Why China Buys Boeing

Summary

• Boeing 737 MAX is on its way to China to support recertification effort.
• Recertification of the Boeing 737 MAX in China will allow the company to boost production.
• China also has interest in recertification of the MAX as part of a longer-term trajectory.
• I do much more than just articles at The Aerospace Forum: Members get access to model portfolios, regular updates, a chat room, and more. Learn More »

Stephen Brashear/Getty Images News

In a previous report, I had a look at the importance of access to the Chinese aircraft market for Boeing (NYSE:BA). What I concluded, and will be further supported in future analyses, is that for Boeing to return to previous production rates of 42 aircraft per month and beyond on the Boeing 737 program, access to the Chinese aircraft market is a prerequisite. So, from a demand perspective, there is no doubt that China is important to Boeing.

However, what remains significantly underexposed is the fact that a strong relation between Boeing and China is mutually beneficial. In this report, I explain why a strong relation is of importance for both, especially with the Boeing 737 in mind.

Chinese aspirations: Becoming a Boeing competitor

Somewhat counterintuitive a first argument for the importance of access to the Chinese aircraft market for Boeing are the Chinese aspirations. China is currently working on certifying its own C919 single aisle jet, and while this aircraft is not expected to compete with Boeing outside of China, it is the aspiration that China has an aircraft manufacturing country that makes a healthy relation with Boeing very important.

As said, it is counterintuitive since it would make sense to prohibit Boeing from accessing a market in which the C919 could flourish. However, China is leveraging its buying power in many ways and one such way is enriching its own aircraft manufacturing industry. When it comes to aircraft manufacturing, China has been making steps, but those steps are largely supported by attracting manufacturing work to the country, and to continue attracting work, China needs the Boeing-Airbus (OTCPK:EADSF) (OTCPK:EADSY) duopoly to work efficiently as well as strong demand from China.

Source: Airbus

Examples of enriching the aircraft manufacturing industry in China are the Airbus assembly line for the Airbus A320 family aircraft as well as completion centers for the Airbus A330 and the Airbus A350. The completion and delivery center in China recently completed the first Airbus A350 delivery to China Eastern Airlines (CEA).

With several Airbus lines for assembly and completion in China, Boeing was forced to do something similar to get some of the sales from Chinese customers. Since aircraft procurement is a state-regulated activity, it was clear that Boeing had to increase presence in China. The US jet maker signed an agreement in late 2016 to open a Boeing 737 completion center in Zhoushan in a joint venture with COMAC, which happens to be the manufacturer of the C919. In 2018, the first Boeing 737 MAX was delivered from the center in China.

Source: Boeing Zhoushan Completion Center

The connection between the Boeing 737 completion center, the Chinese aspirations and the recertification of the Boeing 737 MAX is of importance here. At the time of writing, a Boeing 737 MAX has departed for China to support the recertification effort and that recertification, while it will not be immediate, is of importance for the Chinese aspirations to develop its own aircraft and one day become competitive with Boeing and Airbus. Without recertification of the Boeing 737 MAX and a depleted order book for the Boeing 737 Next Generation, the completion center in China is not worth much. More importantly, being idled, the completion center is not contributing towards the Chinese roadmap.

Having an operating completion center gives China another facility to mature its aircraft manufacturing industry. It is important to note that the completion center does not assemble the aircraft, but the final touches are performed at the completion center such as installing seats and painting aircraft. With the existing centers from Airbus in China, it is not the case that China is learning something it did not know before but with another center in operation it surely is adding capacity and a logistics framework that in the longer term will support production of Chinese aircraft. That is something that is inevitable.

Leverage against Airbus

So, China needs Boeing as well as Airbus to grow an industry in support of aircraft manufacturing, which is the longer-term objective. With that in mind, the importance of the Boeing 737 completion and delivery center is clear. However, what also plays a role is filling demand in a cost-efficient way. Demand for aircraft is significant and with 8,600 deliveries which is equivalent to Boeing's peak production for 10 years. By leveraging the duopoly, Chinese customers can save millions of dollars per aircraft as Boeing and Airbus will significantly discount the aircraft to win an order in the biggest aircraft market in the world. For that to happen, the duopoly needs to be alive and with the Boeing 737 MAX still grounded in China that is barely the case and that means that China does not have a strong position for negotiations with Airbus either and so while Airbus is eager to sell while Boeing cannot, the European jet maker does know it has a stronger position than it had before. China will need aircraft and that demand cannot be filled by a single jet maker, so to buy enough aircraft at the right price, it is of importance that the Boeing 737 MAX gets recertified in China.

Boeing's aspiration

Boeing currently runs its production lines at a very low rate and is aiming to boost Boeing 737 production to a rate of 42 aircraft per month by late 2022. Before the Boeing 737 MAX crisis, the jet maker was looking to increase rates beyond 57 Boeing 737 aircraft per month and the completion center in China is supportive of rate increases beyond the level of 50 aircraft per month. So, while it seems that having a completion center is only beneficial to the future of the Chinese aircraft industry, there is no doubt that there also are advantages for Boeing as the completion center reduces the stress on the Renton assembly and completion activities, which subsequently allows for a higher production rate of the Boeing 737 MAX.

Obviously with Everett having lost a lot of work and very low anticipated production levels for aircraft currently under development, Renton production could also be boosted by transferring completion work to Everett but that does not remove the connection between China and demand driven production rate hikes.

Conclusion

Generally, I tend to put Neutral ratings on my pieces. However, for this piece I have put a more upbeat rating as I am convinced that the Boeing 737 MAX will be recertified in China which will allow Boeing to increase delivery and production rates, which will be accretive to the company's results. In the longer term, there also is the prospect of higher production rate supported by the completion center for the Boeing 737 in China and growing demand from China. All of these are positives.

One could of course say that Boeing is actively supporting China's aspiration to compete with Boeing and Airbus one day and that is true, but by ignoring the sales potential in China completely Boeing will lose out more while the threat from China as a competitor does not become less. So, I remain positive on Boeing's prospects in China, the way it is adapting for a changing future and the role the Boeing 737 MAX and the current recertification effort has in that roadmap.

Analyst’s Disclosure: I/we have a beneficial long position in the shares of BA, EADSF either through stock ownership, options, or other derivatives. 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.

Comments

[Old Wizard]

Here’s a reference, Wall Street Journal Editorial, July, 9 th, 2021. Not direct China connection but states potential prices. Can ‘t find the reference to Chinese buyer, but will keep looking.

[swedy]

Dhierin, I saw Boeing sent a 737 Max to China last week. If China were to recertify, do you have a feel for the timeline on this announcement? I suppose that is the billion dollar question.

[Old Wizard]

Epistertrophy how exactly is the Biden administration standing up to China Our allies are all too willing to do business with China. And selling Hunter Biden’s painting to a Chinese “ businessman” for 500k doesn’t meet the smell test.

[epistrophy]

@Old Wizard President President Biden is building a coalition with our allies to counter China. Capitalism and business is by definition competitive. Hopefully this will make it more difficult for the Chinese government to cheat and play businesses from different nations against each other with unreasonable and arbitrary regulations

Stop spreading misinformation. No such sale of art occurred by his son to any Chinese citizen. Hunter Biden's paintings are planned to go to auction in the Fall. The buyers will be anonymous to avoid the possibility of influence peddling.

[ransim7222]

@epistrophy How do you know that such a sale did not occur? Are you by chance privy to who buys his novice art? If so, prove it and give us their names, or admit you are spreading your own misinformation.

[epistrophy]

@ransim7222 Like I said, none of his paintings have been sold yet. The auction is planned for October. Insisting otherwise is spreading a defamatory lie.

[Booban]

"One could of course say that Boeing is actively supporting China's aspiration to compete with Boeing and Airbus one day and that is true, but by ignoring the sales potential in China completely Boeing will lose out more while the threat from China as a competitor does not become less."

Yeah, same story, China playing off the greed of western companies to give them cutting edge capabilities to compete and destroy them in the future.

The only thing that is saving western aviation industry is that the jet engine makers aren't this stupid and have no need to co operate with the Chinese. And probably the govt. is stopping them.

[jamyl jim nograles]

China is excellent in business. American B 737 may lose its luster due to political conundrum.

[Ben Gee]

@jamyl jim nograles America is shooting itself in the foot.

[ransim7222]

@jamyl jim nograles
They probably are just following the guidance of Fearless Leader.

[Fred Banks]

Very good article. Boeing has been fined for selling a plane to China which contained a transistor for direction finding. They also got fined for selling a 20 year old machine with permission from the US and then discovered that they violated the terms of sale.
Let them work on the finishing center. You probably will not get a complete tour. It has toxic chemicals. Try standing in a paint room. You will not want to stay there long due to the paint vapor.
China sends their best engineers to the US for phd's. They usually stay here. I've met many of them in college.

[ransim7222]

@Fred Banks "FBI arrests five in alleged ‘Operation Fox Hunt’ plot to stalk and pressure citizens to return to China"

www.cnbc.com/...

[Fred Banks]

@ransim7222 As a retired Boeing employee, we have to be aware of espionage, from friend or foe.

[montauk77]

@Fred Banks Waiting FOR China answer ON CERTIFICATION!! Don't trust those a-hole!! What's really happening. Like China aviation experts have better understanding of what happen with 737.

[epistrophy]

@jteamaz Chinese purchases of American debt aren't a favor to the U.S. They're a side-effect of the lop-sided trade imbalance between the two countries. China needs to invest their surplus dollars somewhere and sending them back here is their only option. It's also in their interest to ensure that the dollar isn't devalued, since they hold so much U.S. debt. It's a highly dysfunctional co-dependence.

China is playing a zero-sum game. Make no mistake, China intends to harm the U.S. at its first opportunity. There is no "win-win" scenario here. Technology transfer to China was a huge mistake for which Western countries will be paying dearly. The U.S. has been played for fools for decades. The Biden administration seems to be facing up to this reality. Our strength is in unity with Western democracies to stand up to intellectual property theft, forced-technology transfer, and other free-trade violations by a hostile authoritarian government. No more so-called "completion centers" and "joint ventures."

Without U.S. investment and technology, China would be economically on par with North Korea, if not more impoverished.

[ransim7222]

So, once again we are confronted with the knowledge that no one in the business world reads any history at all. Boeing and Airbus are assisting China in becoming their replacement. For what possible reason, other than increased profits now? Look at the similar assistance given to Hitlers' Germany, and Imperial Japan, and the USSR during their early days, and how did that work out? This displays a complete lack of future planning and prudence on the part of all of them, Boeing, Airbus and the like.

[Old Wizard]

US companies who sell and manufacture in China need a game plan to keep steps ahead through their R&D. Also they need to keep those advances away from Chinese hackers. Whether Boeing does these steps effectively is the issue.

[Doc 224899]

...or, China will just copy the renovated 737MAX and rob the tech (they'd never do that, would they?)

Their air superiority fighter is a clone of the F35. They don't even try to hide it.

THEY ARE NOT OUR FRIENDS, PEOPLE! THEY WANT TO DEFEAT US AND OCCUPY WESTERN NORTH AMERICA, THEN SPREAD TO THE EAST.

THEY ARE A PLAGUE OF LOCUSTS.

[jteamaz]

@Doc 224899 This is America's own fault ... Americans want cheap crap so China has exploded as a result. Also, don't bite the hand that feeds you, China buys a LOT of American debt. If not for them we would be bankrupt about now. This will not change anytime soon.

[Fred Banks]

@jteamaz Japan buys the most American debt.

[Ben Gee]

@Doc 224899 China has enough problems on its own without owning any part of the US.
The US can have its own problems.

[taplinger]

@Dhierin Bechai - Great article, I wish you had talked some about the current administration's continuing China tariffs. Xi expected Biden to drop them when he took office and he didn't. Some say that had he dropped the tariffs then the MAX would have been in the air over China the day the FAA recertified it.

What does China gain by stretching out the recertification process indefinitely?

[ryguy1]

@taplinger anything that causes America to lose its competitiveness you can count on China to pursue it. Whatever they can steal they will. The delayed recertification is all political. The world has woken up to China’s modus operandi. Yes, it’s a huge market but dealing with the CCP and it’s one-sided commerce laws you are basically selling yourself to the devil and will eventually come back to haunt you. On that note, I will never fly on a COMAC made aircraft.

[EuroDGI]

@ryguy1 cannot agree more !

[Fred Banks]

@taplinger China would loose jobs at the finishing center.

[California100]

Manufacturing commercial jets is a long product-cycle business, so it will take COMAC a long time to have a competitive product. This is very different than telecom equipment -- where one learns from failures quickly and one can relaunch a new product the next year with improvements.

[ryguy1]

@value investor 5 when it comes to telecom equipment, China mostly learns by stealing and reverse engineering.

[Ben Gee]

@value investor 5 20 years is a short time for China. China has plans up to and beyond 2060 and 2078.

[Little Black Sheep]

@ryguy1 I thought this was common knowledge

[montauk77]

Why do anything for China. Keep even the minimal jobs in America. Well need them since our Southern border is wide open.

[Ben Gee]

@montauk77 Who is doing anything for China? Certainly not the US.
When Trump stop selling commuter chips to China, Japan make a killing selling computer chips making equipment to China.
If the US think Japan is on its side, the US is fooling itself.
While US is not selling high tech equipment/products to China, Germany made a high tech trading agreement with China.
Who is the biggest fool?

[Little Black Sheep]

@Ben Gee this is why you need a plan with the rest of the world and keep other countries in check.
If not, will never work.

[montauk77]

@Ben Gee Nobody on our side. The world vs USA.

[MAGA2050]

"Why China Buys Boeing"? The answer is simple, they want to do reverse engineering.

[emcsqard]

@MAGA2050

"The answer is simple, they want to do reverse engineering."

All they need then is one plane. China is a huge country geographically, with a population of at least 1.4 billion people. They need planes and Airbus is sold out for some time to come. Where else are they going to go?

[Dhierin Bechai]

@MAGA2050 Unlikely to be case, for reverse engineering they already got hundreds of aircraft that they could yank the tech from.... it's all about setting up that system and learning from it.

[Endeavor Investing]

@Dhierin Bechai DB, this is the counterintuitive part you mentioned, which I wasn't appreciating before reading this article. I understand, you learn by doing. On this note, do you think China will eventually require Boeing to manufacture planes in China (i.e., go beyond its completion center)?

[brainhub]

The points in this articles show why It will badly hurt China's airspace aspirations if it to stall recertification of BA 747 MAX.

[qwerty11]

Because they're cheap after all the mess?

[bpar]

Great article, Dhierin. Keep them coming. I foresee a day when COMAC and Boeing form a much larger JV much like GM, VW, and others have done in the automotive industry. You cannot just walk away from the largest aircraft market in the world, now and far into the future.

[highrider]

China is the modern day enemy, doing business with them is such a illogical business move ( as the world has been doing for 30 years now)
Will we ever learn?

[emcsqard]

@highrider

“Keep your friends close; keep your enemies closer.”
~Sun Tzu (who BTW was a Chinese general)

[N93143]

First we (eagerly) sell them the rope, then we teach them how to tie the noose.

[Comityguy]

“All of these are positives” for Boeing. You missed one: China’s massive trade surplus with the USA means a massive amount of USD to dispose of as the Fed’s infinite dollar printing debases the currency. If China wants to trade its paper fiat dollars for real assets, buying jet airplanes from Boeing is a good way to do it.

[Dhierin Bechai]

@Comityguy Indeed. Should have mentioned it, but that argument is part of the political/trade piece that is part of this series.

[Fred Banks]

@Comityguy Sorry, take a finance and banking course. The fed cannot print infinite money. They have controls on the money supply to keep the economy balanced. The fed only sets interest rates on how much they lend to Banks. This is called the fed funds rate.