Boeing (BA) got a beautiful gift just before its 95th birthday, when United Airlines, the world's largest airline, confirmed an order of 150 planes worth $14.7 billion. This was the biggest order that the firm received in the relatively subdued Air Show, being held at Farnborough from July 9-15. The show was a hit for the $54 billion company, as it managed to book orders and commitments for 396 planes worth $37 billion, more than twice of its rival Airbus.
However, it is interesting to note that Boeing's stock value did not rise accordingly. Given the massive backlogs of the firm, and the recent increase of 1.5% in the forecasted demand for commercial planes for the next 20 years, investors are anxious as to whether the firm will be able to deliver this demand. This is crucial as the payment is received, not when the order takes place, but when the plane is delivered. Even revenues are recognized on the basis of percentage of jobs completed, or what accountants call contract accounting.
Therefore, the stock is likely to rally when the firm gives signals to the market that it has sped up its production.
Air show Highlights
The show did not bring in as many orders as were expected given the current economic crisis. Airbus and Boeing collectively bagged orders worth $35 billion (firm) and $21 billion (provisional). Last year, both earned orders worth a total of $67.5 billion (firm) and $43 billion in the Paris Air Show.
Despite all that, Conner, the head of commercial jets unit, was a happy man by the end of day four, as sales for the 737 family surpassed the 10,000 figure. This milestone achievement seemed a far-fetched idea a month ago, when the firm had only sold 451 of the new fuel efficient 737 MAX series from its launch last August. By the end of day four of the Air show, the orders total has reached 649 firm orders. Now, the target sale of 1,000 737 MAX planes by the end of 2012 seems attainable. Achieving this target will bring Boeing much closer to Airbus' current sale of the A320neo, the competitor of the 737 family. Boeing is desperate to achieve the historical 50-50 market share split between it and Airbus in the commercial plane jets market. Airbus has sold 1,454 planes up till now.
Following is the list of some of the main orders that Boeing won during the show:
*Only commitments, not firm orders
The first thing that came to investors' mind when Boeing increased the forecast for the next 20 years in the current Market Outlook 2012 was whether the firm will be able to ramp up its production accordingly. On 5th July, 2012, the firm under its new boss, Ray Conner, announced the increase in the production rate as follows:
However, the firm is currently not delivering the planes at a rate that it has officially announced. According to a Credit Suisse (CS) analyst, Boeing recently produced only three 787planes per month in the first quarter, compared with its officially declared number of 3.5 planes per month. However, the analyst has also remarked that the firm has the operating capability to increase production to 5 per month in the fourth quarter, as planned.
Airlines also seemed to be concerned about the production rates of Boeing and Airbus. Some say orders were down in the show because airlines have already ordered a lot, and are not receiving the final product. Qatar Airlines' CEO Akbar Al-Bakir, when asked about his plans to order any planes, said:
"We didn't order any planes because we have ordered enough."
Boeing's current backlog is 3,924 aircrafts. Following is the detail:
Given the current production rates, the following table shows the schedule of production:
This shows that, assuming that there is no new order, which is unrealistic, it will take almost seven years to clear backlogs. And it will take almost 20 years for the 787 backlog to be cleared up. This is why the production of 787s is a big concern for the company.
Given that production is increased according to the plan, following is the resulting schedule:
Except for 787s, it will take almost 4-5 years to clear the backlog. 787s will take 7 years.
Therefore, it is important for the firm to improve its production facilities. 787 clearly poses problems in the jet's supply chain. The twin-aisle jet takes a lot of the firm's resources to get built, compared with other jets. This seems to be one of the most important reasons for building up a backlog, as the cash only comes in the firm's hand when delivery has been made. However, given the fact that the firm has huge cash reserves, expanding production facilities will not be a problem.
Bears say that the firm has to attract demand for non-737 models as well, in order to sustain and make the process of moving toward more fuel-efficient jets smoother. The rise of demand for 737s came in the light of the current financial crisis, as the airlines see different ways to cut operating costs. The current net orders through July 2012 are 664 units of the 737 series, 19 units of the 767 and 9 units of the 777. This shows the over dependence of Boeing's commercial unit on the 737 series.
However, this backlog can be a savior for the firm, as demand for aircraft is on a constant decline and expected to remain so until 2014, according to a JP Morgan analyst.
The following factors should also be considered in the stock's valuation, as the firm reaches its next earnings release on July 25, 2012:
- Lower demand for military aircraft in the light of a cut in the defense budget.
- At the Air show, Conner declined to comment on the development of the 787-10, a stretched version of the Dreamliner, or replacing the obsolete 777.
- The retirement of Jim Albaugh, the ex-CEO of Boeing's commercial unit, lowered the confidence of investors.
Some positive factors include
- Given that the firm has no debt or cash-related problems, it is expected to adjust its supply chain in a manner that allows for deliveries to be completed on time.
- The airlines that have committed orders at the Air show to Boeing are expected to firm them, as the 737 series will help reduce their fuel costs.
The firm is currently trading at a forward multiple of 13x. It has no debt or cash-related issues and is making ROE of 96%. Given a historical P/E of 20x, we can calculate the future price of the stock:
The stock offers a dividend yield of 2.5% as well.
Given the financial muscle of Boeing , it will appropriately cover up its production deficiencies and the stock will go up as it shows its ability to cope with demand.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.