Recently the headlines across U.S. media outlets haven't been pleasant for Boeing (NYSE:BA). Between its lithium-ion batteries smoldering and threatening to catch fire and accusations of lower quality parts from Japanese suppliers there is a lot of fuel for the fire. There's at least one positive headline for Boeing and its investors: the recent flight test of its X-51A hypersonic aircraft. Let's take a look at why this overlooked headline means much more to the company's future.
Boeing derives about 60% of its revenues from its commercial operating segment while defense brings in nearly all the rest. Boeing has a significant backlog of orders worth $392 billion, yet only $70 billion of that is from its defense segment. U.S. military spending dropped 6% in 2012 and there is an additional $87 billion to be cut this year. Meanwhile, Russia's military spending rose 16% in 2012, as did China's spending by 7.8%.
With the military spending gap narrowing between the U.S. and the rest of the world, a premium will be placed on advanced, innovative aircraft to keep America's Air Force one step ahead. The X-51A unmanned hypersonic vehicle achieved the longest scramjet-powered hypersonic flight in history on the May 1, recording three and a half minutes at a speed of Mach 5.1. This was a landmark for Boeing and the U.S. Air Force for the following reason.
As Reuters recently reported, Darryl Davis, president of Boeing Phantom Works, said, "This demonstration of a practical hypersonic scramjet engine is a historic achievement that has been years in the making ... This test proves the technology has matured to the point that it opens the door to practical applications, such as advanced defense systems and more cost-effective access to space."
The project has been a collaborative effort between the U.S. Air Force, Boeing, and other industry partners. Innovative aircraft like the X-51A will always be of high interest because it could potentially extend the military's reaction time and reach even amid spending cuts. Boeing needs to continue these partnerships and innovations to secure future revenue in its defense segment.
In other recent headlines
In surprising news this year Boeing was awarded a U.S. Air Force refueling tanker project that was expected to be won by rival Airbus. The contract is reported to replace 179 of the 400 aircraft tankers in service. The first phase of the contract will cover construction of the first 18 aircraft by 2017 and bring in $3.5 billion. For the long term, the numbers look better, finishing all 179 tankers will bring in about $35 billion. More importantly it could give Boeing an upper hand in negotiations for a future contract if the rest of the 400 tankers are to be replaced.
Is Boeing too risky?
Some investors worry that Boeing is a risky play because of military spending cuts. Fear not: Its commercial segment has long-term growth ahead and should offset declines in its defense business. Boeing estimates demand will reach 34,000 commercial airplanes as the world's fleet doubles over the next 20 years. It also estimates this demand to be worth as much as $4.5 trillion.
The upshot is that Boeing has high production capabilities and as demand increases, it will become much more profitable with each aircraft produced. Expect that to contribute sustainable, and increasingly profitable, growth for the company's bottom line – even with pressure on the defense segment.