Breakingviews - Boeing 737 MAX cuts will speed margins descent

An aerial photo shows Boeing 737 MAX aircraft at Boeing facilities at the Grant County International Airport in Moses Lake, Washington, September 16, 2019. REUTERS/Lindsey Wasson

NEW YORK (Reuters Breakingviews) - Boeing is halting production of its troubled 737 MAX jet. The board’s decision on Monday comes nine months after the plane was grounded following two crashes that killed 346 people. Even if it lasts just a couple of months, the move adds another brake to the bottom line.

Despite the financial toll of the crisis, Boeing’s market valuation has only fallen 25% to some $185 billion. That means the stock is almost triple where it was when Chief Executive Dennis Muilenburg announced in 2016 that he was aiming to double Boeing’s operating margins to around 15%. The company nearly hit that level in the final quarter of 2018. Automation, supply-chain efficiencies, better forecasting, and standardization have all played a part.

Limited competition with Airbus helps explain the staying power of the stock. Before Monday’s news, analysts had assumed that a return to full production next year would boost Boeing’s revenue to about $123 billion, more than 50% up on 2019, according to data compiled by Refinitiv.

But the Federal Aviation Administration, stung by evidence it deferred too easily and often to Boeing’s judgments, is trying to redeem itself. That has resulted in a delayed return to flight – and continued production costs and ballooning inventory.

Further regulatory scrutiny may result in more delays or force Muilenburg to add layers of safety and quality-control staff. Customers may delay or cut orders.

The shutdown adds more pain. Boeing admitted in October that ceasing production could significantly increase expected costs based on the way the firm accounts for aircraft development, and reduce future margins. The one bright spot is that the company’s associated cash burn may now halve from $4.4 billion a quarter, estimates Jefferies. It’s not efficient to leave equipment idle or shut down and restart a complex supply chain.

Say Boeing’s operating margins stabilize at 10% rather than 15%. That would be consistent with a market value a third lower than investors expected. The company’s valuation peaked at about $250 billion shortly before the 737 MAX was grounded. That means there’s likely further to fall, even if the shutdown is short.

This is a Breakingviews prediction for 2020. To see more of our predictions, click here.


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