Earlier this week, Boeing (NYSE: BA) delivered its 500th 787 Dreamliner, just a little more than five years after the first delivery. As the company proudly noted in its press release, the 787 has reached 500 deliveries faster than any other wide-body aircraft family in history.
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Boeing just delivered its 500th 787 Dreamliner. Image source: The Motley Fool.
It hasn't been an easy road, though. In the grand scheme of things, the 787 program has been a disaster for Boeing. At this point in the program's history, Boeing has racked up tens of billions of dollars of losses from developing the Dreamliner and building the first 500 planes.
Fortunately, the profitability of Dreamliner production has been improving steadily for the past few years. That's a hopeful sign for the program's future. That said, Boeing also faces some potential pitfalls in the coming years.
The Dreamliner has been a costly mess
The Dreamliner's problems started nearly a decade ago. While the company planned for a relatively quick development process, the project was beset by more than half a dozen delays, pushing the first delivery from 2008 all the way to late 2011. Boeing was forced to compensate customers for the significant delays.
In the meantime, development costs soared far beyond projections. Boeing has never publicly revealed the actual cost of developing the 787 Dreamliner family, but one analysis puts the development cost overrun at $10 billion as of 2011.
Boeing lost huge sums of money on the first several dozen Dreamliners it built. Image source: Boeing.
To make matters worse, the entire worldwide Dreamliner fleet was grounded for three months in early 2013 after the lithium-ion battery packs kept catching fire. This led to costly delivery delays, warranty repairs, and penalties.
Finally, it initially cost far more than expected to build each 787. Production costs have been declining steadily, but Boeing's deferred production costs -- essentially the cumulative cash losses that Boeing has incurred from building Dreamliners -- peaked at nearly $30 billion earlier this year.
Boeing is finally building 787s profitably
On the bright side, profitability for the Dreamliner program has improved dramatically just in the past two years. From early 2014 to early 2015, deferred production costs for the 787 rose by $3.8 billion. In the following year, deferred production costs rose by $1.7 billion. However, in Q3 2016, deferred production costs started to decline, as Boeing is now building Dreamliners for less than the average selling price.
Thus, Boeing has been improving the profitability of 787 production by more than $2 billion annually since 2014. That progress will slow in the next few years, but Boeing still has a lot of room to improve the Dreamliner program's profitability, primarily through improvements in the product mix and pricing, along with scheduled supplier cost reductions.
Boeing plans to recoup the remaining $27 billion or so in deferred production costs over the course of the next 800 Dreamliner deliveries. Most analysts doubt that it will be able to achieve that level of cost improvement, though.
Fortunately, if Boeing ultimately sells significantly more than 1,300 Dreamliners, it should be able to recover all of its deferred production costs sooner or later. Indeed, the more airplanes it can sell, the better the 787 program's lifetime profitability will be.
But sales are slowing -- will they rebound?
No matter how many Dreamliners Boeing manages to sell over the model's lifetime, the program will have been a bad investment due to all of the cost overruns over the past decade. However, those are sunk costs. At this point, investors just want to see Boeing wring out as much profit from the Dreamliner lineup as possible over the next 15 years or so.
Selling more Dreamliners will improve the program's ultimate profitability. Image source: Boeing.
Order volume has declined in the past few years, though. Whereas Boeing received 182 net orders for the 787 in 2013, it brought in just 41 net orders in 2014 and 71 in 2015. As of Dec. 20, it had received only 70 net orders for the 787 family in 2016.
Boeing still has an order backlog of more than 700 Dreamliners. However, it is now building about 144 787s annually, whereas orders have been coming in at half that rate. In the long run, that's not sustainable. Unless order activity rebounds, Boeing will have to cut production at some point in the early 2020s.
Right now, many major airlines outside the U.S. are struggling. The strong dollar, sluggish demand -- which has been hampered by terrorist activity in key tourist cities -- and rising oil prices are all cutting into earnings. Not surprisingly, airlines are thinking twice about ordering new airplanes. Even U.S. airlines are starting to face profit pressure and are deferring some aircraft deliveries.
Nevertheless, the long-run outlook for the Dreamliner is still bright. There was a glut of aircraft production in the late 1990s and early 2000s, so a lot of small and medium widebodies will reach retirement age beginning around 2020. As a result, Boeing could start to get a lot of replacement orders in the next few years, even if airlines aren't expanding their fleets as quickly.
Finally, aircraft orders are cyclical. Wide-body demand is weak today, but investors shouldn't mistake that for a long-term trend. As the global economy grows and billions of people enter the middle class over the next few decades, airlines will need to dramatically expand their fleets. The recent order slowdown is probably just a blip on the radar.
It would be foolish to expect completely smooth sailing for the 787 Dreamliner going forward. But Boeing has made a lot of progress getting it on an acceptable profit trajectory. Now it just has to work hard to find more buyers for its revolutionary plane.
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