Don't Bet Against Boeing
Summary
- Boeing raises $25bn of debt, which should more than settle investors' nerves around its liquidity position.
- Leverage ratios seem elevated but should be manageable once the free cash flow profile normalizes.
- The incremental ~$1.3bn of interest expense will, admittedly, eat into BA's earnings power.
- But with FCF on track to normalize to $22-23/share, there is a clear path toward the medium-to-long-term upside, in my view.
Watching the Berkshire (BRK.A) (BRK.B) annual meeting this year, one quote, in particular, stuck out to me - "If you think about Boeing, it is one hell of a company." Now, Warren admittedly did not invest in Boeing (NYSE:BA), but at current levels, I am starting to see BA as significantly mispriced, with a highly compelling risk/reward opportunity for patient, long-term investors.
It is important to highlight that Boeing operates in a much different part of the value chain to the airlines and has, historically, been able to deploy capital at very favorable returns. As part of a global duopoly that has lasted for decades, BA enjoys a powerful, well-protected moat, and following its latest debt raise, I believe Boeing's moat is intact. Though its earnings power has likely been reduced following the $25bn debt raise, I see plenty of levers to drive margin improvements from here. This should, eventually, translate into stronger cash flows over and above what the market is currently pricing in. My price target range for BA shares is at $220-230.
BA's $25b Debt Raise Highlights the Path Toward a >$20bn Cash Balance
Boeing's latest "blowout" debt offering leaves the company with ample liquidity this year, in my view, and allows it to avoid taking on government support. Per the prospectus, the ~$25bn of proceeds will be primarily allocated toward "general corporate purposes," providing the company with ample runway to address potential funding challenges or support the supply chain via working capital advances, for instance.
Source: Boeing Prospectus
Crucially, the ~$25bn funding likely covers the cash burn for the remainder of the year (1Q20 cash burn was ~$6bn), as well as the ~$5bn debt coming due.
USD' bn | |
Operating cash flow | -4.3 |
(-) Capex | 0.4 |
(-) Dividend | 1.2 |
= Implied 1Q20 Cash Burn | -5.9 |
Source: Company Filings
Given BA ended the quarter with a liquidity position of ~$16bn of cash and marketable securities and ~$9.6bn of undrawn revolvers, this should drive an >$20b cash balance heading into end-FY20 assuming the cash burn worsens in 2Q20 before gradually improving into year-end (see cash bridge below). Even in a scenario where Boeing burns >$20bn of free cash for FY20 (including the ~$6bn cash burn in 1Q20), it is still set to end the year with $21-26bn of cash on the balance sheet, after which we will likely see a move back to positive free cash generation in FY21. Note also that this assumes no further drawdown of its revolving facilities (Boeing still has access to ~$9.6bn undrawn) and no dividends for the remainder of FY20.
USD' bn (Optimistic) | USD' bn (Pessimistic) | |
1Q20 end-cash | 15.5 | 15.5 |
(+) April debt raise | 25.0 | 25.0 |
(+) Revolver draw | 0 | 0 |
(-) Free cash flow (2Q20 - 4Q20) | 14.9 | 18.9 |
(-) Dividend | 0 | 0 |
= 2020 end cash | 25.6 | 21.6 |
Source: Company Filings, Author's Est
An excess cash position should go a long way toward easing investor concerns around future debt paydown, in my view, especially with Boeing's ~$14b term loan due in FY22, along with ~$2.5b of debt in FY21-22. The net result, though, will be the emergence of a company far better equipped to weather any adverse impacts from COVID or the 737 MAX. Following the debt raise, Boeing does not plan to seek additional funding through the capital markets or from the US government.
Assessing the Impact on Leverage and the P&L
With Boeing clearly in firm footing heading into FY21, the key lies in evaluating the extent to which the company's capital structure will be affected and the resulting impact on BA's earnings power. For context, BA was operating at ~0.5X net debt/core EBITDA in FY18 (i.e., pre-Max and COVID). I view FY18 levels as the key benchmark for investors and project a return to FY18 net debt/EBITDA levels by FY22.
Source: Company Filings, Author's Est
The implications for BA's interest expense is less clear - the $25bn debt offering was initially offered at ~500-600bps above Treasury yields, though the strong demand resulted in the offering finalizing with spreads at ~400-475bps above Treasury yields, implying an incremental ~$1.2-1.3bn annualized interest expense (pre-tax).
Total Debt (USD' Bn) | Interest Rate | Calculated Interest Expense (USD' Bn) | |
4.508% Senior Notes due 2023 | $3.0 | 4.5% | 0.1 |
4.875% Senior Notes due 2025 | $3.5 | 4.9% | 0.2 |
5.040% Senior Notes due 2027 | $2.0 | 5.0% | 0.1 |
5.150% Senior Notes due 2030 | $4.5 | 5.2% | 0.2 |
5.705% Senior Notes due 2040 | $3.0 | 5.7% | 0.2 |
5.805% Senior Notes due 2050 | $5.5 | 5.8% | 0.3 |
5.930% Senior Notes due 2060 | $3.5 | 5.9% | 0.2 |
Total | 1.3 |
Source: Boeing Prospectus, Author's Est
Valuation Case Hinges on a Gradual "Normalization"
Boeing's current target is to turn FCF positive by FY21, before improving to a more "normalized" FCF profile by FY22. This makes sense, in my view, given the eventual delivery of 737 MAX inventory should unlock significant cash, in turn, driving a solidly positive cash flow position by FY21. Thus, reducing MAX inventory remains the key focus from a cash flow perspective, alongside the 777X, which is targeted to reach peak cash burn by FY20 ahead of first delivery in FY21.
2022 feels like a long way away considering what we're navigating. But obviously, it will be positive cash flow in that period from those key drivers…But 2022 starts to feel like a more normal year certainly than what we've experienced in 2019 and what we're going to experience in 2020." - 1Q20 Transcript
Though management has guided toward a "normalized" FY22 as the base year on which to value the shares, I would stretch this one year out to FY23 to account for normalization of inventory levels, advances, and additional charges. Assuming a target ~10% FCF yield on base case normalized FCF of high-~$22-23/share, this gets me to a valuation of $220-230/share. Now, this does not imply I am bullish on traffic - my valuation embeds a ~3-year recovery scenario. But, at ~$130/share (at the time of writing), BA shares are simply too cheap.
This article was written by
Analyst’s 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.
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Comments (164)
How can you short Boring at these levels when coronavirus is expected to disappear soon, Boeing remains one of the top companies enjoying Govt support and MAX not far from re-certification (sSome reports mentioned the process is postponed because of the work from home modality. Besides, there is no rush to re-certify in Q2 as long as Covid is still here)?
Boeing has been uniquely impacted by the pandemic and a deeply disturbing future: the economic recession, toxic monkey management, clown MBA designers, engineering development in India, minions union, growing massive $100 billion in debts by 2021, wasteful spendings on reckless stock buybacks and dividend payments, impotent FAA regulators, the lack of travel and worthless airplanes waiting for resurrection in a foresee future.
The coronavirus pandemic has devastated the airline industry. U.S. air travel has dropped 95% compared to last year and the number of flights scheduled globally is down by 63%. Airlines have grounded more than 16,000 worthless Boeing planes waiting for resurrection in the foreseen future. Boeing and its shareholders will face a nightmare for years to come.
The U.S. government and taxpayers will bailout Boeing.
Boeing needs to move fast before the U.S. Presidential Election on November 3, 2020.
Boeing, GE, Southwest, and airline companies are in crisis: undergoing massive layoffs, posting record losses, and is pushing companies on the brink into bankruptcy. Just because a company files for bankruptcy doesn't mean it will cease to exist.
These vulnerable companies need to have new management, the Board of Directors, and the Union with intelligence and integrity.
Companies use bankruptcy to shed debt and other liabilities, including money that they owe vendors. They can also use it to void contracts they can no longer afford, including labor deals and leases on the property.
They can close locations or units of the company that can't be saved. Many companies that file for bankruptcy go on to be profitable under new management.
Many other companies that file for bankruptcy intending to stay in business fail to get court approval of their turnaround plans and go out of business. And even some companies that are able to emerge from bankruptcy are forced to file again in the future and eventually go out of business.
You mean in case Trump wins? Biden would write Boeing a blank check. Trump likely will as well. Your critique, however accurate, shows that capitalism itself is broken. Today it weakens a nation instead of strengthening it....it works to enrich a few and taxes the majority to pay for it. If Boeing fails, it fails. In a true market, the assets should be quickly liquidated so the airplanes can keep rolling off the lines. Boeing shareholders should take the resulting haircut. Moral hazard.
