Boeing Co. Earnings: Solid Start to a Year of Transition

Earlier this year, Boeing (BA 0.01%) shares crashed after the company's 2016 guidance fell far short of most investors' expectations. The aerospace giant forecast revenue declines for both its commercial airplanes segment and its defense segment and a double-digit decline in earnings per share, excluding one-time charges.

Boeing expects its revenue and earnings to decline in 2016. Image source: Boeing.

During Q1, some of these projected trends began to play out. Boeing's revenue growth slowed to a crawl due to lower commercial airplane deliveries and its operating margin contracted. However, Boeing's underlying earnings and cash flow performance remained quite strong.

Q1 by the numbers
Revenue grew 2.2% year over year at Boeing last quarter, which was a lot better than the 3.2% decline that analysts had expected. The big highlight was an increase in military aircraft deliveries, which helped drive a 19% jump in revenue for the defense and security business. This fully offset a 6.4% revenue decline at Boeing's key commercial aircraft business.

Despite the better-than-expected revenue performance, core earnings per share fell 12.7% year over year to $1.74, missing the average analyst estimate of $1.83. However, that included charges on the KC-46 military tanker development program and the 747 jumbo jet totaling about $0.33 per share after tax.

Data source: Boeing Q1 2016 earnings release.

These two programs have been thorns in Boeing's side for a while now -- the company also took charges on both programs in 2015. For the KC-46, Boeing is behind schedule and in danger of missing contract deadlines, so the charge reflects costly efforts to avoid further delays. Meanwhile, the 747 continues to suffer from weak demand in the jumbo-jet market.

Excluding the KC-46 and 747 charges, Boeing's EPS would have grown on a year-over-year basis. Free cash flow, which better reflects Boeing's underlying performance, swung from negative $483 million a year ago to $486 million last quarter.

An unusual quarter in an unusual year
Investors shouldn't expect the trends that played out last quarter to continue for very long. First, while the defense business posted strong growth, this mainly reflects the timing of deliveries, which is often lumpy. The defense business is likely to continue declining slowly due to weak military spending and dwindling orders for some of Boeing's military aircraft models.

Meanwhile, the commercial aircraft business is taking a step back this year, but it is primed for long-term growth, driven primarily by looming production increases for the 737 and 787 aircraft families. By 2020, Boeing is on track to deliver more than 900 commercial aircraft annually -- well above last year's record high of 762.

Boeing 737 production is set to surge in the next three years. Image source: Boeing.

These production increases should drive strong earnings and free cash flow growth for Boeing. The extent of the earnings and cash flow increases will depend on aircraft pricing. Boeing's goal is to increase its commercial aircraft segment margin to the "mid-teen range" from an average of about 10% recently. However, that can only happen if it keeps pricing relatively stable.

Looking ahead
Boeing has reaffirmed all of its financial guidance for 2016. This means that it still expects both revenue and earnings to decline on a year-over-year basis. But on the bright side, it implies that Boeing expects stronger underlying performance to fully offset the KC-46 and 747 program charges it booked.

2016 is a year of transition for Boeing, as it works to boost commercial aircraft production while introducing new models and simultaneously scrambles to keep the KC-46 tanker program on schedule. Yet its long-term future remains bright. As EPS rebounds and cash flow continues to grow in the years ahead, Boeing stock should get back on track.