EFTA00293648.pdf

North America Equity Research J.P. Morgan 24 April 2014 Overweight Boeing Company BA, BA US Price: $130.63 Q1 Encouraging on Several Fronts; Raising Estimates A Price Target: 5167.00 and Price Target Previous: $162.00 Q1 contained several positive developments: 1) core BCA margins are expanding Aerospace/Defense at an increasing pace, a continuation of a trend that we have highlighted in recent Joseph B. Nadol Ill AC quarters; 2) 787 deferred production growth of $1.5 bn was in line with our estimate, and it is our impression that management is growing more confident about achieving its target for a 425 bn peak late this year; 3) free cash flow Bloomberg JPMA NADOL 4GO, exceeded our forecast, reinforcing ow view that 2014 FCF will materially exceed Seth M. Seifman, CFA guidance; and 4) management aggressively bought back stock. We continue to see (1-212) 622-5597 significant cash flow growth in 2015 and beyond as 787 cash bum reverses, and we are raising our EPS estimates as well. As a result, ow Dec 2014 price target, Christopher Sands (1-212)622-9224 which is based on both ow cash flow and EPS expectations, is up by $5 to $167, for 25-30% upside. A key potential catalyst in the next 3.6 months would be Morgan Securities LLC significant declines in 787 unit costs, which would shore up confidence in our cash flow outlook. We continue to forecast —$12 of FCF in 2015, so the stock Pries Porlonnanto trades at only 10-I 1x. I, - • Core BCA margin is expanding at an increasing rate. We estimate that the iss - core commercial margin (excluding 787, 747-8, and =) expanded 250 bps - y/y to 19.5% in QI, following up 100 bps of expansion in 3Q13 and 200 bps in a I I 4Q13. We now assume it remains —19.5% going forward (with a seasonal step Pau AM) 0011 AM. MM. down in Q4) but some of the key performance drivers, including Partnering for - BA On prise (Si SILPS00 (mbased) Success and internal cost takeout efforts, still have room to run, creating potential for further expansion. Management highlighted Partnering for Success nearly a year ago at its investor meeting, and the performance since then has Abe Rel ri,4% YTD -62% 1m 62% 6.1% 3m -7.6% -10.2% 12m 46.1% 29.3% been impressive. Nig The Boeing Company (BA;BA US) FYE Dec 2011A 2012A 2013A 2014E 2014E 2015E 2015E Company Data (Prev) (Curl) (Prey) (Curs) Price (S) 130.63 EPS - Recurring ($) Date Of Price 23 Apr 14 O1 (Mar) - 1.73 1.63 1.76A Price Target (S) 167.00 02 (Jun) - 1.67 1.91 2.02 Price Target End Date 31-Dec-14 03 (Sep) - - 1.80 1.98 1.94 52-week Range (5) 144.57-87.20 04 (Dec) - - 1.88 2.02 2.18 Market Cap (S mn) 100,467.50 FY 5.74 5.88 7.08 7.55 7.90 8.20 8.60 Shares 0/S (mn) 769 Bloomberg EPS FY (5) 4.51 5.01 6.74 - 7.32 - 8.17 Source: Company data, Bloomberg. M. Morgan estimates. Our EPS estimates for Boeing are consistent with the company's core EPS, which excludes certain pension and post-retiement expenses. GAAP EPS was $5.11 in 2012 and $5.96 in 2013. Our estimates for 2014. and 2015 are $6.79. and $7.67. respectively. See page 6 for analyst certification and important disclosures. M. Morgan does and seeks to do business with companies covered in its research reports. As a result, investors should be aware that the firm may have a conflict of interest that could affect the objectivity of this report Investors should consider this report as only a single factor in making their investment decision. EFTA00293648 Jose h B. Nadd III North America Equity Research 24 April 2014 J.P. Morgan • 787 deferred production growth should begin to step down. While forecasting 787 unit costs is difficult given the number of variables and lack of data, we see a path to management's deferred production peak target of —$25 bn late this year. The current balance is $23.1 bn, and growth has been running at 41.5 bn per quarter. Management committed to a smaller increase in Q2, and we believe this is the first time Boeing has committed to a near-term decline in a specific quarter, which we view as a sign of confidence. We are forecasting an increase of $1.1 bn for Q2, followed by —$700 mn in Q3, and then —$400 mn in Q4 to reach $25.3 bn, and we assume the balance remains in the mid $25 bn range through 2015 before starting to decline in 2016, consistent with guidance. We see potential drivers of near-term improvement beyond the higher productivity that typically kicks in when aircraft program volumes stabilize at a good rate. One is the transition to new "block" (a block within the accounting quantity for estimating costs) at unit 200 around mid year, which should incorporate lower overhead rates due to the higher production rate for aircraft 201-300 relative to aircraft 101-200. Boeing should complete this third block in about 10 months compared to the 15 months it will have taken to complete the second block. Another driver is a pricing step down for key structural suppliers that was contractually established many years ago, and we believe this alone could drive double-digit cost improvement. A key issue that is hard to model is that Boeing will need to materially reduce unit costs on the 787-9, since this variant should begin to constitute the majority of production by late 2015, up from its current production rate of less than 1/month. The mix shift from - 8 to -9 over time should be a clear positive for margins, but it represents another learning curve that the company needs to come down, and therefore we see this as more of an intermediate term risk since it lowers visibility. • We continue to forecast FCF of 46 bn in 2014 and —$9bn in 2015. Our 2014 forecast is well above guidance for $335 bn, and we don't think we are crazy as Boeing has exceeded its initial cash flow guidance by $2-3 bn in each of the past three years. QI FCF was $615 mn, and while this was only 10% of our forecast for the year, it was well above our estimate for breakeven in the quarter and even further above other Street estimates that had looked for a material cash burn. FCF was $6 bn last year with no contribution from Q1. Looking to 2015, we see 787 as the major source of cash flow improvement as it moves from a —$3.4 bn use of cash to $1.6 bn source, driven by deferred production no longer being a major use of cash and the delivery of some planes from inventory. • Another solid quarter for BDS, but risks lurk in the out years. In a replay of 2012 and 2013, BDS results were stronger than expected and we boosted estimates for the year after sales and margins came in ahead of our forecasts. We are now $170 mn above the midpoint of EBIT guidance, which equates to IS cents of EPS. With a headwind coming for C-17 in 2015 and 2016, however, as well as risk for the Super Hornet and an overall environment that remains challenging, we continue to look for declines beyond this year and we are modeling $2.8 bn of defense EBIT in 2016, down from $3.1 bn this year. We would also point out that Boeing programs were hit hard in the report DoD published last week regarding the potential impact of sequestration on specific programs, with cuts across the FYDP for Apache ($1.2 bn), tanker ($1.1 bn), Chinook ($1.0 bn), and P-8 ($1.0 bn). There is still much uncertainty regarding future budgets and the DoD document is no doubt intended to some degree as a device for generating opposition to budget cuts, but the situation bears watching. 2 EFTA00293649 Jose h B. Nadd III North America Equity Research 24 April 2014 J.P.Morgan • Management got after it on share repurchase. Management showed its commitment to returning cash to shareholders by taking advantage of the selloff in the stock last quarter to invest $2.5 bn buying back nearly 20 mn shares, or 2.5% of diluted shares outstanding. This buyback volume combined with the 50% dividend hike last December are evidence that management has been increasingly willing to act aggressively to return cash after holding back for roughly four years as it worked through 787 development. We expect the repurchase pace to moderate somewhat, but management intends to continue buying back stock and we are looking for -4800 mn per quarter the remainder of the year. This would mean returning -.120% of FCF to shareholders on our estimates, well above management's commitment to 80% and our prior estimate of -.100%. There is $8.3 bn remaining on the current repurchase authorization, which management has said it will use over 2.3 years. We assume it is done by early 2016 with the potential for it to be consumed faster, and we would expect another authorization to follow. • Raising estimates. Our 2014 core EPS estimate is up 35 cents to $7.90. The increase comes from a tax benefit now expected in Q2 (-15 cents), a lower sharecount (10-15 cents), and BDS upside in Ql (-.10 cents). For 2015, our core EPS estimate is up 40 cents to $8.60 driven primarily by sharecount and BCA margins. 3 EFTA00293650 Jose h B. Nadal III North America Equity Research 24 April 2014 J.P.Morgan Investment Thesis, Valuation and Risks Boeing Company (Overweight; Price Target $167.00) Investment Thesis We rate Boeing Ovenveight based on expectations for improving FCF as 787 cash bum falls, rising repurchases and dividends, and favorable conditions for new aircraft production. Valuation The stock trades at 15.2x our estimate for 2015 core EPS, a 5% premium to our coverage universe. We are raising ow December 2014 price target by $5 to $167 to reflect higher estimates. Our target represents I 6x the average of our 2015 core EPS and 2015 free cash flow estimates. Risks to Rating and Price Target Risks to our rating include a failure to lower 787 unit costs, a decline in demand for aircraft, worse than expected execution on core commercial programs, and a greater than expected decline in defense earnings. 4 EFTA00293651 Jose h B. Nadd Ill North America Equity Research 24 April 2014 IRMorgan Boeing Company: Summary of Financials Income Statement - Annual FY13A FY14E FYI5E FY16E Income Statement -Quarterly 1O14A 2014E 3014E 4014E Revenues 86.623 89,651 94,151 - Revenues 20,465A 22.010 23,203 23,978 Operating expenses (80,061) (82,164) (85,746) - Operating expenses (18,923)A (20.089) (21,200) (21,953) Operating income 6,562 7,493 8,405 - Operaeng kerne 1,542A 1,922 2,004 2,026 1,844 1,938 1,977 - D&A 448A 461 483 546 EBITDA 8,406 9,431 10,382 - EBITDA 1,990A 2,383 2,487 2,572 Net interest income I (expense) (330) (332) (328) - Net Interest income / (expense) (83)A (83) (83) (83) Other income / (expense) • - Other income/ (expense) Pre-tax income 6,232 7,161 8,077 - Pre-tax noon* 1,459A 1,839 1,920 1,943 Income taxes (1,646) (2,105) (2,506) - Income taxes (494)A (492) (634) (486) lAnicrity Interest • - Minority Interest Net income - GAAP 4,586 5,056 5,571 - Net income - GAAP 965A 1,347 1,287 1,457 Preferred dividends/converbble - - - Preferred Ovi0endsiconvertle Darted snares outstandng 7/0 745 727 - Diluted shares outstanding 754A 745 742 740 EPS - rearring 1.08 7.90 8.60 - EPS-recurring 1.76A 2.02 1.94 2.18 EPS - GAAP 5.96 6.79 7.67 - EPS-GAAP 1.28A 1.81 1.73 1.97 Balance Sheet and Cash Flow Data FY13A FY14E FYI5E FY16E Ratio Analysis FY13A FY14E FY15E FY16E Cash and cash equivalents 15,258 13,367 14,949 - Sales growth 6.0% 3.5% 5.0% Shon Term Investments - EBITDA growth 3.5% 12.2% 10.1% • Accounts receivable 6,546 7,049 7,549 • EPS growth - recurring 20.5% 11.5% 8.9% Inventory 42,912 46,348 44,715 Other current assets 358 271 271 - EBIT margin 7.6% 8.4% 8.9% Ci.trent assets 65,014 67,035 67,484 - EBITDA margin 9.7% 10.5% 11.0% PP&E 10,224 10,691 10,914 - Tax rate 264% 294% 31.0% Total assets 92,663 94,211 94,804 - Net margin 5.3% 5.6% 5.9% Total ST Debt 1,563 1,660 1,660 - Net Debt EBITDA (66.9%) (47.0%) (57.9%) Total LT Debt 8,072 7,275 7,275 - Net Debt I capital (book) (60.8%) (43.6%) (85.9%) Net debt (5,623) (4,432) (6,014) - Return on assets (ROA) 6.0% 6.3% 6.6% Total arrant hatenies 51,486 53,650 54,440 - Return on equity (ROE) 525% 39.9% 45.3% Total liabdilies 77,788 79,610 81,789 Sharehdders' equity 14,815 14,601 13,016 - Free cash Sew / share 719 1.98 12.32 PIE 21.9 19.3 17.0 Cash Syr, from operations 8,179 8,342 11,149 - EV / EBITDA 1IA 9.8 8.6 Calm (2,187) (2,400) (2,200) FCF (to fimi) 5,992 5,942 8,949 Nei (decrease) increase in casWequivalenls (1,253) (1,003) 1,582 DPS 1.93 2.92 3.37 Source: Company reports and J.P. Morgan estimates. Note: Sin millions (except per-share data).Frscal year ends Dec 5 EFTA00293652 Jose h B. Nadd III North America Equity Research 24 April 2014 J.P.Morgan Analyst Certification: The research analyst(s) denoted by an "AC" on the cover of this report certifies (or, where multiple research analysts are primarily responsible for this report, the research analyst denoted by an "AC" on the cover or within the document individually certifies, with respect to each security or issuer that the research analyst covers in this research) that (I) all of the views expressed in this report accurately reflect his or her personal views about any and all of the subject securities or issuers; and (2) no part of any of the research analyst's compensation was, is, or will be directly or indirectly related to the specific recommendations or views expressed by the research analyst(s) in this report. For all Korea-based research analysts listed on the front cover, they also certify, as per KOFIA requirements, that their analysis was made in good faith and that the views reflect their own opinion, without undue influence or intervention. Important Disclosures • Lead or Co-manager: J.P. Morgan acted as lead or co-manager in a public offering of equity and/or debt securities for Boeing Company within the past 12 months. • Client: J.P. Morgan currently has, or had within the past 12 months, the following company(ies) as clients: Boeing Company. • Client/Investment Banking: J.P. Morgan currently has, or had within the past 12 months, the following company(ies) as investment banking clients: Boeing Company. • Client/Non-Investment Banking, Securities-Related: J.P. Morgan currently has, or had within the past 12 months, the following company(ies) as clients, and the services provided were non-investment-banking, securities-related: Boeing Company. • Client/Non-Securities-Related: J.P. Morgan currently has, or had within the past 12 months, the following company(ies) as clients, and the services provided were non-securities-related: Boeing Company. • Investment Banking (past 12 months): J.P. Morgan received in the past 12 months compensation from investment banking Boeing Company. • Investment Banking (next 3 months): J.P. Morgan expects to receive, or intends to seek, compensation for investment banking services in the next three months from Boeing Company. • Non-Investment Banking Compensation: J.P. Morgan has received compensation in the past 12 months for products or services other than investment banking from Boeing Company. Company-Specific Disclosures: Important disclosures includin rice charts, are available for compendium reports and all J.P. Morgan- covered companies by visiting , calling 1-800-477-0406, or e-mailing with your request. J.P. Morgan's Strategy, Technical, and Quantitative Research teams may screen companies not covered by J.P. Morgan. For important disclosures for these companies, please call 1-800-477-0406 or e-mail Date Rating Share Price Price Target Boeing Company IBA. BA US) Price Chart (5) (5) 28-Feb-07 N 8720 -- 248 — 01-Dec-08 N 42.63 46.00 288 ONtIOW $85 OW( Ns 'I Ici°wsse ow 100 CI OW fr i OW SIC OW OW $1 51 Q 08-Dec-08 N 12-Jan-09 N 02-Mar-00 N 42.85 44.45 29.51 42.00 44.00 36.00 I 0 19-Mar-09 N 33.19 34.00 I44 N I NSIN8lN OW ow ow sa Iowsjo4iowasowsiex 04-May-09 N 16-Jul-09 N 42.18 42.05 40.00 37.00 Prict(S) 08-Sep-09 N 49.50 41.00 24-Sep-09 N 52.37 50.00 82 22-Oct-09 N 51.07 47.00 11-Jan-10 N 61.60 56.00 41 28-Jan-10 N 62.56 62.00 29-Mar-10 N 74.11 80.00 a 07 Sep-10 N 63.42 89.00 oat Apr Oct Apr Ott Am 20-Sep-10 N 63.72 82.00 oa 08 01 11 12 14 21-Oct-10 N 71.50 80.00 Seam: Meemb4.8 ad MI Mop.': pace dela adjuend for stern spite and din:lends 03-Jan-11 OW 65.26 83.00 Meek In come PO 28, NO? Dec of. 200 20-May-11 OW 78.02 85.00 09-Aug-11 OW 58.71 81.00 6 EFTA00293653  North America Equity Research Jose h B. Nadel Ill 20 April 2014 J.P.Morgan 07-Sep-11 OW 62.77 89.00 18-Oct-11 OW 63.47 85.00 27-Oct-11 OW 66.56 80.00 06-Jan-12 OW 73.53 85.00 16-Jul-12 OW 72.97 80.00 26-Jul-12 OW 74.91 100.00 31-Jan-13 OW 74.59 91.00 25-Apr-13 OW 91.67 98.00 20-May-13 OW 98.72 105.00 11-Jun-13 OW 101.75 133.00 25-Jul-13 OW 106.95 135.00 24-Oct-13 OW 128.98 138.00 09-Jan-11 OW 142.13 162.00 30-Jan-11 OW 129.78 165.00 17-Apr-14 OW 126.04 162.00 The chart(s) show J.P. Morgan's continuing coverage of the stocks; the current analysts may or may not have covered it over the entire period. J.P. Morgan ratings or designations: OW Overweight, N- Neutral, UW Underweight, NR •• Not Rated Explanation of Equity Research Ratings, Designations and Analyst(s) Coverage Universe: J.P. Morgan uses the following rating system: Overweight (Over the next six to twelve months, we expect this stock will outperform the average total return of the stocks in the analyst's (or the analyst's team's) coverage universe.] Neutral (Over the next six to twelve months, we expect this stock will perform in line with the average total return of the stocks in the analyst's (or the analyst's team's) coverage universe.] Underweight (Over the next six to twelve months, we expect this stock will underperform the average total return of the stocks in the analyst's (or the analyst's team's) coverage universe.] Not Rated (NR): J.P. Morgan has removed the rating and, if applicable, the price target, for this stock because of either a lack of a sufficient fundamental basis or for legal, regulatory or policy reasons. The previous rating and, if applicable, the price target, no longer should be relied upon. An NR designation is not a recommendation or a rating. In our Asia (ex-Australia) and U.K. small- and mid-cap equity research, each stock's expected total return is compared to the expected total return of a benchmark country market index, not to those analysts' coverage universe. If it does not appear in the IraImportant Disclosures section of this report, the certifying analyst's coverage universe can be found on J.P. Morgan's research website, Coverage Universe: Nadol, Joseph B: Alliant Techsysterns Inc. (ATK), B/E Aerospace (BEAV), Boeing Company (BA), Bombardier (BBDb.TO), Booz Allen Hamilton (BAH), CACI International Inc (CACI), Comtech Telecommunications (CMTL), Embraer SA (ERJ), Exelis Inc. (XLS), General Dynamics Corp. (GD), Harris Corporation (HRS), Huntington Ingalls Industries (HII), L-3 Communications (LLL), Leidos (LDOS), Lockheed Martin (LMT), Northrop Grumman (NOC), Precision Castparts (PCP), Raytheon (RTN), Rockwell Collins (COL), SAIC (SAIC), Spirit AeroSystems (SPR), Textron (TXT), TransDigm Group Inc (TDG), Triumph Group (TGI), United Technologies (UTX), Wesco Aircraft Holdings, Inc. (WAIR) J.P. Morgan Equity Research Ratings Distribution, as of March 31, 2014 Overweight Neutral Underweight (buy) (hold) (sell) J.P. Morgan Global Equity Research Coverage 44% 44% 11% IB clients° 58% 49% 40% JPMS Equity Research Coverage 45% 48% 7% IB clients° 78% 67% 60% *Percentage of investment banking clients in each rating category. For purposes only ofFINRA/NYSE ratings distribution rules. our Overweight rating falls into a buy rating category: our Neutral rating falls into a hold rating category; and our Underweight rating falls into a sell rating category. Please note that stocks with an NR designation are not included in the table above. Equity Valuation and Risks: For valuation methodology and risks associated with covered com zanies or rice targets for covered companies, please see the most recent compan -s ecific research re ort at contact the primary analyst or your J.P. Morgan representative, or email Equity Analysts' Compensation: The equity research analysts responsible for the preparation of this report receive compensation based upon various factors, including the quality and accuracy of research, client feedback, competitive factors, and overall firm revenues. Other Disclosures 7 EFTA00293654 Jose h B. Nadel II North America Equity Research 24 April 2014 J.P.Morgan J.P. Morgan ("JPM") is the global brand name for J.P. Morgan Securities LLC ("JPMS") and its affiliates worldwide. J.P. 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