Boeing [BA] on Wednesday said two of its Air Force development programs, the VC-25B presidential transport plane and the T-7A trainer aircraft, suffered more than $1 billion in combined write-offs, adding to the steady drum beat of development challenges the company’s defense business has encountered on various programs.
The $660 million hit to the VC-25B program was due to higher supplier costs, higher costs to finalize technical requirements, and schedule delays, Brian West, Boeing’s chief financial officer said during the company’s first quarter earnings call. The T-7A Red Hawk was dinged for $367 million on supply chain constraints related to COVID-19 impacts during the first half of the quarter combined with higher inflation, he said.
All told, the defense segment took $1.3 billion in charges in the quarter.
The other charges include $165 million on the Air Force KC-46 tanker, which has been clobbered by more than $5 billion in write-offs over the life of the program so far. The latest charge relates to higher supply chain and other costs.
The aircraft is being used in operations and is approved to refuel 85 percent of receiver aircraft requesting support from U.S. Transportation Command, including stealth low-observable aircraft, a company spokeswoman said.
The Navy’s MQ-25 unmanned aerial refueling aircraft, another fixed-price development program that Boeing has in its stable, took a $78 million charge related to additional engineering support for testing and certification. The spokeswoman highlighted that given the MQ-25 is an unmanned aircraft it has extensive requirements to ensure it can operate safely with other Navy assets.
During the earnings call, some analysts asked if Boeing is experiencing engineering challenges across the company that have led to the challenges. The commercial aircraft segment took nearly $4 billion in charges during the quarter related to work on its 787 wide-body passenger plane and delays and abnormal costs in the 777-9 passenger aircraft in development.
Dave Calhoun, Boeing’s president and CEO, said an earlier restructuring of the engineering organization aimed at improving aircraft safety has “been fantastic.” He also pointed out that the defense unit’s fixed-price development contracts were awarded before the COVID-19 pandemic began and prior to recent inflationary pressures, which have nothing to do with “engineering shortfalls.”
Fixed-price development contracts are inherently risky because development challenges and schedule delays typically lead to higher costs, frequently borne by the contractor.
Boeing’s wins on the MQ-25 and T-7A were at least due in part to aggressive bids where the company took on risk that it might suffer during the development phases of the programs. These programs were bid, and won, by Calhoun’s predecessor, Dennis Muilenburg, who touted that these would be long-term franchises for the company and contribute important sales and earnings once in production where costs can be better managed.
Calhoun said he doesn’t plan on making these mistakes.
“I have a very different philosophy to fixed-price development, and so I don’t expect and I hope never to contribute to that issue,” he said.
Calhoun was a board member when Boeing won the MQ-25 and T-7A programs and understood at the time they would have upfront risks.
“And yes, they were written off the day we took them knowing that we would be investing a fair amount of our own money in the future of those airframes,” he said. And while the development costs have exceeded the company’s expectations, over time, he expects the programs to be “really good bets” with long-term sales and profits.
During Muilenburg’s tenure, Boeing also took on additional risk on the VC-25B, which former President Trump threatened to cancel after questioning the cost of the program. Boeing agreed to cut the price.
Calhoun didn’t directly address the unusual pressure Trump exerted on the program, saying “I’m just going to call a very unique moment, a very unique negotiation, a very unique set of risks that Boeing probably shouldn’t have taken. But we are where we are.”
In the quarter, the Defense, Space, & Security segment posted a 24 percent drop in sales to $5.5 billion driven by the charges and lower volume. The segment swung to a $929 million loss versus $405 million in income a year ago.
Backlog in the defense segment was down $89 million to $5.7 billion since the end of 2021.
Boeing does expect a “modest decrease” in defense segment sales in 2022 versus 2021 due to the first quarter charges, West said. Sales in 2023 are expected to “return to stable levels,” he said.
Overall, in the quarter, Boeing’s sales tumbled 8 percent to $14 billion from $15.2 billion and the net loss widened to $1.2 billion, $2.06 earnings per share (EPS), versus $561 million ($1.53 EPS) a year ago. The loss in core earnings widened to $2.75 EPS from $1.53 EPS a year ago, $2.50 per share worse than consensus estimates.
The commercial aircraft segment posted a 3 percent drop in sales to $4.2 billion and operating losses of nearly $860 million were similar to a year ago. The Global Services segment turned in a strong quarter with higher sales and earnings driven by commercial work.
Free cash in the quarter was an outflow of $3.6 billion but the company still expects to be cash flow positive this year and materially better in 2023, West said. The company also still expects sales this year to be higher than in 2021, driven by more airplane deliveries and growth in commercial services, he said.