The airline industry faces weeks, if not months, of suffering as demand dries up. Countries around the world — especially South Korea, Japan, Iran and Italy — have an urgency to slow the spread of the new coronavirus from China.
Not only does this bode poorly for airline stocks, but it is also hurting Boeing’s (NYSE:BA) prospects, too. After Boeing stock traded at 52-week lows at the end of last week, should investors consider buying shares?
To evaluate Boeing stock as a long-term rebound play, investors need to first weigh in the 737 Max troubles. After all, predicting the recovery in airline traffic is close to impossible.
Investors may only monitor the rate at which the virus is spreading globally. Then, they may start guessing when flights in restricted areas will resume.
Boeing Stock Faces 737 Max Headwinds
In a House of Representatives probe, the committee found that Boeing’s 737 Max suffered from technical problems and a lack of transparency.
Furthermore, the Federal Aviation Authority (FAA) gave an insufficient review of the plane. Although the report is damaging, giving the FAA more control over the certification process may help avoid another disaster.
Investors still do not know when Boeing will resume sales of the 737 Max. And the longer the plane is grounded, the more money Boeing stands to lose. Despite the uncertainties, the FAA will eventually conduct a certification test flight. When that eventually happens, Boeing stock will start to stabilize.
The company will still report weak results for at least the next 2-3 quarters. Yet the market is forward thinking and will value the company based on future sales expectations.
Bankruptcy Risks for Airlines
By the time the FAA certifies the 737 Max and Boeing then resumes sales, some of the airlines may declare bankruptcy. United Kingdom airline Flybe filed for bankruptcy on March 5.
Yet given their role in keeping prices low, the government and the companies in the airline industry will likely help these firms. The airlines will need temporary access to a credit facility. And once business resumes back to normal levels, they will also order 737 Max planes as originally planned.
Balance Sheet Woes
Boeing secured $12 billion in a bank loan to offset the negative cash flow from the lack of 737 Max sales. The firm needs the funds to compensate buyers of the grounded units. It also needs the debt raise to sustain its dividend of $8.22 a year. This decision will sway loyal income investors not to sell Boeing stock.
Still, this move only slows the drop in its stock price. Until the unit production ramps up, cash flow will keep dropping, adding more to its quarterly losses.
The best-case scenario for Boeing is that the world curbs the spread of the coronavirus, air traffic improves and the FAA certifies the 737 Max. In this case, Boeing stock may rebound back to the $300 level. Markets would price in strong airplane sales. A 10-year discounted cash flow revenue exit model may assume revenue growth by at least 2%. At a 9% discount rate and 2-times terminal revenue multiple, the stock is worth $325 a share.
The worst-case scenario is that flights fall as more countries ban air travel. For example, a few countries banned travel to South Korea as of Feb. 29. Add further delays to the 737 Max certification and Boeing stock may have further to fall.
In this scenario, investors may choose a 5-year DCF revenue exit model. On March 12, Boeing stock fell 18% to $155. Fundamentally, assume revenue falls by 45% this year but rebounds in fiscal 2022. In that scenario, Boeing stock is worth around $120 a share in the worst case.
Expect growing volatility in Boeing stock as markets decide on the medium-term prospects ahead.
Chris Lau is a contributing author for InvestorPlace.com and numerous other financial sites. Chris has over 20 years of investing experience in the stock market and runs the Do-It-Yourself Value Investing Marketplace on Seeking Alpha. He shares his stock picks so readers get original insight that helps improve investment returns. As of this writing, Chris did not hold a position in any of the aforementioned securities.