It’s that time again! Spirit announced our 2015 first quarter earnings, and they were dressed to impress. This quarter there were a couple of unifying themes among the analyst questions that we’ll discuss, and a few mighty fine answers from Mr. Lawson and Mr. Kapoor. I’m not in the business of making stock buy/sell/hold recommendations, but the gist of this is that I like where these gentlemen have the company headed. And just to throw a nifty fact in, Spirit stock was around $20 when Mr. Lawson became CEO in 2013; it now sits around $50. So that’s neat.
Before we get to the “themes” of the call, let’s quickly talk the numbers.
Revenue (money we got paid by customers) was up just slightly this quarter compared to last year — but keep in mind, we lost $50M of revenue from the Gulfstream divestiture, so if we account for that, revenue was up a solid 4% year over year (Q1 of 2015 vs. Q1 of 2014). Operating margin (discussed in the mini-lesson) was a solid 13.5%, and net margin was 10.4%. Those are some stellar numbers. Not that anyone is comparing but uhhhh, Boeing’s operating margin for Q1 2015 was 9.1% and net margin was 6.0%. I’ll just… leave those numbers there and let ’em simmer.
We also had massive free cash flow this quarter — $384M. As a reminder, free cash flow is essentially money with no name. We’ve paid our bills, bought materials, paid salaries, everything, and at the end of the period we found ourselves with $384M sitting around. Like we’ve been doing lately, we saved this money. Spirit could now write a $750M check (up from $378M at the end of last year, so they saved $372M of this quarter’s $378M free). If you’re paying attention, you might be wondering how free cash flow, which is usually the lowest number when we talk about earnings because the most things are taken out before you get there, was higher than both net income and operating income. The secret is that $170M of that was cash kickbacks from the Tulsa sale (didn’t Sanjay tell you it would be a net positive?), and a few other one-time events that contributed to that huge number. This is why our guidance of free cash flow for the year is still $600M-$700M when we did over half of that this quarter alone. The “trending” free cash flow from this quarter is closer to $200M.
Okay, pretty solid numbers! Good margins (whose meaning will be discussed in depth in the mini-lesson), and, even if it was a little puffed up from some one-time stuff, great free cash flow. So, let’s get down to the fun part: what were Spirit’s analysts wondering about?
First off, there was a lot of giggling and joking around on this call. These are the kinds of intangibles that make listening to the call worthwhile even if you sometimes get lost in the accounting terminology. Bad quarters don’t result in the lighthearted exchange of chummy business jokes. That’s always a good sign when everyone’s in decent spirits (puns). Another thing I’ll say on the tone of the call is that it’s clear to me that Sanjay Kapoor has a brilliant financial mind. In early calls right after he joined the company, which were coincidentally some of the toughest quarters to talk to analysts, his presentation was rough around the edges and he didn’t seem 100% comfortable. Today, he blew me right out of the water. He now knows the business inside and out and has made some really intelligent moves that are starting to pay off in real ways.
Without a doubt, the biggest question on the analysts’ minds was how A350 is coming along. At least 4-5 questions were asked specifically about that program. So, how do our executive leaders think it’s going? Larry responded to one question by pointing out that we’re on ship-set #33, and we’re making plan as far as production, and that typically you don’t get a really solid idea of how costs and productivity are coming until #100. He didn’t express great concern over the program at any point, even though the analysts were grilling it. This is just “Travis” opinion, but having listened to these calls regularly over the last few years, it seems like the 787 got the exact same questions and level of attention when it was in this phase of its life cycle. It’s late in the development, so there’s lots of non-recurring costs like tooling and engineering that haven’t shown any real, considerable profit. But… I mean, ramping up manufacturing and delivering to customers is what Spirit is a world-class rock star at. Sure, there are risks this early, and everyone’s excited to start seeing some profitability out of the program. But everything about our leadership’s presentation today, and answers to the numerous A350 questions, bespoke utter confidence in our ability to make the program successful in the future.
A few more points. Spirit’s cash pile has been a topic of much discussion in the last few quarters since our earnings and cash generation are smoothing out. Lawson chuckled when one of the analysts asked about it in a more-or-less indirect way (he asked what our strategy for capital deployment was — how much cash do we want on the balance sheet). Larry’s answer was that returning capital to shareholders was a priority, and some of the things Sanjay has structured allow us to do that in the future in one or several forms, but he wasn’t ready to say anything concrete. He emphasized that we’re focused on reinvesting in ourselves — and his money is where his mouth is; a talking point today was the deployment of $100M of capital expenditures on automation tools and factory layout improvements. The shareholders… they want dividends. Badly. They see that big hoard of cash and think it’s about time they got in on the game. And that’s okay. Larry and Sanjay realize it’s something they’ll need to do in the future. But I’m very glad they’re staying so focused on the health and stability of the business first. I also think they’re making intelligent long-term decisions. One analyst asked about other ideas in improving our costs and mentioned outsourcing specifically. Lawson said what we do is “skill and scale.” That surety of supply and quality are our reputation, and we have people who can give us that. That we want to make sure we do things right. I’m encouraged by this. Outsourcing and make/buy decisions can appear to shave costs out, but can be detrimental long-term, and our leadership recognizes that. This doesn’t mean stuff won’t ever be outsourced, or bought instead of made, or whatever. But it does mean that we’re not going to make snap decisions based on a cost-benefit analysis that shows a short-sighted savings but costs us long-term, or on our quality and reputation.
Finally, Lawson made some more comments that were worth mentioning. The question wasn’t super relevant, something about A350 and how worrisome it was. Lawson basically went back to basics and described the nature of the aerospace industry, and it’s good for us all to remember. Where Spirit makes its money is at high rates of production. When you can take aaaaall the expensive costs of designing and building an airplane and start to spread it out over a lot of units, those costs become less gargantuan. It takes a billion dollars to build plane #1. Design, tooling, supply chain, certification… yeesh. But then when you start to divide it out over 50 planes, or 100 planes, or 1000… well, it starts to make a lot of sense. Many of Spirit’s “troublesome” design programs are transitioning to a production mode, where we recoup costs. We eliminated some programs that we didn’t think had as promising a future, because Spirit’s aggressive expansion in its early years left it in a cash crunch, and what’s left is turning into a lean, consistent, solid portfolio.
As my fellow engineer/MBA friend Nic Hovey said, “We rounded the corner from good performance last year to predictable performance this year.” I think that pretty much says it all.
Suggested Mini-Lesson
Oh, and hey, on the mini-lessons, I’m starting to write them ahead of time, so I can produce the quarterly reports more quickly. If there’s something really really good from the earnings call, or something of vital importance, I’ll write one to match. So expect to see the mini-lessons be a little more generic and less Spirit-specific. Love it? Hate it? Let me know!