20-F 1 d879846d20f.htm 20-F 20-F
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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, DC 20549

 

 

FORM 20-F

 

 

 

REGISTRATION STATEMENT PURSUANT TO SECTION 12(b) OR (g) OF THE SECURITIES EXCHANGE ACT OF 1934

OR

 

ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the fiscal year ended December 31, 2019

OR

 

TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

OR

 

SHELL COMPANY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

Commission file number 001-15102

 

 

EMBRAER S.A.

(Exact name of Registrant as specified in its charter)

 

 

EMBRAER Inc.

(Translation of Registrant’s name into English)

Federative Republic of Brazil

(Jurisdiction of incorporation)

Avenida Dra. Ruth Cardoso, 8501, 30th floor,

Pinheiros, São Paulo, SP, 05425-070, Brasil

(Address of principal executive offices)

Antonio Carlos Garcia

Head of Investor Relations

(55) 11 3040 6874

Investor relations department, (55) 11 3040 6874, investor.relations@embraer.com.br

(Name, Telephone, E-mail and/or facsimile number and Address of Company Contact Person)

 

 

Securities registered or to be registered pursuant to Section 12(b) of the Act

 

Title of each class:

 

Trading
Symbol

 

Name of each exchange
on which registered

Common shares, without par value (represented by, and traded only in the form of, American Depositary Shares (evidenced by American Depositary Receipts), with each American Depositary Share representing four common shares)   ERJ   New York Stock Exchange
5.150% Notes due 2022 of Embraer S.A.(1)   ERJ/22   New York Stock Exchange
5.050% Guaranteed Notes due 2025 of Embraer Netherlands Finance B.V.(1)   ERJ/25   New York Stock Exchange
5.40% Guaranteed Notes due 2027 of Embraer Netherlands Finance B.V.(1)   ERJ/27   New York Stock Exchange

 

(1)

In connection with our then pending strategic partnership with The Boeing Company, in March 2020, after receiving the requisite consents from holders of our notes due 2022, 2025 and 2027, we started the process to deregister these notes with the SEC and delist the same notes from the New York Stock Exchange. These notes were delisted from the New York Stock Exchange on April 13, 2020. For additional information, see “5B. Liquidity and Capital Resources—Credit Facilities and Lines of Credit—Long-term Facilities.”

 

 

Securities registered or to be registered pursuant to Section 12(g) of the Act

None.

Securities for which there is a reporting obligation pursuant to Section 15(d) of the Act

Title of each class

6.375% Guaranteed Notes due 2020 of Embraer Overseas Ltd. Guaranteed by Embraer S.A.

Number of outstanding shares of each of the issuer’s classes of capital or common stock as of December 31, 2019:

736,078,625 common shares, without par value

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.    Yes  ☒    No  ☐

If this report is an annual or transition report, indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934.    Yes  ☐    No  ☒

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    Yes  ☒    No  ☐

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes  ☒    No  ☐

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or an emerging growth company. See definition of “large accelerated filer,” “accelerated filer” and “emerging growth company” in Rule 12b-2 of the Exchange Act.

 

Large Accelerated Filer      Accelerated Filer     Non-accelerated filer  
         Emerging growth company  

If an emerging growth company that prepares its financial statements in accordance with U.S. GAAP, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards† provided pursuant to Section 13(a) of the Exchange Act.  ☐

† The term “new or revised financial accounting standard” refers to any update issued by the Financial Accounting Standards Board to its Accounting Standards Codification after April 5, 2012.

Indicate by check mark which basis of accounting the registrant has used to prepare the financial statements included in this filing:

 

U.S. GAAP ☐    International Financial Reporting Standards as issued by the
International Accounting Standards Board ☒
   Other ☐

If “Other” has been checked in response to the previous question, indicate by check mark which financial statement item the registrant has elected to follow.    Item 17  ☐    Item 18  ☐

If this is an annual report, indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    Yes  ☐    No  ☒

 

 

 


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TABLE OF CONTENTS

PART I

 

Item 1.    IDENTITY OF DIRECTORS, SENIOR MANAGEMENT AND ADVISERS      6  
Item 2.    OFFER STATISTICS AND EXPECTED TIMETABLE      6  
Item 3.    KEY INFORMATION      6  
3A.    Selected Financial Data and Other Data      6  
3B.    Capitalization and Indebtedness      9  
3C.    Reasons for the Offer and Use of Proceeds      9  
3D.    Risk Factors      9  
Item 4.    INFORMATION ON THE COMPANY      26  
4A.    History and Development of the Company      26  
4B.    Business Overview      30  
4C.    Organizational Structure      54  
4D.    Property, Plant and Equipment      54  
4E.    UNRESOLVED STAFF COMMENTS      57  
Item 5.    OPERATING AND FINANCIAL REVIEW AND PROSPECTS      57  
5A.    Operating Results      58  
5B.    Liquidity and Capital Resources      84  
5C.    Research and Development, Patents and Licenses, etc.      90  
5D.    Trend Information      94  
5E.    Off-Balance Sheet Arrangements      99  
5F.    Tabular Disclosure of Contractual Obligations      102  
5G.    Safe Harbor      102  
Item 6.    DIRECTORS, SENIOR MANAGEMENT AND EMPLOYEES      102  
6A.    Directors and Senior Management      102  
6B.    Compensation      108  
6C.    Board Practices      111  
6D.    Employees      113  
6E.    Share Ownership      113  
Item 7.    MAJOR SHAREHOLDERS AND RELATED-PARTY TRANSACTIONS      113  
7A.    Major Shareholders      113  
7B.    Related-Party Transactions      114  
7C.    Interests of Experts and Counsel      116  
Item 8.    FINANCIAL INFORMATION      116  
8A.    Consolidated Statements and Other Financial Information      116  
8B.    Significant Changes      122  
Item 9.    THE OFFER AND LISTING      125  
9A.    Offer and Listing Details      125  
9B.    Plan of Distribution      125  
9C.    Markets      125  
9D.    Selling Shareholders      128  
9E.    Dilution      128  
9F.    Expenses of the Issue      128  
Item 10.    ADDITIONAL INFORMATION      128  
10A.    Share Capital      128  
10B.    Memorandum and Articles of Association      128  
10C.    Material Contracts      143  
10D.    Exchange Controls      145  

 

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10E.    Taxation      146  
10F.    Dividends and Paying Agents      154  
10G.    Statements by Experts      154  
10H.    Documents on Display      154  
10I.    Subsidiary Information      154  
Item 11.    QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK      155  
Item 12.    DESCRIPTION OF SECURITIES OTHER THAN EQUITY SECURITIES      159  
12A.    Debt Securities      159  
12B.    Warrants and Rights      159  
12C.    Other Securities      159  
12D.    American Depositary Shares      159  
   PART II   
Item 13.    DEFAULTS, DIVIDEND ARREARAGES AND DELINQUENCIES      160  
Item 14.    MATERIAL MODIFICATIONS TO THE RIGHTS OF SECURITY HOLDERS AND USE OF PROCEEDS      161  
Item 15.    CONTROLS AND PROCEDURES      161  
Item 16.    Reserved      162  
Item 16A.    AUDIT COMMITTEE FINANCIAL EXPERT      162  
Item 16B.    CODE OF ETHICS      162  
Item 16C.    PRINCIPAL ACCOUNTANT FEES AND SERVICES      162  
Item 16D.    EXEMPTIONS FROM THE LISTING STANDARDS FOR AUDIT COMMITTEES      163  
Item 16E.    PURCHASES OF EQUITY SECURITIES BY THE ISSUER AND AFFILIATED PURCHASERS      163  
Item 16F.    CHANGE IN REGISTRANT’S CERTIFYING ACCOUNTANT      163  
Item 16G.    CORPORATE GOVERNANCE      163  
Item 16H.    MINE SAFETY DISCLOSURE      166  
   PART III   
Item 17.    FINANCIAL STATEMENTS      166  
Item 18.    FINANCIAL STATEMENTS      166  
Item 19.    EXHIBITS      167  

 

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INTRODUCTION

In this annual report, “Embraer,” “we,” “us,” “our” or the “Company” refer to Embraer S.A. and its consolidated subsidiaries. All references herein to the “real,” “reais” or “R$” are to the Brazilian real, the official currency of Brazil. All references to “US$,” “dollars” or “U.S. dollars” are to United States dollars. All references to the “Brazilian government” are to the federal government of Brazil.

Presentation of Financial and Other Data

Financial Data

Our audited consolidated financial statements as of December 31, 2019 and 2018 and for the three years in the period ended December 31, 2019 (2019 audited consolidated financial statements) are included in this annual report.

Our consolidated financial statements have been prepared in accordance with International Financial Reporting Standards, or IFRS, as issued by the International Accounting Standards Board, or IASB.

According to IFRS 5, in light of the approval of the then pending strategic partnership with The Boeing Company (“Boeing”), in our financial statements as of and for the year ended December 31, 2019, we recorded and presented our Commercial Aviation business unit and related services in a single line item as discontinued operations in the statements of operations, and the balances of assets and liabilities were presented as held for sale in the statement of financial position. Our 2019 audited consolidated statement of operations retroactively presented this information for the years ended 2018 and 2017 for comparative purposes to account for the aforementioned events. On April 25, 2020, Boeing provided notice to Embraer communicating its decision to terminate the Master Transaction Agreement (as defined below) providing for the strategic partnership. In addition, Boeing terminated the Contribution Agreement (as defined below) that provided for a joint venture for the C-390 Millennium multi-mission transport aircraft. Embraer strongly believes that Boeing wrongfully terminated the Master Transaction Agreement and the Contribution Agreement. For additional information on the now terminated strategic partnership with Boeing and on the assets held for sale and discontinued operations as of December 31, 2019, see Notes 4 and 40 to our 2019 audited consolidated financial statements included elsewhere in this annual report.

IFRS 16 – Leases became effective on January 1, 2019. IFRS 16 establishes the principles for the recognition, measurement, and disclosure of leases and requires lessees to recognize a single accounting model in the statements of financial position. The lessor’s accounting in IFRS 16 remains substantially unchanged in relation to IAS 17. Lessors will continue to classify between operating or finance leases, using principles similar to the former standard and, therefore, IFRS 16 has no impact on leases where we are the lessor. We adopted the modified retrospective model. Under this approach, the financial information comparative to prior periods is not being restated and remains as previously reported in accordance with IAS 17.

As a result of the initial application of the IFRS 16 on leases of land and buildings, facilities, machinery, vehicles and other equipment that we previously recorded as operating leases, we recognized:

 

   

as of January 1, 2019, lease liabilities in the amount of US$57.6 million related to the lease payments according to the cash flows of each contract, discounted to present value at the incremental borrowing rate. The incremental weighted average borrowing nominal rate applied to lease liability on January 1, 2019 was 6.3%.

 

   

depreciation and interest expenses instead of operating lease expenses. In 2019, we recognized US$10.4 million as depreciation and US$6.0 million as interest on lease liabilities.

 

   

right-of-use assets representing the right to use the underlying assets of certain agreements were measured in an amount corresponding to the lease liability.


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For additional information on our adoption of new accounting standards, such as IFRS 16 – Leases, see Note 2.2.1.1 to our 2019 audited consolidated financial statements included elsewhere in this annual report.

After analyzing our operations and businesses on a standalone basis with regard to the applicability of International Accounting Standards, or IAS 21 – The Effects of Changes in Foreign Exchange Rates, particularly in relation to the factors involved in determining our functional currency, management concluded that our functional currency is the U.S. dollar. This conclusion was based on an analysis of the following factors, as set forth in IAS 21: (i) the currency that most influences sale prices of goods and services; (ii) the currency of the country whose competitive forces and regulations most determine the sale prices of our goods and services; (iii) the currency that most influences the costs of providing goods and services; and (iv) the currency in which the funds for financial operations are largely obtained. Our audited consolidated financial statements included elsewhere in this annual report are presented in U.S. dollars, which is our presentation currency.

In our 2019, 2018 and 2017 consolidated financial statements, gains or losses resulting from the remeasurement of the monetary items and from foreign currency transactions have been reported in the consolidated statement of income as a single line item as foreign exchange gain (loss), net.

For certain purposes, including providing reports to our Brazilian shareholders, filing financial statements with the Comissão de Valores Mobiliários (Brazilian securities commission), or CVM, and determining dividend payments and other distributions and tax liabilities in Brazil, we have prepared, and will continue to be required to prepare, financial statements in accordance with Law No. 6,404 of December 15, 1976, as amended, or the Brazilian Corporate Law.

Other Data and Backlog

In this annual report:

 

   

some of the financial data reflects the effect of rounding;

 

   

aircraft ranges are indicated in nautical miles;

 

   

one nautical mile is equal to approximately 1.15 ordinary or “statute” miles, or approximately 1.85 kilometers;

 

   

aircraft speeds are indicated in nautical miles per hour, or knots, or in Mach, which is a measure of the speed of sound;

 

   

the term “regional jet” refers to commercial jet aircraft in the 35-120 seat-segment;

 

   

the term “commercial aircraft” as it applies to Embraer, refers to our aircraft in the up to 150 seat-segment, which includes our regional jets;

 

   

the terms “entry-level jet” and “light jet” refer to executive jets that usually carry from four to eight passengers and up to nine passengers, respectively, that are designed for short take-off distances;

 

   

the term “medium cabin jet” refers to executive jets that usually carry up to 12 passengers and can cover distances ranging from 1,700 to 3,900 nautical miles;

 

   

the term “large jet” refers to executive jets that usually carry up to 19 passengers and can cover distances greater than 4,000 nautical miles;

 

   

the term “ultra-large jet” refers to executive jets that usually have longer ranges and over-sized cabin spaces and can carry up to 19 passengers; and

 

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the term “executive jets,” as it applies to us, refers to our aircraft sold to companies, including fractional ownership companies, charter companies and air-taxi companies and high-net-worth individuals.

We calculate our backlog as the sum of the contract values of all firm orders (i) for any aircraft that have not yet been delivered, (ii) for services and support contracts for all business units, including repair services and spare parts contracts for a period of more than one year, and (iii) for services and technologies contracted and not yet performed in our Defense and Security business unit. A firm order is a firm commitment from a customer, represented by a signed contract. Options to acquire aircraft are not considered as part of our backlog.

Special Note Regarding Forward-Looking Statements

This annual report includes forward-looking statements, within the meaning of Section 27A of the U.S. Securities Act of 1933, as amended, or the Securities Act, and Section 21E of the U.S. Securities Exchange Act of 1934, as amended, or the Exchange Act, principally in Items 3 through 5 and Item 11 of this annual report. We have based these forward-looking statements largely on our current expectations and projections about future events and industry and financial trends affecting our business. These forward-looking statements are subject to risks, uncertainties and assumptions, including, among other things:

 

   

general economic, political and business conditions in Brazil and in our other markets;

 

   

changes in competitive conditions and in the general level of demand for our products;

 

   

management’s expectations and estimates concerning our future financial performance, financing plans and programs, and the effects of competition;

 

   

the effects of customers canceling, modifying and/or rescheduling contractual orders;

 

   

the effect of changing priorities or reductions in the Brazilian government or international government defense budgets on our revenues;

 

   

our level of indebtedness;

 

   

our expenditure plans;

 

   

inflation and fluctuations in exchange rates;

 

   

the impact of volatile fuel prices and the airline industry’s response;

 

   

our ability to develop and deliver our products on a timely basis;

 

   

availability of sales financing for our existing and potential customers;

 

   

existing and future governmental regulation;

 

   

our relationship with our workforce;

 

   

the outbreak of communicable diseases in Brazil and other countries; and

 

   

other risk factors, including those set forth under “Item 3. Key Information—3D. Risk Factors.”

The words “believe,” “may,” “will,” “forecast,” “estimate,” “plan,” “continue,” “anticipate,” “intend,” “expect” and similar words herein are intended to identify forward-looking statements. We undertake no obligation to update publicly or revise any forward-looking statements because of new

 

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information, future events or other factors. In light of these risks and uncertainties, the forward-looking events and circumstances discussed in this annual report might not occur. Our actual results and performance could differ substantially from those anticipated in our forward-looking statements. As a result of various factors, including those risks described in “Item 3. Key Information—3D. Risk Factors,” undue reliance should not be placed on these forward-looking statements.

EXPLANATORY NOTE

Termination of Strategic Partnership with Boeing

On January 24, 2019, we entered into a Master Transaction Agreement (the “MTA” or “Master Transaction Agreement”) and certain other transaction documents with Boeing and certain subsidiaries of Embraer or Boeing, pursuant to which a subsidiary of Boeing would acquire a controlling stake in Embraer’s Commercial Aviation business unit and Embraer, or a subsidiary of Embraer, and Boeing, or a subsidiary of Boeing, would form a joint venture for the promotion and development of new markets and applications for the C-390 Millennium multi-mission transport aircraft (collectively, the “Transaction”).

On January 1, 2020, we implemented the internal carve-out of our Commercial Aviation business unit by means of the contribution by Embraer to the capital stock of Yaborã Indústria Aeronáutica S.A. (the “Commercial Aviation NewCo” or “Yaborã”) of the net assets comprising assets, liabilities, properties, rights and obligations (subject to certain exceptions) related to our Commercial Aviation business unit. In exchange for the contribution, the Commercial Aviation NewCo issued common shares and redeemable preferred shares to Embraer. The Commercial Aviation NewCo’s redeemable preferred shares have a liquidation preference, a right to receive an annual fixed cumulative dividend payable at a 3.3% rate, a right to be redeemed after two years from the date of issuance, and have no voting rights.

On April 25, 2020, we received a notice from Boeing communicating its decision to terminate the MTA, based on Boeing’s assertion that certain closing conditions in the MTA had not been satisfied by Embraer by the April 24, 2020 termination date in the MTA. In addition, Boeing terminated the Contribution Agreement.

We strongly believe that Boeing wrongfully terminated the MTA and the Contribution Agreement and that it had a continuing obligation to abide by the terms thereof. Embraer strongly believes that Embraer was in full compliance with its obligations under the MTA and the Contribution Agreement. We are pursuing all remedies against Boeing for the damages incurred by Embraer as a result of Boeing’s wrongful termination and violation of the MTA and the Contribution Agreement, including by means of arbitration proceedings that have commenced by both sides in connection with the termination of the MTA and/or the Contribution Agreement by Boeing. No assurance can be given as to the timing or outcome of the arbitration proceedings or any recovery that Embraer may receive or loss that Embraer may incur therefrom or with respect to the arbitration that Boeing has commenced against us.

Assets Held for Sale and Discontinued Operations

Overview

A discontinued operation is a company’s business component that comprises operations and cash flows that may be clearly distinct and:

 

   

that represents a separate major line of business or geographic area of operations;

 

   

that is part of a coordinated single plan for the sale of a separate major line of business or geographic area of operations; or

 

   

that is a subsidiary acquired exclusively with a view to resale.

 

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The classification of a company’s operation as a discontinued operation is achieved through its disposal, or at the time the transaction meets the criteria of IFRS 5 to have its assets and liabilities classified as held for sale, whichever occurs earlier.

An asset or group of assets and liabilities is held for sale when it is expected that its carrying amount will be recovered mainly from the sale transaction rather than continuous use. This occurs if the asset is available for immediate sale under its current conditions, subject only to customary and usual terms for the conclusion of the transaction, when the sale transaction is defined as “highly probable” under the accounting standard.

Commercial Aviation Business Unit

According to IFRS 5, in light of the approval of the then pending strategic partnership with Boeing, our financial statements as of and for the year ended December 31, 2019 were prepared considering the designation, measurement and presentation of the assets, liabilities and results of the Commercial Aviation business unit and related services as assets held for sale and discontinued operations, pursuant to the terms of the Master Transaction Agreement. Accordingly, in our financial statements as of and for the year ended December 31, 2019, we recorded and presented our Commercial Aviation business unit and related services in a single line item as discontinued operations in the statements of operations, and the balances of assets and liabilities were presented as held for sale in the statement of financial position.

Our 2019 audited consolidated statement of operations retroactively presented this information for the years ended 2018 and 2017 for comparative purposes to account for the aforementioned events. The balances of assets and liabilities held for sale as of December 31, 2019, was US$5,174.6 million and US$4,984.0 million, respectively. The results of discontinued operations for the years ended December 31, 2019, 2018 and 2017 was a loss of US$111.8 million, a profit of US$90.1 million and a profit of US$403.3 million, respectively.

In addition, for comparative purposes of the financial data presented in Item 3 of this annual report, we have recast the statement of operations for the years ended December 31, 2016 and 2015 to account for the discontinued operations in all comparative periods. The recast financial data for the years ended December 31, 2016 and 2015 included herein are unaudited.

On April 25, 2020, Boeing provided notice to Embraer communicating its decision to terminate the Master Transaction Agreement providing for the strategic partnership. In addition, Boeing terminated the Contribution Agreement that provided for a joint venture for the C-390 Millennium multi-mission transport aircraft. Embraer strongly believes that Boeing wrongfully terminated the Master Transaction Agreement and the Contribution Agreement. Starting on April 25, 2020 and as a result of the above, assets and liabilities previously presented as held for sale will be reclassified and measured as held for continuous use, as well as the results of operations previously reported as discontinued operations will be reported as continuing operations. For additional information on the now terminated strategic partnership with Boeing and on the assets held for sale and discontinued operations as of December 31, 2019, see Notes 4 and 40 to our 2019 audited consolidated financial statements included elsewhere in this annual report.

The reduction in the demand for travel combined with government-imposed travel restrictions is materially and adversely affecting the aerospace industry, causing some airlines to suspend, cancel or reduce flights. As a consequence, demand for new aircraft has declined as airlines are wary of the COVID-19 air travel restrictions and its consequences. Our customers are now, due to COVID-19, focused on preserving capital and avoiding purchasing aircraft, which will adversely and materially affect us.

Accordingly, we expect that 2020 will be a distinct year in terms of orders and deliveries due to the impacts of the COVID-19 pandemic. The airline business has been adversely affected due to COVID-19, and we will have to review our production chain in order to reflect the new and uncertain demand scenario. We have already implemented employee furloughs and workload reduction measures and, accordingly, we had to make adjustments to our production capacity. As a result of COVID-19, some of our customers rescheduled their aircraft deliveries carrying them over to 2021 and beyond, which has affected our 2020 projected deliveries. As of the date of this annual report, no cancellation has occurred. Although we cannot predict the full impact of the COVID-19 pandemic in the short-to-medium term to our business, we expect that customers will continue to postpone their scheduled aircraft deliveries and will cancel their orders.

 

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As a result of the now terminated Transaction, we also expect that our results of operations and financial condition may be affected by costs and expenses associated with the creation of, and contribution of assets and liabilities to, the Commercial Aviation NewCo. For additional information on the now terminated strategic partnership with Boeing and on the assets held for sale and discontinued operations as of December 31, 2019, see Notes 4 and 40 to our 2019 audited consolidated financial statements included elsewhere in this annual report.

Part I

 

Item 1.

IDENTITY OF DIRECTORS, SENIOR MANAGEMENT AND ADVISERS

Not applicable.

 

Item 2.

OFFER STATISTICS AND EXPECTED TIMETABLE

Not applicable.

 

Item 3.

KEY INFORMATION

 

3A.

Selected Financial Data and Other Data

The following tables present a summary of our selected financial data derived from our audited consolidated financial statements prepared in accordance with IFRS as issued by IASB as of and for the years ended December 31, 2019, 2018 and 2017. The selected financial data as of December 31, 2019 and 2018 and for the three years ended in the period December 31, 2019 should be read together with our audited consolidated financial statements as of December 31, 2019 and 2018 for the three years in the period ended December 31, 2019 and related notes thereto included elsewhere in this annual report. We have also recast the statement of operations for the years ended December 31, 2016 and 2015 to account for the discontinued operations in all comparative periods. The recast financial data for the years ended December 31, 2016 and 2015 included herein are unaudited. For information on our business unit results, see Note 39 to our 2019 audited consolidated financial statements included elsewhere in this annual report.

Selected Financial Data

 

     Year Ended December 31,(8)  

Consolidated Statements of Income Data

   2019(7)     2018     2017     2016(1)     2015(1)  
          

Recast

   

Recast

   

Recast

   

Recast

 
     (in US$ millions)  

Revenue

     2,618.1       2,127.7       2,546.5       2,729.7       2,643.5  

Cost of sales and services

     (2,259.9     (1,929.6     (2,248.6     (2,264.5     (2,339.2

Gross profit

     358.2       198.1       297.9       465.2       304.3  

Operating income (expense)

          

Administrative

     (136.7     (136.1     (138.9     (113.1     (128.9

Selling

     (148.2     (151.4     (169.9     (203.8     (202.2

Research

     (19.7     (19.5     (22.2     (20.0     (19.5

Other operating income (expense), net

     (215.8     (173.8     (163.9     (353.1     (35.4

Equity in income (losses) of associates

     (0.2     (0.4     1.2       (0.3     (0.3

Operating loss before financial result

     (162.4     (283.1     (195.8     (225.1     (82.0

Financial income, net

     61.5       6.1       95.0       116.6       97.7  

Foreign exchange gain (loss), net

     (0.3     (5.0     5.7       43.9       (88.7

Loss before income tax

     (101.2     (282.0     (95.1     (64.6     (72.9

Income tax expense

     (103.5     20.7       (28.2     188.4       (183.7

Loss of the continuing operations period

     (204.7     (261.3     (123.3     178.6       69.2  

Net Income (loss) of the discontinued operations

     (111.8     90.1       403.3       56.5       337.5  

 

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     Year Ended December 31,(8)  

Consolidated Statements of Income Data

   2019(7)     2018     2017      2016(1)      2015(1)  
           Recast     Recast      Recast      Recast  
     (in US$ millions)  

Net Income (loss) for the period

     (316.5     (171.2     280.0        180.3        80.8  

Attributable to:

            

Owners of Embraer S.A.

     (322.3     (178.2     264.0        178.6        69.2  

Noncontrolling interests

     5.8       7.0       16.0        1.7        11.6  

 

     Year Ended December 31, (8)  

Earnings per Share—Basic

   2019(7)     2018     2017      2016(1)      2015(1)  
          

Recast

   

Recast

    

Recast

    

Recast

 
     (in US$, except for share data)  

Net income (loss) attributable to owners of Embraer S.A.

     (322.3     (178.2     264.0        178.6        69.2  

Weighted average number of shares (in thousands)

     735,850       734,065       734,264        735,571        730,205  

Basic earnings per share—U.S. dollars

     (0.44     (0.24     0.36        0.24        0.09  

 

     Year Ended December 31,  

Earnings per Share—Diluted

   2019(7)     2018     2017      2016(1)      2015(1)  
          

Recast

   

Recast

    

Recast

    

Recast

 
     (in US$, except for share data)  

Net income attributable to owners of Embraer S.A.

     (322.3     (178.2     264.0        178.6        69.2  

Weighted average number of shares (in thousands)

     735,850       734,065       734,264        735,571        730,205  

Dilution for the issuance of stock options (in thousands)(2)

     —         —         545        1,690        3,364  

Weighted average number of shares (in thousands) diluted

     735,850       734,065       734,809        737,261        733,569  

Diluted earnings per share

     (0.44     (0.24     0.36        0.24        0.09  

 

     As of December 31, (8)  

Consolidated Statement of Financial Position Data

   2019(7)      2018      2017      2016      2015(1)  
     (in US$ millions)  

Cash and cash equivalents

     855.2        1,280.9        1,270.8        1,214.5        2,165.5  

Financial investments (current)

     409.8        1,743.4        2,366.1        1,775.6        622.6  

Inventories

     1,304.4        2,507.0        2,148.7        2,496.4        2,314.6  

Other current assets(3)

     827.4        1,539.7        1,294.0        1,310.1        1,308.9  

Property, plant and equipment, net

     968.9        1,964.7        2,104.9        2,154.2        2,027.4  

Intangible assets, net

     894.1        1,898.8        1,882.4        1,664.6        1,405.4  

Other long-term assets(4)

     138.1        358.8        907.7        1,077.4        1,825.1  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 
     5,397.9        11,293.3        11,974.6        11,719.8        11,669.5  

Assets held for sale

     5,174.6        —          —          —          —    
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total assets

     10,572.5        11,293.3        11,974.6        11,719.8        11,669.5  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Short-term loans and financing

     14.9        179.3        388.9        510.3        219.4  

Other current liabilities(5)

     1,387.1        2,849.3        2,414.3        2,717.5        2,861.0  

Long-term loans and financing

     76.1        3,468.4        3,809.6        3,249.6        3,311.1  

Other long-term liabilities(6)

     495.8        856.2        1,184.3        1,306.0        1,434.3  

Shareholders’ equity

     3,517.7        3,845.7        4,064.1        3,844.0        3,741.8  

Non-controlling interests

     96.9        94.4        113.4        92.4        101.9  

Total shareholders’ equity

     3,614.6        3,940.1        4,177.5        3,936.4        3,843.7  

Liabilities held for sale

     4,984.0        —          —          —          —    
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total liabilities and shareholders’ equity

     10,572.5        11,293.3        11,974.6        11,719.8        11,669.5  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

 

(1)

The consolidated financial information as of and for the year ended December 31, 2015 has been derived from our historical financial statements but was not restated for the retrospective application of IFRS 9 and IFRS 15 as management cannot provide this financial information without unreasonable effort or expense.

(2)

Refers to the effect of potentially dilutive shares.

(3)

Other current assets consist of trade accounts receivable, net; derivative financial instruments; customer and commercial financing; collateralized accounts receivable; income tax and social contribution; contract assets; guarantee deposits and other assets.

(4)

Other long-term assets consist of financial investments; derivative financial instruments; customer and commercial financing; collateralized accounts receivable; guarantee deposits; deferred income tax and social contribution; other assets; investments and rights of use.

(5)

Other current liabilities consist of trade accounts payable; lease liability; recourse debt and non-recourse debt; other payables; contract liabilities, derivative financial instruments; taxes and payroll charges payable; income tax and social contribution; financial guarantee and residual value; dividends payable and unearned income; and provisions.

(6)

Other long-term liabilities consist of lease liability; recourse debt and non-recourse debt; other payables; contract liabilities; derivative financial instruments; taxes and payroll charges payable; deferred income tax and social contribution; financial guarantee and residual value; unearned income; and provisions.

(7)

IFRS 16 – Leases became effective on January 1, 2019. We adopted modified retrospective model with first-time adoption date on January 1, 2019. Under this approach, the financial information comparative to prior periods is not being restated and remains as previously reported in accordance with IAS 17.

 

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(8)

In our financial statements as of and for the year ended December 31, 2019, we recorded and presented our Commercial Aviation business unit and related services in a single line item as discontinued operations in the statements of operations, and the balances of assets and liabilities were presented as held for sale in the statement of financial position. Our 2019 audited consolidated statement of operations retroactively presented this information for the years ended 2018 and 2017 for comparative purposes to account for the aforementioned events. We have also recast the statement of operations for the years ended December 31, 2016 and 2015 to account for the discontinued operations in all comparative periods. The recast financial data for the years ended December 31, 2016 and 2015 included herein are unaudited. For additional information on the now terminated strategic partnership with Boeing and on the assets held for sale and discontinued operations as of December 31, 2019, see Notes 4 and 40 to our 2019 audited consolidated financial statements included elsewhere in this annual report.

The following tables present a summary of our operational data as of the dates and for the periods indicated.

Other Data

 

                                                                                              
     Year ended December 31,  

Other Data: Aircraft delivered:

   2019      2018      2017      2016      2015  

To the Commercial Aviation Market(1)

     89        90        101        108        101  

EMBRAER 170

     —          1        —          —          2  

EMBRAER 175

     67        67        79        90        82  

EMBRAER 190

     5        13        12        11        8  

EMBRAER 195

     3        5        10        7        9  

EMBRAER 190-E2

     7        4        —          —          —    

EMBRAER 195-E2

     7              

To the Defense and Security Market

     13        15        8        16        20  

EMB 145 AEW&C/RS/MP

     6        6        5        3        1  

EMB 312 Tucano/AL-X/ Super Tucano

     5        9        3        13        19  

C-390

     2        —          —          —          —    

To the Executive Jets Market

     109        91        109        117        120  

Legacy 600/650

     5        4        7        9        12  

Legacy 450/500

     26        23        29        33        23  

Praetor 500

     3        —          —          —          —    

Praetor 600

     13        —          —          —          —    

Phenom 100

     11        11        18        10        12  

Phenom 300

     51        53        54        63        70  

Lineage 1000

     —          —          1        2        3  

To the General Aviation Market

     15        18        16        2        19  

Light Propeller Aircraft

     15        18        16        2        19  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total delivered (in aircraft)

     226        214        234        243        260  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

 

                                                                                              
     As of December 31,  

Other Data: Aircraft in backlog

   2019      2018      2017      2016      2015  

In the Commercial Aviation Market(1)

     338        368        435        450        513  

EMBRAER 170

     —          —          1        3        3  

EMBRAER 175

     181        204        103        104        169  

EMBRAER 190

     4        7        46        56        55  

EMBRAER 195

     —          3        5        12        19  

EMBRAER 175 – E2

     —          —          100        100        100  

EMBRAER 190 – E2

     16        43        74        85        77  

EMBRAER 195 – E2

     137        111        106        90        90  

In the Defense and Security Market

     80        76        73        64        74  

EMB 312 Tucano/EMB 314/EP Super Tucano

     15        8        14        7        14  

LAS

     12        15        6        —          6  

E99

     5        5        5        5        5  

C-390

     31        28        28        28        28  

VU-Y

     2        3        4        4        6  

MFTS

     —          —          1        5     

F-39

     15        15        15        15        15  

PHENOM 100*

     0        2        —          —          —    

In the Executive Jets Market

     94        61        64        122        163  

Legacy 450/500/600/650/Phenom 100/300/Lineage 1000/EMBRAER 170/190 Shuttle

     64        61        64        122        163  

Total backlog (in aircraft)

     512        505        572        636        750  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total backlog (in US$ millions)

     16,755.0        16,300.5        18,337.0        19,622.8        22,460.7  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

 

(1)

In our financial statements as of and for the year ended December 31, 2019, we recorded and presented our Commercial Aviation business unit and related services in a single line item as discontinued operations in the statements of operations, and the balances of

 

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  assets and liabilities were presented as held for sale in the statement of financial position. Our 2019 audited consolidated statement of operations retroactively presented this information for the years ended 2018 and 2017 for comparative purposes to account for the aforementioned events. We have also recast the statement of operations for the years ended December 31, 2016 and 2015 to account for the discontinued operations in all comparative periods. The recast financial data for the years ended December 31, 2016 and 2015 included herein are unaudited. For additional information on the now terminated strategic partnership with Boeing and on the assets held for sale and discontinued operations as of December 31, 2019, see Notes 4 and 40 to our 2019 audited consolidated financial statements included elsewhere in this annual report.
*

Although the PHENOM 100 is part of our Executive Jets business unit portfolio, we have sold the aircraft presented herein to undisclosed customers of our Defense and Security business unit.

 

3B.

Capitalization and Indebtedness

Not applicable.

 

3C.

Reasons for the Offer and Use of Proceeds

Not applicable.

 

3D.

Risk Factors

Risks Relating to Embraer

The outbreak of communicable diseases around the world, including COVID-19, may lead to higher volatility in the global capital markets and recessionary pressure on the global economy.

The outbreak of communicable diseases on a global scale has affected investment sentiment and result in sporadic volatility in global capital markets and may have a recessionary effect on the global economy, including in Brazil.

The outbreak of the novel coronavirus, known as COVID-19, was first identified in December 2019 in Wuhan, China, and has since spread globally. The COVID-19 outbreak has compelled governments around the world to adopt measures to contain the spread of COVID-19 by means such as lockdowns of cities, restrictions on travel and public transportation, business and store closures, and emergency quarantines, among others, and responses by businesses and individuals to reduce the risk of exposure to infection, including reduced travel, cancellation of meetings and events, and implementation of work-at-home policies, among others, which has caused significant disruptions to the global economy and normal business operations across a growing list of sectors and countries. It adversely affected business confidence and consumer sentiment, and have been, and may continue to be, accompanied by significant volatility in financial and commodity markets. The spread of COVID-19, especially if the measures to curb the spread of the virus last for longer than expected, may have broader macro-economic implications, including reduced levels of economic growth and possibly a global recession, the effects of which could be felt well beyond the time the spread of infection is contained.

The reduction in the demand for travel combined with government-imposed travel restrictions is materially and adversely affecting the aerospace industry, causing some airlines to suspend, cancel or reduce flights. As a consequence, demand for new aircraft has declined as airlines are wary of the COVID-19 air travel restrictions and its consequences. Our customers are now, due to COVID-19, focused on preserving capital and avoiding purchasing aircraft, which will adversely and materially affect us.

Additionally, as a result of COVID-19 pandemic, on March 17, 2020, our Brazilian corporate employees responsible for critical functions started to work from home and, on March 22, 2020, we decided to put our Brazilian employees that could not work remotely on paid leave until March 31, 2020. Until March 31, 2020, we were only carrying out essential activities at our facilities, including customer support, aircraft maintenance and manufacturing. On March 30, 2020, we further decided to put our Brazilian employees responsible for non-critical functions on collective vacation from April 1 to April 9, 2020. During this temporary shutdown of our facilities, we implemented safety measures to adapt our facilities to the World

 

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Health Organization (“WHO”) guidelines. On April 10, 2020, we implemented a job preservation plan that included temporary furloughs, reduction in working hours and pay cuts to certain of our employees, as a means of guaranteeing their employment upon completion of the plan. This plan started on April 13, 2020 and will last between 60 and 90 days. On April 13, 2020, all of our Brazilian employees that could not work remotely and were not included in the job preservation plan returned to work at our adapted facilities. Our or other companies’ operations may be suspended again or remain suspended for a longer time. Due to the uncertainty related to the spread of COVID-19, we have also suspended the projections relating to our expected results for 2020, last updated on November 12, 2019. Although, as of the date of this annual report, we have experienced certain delays in our supply chain, production operations and material impacts on the demand for our products, as well as a cancellation of firm orders of our Executive Jets business unit and reschedules of our Commercial Aviation and Executive Jets business units aircraft deliveries, we expect that COVID-19 will continue to disrupt our business operations and will adversely and materially impact our results of operations or those of other companies or customers on which we depend.

A downturn in our key markets may reduce our sales and revenue, and, consequently, our profitability.

We expect that a substantial portion of our results will be affected, directly or indirectly, from sales of aircraft, which have historically been cyclical due to a variety of factors that are both external and internal to the air travel industry, including general economic conditions, and, most recently and importantly, the effects of COVID 19 on our operations and financial condition, which we cannot fully foresee as of the date of this Annual Report. For additional information on the impacts of COVID-19, see “Item 3. Key Information—3D. Risk Factors—Risks Relating to Embraer—The outbreak of communicable diseases around the world, including COVID-19, may lead to higher volatility in the global capital markets and recessionary pressure on the global economy.”

Economic downturns in our industry may reduce air travel demand and corporate and personal spending, which may negatively impact our Commercial Aviation and Executive Jets business units. As a result of the COVID-19 pandemic, as of the date of this annual report, one of our executive jets customers cancelled its firm orders and customers of our Commercial Aviation and Executive Jets business units have rescheduled their aircraft deliveries. Downturns have in the past and may also in the future, due to COVID-19 or to other reasons, lead to a decrease in the volume of financing available to our customers for aircraft purchases, particularly in the aforementioned business units. A continued downturn in general economic conditions could result in further reductions in air travel and decreased orders for our aircraft. Our customers could also continue to defer or to cancel their purchases of our aircraft. We cannot predict the magnitude or duration of the impact that the aforementioned events would not only have on the air transport industry as a whole, and on our business in particular.

We depend on key customers.

In the Executive Aviation business unit, we have been increasingly relying on individual orders as the share of fleet orders in the backlog has been diminishing. Despite the fact that we sold a Praetor and Phenom fleet to a large fractional operator in 2019, we believe that fleet renewal demand will occur at a more moderate rate over a longer period as the current operator’s fleet ages.

In our Defense and Security business unit, the Brazilian government is our largest customer of defense aircraft products. Revenue from sales to the Brazilian government accounted for 54.4% of the business unit revenue for the year ended December 31, 2019. A decrease in defense investments by the Brazilian government due to budgetary constraints or other factors that are out of our control could decrease our Defense and Security revenue. We cannot assure you that the Brazilian government will continue to acquire defense products and services from us in the future at the same rate or at the same level.

 

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Our aircraft sales are subject to cancellation and rescheduled delivery provisions that may reduce our future income, profitability, backlog and cash flow.

A portion of our aircraft firm orders is subject to significant contingencies before delivery. Prior to delivery, some of our purchase contracts may be terminated, or all or a portion of a particular firm order may be canceled, for different reasons, including (i) extended delays in delivering aircraft or failure to obtain certification of the aircraft or otherwise meet performance milestones and other requirements, (ii) the failure of a customer to honor its aircraft purchases or (iii) production rate shortfalls.

Our customers may also reschedule deliveries or cancel orders, particularly during an economic downturn. In 2019, we had income, considering our continuing and discontinued operations, of US$31.0 million related to contractual fines paid by customers due to contract cancellations, compared to contractual fines income of US$35.4 million in 2018 and US$2.4 million in 2017. Material cancellations, delays or decreases in the number of aircraft delivered in any year would reduce our sales and revenue, and, consequently, our profitability, cash flow and backlog.

Legal proceedings pertaining to the now terminated strategic partnership with Boeing, including arbitration proceedings related to Boeing’s termination of and failure to close the MTA and/or the Contribution Agreement, may adversely impact our business, financial condition and results of operations.

We have incurred and may continue to incur additional costs in connection with the prosecution, defense or settlement of the currently pending and any future legal proceedings relating to the Transaction and/or Boeing’s termination of and failure to close the Transaction. Such legal proceedings include, among other matters, the ongoing arbitration proceedings between Embraer and Boeing that have commenced in connection with the termination of the MTA and/or the Contribution Agreement by Boeing. Both Embraer and Boeing have separately commenced arbitrations in connection with the termination. Such legal proceedings may also include litigation brought by our stockholders and holders of our ADRs related to the Transaction and/or Boeing’s termination of, and failure to consummate the transactions contemplated by, the MTA and the Contribution Agreement. We continue to strongly believe that Boeing wrongfully terminated the MTA and the Contribution Agreement, that Embraer was in full compliance with its obligations under the MTA and the Contribution Agreement and that our pending arbitration proceedings against Boeing and its affiliates are a valid enforcement of our rights under the MTA and the Contribution Agreement. We cannot predict the outcome of any such legal proceedings. Such legal proceedings may also create a distraction for our management team and board of directors and require time and attention. In the case of an adverse determination in the arbitration proceedings, we may not recover any damages from Boeing and we may be required to pay significant monetary damages to Boeing. In addition, even if we ultimately succeed in such legal proceedings, there may be negative publicity attached to such legal proceedings, which may materially and adversely affect our reputation and brand names. As a result, any legal proceedings relating to the Transaction or Boeing’s termination of and failure to close the Transaction could, among other things, adversely affect our business, financial condition and results of operations.

We may face a number of challenges resulting from the development of new products and the possible pursuit of strategic opportunities and transactions.

We cannot assure you that our products will be accepted by our customers and the market, and if any of our new products do not meet customer expectations or market demand, our business would be adversely affected. In addition, as we continue to develop new products, we may need to reallocate existing resources and coordinate with new suppliers and risk-sharing partners. Finally, cost overruns and delays in the development and delivery of new products would adversely affect us.

We may pursue strategic opportunities and transactions, just as we have in the past, including joint ventures, partnerships, acquisitions or divestitures. We may face a number of challenges, including difficulties in identifying appropriate partners, assimilating with or adjusting to our partners’ or targets’ operations and personnel, maintaining internal standards and controls, as well as the diversion of our management’s focus from our ongoing business. We cannot assure you that we will be able to meet these challenges and that our business or the trading price of our common shares or ADSs will not face disruptions as a result of such opportunities or transactions or the markets’ perception thereof.

 

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We may be required to refund cash contributions in connection with the production or development of our aircraft if certain milestones for our aircraft are not reached.

We have arrangements with our risk-sharing partners, pursuant to which they have contributed to us, in cash over the years, a total of US$1,369.5 million since the beginning of the development of the EMBRAER 170/190 (recorded and presented as discontinued operations for the financial statements as of and for the year ended December 31, 2019), Phenom 100/300, Legacy 450/500 jet families and the E2 jet family (recorded and presented as discontinued operations for the financial statements as of and for the year ended December 31, 2019) through December 31, 2019. Cash contributions would have to be refunded by us to the risk-sharing partners to the extent that we had failed to fulfill certain agreed-upon milestones. In 2019, we met all the required milestones, and as a result, the full amount of the cash contributions was nonrefundable.

Although, currently, no cash contributions from our risk-sharing partners are refundable, we may enter into similar arrangements, and if we are unable to meet certain milestones agreed upon with our risk-sharing partners, we may be required to refund cash contributions for which we have not established provisions.

We face significant international competition, which may adversely affect us.

As a relatively new entrant to the executive jets market, we face significant competition from companies with longer operating histories and established reputations in the industry. Some of our competitors in the executive jets market have a longer track record and a more established customer base. In addition, the level of pre-owned aircraft for sale, continues to pressure new aircraft demand in this business unit and may impact the value of the used aircraft in our portfolio. We cannot assure you that we will increase our market share in the executive jets market business unit, or that we will not experience a reduction in our current market share in this business unit, especially taking into account an instable and contracting market demand scenario that we expect in 2020.

Protectionist measures adopted by the governments of specific countries could adversely affect us. Our production is spread globally, with parts manufactured in one or more countries and assembled in another, and as a result any limitations to trade, including quotas, tariffs, subsidies or local content requirements, may increase our production costs and affect our capacity to compete in equal terms in the market for our products.

We work with a limited number of key suppliers.

We do not manufacture all of the parts and components used in the production of our aircraft. Approximately 65.4% of the production costs in our Executive Jets and Defense and Security business units and approximately 86.8% of the production costs in Commercial Aviation business unit (recorded and presented as discontinued operations for the financial statements as of and for the year ended December 31, 2019) consist of materials and equipment purchased from our risk-sharing partners and other major suppliers. Risk-sharing arrangements are those in which suppliers are responsible for the design, development and manufacture of major components or systems of our aircraft. In some cases, the aircraft are designed specifically to accommodate a particular component, which cannot be substituted by another manufacturer without significant delays and expense. In addition, there exist only a limited number of suppliers of certain key components of aircraft globally. We work closely with our main suppliers in order to mitigate any potential supply chain risk, but we cannot assure you that these risks, which could negatively and adversely affect our operating and financial performance, will not materialize.

Intellectual property violations may adversely affect us.

We rely on patent, copyright, trademark and trade secret laws, and agreements with our employees, customers, suppliers and other parties, to establish and maintain our intellectual property rights in technology and products used in our operations. Despite these efforts to protect our intellectual property rights, any of our direct or indirect intellectual property rights could be challenged, invalidated or circumvented. In addition,

 

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although we believe that we lawfully comply with the intellectual property rights granted to others, we may be accused of infringement on occasion and could have claims asserted against us in the future. These claims could harm our reputation, lead to fines and penalties and prevent us from offering certain products or services. Any claims or litigation in this area, whether we ultimately win or lose, could be time-consuming and costly, hurt our reputation and/or require us to enter into licensing arrangements. We may not be able to enter into these licensing arrangements on acceptable terms. If any infringement brought against us is successful, an injunction may also be ordered against us to stop infringing the alleged rights, which could adversely affect us, our research and/or production.

Unauthorized access to, or release or violation of our, our customers’ or our business partners’ systems and data could materially and adversely affect our business and reputation.

We, like all business organizations in the digital world, have been subject to a broad range of cyber threats, including attacks, with varying levels of sophistication. These cyber threats are related to the confidentiality, availability and integrity of our systems and data, including our customers’ confidential, classified or personal information. In addition, because we have access to certain information technology systems of some of our customers, our systems may be subject to attacks aimed at accessing, tampering with or exposing our customers’ systems and their data.

We maintain extensive technical security controls, policy enforcement mechanisms, monitoring systems and management oversight in order to address these threats. While these measures are designed to prevent, detect and respond to unauthorized activity in our systems, certain types of attacks, including cyber-attacks, which could materially and adversely affect our business and reputation.

Furthermore, some of our business partners, such as our suppliers, have significant access to confidential and strategic information regarding our projects and engineering data. Many of these suppliers face similar security threats and any attacks on their systems could result in unauthorized access to our systems or data.

Any unauthorized access to, or release or violation of our systems and data or those of our customers or business partners could materially and adversely affect our business and reputation.

We may suffer from a lack of qualified personnel.

From time to time, there is significant competition within the aviation industry for skilled personnel in general and engineers in particular. To the extent the competition re-emerges, we may be unable to recruit and retain the necessary number of highly skilled engineers and other personnel we require. Failure to coordinate our resources in a timely manner or to attract and retain skilled personnel could slow down our development efforts and cause delays in production and deliveries of our aircraft, which would adversely affect us.

We are subject to environmental, health and safety risks.

Our products, as well as our manufacturing and service activities, are subject to environmental laws and regulations in each of the jurisdictions in which we operate. These laws regulate product performance or content, energy use, greenhouse gas emissions, air quality, water and noise pollution, hazardous substance management, human health risks arising from the exposure to hazardous or toxic materials and the remediation of soil and groundwater contamination.

In addition, environmental regulations related to climate change, including CO2 emissions standards adopted by the International Civil Aviation Organization, or the ICAO, in March 2017, are one of the main drivers of global aerospace industry research and development investments since they may affect customer preferences. We may incur additional costs to improve or create new compliance programs to meet environmental regulatory requirements. We currently have several comprehensive programs in place to reduce the effects of our operations on the environment. For additional information, see “Item 4. Information on the Company—4D. Property, Plant and Equipment.”

 

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Moreover, our services and products must comply with health and safety laws and regulations, as well as substances and preparations. We strive to maintain the highest quality standards and closely follow potential and confirmed changes in laws and regulations to adapt, redesign, redevelop, recertify or eliminate our products to remain compliant with those claims. Seizures of non-compliant products may occur, and we may incur administrative, civil or criminal penalties. In the event of an accident or other serious incident involving a product, we may be required to conduct investigations and undertake remedial activities.

We benefit from certain tax and other government-granted benefits and the suspension, cancellation or non-renewal of those benefits would have a material adverse effect on us.

Similarly to other Brazilian companies across multiple industries, we receive certain tax and other government-granted benefits, including incentives related to our export and research and development activities. For additional information, see “Item 5. Operating and Financial Review and Prospects—5A. Operating Results—Brazilian Economic Environment—Tax Incentives.”

We cannot assure you that these incentives will be maintained or renewed or that we will be able to obtain new incentives. We could be materially adversely affected in the event our existing benefits are canceled or not renewed.

Investigations by government authorities under the FCPA and other applicable anti-corruption laws may result in substantial fines and other adverse effects.

On October 24, 2016 we finalized definitive agreements, or the Final Agreements, with the U.S. Department of Justice, or DOJ, and the U.S. Securities and Exchange Commission, or the SEC, for the settlement of criminal and civil violations of the U.S. Foreign Corrupt Practices Act of 1977, as amended, or FCPA. We also finalized a term of undertaking (termo de compromisso e de ajustamento de conduta), or TCAC, with the Brazilian Federal Public Prosecutor’s Office (Ministério Público Federal), or MPF, and the Brazilian Securities and Exchange Commission, or the CVM, for the resolution of violations of certain Brazilian laws.

Under these settlements, in addition to paying a total of US$205.5 million to the SEC, DOJ and a Brazilian federal fund, we agreed to an external and independent monitorship for a period of three years. The monitorship period may be extended at the DOJ’s discretion depending on our compliance with the deferred prosecution agreement, or DPA. In February 2017, the United States authorities appointed the monitor, who has been preparing annual reports containing certain observations and recommendations to further improve our anti-corruption and compliance policies and procedures. In February 2020, we agreed to extend the term of the external and independent monitorship for an additional 90 days in order to allow the monitor to complete his work. On April 13, 2020, the monitor delivered his final report to the DOJ and to the SEC, finding that Embraer’s compliance program is reasonably designed and implemented to detect and prevent violations of the anti-corruption laws. On May 22, 2020, the monitorship term expired. Under both the DPA and the SEC Consent, there remain certain additional steps that the Company must take to complete the requirements of the DPA and the SEC Consent.

In addition, under the DPA the DOJ has agreed to defer prosecution for three years of the facts acknowledged by us that occurred between 2007 and 2011, after which period the charges will be dismissed with prejudice if we do not violate the terms of the DPA. If the DOJ determines that we have breached the DPA, the DOJ may commence prosecution or extend the term of the DPA for up to one year. Similarly, if we breach our obligations under the TCAC, it may also be terminated by the MPF and the CVM in which case we would be subject to sanctions. The criminal prosecution or sanctions could have a material adverse effect on our business, financial condition, results of operations, or cash flows.

 

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Moreover, related proceedings and developments are ongoing and could result in additional fines and possibly other sanctions and adverse consequences, which may be substantial. We currently cannot estimate the costs, sanctions or other adverse consequences in connection with these proceedings, nor can we predict the manner in which any proceedings will be resolved. However, any costs, sanctions or other adverse consequences could be significant, and any resolution could have a material adverse effect on our business, financial condition, results of operations, or cash flows. We believe that there is no adequate basis at this time for estimating accruals or quantifying any contingency with respect to these matters.

For additional information on these settlements, see “Item 8. Financial Information—8A. Consolidated Statements and Other Financial Information—Legal Proceedings—SEC/DOJ and Brazilian Public Prosecutor’s Investigations.”

Risks Relating to our Discontinued Operations

In our financial statements as of and for the year ended December 31, 2019, we recorded and presented our Commercial Aviation business unit and related services in a single line item as discontinued operations in the statements of operations, and the balances of assets and liabilities were presented as held for sale in the statement of financial position. Our 2019 audited consolidated statement of operations retroactively presented this information for the years ended 2018 and 2017 for comparative purposes to account for the aforementioned events. On April 25, 2020, Boeing provided notice to Embraer communicating its decision to terminate the Master Transaction Agreement providing for the strategic partnership. In addition, Boeing terminated the Contribution Agreement that provided for a joint venture for the C-390 Millennium multi-mission transport aircraft. Embraer strongly believes that Boeing wrongfully terminated the Master Transaction Agreement and the Contribution Agreement. For additional information on the now terminated strategic partnership with Boeing and on the assets held for sale and discontinued operations as of December 31, 2019, see Notes 4 and 40 to our 2019 audited consolidated financial statements included elsewhere in this annual report.

Our Commercial Aviation business unit depends on key customers

In our Commercial Aviation business unit, as of December 31, 2019, 78.9% of our firm orders in backlog for the current EMBRAER 170/190 jet family were from Republic Airlines, United Airlines and Skywest. Moreover, our E-Jets E2 family backlog mainly comprises orders from the companies Azul, AerCap, AirCastle and AirPeace, which represent approximately 85% of our E-Jets E2 family orders. We believe we will continue to depend on a select number of key customers, and the loss of any one of them would significantly reduce our sales and market share.

Progressively, the commercial airline industry is seeking to reduce costs and increase efficiency, while is experiencing a consolidation process through mergers and acquisitions and alliances based in code-sharing arrangements. Although we expect that these consolidations and alliances may result in the creation of more stable and competitive airlines, they may also have the effect of reducing the number of existing and potential customers and, possibly, the number of aircraft purchases, which may adversely affect us.

Most recently, the government measures adopted to contain the spread of the COVID-19 pandemic have materially and adversely affected airlines and aircraft lessors around the globe, including many of our customers, and we cannot foresee to what extent these trends will continue and to what extent the financial health of our customers will be negatively affected.

Financial difficulties, restructurings and bankruptcy proceedings of customer airlines can materially and adversely affect our results of operations and financial condition. In February 2016, Republic Airways Holdings, which by that time operated a fleet of 230 Embraer Commercial Aviation aircraft (of which 50 are of the ERJ145 family and 180 are E170/E175 models), filed for a Chapter 11 bankruptcy. As a result, we have provisioned a total of US$100.9 million to account for expected expenses related to obligations from financial guarantees offered to the main financing agent of the ERJ 140/145 aircraft, acquired by and delivered to this customer. As of December 31, 2019, all obligations relating to the Chapter 11 bankruptcy filing were fully settled by Republic Airways Holdings. Accordingly, we reversed the provision previously established. For additional information on these provisions, see “Item 5. Operating and Financial Review and Prospects—5E. Off-Balance Sheet Arrangements.”

 

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In addition, delays in payment cycles by significant customers may have an impact on our cash position and working capital.

Scope clause restrictions in airline pilot contracts may limit demand for commercial aircraft in the U.S. market.

A key limiting factor in demand for regional jets is the existence of scope clauses contained in airline pilot contracts. These scope clauses, which are more prevalent in North America, but also existing in other important regions, including Europe, are negotiated between the airlines and the pilot unions, usually every three years, for purposes of imposing restrictions relating to the (i) number of aircraft that a regional carrier may operate; (ii) number of seats in an aircraft that a regional carrier may operate; and (iii) the weight of the aircraft that a particular regional carrier may operate. A new round of negotiations between the major airlines and the pilot unions started at the end of 2019 and, as of the date of this annual report, still ongoing. As a result, our opportunities for near-term growth in the U.S. regional jets market in the 76 seat jet category may be limited. The U.S. is the most important market for the E175 aircraft. We cannot assure that current restrictions will be reduced, or that they will not be expanded, including by amending these scope clauses to cover larger-sized commercial aircraft.

The supply of pilots to the airline industry may be limited.

U.S. Federal Aviation Administration, or the FAA, regulations may negatively impact the supply of qualified pilot candidates eligible to be hired in the airline industry. A first officer in U.S. domestic operations must hold an airline transport pilot certificate and an aircraft type rating to fly the aircraft. An airline transport pilot certificate requires that a pilot be 23 years of age and have 1,500 hours total time as a pilot. Due to these requirements, there may be a growing scarcity of new entrant pilots who meet the experience qualifications, mainly affecting regional carriers which are the usual entry airlines for new pilots (major airlines are expected to hire many of their experienced pilots).

In order to mitigate this issue, certain airlines, for example American Airlines and Jet Blue especially in the United States, have adopted internal measures, including but not limited to creating professional pilot programs and providing financing alternatives. However, any inability to recruit, train and retain qualified pilots may materially affect our customers’ operations.

We are subject to stringent certification and regulatory requirements, which may adversely affect us.

Our civil aviation products are subject to regulation in Brazil and in each jurisdiction where our customers are located. The aviation authority in Brazil, known as the National Civil Aviation Agency (Agência Nacional de Aviação Civil – ANAC), or the Brazilian Aviation Authority, as well as authorities in other countries in which our customers are located, most notably the FAA and the European Aviation Safety Agency, or the EASA, must certify our civil aviation products before we can deliver them to our customers. We cannot assure you that we will be able to obtain certification of our aircraft on a timely basis or at all. In addition, complying with the requirements of regulatory authorities can be both expensive and time-consuming. If we fail to obtain a required certification from an aviation authority for any of our aircraft, that aviation authority can prohibit the registration of that aircraft within its jurisdiction until certification has been obtained. Changes in government regulations and certification procedures could also delay our start of production as well as entry of a new product into a new market. Despite our continuous efforts to strictly observe and comply with all aviation certification and other regulatory requirements, we cannot predict how future laws or changes in the interpretation, administration or enforcement of those laws will affect us. We may be required to incur significantly more costs to comply with these laws and/or to respond to these changes.

 

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Any accidents or catastrophic events involving our aircraft could adversely affect us.

We believe that our reputation and the safety record of our aircraft are important selling points for our products. However, the safe operation of our aircraft depends to a significant degree on a number of factors largely outside our control, including our customers’ proper maintenance and repair of our aircraft and pilot skill. The occurrence of one or more accidents or catastrophic events involving one of our aircraft could adversely affect our reputation and future sales, as well as the market price of our common shares and the ADSs.

Some of our aircraft sales may be subject to financial and residual value guarantees and trade-in options that may require us to make significant cash disbursements.

For certain aircraft sales contracts, we guarantee a portion of the financial value and the residual value for aircraft that we have already delivered. Financial guarantees are provided to financing parties to support a portion of the payment obligations of purchasers of our aircraft under their financing arrangements to mitigate default-related losses. These guarantees are secured by the financed aircraft.

Residual value guarantees typically ensure that, at the exercise date (between six and 19 years after the aircraft delivery date), the relevant aircraft will have a residual market value equal to a percentage of the original sale price. Most of our residual value guarantees are subject to a limitation (a “cap”) and, therefore, on average, our residual value guarantee exposure is limited to 11% of the original sale price. In the event of an exercise by a purchaser of its residual value guarantee, we will bear the difference, if any, between the guaranteed residual value and the market value of the aircraft at the time of exercise, limited to the cap.

Assuming all customers who are supported by off-balance sheet financial guarantees defaulted on their aircraft financing arrangements, and also assuming we were required to pay the full aggregate amount of outstanding financial and residual value guarantees and were unable to remarket any of the aircraft to offset our obligations, our maximum exposure would have been US$240.2 million (or US$99.9 million, net of provisions of financial guarantee of residual value and financial guarantee already recorded in the amount of US$140.3 million as reflected in Note 37.2 to our 2019 audited consolidated financial statements) under these guarantees as of December 31, 2019. As a result, we would be obligated to make substantial payments that may not be recoverable through proceeds from aircraft sales or leases, particularly if we are not able to remarket any of the aircraft to offset our obligations or financing defaults occur with respect to a significant portion of our aircraft. The value of the underlying aircraft are more likely to decrease and third parties are more likely to default during economic downturns. For additional discussion see our exposure to these guarantees in Note 37.2 to our 2019 audited consolidated financial statements and “Item 5. Operating and Financial Review and Prospects—5E. Off-Balance Sheet Agreements.”

In addition, we sometimes provide trade-in options to our customers in purchase agreements for new aircraft. These options provide customers with the right to trade in aircraft upon the purchase and acceptance of a new aircraft. In 2019, we accepted 17 aircraft, of which one was from the Commercial Aviation business unit and 16 from the Executive Aviation business unit, with a total invoiced value of US$84.9 million, for trade-in pursuant to trade-in options, as compared to 11 aircraft, with a total invoiced value of US$109.6 million, in 2018 and 23 aircraft, with a total invoiced value of US$114.0 million, in 2017. The trade-in price is determined based on the new aircraft sold, as well as other factors, including a market value assessment performed by independent third-party appraisers. We may be required to accept trade-ins at prices that could result in financial loss for us when we receive the aircraft.

We continuously re-evaluate our risk related to financial guarantees and trade-in obligations based on a number of factors, including the estimated future market value of our aircraft based on third-party appraisals, information on similar aircraft remarketing in the secondary market and the credit rating of the customers.

In 2019, 2018 and 2017, we maintained provisions and contract liabilities on financial guarantees and residual value guarantees of US$140.3 million, US$152.1 million and US$156.8 million (including provision for Chapter 11 filled by Republic Airways on, US$15.1 million in 2018 and US$30.8 million in 2017), respectively, related to exposure from financial guarantees offered to the main financing agent of the ERJ 140/145 aircraft, acquired by and delivered to this customer.

 

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Any unexpected decrease in the market value of the aircraft covered by trade-in rights or financial guarantees would decrease our ability to recover the amounts payable to satisfy our obligations and cause us to incur additional charges to income. If we are required to pay amounts related to the guarantees, we may not have sufficient cash or other financial resources available to do so and may need to seek financing to fund these payments. We cannot assure you that the prevailing market conditions at the time would allow us to resell or lease the underlying aircraft at its anticipated fair value or in a timely manner. Consequently, honoring our financial guarantee or trade-in obligations could require us to make significant cash disbursements in a given year, which, in turn, would reduce our cash flow in that year.

Any decrease in Brazilian government-sponsored customer financing, or increases in government-sponsored financing that benefits our competitors, may decrease the competitiveness of our aircraft.

Traditionally, aircraft original equipment manufacturers, or OEMs, from time to time, have received support from governments through governmental export credit agencies, or ECAs, in order to offer competitive financing conditions to their customers, especially in periods of credit tightening from the traditional lending market.

Official government support may constitute unofficial subsidies causing market distortions, which may rise to disputes among governments at the World Trade Organization, or WTO. Since 2007, an agreement known as the Aircraft Sector Understanding, or ASU, developed by the Organization for Economic Co-operation and Development, or OECD, has provided guidelines for the predictable, consistent and transparent use of government-supported export financing for the sale or lease of civil aircraft, in order to establish a “level-playing field.” ECAs from signatory countries are required to offer terms and conditions no more favorable than those contained in the ASU’s base financial agreement when financing sales of aircraft that compete with those produced by the OEMs of their respective countries. The effect of the agreement is to encourage aircraft purchasers to focus on the price and quality of aircraft products offered by OEMs rather than on the financial packages offered by their respective governments.

The Brazilian ECA, Brazilian Social and Economic Development Bank (Banco Nacional de Desenvolvimento Econômico e Social), or BNDES, together with the Brazilian National Treasury Export Guarantee Fund, offer financing and export credit insurance to our customers under terms and conditions required by the ASU. Any reduction or restriction to the Brazilian export financing program, and any increase in our customers’ financing costs for participation in this program, above those provided in the ASU’s base financial agreement, may cause the cost-competitiveness of our aircraft to decline. Other external factors may also impact our competitiveness in the market, including, but not limited to, aircraft OEMs from countries which are not signatories to the ASU agreement offering attractive financing packages, or any new government subsidies supporting any of our major competitors.

From 2005 through 2019, approximately 28% of our Commercial Aviation deliveries was subject to official export credits. In 2018 and 2019, approximately 51% and 16%, respectively, of our Commercial Aviation deliveries were supported by the Brazilian export financing program. We cannot assure that the Brazilian government, for policy reasons or otherwise, will not reduce or discontinue this type of funding for the financing of our aircraft or that other sources of funding will be available to our customers. The loss or significant reduction of funds available to our customers, without an adequate substitute, could lead to a reduction in sales of our aircraft or to an increase of eventual aircraft financing arrangements.

 

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Risks Relating to Brazil

Brazilian political and economic conditions have a direct impact on our business and the trading price of our common shares and ADSs.

The Brazilian government has frequently intervened in the Brazilian economy and occasionally has made drastic changes in policy and regulations. The Brazilian government’s actions to control inflation and affect other policies and regulations have involved, among other measures, increases in interest rates, changes in tax policies, price controls, currency exchange and remittance controls, devaluations, capital controls and limits on imports. Our business, financial condition, results of operations and the trading price of the common shares and the ADSs may be adversely affected by changes in policy or regulations at the federal, state or municipal level involving or affecting factors, such as:

 

   

interest rates;

 

   

currency fluctuations;

 

   

monetary policies;

 

   

inflation;

 

   

liquidity of capital and lending markets;

 

   

tax policies;

 

   

labor regulations;

 

   

energy and water shortages and rationing; and

 

   

other political, social and economic developments in or affecting Brazil.

On January 1, 2019, Jair Bolsonaro took office as Brazil’s president. Uncertainty over whether the Brazilian government will implement changes in policy, regulation or legislation creates instability in the Brazilian economy, increasing the volatility of the Brazilian securities markets. These uncertainties and other future developments in the Brazilian economy may adversely affect our activities, and consequently our operating results, and may also adversely affect the trading price of our common shares and ADSs. The President of Brazil has authority to determine policies and issue governmental acts regarding the Brazilian economy that may affect the operations and financial performance of companies, including us. We cannot predict which policies the president will adopt or if these policies or changes in current policies may have an adverse effect on us or the Brazilian economy. These factors are compounded as Brazil emerges from a prolonged recession after a period of a slow recovery, with only meager GDP growth in 2019.

Since 2011, Brazil’s economy has been weak. The Gross Domestic Product, or GDP, growth rate was 1.1% in 2019, 1.3% in 2018, 1.3% in 2017, compared to contraction rates of 3.3% in 2016 and 3.5% in 2015, and GDP growth was 0.5% in 2014, 3.0% in 2013, 1.9% in 2012 and 4.0% in 2011, compared to a GDP growth of 7.5% in 2010. According to the Focus bulletin dated May 22, 2020, Brazilian GDP will decrease 5.9% in 2020.

Our results of operations and financial condition have been, and will continue to be, affected by the growth rate of the Brazilian GDP. Developments in the Brazilian economy may affect Brazil’s growth rates and, consequently, the use of our products and services.

 

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Political instability may adversely affect our business and results of operations, the price of our common shares and our debt instruments.

Brazil’s political environment has historically influenced, and continues to influence, the performance of the country’s economy. Political crises have affected, and continue to affect, the confidence of investors and that of the public in general, resulting in economic downturn and heightened volatility of securities issued by Brazilian companies.

Recent economic instability contributed to decrease market’s confidence in the Brazilian economy and worsen the domestic political environment. Additionally, Brazilian markets have experienced heightened volatility due the uncertainties from ongoing investigations on money laundering and corruption conducted by the Brazilian Federal Police and the Office of the Brazilian Federal Prosecutor, including the Lava Jato investigation. These investigations adversely affected the Brazilian economy and political scenario.

The ultimate outcome of the investigations related to the Lava Jato investigation is uncertain, but they have already had an adverse impact on the image and reputation of the implicated companies, and on the general market perception of the Brazilian economy. We cannot predict whether the allegations will lead to further political and economic instability or whether new allegations against government officials will arise in the future. We cannot predict the outcome of any of these allegations nor their effect on the Brazilian economy. The development of those unethical conduct cases has affected and may continue to adversely affect our business, financial condition and results of operations and may adversely affect the trading price of our common shares and ADSs.

Inflation and government efforts to combat inflation may contribute significantly to economic uncertainty in Brazil and to heightened volatility in the Brazilian securities markets and, consequently, may adversely affect the market value of our common shares.

Historically, Brazil has experienced high inflation rates. Inflation and certain actions taken by the Central Bank to curb it have had significant negative effects on the Brazilian economy. After the implementation of the Plano Real in 1994, the annual rate of inflation in Brazil decreased significantly, as measured by the National Broad Consumer Price Index (Índice Nacional de Preços ao Consumidor Amplo), or IPCA. Inflation measured by the IPCA index was 4.3%, 3.8% and 3.0% in 2019, 2018 and 2017, respectively, and the tendency is decreasing inflation for 2020.

Inflation and the Brazilian government’s measures to fight it, principally the Central Bank monetary policy, have had and may have significant effects on the Brazilian economy and us. Among the effects of such inflationary pressure is a rise in labor costs. Contracts in U.S. dollars, which represent the majority of our executive jets businesses, are adjusted for U.S. inflation, through the application of the U.S. Consumer Price Index for Urban Wage Earners and Clerical Workers index when delivery is not in the same year of the sale and depending upon the specific commercial terms negotiated in the contracts. While contracts in Brazilian real represent a small portion of the Executive Jets business unit, the same price adjustment mechanism concept applies using national index, typically the I-GPM. Major contracts in our Defense and Security business unit are adjusted for Brazilian inflation. If Brazil experiences high inflation again, our operating expenses and borrowing costs may increase, our operating and net margins may decrease and, if investor confidence decreases, the price of our common shares and ADSs may fall.

Tight monetary policies with high interest rates have restricted and may restrict Brazil’s growth and the availability of credit. Conversely, more lenient government and Central Bank policies and interest rate decreases have triggered and may trigger increases in inflation, and, consequently, growth volatility and the need for sudden and significant interest rate increases, which could adversely affect us. Increases in interest rates could adversely affect our ability to incur additional debt and increase the cost of service of debt, resulting in an increase in our financial costs, which may reduce our liquidity, thereby adversely affecting our ability to meet our financial obligations. As of December 31, 2019, approximately 2.5% of our consolidated cash and cash equivalents were indexed to the variation of the SELIC and CDI rates, while approximately 5.1% of the cash and cash equivalents of our continuing operations were indexed to the same rates. Therefore, fluctuations in Brazilian interest rates and inflation may adversely affect us. On the other hand, a significant decrease in the CDI or inflation rates may adversely affect the revenue we receive from our financial investments.

 

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Exchange rate volatility may adversely affect us.

The Brazilian currency has, during the last decades, experienced frequent and substantial variations in relation to the U.S. dollar and other foreign currencies. For example, the real was valued at R$1.67 per US$1.00 in August 2008. Following the onset of the crisis in the global financial markets with consequences for our businesses, the real depreciated 31.9% against the U.S. dollar and reached R$2.34 per US$1.00 at the end of 2008. In 2010, the real appreciated against the U.S. dollar, reaching R$1.661 per US$1.00 at the end of 2010. Since 2011, the real depreciated against the U.S. dollar, reaching R$3.9048 per US$1.00 at the end of 2015 with a 47.0% devaluation in 2015. In 2016, the real appreciated against the U.S. dollar, reaching R$3.2591 per US$1.00 as of December 31, 2016. In 2017, the real appreciated against the U.S. dollar in comparison to 2016, reaching R$3.3080 per US$1.00 as of December 31, 2017. In 2018, the real depreciated against the U.S. dollar in comparison to December 31, 2017, reaching R$3.8748 per US$1.00 as of December 31, 2018. In 2019, the real depreciated against the U.S. dollar in comparison to December 31, 2018, reaching R$4.0307 per US$1.00 as of December 31, 2019. As of May 28, 2020, the real/U.S. dollar exchange rate was R$5.3405 per US$1.00. There can be no assurance that the real will not depreciate further against the U.S. dollar.

Depreciation of the real against the U.S. dollar creates inflationary pressures in Brazil and causes increases in interest rates, which negatively affects the growth of the Brazilian economy as a whole, curtails access to foreign financial markets and may prompt government intervention, including recessionary governmental policies. Depreciation of the real against the U.S. dollar has also, including in the context of an economic slowdown, led to decreased consumer spending, deflationary pressures and reduced growth of the economy as a whole. On the other hand, appreciation of the real relative to the U.S. dollar and other foreign currencies could lead to a deterioration of the Brazilian foreign exchange current accounts, as well as dampen export-driven growth. Depending on the circumstances, either depreciation or appreciation of the real may materially and adversely affect us.

Although most of our revenue and debt is U.S. dollar-denominated, the relationship of the real to the value of the U.S. dollar, and the rate of depreciation of the real relative to the prevailing rate of inflation, may adversely affect us, mainly due to the following factors:

 

   

Approximately 30% of our total costs are incurred and denominated in reais.

 

   

Because taxes on income are largely determined and paid in reais based on our Brazilian tax books, the income tax expense line item of our statements of income, which has the U.S. dollar as our functional currency, is significantly impacted by appreciation of the real relative to the U.S. dollar to the extent we must record deferred taxes resulting from exchange rate fluctuations on the reported basis of our nonmonetary assets (mainly property, plant and equipment and intangible assets). If the real had devalued or appreciated by 10% against the U.S. dollar in relation to the actual exchange rate as of December 31, 2019, the deferred income tax expense would have been higher or lower by approximately US$148.0 million. For additional information on the effects of the variation of the real against the U.S. dollar, see Note 28 to our 2019 audited consolidated financial statements

 

   

Depreciation of the real against the U.S. dollar or other currencies would reduce our real-denominated revenues from our Defense and Security business unit, when converted to the U.S. dollar as our functional currency.

 

   

Depreciations of the real relative to the U.S. dollar would also reduce the U.S. dollar value of distributions and dividends on our ADSs and may also reduce the market value of our common shares and ADSs.

 

   

Appreciation of the real against the U.S. dollar or other currencies increases the costs of our products when measured in U.S. dollars, and may result in a decrease in our margins.

 

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As a result, we may be materially and adversely affected by exchange rate variations.

Developments and the perception of risk in other countries, especially other emerging markets, may adversely affect the market price of Brazilian securities, including our ADSs, our common shares and our debt instruments.

The market value of securities of Brazilian issuers, including securities issued by us, may be affected by economic and market conditions in other countries, including the United States, European Union and Latin American countries and other emerging market countries. Although economic conditions in those countries may differ significantly from economic conditions in Brazil, investors’ reactions to developments in other countries may have an adverse effect on the market value of securities of Brazilian issuers. Crises elsewhere may diminish investor interest in securities of Brazilian issuers, including ours. This could adversely affect the trading price of our securities and could also make it more difficult for us to access the capital markets and finance our operations in the future on acceptable terms, or at all.

Any further downgrading of Brazil’s credit rating could adversely affect the market price of our common shares, ADSs and debt instruments.

Credit ratings affect investors’ perceptions of risk and, as a result, the yields required on debt issuances in the financial markets. Rating agencies regularly evaluate Brazil and its sovereign ratings, taking into account a number of factors including macroeconomic trends, fiscal and budgetary conditions, indebtedness and the prospect of change in these factors.

In September 2015, Standard & Poor’s downgraded Brazil’s sovereign debt credit rating from BBB-minus to BB-plus, citing the general instability of the Brazilian market due to the interference of the Brazilian government in the economy and budgetary difficulties, among other reasons. In February 2016, Standard & Poor’s downgraded Brazil’s sovereign debt credit rating again from BB-plus to BB, maintaining its negative outlook on the rating, citing Brazil’s worse credit scenario since the first downgrading. In January 2018, Standard & Poor’s downgraded Brazil’s sovereign debt credit rating from BB to BB-minus with a stable outlook in light of doubts regarding the presidential election and social security reform efforts. In February 2019, Standard & Poor’s affirmed Brazil’s sovereign credit rating at BB-minus with a stable outlook In December 2019, Standard & Poor’s affirmed Brazil’s sovereign credit rating at BB-minus with a positive outlook. In April 2020, Standard & Poor’s maintained Brazil’s sovereign credit rating at BB-minus and revised the outlook on this rating to stable.

In December 2015, Moody’s placed Brazil’s Baa3 sovereign debt credit rating on review, citing negative macroeconomic trends and a deterioration of the government’s fiscal conditions. Moody’s subsequently downgraded Brazil’s sovereign debt credit rating in February 2016 below investment grade, to Ba2 with a negative outlook, citing the prospect for further deterioration in Brazil’s indebtedness indicators, considering a low economic growth and a challenging political environment. In April 2018, Moody’s maintained Brazil’s sovereign debt credit rating at Ba2, but changed its prospect from negative to stable, maintaining it in September 2018, citing the expected new government spending cuts. In May 2019, Moody’s affirmed Brazil’s sovereign credit rating at Ba2 and changed the outlook to stable. In May 2020, Moody’s reaffirmed Brazil’s sovereign credit rating at Ba2 with a stable outlook.

Fitch downgraded Brazil’s sovereign credit rating to BB-plus with a negative outlook in December 2015, citing the country’s rapidly expanding budget deficit and worse-than-expected recession, and made a further downgrade in May 2016 to BB with a negative outlook, which was maintained in 2017. In February 2018, Fitch downgraded Brazil’s sovereign credit rating again to BB-negative, citing, among other reasons, fiscal deficits, the increasing burden of public debt and an inability to implement reforms that would structurally improve Brazil’s public finances. In November 2019, Fitch maintained Brazil’s sovereign credit rating at BB-minus, citing the risk of tax and economic reforms and political instability. In May 2020, Fitch reaffirmed Brazil’s sovereign credit rating at BB- and revised the outlook on this rating to negative.

 

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As of the date of this annual report, Brazil’s credit rating was classified as BB-, Ba2 and BB- by Standard & Poor’s, Moody’s and Fitch, respectively. Any further downgrading in Brazil’s sovereign credit ratings or our rating may increase the perception of risk of investors and, as a result, increase the future cost of debt issuances, adversely affecting us. We cannot guarantee that the rating agencies will maintain these classifications in relation to Brazilian credit and any further downgrade in Brazil’s sovereign credit ratings or our ratings could materially adversely affect the trading price of our debt and equity securities.

Risks Relating to Our Common Shares and ADSs

If holders of our ADSs exchange the ADSs for common shares, they risk losing the ability to remit foreign currency abroad and Brazilian tax advantages.

The Brazilian custodian for the common shares has obtained an electronic certificate of registration from the Central Bank permitting it to remit foreign currency abroad for payments of dividends and other distributions relating to the common shares or upon the disposition of the common shares. These remittances under an ADR program are subject to a specific tax treatment in Brazil that may be more favorable to a foreign investor if compared to remitting gains originated from securities directly acquired by the investor in the Brazilian regulated stock markets. Therefore, an investor who opts to surrender ADSs in exchange for the underlying common share may be subject to less favorable tax treatment on gains with respect to these investments.

Pursuant to CMN Resolution No. 4,373, in order for the investor to surrender ADSs for the purpose of withdrawing the common shares represented thereby, the investor is required to appoint a Brazilian financial institution duly authorized by the Central Bank of Brazil and CVM to act as its legal representative, who shall be responsible, among other things, for keeping and updating the investors’ certificates of registrations with the Central Bank of Brazil, which entitles registered foreign investors to buy and sell directly on the B3 – Brasil, Bolsa, Balcão, or B3. These arrangements may require additional expenses from the foreign investor. Moreover, if the representatives fail to obtain or update the relevant certificates of registration, investors may incur additional expenses or be subject to operational delays which could affect their ability to receive dividends or distributions relating to the common shares or the return of their capital in a timely manner.

The custodian’s certificate of registration or any foreign capital registration directly obtained by the holders may be affected by future legislative or regulatory changes, and we cannot assure the holders that additional restrictions applicable to them, the disposition of the underlying common or preferred shares, or the repatriation of the proceeds from the process will not be imposed in the future.

The Brazilian government has veto power over the change in our corporate control, and of our name, trademark or corporate purpose and over the creation or alteration of our Defense and Security programs, and its interests could conflict with the interests of the holders of our common shares and ADSs.

The Brazilian government holds one share of a special class of our common stock called a “golden share,” which carries veto power over our change of control, name, trademark or corporate purpose and over the creation or alteration of our Defense and Security programs (whether or not the Brazilian government participates in those programs). For example, (i) in 2010, we changed our corporate name to Embraer S.A. and altered our bylaws to allow us to enter the defense and security market, which required the approval of the Brazilian government and (ii) in 2019, the Brazilian government granted its approval for the then pending strategic partnership between Embraer and Boeing. For additional information on the Transaction, see the Explanatory Note on page 4 of this annual report. The Brazilian government may veto transactions that may be in the interest of the holders of our common shares or ADSs. We cannot assure you that we will be able to obtain approvals from the Brazilian government in the future to effect important corporate changes or transactions, or other important corporate changes that may be required.

 

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Our bylaws contain provisions that could discourage our acquisition or prevent or delay transactions that you may favor.

Our bylaws contain provisions that have the effect of avoiding the concentration of our common shares in the hands of a small group of investors to promote the dispersed ownership of those shares. These provisions require any shareholder or group of shareholders that acquires or becomes the holder of (i) 35% or more of the total shares issued by us or (ii) other rights over shares issued by us that represent more than 35% of our capital, to submit to the Brazilian government a request for making a public tender offer to purchase all of our shares on the terms specified in our bylaws. If the request is approved, the shareholder or group of shareholders must commence the public tender offer to purchase all of our shares within 60 days of the date of approval. If the request is refused, the shareholder or group of shareholders must sell all of their shares that exceed the 35% limit within 30 days, so that the holding of this shareholder or group of shareholders falls below 35% of our capital stock. These provisions may have anti-takeover effects and may discourage, delay or prevent a merger or acquisition, including transactions in which our shareholders might otherwise receive a premium for their common shares and ADSs. These provisions can only be altered or overridden with the approval of our board of directors and our shareholders in a shareholders’ meeting convened for this purpose and with the consent of the Brazilian government, as holder of the golden share.

Our bylaws contain provisions that limit the voting rights of certain shareholders, including non-Brazilian shareholders.

Our bylaws contain provisions that limit the rights of a shareholder or group of shareholders, including brokers acting on behalf of one or more holders of ADSs, to exercise voting rights in respect of more than 5% of the outstanding shares of our capital stock at any general meeting of shareholders. See “Item 10. Additional Information—Memorandum and Articles of Association—Description of Capital Stock—Voting Rights of Shares—Limitations on the Voting Rights of Certain Holders of Common Shares.”

Our bylaws also contain provisions that limit the right of non-Brazilian shareholders to exercise voting rights in respect of more than two-thirds of the voting rights that may be exercised by Brazilian shareholders present at any general meeting of shareholders. This limitation will effectively prevent our takeover by non-Brazilian shareholders and limit the ability of non-Brazilian shareholders to effect control over us. For additional information on our voting rights, see “Item 10. Additional Information—10B. Memorandum and Articles of Association—Voting Rights of Shares—Limitation on the Voting Rights of Non-Brazilian Shareholders.”

The absence of a single, controlling shareholder or group of controlling shareholders may render us susceptible to shareholder disputes or other unanticipated developments.

The absence of a single, controlling shareholder or group of controlling shareholders may create difficulties for our shareholders to approve certain transactions, because, among other things, the minimum quorum required by law for the approval of certain matters may not be reached. We and our shareholders may not be afforded the same protections provided by the Brazilian Corporate Law against abusive measures taken by other shareholders and, as a result, may not be compensated for any losses incurred. Any sudden and unexpected changes in our management, changes in our corporate policies or strategic direction, takeover attempts or any disputes among shareholders regarding their respective rights may adversely affect our business and results of operations.

Holders of ADSs may not be able to exercise their voting rights.

Holders of ADSs may only exercise their voting rights with respect to the underlying common shares in accordance with the provisions of the deposit agreement governing our ADSs. Under the deposit agreement, ADS holders must vote the common shares underlying their ADSs by giving voting instructions to the depositary. Upon receipt of the voting instructions from the ADS holder, the depositary will vote the underlying common shares in accordance with these instructions. Otherwise, ADS holders will not be able to exercise their voting right unless they surrender the ADS for cancellation in exchange for the common shares.

 

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Pursuant to our bylaws, the first call for a shareholders’ meeting must be published at least 30 days in advance of the meeting and the second call must be published at least 15 days in advance of the meeting. When a shareholders’ meeting is convened, holders of ADSs may not receive sufficient advance notice to surrender the ADSs in exchange for the underlying common shares to allow them to vote with respect to any specific matter. In addition, the depositary has no obligation to notify ADS holders of an upcoming vote or distribute voting cards and related materials to ADS holders, unless we specifically instruct the depositary to do so. If we ask the depositary to seek voting instructions from ADS holders, the depositary will notify ADS holders of the upcoming vote and will arrange to deliver proxy cards to those holders. We cannot assure you that ADS holders will receive proxy cards in time to allow them to instruct the depositary to vote the shares underlying their ADSs. In addition, the depositary and its agents are not responsible for failing to carry out voting instructions or for an untimely solicitation of voting instructions. As a result, holders of ADSs may not be able to fully exercise their voting rights.

The relative illiquidity and volatility of the Brazilian securities markets may substantially limit the ability of holders of our common shares or the ADSs to sell the common shares underlying ADSs at the price and time they desire.

Investing in securities, including our common shares or the ADSs, of issuers from emerging market countries, including Brazil, involves a higher degree of risk than investing in securities of issuers from more developed countries.

The Brazilian securities markets are substantially smaller, less liquid, more concentrated and more volatile than major securities markets in the United States and other jurisdictions and are not as highly regulated or supervised as some other markets. The relatively small market capitalization and illiquidity of the Brazilian equity markets may substantially limit the ability of holders of our common shares or ADSs to sell the common shares or the ADSs at the price and time desired. For additional information on the B3, see “Item 9. The Offer and Listing—9C. Markets—Trading on the B3.”

In addition, we cannot assure you that the Transaction, if consummated, will not have an adverse effect on the liquidity of our common shares and ADSs in the market. For additional information on the Transaction, see Explanatory Note on page 4 of this annual report.

Holders of our ADSs might be unable to exercise preemptive rights with respect to the common shares.

Holders of our ADSs may not be able to exercise the preemptive rights relating to the common shares underlying their ADSs unless a registration statement under the Securities Act is effective with respect to those rights or an exemption from the registration requirements of the Securities Act is available. We are not obligated to file a registration statement with respect to the shares or other securities relating to these preemptive rights, and we cannot assure holders of our ADSs that we will file any registration statement. Unless we file a registration statement or an exemption from registration applies, holders of our ADSs may receive only the net proceeds from the sale of their preemptive rights by the depositary or, if the preemptive rights cannot be sold, the rights will lapse.

Judgments of Brazilian courts with respect to our common shares will be payable only in reais.

If proceedings are brought in the courts of Brazil seeking to enforce our obligations in respect of the common shares, we will not be required to discharge our obligations in a currency other than reais. Under Brazilian exchange control limitations, an obligation in Brazil to pay amounts denominated in a currency other than reais may only be satisfied in Brazilian currency at the exchange rate, as determined by the Central Bank, in effect on the date the judgment is obtained, and those amounts are then adjusted to reflect exchange rate variations through the effective payment date. The then prevailing exchange rate may not provide non-Brazilian investors with full compensation for any claim arising out of or related to our obligations under the common shares or the ADSs.

 

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Item 4.

INFORMATION ON THE COMPANY

 

4A.

History and Development of the Company

Corporate History

Embraer S.A. is a publicly held corporation duly incorporated under the laws of Brazil with an indefinite term of duration. Our principal executive office is located at Avenida Dra. Ruth Cardoso, 8,501 (formerly known as Avenida Nações Unidas, No. 8,501), 30th floor, Eldorado Business Tower, Pinheiros, ZIP Code 05425-070, city of São Paulo, state of São Paulo, Brazil. Our telephone number is 55-11-3040-6874, and our internet address is http://www.ri.embraer.com.br. Our agent for service of process in the United States is National Registered Agents, Inc., with offices at 875 Avenue of the Americas, Suite 501, New York, New York 10001.

Originally formed in 1969 by the Brazilian government, we became a publicly held corporation in 1989 and were privatized in 1994. In the privatization process, the Brazilian government created the golden share, a special class of shares to ensure that the Brazilian government has certain veto rights, in particular regarding military programs.

In 2000, we registered with the SEC and listed our American Depositary Receipts in the New York Stock Exchange.

In 2006, we promoted a corporate restructuring process focused on simplifying our capital structure, which since then is comprised of only common shares, and we also joined a special listing segment of the B3 known as Novo Mercado, enhancing our corporate governance standards. Since then we do not have a controlling shareholder or controlling shareholder group.

In 2010, our shareholders approved a change of our corporate name from “Embraer – Empresa Brasileira de Aeronáutica S.A.” to “Embraer S.A.,” as well as the addition of capabilities and the broadening of the scope of our Defense and Security business unit to allow this business unit to manufacture and trade equipment, materials, systems, software, accessories and components for the defense, security and energy industries, as well as to perform technical activities and services related to these areas. As a result, our bylaws were amended to reflect the addition of these activities to our corporate purposes.

In 2011 and 2012, we made acquisitions and entered into partnerships in the Defense and Security business unit, including the acquisition of Atech Negócios em Tecnologias S.A. and Bradar Indústria S.A., or Bradar (which was merged into Embraer in 2018), Savis Tecnologias e Sistemas S.A. and Visiona Tecnologia Espacial S.A.

On January 24, 2019, we entered into the Master Transaction Agreement and certain other transaction documents with Boeing and certain subsidiaries of Embraer or Boeing, pursuant to which a subsidiary of Boeing would acquire a controlling stake in Embraer’s Commercial Aviation business unit and Embraer or a subsidiary of Embraer and Boeing or a subsidiary of Boeing would form a joint venture for the promotion and development of new markets and applications for the C-390 Millennium multi-mission transport aircraft. On April 25, 2020, Boeing terminated the Master Transaction Agreement. In addition, Boeing terminated the Contribution Agreement. We strongly believe that Boeing wrongfully terminated the MTA and the Contribution Agreement. We are pursuing all remedies against Boeing for the damages incurred by Embraer as a result of Boeing’s wrongful termination and violation of the MTA and/or the Contribution Agreement, including by means of arbitration proceedings that have commenced by both sides in connection with the termination of the MTA and the Contribution Agreement by Boeing. For additional information on the now terminated Transaction, see “Item 4. Information on the Company—4A. History and Development of the Company—Termination of Strategic Partnership with Boeing.”

 

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Termination of Strategic Partnership with Boeing

Overview

In December 2017, Embraer and The Boeing Company, or Boeing, announced that the two companies were engaged in discussions regarding a potential strategic partnership. In July 2018, the two companies entered into a preliminary and non-binding memorandum of understanding establishing the basic premises for a potential strategic partnership involving certain of Embraer’s businesses. In December 2018, the board of directors of Embraer approved, in principle, the terms and conditions of the strategic partnership, subject to the approval by the Brazilian government, which holds the common share of special class issued by Embraer (golden share). The Brazilian government approved the Transaction (as defined below) in early 2019.

On January 24, 2019, Embraer and Boeing and certain of their subsidiaries entered into the MTA and certain other transaction agreements, pursuant to which, subject to certain approvals and other conditions precedent, a Brazilian subsidiary of Boeing would acquire a controlling stake in Embraer’s Commercial Aviation business unit and Embraer and Boeing or their respective subsidiaries would form a joint venture for the promotion and development of new markets and applications for the C-390 Millennium multi-mission aircraft.

Subject to the conditions in the MTA, upon consummation of the Transaction, Boeing Brazil would acquire 80% of the issued and outstanding common shares and redeemable preferred shares of the Commercial Aviation NewCo, through the subscription of new shares to be issued by the Commercial Aviation NewCo and the acquisition directly from Embraer of existing shares issued by the Commercial Aviation NewCo, at an aggregate value of approximately $4.2 billion, subject to adjustments customary for transactions of the same nature.

On February 26, 2019, the shareholders of Embraer approved the terms and conditions of the Transaction at an annual and special general shareholders’ meeting.

On January 1, 2020, we implemented the internal carve-out of our Commercial Aviation business unit by means of the contribution by Embraer to the capital stock of the Commercial Aviation NewCo of the net assets comprising of assets, liabilities, properties, rights and obligations (subject to certain exceptions) related to our Commercial Aviation business unit. In exchange for the contribution, the Commercial Aviation NewCo issued common shares and redeemable preferred shares to Embraer. The Commercial Aviation NewCo’s redeemable preferred shares have a liquidation preference, right to receive an annual fixed cumulative dividend payable at a 3.3% rate, a right to be redeemed after two years from the date of issuance, and have no voting rights.

On April 25, 2020, we received a notice from Boeing communicating its decision to terminate the MTA, based on Boeing’s assertion that certain closing conditions in the MTA had not been satisfied by Embraer by the April 24, 2020 termination date in the MTA. In addition, Boeing terminated the Contribution Agreement.

We strongly believe that Boeing wrongfully terminated the MTA and the Contribution Agreement and that it had a continuing obligation to abide by the terms thereof. Embraer strongly believes that Embraer was in full compliance with its obligations under the MTA and the Contribution Agreement. We are pursuing all remedies against Boeing for the damages incurred by Embraer as a result of Boeing’s wrongful termination and violation of the MTA and the Contribution Agreement, including by means of arbitration proceedings that have commenced by both sides in connection with the termination of the MTA and/or the Contribution Agreement by Boeing. No assurance can be given as to the timing or outcome of the arbitration proceedings or any recovery that Embraer may receive or loss that Embraer may incur therefrom or with respect to the arbitration that Boeing has commenced against us.

 

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For risks relating to the termination of the Transaction, see “Item 3. Key Information—3D. Risk Factors—Risks Relating to Embraer—Legal proceedings pertaining to the strategic partnership with Boeing including arbitration proceedings related to Boeing’s termination of and failure to close the MTA and/or the Contribution Agreement, may adversely impact our business, financial condition and results of operations.”

Assets Held for Sale and Discontinued Operations

According to IFRS 5, in light of the approval of the then pending strategic partnership with Boeing, in our financial statements as of and for the year ended December 31, 2019, we recorded and presented our Commercial Aviation business unit and related services in a single line item as discontinued operations in the statements of operations, and the balances of assets and liabilities were presented as held for sale in the statement of financial position. Our 2019 audited consolidated statement of operations retroactively presented this information for the years ended 2018 and 2017 for comparative purposes to account for the aforementioned events. On April 25, 2020, Boeing provided notice to Embraer communicating its decision to terminate the Master Transaction Agreement providing for the strategic partnership. In addition, Boeing terminated the Contribution Agreement that provided for a joint venture for the C-390 Millennium multi-mission transport aircraft. Embraer strongly believes that Boeing wrongfully terminated the Master Transaction Agreement and the Contribution Agreement. Starting on April 25, 2020 and as a result of the above, assets and liabilities previously presented as held for sale will be reclassified and measured as held for continuous use, as well as the results of operations previously reported as discontinued operations will be reported as continuing operations. For additional information on the now terminated strategic partnership with Boeing and on the assets held for sale and discontinued operations as of December 31, 2019, see Notes 4 and 40 to our 2019 audited consolidated financial statements included elsewhere in this annual report.

Business Development

We have grown from a government-controlled company, established to develop and produce aircraft for the Brazilian Air Force, into a publicly held company that produces aircraft for commercial and executive aviation and for defense and security purposes and related services.

As part of our evolution, we have obtained, developed and enhanced our engineering and technological capabilities through our own development of products for the Brazilian Air Force and through joint product development with foreign companies on specific projects. We have applied these capabilities that we gained from our Defense and Security business unit to further develop our Commercial Aviation business (recorded and presented as discontinued operations for the financial statements as of and for the year ended December 31, 2019).

Our first regional aircraft was the Bandeirante, a 19-passenger twin-engine non-pressurized turboprop aircraft initially designed to service the transport needs of the Brazilian Air Force. This aircraft was certified in 1973. The Bandeirante was followed by the EMB 120 Brasília, which was certified in 1985. The EMB 120 Brasília is a high performance, pressurized turboprop commercial aircraft seating up to 30 passengers and was designed to serve the longer routes and higher passenger traffic of the growing regional aircraft market. Drawing upon the design of the EMB 120 Brasília and the jet technology acquired in our development of the AM-X, a jet strike bomber for the Brazilian Air Force, we developed the ERJ 145 regional aircraft family, our first jet product for commercial use. This family comprises three aircraft, which seat up to 37, 44 and 50 passengers. The first member of the ERJ 145 family, the ERJ 145, was certified in 1996. We have expanded our jet product line with the development of the EMBRAER 170/190 jet family, which has the capacity to seat between 70 and 118 passengers and was designed to serve the aircraft market’s trend towards larger, higher volume and longer-range jets. The first member of this family, the EMBRAER 170, was certified in February 2004, and its derivatives, the EMBRAER 175 and the EMBRAER 190, were certified in December 2004 and August 2005, respectively. The certification of the EMBRAER 195 was granted in June 2006. In June 2013, Embraer launched the second generation of its E-Jets family of commercial aircraft, the E-Jets E2, comprising three new aircraft, the E175-E2, E190-E2 and E195-E2. The E190-E2 and the E195-E2 entered into service in April of 2018 and September of 2019, respectively. As of the date of this annual report, the E175-E2 family is engaged in the certification process to ensure compliance with regulatory requirements.

 

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Our Commercial Aviation business unit (part of our discontinued operations as of December 31, 2019) accounted for 40.9% of our total revenue, including continuing and discontinued operations, for the year ended December 31, 2019. In light of the approval of the then pending strategic partnership with Boeing, in our financial statements as of and for the year ended December 31, 2019, we recorded and presented our Commercial Aviation business unit and related services in a single line item as discontinued operations in the statements of operations, and the balances of assets and liabilities were presented as held for sale in the statement of financial position. For additional information on our assets held for sale and discontinued operations, see “Item 4. Information on the Company—4A. History and Development of the Company—Termination of Partnership with Boeing—Assets Held for Sale and Discontinued Operations” and Note 4 to our 2019 audited consolidated financial statements included elsewhere in this annual report.

We developed a line of executive jets throughout time, first the Legacy 600, which was discontinued in 2016 to focus on the success of its longer-range successor, the Legacy 650, followed by the Phenom 100, an entry-level jet, and the Phenom 300, a light jet, both launched in 2005. The Lineage 1000, an ultra-large jet, was added in 2006 as the largest executive jet in our executive jets portfolio and an enhanced version was introduced in 2013, the Lineage 1000E. In 2008, we launched the Legacy 450 and Legacy 500, both medium cabin jets. In 2009, we presented the Legacy 650, a large executive jet that is positioned in our portfolio between the Legacy 500 and the Lineage 1000E. The Legacy 500 and the Legacy 450 entered into service in October of 2014 and December 2015, respectively. In 2016, we launched the Phenom 100EV and the Legacy 650E. In 2017, the Phenom 100EV entered into service and we also launched the Phenom 300E, an enhanced version of our Phenom 300, with a revolutionary interior design, which entered into service in October 2017 with a demonstration aircraft. In our latest development, we introduced the new Praetor 500 midsize and Praetor 600 super-midsize business jets in 2018, during a company event in the Orlando Executive Airport. The Praetor 600 and Praetor 500 entered into service in June and in December 2019, respectively. In 2019, we have successfully implemented the sunset strategy of the legacy 650 and Lineage 1000E. Our Executive Jets business unit accounted for 25.6% of our total revenue, including our continuing and discontinued operations, for the year ended December 31, 2019.

We are the leading supplier of defense aircraft for the Brazilian Air Force, based on number of aircraft sold, and have sold aircraft to armed forces in the U.S., Europe, Asia and Latin America. In the defense and security market, we offer a line of intelligence, surveillance and reconnaissance aircraft, services, systems and solutions, ground radar, transportation of authorities, tactical military transport and aerial refueling (C-390 Millennium), basic and advanced training and light attack and training aircraft (Super Tucano) and satellites solutions. Using our commercial aircraft platforms, we are able to offer a comprehensive range of aircraft dedicated to transportation of officials, medical evacuation and general transportation missions for the defense and security market.

In 2018, Embraer entered into a consortium with Thyssenkrupp Marine Systems, named Águas Azuis, and, in 2019, this consortium was chosen as preferred supplier to build four new Tamandaré Class Frigates. In 2020, SPE Águas Azuis entered into an agreement providing for the manufacturing of these Class Tamandaré Ships with the Company for Naval Projects (Empresa Gerencial de Projetos Navais – EMGEPRON), a Brazilian government-owned company linked to the Brazilian Ministry of Defense, and the Brazilian Navy. In 2019, Embraer and Elta System formalized a strategic cooperation agreement to develop and sell a comprehensive airborne early warning, or AEW, solution based on Praetor 600 super midsize bizjet. This solution provides an affordable AEW solution comprising extended coverage and situational picture for air surveillance, air defense, and homeland security missions, law enforcement enabling monitoring of aerial activity outside ground radar detection coverage. Additionally, in 2019, Embraer delivered the first two C-390 Millennium multi-mission transport aircraft to the Brazilian Air Force.

Our Defense and Security business unit accounted for 14.2% of our total revenue for the year ended December 31, 2019. Revenues from sales to the Brazilian government accounted for 54.4% of this business unit revenue for the year ended December 31, 2019.

 

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We also provide fuel systems, structural parts, and mechanical and hydraulic systems to Sikorsky Aircraft Corporation, or Sikorsky, a Lockheed Martin Company, for its production of helicopters. We provide to Sikorsky the services of development and manufacture of the landing gear, fuel system and fuel tanks for the S-92 and H-92 Helibus helicopters. We also act as a risk-sharing partner for Sikorsky. These contracts were renewed in 2015 and will expire in 2020. In addition, we developed Ipanema, a crop duster aircraft pursuant to specifications of the Brazilian Ministry of Agriculture. These aircraft are produced only on demand. Through December 31, 2019, we had delivered a total of 1,422 of these aircraft. Our Other Related business unit accounted for 0.2% of our revenue for the year ended December 31, 2019.

On December 20, 2016, we announced the creation of Embraer Services and Support, a business unit focused on services and customer support, which brings together capabilities that were previously allocated to each business area, and is responsible for developing solutions in support of current and new products and services, as well as for managing the associated processes and resources. This represents an opportunity to obtain greater operational efficiency and recurring revenues. Currently there are approximately 2,360 Embraer commercial aircraft and over 1,400 Embraer executive jets, as well as more than 600 defense aircraft, in operation. During 2017, the new Service and Support business unit consolidated the services and customer support processes previously allocated to each of our business units to identify synergies and quantify our expertise in our Commercial Aviation, Executive Jets and Defense and Security business units regarding services and support. Since the first quarter of 2018, we have reported the Services and Support business as a separate business unit in our financial statements. For additional information, see Note 39.4 to our 2019 audited consolidated financial statements included elsewhere in this annual report. Our Services and Support business unit accounted for 19.2% of our revenue for the year ended December 31, 2019. For a description of our capital expenditures, see “Item 5. Operating and Financial Review and Prospects—5C. Research and Development, Patents and Licenses, etc.—Capital Expenditures.”

 

4B.

Business Overview

We are the leading manufacturer of jets up to 150 seats aircraft in the world, based on the number of deliveries over the last decade, and we have a franchise footprint represented by our global customer base. Our focus is to achieve customer satisfaction with a range of products and services addressing the commercial airline, executive jets and defense and security markets. We have grown from a government-controlled company established to develop and produce aircraft for the Brazilian Air Force into a publicly held company that produces aircraft for commercial and executive aviation, and for defense and security purposes and related services. We also produce, market and sell executive jets in the entry-level and light, medium cabin, large and ultra-large categories: the Phenom 100/300 family, the Legacy 450/500 family, the Praetor 500/600, the Legacy 650E and the Lineage 1000E, respectively. Providing high quality customer support is a key element of our customer focus and is critical to our ability to maintain customers with whom we have a long-term relationship. For the year ended December 31, 2019, we generated revenue of US$5,462.6 million, considering our continuing and discontinued operations, of which approximately 90.8% was U.S. dollar denominated. Of our revenue in 2019, 40.9% was from our Commercial Aviation business unit, 25.6% was from our Executive Jets business unit, 14.2% was from our Defense and Security business unit, 19.2% was from Services and Support business unit and 0.2% was from our Other Related business unit. As of December 31, 2019, we had a total firm order backlog of US$16.8 billion.

Our Strengths

We believe that our primary strengths are:

Aircraft Design; Technology; Cost and Operating Efficiency. We conceive, develop and manufacture clean sheet design aircraft with cutting edge technology to provide our customers with reduced operating, maintenance and training costs due to the similarity and efficiency in design and the commonality of parts within a jet family. As an example, the all-new Praetor 500 and Praetor 600 jets share characteristics and technologies that enhance our value proposition for the midsize and super-midsize business units. These similarities enable us to significantly reduce our design, development and production costs and pass these savings along to our customers in our competitive sale prices, reducing the development time of our aircraft. Our investment in innovative technologies, such as design for automation, enable us to increase operational efficiency by reducing engineering and production costs as well as lowering customers’ maintenance costs.

 

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Strategic Risk-Sharing Partners. With respect to our commercial and business aircraft, we developed strategic relationships with key risk-sharing partners. These risk-sharing partners develop and manufacture significant portions of the systems and components of our aircraft with their own funds, thereby reducing our development expenses. These risk-sharing partners also fund a portion of our research and development expenses through direct contributions of cash or materials. These strategic relationships enable us to reduce our development expenses and risks, improve our operating efficiency, enhance the quality of our products and reduce the number of our suppliers, thereby providing us with flexibility of our production process.

Funded Development of Defense Products. Historically, development expenditures related to defense aircraft have been funded in large part by our customers, which in this business unit include the governments of different countries. These customers have had an important role in our engineering and industrial development. In addition, we use well-proven civil platforms as a solution for certain defense products.

Flexibility of Production to Meet Market Demands. We believe the flexibility of our production processes and our operating structure, including our risk-sharing partnerships, allow us to adjust our production in response to market demand.

Experienced and Highly Skilled Workforce. Our employees are experienced and highly skilled. As of December 31, 2019, engineers comprised approximately 31.0% of our workforce. Due to the high level of knowledge and skill of our employees, and our continuous training and incentive programs, we are able to efficiently pursue new programs and provide our customers with differentiated technical expertise and guidance.

Leading Commercial Aircraft Manufacturer with a Global Customer Base. Based on the number of aircraft delivered, we are the leading manufacturer of jets with up to 150 seats, with a strong global customer base. Around 170 airlines from over 80 countries are flying our commercial aircraft on five continents. Our customers include some of the largest and most significant network, regional and low cost carriers in the world.

High skilled engineering for defense application and development of market leading products for our Defense and Security business unit. Super Tucano and C-390 Millennium are the main products of our Defense and Security business unit. We believe Super Tucano is the market benchmark for its class, as it combines a rugged and reliable turboprop platform with a high precision weapons delivery system. It is the only combat-proven light attack aircraft currently in production. On the other hand, the C-390 Millennium is a multi-role military transport aircraft developed to become a market leader in its category as it is appropriate for several uses, including adverse situations such as firefighting, as well as features flexibility, strength, mobility, easy maintenance and new technology. Our workforce is highly capable of understanding the customers’ requirements for our defense products and services portfolio and their operational needs, transforming it into flexible and lower lifecycle cost products with global applications. We also count with strong ability to engage with several stakeholders in partnerships, enabling the development of state-of-the-art of the defense and space solutions with reduced cycles.

 

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Business Strategies

With a view to continue growth of our business and increasing our profitability, we intend to continue to offer our customers cost-effective, high quality, and reliable aircraft and services. The key elements of our strategy are the following:

Strengthening Our Position in the Executive Jets Market. We believe we are well positioned to grow in the small and medium cabin jet classes. We have streamlined our portfolio to feature the Phenom 100EV, an entry-level jet, the Phenom 300E, a light jet, Legacy 450 and Legacy 500, both medium cabin jets, the Praetor 500 and the Praetor 600,0, midsize and super-midsize jets, respectively. This renewed portfolio is industry-leading in performance, comfort and technology. We have endeavored to understand and respond to market and customer needs, to continuously improve the product and customer support for our executive jets. In the last 13 years, we have introduced disruptive clean sheet design aircraft to the market. In 2019, the Phenom 300E, was yet again the most delivered light jet. This is the eighth consecutive year that the Phenom 300 series achieves this mark.

Continue to Pursue Market Niche Opportunities in the Defense and Space Market. We currently offer products for transportation, light attack, training, intelligence, surveillance and reconnaissance. With our products, we have been able to provide enhanced capabilities through a portfolio of defense-integrated solutions, meeting the needs of a wide range of governments to address their military assignments.

Consolidate our key position with the Brazilian Ministry of Defense. We are fully committed to consolidate our position as a key partner of the Brazilian Armed Forces. We believe that our state-of-art engineering, operations capability and supply chain management knowledge will continue to address the needs of our most strategic customers, including the Brazilian Ministry of Defense, providing them with personalized solution. The use of the products comprising the portfolio of our Defense and Security business unit by the Brazilian Armed Forces is an opportunity to market our products to other governments around the world, increasing the demand for our products.

Continued focus on customer satisfaction through our established and respected services and support. We believe that our focus on customer satisfaction is fundamental to our entrepreneurial success and our business strategy. Providing high quality customer services and support is a key element of our customer focus and it is critical to our ability to maintain long-term relationships with our customers and keep our products competitive in the market. As the number of our aircraft in operation continues to grow, and our business expands, we have further increased our commitment to providing our customers with an appropriate level of after-sale support, including technical assistance, training, maintenance, spare parts, product modifications and other related services. We own and manage several service centers, strategically located in various parts of the world. In addition, our customers can rely on several authorized third-party maintenance service centers around the world to comply with their maintenance needs. On December 20, 2016, we announced the creation of Embraer Services and Support. In 2017, the new business unit completed the consolidation of all services and customer processes previously allocated to each of our other business areas. Since the first quarter of 2018, we have reported the services and support business as a separate business unit in our financial statements. For additional information on our services and support network, see “—Services and Support” and “—4A. History and Development of the Company—Business Development.”

Continue to provide complete and integrated services to the customers of our Defense and Security business unit. In the Defense and Security business unit, we offer a broad range of services to our customers covering air, land, sea, space and cyber security environments. For example, Atech develops products and services in the area of command and control, communications, computer and intelligence, cyber defense, air defense and air traffic control for the defense, security and other civil applications, and Visiona develops satellite and was the prime contractor for the Brazilian Strategic and Defense Communications Geostationary Satellite, or SGDC. We are constantly evaluating, developing and efficiently integrating new opportunities to fit our clients’ needs.

Continuing to Market Our Commercial Aircraft. We are fully committed to marketing our jets of up to 150 seats. As of December 31, 2019, we had more than 500 units in the ERJ family and almost 1,400 units in the EMBRAER 170/190 jet family in active service. In 2018 and 2019, we also made the first deliveries of the 190-E2 and195-E2 jets, respectively. In total, the E2 generation had almost 20 units in operation within two years of its entry into service. The 175-E2 jets had its first flight also in 2019, and is engaged in a certification process to ensure compliance with regulatory requirements. We believe that market opportunities exist for the EMBRAER 170/190 and for the new E2 generation, especially with airlines seeking to expand their fleet, due to organic growth, exploring new markets in the mid-density segment, and substituting aging aircraft in the below-150 seat category. Additionally commercial jets will have opportunities with mainline and low-cost carriers that are right sizing their fleets to adjust capacity and will provide us with significant opportunities to increase our competitiveness by offering a full range of jets of up to 150 seats to our customers.

 

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Committed to maintain the market leadership of our commercial jets up to 150 seats. Our new generation of commercial aircraft, the E2s, reinforce our commitment to maintain the market leadership in the segment of commercial jets up to 150 seats. Embraer’s commercial aircraft have state-of-the-art engines, which, combined with aerodynamically advanced wings, full fly-by-wire flight controls and improvements to other systems, increase efficiency by delivering significant reductions in fuel burn, maintenance costs, emissions and external noise.

Continue to Motivate Our Employees and Improve Our Production Processes and Managerial Practices. We are constantly seeking to exceed our customers’ expectations. In order to achieve this goal, we must, on a daily basis, continuously seek to implement the most efficient production processes and best managerial practices. Because the success of our products and services is ultimately a combination of the contribution of our employees and the production processes we have developed over the years, we recognize that we must continue to motivate our employees and refine our production processes. To that effect, we have implemented, and intend to further develop, corporate programs based on a “lean manufacturing” philosophy, such as the Embraer Enterprise Excellence Program, or P3E.

Evolution in Business Management – Passion for Excellence and P3E Programs

Launched in 2007, the Embraer Enterprise Excellence Program, or P3E, promotes excellence in corporate management, processes and products. P3E is comprised of four pillars: (i) the development of Embraer’s organizational culture; (ii) personnel development; (iii) continuous training; and (iv) the pursuit of excellence and efficiency in all processes.

Based on continuous improvement, P3E encompasses all of Embraer’s businesses, operating locations and processes. In addition, it generates value for stakeholders by connecting each area to value streams with resulting strategies. P3E uses the Kaizen concept as a tool to optimize processes with a particular focus on productivity gains and the elimination of waste.

In 2017, Embraer launched the Passion for Excellence Program with the goal of transforming Embraer into the best and most efficient aerospace and defense company in the world, creating value to our stakeholders. The transformation office, launched shortly thereafter, is a department that is responsible for the management of priority working areas and workstreams. The workstreams comprising this program are direct procurement, indirect procurement, design to value, inventory, engineering, manufacturing, services and support, support function, zero-based budget, organizational design, digital transformation, industrial intelligence, culture and investment forum.

In addition, our transformation office monitors project execution and adherence to expected results, while reinforcing the “lean manufacturing” and excellence concepts which have been fundamental to our Company’s management since the launch of P3E in 2007.

P3E is a valuable component of the Passion for Excellence Program, both of which are managed by our transformation office.

 

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Executive Aviation Business Unit

We refer to our business aviation business unit as our “Executive Jets business.” Our current portfolio comprises the entry-level Phenom 100 EV, the light Phenom 300E, the medium cabin Legacy 450 and Legacy 500 the midsize jet Praetor 500 and the super-midsize jet Praetor 600.

We market our executive jets to companies, including fractional ownership companies, charter and air-taxi companies, high-net-worth individuals and to flight academies, both independent as well as those belonging to airlines and armed forces. Our Executive Jets business unit accounted for 25.6% of our revenue for the year ended December 31, 2019. On December 31, 2019, our firm orders in backlog for our executive jets totaled US$1.4 billion.

In May 2005, we launched the Phenom 100 and Phenom 300, which are executive jets in the entry-level and light jet categories, respectively. The Phenom 100 jet, which carries six to eight people, received the Brazilian Aviation Authority and FAA certification in December 2008, the same month of its entry into service. The Phenom 300 carries up to ten people and has a larger fuselage and wingspan and longer range than the Phenom 100. It received the Brazilian Aviation Authority and FAA certification and entered service one year after the Phenom 100. By the end of 2019, the Phenom 100 fleet comprised more than 370 aircraft distributed in more than 30 countries and the Phenom 300 fleet comprised over 530 jets distributed in more than 30 countries. Focused on constant improvement, we launched the Phenom 100EV and the Phenom 300E in 2016 and 2017, respectively.

In May 2006, we launched the Lineage 1000, an ultra-large executive jet based on the EMBRAER 190 commercial jet platform. The Lineage 1000 is configured to accommodate up to 19 passengers in a total cabin area of 750 square feet (70 square meters). The Lineage 1000 was certified by the Brazilian Aviation Authority in December 2008 and by the FAA in January 2009 and entered service in the first half of 2009. By the end of 2018, the Lineage 1000 fleet comprised more than 25 units distributed in more than10 countries. Continued investments in the Lineage 1000 resulted in the introduction of the Lineage 1000E, in 2013, enhancing the customer experience by extending its range capability and offering new interior amenities. In 2019, we have successfully implemented the sunset strategy of the Lineage 1000E.

In April 2008, we formally launched two new programs in the medium cabin category, the medium cabin Legacy 450 jet, with a 2,575 nautical mile range and a capacity for up to nine passengers, and the medium cabin Legacy 500 jet, with a 3,125 nautical mile range and a capacity for up to 12 passengers. The Legacy 450/500 medium cabin jets are positioned in our executive jets portfolio between the Phenom 300 and the Legacy 650. The Legacy 500 was certified by the Brazilian Aviation Authority and the FAA in 2014, the same year that it entered service. The Legacy 450 was certified by the Brazilian Aviation Authority and the FAA in August 2015 and by the EASA in September 2015. In November of the same year, we announced an increase of 2,900 nautical miles in the Legacy 450’s range, and it entered service in December. In November 2017, we introduced the best-in-class 5,800-foot cabin altitude for the Legacy 450/500 jets, which further enhanced customer experience. These two aircraft programs have helped strengthen our position in the market and establish our portfolio as one of the broadest in the executive aviation industry. By the end of 2019, the Legacy 450/500 fleet was composed of more than 130 units distributed in 15 countries.

In October 2009, we introduced the Legacy 650 jet, a large jet based on the Legacy 600 platform, with a longer range for up to 14 passengers. The Legacy 650 received the Brazilian Aviation Authority and FAA certification in October 2010 and February 2011, respectively, and entered service in November 2010. The latest evolution of the aircraft that started our Executive Jets business unit is the Legacy 650E, which introduces auto-throttle and interior enhancements, in addition to a ten-year warranty, which set a new industry standard for performance and reliability. By the end of 2019, the fleet of Legacy 600 and Legacy 650 comprised more than 260 jets in service in over 40 countries. In 2019, we have successfully implemented the Legacy 650 series sunset strategy.

In October 2018, we launched the new Praetor 500 midsize and Praetor 600, the most disruptive and technologically advanced midsize and super-midsize jets, respectively, introducing unprecedented range into their categories. The Praetor 600 is expected to be the farthest-flying super-midsize business jet, which allows nonstop flights between London and New York. The Praetor 500 will be the fastest midsize aircraft, capable of reaching Europe from the west coast of the US with a single stop. The Praetor 600 was certified and entered service in June of 2019 and in December of 2019, respectively.

 

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Competition

Phenom 100EV and Phenom 300E competitors in the entry-level and light jet categories include Textron, Bombardier, Honda and Pilatus. In the medium cabin category, the Legacy 500 and Praetor 600 compete with Textron, Bombardier, Dassault and Gulfstream aircraft, while the Legacy 450 and Praetor 500 compete largely with aircraft produced by Bombardier and Textron.

Continuing Internationalization

In October 2014, we announced the opening of our Legacy 500 and Legacy 450 assembly complex in Melbourne, Florida, more than doubling the size of our campus at Melbourne International Airport. The new complex consists of four new buildings: a delivery center, an assembly hangar, a paint facility and a flight preparation facility, which are operational, as well as a new dedicated delivery center that began operations in the first half of 2018. As of December 31, 2019, our Melbourne campus had a constructed area of approximately 180,000 square feet.

Defense and Security Business Unit

We conceive, design, develop, manufacture and support a wide range of integrated solutions for the defense and security market. Our products include training, light attack aircraft, aerial surveillance platforms, military transport aircraft, government transport aircraft and command, control, communications, computer, intelligence, surveillance and reconnaissance systems and border surveillance and security. We offer a complete portfolio of customer services, ranging from maintenance and material solutions to complete Contractor Logistical Support programs.

As of December 31, 2019, we had sold more than 1,350 defense aircraft, including government transport aircraft, to more than 60 armed forces and operators worldwide. We are also the leading supplier of defense aircraft to the Brazilian Air Force based on the total number of aircraft in its fleet. Our Defense and Security business unit accounted for 14.2% of our revenue for the year ended December 31, 2019.

Products

Military Transport – C-390 Millennium

Our new multi-mission aircraft C-390 Millennium (formerly known as KC-390), maintained its features for civilian use (as certified by ANAC) and military use (as certified by the Department of Aeronautical Science and Technology – DCTA, and the Industrial Development and Coordination Institute – IFI) after its rebranding in 2019.

The C-390 Millennium is a multi-role military transport aircraft developed to set higher standards in its class. The C-390 Millennium is efficient for cargo and troop transport, aerial resupply and humanitarian missions, among other uses, as well as for uses in adverse situations, evacuations and firefighting. Designed with modern engineering solutions, this new aircraft is an innovation in military transport aviation. The C-390 Millennium features flexibility, strength, mobility, easy maintenance and new technology.

In 2016, Embraer and Boeing entered into an agreement to jointly market and support the C-390 Millennium military transport aircraft. Under the agreement, the companies will pursue new business opportunities together, both for the aircraft itself and for aircraft services and support. The C-390 Millennium completed a key milestone in 2017, when Embraer demonstrated its Initial Operating Certificate, or IOC, to the Brazilian Air Force. After making its debut at the Paris Airshow in France, the aircraft subsequently carried out demonstrations in several countries and covered an additional 90,000 km. The aircraft confirmed a high level of capability, achieving 100% availability during all flights in this period.

 

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In the fourth quarter of 2018, the C-390 Millennium reached another important milestone when it obtained a Type Certificate from ANAC. This certificate evidences that the project meets the highest standards of quality, which are the same as those used by the international air transport association.

In 2019, Embraer delivered the first two C-390 Millennium multi-mission transport aircraft to the Brazilian Air Force. The aircraft were engaged by the Brazilian Air Force on the pilots and maintenance training program. In addition, the tests campaign focused on military functionalities which have significantly evolved, highlighting the successful test accomplishment of air-to-air refueling and heavy-loads airdrop. By the end of 2019, the test campaign accumulated 2,500 flight hours. In addition, the Portuguese government signed the first export contract of C-390 Millennium aircraft, including the acquisition of five aircraft and one flight simulator, together with a 12-year contract of services to support the fleet. The first delivery is planned for 2023, and the aircraft will be used for military transport.

C-390 Millennium JV

As part of the Transaction, Embraer and Boeing (or their respective subsidiaries) had agreed to form a joint venture for the promotion and development of new markets and applications for the C-390 Millennium multi-mission airplane, based on jointly identified opportunities and development, manufacture and sales of the C-390 Millennium, in which joint venture Embraer or its subsidiary would hold the majority of the share capital. The Contribution Agreement, dated as of January 24, 2019 (the “Contribution Agreement”), that provided for the creation of such joint venture has been terminated by Boeing.

For additional information on the termination of the Transaction, see the Explanatory Note on page 4 of this annual report.

Light Attack and Training – Super Tucano

Super Tucano is an aircraft equipped for counter-insurgency scenarios, containing integrated sensors, datalink, cockpit protection and multiple weapons configurations. We believe that Super Tucano is the market benchmark in its class, as it combines a rugged and reliable turboprop platform with a delivery system of high-precision weapons. It is the only combat-proven light attack aircraft currently under production. Super Tucano is also a full-fledged advanced trainer due to its handling features, low operational cost and state-of-the-art avionics systems.

In 2017, we sold six Super Tucano aircraft to an undisclosed customer, which were delivered in 2018 to be used for tactical and advanced training as well as light attack missions. In addition, six Super Tucano aircraft were sold to the Philippine Air Force. All aircraft are expected to be delivered in 2019. The Super Tucano was selected as part of the Philippine Air Force’s modernization plan following a public bidding process involving other manufacturers. In the same year, Embraer and Mali’s Air Force entered into a settlement agreement to adjust the scope from six to four Super Tucano, after which four aircraft were delivered in 2016.

Furthermore, in the United States Air Force’s LAS program, three A-29 Super Tucano aircraft were delivered, and six additional aircraft were purchased during 2017, which are scheduled to be delivered in the first half of 2020 to the Air Force of Nigeria. In 2018, a contract was also signed for twelve A-29 Super Tucano aircraft that will be delivered in 2020 and 2021. Jointly with SNC, we have been participating in the Light Attack Aircraft (LAA) program, previously called OA-X. In early 2019, the United States Air Force (USAF) canceled the LAA program. After deciding to proceed with additional LAA experiments, the USAF purchased two A-29 aircraft for use by the Air Force Special Operations Command (AFSOC). The aircraft are expected to be delivered in 2020.

 

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In 2019, we sold five A-29 Super Tucano aircraft to an undisclosed customer. The deliveries are planned by 2021 and the aircraft will be used as light attack. Four A-29 Super Tucano aircraft were sold to another undisclosed customer. All aircraft are expected to be delivered in 2020. Additionally, in 2019, an integrated solution was delivered to an undisclosed customer compound of two Super Tucano aircraft, three SABER M60 Radar Units and three SENTIR M20 Radar units.

In 2020, the USAF transferred the LAA mission and associated funds to the U.S. Special Operations Command (SOCOM). SOCOM announced a new program named “Armed Overwatch” to acquire 75 armed aircraft. We have the opportunity to participate in a bidding process along with other manufacturers for the purchase of these aircraft with our reconnaissance aircraft or the A-29 Super Tucano.

Fighter – F-X2 Project

In July 2014, Embraer Defense and Security and Saab entered into a memorandum of understanding to collaborate in a joint management program for the F-X2 Project, pursuant to the selection of the Gripen NG as Brazil’s next generation fighter jet. Under this agreement, we will perform a material role in the overall program, as well as undertake an extensive share of work in systems development, integration, flight testing, final assembly and aircraft deliveries of both the single and two-seat versions of the state-of-the-art Gripen NG aircraft for the Brazilian Air Force. The contract between the companies that establishes the partnership for joint development, industrialization and management of the F-X2 Project for the Brazilian Air Force, became effective in 2015. We participate in the coordination of all development and production activities in Brazil. Furthermore, we and Saab will work together in the development of the two-seat version of the Gripen NG.

By December 2017, a team of more than 120 Embraer engineers and technicians were in Sweden to conduct initial training in maintenance and development work for the Gripen NG. All the technology developed by the joint team will be transferred to Brazil later. A dedicated engineering development center for this program, the Gripen Design Development Network, or the GDDN, was inaugurated at Embraer’s industrial plant in Gavião Peixoto in the State of São Paulo to support the Brazilian Air Force Program. In June 2017, the first Gripen E prototype flight took place in Sweden.

In October 2018, at Vidsel Test Range in the north of Sweden, the Gripen E fighter successfully completed the first tests to verify the ability to release and launch external payloads. The tests conducted by the first test aircraft consisted of discharging an external fuel tank and firing an IRIS-T air-to-air missile.

In August 2019, the Brazilian Fighter Gripen E achieved its first flight, being introduced to the Brazilian Air Force in September of the same year. The flight test campaign started at Saab and, in 2020, will continue at Embraer in Brazil. The prototype used for the first flight included software features developed by Embraer’s engineers. The first Gripen development simulator (S-RIG) was completed in November 2019 at the Embraer facility in Gavião Peixoto.

Special Transportation Aircraft

We have two ongoing programs under an agreement to develop special transportation aircraft. The first special mission program is I-X, entered into between Embraer and the Brazilian Air Force. The agreement started in 2014 with the sale of six Legacy 500 aircraft adapted to flight inspection missions. Due to budgetary constraints of the Brazilian government at the end of 2017, the scope had to be adjusted from six to four aircraft. In 2019, the last aircraft of four Legacy 500 units was delivered to the Special Flight Inspection Group (GEIV).

The second program started at the end of 2018 with the sale of two Phenom 100 aircraft to an undisclosed customer. All deliveries were concluded in 2019.

 

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Modernization Programs

We offer military aircraft modernization services and currently have four ongoing programs under contract, of which three are with the Brazilian Air Force and one with the Brazilian Navy. The first program, known as F-5BR, is focused on performing structural and electronics upgrades for F-5 fighter jets. In 2012, we concluded the modernization and delivery of 46 F-5 jets to the Brazilian Air Force. In 2011, a contract to modernize one additional batch of 11 F-5 fighter jets was signed. During 2015, the scope of this contract was reduced from 11 to three aircraft. As of December 31, 2019, two aircraft were delivered.

The second program, known as the A-1M modernization program, focuses on modernizing the AM-X aircraft, which is an aircraft developed and sold by us to the Brazilian Air Force approximately 20 years ago and became technologically outdated overtime. From 2013 to 2014, Defense and Security delivered three A-1M fighter jets to the Brazilian Air Force. Due to Brazilian government budget constraints, the scope was adjusted from 43 to 14 aircraft at the end of 2016. In 2019, we delivered two such aircraft.

The third program relates to the upgrade of A-4 Skyhawk fighter jets (AF-1 Brazilian Navy Designation), aimed at incorporating new technology, including new avionics, radar, power generation and independent oxygen generating systems. In 2019, the scope was adjusted from 12 to 7 aircraft. Until 2019, five modernized AF-1 (AF-1B) fighter jets were delivered to the Brazilian Navy.

The fourth program entered into between Embraer and the Brazilian Air Force relates to the modernization of five EMB 145 Airborne Early Warning and Control aircraft. This related agreement also provides for six mission planning and analysis stations, which will be employed for training and crew improvement. In 2019, Embraer performed the first flight of these modernized aircraft. The deliveries are planned for 2022.

Radars Programs

In 2019, Embraer delivered a modernized SABER M60 Radar unit to an undisclosed customer. The radar will be used as a tactical defense system. During the period, the contract for the acquisition of fourteen SABER M60 Radar mockups was signed between Embraer and the Brazilian Army. The mockups will be used for training. Additionally, in the same year, Embraer sold five anti-aircraft operations centers (Centro de Operações de Artilharia Antiaéreas – COAAe) to the Brazilian Army. The operations centers will be used for land surveillance.

Principal Defense and Security Subsidiaries and Joint Ventures

Savis Tecnologia e Sistemas S.A.

Savis Tecnologia e Sistemas S.A., or Savis, our affiliate, is an engineering company dedicated to system integration, and specializes in the development, integration, project management, implementation and life cycle support of border protection projects and of strategic structures defense. Savis is the lead system integrator for Brazilian Army’s SISFRON; we believe it is one of the largest ongoing border surveillance projects in the world.

The year 2020 represents an important milestone in the implementation of the first phase of the SISFRON Program. All different solutions and technologies have been tested and validated by the Brazilian Army in operational scenarios, enabling its follow-on application and continued development in the next phases of the program. We expect that the pilot phase will be concluded by 2022.

In 2019, Savis and the Brazilian Army amended the SISFRON agreement to add price escalation clauses, among other provisions. Additionally, in 2019 the Brazilian Army compensated us for currency conversion losses according to the terms of the SISFRON agreement.

 

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In December 2019, Savis received a request for a proposal related to phase 2 of the SISFRON Program.

Atech

Atech is a Brazilian company, wholly owned by us since 2013, focused on complex systems for critical missions, developing products and services in the area of command and control, communications, computer and intelligence, cyber defense, air defense and air traffic control for defense, security and other civil applications. Atech has worked in many Brazilian government strategic projects, including a nucleus-electric generation laboratory program, or LABGENE, which aims to develop a protection and control system for the nuclear reactor and the Brazilian air defense systems. Atech is also responsible for the development, implementation and modernization of the Brazilian air traffic control centers.

In 2018, Atech advanced on several fronts, such as contracting with main suppliers for the LABGENE, receiving and accomplishing several tests of acceptance for the control and monitoring sub-systems, as well as the inauguration of the first replica of the control room. In the area of air traffic control in Brazil, Atech completed the upgrade of the aeronautical messaging system (AMHS) and the implementation of the platform for evaluation and simulation of the new aeronautical communications network (ATN-BR). In the defense market, it also successfully concluded tests for the acceptance of the first fixed center for air traffic control and surveillance in a North African country, as well as the delivery of the first mobile air and ground surveillance centers. In the naval helicopter for the Brazilian Navy (H-XBR) program, the final certification of the tactical naval data management system was obtained, concluding the program’s development phase with the delivery of two complete sets with the embedded console tactical and mission computers.

In 2019, Atech concluded the LABGENE program with the hiring of the main suppliers of the subsystems of the program and the performance of factory acceptance tests in the control and monitoring subsystems. In the area of air traffic control, the SAGITARIO system was fully implemented in Venezuela, after being implemented in Paraguay. In 2019, Atech has also completed the project relating to the air traffic flow management system (Skyflow) to the Airport Authority of India, meeting all customer requirements. In Brazil, factory acceptance of the project to centralize flight plans for DECEA was completed. In the defense market, in a partnership with Embraer, Atech delivered a simulator for the Gripen BR program. In the same year, Águas Azuis consortium, to which Atech is a party, was selected by the Brazilian Navy for the supply of four Tamandaré class ships. Atech will provide the Integrated Platform Management System (IPMS), which is expected to be delivered, together with the class ships, to the Brazilian Navy in 2025.

Visiona Tecnologia Espacial S.A.

Embraer and Telecomunicações Brasileiras S.A., or Telebras, formed Visiona Tecnologia Espacial S.A., or Visiona, of which Embraer holds a 51% stake and Telebras 49%. Through this agreement between Embraer and Telebras, Visiona became the prime contractor for the Brazilian Strategic and Defense Communications Geostationary Satellite, or SGDC, with responsibility for the system integration.

In December 2016, after a successful phase of environmental and functional tests, Visiona delivered the SGDC satellite that will be operated by Telebras and the Brazilian Ministry of Defense. The ground system’s test and validation was also concluded in December 2016.

In 2017, the SGDC X-Band services (6 GHz to 8.5 GHz), which is used for strategic defense communication was launched successfully, and Telebras took over its control. Visiona has also entered into an agreement to support Telebras in its satellite operations.

In 2018, Visiona launched the VCUB nano-satellite program, the first satellite designed by a company in the Brazilian industry, and entered into partnerships with INPE, SENAI-SC/EMBRAPII, Government of Santa Catarina, CEMADEN and EMBRAPA for technological development and evaluation of the products generated by satellite.

 

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In 2019, Visiona made substantial progress in the VCUB program, successfully concluding the satellite Preliminary Design Review and, later in the year, all subsystems Critical Design Reviews. Visiona has also entered into cooperation agreements with CPRM, the Brazilian geological survey, and the São José dos Campos municipality, for evaluation of the use of the VCUB in geological survey and city management applications. Additionally, Visiona has entered into an agreement with the Brazilian Army for airborne P-Band radar remote sensing services using technology licensed from Embraer. We expect this opportunity to open a new business unit for Visiona’s remote sensing services.

Competition

Our military aircraft faces competition from various manufacturers in different countries in each market segment. The Super Tucano competes in the light attack market with the Textron AT-6 (USA), L3 AT-802L Longsword (USA), Textron Scorpion (USA), Leonardo M-345 (Italy), Aero Vodochody L-159 (Czech Republic), among others. In the flight training market, it competes with the Pilatus PC-21 (Switzerland), Textron T-6A/B (USA), Aero Vodochody L-39NG (Czech Republic), among others.

In the military transportation segment, the C-390 Millennium operates in the medium airlift segment in the class of 20 tons. Accordingly, its main competitor is the Lockheed Martin C-130J (USA). Due to the multi-mission design of the C-390 Millennium, including medical evacuation, search and rescue, firefighting, air-to-air refueling, transport of troops and aerial resupply, we expect specific competition with the Airbus A400M and Kawasaki C-2 with respect to air-to-air refueling missions, Airbus C-295 with respect to search and rescue missions, Leonardo C-27J with respect to passengers aircraft convertible into troop transportation aircraft, Ilyushin IL-76 with respect to firefighting aircraft, as well as C-130J, which is our biggest competitor in all of these categories.

In the VIP transportation segment, which comprises the aircraft that will be used by government officials and authorities, our business jets face competition from the main manufacturers of business jets, such as Bombardier (Canada), Gulfstream (USA), Textron (USA) and Dassault (France).

Services and Support Business Unit

On December 20, 2016, we announced the creation of Embraer Services and Support, a business unit focused on services and customer support, which brings together capabilities that were previously allocated to each business unit, and is responsible for developing solutions in support of current and new products and services, as well as for managing the associated processes and resources. This represents an opportunity to obtain greater operational efficiency and recurring revenues. Currently there are approximately 2,360 Embraer commercial aircraft and over 1,400 Embraer executive jets, as well as more than 600 defense aircraft, in operation. During 2017, the new business unit of Embraer Services and Support consolidated the services and customer support processes previously allocated to each of our business units to identify synergies and quantify our expertise in our Commercial Aviation, Executive Jets and Defense and Security business units regarding services and support. Since the first quarter of 2018, we have reported the Services and Support business unit as a separate segment in our financial statements. For further information, see Note 39.4 to our consolidated financial statements as of and for the year ended December 31, 2019. Our Services and Support business unit accounted for 19.2% of our revenue for the year ended December 31, 2019.

Executive Jets Industry

Our executive jets customer fleet has expanded globally and has a strong presence in major markets. We expect to continue enhancing customer services and support offered to our Executive Jets business unit. Between 2008 and 2010, we added seven wholly owned service centers to support our executive and defense aircraft in Fort Lauderdale, Florida, U.S.: Melbourne, Florida, U.S.; Mesa, Arizona, U.S.; Bradley, Connecticut, U.S.; Le Bourget, France; Gavião Peixoto and Sorocaba, São Paulo, Brazil. At the end of 2019, we had eight service centers to support our executive and defense jets fleet; including OGMA in Lisbon, Portugal, and 62 authorized service centers around the world. In addition, in order to ensure customer satisfaction, we implemented a new spare parts system and planning policy to generate synergies among business units. Our new planning policy will further enhance stock optimization and service levels, offering customers an availability between 92% and 98% for our spare parts items.

We have further developed our customer services and support structure to enhance our customers’ satisfaction in operating our Executive Jets business unit. To measure our customers’ satisfaction, we conduct a yearly customer experience survey of executive jet customers to develop action plans that will allow us to provide effective responses to our clients. Our Customer Support Contact Center counts on a team of specialists dedicated to support all Embraer Executive Jets and offers complete and timely assistance for their operational, technical and maintenance needs. This Customer Support Contact Center operates 24 hours a day, seven days a week, and is based at Embraer’s headquarters in São José dos Campos. Its priority is to minimize downtime from the customer’s first contact to final completion, by quickly and efficiently applying appropriate resources to critical needs, assuring that customers have expert assistance anywhere in the world.

Since 2014, our product support has been top-ranked in industry surveys. In 2016, for the first time we were number one in both the AIN and Pro Pilot Product Support Surveys. In 2017, AIN ranked us first for project support. In 2018, we were ranked number one in the Pro Pilot Product Support Survey and number two in AIN’s Product Support Survey. In 2019, we were top ranked in the Pro Pilot Product Support Survey and in AIN’s Product Support Survey. The positive customer responses evidenced by these surveys demonstrate our efforts in providing excellent customer services and support which are consistent with our business strategy and demonstrate Embraer’s commitment in this regard.

In 2019, our four service centers in the United States received for the ninth time the FAA Diamond award, a certificate of excellence related to maintenance technician training.

Defense and Security Industry

The Services and Support business unit provides solutions to several air forces and government entities through our comprehensive portfolio. These solutions are tailored to our customer needs and may include provision of material, training, maintenance, engineering and other aspects that will enhance fleet availability and mission readiness.

Our support services may range from simple transactional sales to integrated support programs. We assess our customer capabilities and requirements in order to define the integrated solution that will keep the fleet operating in the most effective way.

 

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The multi-mission C-390 Millennium has a dedicated team to design and implement the most effective entry into service solution. The customer participates directly in the process, alongside the Embraer team, encompassing overall strategy as well as specific details, assuring a reliable and smooth operation from the beginning of the process.

As part of the integrated support program, we also provide services to new and existing customers of our Super Tucano, which is an aircraft used by several air forces around the world.

Additionally, we also provide support aircraft services to passenger carriers from several government organizations. For instance, we have support services designed to fulfill requirements, including sale of spare parts, maintenance, training and technical support, among others, relating to (i) recent aircraft Phenom 100, Phenom 300, Legacy 450; (ii) older aircraft, including Legacy 600 and ERJ-145, and (iii) legacy aircraft, including Bandeirantes (EMB-110) and Brasília (EMB-120). Through the support services we provide to our customers, we can complement commercial or business aircraft with equipment and sensors, thereby making our customers’ fleet available for different types of missions.

One of the pillars of the Services and Support business unit is to keep old aircraft in service. We provide engineering solutions to our customers designed to overcome material shortages or technical difficulties of obsolete aircraft by means of incorporation of modern technologies into older aircraft, making their operation reliable, safe and cost-effective.

We provide a full range of services in different countries, often operating together with our customers’ teams in their own bases. In order to provide specific activities and comprehensive maintenance solutions, we own and operate maintenance, repair and overhaul, or MRO, service centers as follows:

 

   

Alverca, Portugal, which we refer to as OGMA, which became operational in March 2005 and provides services to our commercial aviation, executive aviation and defense and security customers; and

 

   

Gavião Peixoto, in the State of São Paulo, Brazil, where we have a dedicated service center for defense and security customers.

These MRO service centers are adapting their capabilities for purposes of providing C-390 Millennium maintenance services.

In 2019, as a result of our sales efforts, we entered into new service support agreements in Latin America, Europe, Africa and Asia to support our Defense and Security customers, thus improving the quality of service in order to meet our customers’ operational requirements.

Indústria Aeronáutica de Portugal S.A. – OGMA

Indústria Aeronáutica de Portugal S.A—OGMA, or OGMA, located in Alverca, Portugal, combines the accumulated know-how as an aircraft manufacturer and maintenance service provider. It offers worldwide MRO services, for defense, commercial and executive aviation as well for aircraft engines and components. Furthermore, OGMA plays an important role as a major aerostructures supplier of integrated solutions to OEMs and first tier suppliers. OGMA delivers assemblies and sub-assemblies of both metallic and composite materials. Embraer owns 65% of the voting capital of OGMA and the Portuguese State owns the remaining 35%.

In 2018, OGMA celebrated 100 years of activity in the aeronautical market. Since its formation, OGMA has been investing in the areas of MRO and manufacturing of aerostructures. In 2018, it also entered into an agreement for the maintenance and management of the Brazilian Air Force’s C-130 aircraft fleet, strengthening OGMA’s position in this market. OGMA further extended the MRO spectrum, obtaining certification for maintenance of the Rolls-Royce AE1107 engine. In addition, it also entered into a pylon manufacturing agreement with one of the largest manufacturers of executive aircraft.

 

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Additionally, as of the date of this annual report, OGMA is developing the Supplementary Type Certificate (STCs) to integrate additional functionalities and certify the C-390 Millennium according to NATO requirements in the scope of the agreement entered into with the Portuguese Air Force (FAP) for five C-390. Pursuant to the terms of subcontracting agreement we have with OGMA, OGMA is also responsible to perform the maintenance activities related to the delivery of the C-390 Millennium aircraft to the FAP from March 2023 until March 2027.

Other Related Business Unit

We provide fuel systems, structural parts, and mechanical and hydraulic systems to Sikorsky Aircraft Corporation, a Lockheed Martin Company, for its production of helicopters. We also manufacture general aviation propeller aircraft, also known as light aircraft, such as crop dusters. Our Other Related business unit accounted for 0.2% of our revenue for the year ended December 31, 2019.

We provide Sikorsky Corporation with the development and manufacture of landing gear, fuel systems and fuel tanks for the S-92 and H-92 Helibus helicopters. We also act as a risk-sharing partner for Sikorsky. These contracts were renewed in 2015 and will expire at the end of 2020.

We also have Ipanema in our Other Related business unit pipeline, which is a crop duster aircraft developed pursuant to the specifications of the Brazilian Ministry of Agriculture. These aircraft are produced only on demand. As of December 31, 2019, we have delivered a total of 1,422 of these aircraft, including 15 in 2019.

 

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Discontinued Operations – Commercial Aviation Business Unit

In our financial statements as of and for the year ended December 31, 2019, we recorded and presented our Commercial Aviation business unit and related services in a single line item as discontinued operations in the statements of operations, and the balances of assets and liabilities were presented as held for sale in the statement of financial position. Our 2019 audited consolidated statement of operations retroactively presented this information for the years ended 2018 and 2017 for comparative purposes to account for the aforementioned events.

We design, develop and manufacture a variety of commercial aircraft. Our Commercial Aviation business unit accounted for 40.9% of our revenue for the year ended December 31, 2019. As a result of our then-pending strategic partnership with Boeing, in our financial statements as of and for the year ended December 31, 2019, we recorded our Commercial Aviation business unit and related services in one single line item and the balances of assets and liabilities and the statement of operations were presented as held for sale and discontinued operations. On April 25, 2020, Boeing provided notice to Embraer communicating its decision to terminate the Master Transaction Agreement providing for the strategic partnership. In addition, Boeing terminated the Contribution Agreement that provided for a joint venture for the C-390 Millennium multi-mission transport aircraft. Embraer strongly believes that Boeing wrongfully terminated the Master Transaction Agreement and the Contribution Agreement. For additional information on the now-terminated strategic partnership with Boeing and on the assets held for sale and discontinued operations as of December 31, 2019, see Notes 4 and 40 to our 2019 audited consolidated financial statements included elsewhere in this annual report.

Termination of Strategic Partnership with Boeing

On January 24, 2019, we entered into the Master Transaction Agreement and certain other transaction documents with Boeing and certain subsidiaries of Embraer or Boeing, pursuant to which a subsidiary of Boeing would acquire a controlling stake in Embraer’s Commercial Aviation business unit and Embraer or a subsidiary of Embraer, and Boeing or a subsidiary of Boeing, would form a joint venture for the promotion and development of new markets and applications for the C-390 Millennium multi-mission aircraft. On April 25, 2020, we received a notice from Boeing communicating its decision to terminate the MTA, based on Boeing’s assertion that certain closing conditions in the MTA had not been satisfied by Embraer by the April 24, 2020 termination date in the MTA. In addition, Boeing terminated the Contribution Agreement. We strongly believe that Boeing wrongfully terminated the MTA and the Contribution Agreement. We are pursuing all remedies against Boeing for the damages incurred by Embraer as a result of Boeing’s wrongful termination and violation of the MTA and the Contribution Agreement, including by means of arbitration proceedings that have commenced by both sides in connection with the termination of the MTA and the Contribution Agreement by Boeing. No assurance can be given as to the timing or outcome of the arbitration proceedings or any recovery that Embraer may receive or loss that Embraer may incur therefrom or with respect to the arbitration that Boeing has commenced against us. For additional information on the termination strategic partnership with Boeing, see Explanatory Note on page 4 of this annual report.

For risks relating to the termination of the Transaction, see “Item 3. Key Information—3D. Risk Factors—Risks Relating to Embraer—Legal proceedings pertaining to the now-terminated strategic partnership with Boeing, including arbitration proceedings related to Boeing’s termination of and failure to close the MTA and the Contribution Agreement, may adversely impact our business, financial condition and results of operations.”

Assets Held for Sale and Discontinued Operations

According to IFRS 5, in light of the approval of the then-pending strategic partnership with Boeing, in our financial statements as of and for the year ended December 31, 2019, we recorded and presented our Commercial Aviation business unit and related services in a single line item as discontinued operations in the statements of operations, and the balances of assets and liabilities were presented as held for sale in the

 

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statement of financial position. Our 2019 audited consolidated statement of operations retroactively presented this information for the years ended 2018 and 2017 for comparative purposes to account for the aforementioned events. On April 25, 2020, Boeing provided notice to Embraer communicating its decision to terminate the Master Transaction Agreement providing for the strategic partnership. In addition, Boeing terminated the Contribution Agreement that provided for a joint venture for the C-390 Millennium multi-mission transport aircraft. Embraer strongly believes that Boeing wrongfully terminated the Master Transaction Agreement and the Contribution Agreement. Starting on April 25, 2020 and as a result of the above, assets and liabilities previously presented as held for sale will be reclassified and measured as held for continuous use, as well as the results of operations previously reported as discontinued operations will be reported as continuing operations. For additional information on the now-terminated strategic partnership with Boeing and on the assets held for sale and discontinued operations as of December 31, 2019, see Notes 4 and 40 to our 2019 audited consolidated financial statements included elsewhere in this annual report.

Products

ERJ Jet Family

We developed the ERJ family, our 37-50-passenger twin jet-powered regional jet, introduced in 1996, to address the growing demand among regional airlines for medium-range, jet-powered aircraft. Until the launch of the EMBRAER 170/190 Jet Family, the ERJ was our most important product, achieving great results and being responsible for consolidating our presence in the United States regional market. As of December 31, 2019, more than 500 ERJ aircraft remained in service around the world.

EMBRAER 170/190 Jet Family

The EMBRAER 170/190 jet family provides our customers four aircraft models in the regional passenger jet range. The EMBRAER 170 is a 66-78 seat jet and the EMBRAER 175 is a 76-88 seat jet, while the EMBRAER 190 is a 98-114 seat jet and the EMBRAER 195 is a 100-124 seat jet. The EMBRAER 170 was certified by the Brazilian Aviation Authority, the FAA, the Joint Aviation Authority of Europe (the former advisory organization that made certification recommendations to non-European Union national authorities), or the JAA, and the EASA in February 2004, and deliveries of the EMBRAER 170 began in March 2004. The EMBRAER 175 was certified by the Brazilian Aviation Authority in December 2004, by the EASA in January 2005 and by the FAA in August 2006. The EMBRAER 190 was certified by the Brazilian Aviation Authority in August 2005, by the FAA in September 2005 and by the EASA in June 2006. The EMBRAER 195 was certified by the Brazilian Aviation Authority in June 2006, by the EASA in July 2006 and by the FAA in June 2007.

We designed the EMBRAER 170/190 jet family to maximize the benefits of commonality. Aircraft in the family share approximately 86% of the same components. The high level of commonality in this jet family lowered our development expenses and shortened our development period. We believe that this commonality leads to significant savings to our customers in the form of easier training, less expensive parts and maintenance and lower operational costs. Due to differences in size and weight, the EMBRAER 170/190 jet family does not share the same wing design. This new regional jet family has engines fixed under its main wings—a design intended to enhance power, improve fuel economy and minimize turnaround times. All of the aircraft models of this family are powered by engines manufactured by General Electric Aircraft Engines and contain state-of-the-art avionics manufactured by Honeywell International Inc. (Aerospace).

The EMBRAER 170/190 jet family’s principal features are:

 

   

Performance. All four jets in the EMBRAER 170/190 jet family have a maximum cruising speed of Mach .82. The EMBRAER 170 and the EMBRAER 175 with all passengers on board have maximum ranges of 1,800 and 1,750 nautical miles, respectively, and each is available in the advanced-range version, with maximum ranges of 2,150 and 2,250 nautical miles, respectively. The EMBRAER 190 and EMBRAER 195 with all passengers on board have maximum ranges of 1,850 and 1,600 nautical miles, respectively, and each is available in the advanced-range version with maximum ranges of 2,450 and 2,300 nautical miles, respectively.

 

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Ground servicing. The underwing engine design and the existence of four doors, two in the front and two in the back, provide for enhanced accessibility and efficiency of ground services.

 

   

Cabin and cargo space. We have enhanced passenger safety and comfort in the EMBRAER 170/190 jet family. The aircraft’s “double-bubble” design enables a four-abreast cabin, a wide aisle, greater interior space and headroom, and a larger baggage compartment than the regional jets of our competitors, including those regional jets that are in the development stage.

E-Jets E2Family

In June 2013, we launched the second generation of our E-Jets family of commercial aircraft, named the E-Jets E2, comprising three new aircraft, the E175-E2, E190-E2, and E195-E2. The E190-E2 and E195-E2 entered service in April of 2018 and October of 2019, respectively. As of the date of this annual report, the E175-E2 family is engaged in the certification process to ensure compliance with regulatory requirements.

The launch of the E2 advances our vision of offering leading-edge commercial aircraft with a capacity for 70 to 150 seats, seamless mainline comfort and performance for flexible and efficient utilization by regional, low-cost and network carriers. Our strategy is to offer all the benefits of a new design, but with the reliability of an updated platform and commonality with current generation E-Jets. We have continually invested in the E-Jets program, so that our customers can stay competitive with aircraft that have the lowest operating costs and the highest passenger appeal.

In a typical single-class layout, the E175-E2 was extended by a one-seat row, compared to the current generation E175, and will seat up to 90 passengers, while the E190-E2 is the same size as the E190, of up to 114 seats. The E195-E2, compared to the current E195, has grown by three-seat rows and will accommodate up to 132 seats in a typical single class configuration or up to 144 seats in a high-density configuration.

In June 2015, two years after the launch of the program, we began to assemble the first of the E-Jets E2 family, an E190-E2, at our factory in São José dos Campos.

In November 2015, the Pratt &Whitney PW1900G PurePower® Geared Turbofan (GTF) engine for the Embraer E190-E2 and E195-E2 aircraft successfully completed its first flight initiating the engine’s flight test program.

In February 2016, in a ceremony held at our plant in São José dos Campos, we presented the E190-E2, which made its first flight in May 2016. In March 2017, in a ceremony held at our plant in São José dos Campos, we presented the second model of the E2 generation. In March 2017, we announced that Azul, the largest operator of the current generation E195s in the world, as the launch operator of the E195-E2. Azul has 51 firm orders of the E195-E2. In April 2019, the E195-E2 received simultaneous approval and was certified by ANAC, the FAA and EASA. In September 2019, we delivered the first E195-E2 aircraft to Azul in a ceremony held in the São José dos Campos’s facility. The E195-E2 aircraft entered into service in October of 2019.

On February 28, 2018, we received a Type Certificate from the National Civil Aviation Agency, the FAA and EASA for the E190-E2, the first member of the E-Jets E2 family of commercial aircraft. It was the first time that an aircraft program with the level of complexity of the E2 received a type certificate from three major worldwide certification authorities simultaneously.

On April 4, 2018, in a ceremony held in São José dos Campos, we celebrated the delivery of the first aircraft E190-E2 to Widerøe, the largest regional airline of Scandinavia. The aircraft entered into service in the same month and performed a sold-out flight between Bergen and Tromsø in Norway.

 

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Customers

We have a diverse, global customer base, and our major operators for commercial aircraft include some of the largest regional, low-cost and mainline airlines in the world. As of December 31, 2019, our largest E-Jet customers by number of aircraft in service are Republic, Skywest, Envoy Air, JetBlue, Mesa, Azul, Aeromexico, KLM Cityhopper, Compass, Tianjin-HNA and Lot Polish. In addition, as of December 31, 2019, 78.9% of our firm orders in backlog for the current EMBRAER 170/190 jet family are from the airlines Republic Airlines, United Airlines, and Skywest. Moreover, our E-Jets E2 family backlog mainly comprises orders from the companies Azul, AerCap, AirCastle and AirPeace, which represent approximately 85% of our E-Jets E2 family orders.

We generally sell our commercial aircraft pursuant to contracts with our customers on a fixed-price basis, adjusted by an escalation formula. Our contracts generally include an option for our customers to purchase additional aircraft at a fixed-price option, subject to the same escalation formula. In addition, our contracts include a product support package to cover the entry into service of our aircraft, as well as a general warranty for such aircraft. Other provisions for specific aircraft performance and design requirements are negotiated with our customers. In addition, some of our contracts contain cancellation provisions and trade-in options and financial and residual value guarantees. See “Item 3. Key Information—3D. Risk Factors—Risks Relating to Embraer—Some of our aircraft sales may be subject to financial and residual value guarantees and trade-in options that may require us to make significant cash disbursements” for a more detailed discussion of these provisions.

Sales and Marketing

Our current marketing strategy is based upon our assessments of the worldwide commercial airline market and of the needs of our customers. We actively market our aircraft to international airlines and regional affiliates of major global airlines through our regional offices in the United States, Europe and Asia. Our success depends, to a significant extent, on our ability to discern our customers’ needs, including needs for customer service and product support, and to fill those needs in a timely and efficient manner while maintaining the high quality of our products. Our market and airline analysts focus on the long-term trends of the market, competitive analysis, product-enhancement planning and airline analysis. In terms of direct marketing to our customers, we rely on relationship development, social media and professional networks, as well as participating in air shows and other cost-effective events that enhance customer awareness and brand recognition. Besides São José dos Campos in Brazil, we have regional sales offices in Amsterdam, Holland; Fort Lauderdale, Florida, U.S.A.; Beijing, China; and Singapore.

Production, New Orders and Options

Prior to starting production or development of a new project, we secure letters of intent for future orders of a significant number of aircraft. We typically begin taking orders and building a backlog two years before we begin producing a new aircraft model, aiming to receive a significant number of orders before we deliver the initial aircraft. Once an order is taken, we reserve a place for that order on the production line, ensuring that we will maintain production sufficient to meet demand. Once a place is reserved on the production line, we are able to give customers delivery dates for their orders.

We include an order in backlog once we have received a firm commitment, represented by a signed contract. Our backlog does not include options and letters of intent for which definitive contracts have not been entered into.

Our options generally provide our customers the right to purchase an aircraft at a fixed price and on a specified delivery date, subject to escalation provisions, under a purchase agreement. Once a customer decides to exercise an option, we account for it as a firm order. Occasionally, we have extended the exercise date for our options and renegotiated the delivery schedule of firm orders, as well as allowed customers to convert their firm orders or options for one aircraft into firm orders or options for another aircraft within the same commercial aircraft family.

 

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Services and Support

We are working on further developing our portfolio of services for our Commercial Aviation customers, which comprises the following areas:

 

   

field Support, which provides convenient, accessible, on-site or remote assistance for all operational and technical issues in order to maximize customer performance;

 

   

technical Support, which serves technical needs through analytics, engineering expertise, and real-time fleet monitoring;

 

   

flight Operations, which supports the efficiency and safety of airline operations through tailored solutions, consulting, supervision and training resources;

 

   

aircraft Modification, which provides execution and coordination of system upgrades for improved fleet performance and cabin modifications for enhanced onboard amenities;

 

   

materials, which ensures availability and economy in parts and materials management for both scheduled and unscheduled maintenance;

 

   

maintenance, which provides optimized maintenance solutions based on best practices for efficiency, safety and effectiveness;

 

   

training, which prepares crew, maintenance technicians and operations personnel for the highest levels of competence; and

 

   

Digital Solutions, which deploys the internet as the core communication channel for 24 hours a day, seven days a week collaboration and information exchange.

We have a worldwide presence, with five regional units strategically positioned around the globe in order to provide us with greater agility in understanding the needs and desires of our customers and respecting the cultural diversity of the different regions where our customers are based. Our regional units are located as follows:

 

   

Fort Lauderdale, Florida, U.S.A., which supports our customers in North America;

 

   

Amsterdam, Netherlands, and Paris, France, which supports our customers in Europe, Africa, the Middle East and Central Asia;

 

   

Singapore, which supports our customers in the Asia Pacific region;

 

   

Beijing, China, which supports our customers in China; and

 

   

São José dos Campos, Brazil, which supports our customers in Latin America.

All units mentioned above have the following infrastructure:

 

   

a spare parts distribution center;

 

   

technical and material field support teams with field engineers and customer account managers;

 

   

warranty and repair administration offices; and

 

   

services sales managers.

 

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In São José dos Campos, we also offer the following services:

 

   

Customer Care Center, providing an integrated solution of technical and spare parts support available 24 hours a day, seven days a week;

 

   

spare parts planning and material engineering;

 

   

technical support;

 

   

flight operations support;

 

   

maintenance support engineering;

 

   

maintenance Repair and Overhaul, or MRO, network management strategy and policy;

 

   

business development support;

 

   

technical publications development; and

 

   

technical services, such as: maintenance training, Digital Solutions, engineering services, pilot services and aircraft modifications.

Beyond parts fulfillment and simple rental plans, we also provide innovative programs for material planning, logistics, and acquisitions, such as our:

 

   

Flight-Hour Pool Program;

 

   

Parts Consignment Program;

 

   

Embraer Collaborative Inventory Plan;

 

   

Embraer Parts Exchange Program; and

 

   

Customer Stock Optimization.

We own a full flight simulator, which is operated by the Embraer Training Center in Johannesburg, South Africa, and supports our fleet growth in the African market.

We own and operate MRO facilities in Nashville, Tennessee, where we have the Embraer Aircraft Maintenance Services, a dedicated service center for commercial aviation, and through Indústria Aeronáutica de Portugal S.A, or OGMA, in Alverca, Portugal and Embraer Service Center in Gavião Peixoto, Brazil we offer dedicated maintenance services to both commercial and defense customers.

The Embraer MRO Network that supports our commercial aviation aircraft fleet is also expanding with our third-party maintenance service centers. As of December 31, 2019, these centers are:

 

   

STAECO, in Jinan, China;

 

   

HNA Technik, in Tianjin, China;

 

   

SIA Engineering Company, in Singapore; and

 

   

Hawker Pacific, in Singapore.

 

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Our strategy is to target our services and support leadership position by continuing to provide the best customer support anytime and anywhere in the world, and relying on our strong MRO Network, which satisfies customers’ expectations of quality, lead time, affordability, capability and global coverage.

We constantly monitor customer satisfaction levels and keep open communication channels with them to understand customer needs and define the most appropriate actions for the continuous improvement of our customer support. To do so, we use the following tools and forums:

 

   

a customer support satisfaction survey performed annually in order to identify our competitive position;

 

   

specific action plans and commitments with each customer, known as Customer Integrated Action Plans;

 

   

teamwork and systematic identification and integrated action plans to solve problems affecting us, our suppliers and customers;

 

   

periodic dedicated meetings at the customer’s headquarters;

 

   

Embraer Operators’ Conferences, which are yearly events typically held in regions of the world where we have customer operators;

 

   

Maintenance Cost Workshop, which is typically a yearly event where operators share best maintenance practices and discuss cost reduction initiatives;

 

   

interactive forums for discussions in the web portal FlyEmbraer, fostering the exchange of experiences among customers and Embraer;

 

   

participation in international fairs related to maintenance, technology, customer relationship management and others; and

 

   

an internal program, Embraer Excellence in Customer Experience, which aims to address changes in the Services and Support area of the commercial aviation division, in order to elevate the performance of our Commercial Aviation business unit, covering current and future market needs, with the purpose of obtaining the highest levels of customer satisfaction based on their experience in the commercial aviation industry.

Competition

We generally face competition from major manufacturers in the international aircraft market. Each category of our products faces competition of a different nature and generally from different companies. Some of our competitors have greater financial, marketing and other resources than we do.

We currently face the strongest competition from the following aircraft:

 

   

ATR-72, a 68-seat turboprop produced by ATR Aircraft, or ATR;

 

   

Q-400, a 72-seat turboprop program recently acquired by Viking Air from Bombardier;

 

   

CRJ-700, CRJ-900 and CRJ-1000, 70-seat, 86-seat and 98-seat regional jets, respectively, currently produced by Bombardier, acquisition by Mistubishi pending regulatory approval;

 

   

A220, former CSeries, 110 to 150-seat jets acquired by Airbus from Bombardier, which entered into service in 2016;

 

   

MRJ, a 76 to 88-seat jet under development by Mitsubishi, which is expected to enter into service by 2021;

 

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ARJ21, a 90-seat regional jet produced by COMAC; and

 

   

SSJ100, a 103-seat regional jet produced by Sukhoi.

We are the leading manufacturer in the market for jets up to 150 seats in the world, with 29% of market share in terms of accumulated deliveries, since 2004.

The key competitive factors in the markets in which we participate include design and technological strength, aircraft operational costs, aircraft price, including financing costs, customer service and manufacturing efficiency. We believe that we will be able to compete favorably based on our aircraft performance, efficiency, low operating costs, product development experience, global customer base, market acceptance, cabin design and aircraft price. In addition, while the competitive landscape has become increasingly aggressive, deals such as the Airbus acquisition of a majority stake in Bombardier’s C-Series Program, rebranded as A220, are evidence of the opportunities in the 100-150 seats market. With the Airbus sales team marketing the A220 Program, we believe customers who would not have previously considered the business unit may seek our E190/E195-E2 as a comparable alternative.

Aircraft Operating Lease Activities

In order to provide better financial support to our commercial activities, as well as to manage and reduce financial risks related to the marketing of aircraft, we created ECC Leasing in September 2002. ECC Leasing has been able to remarket aircraft in its portfolio with conditions and at values similar to market conditions and without any guarantee from Embraer. All sale and leasing transactions were entered into based on market rates, helping to sustain the present and future value of our products.

In January 2017, ECC Leasing merged with Embraer Netherlands, with its assets and activities incorporated under Embraer Netherlands. The mission of Embraer Netherlands, as our company responsible for aircraft operating lease activities, is to manage and remarket Embraer’s aircraft portfolio, which as a result of contractual obligations, may be acquired by us via trade-in transactions. We also provide remarketing services to third parties looking to sell their Embraer manufactured aircraft.

In 2019, we successfully completed sales campaigns for the E190-E1 and the ERJ145 aircraft, where the acceptance of trade-in aircraft as part of payment was allowed. We have also generated additional revenues through the sale and lease of aircraft received as trade-ins. Since its establishment in 2002 through December 31, 2019, this activity handled 261 aircraft, of which one is under an operating lease, five are available or under sale negotiations, and 196 were sold.

We believe the results of Embraer Netherlands will be largely dependent on market conditions, aircraft availability levels and the demand for jets in the 37 to 50 seat category.

Markets

The following table sets forth our revenues by line of business and geographic region of end users for the periods indicated, considering our continuing and discontinued operations:

 

     Year ended December 31, (1) (3)  
     2019      2018      2017      2016     2015(2)  
            Recast      Recast      Recast     Recast  
     (in US$ millions)  

Commercial Aviation

             

North America

     1,399.8        1,449.4        1,795.5        2,157.3       2,452.7  

Latin America (except Brazil)

     17.0        11.9        0.5        63.9       89.8  

Asia Pacific

     256.9        324.1        670.3        581.6       307.8  

Brazil

     0.7        0.2        0.9        (6.9     145.3  

Europe

     508.2        519.1        200.1        105.1       316.5  

Others

     51.8        53.6        104.1        15.9       36.6  
  

 

 

    

 

 

    

 

 

    

 

 

   

 

 

 

Total

     2,234.4        2,358.3        2,771.4        2,916.9       3,348.7  
  

 

 

    

 

 

    

 

 

    

 

 

   

 

 

 

Executive Jets

             

 

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     Year ended December 31, (1) (3)  
     2019      2018      2017      2016     2015(2)  
            Recast      Recast      Recast     Recast  
     (in US$ millions)  

North America

     1,181.6        936.7        1,006.8        1,147.7       1,226.6  

Latin America (except Brazil)

     21.6        22.5        0.6        102.3       38.7  

Asia Pacific

     20.3        1.6        94.1        98.4       149.2  

Brazil

     54.7        16.1        17.1        46.7       72.6  

Europe

     118.8        127.4        161.7        158.1       218.3  

Others

     —          —          —          0.1       13.2  
  

 

 

    

 

 

    

 

 

    

 

 

   

 

 

 

Total

     1,397.0        1,104.3        1,280.3        1,553.3       1,718.6  
  

 

 

    

 

 

    

 

 

    

 

 

   

 

 

 

Defense and Security

             

North America

     202.8        145.7        93.3        166.4       177.2  

Latin America (except Brazil)

     2.7        68.3        5.4        (0.7     21.7  

Asia Pacific

     4.3        1.6        13.7        22.2       33.2  

Brazil

     431.8        258.9        587.1        479.6       479.3  

Europe

     96.7        122.8        133.5        99.3       84.8  

Others

     37.0        14.8        20.7        58.7       14.9  
  

 

 

    

 

 

    

 

 

    

 

 

   

 

 

 

Total

     775.3        612.1        853.7        825.5       811.1  
  

 

 

    

 

 

    

 

 

    

 

 

   

 

 

 

Services and Support

             

North America

     560.7        422.2        421.0        416.6       —    

Latin America (except Brazil)

     35.1        47.3        45.1        45.2       —    

Asia Pacific

     95.5        104.7        81.4        85.0       —    

Brazil

     107.6        157.2        133.3        140.6       —    

Europe

     200.0        196.7        196.3        156.0       —    

Others

     47.8        52.7        45.1        38.8       —    
  

 

 

    

 

 

    

 

 

    

 

 

   

 

 

 

Total

     1,046.7        980.8        922.2        882.2       —    
  

 

 

    

 

 

    

 

 

    

 

 

   

 

 

 

Other Related businesses

             

North America

     0.7        5.0        21.3        22.7       30.1  

Brazil

     8.5        10.6        10.5        3.3       12.3  

Europe

     —          —          —          —         7.3  
  

 

 

    

 

 

    

 

 

    

 

 

   

 

 

 

Total

     9.2        15.6        31.8        26.0       49.7  
  

 

 

    

 

 

    

 

 

    

 

 

   

 

 

 

 

(1)

In our financial statements as of and for the year ended December 31, 2019, we recorded and presented our Commercial Aviation business unit and related services in a single line item as discontinued operations in the statements of operations, and the balances of assets and liabilities were presented as held for sale in the statement of financial position. Our 2019 audited consolidated statement of operations retroactively presented this information for the years ended 2018 and 2017 for comparative purposes to account for the aforementioned events. We have also recast the statement of operations for the years ended December 31, 2016 and 2015 to account for the discontinued operations in all comparative periods. The recast financial data for the years ended December 31, 2016 and 2015 included herein are unaudited.

(2)

The consolidated financial information as of and for the year ended December 31, 2015 has been derived from our historical financial statements but was not restated for the retrospective application of IFRS 9 and IFRS 15 as management cannot provide this financial information without unreasonable effort or expense.

Suppliers and Components; Risk-Sharing Arrangements

We do not manufacture all of the parts and components used in the production of our aircraft. Approximately 65.4% of the production costs in our Executive Jets and Defense and Security business units and approximately 86.8% of the production costs in the Commercial Aviation business unit (recorded and presented as discontinued operations for the financial statements as of and for the year ended December 31, 2019) consist of materials and equipment purchased from our risk-sharing partners and other major suppliers. Risk-sharing arrangements with suppliers of key components enable us to focus on our core business: design, development, manufacture and sale of aircraft and systems for the Commercial Aviation, Executive Jets, and Defense and Security business units. Risk-sharing arrangements are those in which suppliers are responsible for the design, development and manufacture of major components or systems of our aircraft. Our risk-sharing partners, therefore, must invest their own money in development and share the risk and success of our products with us.

In our Commercial Aviation, Executive Jets and Defense and Security business units, we rely on risk-sharing partners to supply vital components of our aircraft. We select suppliers on the basis of, among other factors, technical performance and quality of their products, production capacity, prior relationship and financial competitiveness. We have had continuing relationships with most of our major suppliers since production of the Bandeirante aircraft began in 1975.

 

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In addition, we have entered into purchase agreements with our major suppliers, which cover our production. These contracts contain pricing formulas that take into consideration the various factors that affect the business of our suppliers and help us mitigate the effects of price volatility (which in some cases can be significant) of the materials, parts and components that are required for our operating activities. We are not obligated to purchase a minimum amount of materials annually under any of these supply contracts. Our ongoing supplier relationships depend on cooperation, performance and the maintenance of competitive pricing. For additional information on our relationship with our suppliers, see “Item 3. Key Information—3D. Risk Factors—Risks Relating to Embraer—We work with a limited number of key suppliers.”

Executive Jets

The risk-sharing partners for the Phenom 100EV and Phenom 300E jets are Pratt & Whitney Canada, the engines’ supplier, Garmin, the avionics systems’ supplier, and Eaton Corporation, the hydraulic systems’ supplier. The main risk-sharing partners for the Legacy 450/500 jet family, Praetor 500 and Praetor 600 jets are Honeywell, the engines’ supplier, and Rockwell Collins, the avionics systems’ supplier.

Discontinued Operations

EMBRAER 170/190 Jet Family and E-Jets E2 Jet Family

We are continuously improving the EMBRAER 170/190 jet family, together with risk-sharing partners that supply key systems for the aircraft. Our supplier arrangements for the EMBRAER 170/190 jet family differ from the supplier arrangements of the ERJ 145 regional jet family, in which we use fewer suppliers. In the EMBRAER 170/190 jet family, each risk-sharing partner is responsible for the development and production of aircraft systems, including the landing gear, the hydraulic system and the flight control system, rather than individual components, and fewer components are supplied by companies that are not risk-sharing partners. The assumption of responsibility for systems by our risk-sharing partners lowers our capital expenditures, which decreases our development risks and increases our operating efficiency by reducing the number of suppliers per product and cutting production costs. It also shortens development and production time.

In addition, some of the risk-sharing partners for the EMBRAER 170/190 jet family have assumed a broader role in other aspects of the program by providing sales financing and residual guarantees, rather than simply supplying us with aircraft components.

When E-Jets were launched, they were one of the most advanced aircraft in operation. The fly-by-wire system, the integrated avionics and the double-bubble cross-section brought a new level of technology and passenger comfort for the segment. The family success led to 29% of the deliveries share in the up to 150 seats jet segment during 2005 to 2019. Notwithstanding, during the last ten years we have been continually improving the family. New performance packages, maintenance improvements, external noise reduction and fuel burn reduction are examples of improvements developed.

The E-Jets E2 project is another important example of our commitment to keep our market leadership in the segment. The state-of-the-art technology applied on the engines, wings, and avionics make the E2 family a highly efficient tool for airlines. The E2 will bring a new level of aerodynamic efficiency, as applied on the wing with one of the highest aspect ratios of the industry and advanced wing shape, it will also improve the systems and avionics, including fourth generation full fly-by-wire flight controls, and Pratt & Whitney’s PurePowerTM Geared Turbofan high by-pass ratio engines (PW1700G on the E175-E2, PW1900G on the E190-E2 and E195-E2). We expect that all of those improvements will result in double-digit reductions of fuel burn, emissions, noise and maintenance costs. Cockpit commonality with current generation E-Jets is a key driver in the design of the E-Jets E2, in order to enable a smooth transition for the E-Jets pilots. Honeywell’s Primus Epic 2 advanced integrated avionics system with large landscape displays and

 

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advanced graphics capabilities, and Honeywell’s Next Generation Flight Management System (NGFMS), already in development with current-generation E-Jets, will provide exceptional pilot situational awareness and flexibility for continuous innovation on the flight deck. E-Jets E2 has the additional objective of increasing revenue opportunities, as the family is designed to provide better aircraft availability and to increase ancillary revenue for operators.

Known for its comfortable and roomy cabins, with no middle seats, the E-Jets passenger experience will be further enhanced in the E2 generation. The U.K. design firm Priestmangoode was contracted to develop the aircraft cabin jointly with Embraer. The interiors will establish a new benchmark in cabin design, improve the passenger experience, and deliver a more comfortable and improved environment tailored to passengers’ needs, while maximizing airlines’ operational efficiency.

Other suppliers and partners for the E-Jets E2 have been announced: Liebherr (control systems for flaps and slats), Moog (fly-by-wire), Rockwell Collins (horizontal stabilizer control system), UTC Aerospace Systems (wheels, brakes, APU, electrical system), Intertechnique (engine and APU fuel feed, pressure refueling, fuel transfer, fuel tank inerting and ventilation, and fuel gauging and control), Crane Aerospace & Electronics (electronic control module for landing gear, brake control systems and proximity sensors), Triumph (fuselage segments, rudder and elevators) and Aernnova Aerospace (vertical and horizontal stabilizers).

We also announced that we have selected new IFEC’s systems suppliers for the E-Jets E2. Meggitt Polymers & Composites will design and produce a redone high-performance assembly for in-flight connectivity, while we selected KID-Systeme to provide the SKYfi Club, a wireless streaming onboard platform.

Aircraft Financing Arrangements

Commercial aircraft customers may request financing support for aircraft acquisition. This support usually includes providing assistance to customers in obtaining financing arrangements from different sources, including ECAs, leasing companies, commercial banks and capital markets. Financing support may exceptionally include providing assurance that financing will be available for the acquisition.

Additionally, customers may sometimes require short-term bridge financing prior to arranging long-term debt financing, as long-term funding may not be available for them at the time of delivery. On a case-by-case basis, we have provided interim financing, above market rates, to customers who already have their financing arrangement structured or who are in the process of negotiating such arrangements.

Government Regulation and Aircraft Certification

We are subject to regulation by regulatory aviation agencies, both in Brazil and abroad. These agencies principally regulate the aircraft design, manufacturing and operation. Besides certification in Brazil, we must obtain certification in each jurisdiction in which our aircraft is registered and operated. The certifying authority in Brazil is the National Civil Aviation Agency (Agência Nacional de Aviação Civil), or the Brazilian Aviation Authority, a special organization with the status of a regulatory agency related to the Ministry of Infrastructure of the Presidency of the Federative Republic of Brazil, which supervises and certifies aircraft, aircraft parts, manufacturers and operations. We are also subject to the regulation of aviation authorities in other countries, including the FAA in the United States and the EASA for the European Union. Once an aircraft is certified by the Brazilian National Civil Aviation Agency and validated by the FAA and/or the EASA, some authorities, including those in Australia and Mexico, may opt to ratify the product certification instead of running a full domestic validation process. Other countries, such as Canada, require compliance with their own specific national requirements before certification. Some countries simply validate and complement original certification of the Brazilian National Civil Aviation Agency or of the FAA or the EASA, in accordance with their own rules. The Brazilian National Civil Aviation Agency has a bilateral certification agreement with several aviation authorities, including the FAA and EASA. This cooperation among regulatory authorities leads to faster certification by the foreign authorities.

 

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Aircraft certification is a continuous process. The Brazilian Aviation Authority must approve any change in the design of any of our aircraft. Significant changes to aircraft design may require a separate validation/certification by other authorities as specified in their regulations and bilateral agreements. Changes in aircraft certification requirements do not require a new certification or a new validation of a previously certified aircraft, but significant safety improvements may otherwise be required by the authorities acting through operational rules or airworthiness directives.

Our defense products must comply with the certification guidelines defined in each contract with the customer. Unlike our civil aircraft, our defense products are not subject to regulatory obligations. Some contracts, including those for civil aircraft modified for military purposes, require civil certification (e.g. India, SIVAM, etc.). Other contracts, including those for LAS and C-390 Millennium, require approval from the Military Certification Authority.

Seasonality

We have historically experienced seasonality in our results of operations and cash flow generation. This is mainly due to a traditionally higher number of deliveries in the fourth quarter, particularly in our Executive Jets business unit, which is in line with overall executive jet industry seasonality. Deliveries of executive jets in the fourth quarter generally constitute at least 35% to 45% of annual deliveries in our Executive Jets business unit, and we expect this trend to continue.

 

4C.

Organizational Structure

Our operations are conducted by Embraer S.A. as the controlling and principal operating company. We have a number of direct and indirect subsidiaries, none of which is considered significant. A complete list of our subsidiaries is filed as Exhibit 8.1 to this annual report, and a description of our joint ventures and project subsidiaries and strategic alliances is included in the annual report in Item 3 above.

 

4D.

Property, Plant and Equipment

For information on our property, plant and equipment, see Note 2.2.12 to our 2019 audited consolidated financial statements included elsewhere in this annual report.

For a discussion of our capital expenditures relating to property, plant and equipment, see “Item 5. Operating and Financial Review and Prospects—5C. Research and Development, Patents and Licenses, etc.—Capital Expenditures.”

Production

The manufacture of an aircraft consists of three principal stages: production of primary parts, assembly of major components and final assembly. Primary parts include metal sheets and plates (produced from die-cast molds, stretch forming or various chemical treatments), parts produced using computerized and non-computerized machines, and prefabricated parts. The primary parts are then assembled, or mated, with one another to produce the aircraft’s major components, which are in turn joined to create the aircraft’s basic structure. In the final assembly stage, the aircraft’s various operating systems (including wiring and electronics) are installed into the structure and tested.

In São José dos Campos, State of São Paulo, Brazil we have production facilities for commercial aircraft. In our Defense and Security business unit we have production facilities located in the Gavião Peixoto plant, which is near the city of Araraquara, located in the central region of the State of São Paulo, Brazil. For the final assembly Embraer has two facilities in Florida, in the United States, one for executive jets in Melbourne and one for defense and security aircraft in Jacksonville.

We have the flexibility to increase or decrease production as a response to adjust demand.

 

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Executive Jets

Executive jets have been produced since 2011 in São José dos Campos, and are also produced in Melbourne, Florida in the United States. The Melbourne facility is a final assembly plant with a Customer Center and an Engineering Office. In 2014, we announced an expansion plan to assemble the Legacy 450/500 in this facility, to improve our production capacity.    We have been increasing the number of executive jets produced in Melbourne since 2016. In 2019, we transferred Praetor production from São José dos Campos to the Gavião Peixoto facility.

Defense and Security

The Gavião Peixoto facility includes flight-testing capabilities for all Embraer aircraft and a final assembly line for our defense aircraft. This facility has been operational since November 2002. In May 2014, we inaugurated the final assembly line of the new military transport and aerial refueling jet, the C-390 Millennium, and in February 2015, it successfully performed its first flight. Embraer is currently conducting flight tests for the C-390 Millennium. In the fourth quarter of 2018, we received the Type Certificate from the Brazilian Aviation Authority for the multi-mission airlift C-390 Millennium and delivered the first aircraft in 2019.

We have a final assembly facility in Jacksonville, Florida for Defense and Security where we initiated the final assembly line for the A-29 Super Tucano for the U.S. Air Force’s LAS Program in 2013.

In 2016, we launched the GDDN in Gavião Peixoto. It is the hub for the Gripen NG technology development in Brazil for Saab and Embraer together with the Brazilian partner industries and institutions. The GDDN includes the development environment and simulators required to undertake the fighter development work. In addition, the GDDN is connected to Saab in Sweden and the industrial partners in Brazil, securing both technology transfer and efficient development.

Other

In September 2012, we opened two facilities in Évora, Portugal, one for the manufacture and assembly of metal components and one for the manufacture and assembly of composite material components. The start-up of these facilities went as planned, and they made their first deliveries in November 2012. In 2015 Évora’s production plan included major components for the Legacy 450/500, Praetor 500/600, E-Jets, E-Jets E2 and C-390 Millennium.

We manufacture aerospace systems and components in ELEB, which is an Embraer subsidiary located in São José dos Campos, and its main products are landing gear systems, hydraulics and electro-mechanical sub-assemblies, such as actuators, valves, accumulators and pylons.

EZ Air Interior Limited, our subsidiary for the production of interior parts for our Commercial Aviation business unit in Mexican factories, began production and shipping of parts to Brazil in 2013. It achieved full production capacity in January 2015.

In 2015, we completed the acquisition of a new subsidiary, Embraer Aero Seating Technologies. We progressively acquired its ownership stake in the company, headquartered in Irwindale, California, which provides luxury seating solutions for the aviation industry and for Embraer product lines. In 2016, we opened a new state of the art manufacturing facility located in Titusville, Florida.

Discontinued Operations

Commercial Jets

In July 2009, in line with our initiatives to improve production efficiency pursuant to the Business Efficiency Strategy (Frente Eficiência Empresarial), we converted the final assembly for the E-Jets E1 family to a line concept in São José dos Campos, which resulted in a significant reduction in the cycle of production time. In 2015, we started the prototype production for the new E-Jets E2 family of jets, with the first delivery and production certification in 2018.

 

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Environmental Matters

We have all material permits required to operate our business in all Embraer sites around the world. The terms of these operating permits are reviewed every year and, as of December 31, 2019, we were in compliance with all of them. In addition, our Environmental and Occupational Health and Safety Management System was established in 2001, allowing us to maintain ISO 14001 certification since 2002. ISO 14001 is an internationally recognized standard of environmental management system efficiency for businesses and organizations, which was reviewed in 2015 and has included items concerning environmental risks and life cycle analysis. Embraer was already prepared for this new version even before it was required by the ISO. Certified environmental management systems have been progressively implemented across our manufacturing sites, with over 84% of our employees operating under an ISO 14001.

Work procedures and instructions are set up in order to ensure that the activities that cause environmental impacts are carried out in order to minimize or mitigate any environmental damage, and we perform studies of environmental aspects and impacts and we implement actions to eliminate or reduce them, including infrastructure works.

Embraer established a corporate procedure for performing environmental diagnoses and detailed investigations for finding the presence of contaminants in soil and water due to past activities. This procedure is applied to the areas where Embraer has production and/or maintenance facilities, as well as to new areas being acquired. Currently, all industrial operations in Brazil and abroad have already mapped their soil and water. The evaluation results are reported to the CCRA (Committee for Environmental Risk and Control), our board and shareholders.

Embraer takes into account environmental and safety requirements to enter into agreements with third parties. Embraer is committed to hire suppliers, service providers and contractors who respect the environment, health and safety through their practices and processes, and Embraer has a systematic procedure for their continual evaluation and monitoring.

We encourage not only the environmental certification but also the development of a full life cycle orientation for products and services, as this remains the most cost-efficient and practical way to effectively reduce environmental impacts. The environmental management system attempts to create economic value by reducing environmental costs and exposure at each stage of the product life, from design to operations and to end of life. Integrated development of environmentally sustainable products, through the design for environment methodology, aims to incorporate environmental requirements into product development throughout the various stages of production.

The implementation of further innovative and eco-efficient technologies and processes is a key factor in ensuring our sustainability, increasing the attractiveness of our products and our overall competitiveness. We continuously pursue eco-efficiency, seeking responsible business opportunities by developing breakthrough technologies, products and services, as well as by reducing the environmental impact of our activities and products throughout their life cycle, and, more generally, by integrating environmental concerns into our daily business. We recognize that environmental requirements, such as reduction of greenhouse gas emissions, are becoming one of the main drivers of airline fleet decisions and are already influencing aircraft developments. In 2012 at the Air Transport Action Group Aviation and Environment summit, Embraer, Boeing and Airbus signed a memorandum of understanding to collaborate with development of drop-in, affordable aviation biofuels as an effort to reduce the aircraft industry’s greenhouse gas emissions by 50% by 2050 based on 2005 levels.

Special focus is dedicated to the European Registration, Evaluation and Authorization of Chemicals, or REACH, regulation (EU No. 2007/1906), which came into force on June 1, 2007. REACH aims to improve the protection of human health and the environment through more strict regulation of chemical use in the

 

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aviation industry; it replaces the preexisting European Union, or EU, regulatory framework on chemicals. REACH introduces a range of new obligations over a period of 11 years which are intended to reduce the risks of harm that the 30,000 most frequently used chemicals may cause. The regulation establishes progressive withdrawal of some of the substances that are considered to be of very high concern for human health and the environment.

The regulation requires that any company which produces, imports, uses or prepares chemical substances, preparations or other items on the EU market be responsible for ensuring that the item complies with REACH. We are affected by the regulation because our products can be exported, not only to the countries of the EU, but also to all countries in which compliance with REACH is required. We have a facility in Évora that must comply with all REACH requirements. As of December 31, 2019, we have not suffered any penalties in connection with REACH.

Over the past few years, we have worked to fulfill our responsibilities under REACH. We have substituted substances used in our production processes that are harmful to the environment and employee health with less harmful alternatives. Several materials have already been replaced in accordance with REACH restrictions, and we are studying the feasibility of replacing more substances widely used in the aviation industry. We also participate in working groups with other firms in the aviation industry, including the International Aerospace Environmental Group and the Aerospace Industries Association, to develop solutions for REACH compliance and other environmental laws. We are working with our supply chain on several initiatives to avoid supply chain disruptions and provide support to customers, including the REACH questionnaire on the risk assessment of suppliers.

Insurance

We maintain insurance at levels deemed to meet all risks associated with our operations and legislation. The insurance covers potential damages to our property, inventories, working process, cargo and aircraft hulls for our own fleet. In addition, we maintain a comprehensive aviation products liability policy, for claims arising out of our legal liability as manufacturers, repairers, suppliers or servicers. We also possess natural disaster and business interruption insurance.

 

4E.

UNRESOLVED STAFF COMMENTS

We have no unresolved staff comments.

 

Item 5.

OPERATING AND FINANCIAL REVIEW AND PROSPECTS

This discussion should be read in conjunction with our audited consolidated financial statements and notes thereto and other financial information included elsewhere in this annual report. This annual report contains forward-looking statements that involve risks and uncertainties. Our actual results may differ materially from those discussed in the forward-looking statements as a result of various factors, including, without limitation, those set forth in “Item 3. Key Information—3D. Risk Factors” and the matters set forth in this annual report generally.

Except as otherwise indicated, all consolidated financial information in this annual report has been prepared in accordance with IFRS as issued by IASB and presented in U.S. dollars, while, for local purposes, our consolidated financial statements are also prepared in IFRS but are presented in reais. For certain purposes, including providing reports to our shareholders located in Brazil, filing financial statements with the CVM and determining dividend payments and other distributions and tax liabilities in Brazil, we have prepared and will continue to be required to prepare parent company financial statements in accordance with IFRS, presented in reais.

 

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5A.

Operating Results

Current Conditions and Trends in our Industry

The following discussion is based largely upon our current expectations about future events and trends affecting our business. Actual results for our industry and performance could differ substantially. For additional information related to our forward-looking statements, see “Introduction—Special Note Regarding Forward-Looking Statements” and for a description of certain factors that could affect our industry in the future and our own future performance, see “Item 3. Key Information—3D. Risk Factors.”

Termination of Strategic Partnership with Boeing

On January 24, 2019, we entered into the Master Transaction Agreement and certain other Transaction documents with Boeing and certain subsidiaries of Embraer or Boeing, pursuant to which a subsidiary of Boeing would acquire a controlling stake in Embraer’s Commercial Aviation business unit, and Embraer, or a subsidiary of Embraer and Boeing or a subsidiary of Boeing, would form a joint venture for the promotion and development of new markets and applications for the C-390 Millennium multi-mission aircraft. On April 25, 2020, we received a notice from Boeing communicating its decision to terminate the MTA, based on Boeing’s assertion that certain closing conditions in the MTA had not been satisfied by Embraer by the April 24, 2020 termination date in the MTA. In addition, Boeing terminated the Contribution Agreement. We strongly believe that Boeing wrongfully terminated the MTA and the Contribution Agreement. We are pursuing all remedies against Boeing for the damages incurred by Embraer as a result of Boeing’s wrongful termination and violation of the MTA and the Contribution Agreement, including by means of arbitration proceedings that have commenced by both sides in connection with the termination of the MTA and/or the Contribution Agreement by Boeing. No assurance can be given as to the timing or outcome of the arbitration proceedings or any recovery that Embraer may receive or loss that Embraer may incur therefrom or with respect to the arbitration that Boeing has commenced against us. For additional information on the termination of the strategic partnership with Boeing, see Explanatory Note on page 4 of this annual report.

For risks relating to the termination of the Transaction, see “Item 3. Key Information—3D. Risk Factors—Risks Relating to Embraer—Legal proceedings pertaining to the now-terminated strategic partnership with Boeing, including arbitration proceedings related to Boeing’s termination of and failure to close the MTA and/or the Contribution Agreement, may adversely impact our business, financial condition and results of operations.”

COVID-19

The outbreak of the novel coronavirus, known as COVID-19, was first identified in December 2019 in Wuhan, China, and has since spread globally. The COVID-19 outbreak has compelled governments around the world to adopt measures to contain the spread of COVID-19 by means such as lockdowns of cities, restrictions on travel and public transportation, business and store closures, and emergency quarantines, among others, and responses by businesses and individuals to reduce the risk of exposure to infection, including reduced travel, cancellation of meetings and events, and implementation of work-at-home policies, among others, which has caused significant disruptions to the global economy and normal business operations across a growing list of sectors and countries.

We have been monitoring the COVID-19 pandemic situation and its impacts on our employees, operations, the global economy, the supply and the demand for our products and services. Our committee monitors on a daily basis the development of the pandemic situation and it has implemented contingency plans to act as quickly as necessary as the current situation continues to unfold.

As a result of the COVID-19 pandemic, on March 17, 2020, our Brazilian corporate employees responsible for critical functions started to work from home and, on March 22, 2020, we decided to put our Brazilian employees that could not work remotely on paid leave until March 31, 2020. Until March 31, 2020, we were only carrying out essential activities at our facilities, including customer support, aircraft

 

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maintenance and manufacturing. On March 30, 2020, we further decided to put our Brazilian employees responsible for non-critical functions on collective vacation from April 1 to April 9, 2020. During this temporary shutdown of our facilities, we implemented safety measures to adapt our facilities to the WHO guidelines. On April 10, 2020, we implemented a job preservation plan that included temporary furloughs, reduction in working hours and pay cuts to certain of our employees, as a means of guaranteeing their employment upon completion of the plan. This plan started on April 13, 2020 and will last between 60 and 90 days. On April 13, 2020, all of our Brazilian employees that could not work remotely and were not included in the job preservation plan returned to work at our adapted facilities. Our or other companies’ operations may be suspended again or remain suspended for a longer time.

Due to the uncertainty related to the spread of COVID-19, on March 26, 2020, we also suspended the projections relating to our expected results for 2020, dated as of November 12, 2019. We will issue updated projections for 2020 when we conclude the assessment of the effects that the COVID-19 pandemic will cause to our business.

During the COVID-19 crisis, we are working in partnership with companies and research centers on technologies aiming at increasing the availability of equipment and solutions to fight the COVID-19 pandemic. We are manufacturing parts of ventilators and biological air filter systems, and our subsidiary Embraer Aero Seating Technologies is manufacturing masks to support continued operations in Florida.

We expect that 2020 will be a distinct year in terms of orders and deliveries due to the impacts of the COVID-19 pandemic. The airline business has been adversely affected due to COVID-19, and we will have to continue reviewing our production chain in order to reflect the new and uncertain demand scenario.

As a result of COVID-19, on April 6, 2020, Standard & Poor’s downgraded our rating by one notch to BBB- with a negative outlook, due to expectations that many airlines will delay new deliveries at least until the end of the third quarter of 2020. On April 28, 2020, Fitch also downgraded our rating from BBB- to BB+ as a result of the negative expectations relating to the commercial aviation industry due to the COVID-19 pandemic. On April 29, 2020, Moody’s also downgraded our rating from Ba1 to Ba2 with a negative outlook.

In the Defense and Security business unit, as of the date of this annual report, we cannot fully predict the impact that the COVID-19 outbreak will have on our Defense and Security business unit. However, we are facing difficulties to deliver products to international customers due to border and quarantine controls.

In the Executive Jets business unit, restrictions on travel and emergency quarantine have posed some challenges for aircraft deliveries to international customers. As of the date of this annual report, production lines of our business aviation products are abreast for attending planed supply levels, with no major supply shortages. We are supervising the risks and controlling the supply chain and postponements in demand in order to prevent obstacles that may arise from this global crisis. As a result of COVID-19, as of the date of this annual report, one of our executive jets customers cancelled its firm orders and some of our executive jets customers postponed their scheduled aircraft deliveries. Although we cannot predict the full impact of the COVID-19 outbreak in the short-to-medium term on our business, we expect that some of our customers will continue to postpone their scheduled aircraft deliveries and to cancel their orders.

In the Commercial Aviation business unit (recorded and presented as discontinued operations for the financial statements as of and for the year ended December 31, 2019), due to extensive traffic disruption affecting our customer’s operations throughout the world, as a result of COVID-19, it is reasonable to expect a material impact on our 2020 deliveries. According to Cirium, a data analytics and consulting company, as of May 2020, 60% of the global fleet has been placed into storage, and the International Air Transport Association—IATA projects a decline of 50% in commercial traffic for 2020 in year-over-year terms. As a result of COVID-19, some of our customers rescheduled their aircraft deliveries carrying them over to 2021 and beyond, which has affected our 2020 projected deliveries. As of the date of this annual report, no cancellation has occurred. The recovery pace is difficult to predict since this outbreak has no precedent in history. Although we cannot yet determine the impact of the COVID-19 outbreak in the short-to-medium term on our business, we expect that customers will continue to postpone their scheduled aircraft deliveries and will cancel their orders.

As a result of COVID-19, as of the date of this annual report we have taken measures to preserve our cash flow, including (i) reductions in working hours and pay cuts; (ii) extension of payment terms relating to our suppliers; (iii) extension of tax payment deadlines; (iv) negotiation of new credit lines; and (v) adjustment of our production chain.

 

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As of March 31, 2020, we recognized the following impacts on profit or loss as a result of the COVID-19 pandemic:

 

   

Negative changes in the fair value of Republic Airways shares held as financial investments impacting our 2020 operating results in the amount of US$22.2 million. For additional information on our financial investments, see Note 7 to our 2019 audited consolidated financial statements included elsewhere in this annual report.

 

   

Additional provision for expected credit losses over trade accounts receivable, contract assets and customer financing as a result of increase in credit risks of our customers during the COVID-19 pandemic in the amount of US$33.4 million.

As of March 31, 2020, we had a trigger event related to the impairment of assets in our Executive Aviation and Defense and Security business units due to the impacts of the COVID-19 pandemic and its impact on our market capitalization devaluation in the first quarter of 2020. Based on our best estimate using certain assumptions for short-to-medium term impacts on deliveries of the Executive Aviation and Defense and Security business units, we have not identified additional impairment charges to be recognized in addition to the impairment losses we identified and recognized in our 2019 audited consolidated financial statements. The Brazilian real lost 29% of its value against the U.S. dollar in the same period causing a positive impact in our future cash flows on March 31, 2020, as a result of the reduction of cash outflows indexed in Brazilian reais (costs of goods sold and general expenses). However, an improvement in the currency exchange rate in the future may result in a future impairment charge. For additional information on the impairment losses we recognized in 2019, see Note 19 to our 2019 audited consolidated financial statements included elsewhere in this annual report.

For information on the risks related to COVID-19, see “Item 3. Key Information—3D. Risk Factors—Risks Relating to Embraer—The outbreak of communicable diseases around the world, including COVID-19, may lead to higher volatility in the global capital markets and recessionary pressure on the global economy,” “—A downturn in our key markets may reduce our sales and revenue, and, consequently, our profitability,” and “—Our Commercial Aviation business unit depends on key customers.” For additional information on the impacts of the COVID-19 pandemic, see Note 40.2 to our 2019 audited consolidated financial statements included elsewhere in this annual report.

Executive Aviation

During 2019, the business aviation industry experienced positive, double-digit year-over-year growth stimulated by the entry into service of new jet models, with new technology, better performance and cabin comfort features, such as the Embraer Praetor series. However, after the unprecedented COVID-19 crisis, industry indicators such as increasing pre-owned inventory for sale and lower flight activity, along with aggressive price deals and increased competition, will continue to create a challenging environment.

Defense and Security

In general terms, we expect an increase in defense spending globally. In light of continuous instability in the Middle East and the growing security concerns relating to insurgent groups, military budgets in the region should also increase. Regional conflict and tensions should also drive investment in defense materials in Africa and Europe.

We expect increased demand for proposals of customized solutions, creating opportunities for our Defense and Security portfolio and for those of our subsidiaries, especially in the areas of critical software, communications, sensors and platforms.

 

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On the other hand, due to the Brazilian economic environment, we do not expect that new investment projects in the defense sector will be implemented by the Brazilian government. We also expect that the Brazilian government budget restrictions may require us to reschedule deliveries, pursuant to the terms of existing contracts. Additionally, we believe that new opportunities will be on a smaller scale and will require the accommodation of constraints related to available resources.

Assets Held for Sale and Discontinued Operations

According to IFRS 5, in light of the approval of the then-pending strategic partnership with Boeing, in our financial statements as of and for the year ended December 31, 2019, we recorded and presented our Commercial Aviation business unit and related services in a single line item as discontinued operations in the statements of operations, and the balances of assets and liabilities were presented as held for sale in the statement of financial position. Our 2019 audited consolidated statement of operations retroactively presented this information for the years ended 2018 and 2017 for comparative purposes to account for the aforementioned events. On April 25, 2020, Boeing provided notice to Embraer communicating its decision to terminate the Master Transaction Agreement providing for the strategic partnership. In addition, Boeing terminated the Contribution Agreement that provided for a joint venture for the C-390 Millennium multi-mission transport aircraft. Embraer strongly believes that Boeing wrongfully terminated the Master Transaction Agreement and the Contribution Agreement. Starting on April 25, 2020 and as a result of the above, assets and liabilities previously presented as held for sale will be reclassified and measured as held for continuous use, as well as the results of operations previously reported as discontinued operations will be reported as continuing operations. For additional information on the now-terminated strategic partnership with Boeing and on the assets held for sale and discontinued operations as of December 31, 2019, see Notes 4 and 40 to our 2019 audited consolidated financial statements included elsewhere in this annual report.

Commercial Aviation

Due to extensive traffic disruption affecting our customer’s operations throughout the world as a result of the COVID-19 pandemic, some of our customers rescheduled their aircraft deliveries carrying them over to 2021 and beyond, which has affected our 2020 projected deliveries. As of the date of this annual report, no cancellation has occurred. Additionally, the workforce reduction, as a result of the COVID-19 pandemic, has slowed down the pace of certification activities for the E175-E2 aircraft.

Impairment Losses

Starting on April 25, 2020 and as a result of the unexpected and wrongful termination of the strategic partnership by Boeing on such date, assets and liabilities related to our Commercial Aviation business unit previously presented as held for sale will be reclassified and measured as held for continuous use, as well as the results of operations previously reported as discontinued operations will be reported as continuing operations.

The change in designation requires the remeasurement of the long-lived assets held for sale (fixed assets, intangibles, and rights-of-use) for the lower value between the book value and the recoverable value. The book value is adjusted according to the accumulated depreciation and amortization in the amount of US$83.5 million, not recognized while classified as held for sale, which will be recorded in the second quarter of 2020. The recoverable value, on the other hand, is determined by the highest amount between the value-in-use of these assets and the fair value minus the expenses that would be incurred as a result of the sale. Since the initial designation of the Commercial Aviation business unit assets as “held for sale” until April 25, 2020, the long-lived assets held for sale were listed at the recoverable value by the lesser value between the book value and the fair value based on the purchase price set forth in the Master Transaction Agreement, minus the incremental costs incurred to close the Transaction.

According to our impairment test practices, the recoverable value of these assets will be measured based on the approach of value-in-use using the discounted cash flow method, which is not substantially different from fair value under current market conditions. For information on our impairment test practices, see Note 19 to our 2019 audited consolidated financial statements included elsewhere in this annual report. The discount rate applied in this case is based on the rate of the weighted average cost of capital, reconciled with the estimated discount rate before taxes of 10.6%. That discount rate differs from the discount rate applied on the December 31, 2019 calculation due to our increased risk diversification and to our increased funding costs as a result of not concluding the Transaction.

 

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We used our best estimate to calculate the future cash flows used in the determination of the value-in-use account for significant economic environment impacts resulting from the COVID-19 pandemic on the commercial aviation market.

As a result of the measurement of the recoverable value of the assets of the Commercial Aviation business unit (including fixed assets, intangibles and rights-of-use), we expect to recognize losses due to the impairment charges relating to these assets in the second quarter of 2020, which will impact our operating results for 2020. Based on our preliminary calculations, we estimate that these losses may vary from US$153.0 million to US$526.0 million taking into account our estimates of potential projected scenarios of future deliveries of commercial jets and market share development in the coming years following the COVID-19 pandemic, according to currently available information. The estimated losses were calculated based on carrying amounts of cash-generating units, or CGUs, and the foreign exchange rate as of March 31, 2020. The amount to be recorded as of June 30, 2020 is subject to revision and update based on certain assumptions and factors that are subject to change, including without limitation the foreign exchange rate and discount rate on June 30, 2020, and may vary materially from the estimates above. Since a substantial portion of the cost of goods sold is indexed in Brazilian reais, positive or negative fluctuations of 10% in the real to U.S. dollar foreign exchange rate may impact the mid-range of estimated impairment charges by approximately US$163.0 million and US$201.0 million, respectively.

For additional information on the impairment losses related to our Commercial Aviation business unit, see Note 40.3 to our 2019 audited consolidated financial statements included elsewhere in this annual report.

Brazilian Economic Environment

The Brazilian government has frequently intervened in the Brazilian economy and occasionally made drastic changes in policy and regulations. The Brazilian government’s actions to control inflation and affect other policies and regulations have often involved, among other measures, increases in interest rates, changes in tax policies and incentives, price controls, currency devaluations, capital controls and limits on imports. Changes in Brazil’s monetary, credit, tariff and other policies could adversely affect our business, as could inflation, currency and interest-rate fluctuations, social instability and other political, economic or diplomatic developments in Brazil, as well as the Brazilian government’s response to these developments.

Rapid changes in Brazilian political and economic conditions that have occurred and may occur require continued assessment of the risks associated with our activities and the adjustment of our business and operating strategy accordingly. Developments in Brazilian government policies, including changes in the current policy and incentives adopted for financing exports of Brazilian goods, or in the Brazilian economy, over which we have no control, may have a material adverse effect on our business.

The following table shows data for real GDP growth, inflation, interest rates and the U.S. dollar exchange rate for and as of the periods indicated.

 

     December 31,  
     2019     2018     2017     2016     2015  

Real growth in gross domestic product

     1.1     1.3     1.3     (3.3 )%      (3.5 )% 

Inflation (IGP-M)(1)

     7.3     7.6     (0.5 )%      7.2     10.5

Inflation (IPCA)(2)

     4.3     3.8     3.0     6.3     10.7

CDI rate(3)

     5.9     6.4     9.9     14.0     13.2

LIBOR rate(4)

     1.9     2.8     1.7     1.0     0.6

Depreciation of the real vs. U.S. dollar

     4.0     17.1     1.5     (16.5 )%      41.8

Period-end exchange rate—US$1.00

   R$ 4.031     R$ 3.875     R$ 3.308     R$ 3.259     R$ 3.905  

Average exchange rate—US$1.00(5)

   R$ 3.944     R$ 3.680     R$ 3.203     R$ 3.450     R$ 3.388  

 

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Sources: Fundação Getúlio Vargas, or FGV, and the Central Bank and Bloomberg.

 

(1)

Inflation (IGP-M) is the general market price index measured by FGV.

(2)

Inflation (IPCA) is a broad consumer price index measured by the Instituto Brasileiro de Geografia e Estatística.

(3)

The CDI rate is average of inter-bank overnight rates in Brazil (as of the last date of the respective period).

(4)

Three-month U.S. dollar LIBOR rate as of the last date of the period. The LIBOR rate is the London inter-bank offer rate.

(5)

Represents the average of the exchange rates on the last day of each month during the period.

Inflation and exchange rate variations have had, and may continue to have, substantial effects on our financial condition and results of operations. Inflation and exchange rate variations affect our monetary assets and liabilities denominated in reais. The value of these assets and liabilities as expressed in U.S. dollars declines when the real devalues against the U.S. dollar and increases when the real appreciates. In periods of devaluation of the real, we report (i) a remeasurement loss on real-denominated monetary assets and (ii) a remeasurement gain on real-denominated monetary liabilities. For additional information on the effects of exchange rate variations on our financial condition and results of operations, see “Item 11. Quantitative and Qualitative Disclosures about Market Risk—Foreign Exchange Rate Risk.”

For additional information on the impact of macro-economic factors on our financial position, see Note 28 of our 2019 audited consolidated financial statements.

Tax Incentives

Similar to other Brazilian companies across multiple industries, we benefit from certain tax and other government-granted incentives, including those related to our export and research and development activities. For the effective tax reconciliation, see Note 24 to our 2019 audited consolidated financial statements included elsewhere in this annual report.

Tax Incentives for Companies in Research and Development

Brazilian Law 11,196/05, also known as Lei do Bem, grants tax benefits to entities involved in research and development activities for technological innovation.

To take advantage of the tax benefits, a beneficiary must (i) assess its income tax according to the real profit (lucro real) measurement, (ii) record taxable profits, (iii) be current with all of its fiscal obligations, which consists of being able to obtain a certification from the government demonstrating that there are no outstanding debts with tax authorities, and (iv) have investments in research and development.

Technological innovation is deemed to be the development of a new product or manufacturing procedure, as well as the addition of new features or characteristics to an existing product or manufacturing procedure, which entails incremental improvements and gains in quality or productivity, therefore resulting in greater market competitiveness.

We and other Brazilian companies across multiple industries benefit from these tax incentives with respect to the income tax (Imposto de Renda Pessoa Jurídica), or IRPJ, and the social contribution on net income tax (Contribuição Social sobre o Lucro Líquido), or CSLL. These benefits allow us to deduct from our taxable net income an amount between 60% to 80% of our expenditures related to research and development activities for technological innovation during a fiscal year. For additional information, see Note 24 of our 2019 audited consolidated financial statements.

Tax Incentives and Payroll Exemptions for Exporting Companies

Brazilian Law 12,546/11 established the tax incentives for exporting companies and created the Special Regime for the Reintegration of Taxes of Exporting Companies (Regime Especial de Reintegração de Valores Tributários para as Empresas Exportadoras), or REINTEGRA, to stimulate and facilitate exports. The goal of REINTEGRA is to recover, in whole or in part, the residual tax costs from the production chain

 

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of exported goods, thereby reducing the tax burden. The exporting entity may receive tax credits according to a percentage, which may vary from 0.1% to 3%, established by decree of the Brazilian Finance Ministry and applied to the revenue earned from the export of the goods abroad. As a result of decree 9,393/2018 of the Brazilian Finance Ministry, which became effective on May 31, 2018, the tax incentive percentage was lowered to 0.1%.

To take advantage of the tax benefits, (i) an exporting entity must manufacture the exported product in Brazil, (ii) the product must be codified in the TIPI, which is a list issued by Brazilian fiscal authorities under the Tax on Manufactured Products (Imposto Sobre Produtos Industrializados), or IPI, and (iii) the cost of imported materials used in the exported product may not exceed certain limits prescribed by law, expressed as a percentage of the export price.

Brazilian Law 12,546/11 also aimed to increase production through the establishment of a payroll exemption. Until September 1, 2018, we benefited from this payroll exemption with the substitution of the employer social security contribution of 20% of INSS on payroll for an alternative tax called the Social Security Contribution Over Gross Revenues (Contribuição Previdenciária Sobre a Receita Bruta) to be levied on the revenues of certain products and services, excluding revenues from exports. Payroll exemption rates varied from 2.0% to 4.5% of gross revenues, depending on the business sector. Brazilian law 13,670/2018 canceled the payroll exemption as of September 1, 2018, and we filed a lawsuit requesting the applicability of the payroll exemption to us for the entire year of 2018. The court ruled in our favor. There was no payroll exemption in 2019.

Brexit

The United Kingdom stopped being a member of the European Union on January 31, 2020. Negotiations relating to the implementation period are ongoing and future relationships after the United Kingdom’s exit remain unclear. The United Kingdom has the largest aviation industry in Europe and a key geographical position in the network. Changes to the relationship between the United Kingdom and the European Union could potentially have considerable implications for all European carriers, and consequently for Embraer.

In Europe, the risk that our industry might face is related to the possibility of an economic downturn caused by the departure of the United Kingdom from the European Union, or Brexit. In the long term, we believe there will be a gradual Eurozone economic recovery that, combined with low yields due to the highly competitive open aviation area and high regulatory costs, would put pressure on the revenue environment.

Republic Airways Chapter 11 Filing

In February 2016, Republic Airways Holdings, which currently operates a fleet of 230 Embraer Commercial Aviation aircraft (of which 50 are of the ERJ145 family and 180 are E170/E175 models), filed for a Chapter 11 bankruptcy. As a result, we have provisioned a total of US$100.9 million to account for expected expenses related to obligations from financial guarantees offered to the main financing agent of the ERJ 140/145 aircraft, acquired by and delivered to this customer. In November 2016, we signed a firm sale for 24 E175 jets with United Airlines. This order represents a transfer of 24 E175 jets previously placed with Republic Airways Holdings, which were canceled. As of December 31, 2019, the obligations assumed in accounts were fully settled. As of December 31, 2018 and 2017, the obligations assumed in accounts payable were US$15.1 million and US$30.8 million, respectively.

Critical Accounting Estimates

Preparation of financial statements in accordance with IFRS requires us to use estimates and assumptions that affect the reported assets and liabilities, revenues and expenses and our disclosures. In the preparation of the financial statements included in this annual report, we believe that certain variables and assumptions derived from past experience and various other factors were reasonable and relevant. These estimates and assumptions are reviewed, and relevant adjustments are recorded in our audited consolidated financial statements in our ordinary course of business.

 

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The most significant accounting policies, including the variables and assumptions used in the estimates, and the sensitivity of these assessments to the different variables and conditions are described below:

Revenue from Contracts with Customers

In the Defense and Security business unit, a significant portion of revenue is derived from long-term development contracts with the Brazilian and foreign governments, recognized over time by the cost incurred method, using the ratio of actual cumulative costs incurred divided by total estimated costs at completion for progress measurement. During the course of the contract, the Company assesses the costs incurred, adjusting total estimated costs at completion if necessary, to reflect variations in costs in relation to the projections, changes in circumstances and/or new events, such as contract modification. Any resulting increase or decrease in estimated revenues or costs at completion is recognized as catch-up adjustment in the consolidated statements of income in the reporting period in which the circumstances that give rise to the revision become known by management. If we have a 10% increase or decrease over our projections of total estimated costs at completion of long-term contracts in progress during 2019, our revenue in the year would be lower by US$462.7 million or would increase by US$309.4 million, respectively.

Residual Value Guarantees

The residual value guarantees granted on aircraft sales can be exercised at the end of a financing contract between a financial agent and the customer/operator of the aircraft. The guarantees are initially measured by fair value and are revised quarterly to reflect any losses in relation to the fair value of these commitments. The residual value guarantees may be exercised if the quoted market value is lower than the future fair value guaranteed. The future fair value is estimated in accordance with third-party evaluation of the aircraft, including information from sale or leasing of similar aircraft on the secondary market. For additional information on the residual value guarantees, see “Item 5. Operating and Financial Review and Prospects—5E. Off-Balance Sheet Agreements.”

Impairment

The impairment test considers our medium- and long-term strategic plan cash flows, brought to present value at an appropriate discount rate compatible with the market and that reflects the shareholders’ expectations of return. In preparing or using this information, we use estimates, as follows:

a) Gross expected cash flow: management projects in-flows and outflows based on past performance taking into account its business strategy and market development expectations. These projections also take into account the efficiency gains planned for the product cycle;

b) Growth rate: the growth rates were reflected in the revenue flow budgeted by us, consistent with the forecasts included in industry reports; and

c) Discount rate: an appropriate discount rate is used that reflects the expected return of investors at the time the calculation is made. This rate is also compared with the market to confirm its consistency.

Impairment of aircraft held in our property, plant and equipment available for leasing to third parties is measured at the fair value less cost to sell or value-in-use. Assessment of the recoverable value of that aircraft takes into account assessment of their fair value in an active market and recognition of impairment if their carrying value is higher than the fair value.

 

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We performed an impairment analysis of the carrying amount of each CGU based on the value in use of the group of CGUs with goodwill allocated and for the CGUs with indicators of impairment, including CGUs with intangible assets still under development and not yet producing internally. Value in use was estimated using a discounted cash flow model for the CGUs. Estimated future cash flows were discounted using the weighted average capital cost rate, which is reconciled to an estimated discount pre-tax rate of 11.3% and 11.4% in 2019 and 2018, respectively.

The process of estimating the value in use involves assumptions, judgments and estimates for future cash flows, which represent the estimate approved by our management. The underlying critical assumptions and their sensitivity are presented in Note 19 to our 2019 audited consolidated financial statements included elsewhere in this annual report. In 2019, we recognized impairment losses in the amount of US$71.6 million relating to the Legacy/Praetor platform and in the years ended December 31, 2018 and 2017, we recognized impairment losses in the amount of US$61.3 million and US$62.0 million, respectively, relating to Lineage 1000 and Legacy 650 (Executive Jets business unit) and monitoring, sensoring and radar (Defense and Security business unit) CGUs, respectively.

As of December 31, 2019, except for the CGU of the Legacy/Praetor platform, there are no other CGUs with impairment losses recognized or at relevant risk of impairment losses. The remaining CGUs have headrooms in the range of 45% to 500%, comparing their value-in-use against their carrying amount.

Since the initial designation of the Commercial Aviation business unit assets as held for sale until April 25, 2020, the depreciation of property, plant and equipment, and amortization of intangible assets and right of use that is part of the Commercial Aviation business unit were ceased and no longer recognized as profit or loss due to the past expectation of assets realization through sale instead of continuous use. If these assets had not been classified as held for sale in 2019, the amount of depreciation and amortization expenses that would have been recognized in profit or loss for the year is US$83.5 million.

Additionally, the long-lived assets held for sale were measured at the lower of their carrying amount and fair value less incremental costs directly attributable to the conclusion of the now-terminated Transaction with Boeing. Starting on April 25, 2020, those long-lived assets previously held for sale will be subject to impairment test and measured at the lower of their carrying amount and recoverable amount, which is determined at the higher between their value in use and fair value less cost to sell. For additional information on impairment losses related to our Commercial Aviation business unit, see Note 40.3 to our 2019 audited consolidated financial statements included elsewhere in this annual report.

Assets Held for Sale and Discontinued Operations

Overview

A discontinued operation is a company’s business component that comprises operations and cash flows that may be clearly distinct and:

 

   

that represents a separate major line of business or geographic area of operations;

 

   

that is part of a coordinated single plan for the sale of a separate major line of business or geographic area of operations; or

 

   

that is a subsidiary acquired exclusively with a view to resale.

The classification of a company’s operation as discontinued operation is achieved through its disposal, or at the time the transaction meets the criteria of IFRS 5 to have its assets and liabilities classified as held for sale, whichever occurs earlier.

 

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An asset or group of assets and liabilities is held for sale when it is expected that its carrying amount will be recovered mainly from the sale transaction rather than continuous use. This occurs if the asset is available for immediate sale under its current conditions, subject only to customary and usual terms for the conclusion of the transaction, when the sale transaction is defined as “highly probable” under the accounting standard.

Commercial Aviation Business Unit

According to IFRS 5, in light of the approval of the then-pending strategic partnership with Boeing, our financial statements as of and for the year ended December 31, 2019 were prepared considering the designation, measurement and presentation of the assets, liabilities and results of the Commercial Aviation business unit and related services as assets held for sale and discontinued operations, pursuant to the terms of the Master Transaction Agreement. Accordingly, in our financial statements as of and for the year ended December 31, 2019, we recorded and presented our Commercial Aviation business unit and related services in a single line item as discontinued operations in the statements of operations, and the balances of assets and liabilities were presented as held for sale in the statement of financial position.

Our 2019 audited consolidated statement of operations retroactively presented this information for the years ended 2018 and 2017 for comparative purposes to account for the aforementioned events. The balances of assets and liabilities held for sale as of December 31, 2019, was US$5,174.6 million and US$4,984.0 million, respectively. The results of discontinued operations for the years ended December 31, 2019, 2018 and 2017 was a loss of US$111.8 million, a profit of US$90.1 million and a profit of US$403.3 million, respectively.

In addition, for comparative purposes of the financial data presented in Item 3 of this annual report, we have recast the statement of operations for the years ended December 31, 2016 and 2015 to account for the discontinued operations in all comparative periods. The recast financial data for the years ended December 31, 2016 and 2015 included herein are unaudited.

On April 25, 2020, Boeing provided notice to Embraer communicating its decision to terminate the Master Transaction Agreement providing for the strategic partnership. In addition, Boeing terminated the Contribution Agreement that provided for a joint venture for the C-390 Millennium multi-mission transport aircraft. Embraer strongly believes that Boeing wrongfully terminated the Master Transaction Agreement and the Contribution Agreement. Starting on April 25, 2020 and as a result of the above, assets and liabilities previously presented as held for sale will be reclassified and measured as held for continuous use, as well as the results of operations previously reported as discontinued operations will be reported as continuing operations. For additional information on the now-terminated strategic partnership with Boeing and on the assets held for sale and discontinued operations as of December 31, 2019, see Notes 4 and 40 to our 2019 audited consolidated financial statements included elsewhere in this annual report.

Since the initial designation of the Commercial Aviation business unit assets as held for sale until April 25, 2020, the depreciation of property, plant and equipment, and amortization of intangible assets and right of use that is part of the Commercial Aviation business unit were ceased and no longer recognized as profit or loss due to the past expectation of assets realization through sale instead of continuous use. If these assets had not been classified as held for sale in 2019, the depreciation and amortization expenses that would have been recognized in profit or loss for the year were US$83.5 million. In addition, the long-lived assets held for sale were measured at the lower of their carrying amount and fair value less incremental costs directly attributable to the conclusion of now-terminated sale transaction with Boeing. Starting on April 25, 2020, those long-lived assets previously held for sale will be subject to impairment test and measured at the lower of their carrying amount and recoverable amount, which is determined at the higher between their value in use and fair value less cost to sell.

The reduction in the demand for travel combined with government-imposed travel restrictions is adversely affecting the aerospace industry, causing some airlines to suspend, cancel or reduce flights. As a consequence, demand for new aircraft has declined as airlines are wary of the COVID-19 air travel restrictions and its consequences. Our customers are now, due to COVID-19, focused on preserving capital and avoiding purchasing aircraft, which will adversely affect us.

 

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Accordingly, we expect that 2020 will be a distinct year in terms of orders and deliveries due to the impacts of the COVID-19 pandemic. The airline business has been adversely affected, and we will have to review our production chain in order to reflect the new and uncertain demand scenario. We have already implemented employee furloughs and workload reduction measures and, accordingly, we had to make adjustments to our production capacity. As a result of COVID-19, some of our customers rescheduled their aircraft deliveries carrying them over to 2021 and beyond, which has affected our 2020 projected deliveries. As of the date of this annual report, no cancellation has occurred. Although we cannot predict the full impact of the COVID-19 pandemic in the short-to-medium term to our business, we expect that customers will continue to postpone their scheduled aircraft deliveries and will cancel their orders.

As a result of the now-terminated Transaction, we also expect that our results of operations and financial condition may be affected by costs and expenses associated with the creation, maintenance and potential termination of the Commercial Aviation NewCo. For additional information on the now-terminated strategic partnership with Boeing and on the assets held for sale and discontinued operations as of December 31, 2019, see Notes 4 and 40 to our 2019 audited consolidated financial statements included elsewhere in this annual report.

Principal Operating Data and Components of Our Statement of Income

Operating Data

Revenue

We generate revenues from the sale of aircraft and spare parts as well as from providing maintenance and repair, training and other product support services. In our financial statements as of and for the year ended December 31, 2019, we recorded and presented our Commercial Aviation business unit and related services in a single line item as discontinued operations in the statements of operations, and the balances of assets and liabilities were presented as held for sale in the statement of financial position. Accordingly, in 2019, we presented revenues from our continuing operations as revenues from our Executive Jets, Defense and Security, Support and Services and Other Related business units, and revenues from our discontinued operations as revenues from our Commercial Aviation business unit.

Of our total revenues from our continuing operations, 53.4% and 18.8% were generated through executive and defense and security aircraft deliveries, respectively. In addition, we generate revenue from our Other Related business unit, which include single-source supply of structural parts and mechanical and hydraulic systems to other aircraft manufacturers, and general aviation propeller aircraft, including crop dusters, which are also referred to as light aircraft.

Of our total revenues, including our continuing and discontinued operations, in 2019, 66.5% were generated through commercial and executive aircraft deliveries. Revenue arising from the sale of commercial and executive aircraft is denominated in U.S. dollars. In 2019, total defense and security revenue of our continuing operations included 57.7% of revenue denominated in foreign currency, predominantly in U.S. dollars, and 42.3% denominated in Brazilian reais.

On December 20, 2016, we announced the creation of Embraer Services and Support, a business unit focused on services and customer support, which brings together capabilities that were previously allocated to each business area, and is responsible for developing solutions in support of current and new products and services, as well as for managing the associated processes and resources. This represents an opportunity to obtain greater operational efficiency and recurring revenues. Currently there are approximately 2,360 Embraer commercial aircraft and over 1,400 Embraer executive jets, as well as more than 600 defense aircraft, in operation. During 2017, the new Services and Support business unit consolidated the services and customer support processes previously allocated to each of our business areas, to identify synergies and quantify our expertise in our Commercial Aviation, Executive Jets and Defense and Security business units regarding services and support. Since the first quarter of 2018, we have reported the Services and Support, as a separate business unit in our financial statement. Our Services and Support business unit accounted for 19.2% of our revenue for the year ended December 31, 2019. For additional information see Note 39.4 to our 2019 audited consolidated financial statements included elsewhere in this annual report.

 

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For the sales of our aircraft, we receive an initial deposit upon the execution of the purchase agreement, progress payments prior to the delivery of each aircraft and a final payment upon delivery. The final payment typically represents the majority of the sale price. The deposits and the progress payments are for the most part nonrefundable in the event orders are canceled, except in the case of the Defense and Security business unit. Payments in advance of delivery are recorded under advances from customers as a liability on our statement of financial position and, when we deliver the aircraft, these payments are recognized as revenue and recorded against trade account receivables of the aircraft. We generally receive monetary deposits for each option to purchase an executive or commercial jet. For additional information on our operating revenues, see “—Operating Results—Critical Accounting Estimates—Revenue from Contracts with Customers.”

Our sales contracts in U.S. dollars with our Executive Jets business unit customers generally include adjustments for inflation as measured by the U.S. Consumer Price Index for Urban Wage Earners and Clerical Workers, when deliveries are not in the same calendar year of the sale except when fixed prices are pre-determined considering the estimated inflation and strategic price positioning planning of a given aircraft model, in line with Embraer’s strategic planning. Our sales contracts with our Commercial Aviation and generally Defense and Security business unit customers include adjustments to the purchase price of the aircraft based on an escalation formula, which is based on a mix of indexes related to raw material, transportation equipment and labor costs. Specific to Defense and Security sales contracts with Brazilian customers, national indexes are used to adjust the prices of the relevant contract. The deposits, progress payments and advance payment are nonrefundable, and a bank guarantee is issued in favor of the customer, except for a few Executive Jet business unit sales. Once a customer decides to exercise an option, we account for it as a firm order, and we begin to receive the respective progress payments and recognize revenue upon delivery of the aircraft or the contractual milestone.

A significant part of our defense contracts, including the contracted research and development for specific programs, meet the criteria for revenue recognition by overtime. For the contracts that do not meet the criteria for overtime we recognize revenue at a point of time, on the moment the product is delivered, or the service is rendered. Certain contracts contain provisions for the redetermination of price based upon future economic conditions. Our defense customers continue to provide customer advances, which are converted into revenue as we fulfill pre-determined stages of completion of the project, including conception, development and design, and engineering, systems integration and customization. These installments are nonrefundable for the most part.

Cost of Sales and Services

Cost of sales and services consists of the cost of the aircraft, spare parts and services rendered, comprising:

 

   

Raw materials. Substantially all materials costs are covered by contracts with suppliers. Prices under these contracts are generally adjusted based on an escalation formula which reflects, in part, inflation in the United States.

 

   

Labor. These costs comprise salaries and related charges primarily in Brazilian reais.

 

   

Depreciation. Property, plant and equipment are depreciated over their useful lives, ranging from five to 48 years, on a straight-line basis. Depreciation of aircraft under operating leases is recorded in cost of sales and services from the beginning of the lease term using the straight-line method over the estimated useful life and considering a residual value at the end of the lease term. For additional information on depreciation, see Note 17 to our 2019 audited consolidated financial statements included elsewhere in this annual report.

 

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Amortization. Internally generated intangible assets are amortized in accordance with the estimated sales of the series of aircraft. Intangible assets acquired from third parties are amortized on straight-line bases over the estimated useful lives of the assets.

In accordance with the accounting standard for contingencies, we accrue a liability for the obligations associated with product warranties at the aircraft delivery date, which is estimated based on historical experience and recorded in cost of sales and services.

We enter into transactions that represent multiple-element arrangements, including training, technical assistance, spare parts and other concessions. These costs are recognized when the product or service is provided to the customer.

Results of Operations of our Continuing Operations

The following table presents statement of income data by business unit for the periods indicated:

 

     2019      2018      2017  
            Recast      Recast  
     Elimination of Discontinued
Operations
(1)
 
     (in US$ millions)  

Revenue

        

Executive jets

     1,397.0        1,104.3        1,280.3  

Defense and security

     775.3        612.1        853.7  

Services and Support

     437.2        399.8        398.3  

Other

     8.6        11.5        14.2  
  

 

 

    

 

 

    

 

 

 

Total

     2,618.1        2,127.7        2,546.5  
  

 

 

    

 

 

    

 

 

 

Cost of sales and services

        

Executive jets

     (1,211.2      (914.0      (1,126.4

Defense and security

     (711.4      (702.3      (792.9

Services and Support

     (325.8      (299.6      (314.0

Other

     (11.5      (13.7      (15.3
  

 

 

    

 

 

    

 

 

 

Total

     (2,259.9      (1,929.6      (2,248.6
  

 

 

    

 

 

    

 

 

 

Gross profit

        

Executive jets

     185.8        190.3        153.9  

Defense and security

     63.9        (90.2      60.8  

Services and Support

     111.4        100.2        84.3  

Other

     (2.9      (2.2      (1.1
  

 

 

    

 

 

    

 

 

 

Total

     358.2        198.1        297.9  
  

 

 

    

 

 

    

 

 

 

Operating income (expenses)

        

Executive jets

     (235.2      (235.0      (206.0

Defense and security

     (110.4      (93.0      (109.5

Services and Support

     (75.4      (69.0      (75.7

Other

     (18.1      (6.9      (13.9

Corporate expenses(3)

     (81.5      (77.3      (72.1

Unallocated operating expenses(2)

     —          —          (16.5
  

 

 

    

 

 

    

 

 

 

Total

     (520.6      (481.2      (493.7
  

 

 

    

 

 

    

 

 

 

Operating profit before finance income

     (162.4      (283.1      (195.8
  

 

 

    

 

 

    

 

 

 

 

(1)

In our financial statements as of and for the year ended December 31, 2019, we recorded and presented our Commercial Aviation business unit and related services in a single line item as discontinued operations in the statements of operations, and the balances of assets and liabilities were presented as held for sale in the statement of financial position. Our 2019 audited consolidated statement of operations retroactively presented this information for the years ended 2018 and 2017 for comparative purposes to account for the aforementioned events.

 

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(2)

Represents expenses with the Final Agreements with the DOJ and SEC and the TCAC with the MPF and CVM and our voluntary dismissal program in 2016 and in 2017.

(3)

Represents expenses with central overheads and corporate projects that were previously allocated to the Commercial Aviation and part of related Service and Support business units on a pro rata basis, using revenue of each operating business unit as an allocation factor, and fully reported as results of continuing operations.

The following table sets forth statement of income information, and this information as a percentage of our revenue, for the periods indicated:

 

Consolidated Statements of Income    2019 (1)     2018     2017  
           Recast (1)     Recast (1)  
    

Elimination of Discontinued Operations(1)

(in US$ millions,  except percentages presented in absolute values)

 

Revenue

     2,618.1       100.0     2,127.7       100.0     2,546.5       100.0

Cost of sales and services

     (2,259.9     86.3     (1,929.6     (90.7 )%      (2,248.6     88.3

Gross profit

     358.2       13.7     198.1       9.3     297.9       11.7

Operating income (expense)

     (520.6     19.9     (481.2     (22.6 )%      493.7       19.4

Administrative

     (136.7     5.2     (136.1     (6.4 )%      (138.9     5.5

Selling

     (148.2     5.7     (151.4     (7.1 )%      (169.9     6.7

Research

     (19.7     0.8     (19.5     (0.9 )%      (22.2     0.9

Other operating income (expense), net

     (215.8     8.2     (173.8     (8.2 )%      (163.9     6.4

Equity in income (losses) of associates

     (0.2     0.0     (0.4     0.0     1.2       0.0

Operating loss before financial result

     (162.4     6.2     (283.1     13.3     (195.8     7.7

Financial income, net

     61.5       2.3     6.1       0.3     95.0       3.7

Foreign exchange gain (loss), net

     (0.3     0.0     (5.0     0.2     5.7       0.2

Loss Before Income Tax

     (101.2     3.9     (282.0     13.3     (95.1     3.7

Income taxes expense

     (103.5     4.0     20.7       1.0     (28.2     1.1

Loss of the continuing operations

     (204.7     7.8     (261.3     12.3     (123.3     4.8

Net income (loss) of the discontinued operations

     (111.8     4.3     90.1       4.2     403.3       15.8
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net Income (loss) for the period

     (316.5     12.1     (171.2     8.0     280.0       11.0
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Attributable to:

            

Owners of Embraer

     (322.3     12.3     (178.2     8.4     264.0       10.4

Non-Controlling Interest

     5.8       0.2     7.0       0.3     16.0       0.6

 

(1)

In our financial statements as of and for the year ended December 31, 2019, we recorded and presented our Commercial Aviation business unit and related services in a single line item as discontinued operations in the statements of operations, and the balances of assets and liabilities were presented as held for sale in the statement of financial position. Our 2019 audited consolidated statement of operations retroactively presented this information for the years ended 2018 and 2017 for comparative purposes to account for the aforementioned events.

2019 Compared with 2018

Revenue

Revenue increased 23.0%, from US$2,127.7 million in 2018 to US$2,618.1 million in 2019. Executive Jets business unit revenue increased 26.5%, from US$1,104.3 million in 2018 to US$1,397.0 million in 2019. Defense and Security business unit revenue increased 26.7%, from US$612.1 million in 2018 to US$775.3 million in 2019. Services and Support business unit revenue increased 9.4%, from US$399.8 million in 2018 to US$437.2 million in 2019. Other Related business unit revenue decreased 25.2%, from US$11.5 million in 2018 to US$8.6 million in 2019.

The increase of 26.5% in Executive Jets revenue in 2019 was primarily due to higher deliveries in the period, which was 19.8% higher than in 2018, from 91 total executive jet deliveries in 2018 to 109 total executive jet deliveries in 2019. The increase in business unit revenues was higher than the increase in deliveries largely due to a more favorable mix of jet deliveries in 2019 as compared to 2018. In 2019, deliveries of large jets in 2019 represented 43.1% of the total jets delivered compared to 30% in 2018. Large jets are more expensive than light jets.

A significant part of our Defense and Security business unit revenues are accounted for under the overtime method, and we continued to enter into agreements with the Brazilian government, including the C-390 Millennium program, SISFRON, deliveries of special mission aircraft, and others. Additionally, we continued to deliver Super Tucano aircraft to several countries. Our Defense and Security business unit revenues

 

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increased 26.7%, from US$612.1 million in 2018 to US$775.3 million in 2019, largely due to a lower number of negative cost base revisions (which negatively impact revenue recognition under the overtime method) on the C-390 Millennium development contract in 2019. Defense and Security revenues were negatively impacted in 2018 by a cost base revision for the C-390 Millennium development contract recognized in the second quarter, resulting from the runway excursion incident involving aircraft prototype 001.

Our Services and Support business unit, which was reported as a separate business unit for the first time in 2018, increased 9.4% from US$399.8 million in 2018 to US$437.2 million in 2019, primarily due to growth in the spare parts business relating to the executive aviation customers, the continued growth in our global fleet in operation and expiration of the warranties of a growing number of executive jets.

Cost of Sales and Services

Cost of sales and services increased 17.1%, from US$1,929.6 million in 2018 to US$2,259.9 million in 2019. The increase in cost of sales was lower than the 23.0% increase in revenues in 2019, thus driving a decrease in cost of sales and services as a percentage of revenue, from 90.7% in 2018 to 86.3% in 2019. This decrease in cost of sales as a percentage of revenue was driven by an improvement in our Defense and Security business unit in 2019. Gross margin increased from 9.3% in 2018 to 13.7% in 2019.

Cost of sales and services in our Executive Jets business unit increased 32.5%, from US$914.0 million in 2018 to US$1,211.2 million in 2019. Cost of sales and services increased more than revenues in the business unit during 2019, primarily due to deliveries of Legacy 450 (15 jet deliveries) and Legacy 500 (11 jet deliveries) models during the period at discounted prices following the introduction of the Praetor 500 and Praetor 600 business jets in 2019, which offer better range and other capabilities in the same mid-size and super mid-size segments of the market. Gross margin in our Executive Jets business unit decreased from 17.2% in 2018 to 13.3% in 2019.

Cost of sales and services in the Defense and Security business unit increased 1.3%, from US$702.3 million in 2018 to US$711.4 million in 2019. The increase in cost of sales and services was lower than the 26.7% increase in revenues in the business unit during the period, and the lower rate of growth is primarily due to lower negative cost base revisions on the C-390 Millennium development contract in 2019 as compared to 2018. The cost base revision relates to the runway excursion incident involving aircraft prototype 001 in 2018. As a result, the gross margin of our Defense and Security business unit increased from a negative 14.7% in 2018 to 8.2% in 2019.

Cost of sales and services in our Services and Support business unit increased 8.7%, from US$299.6 million in 2018 to US$325.8 million in 2019. The lower increase in cost of sales and services when compared to the 9.4% revenue growth during the period is largely due to improved profitability in the portion of the business related to providing services and support to our executive jet customers. Gross margin in the Services and Support business unit increased from 25.1% in 2018 to 25.5% in 2019.

Cost of sales and services in the Other Related business unit decreased 16.1% from US$13.7 million in 2018 to US$11.5 million in 2019, while revenues for this business unit decreased 25.2% in 2019.

Gross Profit

As a result of the aforementioned factors, our gross profit increased 80.8% to US$358.2 million in 2019 from US$198.1 million in 2018. Our gross margin improved to 13.7% in 2019 from 9.3% in 2018.

Operating Income (Expenses)

As further discussed below, total operating expenses increased 8.2% to US$520.6 million in 2019, from US$481.2 million in 2018. Total operating expenses as a percentage of revenues declined to 19.9% in 2019 as compared to 22.6% in 2018, largely due to the impact of higher revenues on fixed cost absorption as well as continued efficiency efforts across the business units. Special items recognized in 2018 expenses included a total of US$61.3 million of impairment charges in the Executive Jets business unit, while in 2019 special items included a total of US$71.6 million of impairment charges in the Executive Jets business unit.

 

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Excluding the impact of the special items recognized in our results in both periods, our total operating expenses in 2019 would have been US$449.0 million compared to US$419.9 million in 2018; and, as a percentage of revenues, our total operating expenses would have been 17.1% and 19.7% of our total revenues in 2019 and 2018, respectively. This variation was primarily due to our management strategies to control selling, general and administrative expenses and better fixed cost absorption that led to operating expense growth at a lower rate than revenue growth during the period.

Administrative. Administrative expenses increased 0.4%, from US$136.1 million in 2018 to US$136.7 million in 2019. The majority of our administrative expenses are fixed and do not vary significantly according to changes in our revenues.

Selling. Selling expenses decreased 2.2%, from US$151.4 million in 2018 to US$148.2 million in 2019. The decline in selling expenses was largely due to cost reduction and better management strategies to control expenses in 2019 compared to 2018.

Research. Research expenses were relatively stable at US$19.7 million in 2019 versus the US$19.5 million reported in 2018.

Other operating income (expense), net. Other operating (expense) income, net was an expense of US$215.8 million in 2019, compared to an expense of US$173.8 million in 2018. The increase in other operating expenses is largely due to the increase in the recognition of impairment charges in the Executive Jets business unit from US$61.3 million in 2018 to US$71.6 million in 2019, as well as higher consulting and corporate project expenditures in 2019 versus 2018. For additional information, see Note 2.2.14 to our 2019 audited consolidated financial statements included elsewhere in this annual report.

The table below sets forth the special item recognized in other operating (expense) income, net for the periods indicated:

 

Special item

   2019      2018  
     (in US$ millions)  

Impairment loss Executive Jet business

     71.6        61.3  
  

 

 

    

 

 

 

Total

     71.6        61.3  
  

 

 

    

 

 

 

Excluding the impact of this special item recognized in our results, our other operating (expense) income, net would have been US$144.2 million in 2019 and US$112.5 million in 2018, as a result of the increase in other operating expense in 2019, primarily due to higher expenditures on corporate projects as well as higher costs with consulting services during the year.

Equity in Income (Losses) of Associates

Equity in income (losses) of associates decreased from a loss of US$0.4 million in 2018 to a loss of US$0.2 million in 2019.

Operating Loss Before Financial Result

As a result of the aforementioned factors, our consolidated operating profit (loss) before financial income decreased from an operating loss of US$283.1 million in 2018 to an operating loss of US$162.4 million in 2019, primarily due to the US$127.2 million negative cost base revision, recognized in the second quarter of 2018, on the C-390 Millennium development contract related to the runway excursion incident involving prototype 001. Our operating margin increased from a negative 13.3% in 2018 to a negative 6.2% in 2019.

 

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Operating profit (loss) before financial income (expense) by business unit for 2019 for the Executive Jets, Defense and Security, Services and Support, and Other Related business units was an expense of US$49.4 million, an expense of US$46.5 million, an income of US$36.0 million, and an expense of US$21.0 million, respectively. In 2018, operating profit (loss) before financial income (expense) for these business units was an expense of US$44.7 million, and expense of US$183.2 million, an income of US$31.2 million, and an expense of US$9.1 million, respectively. For additional information on operating profit by business unit, see Note 39 to our 2019 audited consolidated financial statements included elsewhere in this annual report.

Excluding the aforementioned special items provisions as explained above, our operating profit (loss) in 2019 would have been a loss of US$90.8 million. Excluding the special items as well as an adjustment for the US$127.2 million cost base revision on the C-390 Millennium development contract relating to the runway excursion, our operating profit (loss) would have been a loss of US$94.6 million in 2018. Our operating margins adjustment for these special items would have been a negative 3.5% in 2019 and a negative 4.4% in 2018.

In addition, excluding the aforementioned special items provisions, other expenses, and the Defense and Security cost base revision explained above, our operating profit (loss) by business unit for 2019 for the Executive Jets, Defense and Security, Services and Support, and Other Related business unit would have been a profit of US$22.2 million, a loss of US$46.5 million, a profit of US$36.0 million, and a loss of US$21.0 million, respectively; and in 2018, our operating profit (loss) for these business units would have been a profit of US$16.6 million, a loss of US$56.0 million, a profit of US$31.2 million, and a loss of US$9.1 million, respectively.

Financial Income, Net

Financial income, net increased from US$6.1 million in 2018 to US$61.5 million in 2019, primarily due to an increase in interest on receivables from US$3.6 million in 2018 to US$36.8 million in 2019, and a decrease in interest on loans and financing from US$39.7 million in 2018 to US$9.5 million in 2019.

Foreign Exchange Gain (Loss), Net

Foreign exchange gain (loss), net represented a loss of US$0.3 million, compared to a loss of US$5.0 million in 2018.

Loss Before Income Tax

As a result of the aforementioned factors, profit (loss) before taxes on income decreased from a loss of US$283.1 million in 2018 to a loss of US$162.4 million in 2019.

Income Tax Expense

Income tax expense increased from an income of US$20.7 million in 2018 to an expense of US$103.5 million in 2019, primarily due to (i) increased taxes on profits of overseas subsidiaries from an income tax expense of US$33.2 million in 2018 to US$72.3 million in 2019, and (ii) increased income tax expenses relating to differences between IFRS and fiscal basis, from an income tax credit of US$27.0 million to an income tax expense of US$99.9 million in 2019. For additional information, see our tax reconciliation in Note 24 of our 2019 audited consolidated financial statements.

Our effective tax rate was an expense of 102.3% in 2019 and a benefit of 7.3% in 2018.

Loss of the Continuing Operations

Loss of the continuing operations period decreased 21.7%, from a loss of US$261.3 million in 2018 to a loss of US$204.7 million in 2019, primarily due to the aforementioned factors that led to a lower operating loss in the period, partially offset by an increase in income tax expenses in 2019 as compared to 2018.

 

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Net Income (Loss) of the Discontinued Operation

Loss for the period of discontinued operations decreased from an income for the period of discontinued operations of US$90.1 million in 2018 to a loss of US$111.8 million in 2019, primarily due to the impact of the separation of costs related to the segregation of assets and liabilities of the Commercial Aviation business unit and its related services in connection with the then-pending Transaction and secondarily due to a decrease in operating profitability in 2019 when compared to 2018. For additional information on the termination our strategic partnership with Boeing, see “Item 4. Information on the Company—4A. History and Development of the Company—Termination of Strategic Partnership with Boeing.”

Net Income (Loss) for the Period

As a consequence of the aforementioned factors, our consolidated net loss after taxes, excluding non-controlling interest, increased from a loss of US$171.2 million in 2018 to a loss of US$316.5 million in 2019. As a percentage of revenue, net profit margin after taxes declined from a loss of 8.0% in 2018 to a loss of 12.1% in 2019.

2018 Compared with 2017

Revenue

Revenue decreased 16.4%, from US$2,546.5 million in 2017 to US$2,127.7 million in 2018. Executive Jets revenue decreased 13.7%, from US$1,280.3 million in 2017 to US$1,104.3 million in 2018. Defense and Security revenue decreased 28.3%, from US$853.7 million in 2017 to US$612.1 million in 2018. Services and Support revenue increased 0.4%, from US$398.3 million in 2017 to US$399.8 million in 2018. Other related business unit revenue decreased 19.0%, from US$14.2 million in 2017 to US$11.5 million in 2018.

The revenue of the Executive Jets business unit decreased 13.7% in 2018, primarily due to lower jet deliveries, which declined 16.5%, from 109 total executive jet deliveries in 2017 to 91 total executive jet deliveries in 2018. The decrease in revenues was lower than the decline in deliveries, primarily due to better average deal prices for executive jet deliveries in 2018 as compared to 2017 despite a higher percentage of light jet deliveries compared to large jet deliveries in 2018, from 66.1% of light jet deliveries in 2017 to 70.3% light jet deliveries in 2018. Light jets are usually less expensive than large jets.

A significant part of our Defense and Security business unit revenues are accounted for under the percentage of completion method, and we continued to enter into agreements with the Brazilian government, including the C-390 Millennium program, SISFRON, deliveries of Special Mission Legacy 500 aircraft and others. Additionally, we continued to deliver Super Tucano aircraft to several countries. Our Defense and Security revenues declined 28.3%, representing US$612.1 million in 2018, largely due to (i) the cost base revision for the C-390 Millennium development contract recognized in the second quarter of 2018, as a result of the runway excursion incident involving prototype 001, and (ii) a 14.5% appreciation of the average U.S. dollar/real exchange rate from 2017 to 2018, which caused a decrease in the value of our Defense and Security revenues denominated in reais translated to dollars.

Our Services and Support business unit (which was reported as a separate business unit for the first time in 2018), revenues increased 0.4%, from US$398.3 million in 2017 to US$399.8 million in 2018.

Cost of Sales and Services

Cost of sales and services decreased 14.2%, from US$2,248.6 million in 2017 to US$1,929.6 million in 2018. The decrease in cost of sales was lower than the 16.4% decline in revenues in 2018, and, as a result, our cost of sales and services as a percentage of revenue increased from 88.3% in 2017 to 90.7% in 2018, primarily due to our Defense and Security business unit.

 

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Cost of sales and services in our Executive Jets business unit decreased 18.9%, from US$1,126.4 million in 2017 to US$914.0 million in 2018. Cost of sales and services declined more than revenues in the business unit during 2018, primarily due to better average deal prices in 2018 as compared to 2017 and efforts to increase production efficiencies in the period. Gross margin in our Executive Jets business unit increased from 12.0% in 2017 to 17.2% in 2018.

Cost of sales and services in the Defense and Security business unit decreased 11.4%, from US$792.9 million in 2017 to US$702.3 million in 2018. The decline in cost of sales and services was lower than the 28.3% decrease in revenues in the business unit during the period, primarily due to (i) cost base revisions on the C-390 Millennium development contract as a result of the incident involving prototype 001 in the second quarter of 2018, (ii) devaluation of the Brazilian real versus the U.S. dollar, and (iii) certain other cost overruns related to the development project. As a result, gross margin in the Defense and Security business unit decreased from 7.1% in 2017 to a negative 14.7% in 2018.

Cost of sales and services in our Services and Support business unit decreased 4.6%, from US$314.0 million in 2017 to US$299.6 million in 2018, primarily due to the improvement in parts and services profitability related to executive jets customers. Gross margin in the Services and Support business unit increased from 21.2% in 2017 to 25.1% in 2018.

Cost of sales and services in the Other Related business unit decreased 10.5% from US$15.3 million in 2017 to US$13.7 million in 2018, while revenues for this business unit decreased 19.0% in 2018.

Gross Profit

As a result of the aforementioned factors, our gross profit decreased 33.5%, from US$297.9 million in 2017 to US$198.1 million in 2018. Our gross margin decreased from 11.7% in 2017 to 9.3% in 2018.

Operating Income (Expenses)

As further discussed below, total operating expenses decreased 2.5%, from US$493.7 million in 2017 to US$481.2 million in 2018. Total operating expenses as a percentage of revenues increased to 22.6% in 2018 compared to 19.4% in 2017, primarily due to (i) lower fixed cost absorption caused by lower revenues in 2018, and (ii) lower special items recognized in 2018 as compared to 2017. Special items recognized as operating expenses amounted to total net provisions and expenses of US$61.3 million and US$79.4 million in 2018 and 2017, respectively.

Excluding the impact of these special items recognized in our results, our total operating expenses would have been US$419.9 million in 2018 and US$414.3 million in 2017; and, as a percentage of revenues, our total operating expenses would have been 19.7% and 16.3% of our total revenues in 2018 and 2017, respectively.

Administrative. Administrative expenses decreased 2.0%, from US$138.9 million in 2017 to US$136.1 million in 2018. The majority of our administrative expenses are fixed and do not vary significantly according to changes in our revenues.

Selling. Selling expenses decreased 10.9%, from US$169.9 million in 2017 to US$151.4 million in 2018, primarily due to (i) management strategies to control sales and marketing expenses in 2018, and (ii) a 14.5% appreciation of the average U.S. dollar/real exchange rate, decreasing the value of real denominated selling expenses.

Research. Research expenses decreased 12.2%, from US$22.2 million in 2017 to US$19.5 million in 2018.

 

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Other operating income (expense), net. Other operating (expense) income, net increased from an expense of US$163.9 million in 2017 to an expense of US$173.8 million in 2018, primarily due to increased expenses relating to consulting services and corporate projects, as a result of (i) an impairment charge in the Executive Jets business unit of US$61.3 million in 2018, (ii) expenses of US$10.1 million in 2017 related to the conclusion of the negotiations and payments made in connection with the FCPA investigation, (iii) total provisions of US$6.4 million related to our voluntary dismissal program for employees in our Brazilian operations in 2017, (iv) US$8.7 million in impairments in the Defense and Security business unit in 2017, and (v) US$54.2 million in impairments in the Executive Jets business unit in 2017, as discussed below. For additional information on our impairment charges, see Note 2.2.14 to our 2019 audited consolidated financial statements included elsewhere in this annual report.

The table below sets forth the special items recognized in other operating (expense) income, net for the periods indicated:

 

Special items

   2018      2017  
     (in US$ millions)  

Provisions from voluntary dismissal program (Unallocated)

     —          6.4  

Payments related to FCPA investigation (Unallocated)

     —          10.1  

Impairment loss Defense and Security business

     —          8.7  

Impairment loss Executive Jet business

     61.3        54.2  
  

 

 

    

 

 

 

Total

     61.3        79.4  
  

 

 

    

 

 

 

Excluding the impact of these special items recognized in our results, our other operating (expense) income, net would have been US$112.5 million in 2018 and US$84.5 million in 2017, with the increase in expense driven by the aforementioned factors.

Equity in Income (Losses) of Associates

Equity in income (losses) of associates decreased from an income of US$1.2 million in 2017 to a loss of US$0.4 million in 2018.

Operating Loss Before Financial Result

As a result of the aforementioned factors, our consolidated operating profit (loss) before financial income (expense) increased from an operating loss of US$195.8 million in 2017 to a loss of US$283.1 million in 2018, primarily due to the US$127.2 million in cost base revisions on the C-390 Millennium development contract as a result of the incident involving prototype 001. Our operating margin decreased from a negative 7.7% in 2017 to a negative 13.3% in 2018.

Operating loss before financial result by business unit for 2018 for the Executive Jets, Defense and Security, Services and Support, and Other Related business units was a loss of US$44.7 million, a loss of US$183.2 million, a profit of US$31.2 million, and a loss of US$9.1 million, respectively. In 2017, operating profit (loss) before financial income (expense) for these business units was a loss of US$52.1 million, a loss of US$48.7 million, a loss of US$8.6 million, and a loss of US$15.0 million, respectively. For information on our operating profit by business unit, see Note 39 to our 2019 audited consolidated financial statements included elsewhere in this annual report.

Excluding the aforementioned special items provisions and other expenses explained above, as well as an adjustment for the US$127.2 million cost base revision on the C-390 Millennium development contract as a result of the runway excursion incident involving prototype 001, our operating profit (loss) would have been a loss of US$94.6 million in 2018 and a loss of US$116.4 million in 2017, and our operating margins would have been negative 4.4% in 2018 and negative 4.6% in 2017.

 

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In addition, excluding the aforementioned special items provisions, other expenses, and the Defense and Security business unit cost base revision explained above, our operating profit (loss) by business unit for 2018 for the Executive Jets, Defense and Security, Services and Support, and Other Related business units would have been a profit of US$16.6 million, a loss of US$56.0 million, a profit of US$31.2 million, and a loss of US$9.1 million, respectively; and in 2017, our operating profit (loss) for these business units would have been a profit of US$2.1 million, a loss of US$40.0 million, a profit of US$8.6 million, and a loss of US$15.0 million, respectively.

Financial Income, Net

Financial expense, net decreased from US$95.0 million in 2017 to US$6.1 million in 2018, primarily due to a decrease in interest on cash and cash equivalents and financial investments from US$122.6 million in 2017 to US$80.3 million in 2018, and a decrease in interest on receivables from US$24.5 million in 2017 to US$3.6 million in 2018. For additional information, see Note 35 to our 2019 audited consolidated financial statements included elsewhere in this annual report.

Foreign Exchange Gain (Loss), Net

Foreign exchange gain (loss), net was a loss of US$5.0 million in 2018, compared to a gain of US$5.7 million in 2017.

Loss Before Income Taxes

As a result of the aforementioned factors, profit (loss) before taxes on income decreased from a loss of US$95.1 million in 2017 to a loss of US$282.0 million in 2018.

Income Tax Expense

Income tax benefit increased from an income tax expense of US$28.2 million in 2017 to a credit of US$20.7 million in 2018, primarily due to more favorable differences between IFRS and fiscal basis in 2018 from an expense of US$28.2 million in 2017 to a credit of US$20.7 million in 2018. For additional information, see Note 24 to our 2019 audited consolidated financial statements included elsewhere in this annual report.

Our effective tax rate was a benefit of 7.3% in 2018 and an expense of 29.7% in 2017.

Loss of the Continuing Operations

As a result of the above, loss of the continuing operations period increased 111.9% from a loss of US$123.3 million in 2017 to a loss of US$261.3 million in 2018, primarily due to lower operating income and lower financial income in 2018 as compared to 2017.

Net Income (Loss) of the Discontinued Operation

Income for the period of discontinued operations decreased 77.7% from US$403.3 million in 2017 to US$90.1 million in 2018, primarily due to lower operating profitability in 2018 as compared to 2017 as a result of lower commercial aircraft deliveries and a less favorable mix of deliveries in 2018. For additional information on our discontinued operations as of December 31, 2019, see “Item 4. Information on the Company—4A. History and Development of the Company—Termination of Strategic Partnership with Boeing—Assets Held for Sale and Discontinued Operations.”

Net Income (Loss) for the Preiod

As a consequence of the aforementioned factors, our consolidated net income (loss) after taxes, excluding non-controlling interest, decreased from a loss of US$280.0 million in 2017 to a loss of US$171.2 million in 2018. As a percentage of revenue, net income (loss) after taxes declined to a loss of 8.0% in 2018 compared to a net income of 11.0% in 2017.

 

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Results of Operations of our Discontinued Operations

The following table sets forth statement of income information, and this information as a percentage of our revenue, for the periods indicated:

 

Discontinued Operations Statements of Income    2019 (1)     2018     2017  
           Recast (1)     Recast (1)  
     (in US$ millions, except percentages  presented in absolute values)  

Discontinued Operation

  

Revenue

     2,844.5       100.0     2,943.4       100.0     3,312.9       100.0

Cost of sales and services

     (2,407.2     84.6     (2,373.6     80.6     (2,515.5     75.9

Gross profit

     437.3       15.4     569.8       19.4     797.4       24.1

Operating income (expense)

     (352.0     12.4     (251.5     8.5     (259.7     7.8

Administrative

     (53.5     1.9     (46.5     1.6     (40.2     1.2

Selling

     (137.7     4.8     (152.8     5.2     (146.0     4.4

Research

     (29.8     1.0     (26.6     0.9     (27.0     0.8

Other operating income (expense), net

     (131.0     4.6     (25.6     0.9     (46.5     1.4
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Operating profit before financial result

     85.3       3.0     318.3       10.8     537.7       16.2

Financial income, net

     (177.5     6.2     (177.7     6.0     (135.6     4.1

Foreign exchange gain (loss), net

     7.2       0.3     5.1       0.2     0.9       0.0
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Profit (loss) before taxes on income

     (85.0     3.0     145.7       5.0     403.0       12.2

Income taxes expense

     (26.8     0.9     (55.6     1.9     0.3       0.0
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net Income (loss) of discontinued operations year

     (111.8     3.9     90.1       3.1     403.3       12.2
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

 

(1)

In our financial statements as of and for the year ended December 31, 2019, we recorded and presented our Commercial Aviation business unit and related services in a single line item as discontinued operations in the statements of operations, and the balances of assets and liabilities were presented as held for sale in the statement of financial position. Our 2019 audited consolidated statement of operations retroactively presented this information for the years ended 2018 and 2017 for comparative purposes to account for the aforementioned events.

2019 Compared with 2018

Revenue

Revenues from our Commercial Aviation business unit decreased 3.4%, from US$2,943.4 million in 2018 by US$2,844.5 million in 2019, primarily due to a decrease of 1.1% in commercial aircraft deliveries, from 90 in 2018 to 89 in 2019 and a less favorable mix of commercial aircraft deliveries in 2019 as compared to 2018.

Cost of Sales and Services

Cost of sales and services in our Commercial Aviation business unit increased 1.4%, from US$2,373.6 million in 2018 to US$2,407.2 million in 2019, primarily due to the impact of the ramp-up of production of the E2 E-Jets program, in which early units tend to have higher production costs than later units in the program.

Gross Profit

As a result of the aforementioned factors, our gross profit decreased 23.3% to US$437.3 million in 2019 from US$569.8 million in 2018. Our gross margin decreased to 15.4% in 2019 from 19.4% in 2018.

Operating Income (Expenses)

As further discussed below, total operating expenses increased 40.0% from US$251.5 million in 2018 to US$352.0 million in 2019. Total operating expenses as a percentage of revenues increased from 8.5% in 2018 to 12.4% in 2019, primarily due to the impact of the separation of costs related to the segregation of assets and liabilities of the Commercial Aviation business unit and its related services as a preparation for the now-terminated Transaction. For additional information on the now-terminated Transaction, see “Item 4. Information on the Company—4A. History and Development of the Company—Termination of Strategic Partnership with Boeing—Assets Held for Sale and Discontinued Operations.” There were no special items recognized in 2019 or 2018 operating expenses.

 

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Administrative. Administrative expenses increased 15.1% to US$53.5 million in 2019, compared to US$46.5 million in 2018.

Selling. Selling expenses decreased 9.9% to US$137.7 million in 2019, from US$152.8 million in 2018, primarily due to cost reductions and management strategies to control expenses in 2019 compared to 2018.

Research. Research expenses increased 12.0% to US$29.8 million in 2019, from US$26.6 million in 2018.

Other operating income (expense), net. Other operating income (expense), net increased from an expense of US$25.6 million in 2018 to an expense of US$131.0 million in 2019, primarily due to an increase in separation costs related to the segregation of assets and liabilities of the Commercial Aviation business unit and its related services in preparation for the now-terminated Transaction. For additional information on the now-terminated Transaction, see “Item 4. Information on the Company—4A. History and Development of the Company—Termination of Strategic Partnership with Boeing—Assets Held for Sale and Discontinued Operations.” There were no special items recorded in 2019 or 2018 operating expenses.

Operating Profit (Loss) Before Financial Result

As a result of the aforementioned factors, our consolidated operating profit (loss) before financial income (expense) decreased 73.2%, from US$318.3 million in 2018 to US$85.3 million in 2019, primarily due to an increase in separation costs related to the segregation of assets and liabilities of the Commercial Aviation business unit and its related services in preparation for the now-terminated Transaction and secondarily due to lower profitability of our Commercial Aviation business unit deliveries in 2019 as compared to 2018. For additional information on the now-terminated Transaction, see “Item 4. Information on the Company—4A. History and Development of the Company—Termination of Strategic Partnership with Boeing—Assets Held for Sale and Discontinued Operations.” Our operating margin decreased from 10.8% in 2018 to 3.0% in 2019.

Financial Income (Expense), Net

Financial income, net decreased from US$177.7 million in 2018 to US$177.5 million in 2019, primarily due to a slight decrease in indebtedness due to the payment of certain financial obligations.

Foreign Exchange Gain (Loss), Net

Foreign exchange gain (loss), net increased from a gain of US$5.1 million in 2018 to a gain of US$7.2 million in 2019.

Profit (Loss) Before Taxes on Income

As a result of the aforementioned factors, profit (loss) before taxes on income decreased from pre-tax income of US$145.7 million in 2018 to pre-tax loss of US$85.0 million in 2019.

Income Tax Expense

Income tax expense decreased 51.8%, from an expense of US$55.6 million in 2018 to an expense of US$26.8 million in 2019. For additional information, see Note 24 to our 2019 consolidated financial statements included elsewhere in this annual report.

Our effective tax rate was an expense of 31.5% in 2019 and of 38.2% in 2018.

 

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Profit (Loss) of the Discontinued Operations

As a consequence of the aforementioned factors, our net income (loss) after taxes of discontinued operations decreased from a net income of US$90.1 million in 2018 to a net loss of US$111.8 million in 2019. As a percentage of revenue, net income after taxes declined to a loss of 3.9% in 2019 compared to an income of 3.1% in 2018.

2018 Compared with 2017

Revenue

Revenues from our Commercial Aviation business unit decreased 11.2%, from US$3,312.9 million in 2017 to US$2,943.4 million in 2018, primarily due to (i) a 10.9% decrease in commercial aircraft deliveries, from 101 in 2017 to 90 in 2018, and (ii) lower average pricing on the commercial aircraft deliveries in 2018 compared to 2017.

Cost of Sales and Services

Cost of sales and services in our Commercial Aviation business unit decreased 5.6%, from US$2,515.5 million in 2017 to US$2,373.6 million in 2018, primarily due to the decreased number of aircraft deliveries in the period. Cost of sales and services declined lower than the 11.2% revenue decline in 2018 primarily due to lower average pricing for deliveries in 2018 as compared to 2017.

Gross Profit

As a result of the aforementioned factors, our gross profit decreased 28.5%, from US$797.4 million in 2017 to US$569.8 million in 2018. Our gross margin declined from 24.1% in 2017 to 19.4% in 2018.

Operating Expenses

As further discussed below, total operating expenses decreased 3.2%, from US$259.7 million in 2017 to US$251.5 million in 2018. Total operating expenses as a percentage of revenues increased to 8.5% in 2018 compared to 7.8% in 2017, primarily due to the special items recognized in 2017, which positively impacted our results. Special items recognized in our operating expenses in 2017 included total net provision reversals and other credits of US$23.2 million related to favorable developments in ongoing negotiations related to the Chapter 11 bankruptcy proceedings of Republic Airways Holdings, while the operating expenses in 2018 did not contain special items.

Excluding the impact of these special items recognized in our results, our total operating expenses would have been US$251.5 million in 2018 and US$282.9 million in 2017; and, as a percentage of revenues, our total operating expenses would have been 8.5% of our total revenues in 2018 and 8.5% of our total revenues in 2017.

Administrative. Administrative expenses increased 15.7%, from US$40.2 million in 2017 to US$46.5 million in 2018.

Selling. Selling expenses increased 4.7%, from US$146.0 million in 2017 to US$152.8 million in 2018.

Research. Research expenses decreased 1.5% to US$26.6 million in 2018, from US$27.0 million in 2017.

Other operating income (expense), net. Other operating (expense) income, net decreased from an expense of US$46.5 million in 2017 to an expense of US$25.6 million in 2018, primarily due to lower level of impairments on the used aircraft portfolio of the Commercial Aviation business unit in 2018 when compared to 2017.

 

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The table below sets forth the special items recognized in other operating income (expense), net for the periods indicated:

 

Special items    2018      2017  
     (in US$ millions)  

Special items related to Republic Airways (Commercial Aviation business)

     —          (23.2
  

 

 

    

 

 

 

Total

     —          (23.2
  

 

 

    

 

 

 

Excluding the impact of these special items recognized in our results, our other operating (expense) income, net would have been an expense of US$25.6 million in 2018 and an expense of US$69.7 million in 2017.

Operating Profit Before Financial Result

As a result of the aforementioned factors, our consolidated operating profit (loss) before financial result decreased 40.8%, from US$537.7 million in 2017 to US$318.3 million in 2018, primarily due to the decrease in gross profit from 2017 to 2018, as previously explained. Our operating margin decreased to 10.8% in 2018 from 16.2% in 2017.

Financial Income, Net

Financial expense, net increased from US$135.6 million in 2017 to US$177.7 million in 2018, primarily due to the devaluation of the residual value guarantees portfolio and higher interest expenses over loans and financing.

Foreign Exchange Gain (Loss), Net

Foreign exchange gain (loss), net increased from a loss of US$0.9 million in 2017 to a gain of US$5.1 million in 2018.

Profit (Loss) Before Taxes on Income

As a result of the aforementioned factors, profit (loss) before taxes on income decreased from US$403.0 million in 2017 to US$145.7 million in 2018.

Income Tax Expense

Income tax expense, allocated to our discontinued operations, changed from an income tax credit of US$0.3 million in 2017 to an income tax expense of US$55.6 million in 2018, due to (i) higher taxes on profits in Brazil, as a result of the aforementioned factors, and (ii) higher tax expenses accrued from overseas subsidiaries, which became part of our Commercial Aviation business unit (recorded and presented as discontinued operations for the financial statements as of and for the year ended December 31, 2019).

Our effective tax rate was an expense of 38.2% in 2018 and a benefit of 0.1% in 2017.

Profit (Loss) of the Discontinued Operations Year

As a consequence of the aforementioned factors, our net income (loss) after taxes of discontinued operations decreased from US$403.3 million in 2017 to US$90.1 million in 2018. As a percentage of revenue, net income after taxes decreased 3.1% in 2018 compared to 12.2% in 2017.

 

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Accounting Standards

Standards and amendments to existing standards mentioned in this section have been published and implemented for the year ended December 31, 2019. On January 1, 2019, the Company started adopting the IFRS 16 in the financial statements included elsewhere in this annual report.

Below is a summary of the accounting standards presented below are a summary of the accounting standards we implemented in 2019. For additional information on the accounting standards, see Note 2.2.1 consolidated financial statements as of and for the year ended December 31, 2019.

 

   

IFRS 16 – Leases: brings new concepts from the lessee’s point of view. In the model proposed by the new standard, the lessee shall recognize all leases as part of the statements of financial position in the caption of property, plant and equipment “right of use,” against a liability account. The initial recognition must be measured as at present value, considering a discount rate that is appropriate to the local reality of each entity. In the model proposed by the new standard, there are no significant changes in the accounting recognition to be made by the lessor. In adopting the standard, the Company has used two practical expedients: (1) transactions below US$5,000 will be outside the scope of this standard, and (2) all contracts with less than 12 months will not be considered for the purposes of IFRS 16. Embraer and its subsidiaries are analyzing the new accounting standard as well as the application in existing transactions and considering whether there is an impact in the consolidated financial statements, implying an increase in assets and liabilities, a reduction in the value of operating expenses and an increase in financial expenses. We started applying this standard as of January 1, 2019 using the simplified transition approach, did not restate comparative amounts for the year prior to first adoption and the assets were measured at the amount of the lease liability on adoption (adjusted for any prepaid or accrued lease expenses We identified applicable contracts within the scope of IFRS 16 for leases of land and buildings, facilities, machinery, vehicles and other equipment, subject to the practical expedients applied. For the contracts identified, we recognized: (a) lease liability in the total amount of US$57.6 million for the Company related to the lease payments according to the cash flows of each contract, discounted to present value at lease liabilities on January 1, 2019, was 6.3%; (b) the right-of-use assets representing the right to use the underlying assets of these contracts were measured in an amount corresponding to the lease liability.

 

   

IFRIC 23 – Uncertainty over income tax treatments: This is an interpretation of the IAS 12 – Income Tax standard, which initial application was effective as of January 1, 2019. According to our management, there were no significant impacts arising from this interpretation, as all procedures adopted for calculation and payment of income taxes are supported by the prevailing legislation and case law of administrative and judicial courts.

 

   

IFRS 9 – Hedge Accounting. We changed the accounting policy to the annual financial statements for the year ended December 31, 2018 to adopt the requirements of IFRS 9 – Financial Instruments, to supersede IAS 39 – Financial Instruments: Recognition and Measurement, when accounting for hedge instruments designated for hedge accounting beginning on January 1, 2019. The adoption impacts are detailed in the topics below:

 

  (a)

Fair Value Hedge: we applied the fair value hedge accounting to hedge against the risk of changes in borrowing and financing interest rates, by contracting swaps. Interest rate swaps existing on January 1, 2019 qualify as fair value hedge accounting for purposes of IFRS 9. Our risk management strategies and hedge documentation are aligned with the requirements of IFRS 9 for designation of transactions. Changes in the fair value of derivatives designated and qualified as fair value hedge accounting continue to be recorded in profit or loss for the year, in financial income (expense), net, including the changes in the fair value of hedged asset or liability (hedged item) attributable to the hedged risk. There were no changes from the adoption of IFRS 9.

 

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  (b)

Cash Flow Hedge: we apply the cash flow hedge accounting to hedge against the cash flow volatility attributable to a risk of foreign exchange fluctuation associated with a highly likely transaction that will affect profit or loss for the year, through currency purchase and sale options (zero-cost collar) related to payroll expenses incurred on transactions in Brazil and settled in Reais. For instruments designated as cash flow hedge accounting, we started to account for changes in the fair value of the timing element of the options, previously recognized in financial income (expense) according to IAS 39, in other comprehensive income as hedge cost in the cash flow hedge line. Hedge costs are reclassified together with the intrinsic value of the options by adjusting the initial value of the hedge item (payroll). On January 1, 2019, the amount of US$1.3 million was reclassified from earnings reserve to the financial instrument reserve in valuation adjustments to equity in equity related to the time value of the options effective on the first-time adoption date. We did not reclassify the time value of outstanding options on January 1, 2018.

Other accounting standards have been amended or are in the process of amendment and will come into effect in the coming years; however, these are not mentioned, as the Company does not expect them to have a significant impact.

 

5B.

Liquidity and Capital Resources

Overview

Our liquidity needs arise mainly from working capital requirements, research and development, principal and interest payments on our debt, capital expenditures and distributions to shareholders. To meet these needs, we generally rely on funds provided by operations, borrowings under our credit arrangements, cash contributions from risk-sharing partners, advance payments from customers and, to a lesser extent, issuance of debt and equity securities in the capital markets. For additional information on our working capital requirements and our capital sources, see “Item 4. Information on the Company—4B. Business Overview—Suppliers and Components; Risk-Sharing Arrangements” and “Item 4. Information on the Company—4B. Business Overview—Discontinued Operations—Commercial Aviation Business Unit—Production, New Orders and Options” and “—Credit Facilities and Lines of Credit.”

As of the date of this annual report, we believe that our traditional sources of funds are sufficient to meet our foreseeable working capital requirements, including to (i) make other planned capital expenditures and (ii) pay dividends and interest on shareholders’ equity. Our access to liquidity sources has not been materially impacted in 2019, and we expect that this access may be impacted in the near future, including as a result of the COVID-19 pandemic. However, there can be no assurance that our traditional sources of funds, or that the cost or availability of our credit facilities or future borrowing sources, will not be materially impacted by market disruptions.

As a result of the COVID-19 pandemic, as of the date of this annual report, we have experienced certain delays in our supply chain, production operations and material impacts on the demand for our products, as well as cancellation of firm orders of our Executive Jets business unit and reschedules of our Commercial Aviation and Executive Jets business units aircraft deliveries. We expect that our customers will continue to reschedule deliveries, fail to exercise options or continue to cancel firm orders as a result of potential economic downturns, including as a result of the COVID-19 pandemic, or financial volatility in the commercial airline industry. In addition, our risk-sharing partners’ cash contributions are refundable under certain limited circumstances and we may need to find replacement sources of capital.

As a result of COVID-19, as of the date of this annual report we have taken measures to preserve our cash flow, including (i) reductions in working hours and pay cuts; (ii) extension of payments terms relating to our suppliers; (iii) extension of tax payment deadlines; (iv) negotiation of new credit lines; and (v) adjustment of our production chain.

 

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Net Cash Generated (Used) by Operating Activities and Adjusted Working Capital

According to IFRS 5, in light of the approval of the then-pending strategic partnership with Boeing, in our financial statements as of and for the year ended December 31, 2019, we recorded and presented our Commercial Aviation business unit and related services in a single line item as discontinued operations in the statements of operations, and the balances of assets and liabilities were presented as held for sale in the statement of financial position. Our 2019 audited consolidated statement of operations retroactively presented this information for the years ended 2018 and 2017 for comparative purposes to account for the aforementioned events. Our consolidated statements of cash flows continued to set forth our cash flows from continuing and discontinued operations on a single statement. Starting on April 25, 2020 and as a result of the above, assets and liabilities previously presented as held for sale will be reclassified and measured as held for continuous use, as well as the results of operations previously reported as discontinued operations will be reported as continuing operations. For additional information on the net cash flows arising from assets held for sale and discontinued operations as of December 31, 2019, see Notes 4 and 40 to our 2019 audited consolidated financial statements included elsewhere in this annual report.

Net cash is presented on a total basis including our continuing and discontinued operations. The balance sheet assets and liabilities are also presented on a total basis, including our continuing operations and assets held for sale.

2019 Compared with 2018

In 2019, net cash generated by operating activities decreased 19.3%, from net cash generated in the amount of US$1,107.6 million in 2018, of which US$466.4 million refers to our discontinued operations, net cash generated in the amount of US$893.8 million in 2019, of which US$301.9 million refers to our discontinued operations, primarily a result of (i) higher losses for the period, including discontinued operations, which included higher separation costs related to the segregation of assets and liabilities of the Commercial Aviation business unit and its related services in connection with the Transaction, and (ii) an increase in contract assets, as well as a decrease in trade accounts payable in 2019 compared to 2018.

Our adjusted working capital (defined as total current assets less cash and equivalents and financial investment minus total current liabilities less loans and financing, including assets and liabilities held for sale) decreased from US$1,197.4 million as of December 31, 2018 to US$935.3 million as of December 31, 2019, primarily as a result of lower inventories and higher contract liabilities in 2019 compared to 2018.

2018 Compared with 2017

In 2018, net cash generated by operating activities increased 47.1%, from net cash generated in the amount of US$753.0 million in 2017, of which US$710.3 million refers to our discontinued operations, to net cash generated in the amount of US$1,107.6 million in 2018, of which US$466.4 million refers to our discontinued operations, primarily a result of decreased financial investments and contract assets, and increases in trade accounts payable and contract liabilities, partially offset by lower net income and increases in inventories in 2018 compared to 2017.

Our adjusted working capital (defined as total current assets less cash and equivalents and financial investment minus total current liabilities less loans and financing, including assets and liabilities held for sale) increased from US$1,028.4 million in 2017 to US$1,197.4 million in 2018, 2018 primarily as a result of higher inventories at the end of 2018 compared to 2017.

Net Cash Used in Investing Activities

2019 Compared with 2018

Net cash generated in investing activities increased from a net cash used in investing activities of US$523.1 million in 2018, of which US$295.5 million refers to our discontinued operations, to a net cash generated of US$407.7 million in 2019, of which US$239.8 million refers to net cash used from our discontinued operations. Net cash generated was derived from investing activities in 2019 as compared to those from investing activities in 2018, primarily due to a US$977.8 million in-flow from financial investments in the period as a result of changes in cash management strategies.

 

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2018 Compared with 2017

In 2018, net cash used in investing activities decreased 52.1%, from net cash used of US$1,092.6 million in 2017, of which US$401.3 million refers to our discontinued operations, to net cash used of US$523.1 million in 2018, of which US$295.5 million refers to our discontinued operations, primarily due to (i) decreased investments on property, plant, and equipment and intangibles in 2018 compared to 2017, (ii) the implementation of efficiencies in the E-Jet E-2 development program and the entry into service of the first jet in the family, the E90-E2, which helped to reduce total development costs. In addition, lower investments in held to maturity securities in 2018 as compared to 2017 was a factor in the lower net cash used in investing activities in 2018.

Net Cash Generated (Used) by Financing Activities and Total Debt

2019 Compared with 2018

In 2019, net cash used by financing activities decreased 48.9%, from net cash used by financing activities of US$503.4 million in 2018, of which US$212.5 million refers to our discontinued operations, to net cash used by financing activities of US$257.0 million in 2019, of which US$19.1 million refers to our discontinued operations. The higher use of cash in financing activities in 2019 as compared to 2018 is primarily due to lower proceeds from new borrowings and higher repayment of borrowing in 2019.

On December 31, 2019, we had total debt (composed of loans and financing) of US$3,392.3 million under our financing arrangements, (including liabilities held for sale of US$3,301.3 million), 2.2% of which was long-term debt and 97.8% of which consisted of short-term debt. On the other hand, we had total debt of US$3,647.6 million as of December 31, 2018, 95.1% of which consisted of long-term debt and 4.9% of which consisted of short-term debt.

2018 Compared with 2017

Net cash used by financing activities varied from a net cash generated in the amount of US$369.5 million in 2017, of which US$555.7 million refers to our discontinued operations, to a net cash used in the amount of US$503.4 million in 2018, of which US$212.5 million refers to discontinued operations, primarily due to lower issuance of debt in 2018 as compared to 2017, and higher cash outflows for debt repayment. The decrease in borrowing during 2018 was primarily due to the absence of any bond issuances during the period, as we issued US$750.0 million of 10-year bonds in 2017. Additionally, we repaid US$596.3 million of borrowings during 2018 as compared to repayment of US$540.2 million in 2017. In 2018, we distributed US$40.6 million in dividends and interest on own capital compared to US$54.1 million in 2017. In 2018, we did not acquire any of own shares during the period, while in 2017 we spent US$15.0 million on share repurchases.

On December 31, 2018, we had total debt (consisting of loans and financing) of US$3,647.6 million under our financing arrangements, 95.1% of which was long-term debt and 4.9% of which consisted of short-term debt. On December 31, 2017, we had total debt of US$4,198.3 million, 90.7% of which consisted of long-term debt and 9.3% of which consisted of short-term debt.

Credit Facilities and Lines of Credit

As a result of our then-pending strategic partnership with Boeing, on January 1, 2020, we implemented the internal carve-out of our Commercial Aviation business unit by means of the contribution by Embraer to the capital stock of Yaborã of the net assets comprising assets, liabilities, properties, rights and

 

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obligations (subject to certain exceptions) related to our Commercial Aviation business unit. In this context, we amended the indentures governing our senior unsecured notes due 2020, 2022, 2023, 2025 and 2027 in order to (i) substitute us for Yaborã as the issuer of the notes due 2022; and (ii) have Yaborã substitute us as guarantor of the notes due 2020, 2023, 2025 and 2027 (the “Substitution”). At the same time, the issuers of the notes due 2020, 2023, 2025 and 2027 became a wholly owned subsidiary of Yaborã.

On March 10, 2020:

 

   

we and Yaborã further amended the indentures governing the notes due 2022, 2023, 2025 and 2027, without the consent of the holders of these notes, to reflect that, from such date, we irrevocably and unconditionally guarantee the full and punctual payment of the principal, premium, interest, additional amounts and all other amounts that may become due and payable under the relevant notes and indentures (the “New Embraer Guarantees”). The terms of the supplemental indentures provide, among other things, that the New Embraer Guarantees shall automatically terminate on the date that we cease to own 100% of the share capital of Yaborã; and

 

   

Yaborã issued a press release announcing the launch of a consent solicitation process to seek consent from holders of the notes due 2022, 2023, 2025 and 2027 to amend certain provisions of the indentures governing these notes (“Consent Solicitation Process”). These consent solicitation process related to the (i) delisting of the notes due 2022, 2025 and 2027 from the New York Stock Exchange (“NYSE”) and (ii) the suspension of Yaborã’s SEC reporting obligations under the Exchange Act.

On March 17, 2020, Yaborã announced that it obtained the relevant consents of the holders of the notes due 2022, 2023, 2025 and 2027 and, accordingly, further amended the indentures under which the notes due 2022, 2023, 2025 and 2027 were issued. These amendments became effective upon satisfaction of the conditions precedent provided in the terms of the Consent Solicitation Process, which occurred on March 19, 2020. Therefore, on March 30, 2020, a Form 25 was filed with the SEC to delist the notes due 2022, 2025 and 2027 from the NYSE (which delisting occurred on April 13, 2020), and on April 13, 2020, a Form 15 was filed in order to deregister the notes due 2022, 2025 and 2027, and to suspend Yaborã’s SEC reporting obligations that arose as a result of the Substitution. With effect from April 13, 2020, Yaborã was relieved of its SEC periodic reporting requirement and, with effect from July 12, 2020, Yaborã will be relieved of all SEC reporting requirements (subject to annual testing of the relevant registered holder threshold on January 1 of each year to confirm that Yaborã continues to be eligible to suspend its SEC reporting obligations).

All of the long-term facilities described below that were outstanding as of December 31, 2019 were transferred and migrated to Yaborã as of January 1, 2020, in a total amount of US$3.3 billion.

For additional information on our now-terminated strategic partnership with Boeing and on the assets held for sale and discontinued operations, see Notes 4 and 40 to our 2019 audited consolidated financial statements included elsewhere in this annual report.

Long-term Facilities

In October 2006, our wholly owned finance subsidiary, Embraer Overseas Ltd., or Embraer Overseas, issued 6.375% US$400.0 million guaranteed notes due 2017. The notes were unconditionally guaranteed by us. As described below, in September 2013, we completed an exchange offer in which US$146.4 million in principal amount of our guaranteed notes due 2017 were exchanged for our guaranteed notes due 2023.

In October 2009, Embraer Overseas issued 6.375% US$500.0 million guaranteed notes due 2020. The notes were unconditionally guaranteed by us. As described below, in September 2013 we completed an exchange offer in which US$337.2 million in principal amount of our guaranteed notes due 2020 were exchanged for our guaranteed notes due 2023. In connection with the exchange offer, we received the

 

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requisite consents from holders of our guaranteed notes due 2020 to eliminate substantially all the restrictive covenants, certain events of default and related provisions contained in the indenture under which the notes were issued, and we delisted our guaranteed notes due 2020 from the New York Stock Exchange.

In June 2012, we issued 5.150% US$500.0 million notes due 2022 and, as of December 31, 2019, US$500.1 million was outstanding (US$1.1 million in the short-term), including principal and accrued interest. Interest is paid semiannually. The notes are our unsecured and unsubordinated obligations. The notes were registered with the SEC and listed on the New York Stock Exchange. The indenture under which the notes were issued contains customary covenants and restrictions, including limitation on liens, consolidation, merger or transfer of assets. As a result of our now-terminated strategic partnership with Boeing, in 2020, the indenture under which the notes due 2022 were issued was amended by means of supplemental indentures in order to assign these notes to Yaborã and to have us as a guarantor under the respective indenture. In 2020, after receiving the requisite consents from holders of our notes due 2022, started the process to deregister our notes due 2022 with the SEC and delist the same notes from the NYSE.

In September 2013, we completed an exchange offer in which (i) US$146.4 million in principal amount of our guaranteed notes with maturity in 2017 and (ii) US$337.2 million in principal amount of our guaranteed notes with maturity in 2020 were exchanged for approximately US$540.5 million in principal amount of notes issued by Embraer Overseas at a rate of 5.696%, maturing in 2023. The notes due in 2023 were issued pursuant to exemptions from SEC registration pursuant to Regulation S and Rule 144A under the Securities Act. The notes due in 2023 are subject to a registration rights agreement, pursuant to which we have agreed to (i) exchange the notes within 270 days of their issuance for notes with the same terms and conditions which are registered with the SEC or (ii) file a resale shelf registration statement with the SEC on Form F-3. In June 2014, we filed a resale shelf registration statement accordingly. As of December 31, 2019, a total of US$522.3 million under our notes due 2023 was outstanding, of which US$8.9 million was due in the short-term, including principal and accrued interest. As a result of our strategic partnership with Boeing, in 2020 the indenture under which the notes due 2023 were issued was amended by means of supplemental indentures in order to have Yaborã substitute us as guarantor and, afterwards, to add us as an additional guarantor under the respective indenture.

In June 2015, Embraer Netherlands Finance issued 5.05% US$1.0 billion guaranteed notes due 2025 and, as of December 31, 2019, US$997.7 million was outstanding (US$2.1 million in the short-term), including principal and accrued interest. Interest is paid semiannually. The notes were registered with the SEC and were listed on the New York Stock Exchange. As a result of our strategic partnership with Boeing, in 2020, the indenture under which the notes due 2025 were issued was amended by means of supplemental indentures in order to have Yaborã substitute us as guarantor and, afterwards, to add us as an unconditional guarantor under the respective indenture. In 2020, after receiving the requisite consents from holders of our notes due 2025, we started the process to deregister our notes due 2025 with the SEC and delist the same notes from the NYSE.

In February 2017, Embraer Netherlands Finance issued 5.40% US$750.0 million guaranteed notes due 2027 and as of December 31, 2019, US$764.6 million was outstanding (US$16.9 million in the short-term), including principal and accrued interest. Interest is paid semiannually. The notes were registered with the SEC and listed on the New York Stock Exchange. As a result of our strategic partnership with Boeing, in 2020 the indenture under which the notes due 2027 were issued was amended by means of supplemental indentures in order to have Yaborã substitute us as guarantor and, afterwards, to add us as an unconditional guarantor under the respective indenture. In 2020, after receiving the requisite consents from holders of our notes due 2027, we started the process to deregister our notes due 2027 with the SEC and delist the same notes from the NYSE.

On March 10, 2020, Embraer Aviation Netherlands B.V. entered into a credit and guaranty agreement with Citibank, N.A., J.P. Morgan Chase Bank, N.A. and Banco Santander, S.A. and borrowed an aggregate principal amount of US$600.0 million on March 13, 2020, accruing interest at three-month LIBOR plus 1.5% per year, maturing on December 15, 2020. On May 18, 2020, the credit and guaranty agreement was amended to, among other things, modify the maturity date to November 6, 2020.

 

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We may from time to time seek to retire or purchase our outstanding debt, including our guaranteed notes due 2020, 2022, 2023, 2025 and 2027, through cash purchases, tender offers and/or exchanges for other securities, in open market purchases, privately negotiated transactions or otherwise. The repurchases or exchanges, if any, will depend on prevailing market conditions, our liquidity requirements, contractual restrictions and other factors. The amounts involved may be material, and notes repurchased may be canceled or resold, but will only be resold in compliance with applicable requirements or exemptions under the relevant securities laws.

We have various other long-term loans and credit agreements with aggregate outstanding borrowings of US$442.4 million as of December 31, 2019. For additional information on these financing arrangements, see Note 21 to our 2019 audited consolidated financial statements included elsewhere in this annual report.

As of December 31, 2019, US$43.1 million of our total debt was secured by a bank standby letter of credit.

For additional information on our loans and financings, including currency and maturity breakdowns and breakdowns between fixed and floating rate debt, see Note 21 to our 2019 audited consolidated financial statements included elsewhere in this annual report.

Recourse and Non-Recourse Debt

Total debt excludes non-recourse and recourse debt associated with customer financing arrangements transacted through special purpose entities, or SPEs. In structured financings, an SPE purchases an aircraft from us, pays us the full purchase price on delivery or at the conclusion of the sales financing structure, and leases the related aircraft to the ultimate customer. A third-party financial institution facilitates the financing of an aircraft purchase through an SPE, and a portion of the credit risk remains with that third party. We may provide financial guarantees and/or residual value guarantees in favor of the financial institution, as well as act as the equity participant in the financial structuring process.

Our 2019 audited consolidated financial statements contain balances related to recourse and non-recourse debt associated with customer financing arrangements of US$17.6 million and collateralized accounts receivable of US$17.6 million. Of this debt, US$7.0 million is non-recourse for which we have no obligation as a debtor or guarantor, other than potential obligations under existing financial guarantees for the financed aircraft. The remaining US$10.6 million of debt is recourse to us as a result of pending equity contributions and is partially secured by a pledge of a deposit with a financial institution. Our non-recourse and recourse debt is collateralized by the collateralized accounts receivables and by the financed aircraft and, as a result, we do not anticipate a net cash outflow related to our non-recourse debt in the future. These financing transactions do not materially affect our income statement and cash flow data since the terms of the leases and the loans are substantially the same.

Subsequent Events

Commercial Aviation Business Unit

As a result of our now-terminated strategic partnership with Boeing, on January 1, 2020, we implemented the internal carve-out of our Commercial Aviation business unit by means of the contribution by Embraer to the capital stock of Yaborã of the net assets comprising assets, liabilities, properties, rights and obligations (subject to certain exceptions) related to our Commercial Aviation business unit. For additional information on our now-terminated strategic partnership with Boeing, see “Item 4. Information on the Company—4A. History and Development of the Company—Termination of Strategic Partnership with Boeing.”

 

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Credit and Guaranty Agreement

On March 10, 2020, Embraer Aviation Netherlands B.V. entered into a credit and guaranty agreement with Citibank, N.A., J.P. Morgan Chase Bank, N.A. and Banco Santander, S.A. and borrowed an aggregate principal amount of US$600.0 million on March 13, 2020, accruing interest at three-month LIBOR plus 1.5% per year, maturing on December 15, 2020. On May 18, 2020, the credit and guaranty agreement was amended to, among other things, modify the maturity date to November 6, 2020.

Termination of the Strategic Partnership with Boeing

On April 25, 2020, Boeing provided notice to Embraer communicating its decision to terminate the Master Transaction Agreement providing for the strategic partnership. In addition, Boeing terminated the Contribution Agreement that provided for a joint venture for the C-390 Millennium multi-mission transport aircraft. Embraer strongly believes that Boeing wrongfully terminated the Master Transaction Agreement and the Contribution Agreement. We are pursuing all remedies against Boeing for the damages incurred by Embraer as a result of Boeing’s wrongful termination and violation of the MTA and the Contribution Agreement, including by means of arbitration proceedings that have commenced by both sides in connection with the termination of the MTA and/or the Contribution Agreement by Boeing. No assurance can be given as to the timing or outcome of the arbitration proceedings or any recovery that Embraer may receive or loss that Embraer may incur therefrom or with respect to the arbitration that Boeing has commenced against us.

Starting on April 25, 2020 and as a result of the above, assets and liabilities previously presented as held for sale will be reclassified and measured as held for continuous use, as well as the results of operations previously reported as discontinued operations will be reported as continuing operations. For additional information on the now-terminated strategic partnership with Boeing and on the assets held for sale and discontinued operations as of December 31, 2019, see “Item 4. Information on the Company—4A. History and Development of the Company—Termination of Strategic Partnership with Boeing” and Notes 4 and 40 to our 2019 audited consolidated financial statements included elsewhere in this annual report.

Impairment Losses

For information on the impairment losses related to our Commercial Aviation business unit, see “Item 8. Financial Information—8B. Significant Changes—Impairment Losses” and Note 40.3 to our 2019 audited consolidated financial statements included elsewhere in this annual report.

Impacts of the COVID-19 Pandemic

For information on the impacts of the Covid-19 pandemic, see “Item 8. Financial Information—8B. Significant Changes— Impacts of the COVID-19 Pandemic” and Note 40.2 to our 2019 audited consolidated financial statements included elsewhere in this annual report.

 

5C.

Research and Development, Patents and Licenses, etc.

Research and Development

Our research and development activities are driven by our corporate strategic planning in the short, medium, and long terms. We refer to research activities as technological development and to development activities as integrated product development.

Based on our work defining the Company’s product and services strategies, including innovation, growth, and business prospects, we carry out projects that include the production and commercialization of new aircraft, systems, and aerospace services.

With a focus on our internal business plans and continuous monitoring of the global technology environment, we define a technological development plan which aims to research and develop solutions to the main challenges the Company will face in the medium and long terms, in order to remain competitive in our business segments.

 

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In an effort to reduce development risk and optimize financial results of our projects, our development strategy and teams have the essential skills to manage and execute multi-disciplinary projects, maintaining and coordinating a global network of development partners and integrating diverse groups such as universities, research and development institutes, companies, and startups. As a result, application of advanced technologies allows for the evolution of products, including lighter, quieter, more comfortable and energy efficient aircraft, in addition to improvements in design and production cycles and optimization of company resources.

Following the results of the Company’s internal technological development planning, the new product and services design phase begins. In this phase our efforts are coordinated in an integrated manner with advanced project engineering and our business units, which work in collaboration with future customers and potential partners to conclude the design of new products and services. Once the design is approved, the product development program is created. In this capital-intensive phase, our development, product, process and services groups work together with strategic partners, suppliers and regulatory agencies, to begin the detailed development of the product, its production, systems and associated services, until the effective entry into service of the product.

The Company has the majority of its research and development activities concentrated in Brazil, but also maintains internal initiatives and partnerships in several locations around the world.

Capital Expenditures

We capitalize our expenditures related to product development projects as non-current intangible assets on our statement of financial position when it is probable that the relevant projects will generate future benefits, taking into account their commercial and technological feasibility and availability of technological and financial resources and only if their cost can be reliably measured. We amortize the assets in the form of charges to cost of sales and services on our statements of income, based on the total estimated number of aircraft to be delivered for each new product development project. We also capitalize expenditures related to property, plant and equipment as non-current assets on our statement of financial position and depreciate the assets in the form of charges to cost of sales and services on our statements of income. For additional information on how we amortize our intangible assets and depreciate our property, plant and equipment, see “Item 5. Operating and Financial Review and Prospects—5A. Operating Results—Principal Operating Data and Components of Our Statement of Income—Cost of Sales and Services.”

Executive Jets

In our Executive Jets business unit, we include our investments in development and property, plant and equipment as part of our capital expenditures. Development costs in the Executive Jets business unit are capitalized from the date of board approval for the relevant project until the final certification.

Most of our development expenditures are associated with the development of new products either for the Executive Jets business unit. For additional information on our development expenditures, see “Item 5. Operating and Financial Review and Prospects—5C. Research and Development, Patents and Licenses, etc.—Research.”

Our disbursements in capital expenditures were related to property, plant and equipment, thereby composing our additions in the period except for the exchange pool program assets and aircraft under lease or available for lease. These investments are related mainly to (i) construction of new facilities and (ii) improvements and modifications to our plants and production facilities for the production of new aircraft models.

Our capital expenditures are generally financed by funds provided by operations, borrowings under our credit arrangements, cash contributions from risk-sharing partners, advance payments from customers and, to a lesser extent, capital increases to meet these needs. See “Item 5. Operating and Financial Review and Prospects—5B. Liquidity and Capital Resources—Overview” and “Item 5. Operating and Financial Review and Prospects—5C. Research and Development, Patents and Licenses, etc.—Research.”

 

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Defense and Security

We incur expenditures for defense and security programs under both development and production contracts; however, the customers involved in these programs, which in our case mainly consists of the Brazilian government, fund these programs. A significant part of these contracts are defined as construction contracts and the revenue associated with these contracts is realized on an “over time” basis, as contract milestones are achieved.

Discontinued Operations

According to IFRS 5, in light of the approval of the then-pending strategic partnership with Boeing, in our financial statements as of and for the year ended December 31, 2019, we recorded and presented our Commercial Aviation business unit and related services in a single line item as discontinued operations in the statements of operations, and the balances of assets and liabilities were presented as held for sale in the statement of financial position. Our 2019 audited consolidated statement of operations retroactively presented this information for the years ended 2018 and 2017 for comparative purposes to account for the aforementioned events. On April 25, 2020, Boeing provided notice to Embraer communicating its decision to terminate the Master Transaction Agreement providing for the strategic partnership. In addition, Boeing terminated the Contribution Agreement that provided for a joint venture for the C-390 Millennium multi-mission transport aircraft. Embraer strongly believes that Boeing wrongfully terminated the Master Transaction Agreement and the Contribution Agreement. Starting on April 25, 2020 and as a result of the above, assets and liabilities previously presented as held for sale will be reclassified and measured as held for continuous use, as well as the results of operations previously reported as discontinued operations will be reported as continuing operations. For additional information on the now-terminated strategic partnership with Boeing and on the assets held for sale and discontinued operations as of December 31, 2019, see Notes 4 and 40 to our 2019 audited consolidated financial statements included elsewhere in this annual report.

In our Commercial Aviation business unit, we include our investments in development and property, plant and equipment as part of our capital expenditures. Development costs in the Commercial Aviation business unit are capitalized from the date of board approval for the relevant project until the final certification.

Most of our development expenditures are associated with the development of new products either for the Commercial Aviation business unit. For additional information on our development expenditures, see “Item 5. Operating and Financial Review and Prospects—5C. Research and Development, Patents and Licenses, etc.—Research.”

Our main ongoing project is the development of the E175-E2, the third member of the E-Jets E2 family, which also comprises the E190-E2 and E195-E2 aircraft.

Our disbursements in capital expenditures related to property, plant and equipment, composing our additions in the period except for the exchange pool program assets and aircraft under lease or available for lease. These investments are related mainly to (i) construction of new facilities and (ii) improvements and modifications to our plants and production facilities for the production of new aircraft models.

Our capital expenditures are generally financed by funds provided by operations, borrowings under our credit arrangements, cash contributions from risk-sharing partners, advance payments from customers and, to a lesser extent, capital increases to meet these needs. See “Item 5. Operating and Financial Review and Prospects—5B. Liquidity and Capital Resources—Overview” and “Item 5. Operating and Financial Review and Prospects—5C. Research and Development, Patents and Licenses, etc.—Research.”

 

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Research

We incur research expenses related to the creation of new technologies that may be applied to our aircraft. These expenses are not associated with any particular aircraft and include the implementation of quality assurance initiatives, improvements to the productivity of production lines and studies to determine the latest developments in technology and quality standards. Under IFRS, research costs are expensed as incurred in the research line item of our statement of income.

For information on our capital expenditures, comprising investments in development and property, plant and equipment, see “Item 5. Operating and Financial Review and Prospects—5C. Research and Development, Patents and Licenses, etc.—Capital Expenditures.”

Intellectual Property

Our intellectual property, which includes utility patents, design patents, trade secrets, know-how and trademarks, is important to our business. We hold trademarks over our name and symbol and the names of our products, some of which are registered and some of which are in the process of registration in a number of countries, including, but not limited to, Brazil, the United States, Canada, Singapore, Hong Kong, China, the European Union and Japan. As of December 31, 2019, we had approximately 415 trademarks registered or in the process of registration. Our trademarks are generally renewed at the end of their validity period, which usually runs for ten years from the date of application for registration. We do not believe that the loss of any of our trademarks would have a material impact on our business or results of operations.

We develop our intellectual property in our research, development and production process. Under the agreements we have with some of our suppliers and risk-sharing partners, we are granted access to information and technology necessary to better develop, manufacture and market our products. We aim to protect our intellectual property rights resulting from investments in technical research and development. We hold granted patents and patent applications relating to our technologies. Currently, we hold granted patents and patent applications from the appropriate registries in Brazil, the United States, the European Union, Russia, Japan, India and China in connection with the various technologies of our products. We require that our suppliers and risk-sharing partners respect the intellectual property rights of third parties, and we believe that we have the necessary intellectual property rights to conduct our business and operations.

Considering our utility and design patent portfolios, as of December 31, 2019, we had filed 798 patent applications and had been granted 507 patents.

Innovation

We seek to remain in the technological vanguard by constantly reinventing ourselves as we search for opportunities to transform our business, products, services and markets.

We believe innovation is key to the competitiveness and sustainability of our business. For this reason, we created the position of Vice-President for Strategy, Innovation and Digital Transformation in 2017.

In 2018, we created Embraer X, in Melbourne, Florida with outpost offices in Palo Alto, California and Boston, Massachusetts as an innovation and knowledge management area to reinforce our initiatives. The Embraer X focuses on the promotion of innovative ideas aimed at the development of new businesses, products, technologies, services and processes.

Also, in 2018, we implemented the Innovation Verticals, which are the strategic priority focuses for innovation. They orchestrate and integrate the efforts across all business units, Embraer X and Technology development. The verticals are: Autonomous Flight, Electrification, Platform Based Services, Urban Air Mobility, Artificial Intelligence and Data Science, Passenger Experience, Airframe Efficiency, Advanced Design and Manufacturing, Cybersecurity.

 

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Our Innova Program is another tool that aims to strengthen the innovation culture within Embraer in order to generate new ideas and promote employee recognition. The Innova Program manages the Green Light, Innova Challenge and Innovation People Recognition processes. The Green Light process evaluates innovative proposals presented voluntarily by employees and provides time, technical/business mentor and resources to them in order to carry out the idea until its technical and economic feasibility is proven. More than 617 ideas proposed and nine innovative projects have been implemented since the creation of this process in 2012, including the launch of FIP Aerospacial, new robots, AI among others. In 2019, 63 innovative projects were under development. The Green Light process applies to any type of innovation: process, product, technology, services, marketing, management or new business. The Innova Challenge is an internal crowdsourcing mechanism that stimulates ideas to resolve issues globally from different departments of the company, and any employee in the world may participate in this process. In 2017, we changed the focus of Innova Challenge with the goal of improving strategic issues. By 2019, we had launched three challenges with more than 65 ideas from different challenges for employees. Cultural events like the Innovation Day had the participation of around 6,460 employees.

Innovations related to programs from our continuing and discontinued operations which entered into service in the last five years accounted for approximately 30.8% of our net revenues in 2019.

 

5D.

Trend Information

General Information

Our total firm order backlog as of December 31, 2019, considering our continuing and discontinued operations, was US$16.8 billion, of which US$9.0 billion was from the Commercial Aviation business unit (recorded and presented as discontinued operations for the financial statements as of and for the year ended December 31, 2019), US$1.4 billion was from the Executive Jets business unit, US$4.1 billion was from the Defense and Security business unit and US$2.2 billion was from the Services and Support business unit.

Economic uncertainty, mainly related to the COVID-19 outbreak, will continue to play a role in investment attitude and philosophy of the private and public sectors. Business jet prospective buyers around the globe are reviewing their cash flows and capital expenditures in order to preserve capital, which is affecting market growth fundamentals and perspectives.

As a result of the COVID-19 outbreak, we expect the global economy will remain in an uncertainty scenario affecting the decision making process of companies’ boards of directors and investors, and their willing to allocate resources in executive transportation alternatives, mainly when deciding on discretionary assets acquisitions, such as purchasing new business jet.

In the Executive Jets business unit, despite the recent growth of high net worth individuals, we expect that the inventory level and the lower price of pre-owned aircraft, when compared to a new one, will continue to lower the demand for brand new aircraft and will delay recovery of this business unit. On the other hand, we also expect that our new product offerings, namely the Praetor 500 midsize jet and Praetor 600 super midsize jet, and the upgrades made on Phenom 300E, will partially offset the effects of COVID-19 and help us to be in a better position in the business jet market. As a result of COVID-19, as of the date of this annual report, one of our executive jets customers cancelled its firm orders and some of our executive jets customers postponed their scheduled aircraft deliveries. Although we cannot predict the full impact of the COVID-19 outbreak in the short-to-medium term on our business, we expect that some customers will postpone their scheduled aircraft deliveries and will continue to cancel their orders.

With respect to our Defense and Security business unit, we expect to make progress on the execution of existing programs, including the C-390 Millennium, SISFRON and LABGENE programs, as well as continue to deliver the Super Tucano aircraft to various governments around the world. However, since a portion of the revenues of our Defense and Security business unit is denominated in reais, we expect that the volatility of the real against the U.S. dollar will continue to affect our financial statements as they are reported in U.S. dollars.

 

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In the Commercial Aviation business unit (recorded and presented as discontinued operations for the financial statements as of and for the year ended December 31, 2019), due to extensive traffic disruption affecting our customers’ operations throughout the world, as a result of COVID-19, it is reasonable to expect a material impact on our 2020 deliveries. According to Cirium, a data analytics and consulting company, as of May 2020, 60% of the global fleet has been placed into storage, and the International Air Transport Association—IATA projects a decline of 50% in commercial traffic for 2020 in year-over-year terms. As a result of COVID-19, some of our customers rescheduled their aircraft deliveries carrying them over to 2021 and beyond, which has affected our 2020 projected deliveries. As of the date of this annual report, no cancellation has occurred. The recovery pace is difficult to predict since this outbreak has no precedent in history. Although we cannot yet determine the impact of the COVID-19 outbreak in the short-to-medium term on our business, we expect that customers will continue to postpone their scheduled aircraft deliveries and will cancel their orders.

As a result of the now-terminated Transaction, we also expect that our results of operations and financial condition may be affected by costs and expenses associated with the creation, maintenance and potential termination of the Commercial Aviation NewCo.

Due to the uncertainty related to the spread of COVID-19, we suspended the projections relating to our expected results for 2020, last updated on November 12, 2019. We will issue updated projections for 2020 when we conclude the assessment of the effects that the COVID-19 pandemic will cause to our business. For additional information on the risks related to COVID-19, see “Item 3. Key Information—3D. Risk Factors—Risks Relating to Embraer—The outbreak of communicable diseases around the world, including COVID-19, may lead to higher volatility in the global capital markets and recessionary pressure on the global economy,” “—A downturn in our key markets may reduce our sales and revenue, and, consequently, our profitability,” and “—Our Commercial Aviation business unit depends on key customers.”

Discontinued Operations

In our financial statements as of and for the year ended December 31, 2019, we recorded and presented our Commercial Aviation business unit and related services in a single line item as discontinued operations in the statements of operations, and the balances of assets and liabilities were presented as held for sale in the statement of financial position. Our 2019 audited consolidated statement of operations retroactively presented this information for the years ended 2018 and 2017 for comparative purposes to account for the aforementioned events. For additional information on the now-terminated strategic partnership with Boeing and on the assets and held for sale and discontinued operations, see Notes 4 and 40 to our 2019 audited consolidated financial statements included elsewhere in this annual report.

For additional information on the risks relating to the now-terminated Transaction, see “Item 3. Key Information—3D. Risk Factors—Risks Relating to Embraer—Legal proceedings pertaining to the now-terminated strategic partnership with Boeing, including arbitration proceedings related to Boeing’s termination of and failure to close the MTA and/or the Contribution Agreement, may adversely impact our business, financial condition and “results of operations.”

The following table summarizes our order book for our Commercial Aviation business unit as of December 31, 2019:

 

Commercial Aviation(1)

   Firm
Orders
     Options      Deliveries      Firm
Order
Backlog
 

EMB 120 Brasília

     352        —          352        —    

ERJ 135

     108        —          108        —    

ERJ 140

     74        —          74        —    

ERJ 145

     708        —          708        —    

EMBRAER 170

     191        —          191        —    

EMBRAER 175

     815        308        634        181  

EMBRAER 190

     568        —          564        4

 

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Commercial Aviation(1)

   Firm
Orders
     Options      Deliveries      Firm
Order
Backlog
 

EMBRAER 195

     172        1        172        —    

EMBRAER 190 – E2

     27        61        11      16  

EMBRAER 195 – E2

     144        47        7      137  

 

(1)

In our financial statements as of and for the year ended December 31, 2019, we recorded and presented our Commercial Aviation business unit and related services in a single line item as discontinued operations in the statements of operations, and the balances of assets and liabilities were presented as held for sale in the statement of financial position. Our 2019 audited consolidated statement of operations retroactively presented this information for the years ended 2018 and 2017 for comparative purposes to account for the aforementioned events.

The following tables set forth our Commercial Aviation order book as of December 31, 2019 by aircraft type, customer and country.

EMBRAER 170(1):

 

Customer

   Firm
Orders
     Delivered      Firm
Order
Backlog
 

Airnorth (Australia)

     1        1        —    

Alitalia (Italy)

     6        6        —    

BA CityFlyer (UK)

     6        6        —    

Cirrus (Germany)

     1        1        —    

ECC Leasing (Ireland)

     6        6        —    

EgyptAir (Egypt)

     12        12        —    

Finnair (Finland)

     10        10        —    

GECAS (USA)

     9        9        —    

JAL (Japan)

     18        18        —    

NAC / Jetscape (USA)

     6        6        —    

LOT Polish (Poland)

     1        1        —    

Petro Air (Libya)

     2        2        —    

Regional (France)

     10        10        —    

Republic Airlines (USA)

     48        48        —    

Satena (Colombia)

     1        1        —    

Saudi Arabian Airlines (Saudi Arabia)

     15        15        —    

Sirte Oil (Libya)

     1        1        —    

Suzuyo (Japan)

     2        2        —    

TAME (Equator)

     2        2        —    

US Airways (USA)

     28        28        —    

Virgin Australia (Australia)

     6        6        —    
  

 

 

    

 

 

    

 

 

 

Total

     191        191        —    
  

 

 

    

 

 

    

 

 

 

EMBRAER 175(1):

 

Customer

   Firm
Orders
     Delivered      Firm
Order
Backlog
 

Air Canada (Canada)

     15        15        —    

Air Lease (USA)

     8        8        —    

Alitalia (Italy)

     2        2        —    

American Airlines (USA)

     104        90        14  

Belavia (Belarus)

     1        1        —    

CIT (USA)

     4        4        —    

Congo Airways (Congo)

     2        —          2  

ECC Leasing (Ireland)(1)

     1        1        —    

Flybe (UK)

     11        11        —    

 

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Customer

   Firm
Orders
     Delivered      Firm
Order
Backlog