Oct. 23, 2019, © Leeham News: Boeing reaffirmed its belief that the Federal Aviation Administration will authorize a return to service for the grounded 737 MAX this quarter.
The FAA certification flight will occur soon, said Dennis Muilenburg, president and CEO.
He made the remarks during the third quarter earnings call today.
Boeing has hosted 545 participants more than 140 customers and regulators around the world to understand the technical changes. Meetings with more than 1,100 others, including the finance community which funds MAX acquisitions, also have been held.
At this defining moment, Boeing must take a leadership role to increase safety, he said.
We expect to maintain the current production rate of 42/mo, followed by incremental rate increases to 57/mo by the end of next year.
Majority of deliveries of stored production should be delivered in the first year, but it is clear deliveries will spill into 2021. Muilenburg was not more specific.
Muilenburg said the current global trade environment, a subtle reference to Donald Trump’s trade wars, hurt the demand for the 787 and cargo operations.
Boeing announced it is reducing the production rate of the 787 from 14 to 12/mo, beginning in late 2020, for two years. Cargo air traffic is down.
An improvement in the trade environment is necessary for improvement.
More than 1,000 small-to-medium widebody aircraft needed in the next decade, he said.
The GE9X engines are the pacing items for the 777X to begin flight testing, which Muilenburg now sees as early 2020, a further slip from 2019’s schedule.
Delivery rate of the 777 Classic will be 3/mo in 2020.
There are 364 orders and commitments for the 777X, Muilenburg said. Of these, 344 are listed on the Boeing website as firm.
However, LNA sees substantial weakness in this skyline. Boeing shows Etihad Airways with 25 firm orders. A fleet restructuring reduces this to six.
Emirates Airline has 150 777X orders. As many as 40 of these are at risk if Emirates swaps orders for the 787-10. This brings the “firm” backlog to 285, by LNA’s analysis.
The 767 production will increase from 2.5 to 3/mo in 2020, reflecting more KC-46A tanker orders.
CFO Greg Smith outlined a host of caveats for future financial performance. No guidance was provided, given the variables facing Boeing. These include but are not limited to:
Below is a synopsis of the initial analyst reaction, preceding the earnings conference call.
Boeing reiterated its assumption of a Q4 return to service of the MAX. This follows comments yesterday from FAA head Steve Dickson, who said the FAA received software and documents from Boeing and was now running software tests and reviews. Boeing confirmed its plan to ramp MAX production, targeting 57/month in late 2020. The is in line with our assumptions.
Boeing updated progress it has made on the MAX return to service and internal process improvements, involving a number of organizational and governance changes, as well as test and production flights. In a separate update Boeing confirmed it has successfully completed a dry run certification test flight. Boeing also announced yesterday that BCA CEO Kevin McAllister would be replaced by Stan Deal, who ran BGS.
Production on the 787 will be lowered from 14/month to 12/month for starting late 2020, with a goal to move to 14/month in 2023. This responds to softer demand for widebodies, as we have previously outlined. The rate cut lowers this risk, but may dilute margins in 2021-2. 787 performance was strong, with deferred production down by $1.14bn, or $27.2m per airplane. 787 deliveries in the Q3 were 35 – below the production rate of 14/month. The low delivery result was due to other factors, including the hurricane in Charleston. First delivery of the 777X has been moved to 2021, as we have already modeled. Defense and BGS margins were below our estimates. But, this will not be the investor focus at this stage.
We think BA shares could trade modestly higher this AM as an anticipated B787 rate cut was less than expected and BA’s new guide for the MAX return to service was better than expected. We maintain our Neutral view and we are no longer tactically bullish. Looking at the quarter, a below consensus print and no guide for 2019 are no surprise and expected. What was not in expectations was a B787 production rate cut – the rate cut occurred earlier than expected, but the rate cut to 12/mo was clearly better than 7/mo or 10/mo expected by many. BA’s 3Q19 cash flow was worse than expected, but given valuation is off of 2020/2021E, we don’t think it amounts to much. Finally, it was expected that BA would move its expectations for MAX certification to the right – but BA’s new guide was earlier than the 1Q20 date we think many expected. We wouldn’t be surprised if the stock traded modestly higher today.
|BA’s reported EPS of $1.45 fell well below $2.08 consensus and our $2.26. However, and as we previewed, we think BA’s 3Q19 print isn’t likely to be a focus item for investors or move the stock. What is important and likely to drive the stock this AM is that BA altered its guide for an early 4Q19 return to service for the MAX to 4Q19 – better than expectations (which we think were 1Q20). The issue, however, will be if anyone believes BA’s guide as some of the issues pertaining to the MAX return to service are outside of BA’s control.
Cutting B787 production earlier than expected – but less than expected. BA raised 787 production rates to 14/mo earlier this year, but announced today that they are cutting production back to 12/mo in 2020. In general, BA changes rate when they have expectations for at least two years of production at that rate. While it’s been well known that BA needs at least 50 orders for the B787 in 2020 to fill ‘holes’ in the skyline, an announcement of a production cut wasn’t expected until next year at the earliest. Furthermore, we think expectations for a production cut were closer to 7/mo or 10/mo. Consequently, investors could treat BA’s announcement as a positive as the production cut was less than expected.
BA took on significant additional debt in the quarter. BA’s debt now stands at $24.7B versus $19.2B at the end of 2Q19. We don’t see that as an issue and we note that BA has nearly $11B in cash and short term investments. While we previously anticipated BA would re-institute share buybacks sometime in 2020, we’re not so sure now as we think BA will put priority on trying to repay the nearly $10B in debt it’s taken on since December. Assuming BA doesn’t start repaying the debt until after MAX deliveries begin in 2020, estimates will also likely be driven lower by the additional interest expense. At this time, we don’t see a risk that BA has to lower or eliminate its dividend.
Investors may be neutral/positive to Q3’s results which were better than feared and updated 737 MAX schedule, which still assumes delivery by y/e and ramp to 57 by y/e 2020. Questions on the call are apt to focus on the MAX recovery.
Core EPS of $1.45 topped our est. $1.10 with essentially on track ops and tax rate help (0.8% vs. 16%E). However, free cash outflow of $2.9bn topped our $2.2bn on MAX disruptions.
Indicated 777x slip into 2021 is no surprise; and planned 787 rate dip from 14 to 12/mo in late 2020 was indicated as possible. Given the continuing mix shift to the Dash 10, supplier price step-downs, and productivity gains, we expect cash contribution/unit to hold relatively stable.
We see these results as slightly positive: No incremental negative news on MAX will be a relief for most, partially offset by the confirmation of a 787 rate cut for late 2020, which will likely trigger downward revisions to out-year consensus FCF estimates.
787 Rate Cut: BA announced in its presentation slides that 787 rate will come down for ~2 years beginning in late 2020. This is largely consistent with CS of Q1’21 though ahead of most sell-side consensus (we believe) which has forecasted a rate cut in 2022.
Boeing burned ~$3bn of cash in Q3. This was ~$1.5bn worse than our forecast. The company built $4.7bn of net working capital vs our estimate for ~$2.5bn. Physical commercial inventory (inventory less deferred production and tooling) is up ~$5bn in Q3 vs ~$2.5bn built in Q2 and perhaps reflects 787 deliveries below the production rate (35 vs 42, which could be $600m-700m). On the plus side, Boeing outperformed our 787 deferred balance estimate at a $1.1bn reduction vs our $900m estimate.
Liquidity update. Boeing ended Q3 with $10.9bn of cash and securities on the balance sheet. Yesterday, Bloomberg reported that Boeing is in discussions to sign a $9.5bn revolver that will replace its current ~$5bn facility. Net debt at Boeing now stands at ~1x 2018 EBITDA. Boeing should have access to plenty of capital, but we do not think the idea of burning through > $4bn of cash per quarter for operations and the dividend is appealing to credit markets and that is why we will be seeking more info from management on expected cash burn.
Reducing 787 production to 12/mo. Boeing has been signaling pressure on the 787 production skyline in recent months, and we reduced our estimates to account for most, though not all, of today’s cut last week. The production cut takes effect in late 2020 and lasts for two years, with management citing the global trade environment. We believe that receiving a large order from China as part of a trade settlement with the US is critical for shoring up the 787 skyline. It is unclear whether 787 orders would be part of a “Phase 1” US-China deal.
737 MAX assumptions. Management reiterated its assumption that the MAX return-to-service will occur in 4Q19, with a gradual production ramp to 57/mo by late 2020. As we have noted recently, the MAX appears to be making progress on the technical side, but there are still political and regulatory hurdles to overcome. Boeing added $900m of cost to the 737 accounting block, which brings the total cost added since the grounding to $3.6bn; each $1bn of cost is worth ~50bp of margin for the program.