EADSF - Boeing Set To Win In China

2023-08-29 12:02:55 ET

Summary

• Boeing 737 MAX deliveries to China are set to resume, with 97% of the previously delivered planes already returned to service.
• The resumption of deliveries will help Boeing reduce its inventory and generate significant revenue and profits.
• This move also opens up the possibility for future aircraft orders, allowing Boeing to increase production and generate more value.

Boeing (BA) was in the news in a rather negative way last week due to new issues found on the Boeing 737 MAX. The new issues, which I will not discuss in this report, were first reported in The Air Current and will cause near-term delivery delays. Boeing's stock, however, has recovered on the back of positive news from China which I will discuss in this report supported by data.

Boeing 737 MAX Deliveries To China Will Resume

The fact that Boeing is close to delivering airplanes to China from its inventory is a big step. I will not rehash the entire Boeing 737 MAX crisis, but China's regulator was the first to ground the airplanes of the type, and with travel demand eroded during the pandemic that gave China the opportunity to use the Boeing 737 MAX service re-entry for political purposes. As such, the airplane's service re-entry no longer was a matter of safety but was weaponized in the tension between China and the US. This also allowed China to certify their home-built COMAC C919 before the Boeing 737 MAX re-entered service in the world's biggest aviation market. When China was more or less forced to lift COVID measures, travel demand rebounded and there was a need again for airplanes which set in motion the service re-entry of the MAX.

By January 2013, the first airplane had re-entered service. Using a specialized tool developed by evoX Data Analytics, I'm tracking the return-to-service for the Boeing 737 MAX in China on a weekly basis. I tracked the number of returns, the flight cycles and flight hours. In total there have been 95 airplanes that were already delivered to Chinese customers before the grounding. Of those 95 airplanes, 97% or 92 airplanes have now been returned to service accumulating nearly 90,000 flight hours on almost 39,000 flights. It also explains rather well why we are hearing about plans to restart deliveries to China.

From Boeing's Q4 2022 earnings call , we do know that Boeing more or less aimed at returning the MAX in China in a six-month timeframe. It would indicate that by mid-July the fleet should have been fully operational. I think that Boeing executed rather well on that schedule. By the end of June, 85 out of the 95 airplanes had returned. From that point on, the number of airplanes returned to service on a weekly basis started to slow down considerably. We don't know an exact reason, but with more airplanes being put into service the return schedule likely has started to pace more in line with needs of individual airlines rather than with the capacity to prepare airplanes to return to service.

With just three airplanes left to return to service, there's not a lot of capacity addition possible. In terms of utilization, there still could be some improvement. We already have seen the utilization per month climb from 3.2 hours to 8.5 hours and typically narrowbodies have utilization of 9-10 hours with some airlines even being able to utilize their airplanes for 12 hours. China Southern Airlines utilizes their complete fleet for around 9.3 hours in normal conditions, which already shows there is some upside to the utilization but not much. This also explains rather well why recommencing deliveries to China is closing in.

A Big Step For Boeing

The start of deliveries to China has been a step process with multiple hurdles to take. Putting it in simple form, recertification, and reactivation of the existing Boeing 737 MAX fleet were the prerequisites for Boeing to recommence deliveries. However, due to the political tensions with China the process has been more difficult than it should be and Boeing recognized this a year ago and put pressure by openly declaring that it would be remarketing airplanes initially built for China, which likely also aided in the overall process of lifting the ban on the Boeing 737 MAX for Chinese operators.

In recent weeks, China and the US also have been working on improving the US-China relations. Secretary of State Anthony Blinken visited China in June, US Treasury Secretary Janet Yellen visited a month later and US Commerce Secretary Gina Raimondo began her visit yesterday. So, it's not just against the backdrop of rising demand that we see the first signs that Boeing might restart deliveries of the Boeing 737 MAX to China soon, but also against a backdrop of an attempt to improve relations between the two countries.

Boeing Positions For Future Airplane Orders From China

The restart of deliveries will be important for Boeing to reduce its inventory. The company initially had 140 Boeing 737 MAX airplanes in inventory built for China. 55 airplanes have been remarketed since, most likely to Air India which ordered more than 500 airplanes from Boeing and Airbus. That leaves 85 airplanes for China, which is significant. In total, there are 220 airplanes in inventory. Not being able to deliver those 85 jets would render around 40% of the inventory undeliverable which means no revenue and no cash. Once deliveries recommence, the inventoried airplanes for China could render $4.5 billion in revenues and around $900 million in profits to Boeing. So, that's significant. We won't see that materialize in a single quarter but even over time that $4.5 billion in unwind is going to be important.

Perhaps more important is that this also opens up the possibility for future aircraft orders. Boeing expects demand for nearly 6,500 single-aisle airplanes in China in the coming 20 years. Being able to deliver the 85 jets covers around 1.3% of that, so it is not huge. However, more importantly in the same way certification and reactivation of the fleet were prerequisites for deliveries to recommence, the restart of deliveries is considered a prerequisite for Boeing to win new orders from China. This will subsequently allow the company to compile a skyline and production schedule and eventually push production higher which will accelerate the value generation.

Boeing seems to have presorted for new orders appointing Alvin Liu as the President of Boeing China. Having a China-born president could eventually help the company locking in orders.

Conclusion: China Boeing 737 MAX Delivery Resumption Paves Way For Bright Future

The resumption of deliveries to China will be a gradual process, but it will definitely help Boeing cleaning up its balance sheet as deliveries are turned into cash, which subsequently can be used to reduce the debt. Those are positive from a balance sheet perspective. Besides the initial pool of 85 airplanes being delivered to China over time, there also are future airplane orders to be won and those will allow Boeing to increase production and better amortize fixed costs. So, overall we are seeing the biggest airplane market reopen with billions of dollars' worth of sales to be won plus associated services, most likely for the longer term again.

In the past years, we have been given the impression by doomsayers and thinkers that the Chinese market would never reopen to Boeing and Boeing has also pretty much de-risked its business from China, which likely has feathered into the stock price. With the Chinese market re-opening step by step for new orders and deliveries, I would say that this creates longer-term upward pressure for the stock.

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