Management’s Discussion and Analysis

Management’s Discussion and Analysis

Commercial aircraft programs are planned, committed and facilitized based on long-term delivery forecasts, normally for quantities in excess of contractually firm orders. Cost of sales for the 717, 737, 747, 757, 767 and 777 commercial aircraft programs is determined under the program method of accounting based on estimated average total cost and revenue for the current program quantity. The program method of accounting effectively averages tooling and special equipment costs, as well as unit production costs, over the program quantity. Because of the higher unit production costs experienced at the beginning of a new program and the substantial investment required for initial tooling and special equipment, new commercial jet aircraft programs normally have lower operating profit margins than established programs. In 2001, the initial program quantity for the 717 program was revised from 200 to 135 units. The estimated program average costs and revenues are reviewed and reassessed quarterly, and changes in estimates are recognized over current and future deliveries constituting the program quantity.

To the extent that inventoriable costs are expected to exceed the total estimated sales price, charges are made to current earnings to reduce inventoried costs to estimated net realizable value.

Share-based plans The Company has adopted the expense recognition provisions of Statement of Financial Accounting Standards (SFAS) No.123, Accounting for Stock-Based Compensation. The Company values stock options issued based upon an option-pricing model and recognizes this value as an expense over the period in which the options vest. Potential distribution from the ShareValue Trust have been valued based upon an optionpricing model, with the related expense recognized over the life of the trust. Share-based expense associated with Performance Shares is determined based on the market value of the Company’s stock at the time of the award applied to the maximum number of shares contingently issuable based on stock price and is amortized over a five-year period.

Aircraft valuation Aircraft deemed available for sale, which are included in inventory, are stated at the lower of cost or fair value. The Company reviews its used aircraft purchase commitments relative to the aircraft’s anticipated fair value, and records any deficiency as a charge to earnings. Fair value is determined by using both internal and external aircraft valuations, including information developed from the sale of similar aircraft in the secondary market.

Aircraft on operating lease or held for operating lease are classified with customer and commercial financing assets. The Company reviews these operating lease assets for impairment annually or when events or circumstances indicate that the carrying amount of these assets may not be recoverable. An asset is considered impaired when the expected undiscounted cash flow, based on market assessment of lease rates, over the remaining useful life is less than the net book value. When impairment is indicated for an asset, the amount of impairment loss is the excess of net book value over fair value.

Postemployment benefits The Company accounts for postemployment benefits under SFAS No.112, Employer’s Accounting for Postemployment Benefits. A liability for postemployment benefits is recorded when termination is probable and the amount is estimable.

Standards Issued and Not Yet Implemented

In June 2001, the Financial Accounting Standards Board (FASB) issued SFAS No.141, Business Combinations, and SFAS No.142, Goodwill and Other Intangible Assets. The Company is required to adopt SFAS No.141 for all business combinations completed after June 30, 2001. This standard requires that business combinations initiated after June 30, 2001, be accounted for under the purchase method. Goodwill and other intangible assets that resulted from business combinations before July 1, 2001, must be reclassified to conform to the requirements of SFAS No.142, as of the statement adoption date.

The Company will adopt SFAS No.142 at the beginning of 2002 for all goodwill and other intangible assets recognized in the Company’s statement of financial position as of January 1, 2002. This standard changes the accounting for goodwill from an amortization method to an impairment-only approach, and introduces a new model for determining impairment charges.

The new impairment model requires performance of a two-step test for operations that have goodwill assigned to them. First, it requires a comparison of the book value of net assets to the fair value of the related operations. Fair values are estimated using discounted cash flows, subject to adjustment based on the Company’s market capitalization at the date of evaluation. If fair value is determined to be less than book value, a second step is performed to compute the amount of impairment. In this process, the fair value of goodwill is estimated, and is compared to its book value. Any shortfall of the book value below fair value represents the amount of goodwill impairment.

Upon transition to the new impairment model as of January 1, 2002, the Company projects that it will recognize a reduction of goodwill and a pretax charge in the range of $2,100 million to $2,600 million, identified as a cumulative effect of an accounting change. This charge results from the change from the prior impairment method, whose first step was based on undiscounted cash flows, to the new one that is based on fair value. The fair value measurement will reflect the estimates and expectations of the marketplace participants as of January 1, 2002, the date of adoption.

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