Boeing Co. and Lockheed Martin Corp.: An Analysis

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Boeing v. Lockheed Martin|
Analysis of Operating Leases & Pension Plans|

Boeing Co & Lockheed Martin Corp Analysis
Our financial reporting analysis consists of Lockheed, the largest defense company in the world and Boeing, the largest commercial aircraft producer.  Both companies rely heavily on government funding, contracts, and regulation.  Future growth for the two companies relies on sales of Lockheed and Boeing’s aircrafts such as the Fighter Jet F-35 and the Dreamliner 787.  Although these companies have many similarities, their core business varies.  Furthermore, to properly compare these two companies, financial analysts have to make adjustments to their quarterly and yearly filings.  Although there are any number of adjustments that may be made to the financials of Boeing and Lockheed, we have decided to analyze the effect of operating vs. capital leases, pension obligations on the financial health of the company, and its impact by adjusting the financial statements, particularly the balance sheet.  Large capital intensive industries generally have a high need for property, plant, and equipment but do not necessarily have the funds, or the desire to own some or all of it.  As a result they enter into lease agreements so that they can access PP&E, but with operating leases they keep it off the balance sheet.

The reason a firm might prefer an operating lease to a capital lease is relatively straightforward. Firms generally want to show as few liabilities as possible on their balance sheet.  This makes the firm look less risky to outside investors, and improves several important financial ratios reported out to stakeholders.  As financial analysts, it is our job to recognize that this is standard practice, and then to make adjustments so the financial statements are as accurate as possible. The accounting methods allowing for these leases to remain off the balance sheet are: * Operating leases are accounted for on a per period basis where rent expense is charged, and cash is paid to satisfy the expense. * Capital leases show up as both a lease asset and a leased liability on the balance sheet. * It is important to note that while these are two very different reporting methods the actual expenses also vary annually because capital leases depreciate over time creating a higher expense in earlier years.

In order to accomplish the goal of creating operating leases rather than capital leases a firm must meet several criteria, the most important of which is the 90% rule.  “If the present value of the contract lease payments equals or exceeds 90 percent of the fair market value of the asset at least signing” the firm must recognize it as a capital lease, and then report and corresponding asset and liability. The firm has several options in how to get around this 90% rule; the most common being to change the discount rate at the time of lease signing. The firm can massage their beta which would change their risk profile and increase their Weighted Average Cost of Capital (WACC) and therefore their discount rate. The firm may then be able to justify that as a result of the adjusted discount rate they only reach 89% of the fair market value and are then able to make the lease an operating lease.

We plan on analyzing the financial statements of Boeing and Lockheed Martin converting all operating leases to capital leases and measuring the changes in assets, liabilities, and important financial ratios including: Debt/Equity and Debt/Capital.  Additionally we chose to analyze the pension plans of both Boeing and Lockheed Martin.  Firms do not have an obligation to report under or over funded pension plans on the face of their balance sheet but rather disclose them in the footnotes.  However, in the case of an underfunded pension plans analysts should bring them back onto the balance sheet as a liability.  When analyzing the pension plans we must look at three...
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