For long-term Boeing (BA) shareholders, it seems that the bad news never ends. Short and long-term delivery delays, high inflation, and a weak Chinese market are just some of the issues Boeing faces.
Ryanair’s (RYAAY) CEO recently criticized Boeing management when speaking to investors as Ryanair’s fleet orders were delayed. Furthermore, this week, Chinese airline China Southern (ZNH) canceled fleet orders for the 737 Max.
Last year, China Southern had 181 expected deliveries through 2024. Today, China Southern has only 78 planned deliveries through 2024. This development will lower analysts’ revenue forecasts for Boeing’s Commercial Airline segment.
Chinese airlines are still in no rush to increase their fleet size as many Chinese cities could re-enter lockdown after the summer if the CCP maintains its current COVID-19 policy.
Although some cities in China are planning to lift lockdowns in the coming months, a single COVID-19 infection could put an entire region back into lockdown, irrelevant of the vaccination rate. Therefore, it’s not unrealistic to argue that Boeing’s Chinese customers could further decrease their orders in 2022.
In the most recent earnings call, management informed investors that they would start 777x deliveries in 2025 rather than 2023. These delays have sparked discussions over replacing Boeing management within the investment community as the stock hits a 50% yearly drawdown.
During Berkshire Hathaway’s AGM in 2015, Warren Buffett was asked how to invest during inflationary periods. He said the best businesses to own are ones that do not require significant reinvestment to grow.
While Boeing does have reoccurring business from airlines across the globe (and some defense revenue), it’s expected that CapEx and R&D will grow over the coming years.
However, I’m of the opinion that inflation pressures are already priced into the valuation based on current five-year breakeven inflation expectations (3%).
Nonetheless, if inflation persists, Boeing will likely see noticeable margin compression. Analysts expect a 10.7% operating margin in Fiscal Year 2023. However, this will not be the base case if inflation remains flat or sticky, which will force the Fed to be more aggressive for longer.
Valuation
Boeing stock capitulated this year, with both insiders and investors suffering alike. Despite the constant bearish news and media noise, Boeing has reached a point of interest, looking at forward multiples. Even if Boeings earnings are revised down slightly from current guidance, its valuation is low enough to consider a position.
Analysts are guiding double-digit revenue growth over the next five years as the airline industry continues to recover. Free cash flow is expected to reach $9.3 billion and $12.5 billion in Fiscal 2023 and 2024, respectively. If these figures materialize, below illustrates the potential forward multiples based on today’s valuation:
- 7.7x Price/FCF (free cash flow yield = 14.1%) – FY23
- 5.7x Price/FCF (free cash flow yield = 17.5%) – FY24
Even if operating margins suffer and Boeing sees further cancellations from Chinese customers, I still don’t expect a sub 10x P/FCF multiple in the coming years. Historically, Boeing rarely trades at sub 10x P/FCF. Therefore, I believe Boeing has been de-risked based on its current valuation vs. current guidance.
While Boeing does carry net debt of $45 billion, most of its long-term debt maturity profile is spread over several decades. Boeing’s debt has increased from $13.7 billion at the start of 2019 to $57.5 billion in Q1 2022. This increase will have a material impact on net income as interest payments are made.
This is likely another reason investors are avoiding Boeing, as the increased debt level gives management very little flexibility and hinders the company’s short-term earnings potential.
Wall Street’s Take
Of the 19 analysts covering Boeing, there are 15 Buys, four Holds, and zero Sell ratings, giving it a Strong Buy consensus rating. The average Boeing price target of $221.88, which implies 84.2% upside potential from current levels.
Conclusion
The IATA expects global passenger air travel to stage a full recovery by 2024 (104% of pre-COVID levels). Boeing is facing manufacturing issues, inflation pressure, and FAA compliance hiccups. Nonetheless, investors shouldn’t forget that as of Q1, Boeing had a group backlog of $370 billion. Therefore, Boeing does appear to be a candidate for a long-term turnaround play.
While there are no short-term catalysts, if Boeing reaches the low $100s, it could represent an attractive buying opportunity as long as forward guidance doesn’t get revisited too aggressively in the coming quarters.
The gap between Boeing’s average target price vs. the share price has only been this large on three occasions in the past five years. These include Q1 2018, Q3 2019, and the 2020 COVID-19 sell-off.
I believe the stock price has fallen faster than the anticipated lower median target price, making Boeing a prime stock to add to the watchlist.
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