Boeing (NYSE:BA) has huge growth potential in India, which it hopes to exploit in the coming years. However, it’s 787 Dreamliner program which is running behind schedule and has recently been hit by additional delays, is threatening to sour its relations with Indian carriers. Boeing principally competes with other global jet manufacturers like Lockheed Martin (NYSE:LMT), Northrop Grumman (NYSE:NOC) and Airbus (EPA:EAD). We have a $91 price estimate for Boeing.
India’s Burgeoning Demand
Boeing has indicated that it sees bright future prospects for its business in India. India is one of the fastest growing commercial aviation markets in the world, growing at a rate of eight percent.
This growth is expected to be maintain with industry experts claiming that currently only the surface of aviation potential in India has been scratched and the future is “unbelievably good”. According to Boeing’s market estimates, the Indian aviation industry will need 1,320 commercial jets over the next two decades, valued at $150B.
In the near term, Boeing expects around 37% of its sales to come from Asia Pacific with India forming a major chunk of these sales. Presently, Boeing has an order book of over 100 aircraft from various Indian airlines. This includes the order for 787 Dreamliners by Air India (27) and Jet Airways (10). The booming business in India has also forced Boeing to set up a MRO (maintenance, research and operations) facility in Nagpur. This should be operational by the end of November 2012.
Spat with Air India
However, not all is rosy for Boeing in India given a recent spat with Air India regarding the late delivery of 787 Dreamliners. Air India had ordered 27 Dreamliners in 2005 whose delivery, as per the original schedule, was supposed to start from September 2008. Boeing, though, failed to stick to the delivery schedule.
It has completed the GE certification for the 787 aircraft in recent weeks and will deliver its first plane in May. These delays have prompted Air India to seek a compensation package from Boeing as a mixture of discount on services and cash. Air India is cash strapped while reeling under a huge debt burden and is having trouble meeting its working capital requirements.
Therefore, it is looking for more compensation in cash compared to other forms. As a means of freeing up more cash, Air India has decided to sell and leaseback the first seven of the 27 planes it has ordered and is looking for bridge financing worth $230 million. This arrangement will help Air India to sell the planes to a buyer who will lease them back to it. According to reports, Air India is said to have demanded $1B as compensation on its order which has a list price of $5.2B. Recent reports indicated that Boeing had agreed to pay $500M in compensation but recently senior officials of Boeing have clarified that they have agreed to no such compensation.
Limited hit on profitability due to store credit system
Analysts believe the compensation to Dreamliner customers will mostly be handed out in the form of “store credits”. This will mean discount to customers on buying 737 or 777 aircraft. While this will protect the profitability of the Dreamliner program, it will impact the profitability of Boeing’s overall business if all the Dreamliner customers (over 50 as of now) start claiming compensation for late deliveries.
However, we feel the credit system is a very smart move by Boeing and will ensure that their profitability does not take a huge hit. While on the one hand it will ensure that all customers do not claim the compensation, it will also ensure that those who do offset the company’s loss by offering it more in revenue. It is a classic case in which the company is trying to maintain sales growth at the expense of margins.