Monday, January 27, 2014

Pentagon Holds Back Contractor Funds on Business Systems- 01/29/2014

Topic company: Boeing Co, Aerospace/Defense Products & Services


  1. These are the sources that I use:
    • Bloomberg Terminal
    • Boeing annual report 2012
    o MD&A
    o Financial Statements Analysis

    The Boeing Company, together with its subsidiaries, develops, produces, and markets commercial jet aircraft, as well as provides related support services to the commercial airline industry worldwide. The company also researches, develops, produces, modifies, and supports information, space, and defense systems, including military aircraft, helicopters and space and missile systems.

    Revenue Breakdown-

    (in mn dollars) as 12/31/12 Revenue Operating Income Rev. % Op. Inc. %
    Commercial Airplanes $49,127.00 $4,711.00 60% 75%
    Boeing Defense, Space&Security $32,607.00 $3,068.00 40% 49%
    Boeing Capital Corporation $441.00 $82.00 1% 1%
    Other $133.00 $(159.00) 0% -3%
    Unallocated items and eliminations $(610.00) $(1,391.00) -1% -22%
    Total $81,698.00 $6,311.00 100% 100%


    (in mn dollars) 9/30/13 12/31/12 12/31/11 12/31/10
    Free Cash Flow $9,011.00 $5,805.00 $2,310.00 $1,827.00
    Revenue $85,140.00 $81,700.00 $68,740.00 $64,310.00
    FCF/Rev. 11% 7% 3% 3%
    CFO $10,966.00 $7,508.00 $4,023.00 $2,952.00
    FCF/CFO 82% 77% 57% 62%

    Uses of FCF:

    1, pay dividends –
    Large amount of the FCF is driven by advances, and wile much of this is timing related, investors should not be optimistic because management bought back $800 mn of stock in Q3, down from $1 bn in Q2.

    2, capital investments
    Lower use of capital in the investment especially in R&D. The research and development expense decreased 13% in the operating profit in 2012 and 6% in the operating profit in 2011. These decreases were primarily due to lower spending at BCA on 747-8 and 787-8 programs.

    3, reinvest in growth initiatives

    BCA EBIT of $1,617 mn beat analysts’ estimate by 20% on margin strength. Excluding R&D, the margin was 14.6% vs the Street consensus of 13.2%, and R&D continues to come in below expectations as well.

    -- Large Aircraft Backlogs Ensure Steady Revenue Growth: Bull Case

    Large backlogs lend stability to production rates and revenue, even as key developing-market growth slows. Total backlogs rose to a record of 10,781 units at the end of 3Q for the four largest manufacturers.

    -- Airline industry

    Quete, "Global economic growth and global trade, which are the primary drivers of air travel and air cargo growth, remained weak in 2012. Despite this, passenger traffic grew by approximately 6% in 2011 and 2012 and is forecast to continue at or near the long-term trend of 5% in 2013."

  2. Sources: Trefis, Bloomberg, Company 11,12 10K and 10Q
    ( 2013 Revenue 85.1 B, EBITDA 10.7 B, all numbers are based on calendar year).
    3 operating segments (% of Rev/% of EBITDA): Commercial Airplanes 62%/61.9%; US defense, space and security systems 30.9%/29.2%, the rest (non-US defense, space& security systems) 7.2%/8.9%.
    (Reference items 2012 FCF 6.1 B, OCF 8.2, 2011 FCF 5.8B, OCF 7.5 B) conversion ratio,
    Uses of FCF:74% of OCF or 7% revenue, CapEx outflow equals to (2.1 B) 26% of OCF, Dividend& repurchase of C/S outflow equals to 52% of OCF ( comparing with outflow equals to 18% of OCF in 2012), acquisition number N/M, net Capital investment 37% represents outflow of OCF, net cash balance decreased 1.3 B.

    Commercial segment:
    Industry overview, global commercial airline industry is oligopolistic, global industry revenue (149 B), Boeing 33 % of revenue (increased to 43% in 2012), Airbus 37%, intense competition is highly unlikely, Boeing's revenue growth will be primarily based on global demand.

    - Commercial airplanes EBITDA margin improved from a low of 2.8% to about 12% after 2010.
    - Total contractual backlog had a 3-y CAGR 6.7% at the end of 2012.
    - Pipeline: average price is the key for growth, 787 Dreamliner's delivery started in 2012, boosting average airplane sell price from 76 M in 2011 to 81 M in 2012. 737 the low price "single aisle" composes 80% of total deliveries. The grow of average price per plane will be offset by this factor, but the total deliveries will increase due to the popularity of "single aisle" planes in. Commercial airplanes deliveries increase 27% from 2011 to 2012 and that trend will like to continue.
    - Global commercial aircraft deliveries recovered, strong macro boost air travel, and many airlines profitability increased accordingly, which drove the global commercial airplane demand.

    - Schedule delay, high, past schedule delays in 787 and 747-8 increased the backlogs and fixed costs, and it will determine whether Boeing can benefit from the increasing global demand by making more airplanes.
    - Oil costs, medium, rise in oil prices will cut the margins of airlines which are Boeing's customers and will ultimately affect Boeing's revenue.
    - Labor costs, medium, 40% of Boeing employees are unionized, which poses threat on margins and smooth production.

    Defense segment:
    - Budget cut in the US defense might decrease Boeing's defense segment revenue
    - Proposed change in contracts, agencies need to reduce their sole source contracts by 10%, giving small companies access for contracts bidding.
    - Margins were stable for the past 5 years, the average is about 12%
    - Boeing won 35 B to build refuel tankers for the US government

    - Political, high, Pentagon can make or break a company's defense segment
    - Inflation, fixed price at the time of contract, high inflation pressures margin

    Conclusion, Positive.
    The defense segments mega B deals will be partly offset by policy changes. Leading position in Commercial segment is expected to boom, with improved margins and deliveries.

  3. Source:
    Stock analysis on net
    Thomas one
    UBS research

    • Commercial airplanes 60% Profit 60%
    • Defense, Space& security 40% 39%
    o Boeing military aircraft 20.1
    o Network & space systems 9.3
    o Global Services & Support 10.6
    • Boeing Capital 0.5 1%

    12/31/2013 12/31/2012 12/31/2011 12/31/2010
    4614 4483 1066 574
    Sales to FCF
    5.33% 5.49% 1.55% 0.89%

    Key drivers of growth
    • Boeing delivered 65 787sduring 2013 including 25 in Q4. It already beats the UBS research forecast which is 60 787s in 2013
    • 43 787s remain in inventory. This will be Boeing solvency problems in the future. Those 787s will drag as 4-5 billion cash in 2014.

    • Boeing has significant exposure to the commercial aerospace industry, which is cyclical in nature with significant downturns in the past. The main drivers behind commercial aerospace cycles have historically been airline traffic and profitability,which are closely correlated to GDP growth.

    • Boeing is also a large military contractor and could be negatively impacted by changes in political priorities and poor program performance. I know U.S government cut budget this year. In addition, Boeing has significant execution risk related to its development programs, both in its commercial and military businesses.

  4. Source: Bloomberg Terminal, 10k 2012, 10q 4Q, Seeking Alpha
    2013 Revenue growth rate: 6.03%, operating income: 3.73%, net income: 17.56%

    -Commercial airplanes: 59.69% of revenue, 61.17% of operating income
    -Boeing defense, space & security: 39.62%, 39.83%
    Boeing military aircraft: 19.91%, 20.53%
    Network and space systems: 9.21%, 6.21%
    Global services & support: 10.5%, 13.10%
    -Boeing Capital Corporation: 0.54%, 1.06%
    -Other: 0.16%, -2.06%

    --Market share of airframers:
    Boeing: 45.5%
    Airbus: 44%
    Bombardier: 5.8%,
    Embraer: 3.5%
    ATR: 1.3%

    FCF/ sales: Q2: 13.8%, Q3: 10.5% Q4: 2.9%
    FCF/CFO: 86%, 82%, 52%
    Usage: pay dividend (payout ratio: 34%)

    --Profit Margin:
    Boeing: 5.29%
    Industry average: 4.61%,
    Airbus: 2.17%,
    Bombardier: 3.51%,

    Boeing: 44.21 in 2013, 83.14 in 2012, 127.94 in 2011
    industry average: 23.38%
    airbus: 15.79%
    general dynamics corp: 18.21%
    Bombardier: 87.62%

    --Boeing vs Airbus: Q4 2013
    Narrowbody unit orders: Boeing: 450 Airbus: 372
    Widebody unit orders: Boeing: 185 Airbus: 229

    Defense division, government continues to cut defense spending
    Cut 50% of R&D expense in past 4 years
    787 problems affect reputation

  5. Boeing Co. (BA)

    Business structure from the 2012 Annual Report
    • Commercial Airplanes 60.1% 10%(operating profit margin)
    • Defense, Space & Security 39.9% 9%(operating profit margin)
    • Boeing Capital 0.5% 19%(operating profit margin)
    • Other Segment 0.2% -120%(operating profit margin)
    • Unallocated Items and elimination -0.7%(operating profit margin)

    Operating Performance
    • Commercial Airplanes. Sales growth is 36%
    • Defense, Space & Security. Sales growth is 2%

    Operating margin comparison from MorningStar
    • BA 7.7%
    • Airbus 3.3%
    • Lockhead Martin Corp 8.9%

    Free cash flow from MorningStar
    • 7% of revenue 2012
    • 3% of revenue 2011
    • 3% of revenue 2011
    • Not been active in share repurchases.
    • 2007 plan repurchase of $7 billion); repurchases expected to total between $1.5 and $2.0 billion in 2013; 26%-35% of free cash flow

    Discussion points from Morning Star and Forbes news
    Bull cases
    • $441($373 billion in commercial and $68 billion in defense) billion backlog
    • Annual returns on invested capital, averaging a solid 22%
    Bear cases
    • Battery problems of 787; Delivery timelines of 787
    • Outsourcing risks. For the 737 and 747, 35-50 percent. For the 787, 70 percent.

  6. I used Bloomberg, 10-K, MD&A in 3rd quarter 10-Q, Press release and Wall Street Journal as my sources.
    In terms of revenue, Boeing is 61% Commercial Airplanes, 38% Defense, Space & Security, and 1% others. By Geography in 2012, 46% is in North America, and 45% is in EMEA. Commercial Airplanes contributed 88% of the earnings in 2013, Defense 49%, and others -38%, due to increased unallocated items and eliminations. The Commercial Airplanes segment develops, produces and markets commercial jet aircraft and provides related support services, principally to the commercial airline industry worldwide. Defense operations have 3 sub-segments: Military Aircraft, which includes Super Hornet, Network & Space Systems, and Global Services & Support.
    Free cash flow as percentage of revenue has improved. It was 2.8% in 2010, 3.4% in 2011, 7.1% in 2012, and 7.0% in 2013. Free cash flow as percentage of cash from operations also improved from 62% in 2010 to 74% in 2013. Boeing apparently intended to use free cash flow to pay dividend and repurchase share. In December, Boeing announced $10 billion share repurchase, and raising dividend 50%.
    Boeing Commercial Airplanes has seen record sales on higher delivery volume; earnings increased by 23%, and operating margin grew to 10.9%. Boeing launched the 777X program in the 4th quarter with over 250 orders, and is making steady progress in the 737 MAX and 787 programs. The company projected deliveries and revenues continue to grow in 2014.
    Defense operations improved despite tight defense budgets with 5% increase in earnings. While Network & Space systems has jumped 28% in earnings, Military Aircraft dropped both in revenue and earnings. The segment is having trouble securing DOD contracts and finding customers overseas. Its Super Hornets are losing favor to more technologically advanced F-35 and Dassault Rafale. Defense is projected to decrease in profit margins.
    R&D expenses are estimated to increase by 4%. Since the near-term 737 MAX and 787 programs are refreshes of current portfolio, the increase in R&D will likely be from Defense operations. Despite that Boeing and Airbus are duopoly in wide-body airliner market, Boeing faces aggressive international competition in Regional jet market. Because of this, Boeing has only limited pricing power.

  7. Stock Analysis on Net
    Boeing Reports Record 2013
    Boeing Annual Report 2012
    Seeking Alpha
    Bloomberg News


    3 Business Segments (Revenue %, Operating profit margin %) Fiscal year 2013

    - Commercial Airplanes; 61% 10.9%
    - Boeing Defense, Space & Security: 38.4%, 9.4%
    - Boeing Capital (BCC). 0.5% 19%
    - Other Segments 0.1%

    Commercial Airplanes (Core Business)
    - Boeing Commercial Airplanes full-year revenue increased 8% from 2012 on higher delivery volume.
    - Full-year operating margin grew to 10.9 percent on the higher volume, favorable delivery mix andcontinued strong operating performance and lower research and development expense of $666 million primarily due to lower spending on the 747-8 and 787-8 programs.
    - During Q3, the company launched the 777X with 259 orders and commitments.

    Boeing Defense, Space & Security (Revenue % 2013)

    Boeing Military Aircraft 18%
    Network & Space Systems 10%
    Global Services & Support 10%

    1. Core EPS increased 20 percent to a record $7.07 on record revenue of $86.6 billion; EPS of $5.96
    2. GAAP operating cash flow of $8.2 billion
    3. Free Cash Flow:
    - FCF in FY 2013 $6,081;
    - FCF/OCF 74% in 2013 5% increase in 5 yrs
    - FCF/Revenue 7% in 2013 20% increase in 5 yrs
    - Use of FCF: Pay dividend, repurchase share In December, Boeing authorized an additional $10 billion share rep
    4. D/E Ratio: The company’s debt to capital ratio is lower than industry average in each of the past five years.
    5. Profitability: ROE 58% Industry Average 22% ROA 4% Industry Average 6%
    6. R&D expense decrease in the past 5 yrs

    - Improvement in Commercial Airline:
    - Stable Defense Business:
    - Financial stability and flexibility:
    - High Dependence on defense budget: Budget deficits and political uncertainty make future defense budgets vulnerable to cutbacks.
    - Cost overruns in bringing new aircraft to market and ramping production.

  8. Sources:
    - Boeing annual report 2012
    - Bloomberg news

    Business Segments: (Revenue%, Operating Income% as of 2012/12/31, revenue growth compared with 2011)
    - Commercial Airplanes 60%, 75%, 36%
    - Defense, Space & Security (BDS) business comprises three segments: 40%,49%,2%
    (approximately 70% of BDS 2012 revenues being derived from the United States Department of Defense (U.S. DoD).
    Boeing Military Aircraft (BMA): 20%, 25%, 10%
    Global Services & Support (GS&S): 11%, 16%, 3%
    Network & Space Systems (N&SS): 9%, 8%, -12%
    - Boeing Capital (BCC): 1%,1%, -15%
    - Other segment:0.2%, -3%, -11% (includes the unallocated activities of Engineering, Operations & Technology (EO&T) and Shared Services Group (SSG), as well as intercompany guarantees provided to BCC)

    Financial Highlights:
    - FCF as % of rev: 10.58% TTM, 7.1% 2012, 3.36% 2011, 2.84% 2010.
    - FCF as % of Operating Cash Flow: 82% TTM, 77% 2012, 57% 2011, 62% 2010
    - Use of cash: largest use: shares buybacks & dividends: in 2014 Boeing would use more than the targeted 85 percent of free cash flow to buy back shares and pay dividends.
    ROE: 52.4%, industry: 21.8%, airbus: 17.4
    D/E ratio: 0.97, gradually decreased from 5.74% in 2009
    R&D: decreased 10% from 2012 year end

    Other positives:
    - Recovery of commercial airline industry: Global economic growth and trade are fundamental drivers for this industry because they result in passenger traffic. Passenger traffic is expected to grow by about 5% in 2013, a growth rate that is close to the long-term forecast for the industry
    - Backlog: Over $300 billion in aircraft and other construction ensured Boeing a guaranteed profit in the next a few years , commercial segment has recorded 8.51% growth in its backlog - More 787 deliveries as more focuses put on fuel efficiency

    - US government cutback of defense budget
    - New competitors from international market such as Russia and China