Boeing profit lifted by commercial, defense sales says Reuters. But that isn't true. Boeing was only profitable by using an accounting trick that may risk its long term survival.
Boeing's new 787 airliner has sold well as discount pricing was introduced even before the first machine was flying. But it turned out that the jet had construction problems and was first late, then later and then even later. The first few dozens of those machines, three years after they were supposed to be flying, are still sitting on the tarmac in Seattle and will have to be reworked.
It is normal to make losses on the first few hundred machines of a new commercial jet model. The development costs and new tools have to be accounted for and their cost usually gets spread out over the first few hundred sales of a new model. These sales thereby to not produce a large profit. But every additional machine hopefully sold after that will not have to carry the burden of being accounted against the then paid off development and tool costs. It will thereby likely be very profitable and it will provide cash for the development of future products.
The usual production quantity used for such amortization calculation of commercial airplanes is 300-400. As the Aviation Week Flightblogger points out that 300-400 number was what the 1998 Boeing Annual Report argued and was, so far, used in every Boeing program even when the total sales number was reasonably expected to be much higher.
But for the 787 and this years "profit" Boeing used a much different number. From the Reuters report:
Boeing said on Wednesday it would calculate the profitability of the program based on 1,100 planes.
Boeing has some 800 orders for the 787 plane on its books though some of those may get canceled. The production rate is supposed to be 10 machines per month but only starting in 2013, and likely later, onwards. The new calculation then spreads out the amortization costs over more that the next ten years.
What will happen when by then a competitor – Airbus, the Chinese, Russians, Brazil or Japan – come up with a competitive product? What will happen if a new global economy slump leads to more cancellations of orders? What happens if the plane turns out to burn more fuel than expected or, being the first model with major carbon-fiber structures, turns out to have less longevity than expected?
Usual accounting would limit those future balance sheet risks by putting all the development and tool costs onto the first batches of the model. Stretching those costs over a much larger number of planes, as Boeing does now, creates short term book profits but puts serious risks to the future survival of the company.
Using the established calculation Boeing would have had to report a big loss for this quarter and this and probably the next year. By changing the amortization base that loss was turned into a book profit.
The CEO and the top management of the company get their bonuses paid for the short range balance sheet results. Putting the amortization costs of the product development onto a larger, probably unrealistic, number of sales will increase their short term personal income. But it does risk the companies long term survival.
Creative destruction, in the neoliberal sense, at its best.