Boeing – Flying Too High (NYSE:BA)

Shares of Boeing (NYSE:BA) have lifted off as of recent after a year of continued struggles. This is enough of a reason to update a thesis which dates back to December 2021, when I concluded that Boeing was not a high-flier. A significant increase in net debt and only break-even results made me cautious in the low $200s at the time, incidentally the same levels at which shares trade today.

A Recap

Understanding where Boeing is coming from, I go back to the years 2013-2016, when the company posted a resilient operating performance and shares traded at relative low valuations in a $100-$150 range. What followed was a period in which the focus went to shareholder value, that is less development, and more money to investors. This “focus” made that shares hit a high of $400 in 2019 as shares still traded above the $300 mark at the outset of the pandemic.

Shares fell below the $100 mark at the outset of the pandemic, as the nature of the pandemic hit the business hard, while the company has taken on some debt, while Boeing faced the 737 MAX challenges as well.

2020 sales ended up falling a quarter to $58 billion on which Boeing posted a net loss of $12 billion, with adjusted losses actually coming in a bit higher at $14 billion, as these losses were huge. This is certainly the case as the net debt load rose to $38 billion following poor cash flow conversion and an increase in debt ahead of the pandemic already.

The outlook for near term improvements were grim with first quarter sales in 2021 down to $15 billion and change, as adjusted losses narrowed to $353 million. Second quarter sales came in at $17 billion, as a small adjusted profit was reported, yet net debt surpassed the $40 billion mark. Momentum was short lived with third quarter sales of $15.3 billion falling on a sequential basis as core profits came in essentially flat.

With 587 million share traded just over $200, the $120 billion equity valuation was part of the story as net debt stood at $42 billion. So while shares were cut in half from the 2019 peak, the decline in the enterprise value has been much less pronounced, due to a rather big increase in the net debt load. Still battling with high leverage, not reporting any realistic earnings, and continued uncertainty made it difficult to become upbeat.

2022 – Turbulent As Well

A cautious approach at $200 seemed well advised, as shares fell to just $110 in June of last year and traded at $120 as recent as September, before flying higher to $210 at the moment of writing. Despite the huge (recent) returns, investors have not seen any capital gains over the past fourteen months, certainly not as the company no longer pays out dividends of course.

The situation remained dire as fourth quarter sales for 2021 ended up falling 3% to $14.8 billion, while full year revenues rose 7% to $62 billion and change. GAAP loses for the year still came in at $4 billion and change following weak core earnings in the final quarter, with net debt stable at $42 billion.

Despite the pandemic being on its retreat, Boeing started 2022 on a soft note with first quarter sales down another 8% to $14.0 billion with core losses posted at $1.5 billion, as airline capital spending trails actual bookings of course. Second quarter sales, typically a stronger period, came in at $16.7 billion, accompanied by a core profit of half a billion. Third quarter sales stabilized at $15.9 billion, now however accompanied by a huge $3 billion core losses related to fixed-price defense contracts, hurting badly in a time of inflation.

In that sense, it were really the fourth quarter results, which showed a first glimpse of recovery. Fourth quarter sales rose 35% to $20.0 billion, driving a 7% increase in full year sales to $66 billion and change, albeit still accompanied by a $650 million fourth quarter operating loss. Following some better cash flow conversion, the company manged to keep net debt flat at $40 billion, aided by no dividends and modest dilution again (with net 7 million shares being issued on an annual basis).

What Now?

2022 has been a tough year as the fourth quarter revenue results revealed some reasons to become upbeat, following clear momentum, albeit that this is not already seen yet in profits.

On the positive side, the company guided for 2023 operating cash flows at a midpoint of $5.5 billion and $4 billion in free cash flows, both plus or minus a billion. The $5.5 billion operating cash flow number actually exceeds the 2022 performance by $2 billion, albeit that the improvement in free cash flow is anticipated to be less pronounced.

With a current $120 billion equity valuation and $10 billion enterprise valuation, these valuations remain demanding given the lack of earnings in 2022, the high cash flow multiples, as 2023 will likely become a bit better, but is not expected to show a huge recovery. That said, there are more signs to become upbeat on the business, as the full year backlog has risen to $404 billion, a $27 billion increase from the year before, indicating that the order intake exceeds sales results by a meaningful amount, evident in fairly aggressive hiring plans for this year as well. That said, in an inflationary environment, the increase is less impressive.

To put the current performance into perspective, we have to go back to 2018, a peak year for Boeing. The company generated $101 billion in revenues that year, posting earnings of more than $10 billion, or about $17 per share.

Obviously, the company is a long way from achieving these results. Even if the sales and earnings numbers can be replicated, this does not result in the same earnings per share number. While the share count is largely flattish compared to that period of time, the company has taken on some additional debt, which now involves a $2.5 billion interest costs per annum, a bit higher than interest expenses incurred in 2018, a period in which leverage was much lower.

Adjusted for this increase in leverage, earnings per share potential would still come in around $15 per share, if the company can replicate this, which is of course very far from reality. That means that if the company can replicate its performance, Boeing trades at 14 times earnings, but the reality is that Boeing is still very far away from posting earnings at this rate.

On the positive side, some sequential improvements are seen this year amidst increasing backlog, pricing, as 2022 has been quite slow (notably with regard to progress on the margin front).

Hence, I remain cautious, being mindful of the huge rally seen already in recent months, as I see no reasons to get involved with Boeing here.