Embraer takes Boeing to arbitration for abandoning deal

Embraer takes Boeing to arbitration for abandoning deal

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Brazilian aircraft manufacturer Embraer has begun arbitration proceedings against Boeing after the US company pulled out of a proposed joint venture and sent Embraer's shares reeling to their lowest level in eight years.

"Embraer believes strongly that Boeing has wrongfully terminated the agreement to avoid its commitments to close the transaction and pay Embraer the $4.2 billion purchase price," CEO Francisco Gomes Neto said during a conference call.

Embraer and Boeing announced the deal in December 2018, with US manufacturer agreeing to pay $4.2 billion for 80% of Embraer's commercial jet division and the two companies forming a joint venture to make and market the KC-390 military transport plane.

Brazil's antitrust agency CADE approved the merger for a second time in March after federal prosecutors asked the regulator to reconsider the deal. US regulators approved the tie-up after the Brazilian government backed it in January 2019 and Embraer shareholders endorsed it in February last year. The European Union had not yet approved the merger.

Embraer said in a press release on Saturday that Boeing had engaged in a "systematic pattern of delay and repeated violations of the [agreement]" due to its "unwillingness to complete the transaction in light of its own financial condition and 737 MAX and other business and reputational problems."

Boeing said in its own press release that it decided to scrap the merger after Embraer did not meet the conditions of the proposed deal, but it did not offer details.

Boeing and Embraer have both seen their share prices plummet since the outbreak of the coronavirus COVID-19 led governments around the world to impose travel bans and other containment measures. Boeing's stock was further dragged down by the financial cost of grounding its 737 MAX airplane following fatal crashes last year.

Shares in Embraer sank 7.49% to close at BRL7.66 ($1.35) on Monday, while Boeing's shares slipped just 0.24% to $128.68.

In March, S&P Global Ratings put a negative outlook on Embraer's ratings after it downgraded Boeing and said it saw "no rating upside possibility" for the Brazilian manufacturer after it closed the deal.

"There were big questions around Boeing's liquidity going into this crisis, which started with the impact of the 737 MAX and was amplified by the COVID-19 crisis," said Ron Epstein, an analyst at Bank of America. "Boeing has also been in talks with the US government for some potential financing, so it is hard to imagine the government being happy with Boeing doing a deal of any sort with this money."

For Embraer, however, the failed deal could have a negative impact over the long run and impact its ability to compete in an increasingly crowded marketplace.

Bradesco BBI downgraded Embraer to underperform and reduced to $4 from $25 its year-end share price target for 2020. The Brazilian bank said the downgrade was due to the combination of COVID-19 leading airlines to defer 2020 and 2021 deliveries and new orders and the impact on Embraer of fierce competition between Boeing and Airbus.

"Independently of who is right and who is wrong, Embraer will remain as an independent aircraft [original equipment manufacturer] that will need to overcome the COVID-19 and compete with Airbus in the regional jets market," analysts Victor Mizusaki and Gabriel Rezende wrote in a report.

But Boeing's departure may open the possibility for Commercial Aircraft Corporation of China (Comac) to make an offer for Embraer.

"To make it happen and reduce the execution risks, Comac could propose the same terms negotiated with Boeing in the medium/long-term," the Bradesco analysts said. "In our view, this transaction would not face difficulties to be approved by antitrust authorities as it should strengthen a third player to break the Boeing-Airbus duopoly."

Embraer's Gomes did not rule out another potential tie-up during the conference call, but he declined to comment further. He added that the company has a thick order book and has targeted $1 billion in cash savings in 2020.

Beyond seeking out another suitor, Embraer could reconfigure itself as a single company, according to Epstein from Bank of America.

"Embraer is a survivor. This is not to say the next period would be easy for them. It won't be easy for anyone in commercial aviation, but when you look at their balance sheet, from a liquidity standpoint, they look pretty good," he said.