Boeing’s 2Q2016 results and the 787

By Bjorn Fehrm

August 03, 2016, ©. Leeham Co: Boeing released its 2Q 2016 results last week. This is always a good opportunity to look at information regarding its 787 Dreamliner project. Last week’s call did not disappoint even if the information leaves plenty of room for interpretation.

Boeing 787 Dreamliner

The first information was the production cost of the fourth and fifth Dreamliner that were produced. According to the stock market filing (10-Q), these cost over $500m per unit. The further information we got was the production cost for the 38 Dreamliners that were produced in the quarter and the relationship of the 787-8 costs to the 787-9.

As Boeing uses program accounting, these normally very hush-hush figures have to be shared with the public. Not so with other aircraft OEMs that use unit accounting for production.

Program accounting

The first piece of hard production information that was given was the value at which the Dreamliner prototypes number four and five stood in the Boeing production inventory, i.e., in the program accounting block.

When an aircraft is produced to be sold at Boeing and other OEMs, they will book the production cost of the aircraft as part of inventory. When the sale gets realized and the customer accepts the aircraft, the inventory value is then transferred to Cost Of Goods Sold, COGS.

In the case of Boeing, the value at which the aircraft gets put in the inventory is the actual production cost. The COGS value that gets counted against the price that the customers pays is not that value, it is the average production cost value over the accounting block for the aircraft variant.

This is the key benefit of program accounting, early production has lower COGS and later production is made more expensive than if the true values were used. Unit accounting books the actual production costs as COGS when the aircraft is accepted by the customer.

Early production costs

Now to the value of those early aircraft. Learning curve theory says that the cost of producing the first aircraft in a serial production run is four to five times more than for aircraft number 400, which is the normal production number when one assumes that production costs should have settled down.

The value of these aircraft in the deferred production cost were $1,011m. This shows that the early production costs of the 787 Dreamliner were almost double than what it should have been. At a normal production run, these two aircraft should have cost around $550m to produce.

It can also be interpreted another way. The relief on the very high deferred production cost of $28,684m before the operation (to be amortized over the remaining 870 aircraft in the accounting block of 1,300) meant that each aircraft should amortize $33m on average. To that shall be added amortization of $4.3m in tooling and other costs, so in total $37.3m per aircraft.

The write-down of the $28.7b accounting block by $1bn with only a reduction from 870 to 868 aircraft to divide this over is of course welcome, especially as the $37.3m amortization per aircraft is pretty stiff. Now these 868 aircraft only have to amortize $36.1m per copy.

It’s anyone’s interpretation what the real reasons were for taking Dreamliner number four and five out of the accounting block. Un-sellable aircraft when refurbished or a convenient way to reduce the pressure in the accounting block? Either way, it was prudent to reduce the pressure in the 787 accounting  block, even if it was only by a billion.

Production cost status

Before the operations with the prototypes, the deferred production costs increased by $23m in the quarter. This means the production costs of the 787 were $0.6m more than the average COGS variant value for the quarter.

This is in line with the first program accounting positive aircraft being produced in 3Q2016, something that Boeing has forecasted since 3Q last year.

46 Comments on “Boeing’s 2Q2016 results and the 787

  1. I dont like to conpare Airbus and Boeing as theyre very different companies. Imo, there are knock on benefiits to the 787 program. Its wing is more advanced than the A350 as are some of the avionics. The A350 program is certainly more sussessful financially thus far I would argue as its come in a lot cheaper. (About 1/3?)
    Its a smarter program in terms of making a lighter plane with economics that even better the 787 in some regards and they. Picked the size very smartly. They didnt target the 787 specificallly but went more for middle ground between the 787 and 777 to guarantee some clear pastures. That has worked well for them and the. 900 has benefitted greatly.

    But I wouldnt compare the 787 program to the A380 one. The 787 was a better choice of plane to build than the A380. They just got the economics wrong by starting at 8 as did Airbus.

    When the 10 comes I believe it will eat significantly into A350-900 orders. It already has. The best days of the 900 are already behind them.

    However, the best days of the A350-1000 are still to come I feel, that is, assuming the widebody market picks up.

    Overall, I think Boeing will do well with the 787. They just never should have built the 788.

    • “Its wing is more advanced than the A350 as are some of the avionics. ”

      I’m going to have to ask what you’re basing this ‘fact’ on?

    • It’s definitely not done and dusted as far the A350 is concerned. Boeing have basically produced a mk 2 version having written off the mk1. I don’t believe Airbus are able to shorten the learning curve by that much compared to Boeing. Once they have got a grip of these new technologies I suspect that they will actually be cheaper to produce.

      • If Boeing hadn’t built the 788,the 789 would have been a disaster instead

        • I would say they got the economics wrong by scattering production all over the glove in a misguide effort to produce a new aircraft at all. Boeing management looked to be getting out of the aircraft business at the time.

          The tech worked, all but one of the problems was due to how they structured the program and complete initial lack of oversight of the primes and sub primes.

          As production was scattered, you could not have one local team respond to one after another, each production site required its own team.

          Fasteners and fastener hoarding were major issues.

          As my brother one noted on a report he gave, the teacher was able to use it as a good example of how not to do it.

          Dubious distinction. Its going to be a management classic of how not to do things until the sun grows cold.

          • And lets not forget Charleston. How much did that cost the program? 3-5 Billion?

            A billion here a billion there and soon we are talking real money!~

  2. With so much per plane to collect to recover for the accounting block, there does not appear to be much room for a normal profit.
    Don’t think my bank manager would have approved

  3. I would assume that Q2 earnings is always a convenient time to report bad news. Especially news, that are bad in nature, but not so bad that people get ejected out of their summer stupor. Airbus also made some write-offs (and cancelled them with some one time effects).

    I expect that some Q2 earnings call will contain a drastic write-off of deferred cost. 35 Million USD per copy is a burden the aircraft is unable to carry. Many of the activities we see at Boeing are directed of getting there.
    The A330 NEO was a diabolic move by Airbus: on the one hand no-one needs that aircraft, on the other hand it forces Boeing to additional discounts for most B787 (except for those customers who desperately need the 10% additional range).

    But probably they will delay the write-off to the last possible moment. Writing off LN004 and LN005 in 2016, which we all knew for years were impossible to sell, is also maximum possible delay. There are still half a dozen B787 parked in Paine Field, and these probably represent ~300-400 Millionen USD inventory each. The next aircraft to go.

    • As I remember Boeing even sold the very first 777 to an airline. Different times with less power point…

    • “There are still half a dozen B787 parked in Paine Field, and these probably represent ~300-400 Millionen USD inventory each. The next aircraft to go.”

      There is only one real candidate left to write off, LN-19. Of the 7 early builds left, 3 will be delivered this year 3 will be delivered to Ethiopian in 17.

      • I suspect the selling price to Ethiopian might be just a little bit below the manufacturing cost, though.

        • As it is for all aircraft programs when you are talking about the frames produced before break-even (per frame basis) occurs

  4. All of the rumours suggest the a350-1000 is a significantly changed design relative to the -900. For example Airbus admitted a 70% parts change in the wing for the -1000. Equally the -1000 has additional CFRP in doors, floors, stringers, frames etc. The rumour is the weight target for the -1000 has been met unlike -900.

    Big question will they retrofit the changes in the a350-1000 to the -900. My guess is they will, which will be a big problem for the 787-9/-10

      • To project the new development into the existing production is in the tradition of Airbus.
        Just compare some early 330s with some 10 years old and with the recent ones – the differences are huge i.e. the improvement was ongoing.

        • True, and it probably effected orders for the A339 given that the A333 had matured so well.

    • What means a “changed part”? The wing of the -1000 will be strengthened for sure. It is a design which is built by Automatic Tape Layers. As soon as extra layers of CFRP are added, it is technically a new part number. However, it does not necessarily mean a huge burden on the production system as in this case the ATL makes a few extra runs. Here is a picture of the wing panel production.

      If these changes have been incorporated into the design & production process in the first place, I don’t see a big issue.
      The B787-9 required on some occasions a complete repetition of the design process, plus new tools. That was a different sort of trouble.

      • Don’t know what Airbus meant by a changed part! They never say. If you remember the a350-1000 was delayed for two years so RR could do the engine. I’m assuming they used that time to do it better a second time.

        The logic is certify changes in the -1000 and retofit to the -900.

    • The undercarriage was always planned to be different. A different company does the 3-axle bogie they’re using for the 1000. The trailing edges on the wings need to be bigger too. But the use of further modifications to the wing and fuselage is news to me.

      The worrying scenario if what u say is true, is they couldn’t squeeze any more thrust from the xwb’s and had to lower weight instead!

      Im sure many of u heard the rumours a few years back that they were only getting 93,000 lbs out of them. I assume that changed as citations after those rumours quote available thrust at 97,100 lbs which is what they promised.

    • @ philip

      I believe the most critical stat is that fuel burn on the A359 is rumoured to be on spec from the off, or at least tranche 3 something not yet achieved afaik on the B788. The essential maturity of the A350 programme allows scope for far more development work beyond solving problems. As I understand it the A350 1000 upgrades are being assessed on a case by case basis (cost/benefit).

      On a wider nit I would be keen to know about the wing advantages accruing to the B788/9. I understood the A330 wing to be a good performer even before the NEO and the A350 wing is also reputed to perform very well. Any more detailed info on this area would be appreciated.

  5. “Now these 868 aircraft only have to amortize $36.1m per copy.”

    What everybody knows but apparently doesn’t dare to say: that is totally irrealistic.

    Pricing negotiated and contracted on the backlog do not create this margin. They were based on vapor cost models.

    So add another 800 to break even.

    • I must assume that this has been taken into account in Bjorn’s analysis. You seem to imply that Bjorn is afraid to talk about this very well known issue. That being said, if you do have point I would appreciate if you could substantiate your claim and further elaborate on this. My understanding has always been that the first block of 800 aircraft were more or less given away until Boeing realized that their cost analysis had been based on premisses that were completely disconnected from reality; thanks to this new generation of Nintendo kids that Boeing hired to replace its highly competent engineering workforce that had produced the likes of the 747. Now, if Boeing had used this original block of 800 instead of the current block of 1300 the impact on each unit would have been too high and would not have gone so well with the shareholders, who have been until now quite lenient with Boeing.

    • “So add another 800 to break even.”

      Boeing will never break even on the 787 because over and above the 30B deferred cost there is the R&D cost which has already been absorbed. Since this R&D cost has already been accounted for this allows Boeing to expect to eventually generate some cash when production costs will have been brought below a predetermined level. As Bjorn as mentioned this is expected to happen sometime in the third quarter of this year.

      What I would like to know is what impact a potential production rate reduction could have on those estimates. For sure if the B2B ratio remains below one for an extended period of time Boeing will have to adjust the production rate accordingly. And this could perhaps bring the production costs a little higher again, or at least deprive Boeing from making a substantial profit until production is increased again.

      I am confident that the 787 will break even before the end of this year; that is, it will cost Boeing the same amount of money on average per frame as the 1300 accounting block allows for before it becomes cash flow positive. What this means to me is that sometime in 2017 we can expect the 787 to start contributing positively to Boeing’s overall revenues. This will be more than welcomed and might allow Boeing to invest in new products.

      But the following questions remain: How much money can Boeing expect to make on each unit after it breaks even on production? And by how much can this profit keep increasing until it flattens out? And how long is this going to last before Boeing will have to cut back on production because the backlog will no longer be big enough to maintain those high production rates? Many questions, but few answers.

      • I think the question here is what is the market size for small widebodies? I think the A330 will take half the market, Airbus can undercut Boeing on price, so unless you need the B787s full capacity A330 will be the way to go. Boeing needs the ¨10¨ to start selling, it is the only clean air they have on the program. It’s not done so well to date, maybe not capable eough vis a vis the A359?

        So if the market is 20 mo I don´t see 787 rates above 10 as sustainable.

        • “I don´t see 787 rates above 10 as sustainable.”

          Would the 787 itself be sustainable as a programme if the order book does not justify a production rate above 10 a month? For any programme the answer would be yes, but in this case Boeing would have to take a one-time charge of 30B and the stock would immediately take a deep dive, perhaps an unrecoverable one. What is frightening about this is the very high probability for this scenario to develop in the coming years. The irony here is that the market environment is deteriorating just when the 787 is about to break-even. But the whole business case is based on a large block of orders and high production rates. This block could melt away fast and a sizeable reduction of the production rate would likely have an immediate impact on production costs, which are already difficult to manage. The Dreamliner can save or break Boeing, depending which way the win will blow in the coming years.

          • Some years ago I posted that Boeing need to write off 20B on the 787 program, but call it something else because really it was just relearning how to make aircraft rather than designing and producing a new model. I still think they need to go that way, if only just to get their perspective back with regard to doing future models and development.

            That way it would come into profit in a reasonable time.

          • Yes, I agree that they should take a write-off and get on with it. Bombardier did it with the C Series when they took a one-time 5B charge. But in Boeing’s case Wall Street may take a different view.

    • Thanks for the link. Disappointing. Seems like 201X is on track to be a relatively bad decade for flight disasters so far.

    • And Mr Trump, another Muslim sadly dies trying to protect people.

      • Reports from different sources are so muddy I can’t work out if he had a landing gear problem or just forgot. Forgot sounds unlikely, probably had to be an alarm failure as well. Sounds like wind shear played into it on the go round. Just guessing.

  6. Alternative universe thinking

    The cost of the B787. Programme is sunk.Boeing writes off all the costs associated with R&D and deferred production as fast as possible, a one off pain, and then destroys The A330neo and A359 with a bit of predatory pricing and aggressive sales tactics.

    Seek to take the advantage of being a larger company with more income streams to bury Airbus WB strategy over 5 years of assault. Kill off the A380 and the A330neo by calling on the rational decision making bluff of Airbus higher echelons. Leave Airbus as a one trick pony with the A350 and lots of productive space in TLS growing weeds.

    • Ha ha ha.

      Never going to happen – the hit to management bonuses would be intolerable.

      • You seem to forget there’s another key player still quietly sitting at the table currently– that probably will be looking for at least a minimum $10 billion writedown by year end–the SEC. “And what the government wants, the government gets.” So, bonuses are most probably off the table for this year anyway. That opens up pushing that write-off number possibly above this $10 billion number–if it doesn’t take the stock price lower than, say, that caused by a 20% bear market-type decline. A lot of this can squarely be laid at the feet of McNerney, but beware probable shareholder class action suits against the company, the board, and BA’s cpas. (But even these would mostly be on BA’s insurers, beyond some deductibles and future premium increases.)

        • Boeing has too many politicians in its pocket for that to happen.

    • I would also like to quickly write off my mortages and buy some new property.

    • Companies ae not very big when they are not making a profit and of course it will take a lot longer than 5 years because Airbus have 8 years of production locked in

      • Production for A350 maybe, the A380 would die over that time of natural causes and the A330neo could have its jugular cut in the 5 year timeframe

  7. The finance guys will be excercising their mind about how to get out of this problem.

    Maybe a tariff on all Boeing sales down to the last locking nut instead of relying on a 787 based recovery will be the answer?

    Could we even see a “New Boeing Aircraft Corporation”?

  8. The real issue is not the $20 – $30B in write offs Boeing will surely take but rather they lost so much money on the program at all. Boeing installed technologies where the cost exceeded the benefits. What are the design implications on the MoM or even a new single aisle one day. I foresee a less advanced, less moon shot plane. Less electric, less composite? The big issue will be can they design, produce and sell an all new plane and provide a return for the shareholders. If not curtains in 25 years.

    • The big trouble does not lie ahead so far, but only a few years away, if sales remain on their current level. We might not see a profit from Boeing for quite a while.

    • Too true, the purported benefits touted for CFRP, for barrels, for near all electric architecture, for B2 gust tech, etc etc all impact considerably in upping build cost and it is debatable the degree of premium that can be charged over a stock A330 with extended wings and new engines. The A330 is to some degree 1970s technology but through constant evolution and development it offers a solid reliable alternative for most missions.

      What gets me about the B787 is that it can only truly beat the A330 on efficiency by going 9 across in the back, the seats for people with no shoulders. That is a sad indictment of the lack of technological change over 40 years. at 8 across the benefits on many routes is negligible even if they ever manage to hit targeted weight and fuel burn promises.

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