Boeing Breakup Adds to Embraer’s Trials in Post-Covid World

Boeing Co.’s decision to ditch its joint-venture plans with Embraer SA comes at a turbulent time for planemakers, but the Brazilian company may even come out stronger for it.

Embraer can probably get by without having to seek a new partner, analysts say, and the company’s stock price—its American Depositary Receipts are trading near break-up value—suggests investors were ready for Boeing to call time on the deal.

“It will be challenging, but Embraer is a survivor,” Ron Epstein, an analyst with Bank of America Corp., said in an interview. “The company has been through rough times before and survived, they’re unique in that.”

Boeing abandoned the proposed $4.2 billion tie-up on Saturday, weeks after Chief Executive Officer Dave Calhoun warned employees that the company would need to adjust to a “new reality” as travel demand vanishes because of coronavirus. Embraer responded that Boeing “wrongfully terminated” the agreement and that it plans to seek all remedies for damages.

• Boeing Scraps $4.2 Billion Embraer Deal as Market Shrinks
• Airlines May Take $252 Billion Hit From Pandemic, IATA Says

The termination follows a massive shift in both the commercial landscape and Boeing’s balance sheet. When talks began in late 2017, the U.S. manufacturer was flush with cash and eager to tap Embraer’s engineers to help design a new, midrange jet family that was on Boeing’s drawing board. Now, Boeing has scrapped its product-development plans as its reputation and finances have been battered by two deadly crashes of the 737 Max, the company’s best-selling jet.

75% Drop

Things look a lot different for Embraer too. Its shares have lost 75% in dollar terms since the initial deal was signed, meaning that the assets being transferred to the Boeing-controlled venture would be worth far less than the American company agreed to. Embraer dropped 4.4%, while Boeing traded 2% higher before the start of regular trading in the U.S. on Monday.

“There are people that say this is horrible, but I don’t see it,” Bloomberg Intelligence analyst George Ferguson said. “Boeing was going to help them market the airplanes, maybe streamline some of the parts buying and manufacturing. All that was great in a world where demand for flying was rising. But we’re not in that world anymore.”

The plan would have given Boeing control over Embraer’s commercial planes, leaving the Brazilian firm with a 20% stake in its leading franchise, plus control of its businesses in executive jets and defense.

“Embraer felt a little bit listless without the e-jet franchise,” Ferguson said. “And they’re getting it back. It’s going to be a rough year for everybody, but this is a cash generator at Embraer, so it might actually be positive.”

Embraer delivered 89 commercial and 109 executive jets in 2019. Liquidity doesn’t seem to be a concern in the short term: The firm had a cash position of $2.8 billion and $215 million in short-term loans at the end of last year, and a new $600 million term loan in March pushed liquidity over $3 billion, according to Bloomberg Intelligence.

Covid Crisis

But Embraer looks set to be hit hard in 2020 as airlines defer deliveries. Consultancy firm Roland Berger says demand for new aircraft could drop by almost half if the pandemic forces airlines to keep much of their fleets grounded for six months. Embraer has already scrapped its guidance for 2020, with the company and customers discussing a delay in deliveries by a year, CEO Francisco Gomes Neto said on a conference call earlier this month.

BI’s Ferguson estimates Embraer’s business-jet deliveries could drop by at least 25%, while revenue may decline by 15%, according to an April 2 report. Morgan Stanley slashed its 2020 and 2021 Ebitda forecasts for the company by 84% and 40%, respectively.

And for Latin America’s largest economy, the episode is another headache. Brazilian companies have fired employees and scrapped expansion plans to cope with the Covid-19 crisis—the national death toll stands at more than 4,000. Embraer has reduced salaries and hours in several plants, including at its main hub in Sao Jose dos Campos.

• Bolsonaro Bet Big With Two Promises and Both Are in Trouble
• Brazil Retailers Reopen Stores, Airlines Begin to Resume Flights

The local metal workers’ union, which has always opposed the sale of a “national treasure,” called on Boeing to reimburse Embraer for 485 million reais ($87 million) in transaction costs and for the government to take over the company.

“Embraer was born a national company and it shall remain so,” the union said in a note Saturday.

Epstein at BofA notes that Embraer is one of the few surviving startup airplane companies of the past 50 years, and that it has the history to push on.

“It will be a challenge, as this environment will be a challenge for everybody,” he said, adding that his firm expects global air traffic to return to last year’s levels only in 2023. “But I would expect them to survive and move on.”