Spirit AeroSystems Will Fly

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About: Spirit AeroSystems Holdings, Inc. (SPR), Includes: BA
by: Freedom in Retirement
Summary

Reports of Boeing's production ramp-up is a massive tailwind for SPR.

SPR can scale up production quickly as soon as regulators clear the MAX for commercial flights.

SPR's dividend is safe, and I expect hikes in the interim.

I like Spirit AeroSystems Holdings (SPR) for a long position. I think that the company can ramp up production as soon as regulators clear the MAX for commercial flights. Also, SPR’s operating performance and profitability are outstanding. I am not concerned about the debt level going forward, and I believe that the dividend is safe.

SPR’s future

SPR has several tailwinds. The first one is that anonymous sources mentioned to Reuters that Boeing intends to increase its monthly MAX output by five units to 47 jets. Also, the company wants to increase the production level to 52 by February 2020, and it is targeting the monthly output level to a record 57 jets in June 2020. I believe that the stock price has not fully baked the positive news due to the timing uncertainty. The risk is that regulators delay the approval of the 737 MAX to fly again commercially.

When Boeing finally ramps the MAX production up, SPR will be in a position to quickly upscale its production. Tom Gentile, president and CEO, mentioned in the 2Q 2019 earnings call that SPR has all the capital, tooling, staffing, and material needed to produce at a rate of 57 shipsets. Also, the management team is in constant communication with Boeing to coordinate efforts and plan production rates.

A possible negative aspect for SPR is if Boeing decides to halt the production of the 737 if they are not making progress. Rajeev Lalwani, from Morgan Stanley, asked Tom what strategy would SPR put in place if this was to happen. I feel that Tom deflected the question, and he only commented that they are working closely with Boeing on production schedules. In brief, I think that it would be devastating for SPR since the 737 model represents approximately 50% of the revenue. However, I do not foresee Boeing halting the production of the 737 aircraft anytime soon.

Lastly, I want to comment on the SPR’s guidance for 2019. Usually, I get worried when a company does not provide guidance. However, I am giving SPR a free pass since there is significant uncertainty about when will regulators approve the MAX for commercial flights.

Delving into SPR’s recent operational performance

I want to delve further into SPR’s operational performance by analyzing the ROE metric. The coefficient is not very useful by itself. It tells you how many dollars in net income are generated per dollar of equity investment. However, applying the DuPont system provides a panoramic view of the company. We get an idea about how the company is doing on tax and interest burden, operating income margin, asset turnover, and equity leverage. I am showing the inputs and summary in the following tables. All amounts are in 1000s unless ratios or otherwise noted.

Source: Image created by the author. Data collected from the SEC EDGAR website

Source: Image created by the author. Data collected from the SEC EDGAR website

At first glance, it seems that SPR has performed well over the past six quarters. The ROE is positive, and it is consistently above 10.0% except in 1Q 2018. The trailing six-quarter average is 12.7%. Now, I want to delve further to have a better idea about the metric drivers.

The first two aspects that are worth mentioning are the high tax burden and interest burden metrics. Ideally, you want to see the coefficients as high as possible — the tax burden caps at 1.0, which happens when the company does not pay any taxes. Usually, a ratio above 0.8 is what I consider stellar. The interest burden only caps at 1.0 when the company does not receive any interest income. In SPR’s case, the ratio is 0.92 for 2Q 2019, which means that the company pays a marginal interest rate expense compared to EBIT.

The operating income margin seems to be stable at 12.0%. In 2Q 2019, the coefficient was 11.3%. I do not have any concerns regarding the operating income margin going forward.

There is not much to write about the asset turnover, as it is stable at 0.32.

The only aspect of SPR’s operational performance that may be concerning is the equity multiplier. Ideally, I want to see the equity multiplier below 3.0. In SPR’s case, the company’s ratio was 4.32 in 2Q 2019. Although the metric is high, the ratio is shrinking. Nonetheless, it is worth discussing the debt further in the following section.

Overall, I am comfortable with SPR’s operational performance. The company pays a small percentage of taxes and interest expense compared to its operating income, and the operating income margin is positive and stable. Although the equity multiplier is high, it is shrinking.

Delving further into SPR’s debt

The equity multiplier metric that I discussed earlier is calculated from assets and equity, and the leverage metric includes short- and long-term liabilities. I want to focus on long-term debt as a function of equity to get a better sense of the company’s financial leverage.

My go-to metrics are the interest coverage ratio and the debt/equity ratio. The former tells me if the company is generating enough operating income to cover the interest expense. The latter tells me about the SPR’s financial leverage.

On the interest coverage ratio aspect, the company can pay its creditors with ease from operating income. The ICR ratio was 9.6 in 2Q 2019, slightly up from 9.3 in 3Q 2019. To put the number in perspective, I start to get worried with the ICR falls below 3.0. The main driver for the high ICR is a stable quarterly operating income of approximately $230 million.

When looking at the D/E ratio, the company does not seem to be overly leveraged. The metric was 1.49 in 2Q 2019, down from 2.08 in 2Q 2019.

In brief, now that I see that the company can pay its creditors with ease and that it is not overly leveraged, I am comfortable going forward.

Source: Image created by the author. Data collected from the SEC EDGAR website

Source: Image created by the author. Data collected from the SEC EDGAR website

SPR’s dividend is sustainable

I look at dividend sustainability through the lenses of the dividend coverage ratios. I calculate the coefficients from the net income and the cash flow from operations (NASDAQ:CFO). In both cases, SPR’s dividend sustainability looks fantastic. From the net income perspective, the ICR has remained flat around 13.0. In 2Q 2019, the ratio was 13.2. On the CFO side, we see the same story. SPR can cover capital expenses and dividends from the CFO. Therefore, I foresee future dividend hikes in the interim.

Source: Image created by the author. Data collected from the SEC EDGAR website

Source: Image created by the author. Data collected from the SEC EDGAR website

In brief

The report about Boeing ramping up production is a massive tailwind for SPR. I am confident that the company can quickly ramp up production as soon as regulators clear the MAX for commercial flights.

Moreover, SPR has an outstanding operational performance. I am not concerned about SPR’s debt level, and I believe that the dividend is sustainable going forward. Therefore, a long position in SPR makes sense.

Disclosure: I/we 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.

Additional disclosure: The opinions expressed herein are the author’s sole views, and they do not constitute investment advice in any form. Past performance may not be indicative of future performance. Always do your due diligence, and determine if the investments mentioned here suit your risk tolerance and objectives, your return objectives, and your personal constrains.