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Air CargoBusinessNews

New Boeing CEO tries to contain 737 MAX crisis

Production shutdown begins to pressure suppliers, economy

David L. Calhoun began his first day as Boeing’s new chief executive on Monday with a mandate to get the troubled 737 MAX approved for commercial flight again so the company can resume production and staunch months of financial bleeding.

How he manages the crisis will not only impact Boeing (NYSE: BA) employees and shareholders, but an extended supply chain comprised of hundreds of companies and even the broader economy given Boeing’s status as the country’s largest single exporter. Last year’s ripple effects, reflected in higher airline operating costs and lost capacity, are now waves crashing into the vast supply base with the shutdown of the 737 MAX production line this month.

On Friday, Spirit Aerosystems (NYSE: SPR]), Boeing’s largest supplier, announced plans to layoff about 2,800 employees, or 15% of its global workforce, to align its cost structure with reduced production levels. Spirit builds 70% of the 737 MAX’s structure, including the fuselage, thrust reversers, engine pylons and wing components. The MAX represents more than half of Spirit’s annual revenue.

Spirit said it will also implement smaller workforce reductions later this month at plants in Tulsa and McAlester, Okla., which produce components for the MAX, with more job cuts possible in the future.

Moody’s Investors Service says hundreds of suppliers face significant reductions in earnings and cash flow this year, depending how long the MAX production shutdown lasts and whether Boeing opts to provide financial support to suppliers. In a research note, the credit rating agency said suppliers should prepare for a protracted period of disruption because Boeing is likely to slowly ramp up production to pre-grounding levels when the MAX is finally cleared to fly.

Treasury Secretary Steven Mnuchin said Sunday on a Fox News business program that the Boeing situation will knock off a half point of economic growth in 2020, putting GDP at 2.5%.

Dealing With the Fallout

Aviation authorities banned the 737 MAX from commercial operations following two crashes tied to new automated features in the flight control system that caused the planes to nosedive, killing 346 people. Boeing has been criticized for the design of the plane and not informing pilots about the automated override feature in the flight control system.

The airframer is waiting for the FAA to go through several more milestones in its review of software modifications to its augmented flight control system, known as MCAS. American Airlines and Southwest Airlines have canceled flights with the 737 MAX through early April and United Airlines doesn’t expect to begin flying the plane until early June, based on assumptions that regulators will now certify the plane sometime in the first quarter. 

Calhoun’s job won’t be easy. He is taking the Boeing helm three weeks after Dennis Muilenburg was fired when it became clear regulators would take longer than hoped to certify the plane. Muilenburg tried to paint a narrative that the Federal Aviation Administration would approve the MAX’s return to service by late 2019, alienating both agency officials and customers. 

The task of restoring those frayed relationships got worse after newly released documents showed that during the MAX development Boeing appears to have hidden safety problems and misled safety regulators and customers. In emails, key Boeing officials referred to those stakeholders with disdain. Part of the deception was to avoid a requirement for costly simulator training, which Boeing said was unnecessary since the plane was similar to its predecessor, the 737 NG. 

Last week, Boeing did a U-turn, and recommended simulator training for pilots, which the FAA and other aviation regulators are likely to require now.

Critics and victims’ families charge Boeing cut corners with the MAX to catch up with Airbus, which was developing the A320neo family of fuel-sipping single-aisle planes, and put profits before safety.

Boeing is also looking into possible wiring problems with the 737 MAX and 737 NG, a potential issue with MAX engines from CFM International, whistleblower complaints about shoddy workmanship, delays associated with the redesigned 777X and the recent failure of Boeing’s new Starliner space capsule that went off course because of a faulty clock setting during an unmanned test flight to the International Space Station.

Boeing has lost $60 billion in market value in the past nine months. The crisis has cost Boeing $9 billion so far, and its stock has dropped more than 20% since last spring. It faces billions of dollars in further charges for production expenses, stakeholder compensation, payouts to victims’ families and lost sales.

On Monday, Moody’s warned of a possible downgrade for Boeing’s unsecured debt. “Recent developments suggest a more costly and protracted recovery for Boeing to restore confidence with its various market constituents, and an ensuing period of heightened operational and financial risk, even if certification of the MAX comes relatively near-term, as expected,” said Jonathan Root, Moody’s senior vice president and lead Boeing analyst.

Boeing doesn’t get paid for a plane until it delivers it to a customer. It has built about 400 planes in storage that it is prohibited from delivering.

The longer the grounding lasts and the supply chain is idle the more credibility Boeing loses with regulators and consumers, many who say they are not comfortable flying in a 737 MAX, the higher customers’ claims for compensation and other costs will climb, and the greater chance the crisis will have a lasting impact on Boeing’s margins and cash generation for years to come, according to Moody’s. 

Calhoun,62, has been on Boeing’s board since 2009 and was elevated to chairman in October, when Muilenburg was stripped of that role. Critics wonder whether he is the change-agent Boeing needs to return the company to its engineering roots since his background is at General Electric, where the focus was on quarterly results, and as a senior executive at private equity firm Blackstone Group. During a quarter-century at GE he led multiple business groups, including GE Transportation and GE Aircraft Engines.

Boeing’s saving grace is that it has 4,500 orders for the MAX on the books and very few cancellations so far because airlines don’t have many options. Rival Airbus has an eight-year backlog for its A320neo.

Suppliers On The Ropes

For nine months, Boeing lowered its production tempo to 42 planes per month and parked the units in a large lot. By continuing to receive deliveries, Boeing largely insulated suppliers from the financial burden. Now, the pain is being shared. 

Suppliers will struggle to reduce costs in the face of Boeing’s production shutdown, according to Moody’s. Tier 1 suppliers, such as Honeywell International, are in a better position to weather the temporary reduction in cash flow. 

In addition to laying off workers, companies with Boeing exposure are likely to reduce overtime, delay material purchases, furlough salaried employees and reduce both discretionary spending and growth-oriented capital expenditures.

Moody’s warned that if suppliers cut too deeply they could hinder an efficient return to normal work levels. 

On Monday, Moody’s downgraded its debt rating for Spirit Aerosystems to probable default because the company faces a liquidity crunch outside of its control, with weak cash-generation ability likely to last for two years. 

“The difficult decision announced today is a necessary step given the uncertainty related to both the timing for resuming 737 MAX production and the overall production levels that can be expected following the production suspension,” Spirit CEO Tom Gentile said in a statement. “We are taking these actions to balance the interests of all of our stakeholders as a result of the grounding of the 737 MAX, while also positioning Spirit to meet future demand.”

Boeing could help some suppliers in the interim through payments for continuing production, advance payments, more favorable (quicker) payment terms, inventory assumption, and/or facilitating access to vendor financing.

Moody’s noted that once Boeing gets the go-ahead from U.S and other aviation authorities it will likely keep its assembly line closed for several months, and then be very conservative bringing back MAX production to clear out inventory, which means suppliers can’t count on quick financial relief.

Spirit said it assumes that when Boeing starts up its assembly line production levels will be lower than previously expected because Boeing will first have to consume more than 100 airframes currently in storage at Spirit’s facilities. That’s in addition to the finished Boeing will have to ready and deliver to airlines

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Eric Kulisch, Air Cargo Editor

Eric is the Air Cargo Market Editor at FreightWaves. An award-winning business journalist with extensive experience covering the logistics sector, Eric spent nearly two years as the Washington, D.C., correspondent for Automotive News, where he focused on regulatory and policy issues surrounding autonomous vehicles, mobility, fuel economy and safety. He has won two regional Gold Medals from the American Society of Business Publication Editors for government coverage and news analysis, and was voted best for feature writing and commentary in the Trade/Newsletter category by the D.C. Chapter of the Society of Professional Journalists. As associate editor at American Shipper Magazine for more than a decade, he wrote about trade, freight transportation and supply chains. Eric is based in Portland, Oregon. He can be reached for comments and tips at ekulisch@freightwaves.com
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