Monday, May 10, 2010

Boeing (NYSE:BA): Running the gamut of positive global themes; upgrade to CL-Buy - Goldman Sachs

Goldman Sachs is upgrading Boeing (NYSE:BA) to a Buy from Neutral and are adding the name to their Conviction Buy list with a $90 price target.

Firm notes they have been very bullish on Aerospace since they upgraded the sector to Attractive in May of 2009. However, the firm hase only been Neutral on Boeing during that time, as their thesis had been that the suppliers would outperform BA. What they have missed with Boeing, and why they think it will continue to outperform, is that it spans nearly every positive global theme that is driving outperformance in stocks today: BRICs exposure, credit normalization, a product story, the consumer recovery, favorable industry structure, and favorable company-specific dynamics. Given these drivers, near-term catalysts, and upside to estimates, they upgrade BA to CL-Buy.

Goldman remains very constructive on the fundamentals of the Aerospace sector, to which Boeing is clearly levered. Air traffic is growing again, and orders have likely bottomed. While BA shares have had a strong run from the trough, we are only one year into the next cycle, which historically has been a 3-5 year process. Furthermore, the upcoming cycle is very unique, given Boeing’s now proven ability to manage the cyclicality of its business.

There are near-term positive catalysts to drive further multiple expansion, and there is significant upside to consensus estimates, particularly on the BCA margin. The May Analyst Day, 2Q 737 production announcement, and July Farnborough Air Show could all drive shares higher. The recent selloff provides a great entry point, and the sharp move higher in BA implied vol suggests somewhat reset, lower expectations.

While stocks in this group, including BA, are up significantly off their lows, Goldman encourages investors to focus on 1) that a big part of the move seen thus far is attributable to a realization that OE production rates would not be cut (they estimate at the trough the group was discounting the typical 30-40% peak to trough cut and resultant significant earnings deterioration), and 2) as they show in Exhibit below, an Aerospace upturn is typically a multi-year process, and when Boeing begins to outperform following an order trough, it tends to then do so for several consecutive years. Investors may have missed the first leg of the move (or may think it’s time to sell if they participated), but Exhibit below argues there is outperformance left in BA shares.

Potential for P/E and E to work together from here
As a cyclical stock, in an upturn BA typically goes through a “multiple expansion phase” in which the P/E is increasing (in anticipation of future earnings growth) while EPS is declining, and then an “EPS growth phase” where the P/E levels out and then declines as EPS grows into the multiple. This early in an economic recovery the firm would typically be looking for further multiple expansion—but with declining EPS because late-cycle aircraft production would be declining (the net would be the stock going higher). But because of how Boeing has managed its backlog, it is raising production, and they are expecting an average of 20% EPS growth for the next three years beyond 2010. At the same time, the stock trades at only 13X GSCO 2011E estimate, at the low end of its historical range, and with traffic growth accelerating, they believe that P/E likely goes higher from here.

Exhibit (8, above) shows that the current rolling-NTM P/E (using consensus estimates) has expanded from the trough to 16x. In the last two cycles, that multiple expanded to 25X- 30X before EPS grew into it, implying there is room for further multiple expansion from here. They therefore believe it is possible the stock is entering a rare period in which both the P/E and E are moving higher at the same time.

Multiple near-term positive catalysts to point to
It is Goldman's view that now is a great time to build a position in BA, given the recent pullback and the numerous near-term positive catalysts, including the following.

1) Boeing’s Annual Investor Day (May 19 and 20).
2) A likely announcement of higher 737 production rates (either May or June).
3) The Farnborough Air Show.

Notablecalls: So the market kindly (!) offers you another chance to buy Boeing, following that wonderful upgrade from Credit Suisse some weeks ago.

Make sure you grab it.

Given the state of things this morning it's rather impossible to say where the stock will end up today but I would not be surprised to see 5-7% move in the name.

I'm more interested in this stock as a longer-term bet.

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