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Embraer Takes a Hit From Republic Air Bankruptcy

By Dan Caplinger – Mar 3, 2016 at 12:26PM

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Despite short-term pressures, the airplane manufacturer is confident about its future.

Image source: Embraer.

Regional jet specialist Embraer (ERJ -0.78%) doesn't get the attention that wide-body aircraft manufacturers get, but it has participated in the aerospace boom to as much of an extent as its larger counterparts. Coming into its fourth-quarter earnings report, Embraer shareholders expected to see stronger earnings from the company's growing business. But because of the bankruptcy filing by customer Republic Airways Holdings, Embraer had to take a substantial charge, and even though the company was relatively upbeat about its future, shareholders sent the stock sharply lower in response. Let's look more closely at Embraer's latest results and how the aircraft manufacturer expects to overcome its challenges to thrive in the future.

Embraer posts solid results
Embraer's fourth-quarter results showed some of the difficulties that the company is facing in living up to the high expectations of its shareholders given the generally favorable conditions in the aerospace industry. Revenue climbed to $2.07 billion, up 1.4% from year-ago levels but failing to hit the $2.08 billion consensus figure among investors. GAAP net income climbed 22% to $111.2 million, but the resulting $0.61 per share in earnings missed the consensus forecast by $0.22.

Looking more closely at the numbers, the thing that stands out the most is the impact from the Republic Air bankruptcy. Embraer said that it had to make a $101 million provision related to the Chapter 11 filing, because the manufacturer has exposure from financial guarantee obligations. Republic has a fleet of 230 Embraer jets, and Embraer had 24 more E175 aircraft in its backlog from Republic as of the Feb. 25 date of the bankruptcy filing.

As we've seen before, Embraer's segments went in separate directions during the quarter. Commercial jet revenue jumped 14%, making up more than half of the company's overall sales. Executive jets also continued their streak of solid results, picking up 8% on its top line. But defense and security continued to struggle, losting almost 45% of its revenue.

On the delivery front, Embraer saw more mixed results. During the quarter, Embraer delivered 33 commercial aircraft, including 20 E175 regional jets and 11 of its E190 and E195 models. That was up 10% from the year-ago quarter, but executive jet orders totaling 45 were down from last year's 52. Nevertheless, a big boost in large executive jets helped offset some of the pain from the reduced count. Backlogs fell slightly during the quarter but still finished at $22.5 billion, up $1.6 billion for the full 2015 year.

What's ahead for Embraer?
Embraer's guidance for 2016 included expectations for a rebound from the full-year revenue decline the jet maker suffered in 2015, but it might not be a full recovery. Embraer expects revenue of $6 billion to $6.4 billion in 2016, driven largely by deliveries of 105 to 110 jets in the commercial aerospace division. The executive jet division expects to deliver 40 to 50 large jets and 75 to 85 light jets, and the defense and security segment should contribute about $700 million to $750 million in revenue to the company's overall efforts.

Yet arguably the more important issue for Embraer is squeezing more profits from its business. The aircraft maker believes it can boost its margins through improvement in the sales mix of its aircraft deliveries and less volatility in the currency markets between the U.S. dollar and the Brazilian real. Pre-tax profit margins of 8% to 8.5% could help Embraer get a nice boost from its current depressed levels that incorporate the Republic charge. In the long run, fundamentals for Embraer's business appear to remain strong.

Embraer stock fell sharply in response to the news, dropping 11% in regular-session trading following the announcement. The aerospace industry's strength looks poised to continue, but Embraer will have to work harder to convince investors that the company is taking full advantage of the opportunity it has to cash in on strong aircraft demand.

Dan Caplinger has no position in any stocks mentioned. The Motley Fool recommends Embraer-Empresa Brasileira. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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