim for final comments. Jim.

W. James McNerney

Thanks, James. Let me make a few points before we take your questions. You can tell from how we are raising our outlook that our businesses are delivering strong results and exceeding our growth and productivity goals. Almost every day I learn about additional productivity improvements that we are making in some area of the company. We are focused on reaching Boeing's potential by pursuing prudent growth strategies and seeking to continually boost productivity across the enterprise.

As we discussed this morning, we are facing some challenges that require us to invest more on R&D than originally planned. Increasing our R&D now is the right thing to do, as I said before, because it will allow us to meet our commitments to our customers and keep our very successful new airplane programs on track.

The growth in productivity initiatives we are driving are aimed at ensuring that we can meet or exceed our financial objectives despite the challenges that we know will surface along the way. Our goal is simply stated, and I believe we are achieving it. We want to be the world’s strongest, best integrated aerospace company.

With that, we would be happy to take your questions now.

Question-and-Answer Session

Operator

(Operator Instructions) Our first question comes from Howard Rubel of Jefferies.

Howard Rubel - Jefferies & Co.

Thank you very much. Jim, one of the things that you talked about earlier was that you wanted to manage the supply chain so that you wouldn’t increase production at an inordinate rate, or too fast. You continue to -- it looks like you continue to capture orders at a rate that are putting pressure on schedule to raise production. At what point might we see a decision on some further rate increases?

W. James McNerney

You are right about the headset. Having said that, we are examining all the time the potential to raise rates on those programs that are growing well. They include the narrow body 7-3, the 7-8 itself, although we haven’t got it out yet, and 777 in particular.

You know, it’s always a tussle between waiting until you have the supply chain in the shape you want it to be before you go up on one hand and customer demand on the other. We’ll continue to be prudent but our bias is toward raising over time, as you could tell from the order book we have. So we are seriously examining it.

Howard Rubel - Jefferies & Co.

Thank you.

Operator

Thank you. Our next question comes from Ron Epstein of Merrill Lynch.

Ronald Epstein - Merrill Lynch

Good morning, Jim. Just a quick product strategy question; given some of the traction that the A-350 has gotten in the market, particularly on the heels of the Bourget, can you speak about your thinking on the 777 and the possibility of modifying it, replacing it, or how you are thinking about the product strategy with 777?

W. James McNerney

I think there is no doubt that the model, the 1000 A-350 model is in part targeted at the long-range 777. I am not sure when that model will be delivered -- seven, eight, nine years from now. I’m not sure it’s exactly been articulated but we have time to think about how we would respond to that, should it materialize as planned.

We are examining lots of options but I think the current thinking is that there will be some technology insertions we can make that will effectively respond to an airplane that is already a little bit bigger than the A-350, the 1000. It has some customer advantages already built in.

I mean, it’s the most modern long-range airplane in the world right now, these 777s. So we have time to think about it and we have some technologies that we’ve based the 787 on and some other technologies that can be inserted in plenty of time to respond effectively.

Ronald Epstein - Merrill Lynch

Thank you.

Operator

Thank you. Our next question comes from Joe Campbell of Lehman Brothers.

Joe Campbell - Lehman Brothers

Good morning. I understand that we’ve done very, very well in the production of the existing airplanes and in the back-half of the year that’s more than offset the R&D. I was curious about what was happening in ’08 though with an improved performance on the existing aircraft. One would have thought that without the corresponding rise in the ’08 R&D guidance that the ’08 guidance might have gone up on the hills of the performance being seen in the first-half and anticipated for the second-half of ’07. If that continues, I would have thought that would have forced the guidance up. Thanks.

James A. Bell

Obviously that is something that we are going to take a harder look on later in this year. Clearly there is opportunity for it to go up but just as we’ve experienced this year, there are also risks and as we get through flight tests and we have a better understanding of what is going to happen on the 787, then I think we would be in a much better position to revisit ’08 guidance. I think you will see that in either the third or fourth quarter.

Joe Campbell - Lehman Brothers

So we’ll have that in the back-half of this year?

James A. Bell

Yes.

Joe Campbell - Lehman Brothers

Will you say something about what you are going to do with the 87? I thought that might have been part of the answer about what it is that you are going to book. I think a lot of people are thinking with a big block size you are going to have more normal profits than you would usually have here, but -- so we are pretty much in the dark about how to think about the 787 in ’08.

James A. Bell

Think about it in two ways -- it will be profitable from the first airplane, which is something that is different than what we have experienced in the past, but on the same token, it will not be as --

Joe Campbell - Lehman Brothers

Accounting always makes everything profitable in the beginning.

James A. Bell

It’s not accounting -- it’s the hard work of the people in the commercial airplane business that makes --

Joe Campbell - Lehman Brothers

You are saying it will be profitable on a unit cost basis from the beginning?

James A. Bell

I think it will be profitable on a program accounting basis and it may also be slightly profitable on a unit basis. We’ll have to take a look at that but clearly it will be dilutive to the mature margins we experienced on the 777 and the 737 today. So I think the way you think about it is it is going to contribute but it is going to contribute at a much lower margin rate than our other airplanes.

And then, of course, we are not going to have a lot of them in there in the first year but we will have over the first two years about 112 of those airplanes delivered.

Joe Campbell - Lehman Brothers

Thanks very much. It was a great quarter.

Operator

Thank you. Our next question comes from Steve Binder of Bear Stearns.

Steve Binder - Bear Stearns

Good morning. Good quarter. With respect to the deferred production costs on the 777, either James or Jim, could you maybe just touch on it? It was a pretty big increase. I don’t know if that was a block adjustment or if that is costs related to the implementation of the 777 moving line. Could you just touch on that?

W. James McNerney

There are two pieces of it. One is that the block was extended by 50 units but the other is the aggressive pricing you are seeing today on the date of delivery. This year’s delivery that we entered into two or three years ago to bridge to a better market and so what you are seeing is there is better pricing in the future and that impact on pricing on the program accounting side impacts the increase in the deferred production costs because the prices on the units being delivered today on the 777s are a little more aggressive than we expect to see over the course of the production run.

Steve Binder - Bear Stearns

With respect to the 787 bump in R&D, does it reflect any additional investment in weight reduction and does it reflect any resolution of some of these outstanding supplier issues you’ve had with respect to negotiations?

W. James McNerney

We had a weight program that we had been working over the last year and we are spending about at the anticipated rate. I think it is more schedule compression, additional resources, both us and our suppliers, to get things done on time and therefore the roll-off of people off the program at a slower rate, as James said, than we had anticipated.

It is just getting -- it is the scramble near the end of a program.

Steve Binder - Bear Stearns

Jim, just one last thing -- if you look at changes in management structure over at Airbus in the ADS, do you expect any change in pricing behavior out of Airbus in the future?

W. James McNerney

I really don’t know.

Steve Binder - Bear Stearns

Thank you.

Operator

Thank you. Our next question comes from Heidi Wood of Morgan Stanley.

Heidi Wood - Morgan Stanley

Thank you. Jim and James, can you provide a little bit of color on where you stand on supplier issues and the raw material issues on the current production aircraft? I know last year I recall that you had some clear concerns as you ramped up from the ’06 deliveries into the ’07 but now as you think about adding another 75 planes to the production rate, what kind of key things need to happen and how do you feel this year about supply issues and raw materials versus last year?

W. James McNerney

I think a quick answer, Heidi, would be slightly better but still very vigilant. I think that would be the summary. I think the rate increases that we have pursued this year have all gone smoothly. Raw material prices has stabilized, albeit at higher levels than we had historically experienced. And we are still helping our tier one suppliers with their supply chains. Examples would be the perennial seating company issues that we have and some of our major structural suppliers who are still looking for fasteners and bearings and hydraulic fittings and the like.

But at the end of the day, our needs are being met and we are confident that we can do it, and we’ve got pretty good visibility over the next year or two. So slightly less concerned, always worried, vigilant. I don’t know what else to say.

Heidi Wood - Morgan Stanley

Well, it does sound like you seem more comfortable than you did last year. I’m just trying to read your tone.

W. James McNerney

A little bit more.

Heidi Wood - Morgan Stanley

And in terms of orders and slots available, can you walk us through available slots by product line and how much of your production rates full ’08, ’09, 2010?

W. James McNerney

You’re talking about commercial airplanes?

Heidi Wood - Morgan Stanley

Right.

W. James McNerney

I don’t have the precise sky lines here in front of me but I think you are aware on the 87 that we are well out into the 13 area. Not quite that far in 737s, and not quite that far on 777s. But it is -- we’ve got a lot of demand, which led to my earlier response, which is that we are looking at the feasibility of rate increases. The 74 demand, the 74 demand is continuing to come in so it is -- I would not say sold out on all models but I would say out there. Dave can you give the precise answer on the sky line if I’m a little off on that answer.

Heidi Wood - Morgan Stanley

And then last question, you are at 549 orders year-to-date. Where do you think you are going to likely end the year and then 2008?

W. James McNerney

I think exactly right now we may be up a little bit from the 549 to about 616, if you go through the end of last week. But it is hard to predict exactly where we will end up the year. As you know, we have an approach to book the orders as they come. We don’t try to aggregate them at any one point in time, for example, at an air show. And I think I am confident that I can say this -- the latter half of the year we will be taking more order than we will be making airplanes, probably, so book-to-bill will continue to increase. Exactly where it will go, I’m not exactly sure.

Heidi Wood - Morgan Stanley

But do you think you can get to 1,000 airplanes by the end of the year, given -- I mean, you know the robustness of your conversations with airlines and probably have a reasonable stab as to when things might --

W. James McNerney

Yes, I mean, you mentioned the T-word before I did but if everything broke, it could add good prices, good deals for the company and the shareholders, sure, it could happen. Our internal projections don’t have it quite that high but it could. There is a scenario that says it could be that high.

Operator

Thank you. As a reminder, please limit yourself to one single-part question. Our next question comes from Robert Stallard of Banc of America.

Robert Stallard - Banc of America

Good morning. I’ll stick to one question. Jim, to follow on the order outlook, you are seeing clearly another very strong year for order intake. What are your thoughts on when the airline order market will start to roll over and where do you see any regional variances in the pan?

W. James McNerney

It is again hard to know. I think you will see more orders over the next year or two from the so-called legacy carriers in Europe and the United States. These are the folks that typically start most cycles and it is sort of -- it is interesting that they are in the middle of this cycle.

We are already beginning to see some re-ordering from some of the initial folks who ordered. For example, ILFC’s recent order, and they tend to be a pretty savvy group of purchasers, ILFC and if they are re-ordering that is a pretty strong statement that they don’t see an abrupt end to the cycle. If you combine that with the legacy carrier momentum and you can see an extended cycle here.

I don’t see an end to it right now and it is -- and the momentum I would say is stronger than expected.

Robert Stallard - Banc of America

You are not worried that some of these wobbles in the debt market could have an influence on the order intake going forward?

W. James McNerney

I think some catastrophe in the debt market as opposed to a wobble could have an impact but remember they are buying technology that significantly improve their operating economics and you contrast that with another 100 basis points on the debt, it does not make that much difference.

Robert Stallard - Banc of America

Thank you.

Operator

Thank you. Our next question comes from Cai von Rumohr of Cowen & Company.

Cai von Rumohr - SG Cowen & Co.

Thank you. Could you update us on the 787 with respect to when power on is scheduled? Is that still mid-August?

Secondly, you indicated the plane was a little above target on weight. What percent of the plane has bee weighed, how much is it overweight, and do you think that will be offset by gains in engine fuel consumption?

W. James McNerney

The weight is about -- I think we have weighed about 30%, 35% of the airplane physically. The weight is pretty much spot on, maybe a smidgeon lighter than we had projected but you do not want to get euphoric over that trend right now.

I think the -- our projection remains at a very small weight gain, a percent or two. That would be a guess right now. We think, a lot of people think we can do a little better than that. But most of our commitments to customers are along the lines of operating economics and even with some of the small increases in weight, we are way above our operating cost guarantees and commitments to airlines. I think weight is something we are working every day and we want to get right to exactly where we said we would get to but we could absorb a little bit.

The power on -- was that your first question? As you know, I mean, you’ve seen a bunch of these programs, power on happens when all the systems and the software get integrated on the airplane and we are right in the midst of that right now. The team is targeting power on in time to fly the airplane at the end of September. They are working it. I think it is possible that they will have it close to where you suggest but I -- it is hard to know, as you know. It is hard to know.

Cai von Rumohr - SG Cowen & Co.

Thank you.

Operator

Thank you. Our next question comes from Troy Lahr of Stifel Nicolaus.

Troy Lahr - Stifel Nicolaus

Thanks. James, when you talk about upward pressure on 2008 R&D, are you talking within that range or actually exceeding the range? Could you just kind of give us an idea on how much cushion you have in that 2008 R&D number?

James A. Bell

What we are looking at right now is that the forecast for what we will spend is within the range, but when I say upward pressure, I mean upward pressure outside of it that would come out of something that we had to deal with in flight tests and where we would have to spend more resources in ’08 than we are anticipating in order to support the first delivery in May. So that is the kind of thing I am talking about. We don’t see it today. I am just saying that given where we are in the program and how much we are stuffing into the remaining time before delivery and it is taking us a little longer on some things and we are having to put more effort in order to hold schedule and hold some resources longer than anticipated. That could very well turn out to be true next year.

The point is if that should happen, we think we would be able to offset it with our productivity so that there would not be any deterioration to the earnings guidance we have on the street.

Troy Lahr - Stifel Nicolaus

Would you say you have been using up some of the cushion that was in that number or is there still some cushion into that 2008 number?

James A. Bell

There is contingency in every number but we have not gotten to ’08 yet so we are not using it yet but what we are looking at is our experience in ’07 and saying that very possibly, we could be in the beginning of ’08 in similar positions where we still have a lot of work to do, all things we know how to do but we need to put more resources on it, getting it in a more constrained time period. That’s not what we are projecting today in our current forecast but it is also -- it clearly is a risk that we want to address.

Troy Lahr - Stifel Nicolaus

Thanks.

Operator

Thank you. Our next question comes from Doug Harned of Sanford Bernstein.

Douglas Harned - Sanford Bernstein

Good morning. Could you talk a little bit about the 787-10 and how you are thinking about the timing of that launch now, what you need? And the sense you are getting from customers in terms of what they want with that airplane?

W. James McNerney

Well, it is clear as we talk to a number of customers that there is a requirement but we have not gotten to the point yet where it is hardened up into marketing a specific configuration or launch. So we are in that period and it is probably impacted somewhat by the A350, as customers are trying to assess precisely what that airplane’s performance can be for them. So I think it is -- I think that may be impacting some decision making but it would not surprise me if over the short- to medium-term, if we didn’t harden up into something that we began to offer people.

Douglas Harned - Sanford Bernstein

Is it impacted also by the sold out positions on the Dash 9s and 8s?

W. James McNerney

Marginally but it is more driven by a requirement that is different than what the Dash 8 and the Dash 9 can do.

Douglas Harned - Sanford Bernstein

Great, thanks.

Operator

Thank you. Our next question comes from Robert Spingarn of Credit Suisse.

Robert Spingarn - Credit Suisse

Good morning. Guys, a single question with a couple of parts to it on the R&D. James, you talked about three basic buckets where this funding is going in terms of protecting the schedule, assisting the partners and then the weight. Back in Paris, it didn’t seem like this was going to be necessary, at least that was my interpretation. At what point did you decide to do this and then can you characterize for us how that $400 million flows into those three buckets and will the suppliers participate in any of that spending down the line?

James A. Bell

It came up when we got back and got an updated forecast from the businesses as to how much we spent and what we had accomplished on the programming. Clearly, as Jim mentioned, we spent more getting through the invention phase of the program and it took us longer, and so now some of the effort that the supply chain is engaged in, we will have to help them and yes, they will have to help themselves in terms of what it will look like on their side as well.

I don’t have a split-out per se on an allocation of where the money will go but those are the things it’s helping with, the same as we the weight as you have less time and you still have some opportunities that you believe you can capture, you want to go ahead and get that done sooner than later and that is what we are doing there.

Clearly the work we are doing in-house, there’s just a lot of it to do as we integrated and produce the airplanes, and we want to make sure we get it done on schedule so we have added traditional resources, and that came out of their last update of where we were and what it takes to get where we want to be and support our customer commitment.

Robert Spingarn - Credit Suisse

And just to clarify, on the funding and the suppliers, are you saying that you could recover some of the $400 million down the road from them or they are spending it simultaneously in addition to that?

James A. Bell

I think they have the same pressure we have in order to support their deliveries to us and I’m saying what we have identified is what we would spend and we would not necessarily go after a recovery. We will sort all this out once the airplane gets built. There could be some of that that is grey that we would look at but quite frankly, we are not planning on it right now. We are just trying to all get together as a team and get this airplane built on time. All I am saying is because we have some of that pressure, I would suspect they do also.

Robert Spingarn - Credit Suisse

I see. Thanks for clarifying.

Operator

Thank you. Our next question comes from David Strauss of UBS.

David Strauss - UBS

Good morning. Thank you. Jim, could you just update us on the progress on the couple of productivity initiatives you have in place? Obviously it appears you are making good progress based on the numbers that are coming through BCA but if you could just run us through where you stand on each of those.

W. James McNerney

I would say the ones that are impacting our results most quickly are the lean initiative, which was already a robust initiative when I arrived here, which we have extended and deepened and supported even more aggressively. The other one that is beginning to pay off quickly is what we are calling our internal productivity initiative, which has to do with some of our centralized and indirect, non-procurement costs. Both lean and that are beginning to have an impact on our cost structure and -- which is not to say that our sourcing initiative and our development initiative isn’t beginning to help us but both of those will be longer term in nature, just given the rhythm of procurement and the rhythm of development. As James said, the reason we are driving these so hard is that we know that there are going to be cost pressures in our business and they are going to be lumpy and they are not always going to meet our projections and so we just have to be ready, because we know they are going to happen. For example, the R&D pressure that James is just talking about on the 78. We didn’t know exactly the kind of pressure we were going to face towards the end of this program but we knew we had to be ready for it and not disappoint our shareholders when it happened.

David Strauss - UBS

One quick follow-up, if I may; could you just address program performance at IDS and maybe specifically touch on Wedgetail and how progress is going there?

W. James McNerney

I think the charge you saw on Wedgetail this quarter had to do with an equitable price adjustment -- nothing to do with performance on the program. This is sort of a normal adjustment. I think you know that.

I would say overall the program performance at IDS is good. I think a lot -- Jim Albaugh and his team wrung a lot of risk out of that business over the past couple of years, whether you are talking about AEW&C, whether you are talking about FIA, whether you are talking about some of the other programs. We have a better baseline now which doesn’t mean we don’t have challenges.

International tanker for the Italians and the Japanese, which are both very important programs for a lot of reasons, one of which is we are getting a lot of experience fabricating and testing and flying the next generation tanker in advance of competing with the U.S. Government on this, which we thinks differentiates us, by the way. But we still have some challenges there to get both of those programs done.

I would characterize international tanker as one that still has some program risk associated with it, just to note one that we are facing into the latter half of this year.

David Strauss - UBS

Thanks a lot.

Operator

Thank you. Our next question comes from Myles Walton of CIBC World Markets.

Myles Walton - CIBC World Markets

Thanks. Good quarter. Jim, I was hoping you could comment on cash deployment, particularly given the upward move to cash outlook for the year. If you look and you exclude BCC, you are in a $7 billion or $8 billion net cash position. You have not really been active on the acquisition front and repurchase is ongoing but about flat year over year. I guess the question is what is holding you back from redoubling that repurchase effort, or are you warming up, becoming more active in M&A?

W. James McNerney

We are absolutely always reevaluating that. We actually in the first-half of the year spent more than we originally thought in terms of the repurchase program and as long as we think our stock is a good value, which we still think it is, we will consider it up in the temple in the second-half with this because of the cash generation we are seeing.

On the M&A front, we are only looking at where it makes good sense for us add on to our company through that way. As you know, our primary strategy is organic growth, so where we can support that through selected M&A, we will consider looking at it.

On the other hand, I don’t think it is all that bad to just grow a little cash balance either. In case something does go really, really bad, we would be able to deal with it.

Myles Walton - CIBC World Markets

But it looks like 9% of your market cap -- that’s a pretty safe cushion, and building. Is that a fair way to gauge it or --

W. James McNerney

I think that is where we are today, as I said. We’ll look at whether or not we up the, accelerate our share repurchase program and again, we will look at M&A. I’m not going to talk about specifically what we’ll look at but we will continue to look at what is appropriate to buy that would support our organic growth strategy and see where that takes us at the end of the year with cash.

Myles Walton - CIBC World Markets

Fair enough. Thanks.

Operator

Thank you. Our next question comes from Joe Nadol of JPMorgan.

Joseph Nadol - JPMorgan

Thanks. Good morning, Jim and James. My question is Jim, you mentioned in your earlier comments in terms of the scope of your activity on the 87, you mentioned integration, software, and static test I guess on the structure. I am wondering if you could give maybe a little bit more color on each of those, quantify if at all possible where you are in terms of progress through all the different milestones on each of them?

And then, maybe most importantly, rank each of them -- rank them by where you are in terms of comfort level. Which do you feel most comfortable with, which do you feel maybe you have the most work to do on?

W. James McNerney

It is hard to rank them since a glitch in any of them would, a serious glitch in any of them, would represent a slowdown in the program so I think they are all important. Static test is going well. We have no reason to believe, as James said, that the design tools have produced anything other than the structural strength we need in each component of the airplane, and when they area all hooked together, similar strength. So that is going well, so we feel good about that.

I think most of the software and systems have been tested individually, either in sim labs or on other airplane platforms. Avionics systems, for example, have been tested on the 777 platform. So we’ve done a lot of individual testing of software and systems and the issue is, as always in any information-based system, is getting them to ensure that they talk together and work together. And that is where we are in the phase of right now. Again, we have no reason to believe that we are going to face a major issue there but there is risk inherent in that kind of work and we are sort of halfway through it.

And then the subsystems, the ducts, the wiring, the secondary structures that go inside the airplane, those again are going well. We’ve completed the first wiring plan on the first airplane and so we feel good about that.

I could go on but maybe that gives you a little more granular feel.

Joseph Nadol - JPMorgan

Yes, that’s real good. On the software portion, is that mostly Boeing activity, bringing together your own people -- is that bringing in software from suppliers integrating with other things that you’ve been doing? Just maybe a little more on that.

W. James McNerney

Well, both. I mean, there are -- we are working with a number of -- I mean, Honeywell is an example, working on flight control software and obviously we are working on the high level specs together and they are doing a lot of the implementation and there is a working together team that makes sure that the hooks and handles that link into other elements of the system are anticipated. So it is not as easy to say that we just get a package from somebody and run it together with a package from somewhere else. We are in the middle of all of it and we are doing some of the software development ourselves.

Joseph Nadol - JPMorgan

Thanks, guys. Good quarter.

Operator

Thank you. Our next question comes from David Gremmels of Thomas Weisel Partners.

David Gremmels - Thomas Weisel Partners

This is Alex in for David. Your guidance -- to switch to IDS for a second, your guidance in the second-half implies a slowdown, particularly in network space and support systems. Is that just being conservative or is there some particular programs you are looking to slow down?

James A. Bell

We really are not trying to signal that. I think it is just timing of some of the -- what’s going to happen in the second-half versus the first in terms of deliveries.

W. James McNerney

I think that is true, James. I don’t think there is any --

James A. Bell

No.

David Gremmels - Thomas Weisel Partners

Okay, great. Thanks.

Operator

Thank you. Our next question comes from George Shapiro of Citigroup.

George Shapiro - Citigroup

Good morning. If I look at the flight test, it looks like we are kind of delaying it a month from what you would hope would have been the end of August. But my question is you are now going to be down to about eight months between the flight test and delivery, which is three months or so faster than what you have done on any other plane. You are probably going to fly more planes more hours a day but how do you think you handle the fact that you are trying to do this much more accelerated than what you have seen before?

W. James McNerney

There is no doubt we have a compressed flight test program schedule. We have anticipated this. I think in our contingency planning we have 20% fewer flight test hours in the plan than we did, for example, on the 777, if that’s the benchmark you are looking at.

We have figured out a way to turn the aircraft, use multi-shift operations to differentiate assessment from actual flying in ways that we have never done before. We do have fewer models, fewer engine types, so we need less testing.

When you add it all up, it is aggressive but it hangs together, so off we go. We think we can do it.

George Shapiro - Citigroup

And then just one quick follow-up for you, Jim; if you look at the domestic airline market, you have seen Southwest order more planes but they really exercise options and defer deliveries five years because they are slowing their growth rate; we are seeing AirTran defer deliveries. Not that it matters to you guys, but Jet Blue is doing the same. Continental has deferred a few airplanes, American has accelerated a few coming in. It is all I guess in response to slower revenue growth domestically but how do you size up what you are seeing in the domestic market right now?

W. James McNerney

What I see overall is very tight capacity. I think, as you know, airlines, our customers are struggling with service levels, very high load factors. I think you are right. Airline by airline, there is some fit and finish in terms of either slightly pushing out or accelerating, but I think we are on the front end of an order cycle that it is hard for me to predict exactly how big it will be. But just based on the pipeline of activity we’ve got, I think driven by both capacity and by technology and dealing with higher fuel costs, I see more upside than downside in terms of growth rates of procurement in U.S. airlines.

George Shapiro - Citigroup

Thanks very much.

David Dohnalek

Operator, we have time for one last analyst question, please.

Operator

Thank you. Our next question comes from Jb Groh of D.A. Davidson.

Jb Groh - D.A. Davidson

Good morning, guys. When I look at the decline in the R&D that you have baked into your ’08 guidance of $400 million, is the majority of that in BCA and how should we be thinking about the split between the two? Should IDS remain constant as a percentage of sales and should the decline come mostly in BCA?

I am guessing that there is something factored in for tweaks to 777 as well as ongoing 787.

James A. Bell

Absolutely the decline, where you will see the reduction in R&D will absolutely be in BCA. IDS will run at a more constant level and a very minimal level, so most of that would be BCA related.

There is nothing -- if you are asking is there something there for 777 in response YEN to an A-350, probably not distinctly. I think there is something that we would have to deal with generic kinds of things that could be devoted to that for some initial studies if needed but the decline would definitely be in BCA and would be related to the work being done on 787.

Jb Groh - D.A. Davidson

But is your upward pressure comment related more to 787 or potential tweaks to some sort of competitive response?

James A. Bell

It is absolutely related to pressure on 787.

Jb Groh - D.A. Davidson

Great. Thank you.

Operator

Thank you. That completes that analyst question-and-answer session. (Operator Instructions) I will now return you to the Boeing company for introductory remarks by Mr. Tom Downey, Senior Vice President of Communications. Mr. Downey, please go ahead.

Tom Downey

Thank you. We’ll continue with the questions for Jim and James. If you have any questions after the session ends, please call our media relations team at 312-544-2002. Operator, we are ready for the first question and in the interest of time, we ask that you limit everyone to just one question.

Operator

Thank you. Our first question comes from August [Cole] of Wall Street Journal.

August Cole - Wall Street Journal

Good afternoon. I just wanted to ask a quick question about the R&D testing schedule for the 787. What are the biggest hold-ups right now and what do you think the increased funding will do to address those?

W. James McNerney

It is less a matter of individual hold-ups than it is a compressed time schedule across a number of the elements we have to complete, so it is a bit of a backed up schedule with more resources requirement to get through things that we are confident that we know how to do but which are time challenged.

August Cole - Wall Street Journal

Does the money fix that?

W. James McNerney

We believe it does.

August Cole - Wall Street Journal

Thank you.

Operator

Thank you. Our next question comes from James Gonzales of Bloomberg News.

James Gonzales - Bloomberg News

Good morning. I was just looking at the stock price today. You guys are doing really, really well -- an historical high. What are your thoughts on splits?

W. James McNerney

To be honest, we haven’t given it a great deal of thought. Obviously with a stock price that stays sustainably at significantly higher levels, we would think about it but it is not part of our thinking today.

Operator

Thank you. Our next question comes from Peter Pae of the Los Angeles Times.

Peter Pae - Los Angeles Times

Good morning. Can you guys give us sort of an historical perspective on when the last time you had this kind of commercial aircraft demand, the big cycle? Or is there a comparison?

W. James McNerney

I think I will generalize a little. We’ve had a number of cycles. Rarely have we had one that is as extended as this one. We’ve had cycles that have reached analogous heights but they tended to have sharper up-slopes and somewhat sharper down slopes. This one has been more gradual and more sustainable, driven by in my opinion a very strong global economy, driven by the technology of the new airplanes enabling airlines to deal with high fuel prices. The efficiency is, particularly on the 787, is a step function change, so new technology.

But a robust world economy and more liberalization of routing around the world -- all these things have come together for an extended as well as high cycle.

Peter Pae - Los Angeles Times

Any idea how long you think the cycle will last?

W. James McNerney

It is really tough to predict. I can see what is in front of us and for the next few years, it continues to look strong. Beyond that, my opinion is it continues to look strong but I don’t have the evidence.

Peter Pae - Los Angeles Times

Thank you.

Operator

Thank you. Our next question comes from James Wallace of Seattle P.I. Newspaper.

James Wallace - Seattle P.I. Newspaper

Jim, in the past Boeing has always indicated that even though there was a window for first flight of about a month, that window would open in late August and into September. Obviously you have now pushed that towards the end of the window. Can you add a little color on what that has happened? Also, how far into October can you go and not make first flight and still deliver the plane on time?

W. James McNerney

You are right. I think we are at the back-end of the window right now and it is just based on the facts of where we are, which we tried to portray here today as straightforwardly as we could.

I think we do have contingency plans if it moves beyond the end of September and into October that we are putting in place in case we need them. We feel that we can still deliver the plane on time in May of ’08, even if we pushed a little bit beyond that but that is not the plan. The plan is to fly it by the end of September.

James Wallace - Seattle P.I. Newspaper

Thank you.

Operator

Thank you. Our next question comes from Paul Marion of Crane’s Chicago Business.

Paul Marion - Crane’s Chicago Business

Thanks a lot. From day one you’ve been saying that the 787 would be 20% more efficient but now that it is almost ready to fly and you’ve done a lot of testing, do you have any reason to think that number might creep up a bit to 22, 23?

W. James McNerney

I think the fuel efficiency and the direct operating efficiency based on the numbers that we see in front of us today is about where we thought that it would be. I think the thing that leads into the direction you are implying is that maintenance, as we get more experience with what it takes to maintain the airplane. I think those costs are improving in our minds and in our customers’ minds.

I don’t have an exact quantification but I think it is fair to say that the operating economics are a little better than we thought they were going to be and that maintenance cost is a big driver of that.

Paul Marion - Crane’s Chicago Business

Thanks a lot.

Operator

Thank you. (Operator Instructions) Our next question comes from Molly McMillan of Wichita Eagle.

Molly McMillan - Wichita Eagle

Good morning. I’m of course wondering what -- you mentioned extra work with suppliers and that leads me of course to Spirit and how much extra help or additional help are you having to give to Spirit and its part of the program? Can you be specific on that?

W. James McNerney

I think Spirit has done an outstanding job. I think it is fair to say that they have required far less help than many of our suppliers. They have just done a superb job. We could not be more pleased with our partners there.

Molly McMillan - Wichita Eagle

When do you anticipate that they will be able to start delivering their pieces like stuffed? I know that is the ultimate goal but if the first ones aren’t --

W. James McNerney

Well, we’ve already got a number of pieces in Everett. I don’t know precisely how many. I think there was some traveled work but again I think if you measure either by traveled work or by the quality of the work done, we had some far bigger challenges than Spirit.

Molly McMillan - Wichita Eagle

Okay, thank you.

Tom Downey

Operator, seeing as how there are on further questions in the queue, we will conclude our earnings call. Again, for members of the media, if you have further questions, please call our media relations team at 312-544-2002. Thank you.

Copyright policy: All transcripts on this site are the copyright of Seeking Alpha. However, we view them as an important resource for bloggers and journalists, and are excited to contribute to the democratization of financial information on the Internet. (Until now investors have had to pay thousands of dollars in subscription fees for transcripts.) So our reproduction policy is as follows: You may quote up to 400 words of any transcript on the condition that you attribute the transcript to Seeking Alpha and either link to the original transcript or to www.SeekingAlpha.com. All other use is prohibited.

THE INFORMATION CONTAINED HERE IS A TEXTUAL REPRESENTATION OF THE APPLICABLE COMPANY'S CONFERENCE CALL, CONFERENCE PRESENTATION OR OTHER AUDIO PRESENTATION, AND WHILE EFFORTS ARE MADE TO PROVIDE AN ACCURATE TRANSCRIPTION, THERE MAY BE MATERIAL ERRORS, OMISSIONS, OR INACCURACIES IN THE REPORTING OF THE SUBSTANCE OF THE AUDIO PRESENTATIONS. IN NO WAY DOES SEEKING ALPHA ASSUME ANY RESPONSIBILITY FOR ANY INVESTMENT OR OTHER DECISIONS MADE BASED UPON THE INFORMATION PROVIDED ON THIS WEB SITE OR IN ANY TRANSCRIPT. USERS ARE ADVISED TO REVIEW THE APPLICABLE COMPANY'S AUDIO PRESENTATION ITSELF AND THE APPLICABLE COMPANY'S SEC FILINGS BEFORE MAKING ANY INVESTMENT OR OTHER DECISIONS.

If you have any additional questions about our online transcripts, please contact us at: transcripts@seekingalpha.com. Thank you!

Source: Boeing Q2 2007 Earnings Call Transcript
This Transcript
All Transcripts