Shares of The Boeing Company (BA - Free Boeing Stock Report) have been standouts over the past year, despite a somewhat stretched valuation by historical standards. (The stock trades at a forward P/E multiple of around 22, which is slightly higher than the Value Line median.) In fact, the stock has been among the Dow’s best performers of late, rising roughly 80% since the start of 2013, thanks to strong industry fundamentals, including a major up-cycle in the commercial aerospace sector. But what should investors do now? Are these quality large-cap shares still worth purchasing? Or are greener pastures best found elsewhere? In this article, we’ll take a brief look at Boeing’s business and perform an easy-to-follow SWOT analysis of the company, evaluating its Strengths, Weaknesses, Opportunities, and Threats.
The Boeing Company is the world’s leading aerospace outfit and the largest manufacturer of commercial jetliners and military aircraft combined, with over 174,000 employees and revenues fast approaching $85 billion annually. The Chicago, Illinois-based company also designs and manufactures rotorcraft, electronic and defense systems, missiles, satellites, launch vehicles, and advanced information and communication systems. And it provides various support services to NASA, the military, and the commercial airline industry. There are three principal business segments, including Commercial Airplanes (about 60% of the top-line mix), Boeing Defense, Space & Security (40%), and Boeing Capital, the company’s small financial solutions wing (less than 1%).
Robust Commercial Order Book: Part of this is due to brisk demand for new airplanes, such as the Boeing 787 Dreamliner and its variants, coming out of the last recession. Aircraft are now being upgraded more frequently than ever before, it seems, which is helping the company and Airbus (a subsidiary of EADS), its primary European rival, to rack up new business wins. (Boeing’s backlog stood at 4,800 jets and a record $345 billion at the end of the September interim.) And we expect this trend to persist well into the future, given the intense competition, low interest rate environment, and heightened emphasis on light, fuel-efficient designs. This, in turn, should encourage Boeing to further increase its planned production rates, a move that would be good news for both earnings and cash flow.
The KC-46 Tanker Program: The success of this platform, based on the 767 jet liner, is supporting results throughout Boeing’s otherwise-sluggish Defense, Space & Security segment, along with cost cuts and gains in fast-growing emerging markets. Notably, in 2011, the KC-46 won a key competition and was selected by the U.S. Air Force to replace aging KC-135 Stratotankers.
Financially Sound & Shareholder Friendly: Boeing, which maintains a healthy balance sheet (Financial Strength: A++), is committed to returning most of its cash from operations to shareholders in the form of either quarterly dividends or stock buybacks. Management’s preference, we believe, is for repurchases (they are set to exceed $2 billion this year alone), since they would likely afford the company a bit more financial flexibility. We still anticipate a dividend hike in 2014 (to an annual rate of $2.00 a share or more), however, and expect the shares to trade at a decent yield in the 1.5%-2% range going forward.
High R&D Spending: While Boeing is trying to keep investment spending in check, R&D expenditures remain quite high ($3.3 billion, or 4% of sales, in 2012), which is squeezing margins and penalizing the bottom line. Moreover, while the pressures may ease somewhat over the next few quarters, we envision even higher spending levels later in the decade, as the company endeavors to leverage its popular 737 and 777 platforms.
Pension Costs: Boeing’s pension load stood at a hefty $75 billion-plus at the end of last year, far more than the fair value of its plan’s assets. This is forcing the company to continuously dip into its earnings to meet its obligations to retired workers. The profit drain is bound to persist, too, notwithstanding the likelihood of better investment returns and efforts to negotiate less-taxing pension plans with its labor unions.
Execution: Execution has been spotty at times, especially with regard to the important 787 program, which has gotten off to a rough start. Things seem to be getting better, however, and Boeing remains committed to resolving any operating glitches in a timely manner.
Industry Fundamentals: After crashing during the financial crisis and recession, the airline industry has been in a powerful recovery mode over the past few years, buoyed by pent-up demand, stable fuel prices, and an improved macroeconomic backdrop. In fact, carriers, by and large, are looking to secure new planes as quickly as possible these days, rather than, as has been the historical norm, defer a bulk of their deliveries. This suggests that the company will continue to have the wind at its back for some time to come.
The 787 Dreamliner: This platform, as we’ve indicated, has been plagued by its share of delays and execution problems, and was even grounded briefly in the United States and several other countries earlier this year because of fire hazards related to its lithium-ion batteries. Yet, orders for the revolutionary long-range, fuel-efficient jet airliner -- it’s the first commercial jet to use mostly composite materials -- continue to pile up. And we expect the 787 to become far more profitable in the years to come (ramp-up costs are now quite high) and emerge as a leading driver of free cash flow. By the second half of the decade, 787 production rates should reach 14 per month, up from a rate of closer to 10 per month today.
Stepped-Up Competition: Orders are ramping for Bombardier’s new CSeries jets (Bombardier Aerospace is a Canadian manufacturer) and for the C919 family of airliners produced by the Commercial Aircraft Corporation of China (Comac). This, along with an ongoing market-share battle with Airbus, could take a toll on Boeing’s own order book over time, and compel the company to further boost R&D spending and upgrade its product lines with greater regularity.
Defense Spending: Though operating conditions are rather favorable for the core commercial business, this is not the case for Boeing’s smaller defense unit. In fact, reductions in U.S. defense spending continue to hamper results across the Defense, Space & Security division. And we don’t see this situation reversing anytime soon, especially considering the push in Washington for more budgetary cuts.
That said, we think that the company will be able to offset the top-line headwinds, at least partially, by making inroads abroad and streamlining its overhead. Boeing has already made strides beefing up its international business (overseas sales tend to be pretty high-margined), which currently accounts for about 23% of the defense segment’s total revenues and 40% of its work backlog. What’s more, the company maintains its goal of eventually shedding $2.5 billion from the cost structure.
In sum, while these shares appear to be on the expensive side, there’s a lot to like about the Boeing story, from the company’s good finances and rising free cash flow to its booming commercial business and reasonably stable defense unit. Indeed, Boeing’s strengths and opportunities look to easily outweigh its weaknesses and threats at present. Consequently, we believe that this Dow component still has a place in diversified equity portfolios.
At the time of this article’s writing, the author did not have positions in any of the companies mentioned.