Shares of Brazil’s Embraer soared Wednesday after the world’s fourth-largest aircraft maker said it would sell 100 regional jets to China’s Hainan Airlines Co. for $2.7 billion.
Embraer said it will start delivering the 50 E145 and 50 larger E190 jets in 2007, and analysts described the order as a significant entry into the important Asian market for a company whose commercial jet sales have been largely stagnant in recent years.”This deal substantially raises the company’s firm order backlog, which had been stuck at around $10 billion for some time,” said Pedro Galdi, aviation analyst at ABN Amro in Sao Paulo.
The purchase from the state-owned HNA Group that owns Hainan raises Embraer’s firm orders by about 25 percent to $13.6 billion, analysts estimated. It also means Embraer will deliver more planes than the 150 that had been predicted for 2007 and increase deliveries in 2008.
Any given order is a positive sign, but by the time the news is out it is difficult for investors to take advantage of it. Rather, investors should buy if they expect other similar announcements in the future. We think there are several reasons to expect this may happen:
1. The most successful US airline, Southwest (NYSE:LUV) earned its success by offering non-stop flights from smaller airports. Regional jets could open point-to-point non-stop service to an even larger number of even smaller airports - paving the way for the next Southwest.
2. Smaller jets can be loaded and unloaded quickly, saving precious time for passengers and precious money for the operator - who can keep the jets flying (earning money) rather than sitting on the ground (costing money).
3. Smaller airports allow passengers to pass more quickly through security, further saving time. Plus, greater point-to-point service to more markets means they also save time by not having to connect through hubs.
4. Lacking the dramatic potential of larger jets, regional jets are likely to be avoided by terrorists.
Embraer has sufficient financial qualifications (ROE, growth, valuation) to pass our screening criteria for the Watch List. The list above provides further qualitative comfort with the stock.
ERJ 1-yr chart: