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Stock Analysis

Boeing Co. (BA) Earnings Quality assessment

Published on September 27, 2012 at 2:37 pm by Capital Cube in Stock Analysis

Earlier this year The Boeing Company (NYSE:BA) reported a net income increase of 3 percent in the second quarter (relative to the second quarter 2011) largely thanks to strong commercial aircraft sales. CapitalCube analyzes the Earnings Quality for the company. Our analysis include comparisons of The Boeing Company (NYSE:BA) against its peer group — to check if the company is being more aggressive or conservative than its peers. Our peer set for The Boeing Company (NYSE:BA) comprises: United Technologies Corporation (NYSE:UTX), Honeywell International Inc. (NYSE:HON), Lockheed Martin Corporation (NYSE:LMT), General Dynamics Corporation (NYSE:GD), Raytheon Company (NYSE:RTN), Northrop Grumman Corporation (NYSE:NOC), and Embraer SA (NYSE:ERJ).

If you missed our earlier reports on Boeing Co. (BA)  this week you can find them on our blog: Fundamental Analysis,Corporate Actions, Dividend Quality.

Accounting Quality

BA-US’s net income margin for the last twelve months is around peer median, which combined with relatively low accruals suggests a possible overstatement of its reported net income.

Management of Reserves

Boeing Co.’s accrual levels over the last twelve months are modestly positive but less than the peer median which suggests some amount of building in its reserves.

Material Categories

Excluding the effects of change in revenue, the accounting categories causing the most impact on the movement of net income from the prior period to the current period are Inventory, Pension Underfunded Amounts and SG&A.

Earnings: From Accounting or Cash Flow?

Net Income = Net Operating Cash Flow – “Accruals”

Accruals are estimates by company management of non-cash expenses, assets and liabilities that are recognized before they are paid. They are calculated as net operating cash flow less net income.
The analysis of accruals can help signal possible earnings management of reported net income and EPS results. For example, ‘Over-Accrued’ can signal under reported net income and/or the building of balance sheet reserve accounts, while ‘Under-Accrued’ can signal inflated Net Income results and/or release of balance sheet reserves to aid reported earnings.

Recent trend for BA-US’s accruals

The annual trend suggests that BA-US’s accruals to revenue ratio is less than (but within one standard deviation of) its four-year average accruals to revenue ratio of 2.3%. The increase in its accruals to revenue ratio to 0.0% from -0.6% (in 2010) was also accompanied by an increase in its peer median during this period to 2.1% from 1.3%.
On a quarterly basis, BA-US’s accruals to revenue ratio is less than (but within one standard deviation of) its four-quarter average accruals to revenue ratio of 1.9%. Though its accruals to revenue ratio has remained relatively stable at -0.3% compared to the previous quarter, its peer median has increased to 1.4% from -3.8% during this period. Relative to peers, accruals to revenue ratio fell 5.0 percentage points (and ended lower than its peer median).
Graph of Annual Accruals (TTM) showing Peer Median forBoeing Co. (BA)
Graph of Quarterly Accruals (TTM) showing Peer Median forBoeing Co. (BA)

Accounting Quality

Financials suggest possible overstatement of net income.

BA-US’s reported net income margin for the last twelve months is around the peer median (5.7% vs. peer median of 6.8%). However, the company has also recorded a relatively low level of accruals (1.0% vs. peer median of 2.7%) which suggests possible overstatement of its reported net income.
Accounting Quality or Net Margin vs. Accruals charted with respect to Peers forBoeing Co. (BA)

Management of Reserves

BA-US’s accounting suggests some amount of building in its reserves.

BA-US’s accruals over the last twelve months are around zero. However, this modestly positive level is also less than the peer median which suggests some amount of building of reserves.
Management of Reserves, Buildup or Drain? Charted with respect to Peers forBoeing Co. (BA)

Key Items Impacting Cash Flow

Other Income, Inventory and Intangible Assets have the most material impact on the movement of net income.

We assess the impact of various categories on the cash flow of the company by performing a variance analysis. For each category, this variance analysis measures the movement between the current and previous periods, normalized for the size of the company (e.g. days outstanding or percentage of revenues). This normalization eliminates any movement attributable to period-by-period growth and helps isolate the impact of any accounting policy changes the company might have made in recording the values in each category.
The chart on the right shows the impact of the top accounting categories on Boeing Co.’s cash flow for the current quarter. We consider both positive and negative impacts on the cash flow since the categories could have either decreased or increased the reported net income.
% Impact on Cash Flow forBoeing Co. (BA)
The table below details the impact of the major accounting categories on Boeing Co.’s net operating cash flow for the current quarter. While we have identified the major accrual categories, and conduct several tests on this standardized set, it should be noted that companies can sometimes have a non-standard accrual item that has a higher impact on the difference between net operating cash flow and net income.
Boeing Co. (BA) Earnings Quality assessment

Supporting Tests and Analytics

For further reference, we provide an extended analysis of the quality of accounting for each accrual category and the company’s results. We judge these results by comparing (i) against the company’s previous accounting policy — to ascertain if the policy has changed or (ii) against the peer group — to check if the company is being more aggressive or conservative than the peers or (iii) the appropriateness of the change and its implication.
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Company Profile

The Boeing Co. is an aerospace company, which manufactures commercial airplanes and defense, space and security systems. The company offers commercial and military aircraft, satellites, weapons, electronic and defense systems, launch systems, advanced information and communication systems, and performance-based logistics and training. The firm operates its business through three segments: Commercial Airplanes, Boeing Defense, Space & Security and Boeing Capital Corporation. The Commercial Airplanes segment develops produces and markets commercial jet aircraft and offers a family of commercial jetliners designed to meet a broad spectrum of passenger and cargo requirements of domestic and non-U.S. airlines. This segment also offers aviation services support, aircraft modifications, spares, training, maintenance documents and technical advice to commercial and government customers worldwide. The Boeing Defense, Space & Security segment’s operations principally involve the research, development, production, modification and support of products and related systems, such as global strike systems, including fighters, bombers, combat rotorcraft systems, weapons and unmanned systems; global mobility systems, including transport and tanker aircraft, rotorcraft transport and tilt-rotor systems; airborne surveillance and reconnaissance aircraft, including command and control, battle management and airborne anti-submarine aircraft; network and tactical systems, including information and battle management systems; intelligence and security systems; missile defense systems; and space and intelligence systems, including satellites and commercial satellite launching vehicles. This segment consists of three capabilities-driven businesses: Boeing Military Aircraft, Network & Space Systems and Global Services & Support. The Boeing Military Aircraft segment is engaged in the research, development, production and modification of manned and unmanned military weapons systems for the global strike, mobility and surveillance and engagement markets, as well as related services. The Network & Space Systems segment is engaged in the research, development, production and modification of products and services to assist its customers in transforming their operations through network integration, information, intelligence and surveillance systems, communication, architectures and space exploration. The Global Services & Support segment is engaged in the operations, maintenance, training, upgrades and logistics support functions for military platforms and operations. The Boeing Capital Corporation segment facilitates, arranges structures and provides selective financing solutions for its commercial airplanes customers. In the space and defense markets, it primarily arranges and structures financing solutions for its Boeing Defense, Space & Security government customers. Its portfolio consists of equipment under operating leases, finance leases, notes and other receivables, assets held for sale or re-lease and investments. The company was founded by William Edward Boeing in 1916 and is headquartered in Chicago, IL.

Disclaimer

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This article was originally written by abha.dawesar, and posted on CapitalCube.

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