Spirit AeroSystems tries to change course under new leadership

It might have been sometime during the Q&A session with analysts during the Q2 earnings call on August 2 that in hindsight was a defining moment for Spirit AeroSystems CEO Tom Gentile. It seemed that his remarks and explanations seemed irrelevant to analysts, who were grilling him for Spirit’s continued losses and unfavorable contracts with Boeing and Airbus. Two months later, and Spirit announced on October 2 that Gentile had been replaced by Patrick Shanahan as interim CEO. While stock quotes are not the determining factor of how a CEO performs, it seems no coincidence that those of Spirit AeroSystems have taken a serious hit since the Q2 earnings call. From $31.44 on August 1 to $22.86 on August 2, when 21 million shares were traded. The stock was down to $14.84 on September 21. The announcement of Gentile’s departure had only a very modest effect, with Spirit closing at $16.84 on October 2. “On behalf of the entire Board, I thank Tom for his contributions during the last seven years leading the Company through some of the most challenging times that the industry has faced. We wish him the best in his future endeavors,” Chairman Robert Johnson remarked in a media statement that announced the leadership change. The statement closed by saying that Gentile will stay on as a consultant for the next three months during a transition phase. Diversification Tom Gentile joined Spirit AeroSystems as Chief Operating Officer from GE Capital in April 2016 but was promoted to CEO after just four months. Under his leadership, Spirit launched a strategy review to diversify and reduce the risk from being too reliant on its historic main partner and customer, Boeing. When the MAX was grounded in March 2019 after the two fatal accidents and production came to a standstill, Spirit revenues came to a hard standstill. When analysts asked him in August whether Spirit needs to revise its strategy once more and become more ‘predictable’, Gentile replied: “When we went into the pandemic, we were 95 percent commercial, 98 percent original equipment, we were about 75 percent Boeing, and fifty percent of our revenues came from the MAX. So we made a concerted effort over the last two years to diversify. Part of it has been the acquisition from Bombardier in Belfast, Morrocco, and Dallas, to give us more Airbus content, to give us twice as much aftermarket, and four times as many business jets. This diversification will start to pay dividends over time. We want to be $1.0 billion in Defense in 2025, we want to be $500 million in Aftermarket (…) so we are less concentrated in the future.” Forward losses It’s probably not the strategy where Gentile lost the confidence of shareholders and stakeholders. It is the seemingly never-ending streak of production quality issues that has especially hit Boeing programs. While Spirit AeroSystems also produces A220, A320neo, A330, and A350 parts and segments for Airbus and has suffered forward losses on most of them, not many quality issues are known to have disrupted these programs. It’s a different situation with Boeing. When the airframer discovered non-conforming shims in the aft fuselage sections of the 787 in 2019, it launched an extensive review of the Dreamliner supply chain and quality. It was then that issues were found on the forward fuselage and nose Section 41 produced by Spirit, later to include the forward pressure bulkhead. It forced Boeing to suspend 787 production for fifteen months. While Gentile said in May 2021 that the ‘fit and finishing’ had been under control, he added that other quality issues had been found on other parts. It required many hours of rework, resulting in millions of forward losses on the Dreamliner program. Forward losses in 2020 on the 787 program were $192.5 million, $153.5 million in 2021, and $93.5 million in 2022. This year through June, forward losses totaled $45.5 million. In total, Spirit has accumulated $1.4 billion in forward losses on the Dreamliner program or $1.0 million per aircraft, Gentile said last month. Then in April, Boeing disclosed the tailfin fitting issue on the 737 and MAX 8 and 9 that by coincidence had been discovered by a Spirit employee. It has been the same with the aft pressure bulkhead issue of non-conforming fastener holes. Both issues resulted in extensive rework at Spirit and Boeing, delaying deliveries of fuselage sections to Renton and hence delaying customer deliveries that continue to this day. Add to that a week-long strike in July of Spirit workers, and the Wichita company’s original plan is twenty to potentially even fifty shipsets behind. The tailfin issue had cost Spirit $17 million in costs in Q2. Renegotiating contracts During his last public role as Spirit CEO at the Jefferies Industrials Conference on September 7, Gentile said that good progress was made on solving the quality issues. While that might have satisfied analyst Sheila Kahyaoglu, she pushed Gentile on program margins. Just as she and her colleagues did in August during the earnings call, Kahyaoglu wanted to know when Spirit’s major programs with Boeing and Airbus will be profitable and whether should Spirit renegotiate contracts to improve margins. Because in reality, Spirit has suffered losses on these programs for over a decade. In August, Gentile said that especially the contracts for composite components are under cost pressure, but he and CFO Mark Suchinski said they would start discussing them with the two OEMs. Inflation and other cost factors are making the original terms unfavorable. “We are under contracts and we will meet our contractual commitments to our customers, but, really, the OEMs and the US government do have to recognize the environment has changed. It is a highly inflationary environment. These are very important conversations that we have to have with our customers,” Gentile said. He added that he had got the message from analysts to engage with Boeing and Airbus, something he confirmed last month during the Jefferies conference: “With both Boeing and Airbus, we've been open book in terms of sharing all the cost data. So they understand and know that we've been working on different opportunities and have exhausted those. And so we need to figure out now how we address those pressures. (…) We want to talk with our customers constructively about how we address those pressures so that Spirit and the supply chain can be healthy and stable as we go into these rate increases. It's in their best interest and they realize that. They've been very constructive with us.” Patrick Shanahan will act as interim CEO of Spirit AeroSystems. (Spirit AeroSystems) Shanahan interim CEO It won’t be Tom Gentile to complete these discussions. As Spirit announced on Monday, Gentile has stepped down as CEO on September 30. While the company will be looking for a permanent successor, the interim solution is the promotion of Patrick Shanahan as CEO. Shahanan has been on the Spirit Board of Directors since November 2021 and brings experience from Boeing and as Deputy Secretary of Defense and Acting Secretary of Defense. The choice for Shanahan can be interpreted as Boeing getting a bigger handle on Spirit AeroSystems. Following the tailfin issues, Boeing injected $180 million on advanced payments in Spirit to help it through the rework period for a total of $280 million that it received from stakeholders. These advances will be repaid over the next two years. Reports that Boeing was to acquire Spirit AeroSystems that emerged last spring were strongly denied by President and CEO David Calhoun during the Paris Airshow. That line still might be true, but expect Boeing to be closely involved in the search for Spirit’s new CEO in a quest to make sure that the quality issues that have ruled the Gentile era will be a thing of the past soon.

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