According to the Aerospace Industries Association, total sales in the aerospace industry for 2011 was $205.11 billion, and it is estimated to increase by approx 7% to $223.55 billion by the end of 2013. Total sales includes sales of aircraft, missiles, space, related products and services. This is an opportunity for Boeing (NYSE:BA) to bank on this sales figure and increase its revenue. But before doing that, they will have to find solutions to the existing technical issues of the 787 Dreamliner.
In August 2011, the FDA approved production of the Boeing 787 Dreamliner. Dreamliner is a medium-sized commercial transport airplane, which will consume 20% less fuel and produce less noise than similarly-sized airplanes. Recently, the fuel efficient Boeing 787 Dreamliner faced numerous mishaps like battery fire, fuel leak, break malfunction and cracked windshield. Here we have examined how this will impact Boeing.
In early January, Japan Airlines' Boeing 787, parked at Boston's Logan International Airport, had a fire accident. The plane had arrived from Tokyo, and fortunately for Boeing, no passengers were hurt during the incident. There was malfunction of the battery pack in an Auxiliary Power Unit [APU]. In mid- January, All Nippon Airways' 787 Dreamliner also witnessed a battery error which led to an emergency warning, and its pilots decided to make an emergency landing. The root cause of these failures is not known yet, but it is under investigation.
Due to a string of such events, the FAA is performing a root cause analysis about the battery incidents. In addition to this, they are conducting a comprehensive review of Boeing 787's critical systems. The review would include parameters like design, manufacture and assembly. Also the review would not be focused exclusively on individual events. According to U.S. Transportation Secretary Ray LaHood:
This review will help us look at the root causes and do everything we can to safeguard against similar events in the future.
FAA Administrator Michael P. Huerta's comment reflected faith in the 787 Dreamliner:
We are confident that the aircraft is safe. But we need to have a complete understanding of what is happening;" He also said that "We are conducting the review to further ensure that the aircraft meets our high safety standards.
Deputy Transportation Secretary John Porcari, FAA Administrator Michael P. Huerta and other FAA officials met with senior executives from Boeing on 22nd February, 2013. The regulators will closely analyze situational proposals from Boeing, and won't allow the 787 to return to commercial service until they are confident that the proposed solution conclusively addresses the battery failure risks.
United Airlines, Japan Airlines, All Nippon Airways, Air India and Qatar Airways are some of the carriers who had the Dreamliner in their fleet when these incidents occurred. Air India Spokesman G.Prasada Rao said:
It's a new plane, and some minor glitches do happen. It's not a cause of concern.
Also there were rumors about carriers canceling their orders of the 787 Dreamliner, but officials of Qatar Airways, Hainan Airlines, etc. independently confirmed that they were not canceling any orders.
Airbus is following the whole battery episode closely. They will avoid using lithium-ion batteries in their airplane, the A350. The two airplanes, the A350 and the 787 Dreamliner have lots of similarities and are primary rivals. Mary Anne Greczyn, spokeswoman for Airbus Americas said:
In the interest of keeping the A350 XWB program on track, and wanting to remove any concern of battery complications, Airbus has decided to stick with the proven, tested and already-in-successful-service nickel cadmium battery for the A350's entry into service.'
In 2013 Boeing is targeting delivery of more than 60 Dreamliners, i.e. a production at an average rate of more than 5 aircrafts a month. Also the total deliveries of commercial airplanes for 2013 are estimated at 635 - 645, assuming that more than 60 Dreamliners will be delivered. With each passing day, achieving this target will become more difficult.
Till February 2013, Boeing has received orders for 848 Dreamliners, of which 49 are already delivered. In the first two months of 2013, the number of Dreamliners ordered are 42. There can be a decrease in new orders, if Carriers wait until the battery problem is fixed. Thus there is a potential decrease of revenue per airplane of approx $ 207 - 243.6 million i.e. price of one 787-8 and 787-9 Dreamliner.
In this article, we analyzed six different issues resulting from the grounding of the 787 Dreamliner, and their impact on the company. We will also review recent quarter results of Boeing as well as two other companies in the same segment.
Cost of identifying the problem
There are many Boeing engineers who are working to find the root cause of the lithium-ion battery incident, as well as a permanent solution to the problem. This is an extra cost on Boeing. The cost will continue to accrue until there is a solution that will convince the regulators about the safety of the airplane. The earlier they find the solution, lesser would be this cost.
Alteration in the existing Dreamliner
Once the battery problem is resolved and the solution is in line with the regulators' expectation, the operational Dreamliners would have to be altered. This would also involve additional cost and would require the airplanes to be grounded to carry out the alterations.
Holding back the Dreamliners that are already produced
The company will have to hold back the delivery of the already-produced Dreamliners. They will roll out the airplanes once they resolve the battery problem. So the company will incur costs in maintaining the ready airplanes as they cannot be delivered to the carriers. The cost of insurance for these planes will also increase as they will have to be in the warehouse for an indefinite period.
Can they adhere to the delivery deadline to the carriers?
Unless the FAA gives a go-ahead signal, the timely delivery of the Dreamliner is in jeopardy. Assuming the company finds a fix to the problem and FAA approves it, will it be able to make timely delivery to carriers? That is a question that will keep investors worried.
Impact on cash flow
The company will not receive cash payments from the carriers because of the non-delivery of the Dreamliners. With rising additional costs due to grounding of the Dreamliner, the denting cash inflow would have material financial impact on the company.
Effect on the carriers
If Boeing is unable to receive a clean chit from regulators in the near future, there can be negative reaction from the carriers. They may not agree to make their delivery deadlines flexible. Even if they do, they may demand concessions. Either option will have strong financial impact on the company, to be sure.
Boeing reported record Q4 2012 revenue of $22.3 billion, due to increased commercial airplane deliveries. Revenue of Boeing Commercial Airplanes was $14 billion. The core operating earnings were increased by 9% to $1.8 billion.
Lockheed Martin Corporation (NYSE:LMT) reported Q4 2012 results in late January 2013. Net sales in Q4 were $12.1 billion compared to $12.2 billion in same period last year. Net earnings from continuing operations in Q4 2012 were $569 million compared to $698 million in same period last year.
United Technologies Corp.'s (NYSE:UTX) Board of Directors declared a dividend of 53.5 cents in early February 2013. Also, the Board has authorized share repurchase program for up to 60 million shares. In Q4 2012 the sales increased by 14% to $16.4 billion as compared to same period last year.
Boeing has strong technical expertise and I think they will probably fix this issue soon. The Dreamliner sounds like a good thing, and I believe this hurdle will only improve the airplane. So, a dip may be a short term reaction to a short term problem, and indicate a good time to buy for the long term.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. 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.