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Boeing’s first-quarter report was highlighted by stable top-line growth, impressive bottom-line expansion, and increased full-year guidance. The long-term health of its business is supported by its massive backlog of unfulfilled deliveries.
By Kris Rosemann
Former simulated Dividend Growth Newsletter idea Boeing (BA) turned in a solid first quarter report April 25, and the drivers of its long-term strength remain fully intact as it continues to generate impressive levels of free cash flow and pursue a deal with Embraer’s (ERJ) commercial aviation operations.
Revenue in the first quarter grew 6% on a year-over-year basis thanks to higher commercial deliveries, defense contract volume and services growth. The company’s GAAP operating margin in the period expanded more than 2 percentage points from the year-ago quarter, largely due to strong operating performance on production programs in its ‘Commercial Airplanes’ segment, and operating income leapt 30% in the quarter.
Boeing’s GAAP earnings per share advanced an impressive 63% during the first quarter of 2018 from the comparable period of 2017 thanks to the increased margins and lower tax bill, and this helped free cash flow jump 68% to $2.7 billion. The aerospace giant continues to showcase impressive coverage of its dividends paid (~$1 billion in the first quarter) with free cash flow, and its balance sheet remains reasonably healthy with a good amount of liquidity. Its total debt position, including Boeing Capital, of nearly $12.5 billion still rests above its cash balance of ~$9.9 billion, but we’re not reading too much into its net debt position. Given the availability of financing around the globe, Boeing Capital is a much smaller and much less significant part of its business than it was years ago.
Driving Boeing’s long-term potential is its tremendous backlog that stood at $486 billion as of the end of the first quarter of 2018, up from $475 billion at the end of 2017. Management expects 30% of this backlog to be converted to revenue through 2019 with ~71% to be converted through 2022, so it has tremendous visibility. The Dreamliner-maker estimates that the world will need 41,000+ new planes over the next couple decades, from 2017-2036, as the middle-class population grows around the world and air travel for business and leisure continues to proliferate.
Boeing continues to pursue an acquisition of a portion of Embraer, with the most recent reports suggesting that complications in separating Embraer’s business segments are causing a delay in the proceedings. An outright acquisition is largely out of the picture as the Brazilian government has sovereign control over Embraer’s military programs and holds a strategic veto, but the two companies have made it known that they are in talks to create a new company focused on commercial aviation, of which Boeing is likely to have a significant majority stake. A closer relationship between Boeing-Embraer will help both better navigate the skies against Airbus’ (EADSY) recent decision to take a majority stake in Bombardier’s (BDRBF, BDRAF) C-series regional aircraft.
While larger deal talks with Embraer are ongoing, Boeing recently agreed to scoop up aerospace parts maker KLX (KLXI) for an enterprise value of $4.25 billion as it works to build a $50 billion services division within the next decade, but the deal’s success depends on the separation of KLX’s Energy Services Group business. Boeing’s CEO Dennis Muilenburg calls the highly-profitable global services operations the company’s “biggest market-growth opportunity.” The provision of maintenance, parts, and other services over the decades-long lives of jetliners and military aircraft has the potential to mitigate the inherent sales cyclicality of its jet-sales business, providing an even more secular bent to growth on top of the visibility its robust backlog already provides. Boeing was reportedly in talks with partsmaker Woodward (WWD), too, but a response from the company has dismissed this.
As Boeing continues to optimize its product portfolio and increase purchasing power via consolidation, the company is also working its way through messy geopolitical uncertainty and potential trade policy issues as new US sanctions on Iran were considered to be detrimental to its business. Management is not fazed by the developments, however, and has stated that steps have been taken to mitigate the loss of $20 billion in jet sales to Iran. It is noteworthy that key rival Airbus is facing the same sanctions, and though $20 billion sounds like a lot, the global market for new jets is estimated north of $6 trillion.
We recently raised our fair value estimate for Boeing by nearly 10% as a result of its ongoing backlog growth (which provides tremendous top-line visibility for a company of its size) and expectations for margin expansion, an enhanced services business, and robust free cash flow growth. Shares still look a bit pricey, but the midpoint of our fair value range currently values them at ~$300 each. The company’s strong Dividend Cushion ratio of 2.2 goes along with a dividend yield of ~2% as of this writing.
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Kris Rosemann does not own shares in any of the securities mentioned above. Some of the companies written about in this article may be included in Valuentum’s simulated newsletter portfolios. Contact Valuentum for more information about its editorial policies.