2023-04-26 15:23:34 ET
Summary
- Boeing results were mixed, but analyst estimates were not realistic, adding to the EPS miss.
- US jet maker provided additional color on the problems with the Boeing 737 MAX.
- Guidance for 2023 reconfirmed and higher Boeing 737 production rate still planned for this year.
- Fair valuation for Boeing provides investment opportunities for long-term investors.
- Defense margins remain a watch item.
Boeing (BA) reported first quarter earnings before the opening bell on the 26th of April. At the time of writing the stock is trading 3% higher in pre-market. In this report, I will be going through the results segment by segment and see how those compare to my expectations.
Boeing In The News
Boeing has enjoyed some positive order momentum in recent months with orders from Air India , United Airlines ( UAL ) and two Saudi Arabian carriers . However, while momentum had been positive Boeing also suffered some setbacks. As new problems with the Boeing 737 surfaced involving non-compliant manufacturing methods at supplier Spirit AeroSystems ( SPR ), the focus for the first quarter release was on any guidance that Boeing could provide on the effect on the full-year delivery target since deliveries will be reduced for the foreseeable future. Boeing also announced earlier in the quarter that it would be recognizing a charge related to supplier quality issue resulting in factory disruption and rework on the KC-46A program.
Boeing Misses Analyst Consensus
Analysts estimated $17.56 billion in sales and core earnings per share of negative $1.05. Boeing reported revenues of $17.921 billion beating expectations by a wide margin on topline which I believe was primarily driven by higher than expected revenues in the defense and services segments. However, the core operating loss of $1.27 per share was $0.22 cents worse than expected. Multiplying by the outstanding shares gives us a $132.55 million miss. With little room for Boeing to surprise either in positive or negative direction in its Commercial Airplanes business and higher than expected revenues and margins in the Services, this leads me to believe that excluding special items analysts had modeled the BDS segment as a 3.5% margin business while in the first quarter this was closer to break even on adjusted basis.
These expectations likely follow from Brian West pointing out during the company's Q4 2022 earnings call that Defense margins that stood at 1.8% at the to be getting better sequentially:
On the defense margins, so in the quarter as I mentioned, we had some bumped around from the supply chain constraint and some of the labor knock us in the fourth quarter as well as some of the timing of accruals that I mentioned. As we move our way into 2023, we clearly expect those margins to get better. It's not going to be all the way back to what normal might look like but it's going to be improved sequentially, and we feel pretty good about the lineup in terms of the product portfolio and as we remind you is that the products are performing incredibly well with the customers. So we feel good about the underlying base with BDS. Margins will get better, and we're positioned for that as we head into the year.
A Discussion Of The Boeing Q1 2023 Financial Results
During the quarter, Boeing saw deliveries increase by 37% and a 60% improvement demonstrating a better delivery mix as the Boeing 787 is back in the delivery mix. Operating margins also improved by 12.2 percentage points, which primarily reflects improved Boeing 737 MAX deliveries on which Boeing can still recognize high profits. Revenues of $6.7 billion were actually almost $600 million worse than the value of the jets suggests. This was driven by customer considerations rendered on the Boeing 787 program potentially adding a 40% pressure on the revenues recognized on the program while Boeing 737 MAX revenues remained pressured by 15% on unit level.
Nevertheless, Boeing's loss from operations came in at $615 million which was $5 million better than expected after incorporating general expenses, R&D and abnormal production costs for the Boeing 787 and Boeing 777X programs. So, things are getting better. Definitely the road toward profitability remains a long one for Boeing Commercial Airplanes, and with less Boeing 737 MAX deliveries in Q2 we could see things getting worse when the rate of customer compensations on the Boeing 787 remains the same.
The good news for investors was that Boeing maintains its delivery outlook for 400-450 Boeing 737 aircraft this year, which is in line with my expectation as the potential shortfall in 2023 deliveries is encapsulated in that range and mapped at 40 deliveries per month, the delivery outlook already was padded. The issue that was found on the Boeing 737 MAX requires days per plane to be fixed. With 250 airplanes in inventory by the end of 2022 and possibly 30 deliveries from inventory and 75% airplanes affected that would indicate that roughly 165 airplanes are affected. The big question that has remained unanswered is how fast Boeing can rectify these issues. The newest issue is a challenge for Boeing, but if we keep in mind that 140 airplanes are destined for China and those airplanes are not going anywhere soon, then there are 80 airplanes left for other customers of which statistically 60 airplanes are affected. This also somewhat explains earlier comments from Boeing CEO David Calhoun that this summer season there could be 45-50 airplanes less delivered than initially scheduled and it also fits within my expectations that rectifying the issue would take a month or two of little to no production.
Another positive is that the plan to rate production from 31 airplanes per month currently to 38 per month on the Boeing 737 program is still in the planning for this year which has an annualized $4.4 billion contribution to revenues.
Where Boeing did significantly better than expected is in the services segment driven by favorable mix and continued strength in commercial volume services growth as globally utilization of airplanes improves. Normally this is a business that I have mapped at $4.5 billion with a 15% margin, so Boeing beat expectations on both with $220 million higher revenues and $172 million or $0.29 per share higher than expected profits. I'd say that Boeing's increased focus on services that started years ago is paying off for the company as it currently is the only profitable segment as Boeing ramps up commercial aircraft deliveries and faces headwinds on fixed price contracts and engineering and supply chain challenges on the Defense segment.
Boeing beat revenues expectations by $361 million, $220 million of which was driven by Global Services, leaving the remainder to be driven by the defense segment with revenues expected by analysts around $6.4 billion. My own expectations were actually $6 billion. Where Boeing seemingly has missed expectations is in this segment. The company recognized a $245 million charge on the KC-46A program, which falls within the $130 million to $500 million range I had previously stipulated. However, if we add back the one-off charge we see that the defense segment was near-breakeven levels and that was below the 3% that I had expected. With a $0.29 per share beat in the services segment and an adjusted miss of $0.32 for Defense, it seems that analysts were expecting a charge of $115 million for the KC-46A, which I believe does not make sense for the simple reason that it was clear that the defense segment would be loss making during the quarter which on analyst expectations should commanded a charge of $192 million as a minimum for the tanker. What this really means is that while Boeing might not have shown expected adjusted margins for the defense segment, round $0.13 out of $0.22 per share of the miss was actually driven by analysts simply not accounting for the charge or analysts simply not adjusting at all.
Having analyst estimates is nice, but a recurring element I see when comparing analyst estimates with the actual underlying business and performances it seems that on many occasions there is no realistic connect with the information available and the typical frame of operations for the businesses. So, investors should be extremely aware that not every miss is to be blamed on a company but can also be driven by analysts having unrealistic expectations or not adjusting estimates based on the latest information available. That's also something I noted recently when shares of American Airlines ( AAL ) tanked.
Overall results were mixed. Revenues at the Commercial Airplanes unit were in line with expectations when keeping in mind significant customer compensations rendered on the Boeing 787 program while the loss was in line with expectations. The services unit beat expectations on top and bottom line, but the Defense segment showed higher than expected revenues but lower than expected adjusted margins. So, it's a mixed picture that we see at Boeing with negatives as well as positives such as margin improvement in the commercial airplanes unit and higher production rates this year.
Boeing reaffirmed its outlook with a free cash flow guidance for $3 billion to $5 billion this year, so I won't go into detail on that other than noting that the fact that the guidance has not changed for cash flow or delivery numbers likely should be seen as evidence that Boeing's delivery target included significant padding against any occurrence of new issues.
Boeing Reduces Debt, Continues To Bleed Cash
What I previously was not extremely keen on was that while Boeing's cash position was improving, its debt balance was not while it could reduce debt and take out some interest costs. Finally, in Q1 we saw that debt reduction occurring. Cash and marketable securities reduced by $2.4 billion. That consisted of the negative free cash flow of $786 million which was expected to be negative as the first quarter tends to be the softest quarter of the year in terms of deliveries and cash flow and the remainder was driven by the debt reduction. Obviously with the free cash flow being negative it means that Boeing's net debt increased but with free cash flow expected in the $3 billion to $5 billion range the net debt is expected to be in the $34.8 billion to $36.8 billion range. What I hope to see is that Boeing will apply its full free cash flow against dept repayment which will bring the debt down to $52 billion to $53 billion, which is still a significant amount. Furthermore, I hope to see that Boeing will keep its cash balance at $10 billion which gives additional space to reduce the debt to $44.8 billion to $46.8 billion this year.
What Is Boeing Stock Worth?
Valuation Boeing | |||
Market Capitalization [$ bn] | $ 124.57 | ||
Total debt [$ bn] | $ 55.40 | ||
Cash and equivalents [$ bn] | $ 14.80 | ||
Total Enterprise Value [$ bn] | $ 165.17 | ||
EBITDA 2023 [$ bn] | $ 5.18 | ||
EV/EBITDA | 31.9x | ||
WACC | 8.6% | ||
Current price | $ 208.04 | ||
Median | Current | Industry | |
EV/EBITDA | 10.05 | 31.9 | 15.42 |
Price target | $ 60.40 | $ 191.70 | $ 92.67 |
Upside | -71% | -8% | -55% |
For Boeing, I tend to be a proponent of valuing the business based on a free cash flow driven analysis for the longer term, and based on that I have a $240 price target on that stock. Using an enterprise value approach, Boeing stock seems to be significantly overvalued. The company currently trades at a higher EV/EBITDA multiple that can be justified when we keep in mind where free cash flow, debt and EBITDA should be heading over the next couple of years. So, shares seem to be fairly valued for this year when we remove the WACC element which I use as additional padding to the price target. Compared to the median and the industry multiple, shares are significantly overvalued but that's because we should be seeing significant EBITDA expansion and debt reduction beyond 2023 and investors are already positioning for that. The only way I see Boeing retracing to the $192 price target is when the market weakens and the other price targets are only valid for a new crisis scenario for Boeing.
Boeing: Hold For Now, Buy For The Longer Term
The results overall were mixed as I mentioned, but the positives are the guidance for 2023 being reconfirmed which should enable significant free cash flow that will help the company reduce its debt. For short-term oriented investors, Boeing is valued fairly and even overvalued when considering the median and industry enterprise multiples. At the same time, I do believe that Boeing in some way is just like Hexcel (HXL), if you're going to wait for the moment this stock is valued fairly or undervalued you are going to miss the opportunity as the market is not solely focused on the near term in which Boeing might be overvalued but is most definitely also presorting for significantly better results that should materialize in the coming two to three years. If that's too much risk, then Boeing or actually most aerospace companies are not your cup of tea but I do believe that for investors who are long term oriented, a fair valuation as is the case now opens up an opportunity to position for long-term returns.
For further details see:
Boeing: No 737 MAX Crisis, Remains A Long-Term Buy