Spirit AeroSystems – Q2 2014

We’ve probably all heard the overall news: Spirit knocked it out of the park in Q2, at least as far as the financials are concerned. Even those who are uninitiated in the financial realm could probably discern that result from two data points: Spirit stock (SPR) skyrocketed $4.28 (13.15%) on the day of the call, and our current STIP score was announced to be a big fat 2.0 for the quarter.  You don’t have to be an accountant to know that those are… pretty good signs.

It might sound a bit masochistic, but the good quarters are generally less fun to listen to than the bad ones. All in all, I’d rather be bored and secure than intrigued and unemployed, but it does certainly take the edge off of these earnings reports when everything seems to be sunshine and roses.

The call itself was expectedly uneventful. I don’t know Mr. Lawson at all on a personal basis, but if you ask me, there was a hint of swagger in his opening presentation, almost like, “Yeah, we did pretty dang good, huh?” Mr. Kapoor seemed comfortable and relaxed throughout the presentation and questions, and seems to have settled in rather well as CFO. Honestly, even the analyst questions that usually provide some unique perspective were pretty dry this time. One of them joked around with Lawson about Spirit’s results being a relief in an otherwise bleak earnings season. If you watch the market, you’ll know it’s dropped quite a bit in the last week due to some less than stellar earnings from other companies, so Spirit’s results were a small breath of fresh air.

One interesting tidbit that wasn’t directly mentioned in the call is that due to Spirit’s stock buyback (where they, as a company, purchased some of their stock off the market, making existing shares more valuable and competitive), Onex is no longer majority owner of the company. While this doesn’t change the day-to-day operations or even really impact our financial results, it is definitely a step in us becoming a “big boy” company. I believe, and this may be incorrect, that Spirit should now be on the Fortune 500 list based on our gross revenue, and the only thing preventing us from appearing on that list was that we were majority owned by another company. Could be wrong, and it’s not really that critical anyway, but I found it noteworthy.

Since there wasn’t a tremendous amount of heady content to fret over this quarter, and since almost everyone I know likes extra money, I thought this quarter I’d dig into the new STIP score calculation and reiterate a few basic financial concepts along the way. Plus, I know us engineers like our math and minutiae, and this will appeal to those tendencies more than my past write-ups.

Spirit’s official STIP page details the new weighting for calculating the overall company STIP score, which accounts for 70% of your overall year-end bonus. The metrics are:

5

I think I complained about the lack of visibility in this score in a previous quarter. This new method has remedied that, in my opinion, as I’m actually now able to make a reasonable, if not 100% accurate calculation, which I’ll demonstrate shortly. There are still some assumptions which aren’t clear to me that can affect our score tremendously, but if we don’t post losses (*cough*) they won’t become relevant. For instance, one assumption you could make is that negative metrics (say, negative cash flow), don’t negatively affect the score other than by creating a 0 for that category. In other words, if we met Revenue and EBIT targets exactly, but had negative cash flow equal to our projections, would our score be .25 + .25 + 0, or .25 + .25 – .5? Don’t know. Another question is whether the score reported quarterly is based solely on the quarter or if it’s a running total. Marshall Warren (a fellow engineer) asked Sam Marnick about this, and she had the following to say:

“The score reflects where the end of year performance is expected to be based on our performance to this point in the year. This means the score could change next quarter or in the final quarter if our performance deteriorates.” –Sam Marnick, CAO

To me, that sounds like the score we get each quarter is more of a projection of how the whole year will end up based on what we know so far. It’s a little less defined than I’d like, but it’s still a marked improvement, and as long as we stay positive, I think I can get reasonably close on the score. The last big assumption I made is that the target for a 1.0 score is Spirit’s original financial guidance for the year. Given enough data points we could back these out, but since we only get 4 data points a year (and 3 unknowns, right?), I’m just going to assume around it and hope it’s close.

Here’s how I calculated it, and time will tell if I’m at all in the ballpark:

  • I took the high end of the 2014 guidance ranges from the Q1 earnings release (note that I used EPS instead of EBIT… they’re not the same thing, but I don’t have a projection for EBIT here and the ratio should be fairly constant):

1 – 2014 Financial Guidance:5.5

  • I then took each quarter’s performance from the consolidated results on the earnings releases:

2 – Q1 Consolidated Results:7

3 – Q2 Consolidated Results:6

  • Aaaaand I slapped it into a spreadsheet and put in my assumed equations for calculating the score:

4 – STIP Calculations:8

Now, the trick was to make the future projection based on current performance that Sam Marnick told us about. What I did there was take the latest quarter and assume performance would be exactly identical for Q3 and Q4. The only number that really matters is the end of year – the payoff is only based on the final one, so that’s bold and highlighted red. Future quarters for which I made predictions and don’t have official data are in yellow:

5 – End of Year Predicted STIP:9

I feel pretty good about the 1.91 because Spirit’s internal projections for the back half of the year are probably higher than the results for Q2, otherwise they might not have positively revised their guidance as they did (again) this quarter. Also, that .09 gap could be partially eliminated if I used the lower end of the financial guidance instead of the higher. At the same time, my final metrics are over their updated full-year financial guidance, even updated. I’ll keep watching and maintaining this spreadsheet (it’s only 3 cells per quarter =Þ) and keep folks apprised of my findings. For now, we can celebrate the 2.0 and hope that it continues with solid performance into the future!

The final interesting point on the STIP score, and one that I remain cautiously optimistic about, is that 75% of the score is unlikely to be impacted by any forward losses that may occur in the current fiscal year. As we’ve seen before, forward losses directly impact earnings, but have no direct bearing on revenue and only long-term bearing on free cash flow. While I’m still uncertain exactly how the math for this works, using their calculation metrics it seems likely that the score will remain high, even if we get surprised by another big write-off. But I could be wrong, so don’t come after me with torches and pitchforks because I can’t predict the future.

Suggested Mini-Lesson

To close, we should reiterate what all these concepts we talked about actually mean. See the mini-lesson Burger Joint Basics for more!