MIAMI — Boeing reported a $1.76 billion net profit for the second quarter (Q2) of 2017, reversing from a net loss of $234 million in the same period in 2016. Revenue for the company actually dipped 8.1% year-over-year (YOY) in Q2 to $22.74 billion, but a 17.6% YOY drop in operating expenses to $18.4 billion more than made up for the decline.
Every Boeing operating unit was operationally profitable, with Commercial Airplanes (by far the largest) generating a $1.57 billion net profit on revenues of $15.7 billion. This was enabled by the delivery of 183 aircraft in the quarter, including 123 737 family jets and the first re-engined 737 MAX.
Boeing won an identical 183 net orders for its jets during the quarter, achieving a book to bill ratio of exactly 1:1. Given future planned production rate increases, Boeing would love to have a book-to-bill closer to 1.5:1, but given the anemic sales environment of the past year and a half, on the sales side Q2 was very strong.
The highlight, of course, was soundly thrashing Airbus in the sales competition at the 2017 Paris Air Show and successfully launching the 737 MAX 10 to close Boeing’s gap in the so-called middle of the market (MoM). But the quarter had other highlights.
Good News On The 787
One major takeaway from the earnings release and subsequent conference was Boeing executives confirming that the company plans to accelerate 787 production to 14 aircraft per month from the current 12/month.
The 787 rate change is particularly good news for Boeing since the market had already priced in the assumption of 12 planes/month to the company’s shares. Demand for the 787 had tapered off in 2015 and 2016 with 71 and 58 respectively.
2017 has seen a resurgence in demand with orders from carriers like WestJet and Singapore Airlines and lessors pushing the type to 75 net orders by the year’s halfway point.
The 787 never really lost its appeal in 2015-2016 either in an absolute sense or relative to the A330neo as some of the Dreamliner’s harshest critics charged. Instead, the type saw orders plateau due to the combination of broader wide body demand weakness and an acute lack of availability until the early 2020s.
Even for airlines with longer buying cycles, placing orders 6-7 years out is a bit excessive. The new era of harsh financial scrutiny for airlines (particularly around capital expenditures and cash flow), certainly dampened order volume from developed world carriers (American and United can easily each use another. 20-25 787s in their fleet).
But in 2017, the availability timeline has narrowed a bit, and as a result, while airline sales are still slower than earlier peaks, sales to lessors have picked up pretty dramatically.
However, the sales success doesn’t necessarily mean that Boeing is in the clear when it comes to solving its deferred production cost problem on the 787 program. Boeing is currently drawing down the 787’s close to $30 billion in deferred production costs at a rate of about $15-18 million per airplane, which is about $20 million lower the rate they need to be at.
If this improvement came purely from the improvement in cost structure at the company level and movement down the so-called learning curve (i.e. Boeing getting more efficient at production), then this would be pretty good news.
But there is reason to believe that much of the boost came from the shift in deliveries to include more Boeing 787-9s, which were not sold at as much of a discount as many of the earliest 787-8s.
This “switch” in delivery mix is mostly finished (Boeing might be able to squeeze another $3-4 million as it shifts to a mix of later 787-8 orders and 787-9s), which means that Boeing will need to begin generating another $10-15 million from some combination of better pricing and reduced costs.
To be fair, most of Boeing’s 787 orders from 2011 onwards were booked at higher prices, and there is another upshift to the 787-10 coming down the pike. Even so, we believe that only about half of the overall gap can be solved for by 787 via pricing and variant mix – the rest needs to come from cost reduction.
Boeing Tightens The Belt
The good news is that Boeing’s numerous cost cutting measure, such as voluntary layoffs, have begun to pay dividends. Boeing dropped nearly 8% of its commercial airplanes workforce through 2016 and 2017, and the company’s gross margin surged to 18.4% in Q2 2017 as compared to just 8.7% for the same period in 2016.
Cost cutting and layoffs are difficult to stomach, but the close to 650 layoffs announced this year easily save the company well over $100 million per year. That is real money even for a company the size of Boeing (~$80 billion in revenue), especially when you isolate to the Commerical Airplanes unit.
The hard reality is that Boeing has to lower its cost structure to compete with Airbus, which has enjoyed an exogenous decline in its cost structure due to the weakness of the Euro. For Boeing to remain competitive in a global marketplace, it must price its aircraft more aggressively since Airbus can afford to discount more and maintain margins.
Layoffs are a bitter pill to swallow, but they are necessary for the company to maintain its financial position (i.e. generate acceptable profits). At least in this quarter, that move appears to have paid off.