Goldman Sachs and JP Morgan issued notes this week that give some opinions on rivals Embraer and Bombardier:
Goldman Sachs: Embraer
July 31: We believe Embraer remains the best, yet most ignored, story in our commercial aerospace coverage. We highlight the following key incremental takeaways from the EPS report and conference call: (1) 2H regional jet new orders could equal or surpass 1H (even though 1H was a record) which would mean full-year 2011 book-to- bill would surpass 2.0X. We think demand for the E-190 right now is stronger relative to current supply than any aircraft in the world. (2) Tone on business jet was noticeably more positive for the first time in a while, with particular strength noted on the Phenom 300. We think ERJ can close to triple its business jet revenue between now and 2015. (3) Defense opportunities are occurring faster than expected. We continue to see very large upside potential in ERJ’s Defense segment given initiatives around the World Cup and Olympics and how large the KC-390 program will be. (4) Management sounds confident it can continue to expand margins despite the Real, and possibly meaningfully if the Real were to reverse. (5) Next-gen product strategy decisions are likely made by year-end, and it sounds like one of either a clean sheet or E-195 stretch / re-engine will occur (we believe the case for the latter increasingly makes sense).
JP Morgan: Embraer
July 31: We are upgrading ERJ to OW from N. The gross margin levels that Embraer has established recently have improved the earnings outlook materially, and we now see 2012 EPADS of $3.05, up from $2.50 previously. The stock bounced 9% in a flattish market on Friday following the Q2 earnings report, but it had traded off materially in the days before that and we still see significant upside. Valuation looks attractive at only 9.7x 2012E EPADS and 8.3x 2013E, and even after Friday’s move ERJ remains flat YTD, underperforming the group by 5%. As for fundamentals, the corporate jet segment should benefit from a cyclical recovery that is showing early signs of taking hold, while the introduction of two new products should help ERJ continue to take share. Defense should return to growth next year, and we view ERJ as a unique opportunity for exposure to the growing defense budget of a rising regional power. Our main concern about the stock has been the potential for E-Jet demand to fall off between the entry into service of more advanced aircraft from Bombardier and Mitsubishi in 2013/2014 and that of a new offering from ERJ in ~2017. This remains a risk, but it is one with which we are more comfortable given the valuation and improved earnings outlook. Plus, now that Boeing is re-engining the 737, we believe Embraer’s next aircraft is more likely to be a modified and re-engined E-Jet, which should keep development costs and risks under control.
ERJ expects new aircraft decision by year end. Now that Boeing has shown its hand and will pursue a 737 re-engining, Embraer expects to reach a decision on its next commercial aircraft later this year. Both of the options management is contemplating involve a larger aircraft, though one is an E-Jet derivative and the other is a clean sheet design. The first option involves stretching and re-engining the E-195, while the clean sheet option would be a five abreast aircraft sized for the lower end of the narrowbody market. While both options are still on the table, we believe the derivative is now more likely. This option carries the same advantages it did for Boeing and Airbus — lower cost and risk.
Aug. 1: Raising Bombardier to #2 among large caps. The stock has dropped by 14% over the last month, making it the worst performer in the group, and valuation looks attractive at only 10.7x CY12E EPS. The company reports Q2 on August 31, and we expect a solid quarter that could boost the stock, particularly in the context of its recent underperformance. We see the potential cancellation of the Republic order for the CSeries as the most substantial risk of a negative catalyst, but we are willing to take this risk due to the valuation and upcoming earnings. With regard to recent changes in the strategic landscape, while Boeing’s re-engining decision lowers the market opportunity for both Bombardier and Embraer on a combined basis, it may not be as bad as it seems. In fact, we believe this could end up becoming a net plus for Bombardier since it makes it less likely Embraer will develop an all-new 5-abreast aircraft, leaving this market entirely to the CSeries. In general, we see the re-engining trend as a substantial positive for the entire industry. The aircraft manufacturers overall should sell about the same number of planes that they would have if they had all developed new models, and they are avoiding the many billions of dollars of investment and the risks that accompany more ambitious development programs. While Bombardier is spending money and taking on risk to develop the CSeries, the fact that it is the only one of the four major airframers likely to take this route at this point leaves it better positioned than if everyone else followed along, in our view. Bottom line, over the long-term Bombardier would probably prefer to compete with re-engined and shrunken A319s and 737-700s rather than a clean-sheet and even newer direct competitor from Embraer.