Boeing remains the world’s largest aerospace company by revenue, but its lead over number two Airbus shrank further on 23 October with a third quarter financial report riddled with challenges, among them tumbling revenue, the 737 Max crisis, 777X delays, a 787 production rate cut and unresolved KC-46A quality issues.
Boeing remains the world’s largest aerospace company by revenue, but its lead over number two Airbus shrank further on 23 October with a third quarter financial report riddled with challenges, among them tumbling revenue, the 737 Max crisis, 777X delays, a 787 production rate cut and unresolved KC-46A quality issues.
Those challenges come as the company faces the added test of balancing a heightened focus on safety and quality with Wall Street’s ever-present profitability expectations.
“Boeing is facing the worst crisis in its 103-year history,” says Scott Hamilton, an aerospace consultant who founded Leeham News and Analysis. “The 2013 grounding of the 787 was peanuts compared to the Max in terms of scope, length and cost.”
The company insists stock market expectations are secondary to safety.
“Our focus on quality and safety are and always have been our highest priority,” chief financial officer Greg Smith says during Boeing’s earnings call. “We do not compromise these values for cost or schedule. Returning the Max safely to flight continues to be priority one for us.”
Boeing chief executive Dennis Muilenburg declines to say future aircraft development and certification will cost more money.
“We are taking a hard look at our safety review board processes, our certification processes. We are going to take a look at flight deck designs of the future,” he says. “All of those things will factor into our future development programmes.”
Additional spending on safety and quality initiatives are not likely significantly impact Boeing’s profitability in the near term, says Ken Herbert, managing director of equity research with Canaccord Genuity.
If more issues are found with the 737 Max or the aircraft doesn’t sell well after re-certification Boeing’s leadership might have to speed up plans to replace the aircraft, however, he says. That could mean a surge in research and development spending, which would hurt the company’s bottom line.
In the first nine months of 2019, Boeing generated $58.7 billion in revenue, down 19% year-on-year.
It’s third quarter revenue slumped 21% year-on-year to $20 billion, equating to a $1.2 billion profit, down about half.
On the bright side, Boeing’s defense business earned a $755 million third quarter profit, up from a $247 million loss one year earlier, and its services profit jumped 23% to $673 million.
But the commercial airplane division lost $40 million in the quarter, with revenue tumbling 41% to $8.2 billion thanks to the Max grounding. Boeing says it still expects regulators will certificate the Max by year-end, even though some US airlines peg return to service in February.
Costs for recertification of the 737 Max appear to have taken funds and focus away from other Boeing development efforts.
The company now says the first 777X flight has slipped from 2020 to 2021 due to issues with the aircraft’s GE Aviation GE9X turbofans.
Muilenburg says the company has not decided if it will develop a New Mid-market Airplane (NMA). Delaying the entry into service date of the 777X or NMA development could give up market share or profits to chief rival Airbus.
FIXED-PRICE DEFENCE DEALS
What’s more, new commercial aircraft development and certification expenses could come as Boeing’s defence business increasingly relies on fixed-price government contracts.
Boeing has won a number of such deals from the US Department of Defense in recent years with bids competitors allege are far below cost.
“The operational and technical complexities of these contracts create financial risk, which could trigger termination provisions, order cancellations or other financially significant exposure,” Boeing says in third quarter regulatory filings. “Changes to cost and revenue estimates could result in lower margins or material charges for reach-forward losses.”
For example, Boeing recorded $3.6 billion in reach-forward losses on the KC-46A tanker to-date, but could lose more money on the programme due to persistent deficiencies. Such issues include a degraded remote vision system – the camera-based technology that helps a crew guide a refuelling boom to receiving aircraft. Boeing declines to comment on changes in its manufacturing process that are supposed to have improved quality and safety for the KC-46A production line.
Boeing’s fixed-price contracts include significant development work on the CST-100 Starliner, KC-46A tanker, T-7A Red Hawk, VC-25B “Air Force One” Presidential Aircraft, MQ-25 Stingray, as well as its commercial and military satellites.
“It’s a definite risk. We are very early on a number of contracts. The KC-46A is clearly not out of the woods yet,” says Herbert of Canaccord Genuity. “This tends to be the most challenging time in terms of profitability.”
The company says it can maintain low engineering, manufacturing and development costs through model-based engineering, but the results of that new digital design process remain unproven.
Boeing is hoping to make up for early losses on several programmes through international sales and MRO contracts. However, those profits may not come for years.
LOOKING AHEAD
Where Boeing might end 2019 remains uncertain – it has suspended financial guidance – but analysts at Jefferies project 2019 revenue of $84 billion. That would be down about 20% from Boeing’s $101 billion 2018 revenue.
Boeing’s next largest competitor Airbus generated revenue of $34 billion in the first six months of 2019. Airbus announces its third quarter results on 30 October.
Michel Merluzeau of consultancy AIR describes Boeing’s state as “fundamentally controlled panic”, calling the Max “core” to Boeing’s cash flow.
The grounding came as Boeing prepared to modernise production, balloon aftermarket sales and possibly launch the NMA.
“A lot was financially dependent on the Max,” Merluzeau says. “The Max is the financial enabler of what’s next.”
RECOVERY PROCESS
Analysts still see a path forward.
“This is a crisis, although at this point it hasn’t reached the stage of bringing down the company,” says Hamilton.
“I think this becomes a full-blown crisis if [Max] recertification doesn’t happen in the first quarter,” says Teal Group aerospace analyst Richard Aboulafia.
The Max certification process remains mired in uncertainty. Just last week lawmakers released documents that raised questions about whether Boeing had long known about troubles with its Maneuvering Characteristics Augmentation System (MCAS) – the system that contributed to two Max crashes.
Boeing insists those messages were misinterpreted, saying they relate to programming issues with a simulator, not MCAS troubles.
Some analysts think the messages will not further delay certification, while others speculate Federal Aviation Administration (FAA) officials, cognisant their reputation is on the line, may want more time to review the aircraft.
“In theory, this unpleasant development should be distinct from the issue of Max recertification,” says Aboulafia. “Unfortunately, it’s very easy to see [the] FAA and international regulators taking a closer look at everything.”
This week Boeing announced Commercial Airplanes chief executive Kevin McAllister had left the company, replaced by former Boeing Global Services head Stan Deal.
Hamilton suspects Deal will “certainly” shuffle more positions within the commercial unit and suspects more staff changes at Boeing’s headquarters in Chicago.
Some observers think chief executive Muilenburg will be shown the door next, though Boeing has not commented.
Though Muilenburg “inherited a lot of the Max mess”, some of the issues occurred on his watch, Hamilton says. “The buck stops with the CEO, and part of restoring the brand of the company and the airplane must come from a fresh face.”
ONE STEP AT A TIME
Max certification is, of course, the first of many steps back to normalcy. Pilots and mechanics will have to be retrained on the Max, and months will likely pass before Boeing will deliver stored aircraft.
To renew public trust, Boeing might solicit help from pilots and flight attendants, who could answer questions at media events, Hamilton suggests. “Independent testimonials are critical.”
Boeing must convince the industry it remains ambitious, willing to tackle new projects,” Hamilton says.
Merluzeau thinks Boeing’s Max issues partly reflect its struggle to keep pace with Airbus’s technological innovations, but he suggests Boeing could emerge stronger.
In September, the company created a new safety unit and overhauled its reporting structure so that engineers report to a chief engineer, not business unit leaders.
“This has been a terrible, tragic journey. I think, perhaps, it has also been a journey of realisation toward a more-assertive product strategy for Boeing,” he says.
Boeing may now view production modernisation as immediately critical and shakeup its product plans, Merluzeau says.
He thinks Boeing will still develop the NMA and might advance its 737 replacement timeline.
“By 2030… there is some sense that a future small aircraft is going to have to be there,” he says.
Aboulafia notes Boeing must address its relatively weak widebody order book, which stands at about 330 777X and 540 787s, according to Cirium fleets data.
By Jonathan Hemmerdinger, Pilar Wolfsteller and Garrett Reim
