Spirit AeroSystems Unlikely To Soar From Here

seekingalpha09-25

Years of issues at Spirit AeroSystems have forced a deal of necessity with Boeing, with Boeing looking to acquire this major supplier for $37.25 in an all-stock deal.Spirit shares do trade below the ...

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Although the boost from the proposed deal has lifted Spirit’s return since that last article to almost 50%, better than Boeing and some other suppliers [like Hexcel ], it’s still well below the returns from many other aerospace suppliers like HEICO , Moog , and Woodward . The production ramp of the key 737 MAX platform has been slower than expected, due in no small part to multiple quality control issues , and Spirit has also struggled to deal with a host of supply chain, material, labor, and rework cost issues across multiple programs , leading to weaker than expected profits and cash flows. The net impact of these difficulties has been revenue modestly below my expectations (about 4% below in FY’22 and 2","collect":0,"end_time":0,"defaultTopTitle":"seekingalpha.com","property":[],"viewcount":null,"language":"en","relate_stocks":{"BK4187":"航天航空与国防","SPR":"Spirit AeroSystems Holdings Inc","BK4585":"ETF&股票定投概念","BK4588":"碎股"},"translate_title":"势必锐航空系统公司不太可能从这里飙升","themeId":null,"isJumpTheme":false,"ttsUrl":null,"symbols_score_info":{"SPR":0.9},"content_text":"Years of issues at Spirit AeroSystems have forced a deal of necessity with Boeing, with Boeing looking to acquire this major supplier for $37.25 in an all-stock deal.Spirit shares do trade below the targeted deal price, even when including the time value of money through mid-2025, and the likelihood of the deal completely collapsing seems low.Boeing faces substantial challenges, including a costly strike, high debt, and the need for capital investments, which could impact its share price and possibly push it below the collar price.Given the risks and limited upside, I can't recommend Spirit shares, though those more bullish on a Boeing rebound might find the investment worth exploring.   Wirestock There are any number of potential motivations for M&A deals – growth through M&A is a time-tested strategy, as is using M&A to control a potentially disruptive asset/technology and/or deny a rival’s access to it. In other cases, M&A can be about securing a key asset or capability that is necessary to keep a business working. Such is the case with Boeing’s (BA) pending acquisition of Spirit AeroSystems (NYSE:SPR) (“Spirit”), a key supplier of aerostructures (fuselages, wings, pylons, nacelles, et al.). Simply put, Boeing cannot execute on its production targets for key programs like the 737 MAX and 787 without a reliable supply of these aerostructures and Spirit has struggled across many elements of its business over the last two or three years and put that reliable supply into some question. Stock-based transactions can sometimes offer investors a low-risk way to pick up some incremental upside, as there is often a risk premium that keeps the target company’s share price below the deal price until approvals are secured and closing is imminent. While I see little risk of this deal not going through (both parties need it), I do see more operating risks ahead for Boeing and investors considering Spirit shares because they’re trading below the targeted $37.25 deal value need to at least consider the risk that they may not even get the full $37.25 per share in value. How Did We Get Here? Very little has gone right for Spirit since my last update on the company in October 2022. Although the boost from the proposed deal has lifted Spirit’s return since that last article to almost 50%, better than Boeing and some other suppliers [like Hexcel (HXL)], it’s still well below the returns from many other aerospace suppliers like HEICO (HEI), Moog (MOG.A), and Woodward (WWD). The production ramp of the key 737 MAX platform has been slower than expected, due in no small part to multiple quality control issues (some, but not all, caused by Spirit), and Spirit has also struggled to deal with a host of supply chain, material, labor, and rework cost issues across multiple programs (not just the 737 MAX), leading to weaker than expected profits and cash flows. The net impact of these difficulties has been revenue modestly below my expectations (about 4% below in FY’22 and 2.5% below in FY’23) and EBITDA and free cash flow meaningfully below my expectations, with FY’23 cash burn of $374M (I’d expected around $30M in positive FCF) and significant year-to-date burn as well of over $1B. These varied issues not only cost the CEO his job in October 2023, but also led the company to secure a revised business agreement with Boeing that basically created some additional financial flexibility for 2023-2025 (in part from better 787 pricing and financing terms, as well as funding for capital needs) at the cost of future profitability (including 737 pricing step-downs), as well as restrictions on any potential sale of the company, and the creation of an “operational stability plan”. With Spirit’s struggles threatening the long-term attainability of Boeing’s own plans, the companies entered into talks to recombine earlier this year and then announced an all-stock deal on July 1 that should see Boeing acquire Spirit for $37.25/share in Boeing stock so long as Boeing’s share price stays between $149 and $206.94. Beyond those prices, collars of 0.18 and 0.25 Boeing shares kick in (if Boeing shares are at $149 or lower, Spirit shareholders will get 0.25 shares of Boeing for each SPR share; likewise, if the price is $206.94 or higher, they will get 0.18 shares). Boeing Has A Lot Of Work Left To Do With Spirit shares currently at $33.21, it may be tempting to look at today’s price as an opportunity to engage in some arbitrage. While the time value of money does reduce that $37.25/share deal price to around $35.50 to $36 (assuming a mid-2025 close), there are still some meaningful risks to consider before regarding that spread as a bargain. Both parties need this deal to happen, so I don’t see either party able to just walk away, but I do nevertheless still see risks that could impact the final value of the deal to Spirit shareholders. It is possible that finalizing the necessary divestitures of Spirit’s Airbus (OTCPK:EADSY) business to Airbus could hit snags, it is possible that there could be further quality control issues, and it is likewise possible that there could be further business issues at Spirit that would require additional financial support (as of the August second quarter report, Spirit had already drawn down $200M of a $350M bridge loan facility) and Boeing may feel it has to revise the terms. I also see risks on the Boeing side, and the price of Boeing’s shares obviously has a major impact on the value of Spirit shares today. Boeing is currently dealing with a strike that could potentially cost it more than $1B a month, and the company was already likely looking at only breakeven free cash flow for the second half of the year as it struggles to get its various issues ironed out (including an FAA-mandated cap on production at 38/month for the 737 MAX due to multiple safety issues). While Boeing will be curtailing deliveries from 737 suppliers where it already has adequate inventory, I’m not sure that will really help all that much. Spirit is a major supplier and inventories are not in a good enough place to where curtailed production is viable. I likewise think Boeing will be (or at least should be) reluctant to tell suppliers of castings and forgings for engine parts to slow down. That, then, doesn’t leave a lot of obvious candidates for reduced cash-consuming supplier deliveries, or at least reductions that won’t threaten production ramp targets for 2025 and beyond. I would also consider the risk that Boeing will have to reinvest in Spirit’s asset base. Spirit used to spend around $225M to $300M a year on capex (from 2006 to 2019, with two years around $350M), but that has dropped to $119M-$151M over the last four years (2020-2023), and 2024 likely will be around $150M. Maybe the deal-related divestments and the company no longer needing to invest to support diversification will permanently reduce the capex needed to maintain Spirit’s business, but I see a risk that Spirit has been underinvesting in recent years and that Boeing will have to infuse capital into the business at some point. That’s problematic in the context of around $45B in net debt, a little under $11B in cash, $12B in debt maturities across 2025-2026, and management’s need to maintain an investment-grade credit rating. On top of that, Boeing isn’t that far off from having to start investing for its next narrowbody development cycle – with Airbus targeting a new narrowbody launch around 2035, development typically taking seven to eight years, and development likely to cost tens of billions of dollars, there just isn’t a lot of “wiggle room” here. In fact, I wouldn’t be surprised if Boeing looks to raise capital. I don’t think Boeing can do a major debt-only deal, so that leads me to think that a meaningful equity or convertible debt offering could be in the works. Securing a high-quality anchor investor [like what Berkshire Hathaway (BRK.A) (BRK.B) did in the past for Goldman Sachs (GS) and GE (GE)] would be helpful, but either way I see a risk of a one-two punch of lower peak free cash flow (as the 737 MAX ramp gets pushed out and as the costs of the next narrowbody development program start to come into Wall Street models) and increased dilution, and that’s above and beyond the dilution of the Spirit deal. Maybe Boeing will get this strike resolved quickly, get its quality control issues sorted, and get back to ramping production of the 737 MAX and 787, but with Boeing shares at $156 today and a lot of operating and financing/liquidity risk still in play, I do see a risk that Boeing’s share price could break below the price anticipated in the collar and lead to a valuation in the low-to-mid-$30’s (and maybe lower) for Spirit shareholders. The Outlook I won’t say that Spirit’s financial outlook is totally irrelevant now, as it is at least conceivable that sizable shortfalls could drive Boeing to renegotiate the terms of the deal. Likewise, while I do think Spirit has better management in place now, there is still work to be done to get this deal across the finish line (including finalizing all of the necessary divestitures) and it will be important for Spirit to continue to drive toward improved operational efficiencies until the deal closes. All of that said, I don’t think quarterly results mean much to the stock anymore, nor 2024/2025 revenue, EBITDA, or free cash flow projections. I do think Boeing’s performance is more important, and I did just outline my concerns that Boeing’s free cash flow and cash position may come under more pressure if this strike drags on and even with a quick resolution to the strike there are still ongoing challenges to the business. While Boeing’s share price does not look demanding today relative to past valuation norms, there have been so many unforced errors and managerial missteps that it’s hard to have a lot of confidence. At a minimum, I would like to see some sort of achievement that could mark a floor and restore confidence – getting a significant anchor investor for an equity or convertible offering would certainly be an example of such an achievement. The Bottom Line I don’t see much likelihood that events will go so well for Boeing that the upper boundary of the collar comes into play, and Spirit shareholders could see more than $37.25 per share. That means that I see around $4/share of upside in play, or around 13% against a risk of downside toward $30. As I generally don’t seriously consider investment ideas that don’t offer at least 10% upside, I just can’t make the argument that this is a name worth considering, though readers with a more bullish outlook on Boeing may want to investigate further.  Editor's Note: This article discusses one or more securities that do not trade on a major U.S. exchange. 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