Weekly analyst report: Hold on Bombardier

Aug. 17, 2016: Bombardier’s first-half orders from Air Canada and Delta Air Lines for the C

Bombardier got a needed boost for C Series orders in the first half, but some analysts need more. Photo via Google images.

Series helped, but didn’t eliminate skeptics.

Canadian securities firm GMP issued a note Aug. 5 (though we received it only Aug. 12) that maintains a Hold rating.

Goldman Sachs worries about wide-body production rates and overall supply and demand. Morgan Stanley also points to supply-demand.

GMP (Canada)

Bombardier (Hold)

Aug. 5, 2016 (Received Aug. 12, 2016)

The new management team continues to execute (i.e. ruthlessly cut costs and prune non-core businesses), liquidity has improved (i.e. with investments from La Caisse and the Gov’t of Quebec), and the worst appears to be passed (i.e. most of the write-downs and cost overruns).

It seems like it’s back to business as usual for Bombardier… unfortunately however we were hoping for a major game-changer in Aerospace (i.e. CSeries, Global, Learjet). Perhaps an LCC steps up and CSeries becomes instrumental to a new business model?  I’m not holding my breath, but that would change my view.

Progress on turnaround continues; we wait for more orders

Bombardier continues to make progress on cost structure, liquidity and sales, and valuation has now re-rated and is in line with peers. We also see improving margins and cash flow as positives, balanced by near-term demand risks in Aerospace. We maintain our target price of C$1.95, based on 7x 2017 EV/EBITDA and a C$ at US$0.75. HOLD.

Goldman Sachs

Reading Between the Lines, Aug. 16, 2016:

Wide-body challenge intensifies. Multiple wide-body rate reductions have now been announced, but the risk of more seems high as all leading indicator data is still deteriorating. Airlines keep saying supply is outpacing demand. Too many new seats coming in to the system relative to the demand to fly is pressuring yields and leading many airlines to trim capacity and defer orders.

Morgan Stanley

General Note, Aug. 12, 2016

US Airlines: Pricing is improving at a slow clip, but carriers are beginning to address the imbalance with supply tweaks and hints of more to come. Based on outlooks, unit revenues into 3Q16 should show limited sequential improvement (less than 50bps); this is somewhat below initial expectations of up to 100bps, but is still moving in the right direction. Furthermore, the imbalance prompted Legacy carriers to support capacity cuts later this year that begin to address oversupply, though we do not view them as enough to fully address the existing imbalance. On that note, carriers seemed to acknowledge that 2017 growth would likely have to come in too. Further clarity will likely come later this year and our updated projections are for ~3.2% in additions vs. ~4% in 2016. From here, we prefer airlines with a mix of decelerating supply profiles and supportive revenue initiatives all of which we find in our OW-rated names (AAL, ALK, DAL, and UAL). See US Airlines: Showing Signs of Oversupply Abatement.

Aerospace & Lessors: Potential cuts upcoming on widebody programs while bizjet struggles to find a bottom. It became apparent during earnings that given sluggish demand, prior widebody cuts were potentially not enough and there is further risk. BA (OW) and SPR (OW) would be most impacted by another 777 cut and could lower our estimates by ~10% in 2017 / 2018 assuming a 1/month reduction. Lessors also corroborated continued weakness on the widebody front. On bizjets, while TXT (UW) was able to maintain its guidance, albeit with lower margins, several other OEMs cut their 2016 delivery forecasts and many suppliers do not expect any near-term rebound. Into year-end, we prefer positioning that favors companies with idiosyncratic stories such as EW-rated TDG (on capital deployment) and SPR (on contract resolution).

Where are estimates and PTs going? Airline estimates move up marginally, Aerospace and Lessor estimates are broadly unchanged, and PTs are more or less stable across the board. On Airlines, estimates are marginally up primarily on lower fuel (but are still broadly below consensus by ~5% per our conservative pricing outlook) and slight multiple compression offsets the move. Regarding Aerospace, we adjust our bizjet outlooks downward, impacting COL (EW) and TXT most, with aggregate PTs broadly unchanged from prior. Lastly on the Lessors, we maintain our relatively stable estimates with some improvement at AYR and FLY (both EW) based on opportunistic progress.

11 Comments on “Weekly analyst report: Hold on Bombardier

  1. When commercial aircraft sales as well as business aircraft sales are down simultaneously it is usually an indication that the economy is not doing well. We can also see other indicators that point in the same direction. For instance freight is down, both air cargo and shipping. But Wall Street is still breaking records and this creates the illusion that everything is fine.

  2. The war against ISIS and its effects on tourism , the massive redemption of debt by central banks ( English, European and Japanese ) and its profits unreal effects are factors that also play on the gloom in the aviation sector. After the consolidation , they must airlines turn to more differentiation? Differentiation is the beginning of the cycle in the mouths of managers who want to increase passenger service . No doubt that the Bombardier CSeries will meet this need …

  3. GMP: “Perhaps an LCC steps up and CSeries becomes instrumental to a new business model? I’m not holding my breath, but that would change my view.”

    LCC orders are usually very large and with low margins. This would not necessarily be a good thing for BBD at this stage. Even though the C Series production is improving faster than expected the numbers are still very low compared to A&B. And with the Delta and Air Canada orders BBD will be quite busy in the coming years. The game for BBD is to maintain the current customer interest momentum while increasing margins. But a premature LCC order, as defined above, would go against this strategy.

    What BBD needs most right now is another substantial order from a prestigious European carrier, like BA for example. Perhaps GMP had jetBlue in mind when thinking LCC. If that’s the case I would agree, but only if the margins are reasonable. jetBlue is the only LCC that I know of who might be willing to pay a reasonable premium for the C Series because the aircraft would fit so well in its current fleet. The C Series would be able to replace the E-jet while offering a potential alternative to the A320 with the CS500. But Airbus and Embraer are likely to offer very competitive prices in order to block the C Series. And this contradicts BBD’s goal to increase margins.

    This would only be possible to achieve if airlines realize that the C Series is an exceptional aircraft and are willing to pay a small premium for it. The C Series now has the opportunity to show its capabilities in service with Swiss (CS100) and later this Fall with airBaltic (CS300). If the aircraft is as good as we think it is, and if BBD keeps increasing production faster than anticipated, we can expect the airlines to be willing to pay a little more to acquire this gem.

    • I’m wondering about the possibility of an Avianca order. A319NEO in question, a lot of not particularly full A320 flights, E-jet operator, some short runways and plenty of high and hot conditions seem made to measure for the C series, plenty of narrowbody international flights as well. I think they must have a chance of dislodging EMB.

      • “… some short runways and plenty of high and hot conditions seem made to measure for the C series.”

        It’s hard to asses what impact the exceptional performances of the C Series will have on the market. But when coupled with its high level of comfort, which is good for consumer acceptance, and low operating costs, which is good for airlines, it makes a very attractive package indeed. The C Series attributes are likely to please a wide variety of operators. This aircraft can fly just about anywhere and under any condition, and do so economically. And to top it off it also has quite a range for an aircraft this size. This opens it to possibilities that never existed before. It’s the definition of a game changer.

        • Thats overstating it. Its a significant new entrant in the smaller end of market which has some outstanding features. The development program has been patchy with the plane itself not having many surprises, performance exceeding expectations but the business side being abysmal and has put the whole company and employees at risk.
          Some of the slow acceptance by airlines is purely because its now unfashionable capacity ( the buzz now being at the 200+ end but unlikely to sell more units) and of course the majors refreshing their offering and not afraid of giving eye watering discounts.

    • Why would/should any commerical airline be “willing to pay a small premium for” the C Series? Surely every airliner is “exceptional” in its own way, but that is no reason on its own to buy it.

      Re need being to focus on “increasing margins”, I’d argue that is exactly what they should not be doing. As an entry product and, in the segment sense, manufacturer, what they need more than anything is market liquidity (ie as many airframes in the market as possible, preferably in 2 geographic markets that are as little tied together as possible economically), something which they won’t get by focusing on increasing margins. A large buy from a single LCC that swallows a sizeable % of production capacity near term would not be good, but a smaller buy would be at least as worthwhile as any similar sized buy from a legacy carrier. Get them down the learning curve, build a base load demand, get the product out there, and cover the fixed costs.

    • Yes Boeings website shows around 30 of these ‘hub buster routes. You’ll laugh when they include JFK to Oslo- when of course existing NY to Oslo routes are served by A330 ( SAS) or 757 (United). They do exist but are tiny numbers.

  4. I have to agree with Gmp.Can BBD stay alive long enough? There’s a good reason why the niche that the C series inhabitants exists, no one could make any money from it. Just like the A380, it’s waiting for it’s time in the market. Maybe as the LCCs move up to 200 seats a gap will open up with long thin routes, maybe Africa,or more point to point higher value passengers. Seems more suited to legacy carriers. Really it depends on what B and AB do,I suspect that they will hit it with something better if it shows any sign of making any money.

  5. With CSeries estimates of up to 20% better fuel consumption vs the CEO and NG, the drop in oil prices coupled with Airbus, Boeing and Embraer putting new engines on their narrowbodies, dimmed the CSeries economic attractiveness:

    Board 1st ATO – $110/bbl

    Program Launch – $145/bbl

    1st delivery – $48/bbl

    Nico Buchholz was among many industry execs that believed oil was heading towards $200.

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