Boeing, a manufacturing pioneer, linchpin of the US defence business and survivor of a century of turbulence in the aviation industry, is facing a once-unthinkable prospect: having its debt rating cut to junk.
The aerospace giant is scheduled to detail its aeroplane deliveries for the month of May on Tuesday. The figures are expected to be a disappointment, and investors and analysts will be watching to see if the company can crank up deliveries — and free cash flow — in the second half of the year in the hopes of avoiding a downgrade.
Weak aircraft deliveries, an unclear recovery picture and a prolonged period of high debt relative to earnings have been cited by rating agencies as factors that could lead to them cutting Boeing’s rating to junk.
A drop to junk status could make it more expensive for Boeing to borrow. The sheer size of its capital structure, with nearly $58bn in overall debt, may prove difficult for high-yield buyers to digest a rush of new supply easily — sparking price swings. Boeing’s leadership has stressed the importance of maintaining investment-grade status, and investors and analysts expect the company to avoid a downgrade if at all possible.
“A balance sheet that size would have a lot of challenges financing itself in the high-yield market”, making it “a really difficult transition to high-yield”, said one asset manager who holds Boeing bonds.
“We would expect some volatility on a downgrade for sure,” said another portfolio manager at a big asset manager who holds Boeing bonds.
The aerospace giant is hovering at the lowest level of the investment-grade universe, after Moody’s joined the other top rating agencies in reducing its credit quality to “Baa3” in April — known as “BBB-minus” by its peers. At the same time, Moody’s, S&P and Fitch all lowered their outlooks on the company to “negative” — a move that can signal a higher probability of additional future downgrades.
Investors noted that Boeing’s bonds are already trading between the bottom of the investment-grade world and the top of the high-yield ladder, in a sign of its challenges to date and the changes made to its credit rating.
Among Boeing’s larger and more liquid bonds, one issued in 2020 and maturing in 2050 currently yields roughly 6.5 per cent. Another maturing in 2030 yields just under 6 per cent, while a bond maturing in 2025 yields just over 6 per cent. Those levels are higher than the average for all triple-B rated bonds, which stood at 5.7 per cent on Thursday, according to Ice BofA data. But they are lower than the average yield of 6.7 per cent for all double-B rated bonds, the highest rung of junk.
A company spokesperson declined to comment. Chief financial officer Brian West told investors in April that as Boeing managed its balance sheet, along with improving manufacturing and the supply chain, it would “prioritise the investment-grade rating”.
Boeing has struggled with free cash flow this year. It used nearly $4bn cash in the first quarter and now expects an outflow for the year.
A ratings committee would “weigh heavily” a scenario in which Boeing’s deliveries, and therefore its free cash flow, do not improve over the course of the year, said Moody’s analyst Jonathan Root.
The US Federal Aviation Administration has capped Boeing’s production of the 737 Max at no more than 38 per month. Delivering near that cap will be important for Boeing’s rating, Root said, as “a functioning commercial airplanes business forgives many sins”.
“What’s important is not the May number [of deliveries], but the trend, the slope of the line from July through December,” he said.
Six years ago, before the first 737 Max crash off the coast of Indonesia in October 2018, Boeing was rated “A” or “A2”— four notches above junk—by all three rating agencies. When a second jet crashed five months later, regulators worldwide grounded the jet for nearly two years.
The agencies dropped their ratings in late 2019 and early 2020, then again in the spring of 2020 as the Covid-19 pandemic took hold in the US, devastating demand for air travel and jets and disrupting the plane maker’s supply chain.
Boeing tapped the bond market for $25bn in April 2020 to help it weather the pandemic. It raised another $10bn six weeks ago to bolster its liquidity, as it anticipates $12bn in maturities coming due over the next two years.
Boeing’s leverage — the ratio of its total debt to earnings before interest, taxes, depreciation and amortisation — makes it an “outlier” among companies with the same credit rating, said Fitch Ratings analyst Nicholas Varone. The multiple is expected to fall from the “mid-teens” in 2024 to four times ebitda by 2026.
The “lack of a pathway back” to improved production and deliveries, and the resulting hit to cash flow, would be one factor that could trigger a downgrade to junk, Varone said. But he said he expected the company to improve in the next six to 12 months and that it was more likely to keep its investment-grade rating rather than lose it.
Investors are comforted by the reality of the commercial aviation market, where airlines only have two suppliers: Boeing and its rival Airbus.
“We think there’s a pretty low likelihood that it’ll actually get downgraded,” said Adam Abbas, head of fixed income at Harris Associates, a Boeing bondholder. “It’s a duopoly,” he noted, adding that “too much negativity is built in . . . to assume that Boeing’s issues today are going to be issues in three to five years”.
https://www.ft.com/content/d0bd3b07-b12b-4839-aa01-9034597cb7bd
