Spirit Airlines Bankruptcy And Boeing’s Long-Term Picture: It’s Complicated
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Summary:
- Spirit Airlines’ complicated situation.
- Boeing requires long-term investment due to ongoing balance sheet repairs and credibility issues, despite a recent capital raise.
- Lockheed Martin could be a strong investment due to high demand for defense equipment like the F-35 and stable dividend payments.
- In the space sector, cash flow is crucial; Rocket Lab and Intuitive Machines offer potential but come with execution and capital risks.
Shunyu Fan/iStock Unreleased via Getty Images
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Dhierin Bechai delves into Spirit Airlines’ complicated story (0:35). Boeing valuation and why it still has a lot of work to do (3:50) Lockheed Martin an example of a stocks worth looking at now (10:20). Why space is a completely different story (12:00). Cash flow the most important metric in this sector (14:25).
Transcript
Rena Sherbill: Dhierin Bechai, welcome to Investing Experts. It’s great to have you. You run the investing group, The Aerospace Forum, which is a segment of the market we have not gone into great detail in. Been in the news a lot.
What would you say to investors, either from a narrative perspective in terms of the story and how they should be thinking about it, or specifically on the stock and any mergers or acquisitions that may or may not happen?
Dhierin Bechai: We’re seeing higher costs, not just for Spirit Airlines (SAVE), but for all airlines, because wages went up and we still have – on maintenance, we have inflation and even on things like navigation fees that are not the biggest cost components for airlines, but also on those components there’s still inflation.
So the cost is higher, the unit revenues for many airlines are coming down. So the environment for merger and acquisitions is not the best one, especially not for an airline that has quite a significant debt load, such as Spirit Airlines.
So it’s a very complicated story for an airline that spent a lot of time and money to grow during the pandemic and after that did not really get the chance to extract the value from their debt load.
It’s not about saving the shareholders. It’s more about scooping up another company for a very low amount of money and sometimes even nothing.
RS: So what would you say is most important for investors to be paying attention to right now?
DB: Currently, the demand for defense equipment is very high. And that’s, of course, driven by the unrest in Eastern Europe and Ukraine and also in the Middle East and for several years also with China. So that drives demand.
At the same time, we currently are seeing with the election of Donald Trump that there is some hesitance because he has promised that within 24 hours, he will bring peace again.
We see that demand is rising but it still has to translate into actual sales. So there is a bit of a lower sentiment in demand or in the defense industry at the moment, but demand is still rising and it really has to still pick up. So there’s two trends that really are counteracting each other.
And on the other end of aerospace, you have also the commercial market and there we have the problem that demand is also very high, but it is so high that the OEMs, so Airbus (OTCPK:EADSF) and Boeing (NYSE:BA), also Embraer (ERJ), they cannot deliver enough airplanes to meet demand.
Like there’s a lot of noise at the moment with these countering trends, but focus on the long-term because aerospace products also have a long-term horizon. Like, for instance, the commercial aircrafts, those production programs, they run for 15, sometimes 30 years and then the aftermarket sales of those products, they stretch decades and the same holds and even more so for defense equipment.
So the value chain and the value generation really is long-term, like measured in decades and not in months or quarters or years.
RS: And in terms of the stocks, I mean, one of the main stocks discussed is Boeing. You’ve written a lot about it. What would you say are your thoughts now for investors and in general, the narrative out there, how would you articulate it?
DB: For Boeing, they still have a lot of work to do.
They started well with the capital raise. They spent a lot of their free cash flows, I think since 2018, maybe it was $60 billion or something that they returned to investors, maybe the 2018 year is not correct, but they spent tens of billions in dividends and also in stock repurchases. And it left them very exposed to what they’re facing today in terms of negative cash flows.
And they’ve started to repair that. So they did the capital raise of $21 billion. And that’s a significant amount, but it’s also fair that some of the cash that investors initially got from Boeing has returned to Boeing.
So they repaired the company, and that is not a thing that will happen overnight. It will probably take towards the end of the next decade or yeah, towards the end of this decade and then into the next decade before they really can get to a level where they previously were.
And that’s also a good part that Boeing made shareholders a part of the turnaround and the balance sheet repair because it also attracts the people that feel invested in Boeing for the long-term and not for the near-term and pressure Boeing once again in delivering quarter-over-quarter beats on EPS and revenues.
RS: In terms of looking at it in the long-term and your recommendation on Seeking Alpha is to buy the stock, is that for anyone? Are there people that you would encourage or you feel like it doesn’t make sense for them to get into Boeing?
DB: Yeah, it’s definitely for investors who have a lot of patience and also investors who still believe in Boeing because Boeing has credibility issues with its customers, commercial customers, defense customers, but also its shareholders. So you really have to believe that Boeing has still some engineering core and strength to turn things around. And for those people investing in Boeing can pay off.
RS: And you talk about the valuation a bit in your articles. What would you say to investors in terms of your valuation of the stock there?
DB: The honest opinion on the valuation is that, at this moment, Boeing stock is not worth a lot. It has negative shareholder equity, I think. At this point, if you look at current fundamentals, then you should not buy.
But again, if you look at the long-term and you believe in the trajectory that Boeing is executing right now with the capital raise and with the balance sheet repair and more focus on quality production and safety, that will in itself increase the free cash flow and then from there, things will start improving and the valuation will start to make more and more sense.
So in terms of current valuation, it is do not invest, but invest with a very wide horizon.
RS: Another stock that’s been in the news is Spirit Airlines – do you think it’s the debt that they handled, that they mismanaged so badly? What took them down? No pun intended.
DB: Most definitely the debt, because they kept growing during the pandemic and during the pandemic, there was no demand, but Spirit Airlines kept growing in the expectation that they would harvest the benefit from that eventually, but the problem really became that we saw a lot of inflation.
So I think not just for airlines, but also for aerospace and defense. We shouldn’t forget that we came out of a pandemic that crumbled travel demand. And after that, we got into a war, we got an energy crisis, we got inflation. So there’s a lot of things happening and Spirit Airlines was not equipped to handle that.
And I think also no other airline or aerospace and defense company expected that after a pandemic we would be having a war and energy crisis and inflation.
RS: Would you say that both for Boeing – and you don’t have to agree with this – but would you say that both for Boeing and Spirit Airlines that it was a bit of hubris mixed in with things beyond their control?
DB: Yeah, most definitely, because if you look at Boeing, then costs really started rising on their fixed fee or fixed price development contract. They already were troubled, but they started rising when the factories were shut down and after that due to inflation because if you have a fixed fee contract, then in some cases, there’s an inflation corrector, and in many cases, there is not.
So that leaves you exposed and what Boeing did on the trainer jet contracts, so that is the T7A and the MQ-25, that’s a tanker drone. They really lowballed the debt on those contracts because the DoD and the U.S. Air Force, they stand by a healthy competition in the industry.
Boeing wanted to remain a power in the defense industry. And so they really needed some contracts and they chose those two contracts and they lowballed those contracts. And what they did the first thing when they won those contracts is they charged $700 million in costs.
So you could already see from that day that they were taking a lot of risk and the same holds for Spirit Airlines.
But I would also say that what – Boeing had the choice and because the demand was there. If you look at Spirit Airlines, demand was also there, but for airlines, it’s always the case that demand fluctuates a lot.
If Boeing and Airbus would have been able to deliver enough aircraft, most airlines would have drawn capacity on the market and the prices would have normalized even more. So the unit revenues or ticket prices.
What you can conclude for Spirit Airlines is that even with elevated unit revenues, they were not able to make things work. So if things would have been normal, which means there would be more capacity on the market, they would have struggled even more.
RS: And what would you say are your stocks that you feel like are worth looking at as you look out across the sector?
DB: Right now, it’s a bit hard to say because there’s a lot of volatility. So any stock you might recommend it might not return anything to you in terms of value in the near term.
But Lockheed Martin (LMT), they have the F-35 and with the current demand environment and defense budgets, we see more and more parties being interested in acquiring the F-35, which were previously, it was not thinkable that some countries, for instance, Romania, they also will be buying the F-35 that was previously not possible and now that’s possible.
And so they can build the production capacity for that or at least maintain production capacity. And from there, we have decades of aftermarket spare sales and services and Lockheed Martin, for instance, they have a very strong dividend payment history and growing dividend payments. So that’s something that’s likely to continue even though they are facing some challenges at times. But that’s a stock that’s doing well.
We have stocks like moving away from the U.S. into the European defense industry. Companies like Saab (OTCPK:SAABF) and Rheinmetall (OTCPK:RNMBF) that are doing quite well. So there are a lot of opportunities. But if you look at the more established U.S. companies, then most of them actually are pretty much fairly valued.
RS: And what about the Space side of things? What are you looking at there?
DB: Space is a completely different story. There’s a lot of demand to commercialize Space. And we have a lot going on like data, artificial intelligence, all of that requires some sort of communication and relaying also with defense and defense intelligence and commercial applications as well.
So Space is really hot at the moment. And we are also seeing that, for instance, with the project to basically explore the moon and set up a permanent station there. There are a lot of opportunities.
But I would say that companies like Rocket Lab (RKLB), which is developing a new launch vehicle and is quite proficient at launching micro satellites because they have the right launch vehicle for that. Those are interesting investments.
You have Intuitive Machines (LUNR), which is more and more becoming the go to party for NASA to provide lunar solutions. So that’s an interesting part.
And if you look at more established launch providers such as United Launch Alliance, that’s a bit of a complex story because in terms of competition, they have SpaceX (SPACE), which is basically actually becoming the preferred launch provider and they are not doing well in terms of earnings. Those earnings are declining and it seems they’re not as competitive as should have been the case.
There is a risk in terms of execution like, for instance, the Neutron rocket that Rocket Lab is currently developing, there could be timeline risk, there could be cost overruns. The benefit for Rocket Lab is that they’re well capitalized to handle that and they have a growing business with their Space System segment and their launch business is also doing quite well.
But we also have smaller companies such as Intuitive Machines and what we see there is that they are cash flow negative and the way for them to raise capital is by diluting shareholders.
So issuing more stock, and that’s a risk that many people in the euphoria of the moment, like we saw the past few days, they will not quite admit to that reality that there is a significant risk still on gaining enough capital to actually grow yourself or grow the company into a position where it can scale to the extent that it can sustain itself because for Intuitive Machines, while I’m also invested in that company, it’s still not the case that they can sustain themselves.
RS: And do you feel like there’s specific metrics to pay attention to when you’re looking at that sector? Like, are there metrics that you look at first that you feel like are the most important?
DB: Yeah, cash flow. That’s really the simple part of the Space story. You have many companies that will go on capital days, or they will even IPO and they provide a very rosy picture. And if you look at the reality, then we often see those rosy projections are not being realized.
If you invest, you also have to be critical on your own investment. If an investment does not pay off or you see the risk is rising, it doesn’t mean that you made a wrong investment choice, but you definitely make a wrong investment choice if you stay invested in a company that sees its risk rising continuously.
That’s pretty much it. You have to look at the free cash flow and you really have to look at it from quarter-to-quarter and you actually have to, as an investor, you have to listen to the earnings calls and go to their filings to really try to figure out are things going as well as projected and where is the risk rising and where is the risk decreasing and from there you can actually manage your investment quite well.
RS: Appreciate that. Well, like I said, you run an investing group on Seeking Alpha called The Aerospace Forum.
Anything that you would say as we close out this conversation, which I very much appreciate you coming on, anything that you would say about ETFs in the space?
DB: ETFs are, they’re nice in case you don’t want to build your own basket of investments. But I also think if you have the opportunity to analyze or do your own due diligence on several stocks, then you are probably better off stock picking rather than picking a bucket or a basket of outperformance and underperformance because you will basically end up on an average performance.
So I think it’s more favorable to look at particular companies and also to check whether they have commercial exposure, defense exposure or aftermarket exposure and base your investment on that.
Editor’s Note: This article discusses one or more securities that do not trade on a major U.S. exchange. Please be aware of the risks associated with these stocks.