Group Case Study

Enterprise Risk Management at

Boeing

Universidad de Costa Rica

Sede de Occidente, Recinto de Tacares

IF - 8201 Planificación Informática

Teacher: MBA. Óscar Alfaro Solis

- 2019 -

Description of the assignment

As seen in previous classes, Risk Management is a huge part of strategic planning and as
such, we need to be able to identify risks and be able to design a plan to manage them.

At the end of this workshop, the students must deliver:

1. Synopsis of the case study

2. SWOT Analysis (FODA in Spanish)

3. List of risks determined

4. Risk Assessment Matrix

5. Risk Management Plan

As part of the risk management plan, the students must determine if a risk will be:

• Avoided

• Transfered

• Mitigated

• Accepted

Explain each one of the decision made and justify the answer.

A minimum of at least 15 risk should be assessed.

Make sure that you include cases that are both presented in the case as well as risks that may
have been left out.

Due date of the assignment: September 21st 7:30 am

All groups will present their findings to the rest of the class, so be prepared with a proper
presentation.

Description

The worldwide commercial aircraft fleet was expected to grow from 11,300 planes in 2001 to
20,100 planes by year-end 2020, which translated into a compound annual growth rate (CAGR)
of 2.9%.



Military aircraft and missile systems contributed to over one-third of group sales and operating
profits. For this division, the primary customer was the US government. Boeing's military
weapons-making segment primarily made the F-18 fighter jets, the C-17 troop and equipment
transport planes, helicopters, the AH-64D Apache Longbow, refueling planes, and various
precision missiles. The segment was also a major producer of computer-based battle
management systems used in missile defence applications.



The Space and Communications business generated only modest profits. For this division, the
primary customer was again the US government. Boeing was one of the world's largest makers
of satellite-carrying rockets and satellites. Both businesses were expected to suffer from
industry overcapacity and cut-throat price competition.



The Customer and Commercial Financing segment was primarily engaged in the financing of
commercial and private aircraft, commercial equipment, and real estate. About 75% and 25%
of the segment's revenues were derived from commercial aircraft and non-aerospace leasing
and financing activity, respectively. In 2001, total financing/leasing assets jumped to $10.3
billion, up almost 50% from $7.0 billion in 2000.



Since the late 1990s, Boeing had been attempting to transform itself from an aerospace
manufacturer into a comprehensive aerospace manufacturing and services provider. Over the
past decade, volatile yet maturing markets, intensifying competition, and the commoditization
of jets, rockets and satellites, had affected the company's profitability. Boeing had attempted
to use new equipment sales as a platform for selling high margin, long-term maintenance
contracts, to generate more predictable earnings streams and higher returns.



Higher margin fixed price production contracts accounted for about 80% of Boeing's defense
revenues. Lower margin research & development (R&D) contracts accounted for the balance
20%.

The A380 was capable of carrying 555 passengers over long distances and had been heralded
by some as the only means of coping with the expected long term growth in passenger traffic
given limited global airport capacity and congested skies. Boeing's plan had been to develop
the 747x "sonic cruiser", a faster but smaller long range rival but this might be scrapped due to
weak demand since September 11. Airbus reportedly had 97 orders for its A380.



Aircraft programs, particularly new aircraft models such as the 717 program, faced the
additional risk of pricing pressures and rising costs inherent in the design and production of
complex products. Boeing might also have to provide financing support to airlines, which were
unable to obtain other means of financing.



The US defence sector was still very competitive although consolidation had resulted in just
four prime contractors for defence aerospace systems and electronics; Lockheed Martin,
Boeing, Raytheon and Northrop Grumman (which has recently acquired TRW). At a global level,
however, the company faced strong competition from major European corporations where
consolidation had created a number of formidable competitors such as BAE Systems, EADS
(owner of Airbus), Matra BAe Dynamics Alenia (MBDA), Augusta-Westland and Euro copter.



Boeing expected launch services to remain highly competitive due to the downturn in demand
for non-geo-stationary satellite launches and the human space flight and exploration market.
However, it expected solid growth overall through space digital imagery architecture, missile
defence, the current Delta IV launch vehicles and the in-progress 737 Airborne Early Warning
and Control System programs.



The launch services market had some degree of uncertainty since demand depended on the
launch customers' access to capital markets. Moreover, some of Boeing's competitors for
launch services received direct or indirect government funding. The satellite market included
some degree of risk and uncertainty relating to the attainment of technological specifications
and performance requirements.

Any war or terrorist event would have a very negative impact on the airline industry. External
business environment risks for Boeing included

• Adverse governmental export and import policies,

• Factors that resulted in significant and prolonged disruption to air travel worldwide,

• Other factors that affected the economic viability of the commercial airline industry.

Examples included the volatility of aircraft fuel prices, global trade policies, worldwide political
stability and economic growth, acts of aggression that had an impact on the perceived safety
of commercial flight and competition from Airbus.

The Military Aircraft and Missile Systems and the Space and Communications segments were
subject to changing priorities and reduction in the US Government defence and space budget.
Government contracts could be terminated by unilateral government action (termination for
convenience) or failure to perform (termination for default).

Civil, criminal or administrative proceedings involving fines, compensatory and treble damages,
restitution, forfeiture and suspension of debarment from government contracts might result due
to violation of business rules and other irregularities.

Boeing's primary defence customer was the US government. Following September 11 military
action in Afghanistan and the ongoing threat of terrorism, near term Department of Defence
(DoD) budgets had increased and longer-range defence budget forecasts had been revised
upwards. However, Boeing itself did not expect DoD procurement to increase significantly in
view of the softer global economy.

Environmental Risks

Boeing's operations were subject to various federal and state environment laws. Areas of
concern included discharge of hazardous materials and remediation of contaminated sites. The
company had been involved in related legal proceedings, claims and remediation obligations
since the 1980s.



Boeing routinely assessed its contingencies, obligations and commitments for remediation of
contaminated sites, based on in-depth studies, expert analyses and legal reviews. Boeing
generally accrued or expensed exposures related to environmental remediation sites
immediately, based on estimates of investigation, cleanup and monitoring costs to be incurred.



Because of the regulatory complexities and risk of unidentified contaminated sites and
circumstances, the potential existed for environmental remediation costs to be materially
different from the estimated costs. However, based on all known facts and expert analyses,
Boeing believed it was unlikely that environmental contingencies would have a material
adverse impact on Boeing's financial position or operating results and cash flow trends.

On October 31,1997, a federal securities lawsuit was filed against Boeing in a US district court
in Washington, Seattle. The lawsuit named as defendants the company and three of its then
executive officers. Additional lawsuits of a similar nature were filed in the same court. These
lawsuits were consolidated on February 24, 1998. The lawsuits generally alleged that the
defendants desired to keep Boeing's share price as high as possible in order to ensure that the
McDonnell Douglas shareholders would approve the merger. Individual defendants, benefited
directly from the sale of Boeing stock during the period from April 7,1997 through October
22,1997. The Court certified two sub-classes of plaintiffs in the action: all persons or entities
who purchased Boeing stock or call options or who sold put options during the period July 21,
1997 - October 22, 1997, and all persons or entities who purchased McDonnell Douglas stock
on or after April 7, 1997, and who held such stock until it was converted to Boeing stock
pursuant to the merger. The plaintiffs sought compensatory damages. On September 17, 2001,
Boeing reached an agreement with class counsel to settle the lawsuit for $92.5 million. The
settlement would have no impact on Boeing's earnings, cash flow or financial position, as it
was within insurance limits.

On February 25,2000, a purported class action lawsuit alleging gender discrimination and
harassment was filed against Boeing, Boeing North American, Inc., and McDonnell Douglas
Corporation. The complaint, filed with the United States District Court in Seattle, alleged that
Boeing had engaged in a pattern and practice of unlawful discrimination, harassment and
retaliation against women over the course of many years. The complaint, Beck v. Boeing,
named 28 women who had worked for Boeing in the Puget Sound area; Wichita, Kansas; St.
Louis, Missouri; and Tulsa, Oklahoma. On March 15, 2000, an amended complaint was filed
naming 10 more plaintiffs. The lawsuit attempted to represent all women who worked for
Boeing, or who had worked for Boeing in the past several years.

Boeing denied the allegation that it was engaged in any unlawful "pattern and practice."
Plaintiffs' motion for class certification was filed in May 2001. The class included salaried
employees in Puget Sound, Wichita, St. Louis, and Long Beach, and hourly employees in
Puget Sound, Wichita, and St. Louis.

On October 19, 2001, the court granted class certification to a segment of the population
sought by the plaintiffs. The court ruled that the action could proceed on the basis of two
limited subclasses: all non-executive salaried women (including engineers) in the Puget Sound
area, and all hourly wages women covered by the Machinists' Bargaining Agreement in the
Puget Sound area. The claims to be litigated included alleged gender discrimination in
compensation and promotion. The court also held that the plaintiffs could not seek back pay. In
case of liability, the potential remedies would include some form of injunctive relief as well as
punitive damages. The US Ninth Circuit Court of Appeals had accepted Boeing's appeal
against the class certification decision, particularly the ruling that left open the possibility of
punitive damages. Boeing intended to defend these cases aggressively. But it was not possible
to predict the outcome.

In August 2002, the US Navy notified Boeing that it wanted $2.4 billion of advance progress
payments and overdue interest to be paid or it would refer the matter to the government for
collection through offset under current contracts. Boeing's share of any settlement would be
50% or $1.2 billion. This would add to the company's debt burden. Boeing, however, felt its
current $350 million loss provision was adequate.

Boeing was subject to US government investigations from which civil, criminal or

administrative proceedings could result. Such proceedings could involve claims by the
government for fines, penalties, compensatory and treble damages, restitution and/or
forfeitures. Under government regulations, a company, or one or more of its operating divisions
or subdivisions, could also be suspended or debarred from government contracts, or lose its
export privileges, based on the results of investigations. Boeing, however, believed that the
outcome of any such government disputes and investigations would not have any serious
impact on its financial position or continuing operations.

Leverage & Liquidity

Boeing's consolidated net debt had increased over the past five years. In September 2002, net
debt was $11.9 billion, compared to $1.7 billion in December 1997.

Despite strong growth in group EBITDA through to FY01, consolidated group leverage had
continued to rise. The sharp decline in EBITDA at Boeing in FY02 as its commercial aircraft
segment had suffered, coupled with additional funding needs at BCC had contributed to the
increase in leverage. In 2003, Boeing's EBITDA and cash flows were expected to weaken
further as commercial jet deliveries waned. However, Boeing would still remain free cash flow
positive. This together with slower growth in business volumes would limit the extent of further
weakening in the leverage ratios. In terms of liquidity, Boeing had just $1.6 billion of short-term
debt in September 2002 with the remainder having an average maturity of close to 10 years.

Against this, it had $1.7 billion of cash and $4.5 billion in unused bank facilities, consisting of a
$3 billion 364-day revolver, a $700 million facility expiring in Sept-05 and an $800 million facility
due 2004. There were no ratings triggers that would require a cash call over the near term.

Boeing used swaps to adjust the amount of total debt that was subject to variable and fixed
interest rates. The company also used forward-starting interest rate swap agreements to fix the
cost of funding. This mitigated the changes in fair value of the hedged portion of the firm
commitment caused by changes in interest rates. The net change in fair value of the swap and
the hedged portion of the firm commitment was reported in earnings.

Boeing used foreign currency forward contracts to manage currency risk associated with
certain forecasted transactions, specifically sales and purchase commitments made in foreign
currencies.

Commodity derivatives, such as fixed-price purchase commitments, were used by Boeing to

hedge against potentially unfavorable price changes for items used in production. In 2001,
Boeing used such commitments to purchase electricity and natural gas at fixed prices over the
next three years.

Credit Risk

Of the $15,554 million in accounts receivable and customer financing, $7,235 million related to
commercial aircraft customers ($366 million of accounts receivable and $6,869 million of
customer financing) and $2,597 million related to the US Government. AMR Corporation and
UAL Corporation were associated with 23% and 13% of all financial instruments related to
customer financing. Financing for aircraft was collateralized by security in the related asset.
Historically, Boeing had not experienced a problem in accessing such collateral.

Of the $6,869 million of aircraft customer financing, $6,440 million related to customers, which
had less than investment-grade credit in Boeing's opinion. Similarly, of the $7,508 million of
irrevocable financing commitments related to aircraft on order including options, $7,113 million
related to customers which had less than investment-grade credit in Boeing's opinion. Boeing
was a party to financial instruments with off-balance-sheet risk, principally relating to customer
financing activities. Financial instruments with off-balance-sheet risk included financing
commitments, credit guarantees, and participation in customer financing receivables with third-
party investors that involved interest rate terms different from the underlying receivables.

Irrevocable financing commitments related to aircraft on order, (including options), scheduled

for delivery through 2010 totaled $7,508 million and $6,230 million as of December 31, 2001
and 2000. Boeing anticipated that not all of these commitments would be utilized and that it
would be able to arrange for third-party investors to assume a portion of the remaining
commitments, if necessary. The company had additional commitments to arrange for
commercial equipment financing totaling $344 million and $288 million as of December 31,
2001 and 2000. Participations in customer financing receivables with third-party investors that
involved interest rate terms different from the underlying receivables totaled $51 million and
$54 million as of December 31, 2001 and 2000.

Boeing's maximum exposure to credit-related losses associated with credit guarantees, totaled
$558 million ($174 million associated with commercial aircraft and collateralized and $373
million associated with the Sea Launch joint venture) as on December 31, 2001 and 2000. Of
the $174 million exposure associated with commercial aircraft as of December 31, 2001, the
company estimated that the fair value of the underlying collateral, principally commercial
aircraft would cover approximately $63 million of the exposure. A substantial portion of the
commercial aircraft credit-related guarantees had been extended on behalf of counter parties
with less than investment-grade credit.