There are many aspects of The Boeing Company (BA) that are appealing as a long-term investment. Boeing operates in a concentrated industry, essentially dominating the commercial aerospace market with its only major competitor being Airbus. Boeing has global scale and durable competitive advantages.
Nevertheless, the elevated level of headline risk facing Dow stock Boeing could continue to be an anchor on the stock valuation. Boeing stock enjoyed a massive rally over the past few years, and as a result the stock now trades well above its historical average. Given the lingering uncertainty, investors should wait for a better price to buy Boeing stock.
Long-Term Competitive Advantages Remain Intact
The Boeing Company is the world’s largest commercial jet manufacturer, and second largest military weapons producer. The company has been in business since 1916. In the last 100+ years, the aerospace and defense company has gone from making canvas and wood airplanes to producing today’s advanced planes, with Boeing helping to drive some of that change. It is composed of three divisions: Commercial Airplanes, Defense, Space & Security and Global Services.
Boeing possesses very strong competitive advantages that should enable it to continue growing its earnings over time. These consist of its large scale, and intellectual property. Its large scale gives it economies of scale as well as strong pricing power with suppliers and an ability to be one of the few aviation manufacturers who can take on large projects with the capability to complete them in an attractive time frame. Its intellectual property rights protect its world class portfolio of aviation products that it sells to both governments and private companies, thereby keeping competition at bay.
As a result, it competes for a vast array of contracts and has numerous contacts that it receives regular business from. This competitive advantage is particularly evident in the company’s relationship with the United States Government. The company – as a highly respected and trusted partner – is often the manufacturer of choice when the government needs a high tech space or military aircraft produced to accomplish no fail missions. Switching to a smaller and untested competitor, even if more economical to do so, is often viewed as taking on untenable risk.
Further backing the company’s growth is its ongoing investments in the research and development needed to sustain its competitive advantages in intellectual property. These should continue thanks to the company’s strong balance sheet with an A credit rating. With its operating income covering its annual interest costs by 25 times, there is very little risk in servicing its debt. Additionally, the company’s $7.7 billion in cash gives it plenty of liquidity to invest where needed.
While the long-term picture remains positive for Boeing, the uncertainty caused by separate plane crashes over the past year involving the 737 MAX model could continue to weigh on the stock. Boeing expects to resume production of the 737 MAX at some point in 2019, but this is not a guarantee. The most recent quarter showed the impact of weak results, as Boeing's core EPS declined over 10% due to lower shipments. Boeing is a good example of a high-quality company, but an unattractive stock due to a high valuation.
Boeing Stock: Low Expected Returns
The only problem with buying Boeing stock today is that the valuation remains prohibitively high. The share price is now trading at an earnings multiple that is clearly in excess of its historical averages. With the share price currently at 23 times this year’s earnings against a multiple of 18 that is typical in the company’s recent history, we therefore expect an annual multiple contraction of 5% over the next half decade. This will then negate a sizable portion of our expected 8% annual return from earnings per share growth. Adding on the 2% dividend yield and expected annualized total returns come in at a mere 5%.
While the company is truly a global giant in its industry and has a strong balance sheet to boot, its total return potential is just not enticing enough to warrant a buy right now.
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