This has not been an easy year for Boeing (BA 1.24%) or aerospace composite technology company Hexcel (HXL 1.05%). Both companies have heavy exposure to commercial aviation, and the devastation wrought on that industry by the COVID-19 pandemic has significantly scaled back the outlook for aircraft deliveries over the short and long terms. Nevertheless, there's still an investment case for each of their stocks.
Two key factors to explore
There's no way of getting around the fact that both companies' prospects will be heavily influenced by the demand situation for commercial aircraft in the coming years. That's what they have in common, but there are two key aspects to consider:
- Hexcel has more exposure to commercial airplane deliveries than Boeing and should be seen as a higher-risk investment in the current environment.
- Both companies' medium-term growth drivers are coming under challenges, but Hexcel's look more at risk.
Boeing and Hexcel need aircraft demand to improve. Image source: Getty Images.
Commercial aerospace
Hexcel traditionally generates around 70% of its revenue from commercial aerospace, with Boeing and Airbus responsible for 87% of it in 2019. Moreover, since there's very little aftermarket demand for the company's carbon fiber and composite technology in airplanes, it's fair to say that Hexcel really is a play on new commercial aircraft deliveries.
In addition, Hexcel is also a play on the growth of newer generation aircraft and also wide-body deliveries. For example, the value to the company of an Airbus A320 shipset -- i.e., all the products it provides that go into the manufacture of a single jet -- is $300,000, compared to a value of $450,000 for the newer A320neo. It's a similar story with the shipset values of the Boeing 737 ($300,000) versus the 737 MAX ($400,000). Meanwhile, wide-body aircraft like the Boeing 787 and the Airbus A350 have shipset values of $1.4 million and $4.8 million, respectively.
Having such exposure is obviously problematic in today's market for three reasons:
- Airlines are likely to delay replacing their fleets, while Boeing and Airbus are likely to delay or cancel the development of new planes. For example, Boeing put its new midsized airplane (NMA) project on hold this year.
- Low oil prices are reducing fuel costs, so airlines will likely be less driven to replace their current planes with newer, more fuel-efficient aircraft.
- Demand for wide-body aircraft is expected to rebound more slowly than for narrow-body jets as a recovery in international travel is likely to lag behind the recoveries in domestic markets.
In fact, some of these issues are already apparent in Hexcel's earnings. For example, for the third quarter, it reported a whopping 67% decrease in commercial-aerospace-based sales. "Build-rate reductions driven by the COVID-19 pandemic combined with significant supply chain inventory destocking led to the reduced sales levels," management said.
It gets worse. Hexcel's industrial-based sales (largely composites for wind power turbines) normally generate around 13% of its revenue. Sales into that market were down 36% in the third quarter. Wind turbine manufacturers are increasingly outsourcing blade manufacturing to third parties. In response, Hexcel announced its intent to close a production plant in Colorado in November.
All told, Hexcel is heavily dependent on the construction and sale of new aircraft, and that's a business fraught with uncertainty right now.
Boeing's end-market prospects
Obviously, Boeing's prospects are also firmly linked to commercial aircraft demand. Furthermore, in common with Hexcel, the company had high hopes for a cycle of wide-body jet replacement that was on track to begin in 2020 -- hopes now dashed by the pandemic. As such, it's no surprise to see that prices of the two stocks have been highly correlated ever since it became clear to Wall Street that COVID-19 was becoming a global crisis. For reference, a correlation of 1 means their movements track each other perfectly.
Data by YCharts
However, the difference is that Boeing also a significant services business that will support it even when demand for new aircraft is sluggish. For reference, Hexcel also sells into the defense and space market, and its share of sales is similar to that of Boeing's.
Boeing's recent commercial market outlook (including the forecast services demand) seems optimistic, so some caution is advised before penciling in earnings estimates based on it, but that doesn't mean the company can't still grow earnings.
|
Boeing Operating Earnings |
2019 |
2018 |
2017 |
|---|---|---|---|
|
Commercial Airplanes |
($6.657 billion) |
$7.830 billion |
$5.285 billion |
|
Defense, Space & Security |
$2.608 billion |
$1.657 billion |
$2.383 billion |
|
Global Services |
$2.697 billion |
$2.536 billion |
$2.251 billion |
|
Boeing Capital |
$28 million |
$79 million |
$114 million |
|
Total |
($1.324 billion) |
$12.102 billion |
$10.033 billion |
Data source: Boeing presentations.
Boeing or Hexcel?
All told, if you are looking for a way to play a recovery in aircraft deliveries, Boeing is probably a better all-around investment. Hexcel is exposed to more risk, has a structurally challenged industrial business, and there is uncertainty around its medium-term growth drivers.
Boeing also contains risk, but whichever way the market recovers, Boeing will benefit. Meanwhile, over the medium to long term, Hexcel will need to see a market recovery, an improvement in wide-body sales, and the ongoing development of new aircraft models.
