Why Goldman Sachs Cut Price Target on Boeing Shares

Goldman estimates that at a discounted sales price of $150 million per plane, Boeing’s EBIT margin on the 777 is 20% and that the 777 represents about 30% of the commercial segment’s EBIT. In other words, the 777 is crucial to both earnings and cash flow.

That makes a cut to the plane’s production rate a serious matter, and according to Goldman, Boeing will have no choice but to cut the production rate on the 777 to five per month in 2017, a full year before production of the replacement 777X begins. The impact on Boeing’s EBIT is non-trivial.

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Leeham News reported the Goldman note Tuesday morning and cited the bank’s conclusion:

We assume Boeing slows production in 2016 but relatively soon announces it will move to 5/month starting in 2017. We revise our 2016/2017E EPS to $8.26/7.80 from $8.82/9.25 to reflect lower 777 deliveries. We are now 10%/24% below consensus in those years. We already thought the bull-case on Boeing cash flow had a lot of risk. At 5/mo. on 777 it could be missed by a wide margin. We lower our 12-month price target to $111 from $119 on the lower EPS.

Back in June, a Boeing executive as much as said that production of the 777 would be cut as production ramps up for the 777X. The company would do that by inserting “blanks” into the production line, that is, empty slots, to give workers extra time to build the new planes.

However, Boeing insisted, the production rate of 8.3 per month would not change. That explanation defies basic arithmetic.

Adding even more pressure to 777 production, according to Goldman, is that 122 legacy 777s will be freed from their leases over the next five years, and most of those are less than 12 years old. Those used planes will compete for buyers with the new 777s rolling off Boeing’s production line.

ALSO READ: How Apple Could Help Boeing Sell New Freighters

Boeing’s stock hit its 52-week high in February and drifted downward until mid-August when it was pummeled by the market correction. Shares have traded up about 3% year to date and closed at $134.02 on Monday, in a 52-week range of $115.14 to $158.83.