EUR 850.00 For Business Accounts Only

Morningstar | Bombardier Shares Soar as Cash Flow Beats; Train Projects and Global 7500 in Focus for 2019. See Updated Analyst Note from 15 Feb 2019

After disappointing the market in the third quarter with a cash flow guidance downgrade, no-moat Bombardier delivered a beat on cash flow to end 2018, landing at $182 million of free cash flow for the full year versus guidance of around break-even, including the sale of the company's Downsview facility. It's important to note that $155 million of cash flow came from prepayment of royalties associated with the divestment of business aircraft training. Still, the market liked what it saw, driving shares up about 23% on the news.

Since 2019 guidance wasn't materially different than what we heard at the 2018 investor day and the company confirmed 2020 targets, we're not changing our CAD 4 fair value estimate, which assumes the ongoing turnaround succeeds. We did move our uncertainty rating up a notch to very high because $850 million of debt maturing in 2020 hasn't been refinanced yet and another $2.3 billion of maturities is approaching in 2021. Nonetheless, shares look cheap, trading at a price/fair value ratio of 0.62.

Fixing projects at the transportation unit and ramping Global 7500 production will be critical to hitting 2019 guidance of $1.15 billion-$1.25 billion of EBIT before special items and break-even free cash flow. Transportation must execute on several challenging projects in the U.S. (New York), Switzerland, and the United Kingdom (London). Out of these projects, Switzerland looks to be the most complex, and Dosto alone has required 35 homologations (ensuring the train is operating as promised). Management indicated that SBB and Dosto won't be resolved until after 2019. Nonetheless, Bombardier continues to believe it can recover about $350 million of working capital at transportation during the second half of 2019. This will be a key pacing item to achieve cash guidance since the integration of the Global 7500 wing, via its acquisition from Triumph, seems to be consuming a good portion of the $250 million cash flow contingency management had.

Management continues to anticipate margin expansion at the transportation business in 2019 (about 60 basis points) and in the commercial aircraft business thanks in part to the deconsolidation of the C Series (now referred to as the A220). Business aircraft faces about a 100-basis-point year-over-year headwind as the Global 7500 ramps up; management anticipates getting back above 8% margins in 2020 at this unit. Aerostructures will also see margin compression during 2019 due to dilution from the recent acquisition of the Global 7500 wing production from Triumph. The A220 represents about one-third of aerostructures sales (about $700 million in revenue) and is considered external now, given Bombardier's minority stake in the program.

The company is targeting about $800 million in capital expenditures for 2019 and 2020, down from $1.2 billion in 2018, noting that about $250 million of capitalized interest is ending in 2019 relative to 2018 due to the certification of the Global 7500. However, this won't change the overall free cash flow number since it moves into the income statement as an interest expense, affecting EPS by around $0.10. Based on its guidance, the company targets more than $3 billion of cash on hand at the end of 2019. We're anticipating about $1.4 billion of cash burn through the middle of the year, excluding any asset sales.

Over the past several years, Bombardier has offloaded noncore assets (for example, Downsview, business aircraft training, and the Q400 line) and some core assets (for example, the C Series program to Airbus and 30% of the transportation business to CDPQ) to shore up its balance sheet and focus its business. We thought the CRJ could be next on the divestment list this year, but with the launch of the CRJ550, which is the CRJ700 reconfigured to 50 seats from its traditional 70 seats, the CRJ line may remain in Bombardier's portfolio for now. We think that the CRJ550 is feasible in a low-fuel-price environment and that plans to roll out the CRJ550 cabin via reconfiguring existing, fully depreciated aircraft makes sense. However, should fuel prices rise, the potential for new-build aircraft seems more limited to us.