Boeing, a cornerstone of US defence operations and a longstanding leader in manufacturing, is confronted with the possibility of its debt rating being downgraded to junk status; a circumstance which was previously inconceivable. Details regarding the company’s aeroplane deliveries for May will be released this Tuesday; investors and analysts are bracing for figures that might fall short of expectations. They are anxiously awaiting to see whether Boeing can elevate its deliveries, and consequently its free cash flow, during the year’s latter half to potentially evade a downgrade.
Several factors including underwhelming aircraft deliveries, an uncertain recovery outlook and a sustained phase of high debt compared to earnings could convince ratings agencies to demote Boeing’s rating to junk, as per their statements. If downgraded to junk status, Boeing’s borrowing could become costlier. The large size of Boeing’s capital structure, housing nearly €54 billion (equivalent to roughly $58 billion) in total debt, may be hard for high-yield buyers to assimilate a sudden surge in new supply, hence possibly initiating price fluctuations.
The importance of conserving its investment-grade status has been emphasized by Boeing’s leadership, with investors and analysts presuming that the company will aim to safegaurd against a downgrade, wherever feasible. One bond-holding asset manager remarked that financing in the high-yield market could pose numerous challenges to a balance sheet of Boeing’s magnitude and the transition to high-yield could be notably challenging. Another portfolio manager at a notable asset management firm who owns Boeing bonds warned of potential volatility following a downgrade.
Currently, Boeing is precariously positioned at the investment-grade universe’s lowermost level. This followed the decision in April by Moody’s and other leading ratings agencies to lower Boeing’s credit quality to ‘Baa3’ or ‘BBB-‘. Concurrently, the company outlook was also downgraded to ‘negative’ by Moody’s, S&P and Fitch- an action that could indicate a heightened probability of future downgrades yet to come. Investors remarked that Boeing’s bonds are now trading between the investment-grade bottom and the high-yield peak, highlighting its current difficulties and the adjustments to its credit rating.
One of Boeing’s more substantial and fluid bonds, instigated in 2020 and due in 2050, offers a yield approximately 6.5 per cent at the moment. Another bond due in 2030 offers slightly less than 6 per cent, and one due in 2025 provides slightly more than 6 per cent. Such rates surpass the mean rate for all triple-B rated bonds, which was at 5.7 per cent based on Thursday’s data from Ice BofA. Yet these rates are inferior to the average 6.7 per cent yield for all double-B rated bonds, the uppermost level of junk ratings.
The company’s spokesperson refrained from commenting. In April, Chief financial officer Brian West stated to stakeholders that Boeing would “prioritise the investment-grade rating” while it balanced its finances, enhanced manufacturing and managed the supply chain.
This year, Boeing has been wrestling with free cash flow. It used nearly $4bn in cash during the first quarter and anticipates an outflow for the year overall. Moody’s analyst Jonathan Root hinted that a ratings committee would view unfavourably a situation where Boeing’s deliveries and consequently its free cash flow, fail to advance throughout the year.
The US Federal Aviation Administration has limited Boeing’s production of the 737 Max to a maximum of 38 per month. Jonathan Root commented that delivering near this cap would be vital for Boeing’s rating, since “a functioning commercial aeroplanes business forgives many sins”. He stressed that the crucial factor is not the number of deliveries in May, but the progression from July through December.
Six years prior to the initial 737 Max crash near Indonesia in October 2018, all three rating agencies had rated Boeing “A” or “A2”. This all changed when a second jet crashed five months after. Subsequently, regulators worldwide kept the jet grounded for nearly two years.
The rating agencies depreciated their ratings in late 2019 and again in early 2020. As the Covid-19 pandemic spread in the US causing a significant decline in air travel and jet demand, the plane manufacturer’s supply chain was massively disrupted. The ratings fell once more in the spring of 2020.
In a bid to secure itself against the ongoing pandemic, Boeing sought $25bn from the bond market in April 2020. Less than two moths ago, it then raised an extra $10 billion to reinforce its liquidity in preparation for approximately $12 billion in maturities anticipated over the subsequent two years.
Boeing’s leverage, or the proportion of its aggregate debt to earnings before tax, interest, depreciation, and amortisation (Ebitda), singles it out among firms with an equivalent credit score, highlighted Nicholas Varone, a Fitch Ratings analyst. The multiple is predicted to decrease from a ‘mid-teen’ in 2024 to four times the Ebitda by 2026.
Varone pointed out that a possible downgrade to junk could result from the “absence of a clear return route” to increased production and deliveries, thereby affecting the cash flow adversely. However, Varone expressed optimism about the company’s improvement in the next six to twelve months, adding that it is more probable for the company to retain its investment-grade rating than lose it.
According to investors, the dual-supplier nature of the commercial aviation market is comforting, with only Boeing and its competitor Airbus to choose from. Harris Associates’ head of fixed income, Adam Abbas, who is also a Boeing bondholder said, “There is a minimal chance that it will indeed be downgraded”, referring to Boeing’s situation as a “duopoly”. He further opined that too much negativity has been integrated into the conjecture, affecting Boeing’s probable future standing in the next three to five years. – Copyright The Financial Times Limited 2024