Embraer Warns Airlines of Profitability Time Bomb

Embraer has turned its marketing sights toward low-fare carriers for its new E2 series of commercial jets as it eyes new heights in terms of sales numbers. John Slattery, president and CEO of Embraer Commercial Aviation, told journalists during a briefing in Lisbon last month that industry profitability is on the wane and LCCs might best serve their interests by developing secondary and tertiary routes that could offer better margins with an aircraft like its E195-E2. The large numbers of narrowbodies from Airbus and Boeing entering service on trunk routes is creating a glut of capacity, he warned. However, Slattery admitted that winning over the LCCs—which traditionally have opted for a business model with a single aircraft type—was not easy.

“Airline profitability and EBIT margins are running at 7 percent and above, but the devil is in the detail," he said. "Low oil prices and interest rates and uniquely low labor rates had the aggregate effect of boosting profitability by a multiple. But look again at 2015 to 2018 and you can see the curve is on the wane.” Slattery explained that profitability relies on the Weighted Average Cost of Capital (WACC) staying well below EBIT. “In the long term you’ll be out of business [if it doesn't],” he warned. Meanwhile, profitability n each region around the world continues to fall year-on-year, said Slattery, who cited an environment of “higher fuel prices, interest rates, and pilot costs.”

With the “astonishing” number of available seat kilometers (ASKs) being pushed into the market, as Slattery put it, the Embraer executive sees airlines as exposed, and since the airlines used low interest rates to buy new narrowbodies, the overcapacity could make the industry vulnerable.

Therefore, with Embraer offering “up to 150-seat” jets rather than larger airplanes, Embraer believes more should consider its aircraft, said Slattery, who also noted the end of the "paradigm" of necessarily higher seat costs smaller aircraft; according to Embraer figures, the 195-E2's trip cost runs 18 percent less than that of an A320neo, and only 2 percent more per seat-kilometer. Meanwhile, the E195-E2's trip cost runs 10 percent below that of the Bombardier CS300, while its seat cost runs 3 percent less, Slatterly claimed.

As of late June the OEM had delivered three 190-E2 aircraft to Wideroe of Norway, and plans to deliver the first 195-E2 to Azul later this year. The 170-E2 will enter service in 2021. As of late June, with two aircraft in its fleet, Wideroe had recorded 413 flight hours (322 cycles) with 8-10 legs per aircraft per day (6.57 average). The airline's third aircraft is about to enter service. At that point, service reliability was 97.53 percent but Embraer pointed out that Wideroe was not an E-Jet operator before, so is on a steep learning curve.

Paulo Cesar Silva, president and CEO of the Brazilian OEM, said, since its founding in 1969, Embraer had grown into a $6 billion company with a backlog of $19 billion. It now builds business jets, counts more than 70 E-Jet operators around the world, and the first delivery of its KC-390 military airlifter (one of which is in the Farnborough static display) will take place to the Brazilian Air Force in the fourth quarter. Also at the show is a Legacy 500 business jet.

Silva declined to comment on a potential tie-up with Boeing, in the aftermath of Airbus taking a majority stake in Bombardier's C Series program—saying simply that negotiations are taking place. He also said little about the prospect of a new turboprop aircraft, revealing only that he is "interested in the business case...we continue to [engage] the market on what a new-generation, clean-sheet turboprop would look like. We say our market is anything under 150 seats. And by the way [we are also looking at] what size a hybrid-electric [aircraft] should be."

Asked about political and economic issues in Brazil, Silva said the country’s GDP had declined by 8 percent In three years “and we are now recovering from this.” With elections this year, he said hopes run high that the government’s reform plans would be supported “especially on labor.” The reforms are designed to make labor laws “more market-oriented,” he said. “The new president [when elected] will address the major reforms that Brazil must do.”

At Farnborough 2018, Embraer (Outside Exhibit 6) said it is planning new sales announcements, has an E190-E2 in the static display, and is celebrating 50 years as an OEM. It also has an E2 interior virtual reality demo and an app that shows data coming from an E2 in flight. In fact, the hope as of late June was that the company would bring two E2s to the show, one with a special livery following on from the "Profit Hunter," with an eagle on the aircraft's nose at airshows. This time, the company told journalists: "We've been in the air, and on the ground, and now we're going into the sea. The shark is perfect in having adapted...it is the perfect profit hunter." In addition, the company will "later this year" deliver its first bespoke profit hunter livery for a customer.