1 Key Takeaway from Boeing's Earnings

The Boeing Company (NYSE: BA  ) put in a good third quarter, with Wednesday's earnings report showing the company had beaten expectations on earnings and revenue, and management raising guidance for the full year. However, earnings were still down compared to 2011 and, despite a solid quarter, the company has daunting challenges ahead of it.

Boeing grew revenue from $17.7 billion in the third quarter of 2011 to $20 billion this year, though lower margins in the commercial aircraft segment, as well as significantly higher pension expenses, saw profit decline somewhat, from $1.1 billion in 2011, to $1 billion in 2012. Boeing is now guiding for $80.5 to $82 billion in earnings for the full year, with per share earnings of $4.80 to $4.95, a marked increase from previous projections.

Wednesday's earnings also provided some good information on the company's progress in handling three key areas that we examined in the Motley Fool's premium research report on Boeing: pivoting earnings away from defense and toward commercial planes, holding development costs down, and ramping up production capacity to meet demand.

Today, let's focus on Boeing's progress in decreasing its dependance on the U.S. defense budget. As one of the nation's largest military contractors, Boeing is vulnerable to cuts in defense spending, which could take effect as soon as January, when the "fiscal cliff" is set to take effect. This package of steep spending cuts would deal a sharp blow to Boeing's revenue. Even if the "fiscal cliff" is averted, Washington's focus on reducing the deficit indicates that the military will be a smaller customer in the future, so Boeing is looking to make more revenue from its commercial jet business.

Swords into plowshares: Boeing's move toward commercial sales
Boeing is showing good progress in generating a higher proportion of revenue from commercial sales, as military contracts look vulnerable in the face of falling defense budgets in the West. While Boeing was able to grow military and space sales in international markets, this performance was not enough to prevent a 4% decline in total Defense, Space, and Security revenue. However, a strong performance in the Commercial segment more than offset this loss, leaving Boeing even less exposed to future defense cuts, with about 60% of revenue now coming from the commercial segment:

Boeing Revenue Breakdown by Business Segment (Dollars in Millions)

 

3Q, 2012

3Q, 2011

YTD, 2012

YTD, 2011

Commercial

60% ($12,186)

53% ($9,515)

58% ($34,966)

52% ($25,476)

Defense, Space, and Security

39%
($7,839)

46% ($8,200)

41% ($24,264)

48% ($23,505)

Boeing Capital and other adjustments account for remainders.

On the other hand, while Boeing did a good job in shifting revenue toward commercial sales, earnings remained more firmly dependent on the defense segment, due to higher operating margins. Boeing's defense operations achieved a 10.5% operating margin, up from 10% last year, while commercial operations saw a sharp margin decline, from 11.4% to 9.5%. This trend of lower margins will continue in the near future, as Boeing steps up delivery of its newest jet models, the 787 Dreamliner, and the latest 747 model, the 747-8. Even though these are Boeing's highest-value jets, paradoxically, the more of them Boeing delivers, the lower earnings will appear to be, at least initially.

Due to Boeing's use of program accounting, which is a method to spread out development costs among a block of jet orders, as Boeing delivers new planes, it must recognize more and more of the full costs of the development program. Between the spectacular sums spent on the modern programs, and the contract fees and expenses Boeing incurred by delivering the 787 three years late, the early stage of 787 and 747 sales will not contribute to earnings at all, instead going toward defraying program costs. Depending on how one tallies the costs of the program, and how successful Boeing becomes at bringing production costs down, the 787 program could break even and begin to contribute to earnings as soon as some time this decade, or as late as never.

These high development costs have become an increasingly important issue for Boeing, and the company has a plan in mind to hold them down. Tomorrow, we'll take a look at what Boeing has in mind for saving money on new planes.

Of course, those who have downloaded the Motley Fool's premium research report on Boeing can read a complete analysis of Boeing's earnings all in one place, because the report comes with a full year of analyst updates. These updates are in addition to a thorough and exclusive breakdown of the opportunities and risks that Boeing faces. To find out what you need to know about Boeing, and whether the company is a buy, just click here to download your copy.


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