Podcast: Why Did Boeing Pull A U-Turn On Spirit Aerosystems?

Talks to acquire troubled aerostructures supplier Spirit Aerosystems hold big implications for Boeing—and Airbus. Our editors break it down.

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Transcript

Joe Anselmo:     

Welcome to this week's Check 6 Podcast. I'm Joe Anselmo, Aviation Week's editorial director and editor-in-chief of Aviation Week & Space Technology magazine. Nearly two decades after Boeing sold off its main aerostructures operation in Wichita, Kansas, to a Canadian private equity firm, it may want Spirit AeroSystems back. The question is why. Boeing confirmed that it is in preliminary discussions to reacquire Spirit. Such a deal would allow Boeing to reintegrate production of its key aircraft structures at a time when it is under intense public pressure to improve safety.

But a lot has changed since 2005. Spirit, now a publicly traded company, has expanded and now supplies an array of other customers, including Boeing's arch-rival, Airbus. And skeptics say it makes no sense for Boeing to take on even more debt to buy a troubled supplier.

Here to break this all down for us are three Aviation Week editors; Michael Bruno, who leads our business coverage and has written extensively about Boeing and Spirit; Jens Flottau, who leads our commercial aviation team from Europe and closely follows Airbus . And rounding out the discussion is Defense Editor Steve Trimble, who believes the acquisition of Spirit could be a "surprise coup” for Boeing's defense business.

Michael, let's start off with you. Boeing CEO Dave Calhoun has been focusing on improving the company's finances and paying down debt. So now he's considering taking on even more debt to fix a struggling supplier? Are things really that bad?

Michael Bruno:  

That's one of the great questions out of this announcement that emerged on March 1. And it started with leaks early in the morning and it ended the day with confirmation by Boeing and Spirit that they're in preliminary talks, Joe, as you said in the beginning, and that's about all we know. We don't know anything else about how a deal could be structured and amongst the 500 or 500 million questions we all have regarding this subject, we don't know how a deal would be paid for. One question is, how much is Spirit actually worth? How much is it worth to Boeing, which basically already has a lot invested and certainly controls the fate in a strategic business sense of Spirit AeroSystems already. So, how much would they pay for it? How much would Spirit demand? Spirit's leaders, of course, would expect to get a premium or so you would hope if you were a stakeholder in Spirit, you would hope that their leadership there is going to drive for the greatest price and the greatest return for shareholders there and everybody else involved.

But if things are more desperate than everybody's been led to believe, and some people I've talked to over the past few days think this is a sign that things are more desperate than everyone believes, then you wouldn't get a premium at all in a deal. If the deal is for survival, nobody really cares about value. So, I don't know if we have enough time on this podcast just to talk about how the deal would be structured, but so many questions remain to be answered.

Joe Anselmo:       

This isn't a new idea. I've asked you about this for the last couple of years and the answer was always, "Nah." You were echoing Wall Street's conventional wisdom. This just makes no sense. But I'm looking here at a research note from JP Morgan and they say, "We think a transaction is likely. If Boeing is granting that a combination with Spirit would enhance safety, then it would seem there is no choice."

Michael Bruno:   

Let's back up for a moment, so everybody in the audience remembers that Spirit AeroSystems divested from Boeing in 2005, as Joe said in the beginning, a private equity was involved and eventually the private equity owners helped spin it into a public company starting in 2006. So for almost 20 years here, Spirit AeroSystems has been a standalone company, but in reality it was tied at the hip to Boeing as the first among equals when it comes to suppliers for Boeing's large commercial aircraft.

Boeing has been asked and Spirit has been asked, almost entirely since the day Spirit got divested, would the two of them ever go back together again? And through multiple CEOs, Spirit's answer has always been, "We're a public company. We'll accept anybody's proposal, we'll review it.” That's part of being a public company and the responsibility of the board of directors. Boeing, however, through multiple CEOs, has said over the same time, "No, we're just not interested in doing it." There were supposedly cost benefits to be had from divesting Spirit and that's why they did it.

So, here we are 20 years later, complete reversal. On March 1, we find out the two companies are talking and amongst the reasons they say in their very short statement, according to Boeing that they're considering this now, is that safety is a primary concern for bringing them back together and the improvements on safety. But that'll lead people to think, "Wait a minute, how bad are things and why didn't this happen sooner? And what happens now if a deal is not consummated?" Because that's always a possibility in every M&A. You have to look no further than Lockheed trying to buy Aerojet Rocketdyne or Lockheed Martin and Northrop maybe getting together in the late '90s. Deals that are proposed sometimes don't happen, and if this doesn't happen, what happens to Spirit then? So, I know what JP Morgan is talking about in the sense that why would they bring up a deal if they weren't actually serious about trying to pursue one? Okay, that's true. But then again, what happens if it doesn't come through and why now? Why did they reverse course so completely?

Joe Anselmo:      

Jens Flottau, I noted at the beginning that you're based in Europe, but you're actually in Austin, Texas, today at the ISTAT Americas conference. Spirit builds the wing, leading and trailing edge elements for the A320, Airbus's bestselling family. Airbus isn't going to let that go to Boeing, is it?

Jens Flottau:     

 For sure not. But I'd like to also back up for a moment and go back a little bit in history, because after Spirit was spun off from Boeing, Airbus decided, "We need to do kind of the same thing." So they carved out their aerostructures subsidiaries in France and Germany and the plan was in the late 2000s to sell them. That never came through. At times they were really close to doing it. But then again, in the past few years, they've made their own U-turn and decided that now they are core business again. They will not be sold. They're reintegrated into the core IT systems and so on. And one of the main reasons was that they were treating them as a normal supplier and that the relationship between the aerostructure subsidiaries and Airbus was transactional, it was very formal, decisions about parts, pricing and so on took forever. It was very, very difficult and slow and they thought that they needed to speed this up.

So, when I heard about Spirit and Boeing, my immediate response and thought was that I don't know why they're doing this. If they can't fix their own house, how can Boeing think that they will fix Spirit? But looking at the Airbus example, I do see merits in getting such a core activity closer to the core group. And yes, Joe, coming back to your question, it's not only the A320 actually. So, more importantly on the A220, Spirit builds the wings and the center fuselage. On the A350, they build panels for the center fuselage, the wing front spar and the leading edge. So Spirit is involved in several Airbus programs and of course if it gets bought by Boeing, there's no way Airbus will accept that.

So, the scenario that I see is that if the Boeing part of the deal happens, then there will also be an Airbus part of the deal. The two sides have been talking for some time about financial support from Airbus, but to Spirit. Those talks have not concluded and Airbus has demanded that if we're going to help you Spirit, then you'll have to give us guarantees that your performance is improving. And so it's a tense situation and obviously the Boeing news is likely to change everything again.

Joe Anselmo:     

Steve Trimble, you're somewhat famous here for always ferreting out interesting angles that nobody else thinks about, and I think you've done it again. You analyzed this proposed deal and said that it actually could be a plus for Boeing's defense business. Tell us why.

Steve Trimble:   

Well, thank you for saying that, but a caveat and just be clear, I'm not saying that this is a game changing thing for Boeing Defense or that it solves all their problems on Boeing Defense. They've still got those issues. And it's not a huge business, as Spirit AeroSystems has about $800 million in defense sales a year. That pales in comparison to $24 billion at Boeing Defense and Space. With that said, though, there are some really interesting programs that Spirit AeroSystems has in their defense business that over time I think could make a big difference for Boeing, even if it's not the kind of business that Boeing would naturally be interested in right now, because they're not an aerostructures company. They like to be a defense prime, not a sub-tier.

So that said, let's talk about some of these programs. So people probably remember about a decade ago, Boeing and Lockheed Martin were teamed up trying to win this Long Range Strike Bomber contract, but they lost in 2015 and that contract was awarded to Northrop Grumman, which is now building the B-21, and Spirit AeroSystems is a major aerostructure supplier on that program, fulfilling a role that is not unlike perhaps the role that Boeing played on the B-2 back in the day. And another program people probably remember, it wasn't too long ago that Boeing was teamed up with Lockheed Martin trying to win the Future Long Range Assault Aircraft for the Army, FLRAA. They lost that as well, and that contract went to Bell, which is building the V-280. Spirit AeroSystems is the fuselage supplier for that program, also fulfilling a role that Boeing has been playing for decades with the Bell/Boeing V-22 Osprey where they are the fuselage supplier. Now in that case, Boeing is also the co-designer of the V-22, and that's not something that Spirit AeroSystems does on the V-280, but it's still a big chunk. And you look at those two programs, those are huge programs for both the Air Force and the Army that are set up to grow significantly, especially for Spirit AeroSystems on the production side in the next decade or two.

So there's those things. Then you look at hypersonics. Boeing has really struggled. At one point, they were the industry leader on the hypersonic experiments and the demonstrations funded by DARPA and AFRL and NASA. Then they lost all those positions, lost that leadership position. Lockheed and Raytheon have really picked up the ball there to work on the hypersonic missile programs that have come out in the last several years and Boeing's been shut out. But Spirit AeroSystems is on board in those programs. They do the thermal protection systems for the Common-Hypersonic Glide Body. They have components in solid rocket motors and their combination of advanced manufacturing and high volume production is very interesting in that hypersonics community and something the Pentagon has said specifically that they want Spirit AeroSystems to play a big role in that, in the future.

And lastly, I'll just point out, the most intriguing thing that Spirit AeroSystems does on the defense side, I think we're still the only publication that's actually written about this, about a year ago Spirit AeroSystems opened up a new facility to support a classified defense program. And of course they didn't say what it was, but they did say that it was there, that the program included high volume production. And when you combine that with a classified defense program, that's a very interesting thing and I've got some theories about what that is, but it's a little speculative at this point. But that is very interesting, even for Boeing, even if it's a Tier One aerostructure role, that is an interesting prospect for Boeing going forward.

So, there is some stuff going on on the defense side that is interesting. And of course, they also do the airframes for the commercial aircraft and some of which get converted into military aircraft, P-8s, E-7s, C-40s, and KC-46s. And that will continue to grow too. And like I said, it's not going to change Boeing's strategic position in the market, but it's going to add some things if it goes through that could be pretty interesting for Boeing on the defense side.

Joe Anselmo:        

That's an interesting wrinkle. Jens, you're at ISTAT. You're rubbing elbows with some of the leading figures, aircraft lessors, financiers and all that. What are people at ISTAT saying about this?

Jens Flottau:   

Get your act together. That's basically it. There was a panel yesterday of leasing company CEOs and the one concern they have about Boeing and Airbus, to be fair, is they have no clarity, no transparency about what's happening next, when they will get their aircraft. It's a double-edged sword for them in a way. Obviously the shortage of aircraft, which is caused by the troubles at Boeing and the supplier issues at Airbus is good for lessors in one way, because lease rates are up to astronomical values these days and will continue to be there. That's at least the expectation here. On the other hand, the source want aircraft, need aircraft to grow themselves unless they buy from other lessors, which is obviously not always possible. So, they're in this and they have their commitments towards their own customers. If they don't get their aircraft, they have to get agreements with the airlines. So they're in the middle of this big mess. And so what they demand, it's clarity. On the other hand, financially, it's golden times for them after the difficult period of COVID, where they had to help the airlines survive through various financial support measures. Now, in a way, it's payback time, if they get their hands on aircraft.

Joe Anselmo:  

Michael, one other interesting wrinkle in all this is Pat Shanahan. Spirit fired its CEO last year and brought in the former Boeing executive -- and he was an acting Secretary of Defense under Donald Trump. But he's highly regarded in the industry and he's trying to turn Spirit around. So if this went through, Pat Shanahan would be back at Boeing.

Michael Bruno: 

Yeah, maybe. There's an asterisk to all of that. First of all, I believe Mr. Shanahan is 61 years old. Second of all, when he joined Spirit, which came as a very sudden surprise, October 1, he actually joined September 30th, when it got announced at the beginning of October last year, they made it very clear, including Mr. Shanahan, that he was there for a year. And he had said he had made a commitment to his wife that he would take this job of trying to turn around Spirit and probably be gone in September. And all the way through into the fourth quarter teleconference, that continued to be the expectation that was being laid in front of Wall Street.

And of course that teleconference came before this potential for a merger was announced. So, things very well may have changed that the public doesn't know about, But that still is not a given, because of course, I'll go back to the very first thing I talked about it, it's actually a complex deal to bring Spirit AeroSystems back into Boeing. Not only with all the issues with Airbus that Jens talked about, Steve lays out some great, great defense prospects here, but there's still a question as to whether any of those large defense primes would let this happen. Would Lockheed and Northrop let this work go back to Boeing, an arch-rival on the defense side? We don't know. You could very well see this kind of deal take all year to come to fruition. Maybe it doesn't close until next year, 2025. Would Mr. Shanahan, would he still want to stick around for a couple of more years to lead Boeing in the future? Do we actually believe Mr. Calhoun is going to leave? He doesn't have to leave for a few more years after the Boeing board changed their retirement requirement. So, a lot of unknowns. Just like we said in the beginning, there are more questions here than there are answers. What happens with the leadership is just one of these thousand questions.

Joe Anselmo:        

And Michael, getting back to something Jens had mentioned about Airbus dealing with Spirit, doesn't this just all underscore that aerostructures is a terrible business, a sick child of aviation?

Michael Bruno:     

It's unfortunate, but it is. When we think of aviation manufacturing, our brains go toward aerostructures as the classic model. We think of big factories, like the one in Wichita, cranking out aircraft that just go down a long, long line in a beautiful factory. And as we've written about many times in Aviation Week, it's just become the worst part of the aviation manufacturing sector. There are various reasons, but it gets buffeted from all sides. And you've seen lots of companies, lots of companies try to either get out or at least minimize their aerostructures work. Over the last 10 years, GKN got bought out in Britain, of course, by private equity, by Melrose Group. Triumph Group, here in the United States, tried very hard to get out of all of its aerostructures work. You've seen lots of smaller aerostructures companies fold, some of them quietly. They just quietly disappear. Others get bought up by private equity.

It's reminiscent of starting a restaurant business. Your margins are almost guaranteed to be low and the pressures are guaranteed to be high and it puts you in a very awkward, difficult position where it's very hard to perform, even when everybody needs you to perform as Boeing does with Spirit AeroSystems. So, that brings us back to the opening salvo here, what happens to Spirit AeroSystems if this deal can't close? And were things so bad that they decided they had to go through with this after all? As we said, this is a complete reversal for Boeing. So, aerostructures is not a happy place to be in right now, and this deal is coming out of that.

Joe Anselmo:

Well, plenty to watch going ahead, but unfortunately we are out of time today. Thanks to all of you for your insights on this fast-moving story. That is a wrap for this week's Check 6. If you haven't already, listen into our new long form podcast, Check 6 Revisits, which debuted this week in the Check 6 channel. And if you like this podcast, please leave us a review on Apple Podcasts. That's all the time we have for now. Thank you to our listeners and have a great week.