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Boeing Could Have a $16 Billion Problem

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When companies have good news to report, they're happy to spam inboxes with press releases galore. But when something goes wrong ... suddenly it seems everyone's playing possum. That's the case with Boeing (NYSE: BA  ) this week.

Last month, I wrote a bit on the subject of Boeing, Air India, and the latter's decision to demand $1 billion in compensation from the former for delayed delivery of a fleet of 787 Dreamliner passenger jets. This month, the BBC reported that India's Civil Aviation Ministry had reached an agreement with Boeing to settle Air India's claim for $500 million.

Boeing immediately denied the report. As commercial airplanes head Jim Albaugh put it, "I can tell you we're not writing anybody a check for $500m ..." But a Fool can wonder: Does this statement mean what it seems to, or is this actually just a nondenial denial, in disguise?

I mean, Albaugh asserts that he's not "writing a check." Well and good. We'll take him at his word. But could it be that Boeing has reached some other understanding with Air India? After all, as I mentioned earlier this month, analysts have already speculated that given its druthers, Boeing would prefer to husband its cash and compensate its injured counterparties with sweetheart deals on new orders and more flexibility in taking future planes. It could well be that Boeing's settlement with Air India -- if there was a settlement -- came in this form, rather than in the form of an actual "check."

I asked Boeing to address this theory a couple of days ago, and have yet to receive any response.

Playing possum
Maybe it's my suspicious nature, but I rather expect I won't be getting a response at all, and the reason is because the theory could be correct. Boeing must compensate its counterparties for the injury it's caused them. (It's kind of set a precedent for this already, you know, seeing as it "reached an agreement" to compensate Spirit AeroSystems last year for disruptions caused on the supply end due to its delays in 787 production.) And given Boeing's reluctance to weaken its balance sheet any further with cash outlays, chances are Boeing really would rather delay the pain, offer discounts on price to its customers, and accept lower profit margins on its planes instead.

Of course, whether Boeing "writes a check" and takes the financial hit immediately, or spreads the pain out over years of selling planes at minimal-to-no profit, it's all the same to investors. Either way, Boeing won't be as profitable an operation as its historical numbers suggest it should be. And as new customers, and suppliers, line up to try and squeeze blood from Boeing's turnip-like cash flow statement, the damage is only going to get worse. Already, United Continental (NYSE: UAL  ) has sued the plane maker over delayed Dreamliners. Air Lease, CIT Leasing, and AIG (NYSE: AIG  ) subsidiary International Lease Finance -- one of Boeing's biggest 787 customers -- might not be far behind.

But Delta (NYSE: DAL  ) probably won't be a problem. Strapped for cash itself, Delta agreed in late 2010 to push back delivery of its 18 Dreamliners all the way to 2020. Presumably, it did this in lieu of seeking damages for Boeing's own delays.

Still, with 852 Dreamliners promised to its non-Delta customers, every one of which is overdue, if we assume that Boeing pays the same amount to each customer per late plane, we get:

(AI's reported $500 million settlement on its planes / 27 planes owed to Air India) x 852 planes = $15.8 billion in total damages owed by Boeing to its customers.

Plus whatever it's going to wind up owing suppliers such as Spirit. Let's not forget that.

What does this mean to you?
In a way, you could argue that this is good news for Boeing. I mean, as recently as last February, we were still talking about the possibility that Boeing's penalty payments could climb into the tens of billions of dollars. Viewed in that context, my new best guess at $15.8 billion in potential penalties removes a lot of risk from an investment in Boeing.

But even so, $15.8 billion is about four years' worth of the profits Boeing earned in 2011. That's a sizable chunk of change (and a big reason why I've placed a negative CAPScall on Boeing stock in CAPS). Even if Boeing succeeds in avoiding the need to write any big "checks" to its customers right away, and even if it spreads out the pain over decades of plane deliveries at cut-rate prices, this portends depressed profit margins as far out as the eye can see.

Caveat investor.

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Motley Fool newsletter services have recommended buying shares of Spirit AeroSystems Holdings, but Fool contributor Rich Smith does not own (or short) shares of any company named above. The Motley Fool has a disclosure policy.

We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors.

Read/Post Comments (7) | Recommend This Article (4)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On March 16, 2012, at 5:07 PM, TMFGemHunter wrote:

    I have to say I don't buy the $500 million figure at all. Air India claimed damages on the 787 to plug its own enormous financial losses. I think compensation will average at most $5-$10 million per aircraft. The fact of the matter is that it will be hard for airlines to prove substantial damages. There could still be a $5 billion price tag, but that's manageable, especially when you consider that Boeing has sunk $15 or $20 billion on the program already and the revenue is just beginning to roll in.

    I think the cash flow benefits of ramping up 787 production will probably outweigh any cost of compensation.

  • Report this Comment On March 16, 2012, at 5:39 PM, TMFDitty wrote:

    Mebbe. But didn't Albaugh say it would be 1,000 planes or so before Boeing got into the black on the program?

    I wonder if he was factoring delay-compensation costs into that estimate. Got to hope he was.


  • Report this Comment On March 16, 2012, at 6:51 PM, av1234 wrote:

    All 852 orders are not overdue. Only the early ones that are up to 3 years late. With the scheduled ramp-up in production Boeing would have only delivered less than 150 in the first 3 years. Also, there are uncommitted slots in future years for salesmen to offer to new airlines. This can be compressed to move up older orders. All-in-all, the compensation (in whatever form) should be a lot less than the $15.8B. Maybe $5B spread over 10 years. Many of the later airplanes will probably be close to their original delivery dates.

  • Report this Comment On March 16, 2012, at 7:29 PM, muddbutt wrote:

    Jim Albaugh's comment is clear in its intent - the guy in India is full of crap. Boeing is notorious for not commenting on anything related to contracts or prices. For the CEO to flat out call the Air India official a liar is quite unusual. It means to any reasonable follower of Boeing that any negotiations underway are not even close to a 500 million dollar figure.

    Keep in mind, Air India cannot pay for ANY of the 787's. They are completely out of cash and are waiting for a government bailout which is late in coming because they are not adhering to the presribed fiscal plan laid out for them.

    For example, Air India has just delayed delivery of their 3 777 orders by 2 years because they have no money. Is Boeing going to get compensated for that? :)

    In addition, the Air India 787 that recently flew to India is, I assume, ready to be delivered because the interior is in the plane and that is one of the final things that are done. Air India is not taking delivery of this plane. Why? Because they cannot, they have no money.

    Now, the early adopters of the initial 787's got the planes at very low prices, and I doubt there will be any compensation whatsoever, besides preferred slots for additional planes and maybe discounts on additional planes. The later purchasers of the 787's will have penalties for late delivery. However, they paid significantly more per plane than the early adopters.

    I think you will find that as time progresses, this boogeyman of "huge penalties" will fade because this plane is in incredible demand and that the penalties are contractual in nature, and that the early adopters have no recourse with late delivery penalties.

  • Report this Comment On March 19, 2012, at 2:03 PM, reachranj wrote:

    I agree with muddbutt. Your analysis is flawed, simplistic and ignorant. It shows your lack of understanding with respect to this industry and Boeing in particular. You fail to take into account any other factors or programs with respect to your numbers. Ignore market trends, the background of the Indian official who made the statement and his motivation behind the same. Your own statements above defy simple economics and have no consideration for the time value to money. Your analysis has been constructed to make a good headline so people will visit your site. Very disappointed in the entire piece Boeing has made many missteps through the years and there are plenty of reasons to be concerned about the company including a recent controversial article on inherent design flaws in the B737 see, but overall the company seems to be poised for a turnaround on the commercial side and may have finally out maneuvered Airbus at least as far as the wide-body market.

  • Report this Comment On March 21, 2012, at 11:15 AM, TMFDitty wrote:

    To the contrary, Boeing is not "poised" for a turnaround. It has already achieved it.

    The turnaround has been priced into the stock. The risks floating around behind the scenes have not.

    And as far as my "lack of understanding of the industry" goes ... I've got a 67% accuracy record in defense and aerospace. A public record, six years in the making. Where's yours?


  • Report this Comment On March 24, 2012, at 1:10 AM, reachranj wrote:

    Your lack of knowledge and basic understanding of economics is demonstrated in your article. It really speaks for itself.

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