Embraer In China: competing in a regulated environment

Transcription

1 Publication: 11/2008 Review: 05/2010 Embraer In China: competing in a regulated environment Sergio Lazarrini 1 L.J. Bourgeois The brown air prevented Frederico Curado from seeing barely three meters ahead of the wing of his airplane as it landed in Beijing in late October Curado was in China to visit the Harbin airplane assembly plant in Manchuria, the result of Embraer s joint-venture with the state-owned Chinese company AVIC II. Recently appointed as CEO after eight years as executive vice-president of the Airline Division, Curado had been one of the key architects of Embraer s global expansion. 1 This case was prepared by Professor Sergio Lazzarini (Insper Institute of Education and Research) in collaboration with Professor L. J. Bourgeois (Darden). It was written as a basis for class discussion rather than to illustrate effective or ineffective handling of an administrative situation. We thank the helpful assistance by Maria Beatriz Oliveira Moraes and Leandro Souza with data collection. Copyright 2008 Insper Instituto de Ensino e Pesquisa No part of this case study may be reproduced or transmitted by any electronic or mechanical means, including photocopying, recording or storage systems, without the express written permission of Insper Institute of Education and Research. Offenders are punishable under articles 102, 104, 106 and 107 of Law 9610 dated 2/19/1998.

2 The Harbin plant was established in 2002 to assemble the Embraer Regional Jet (ERJ) 145, the 50-seat plane used in regional passenger travel. After a disappointing period with only a small number of orders from Chinese airlines, in late 2006 Embraer received 100 orders: for 50 of the ERJ 145s, to be assembled in China and for 50 EMBRAER 190s (a larger, newer 108-seat aircraft), to be exported from Brazil. Still, several challenges lay ahead. AVIC I, the other Chinese stateowned aircraft corporation, was planning to launch a new family of regional jets, the ARJ21 to compete head-on with the EMBRAER 190 family. Also, regional travel in China was still emerging, and the development of new routes was heavily regulated by the government. It was time to disembark, and Curado could not help thinking about what Embraer should do to foster sales in the region, while at the same insulating itself from escalating competition. Embraer 2 Embraer was founded in 1969 in São José dos Campos, State of São Paulo, under the leadership of aeronautic engineer Ozires Silva, who, with French designer Max Holste, was responsible for the development of the first successful Brazilian aircraft: the 19-passenger turboprop, Bandeirante. The company was initially a state-owned firm, drawing on capabilities of the Aeronautical Technical Center and the Aeronautical Technology Institute research and educational centers that developed technology and trained engineers, respectively. In 1985, Embraer launched a second turboprop: the 30-seat Brasília. Although sales were fairly strong until the late 1990s (about 350 units were sold), Embraer experienced significant financial losses during this period from a combination of macroeconomic problems in Brazil and a disastrous new product launch (the CBA123). This financial crisis led to the privatization of the company in 1994, when a consortium led by the Brazilian group Bozano, Simonsen S.A. acquired a large portion of Embraer equity and appointed Mauricio Botelho as CEO in Botelho restructured and repositioned the company, placing particular emphasis on the 50- passenger ERJ 145, a jet that had been under development since The ERJ 145 was a huge commercial success, receiving large orders from established regional carriers such as Continental Express and American Eagle. By 1997, the plane accounted for around 60% of 2 Information in this section was drawn from I. Avricher and M. Caldas s paper, Brazil s Embraer and Porter s National Competitive Theory, presented at the Strategic Management Conference in 2002; P. Ghemawat and G. Herrero, and L. F. Monteiro s Harvard Business School case, Embraer: Global Leader in Regional Jets ( ); F. Lopes, A. Zimath, and A. Maat s Darden School case, Embraer: Shaking Up the Aircraft Manufacturing Market, (UVA-S-0135); and 2

3 Embraer s revenues and helped restore the financial stability of the company. Embraer became Brazil s largest exporter as well as a leader in the worldwide market for regional jets. In the late 1990s, the company developed a new family of jets with a larger number of seats (70 120): EMBRAER 170, 175, 190, and 195, also known as E-Jets (Exhibit 1). These jets were another commercial success for Embraer, as it targeted airlines that were looking for a plane that could be used for shorter domestic routes and also accommodate more passengers than the existing regional jets. By the time its first EMBRAER 170 took off in February 2002, Embraer had a backlog of 112 firm orders and 202 options for the whole 170/190 family. The E-Jets also consolidated a product-development approach begun with the ERJ 145. Embraer s core capability was designing airplanes and coordinating the suppliers involved in their assembly. Embraer structured risk-sharing partnerships with the suppliers of key parts, including GE (engines), Gamesa (empennage and back fuselage), Honeywell (avionics), and others, who provided capital and knowledge for developing new product lines, expecting in return a long-term deal and reasonable prices for the parts 3. Embraer, like other aircraft firms, started acting more as a system integrator than a vertically integrated manufacturer. Embraer itself manufactured only a few core jet parts mainly, the cockpit and the wings while several other parts were procured globally. In 2006, commercial jets accounted for about 70% of Embraer sales, with North American and European airlines the largest customers. Exhibit 2 presents the breakdown of Embraer s deliveries according to region and product type. By April 2007, under CEO Frederico Curado, in addition to supplying the airline market with commercial jets, Embraer had sales divisions for Executive Aviation, Government and Defense, and Services. Mauricio Botelho stayed in the company as president of the board. The Global Aircraft-Manufacturing Industry Large jets (more than 120 seats) Large passenger jets accounted for about 85% of yearly orders in the overall commercial aircraft industry, which was dominated by Boeing in the United States and Airbus in Europe 4. Boeing s major products included the 737 ( seats), used mainly by domestic carriers on shorter routes, the 777, a long-range jet with around 350 seats, and the , with more than 400 seats and used mainly for long international routes. With the development of the fuel- 3 From a paper by P. S. Figueiredo, G. A. Silveira, and R. Sbragia, Risk-Sharing Partnerships with Suppliers: The Case of Embraer, presented at the 2005 International Association for Management of Technology Conference, in Vienna, Austria. 4 Industry Surveys: Aerospace & Defense, Standard & Poor s, November

4 efficient 787 Dreamliner, Boeing intensified its focus on a long-range aircraft that would allow passengers to travel on the longer, point-to-point routes instead of the traditional hub-and-spoke networks concentrated in the large airports. Equipped with seats, the 787 was expected to be delivered in By October 2007, Boeing had scored more than 700 firm orders for this jet, making it a significant commercial success. By contrast, Airbus was betting on the intensification of hub-and-spoke networks, which, to avoid congestion and capacity constraints at existing airports, would require an aircraft even larger than the Boeing 747. In 2000, the company had started development of the superjumbo A380, to carry more than 550 passengers 5. Delays in the production process and a backlog of orders below initial expectations, however, placed doubts on the viability of the project and triggered a replacement of top executives. In the meantime, Airbus attempted to compete with Boeing s 787 Dreamliner with its new A350, which was perceived neither as efficient nor as attractive as the 787. Other major Airbus jets included the A320 (150 seats), the A300 (265 seats), and the long-range A330 (300 seats). Regional jets Although regional jets accounted for only 13% of the global market for commercial aircraft, demand was growing because of structural changes in the industry. In several countries, these carriers increasingly exploited the direct (point-to-point) connections with smaller cities and the lack of congestion at secondary airports. For such direct connections, typically with a smaller number of passengers per flight, these smaller airplanes were more appropriate. In the United States, the market for regional jets had been constrained by scope clauses, emanating from strong lobbying efforts by pilots unions, to inhibit the entry of large commercial firms into regional routes with the use of smaller jets. Pilots feared that by entering regional markets, traditional companies would attempt to reduce wages; however, after September 11, 2001, airlines were forced to exploit regional markets as a way to increase revenues and consequently, had to adjust the size of their fleet. The interest in using smaller jets to target the shorter regional routes soared, particularly for the medium-sized jets with seats. The EMBRAER 170/190 family benefited directly from this change. Exhibit 3 depicts the market shares of the major regional jets by manufacturer and seat-size segments. Embraer s major competitor was Canada s Bombardier a corporation operating not only in the aircraft business but also in other sectors, including equipment and financing. Bombardier entered the market for regional jets in 1992 with the 50-seat CRJ 100/200 and soon 5 M. Kane and Benjamin Esty, Airbus A3XX: Developing the World s Largest Commercial Jet (A) (201028), Harvard Business School case. 4

5 faced strong competition from Embraer s ERJ 145, which was perceived as more economical and technically superior 6. But its financial losses mounted and restricted Bombardier from launching new products. Finally, in 2004, the company initiated development of the CSeries, a new family of jets for passengers, which would compete head-on with the EMBRAER 170/190 family 7. After receiving too few orders, Bombardier called off the project and started working on stretched versions of the CRJ 100/200 the CRJ 700, 900, and 1000 ( seats). In January 2007, however, the company resumed development of the CSeries with the C110 (110 seats) and C130 (130 seats), and the first delivery was expected in Exhibit 4 presents comparative data on Embraer and Bombardier deliveries, and Exhibit 5 shows comparison of the financial results. Although both Airbus and Boeing focused on larger planes, they also had regional jets. Boeing s smallest plane was the 114-seat 717, which was perceived as less efficient than the competing Embraer and Bombardier jets, so Boeing discontinued the 717 in Airbus, in turn, had the 109-seat A318 a shortened version of the A320; however, orders for this plane were weak. Other players tried unsuccessfully to establish themselves in the regional jet market. Fairchild, a former U.S. company bought by German manufacturer Dornier, was declared insolvent in The license for its main 32-passenger regional jet was then acquired by the U.S. company AvCraft Aviation in 2003, which declared insolvency in 2005, and subsequently repositioned itself as a service provider for the industry. Trends in Global Traffic and the Rise of China After recovering from the shock of September 11, global air traffic began a slow recovery. Although almost 63% of global traffic remained concentrated in North America and Europe, traffic originating in the Asia-Pacific countries increased sharply. China exhibited not only the largest volume of traffic but also one of the largest growth rates. The increase in per-capita income, especially in urban regions, increased demand, which was met by expanding seat capacity in planes and developing new routes (Exhibit 6). Growth was expected to remain strong, especially in domestic traffic. Boeing forecasted China s annual domestic-traffic growth at 8.8% for (Exhibit 7), compared with around 5% for the world as a whole. Despite the strong prospects for domestic traffic in China, its regional aviation was underdeveloped. By the end of 2006, regional routes accounted for only 3.5% of its total airline traffic. Major routes were still concentrated on a few airport hubs, especially on its east coast 6 Ghemawat, Herrero, and Monteiro. 7 Lopes, Zimath, and Maat. 8 Lopes, Zimath, and Maat. 5

6 where 20% of its airports were responsible for about 80% of its passenger traffic. A surge in regional traffic would require aggressive investments in airport infrastructure throughout the country. According to Gao Hongfeng, vice-minister of the General Administration of Civil Aviation of China (CAAC), which regulated the airline industry, By 2010, the mainland will have about 186 airports, up from 142 currently. 9 Around (Chinese yuan) CNY140 billion were expected until 2010 to expand such existing airports as Beijing, Shanghai, and Guangzhou and to improve the airport infrastructure in central, western, and northeastern China 10. On the demand side, because economic growth in China was concentrated in its largest cities and industrialized regions in the East (Exhibit 8), the future expansion of regional traffic would depend on governmental policies to reduce regional inequality and increase per-capita income in poorer locations in the central and western regions. Furthermore, in early 2007, about 65% of seats offered in the domestic mainland market were concentrated in three government-controlled carriers: Guangzhou s China Southern Airlines, China Eastern Airlines, and Air China (Exhibit 9) 11. These carriers, however, were located in the major hubs of Guangzhou, Shanghai, and Beijing, respectively, and typically operated large planes. While in the United States the 30- to 120 seat planes represented about 34% of the 30- to 210 seat fleet, in China this proportion was only 7%. Entry by new carriers targeting new alternative routes was timid; new private airlines, responsible for only 4% of domestic capacity, were struggling to cope with scale limitations and trying to find profitable market niches. The central government had no apparent plan to reduce concentration in the domestic market and ease entry. On the contrary, given that several domestic airlines were facing losses or low profitability, the government indicated a desire to increase control over entry and seat capacity 12. To exploit new routes, companies had to demonstrate not only that they could carry out safe and sound operations but also that they would have the necessary resources to do so. For instance, with the rapid increase in domestic traffic, companies had trouble finding qualified pilots. As stated by Yang Yuanyuan, Minister of the CAAC, We believe it would be fine to maintain three major carriers based on the situation of the airline industry Nation to Boost Spending on Airport Infrastructure, english.eastday.com (accessed on March 2, 2006). 10 China s Key Transport Infrastructure Projects for , Xinhua, March 6, Center for Asia Pacific Aviation, Aviation Analyst, 59 (April 2007) and 79 (July 2007). 12 Center for Asia Pacific Aviation, Aviation Analyst, 79 (July 2007) (accessed on October 17, 2007). 6

7 Entering China The Chinese aircraft industry 14 In 1993, after dispersed and failed efforts to create a thriving domestic aerospace industry, the Chinese government centralized all aircraft manufacturing enterprises into one single company, Aviation Industry Corporation (AVIC). AVIC attempted several initiatives to develop and assemble jets in collaboration with Boeing, McDonnell Douglas, and Airbus. The failure of these initiatives and government intent to foster competition in the domestic market led, in early 1999, to the breakup of AVIC into two separate companies, AVIC I and AVIC II, with both companies remaining fully state-controlled. When the two entities were formed, AVIC I consisted of 53 industrial enterprises and 31 research institutes, about 295,000 employees, and total assets of CNY34.9 million. AVIC I subsidiaries focused on military aircraft such as bombers and fighter planes, and their parts. Airbus and Boeing subcontracted the production of several parts of the A320 and Boeing 737 to AVIC I subsidiaries Xi an, Shenyang, and Chengdu. AVIC II, in turn, owned 54 enterprises and three scientific research institutes. It employed 210,000 workers and controlled assets of CNY31.5 million. AVIC II also produced automobiles, motorcycles and related engines and parts, textile machinery, medical apparatus, and other nonaviation products. Services included aircraft leasing, engineering, contracting, and import and export services. The central government fostered the aerospace industry in China through several mechanisms. The government imposed tariffs on aircraft parts and planes manufactured abroad. Foreign manufacturers intending to enter China were required to share technology with local firms and engage those firms in the process of assembly and, whenever possible, production of parts. In the late 1990s, German manufacturer Fairchild Dornier failed to enter the Chinese market because it did not agree to establish local assembly lines and pursue joint development with local firms. Two government agencies had an impact in defining policies for the aircraft industry: COSTIND (Commission for Science, Technology, and Industry for National Defense), in the aircraft sector, and NDRC (National Development and Reform Commission), to deal with economic development in general. Embraer s entry: early attempts Embraer s decision to enter the Chinese market was not straightforward. In the late 1990s, Embraer intended to export jets assembled in Brazil to China, betting on the future of regional 14 Information for this section is mostly based on A. Goldstein s The Political Economy of Industrial Policy in China: The Case of Aircraft Manufacturing, William Davidson Institute Working Paper 779, July

8 aviation in that country. In May 2000, the company established a commercial office in China, led by a Brazilian of Chinese descent, Guan Dongyuan. One month later, the company finalized the first sale of five ERJ 145 planes to China s Sichuan Airlines. In November 2000, Embraer received another 30 firm orders and 15 options. Meanwhile between the order and the delivery date, to protect its struggling regional-aircraft industry, the Chinese government increased the tariff on imports of small-sized jets from 7.1% to 22.9%. Embraer s planes became too expensive, causing Chinese clients to renege on their initial orders. In December 2001, four planes were assembled in Brazil but were never delivered to China 15. Even the personal intervention by Brazilian President Fernando Henrique Cardoso, who had good relations with Chinese President Jiang Zemin, was unsuccessful 16. Subsequently, Embraer executives started to consider assembling its jets in China. Establishing a local plant would meet the central government s requirement that foreign aircraft manufacturers should not only attempt to export assembled products but also carry out local production and engage, whenever possible, local Chinese suppliers. The deal with AVIC II In March 2001 (prior to the tariff event that triggered Embraer s decision to invest in an industrial plant in China), Embraer signed a letter of intent with AVIC II. The goal of the agreement was to share manufacturing technology and develop products for the Chinese market. Given Embraer s intention to establish an industrial plant in China, the deal quickly evolved into a full-blown joint venture with two AVIC II firms: Harbin Aircraft Industry Group (HAIG) and its subsidiary Hafei Aviation (HAFEI), which were already engaged in manufacturing helicopters, auto engines, and small turboprop aircraft. Relations between China and Brazil were favorable, since they had previously established collaboration agreements in satellite and space research 17, and there was no serious commercial dispute involving the two countries. A deal was signed in December 2002 and involved an investment in the Harbin airplane assembly plant within Hafei s industrial complex in Manchuria, designed to assemble ERJ 145 jets (Exhibit 10). It was different from most foreign joint ventures in China, in that Embraer managed to keep control rights of the joint venture with a 51% equity stake. The new enterprise was named Harbin Embraer Aircraft Industry Co. Ltd. 15 H. Rzezinski, China: Oportunidades e Desafios O Caso Embraer, Conference presentation in Goldstein. 17 Goldstein. 8

9 Harbin Embraer Organization Roberto Rossi de Souza, was appointed general manager of Harbin Embraer in 2004, after working at Embraer in Brazil since To assist de Souza with local affairs in China, Jiang Da was appointed deputy general manager. Jiang Da previously worked at Hafei and had extensive experience in aircraft manufacturing. Rossi answered to a board consisting of a chairman from HAIG, a vice-chairman from Embraer, and five members (two from Hafei/AVIC II and three from Embraer). Exhibit 11 depicts the organization of the joint venture. The board met twice a year, essentially to approve an annual strategic plan for Harbin Embraer that included annual budgeting, to establish quantifiable goals, and to evaluate the performance of the joint venture. In practice, once the plan was approved, Harbin Embraer managers operated with high autonomy to execute the plan and promote the necessary adjustments. According to Rossi, There is no interference on daily decisions. Operations In January 2003, the Chinese plant began operations with an assembly capacity of 11 jets per year. Productivity was expected to increase to 15 jets per year by 2008, and in the future, the workforce would expand in order to reach a capacity of 24 planes per year in the same assembly plant. By contrast, the production of ERJ 145 planes in São José dos Campos was from 16 to 18 planes per month. Because of reduced demand for ERJ 145s, especially in the United States, in 2006, Embraer ceased the assembly of these jets in Brazil and used their former assembly line to manufacture Legacy corporate jets, which shared the same production platform; however, there were no plans to assemble the 170/190 E-Jets in China. In the beginning, for operations at Harbin Embraer, all Chinese workers were trained in Brazil, and Embraer secured the transfer of quality procedures and monitoring of the assembly process. Considerable efforts were made to control and meet quality standards. Harbin Embraer managers considered the task of preparing a technician to be fully qualified for an assembly job to require at least 10 months of intense training and on-the-job coaching. By 2008, most training and coaching was expected to be performed by the managers and technicians of Harbin Embraer. Aircraft parts represented by far the largest portion of assembly costs. Typically, parts came from 250 suppliers in several parts of the world the same portfolio of suppliers for Embraer in Brazil. For example, engines came from Rolls Royce in the United States. Contracts to preserve intellectual property were signed, stating that the Chinese partner could not purchase items 9

10 directly from the selected suppliers without full consent from Embraer. Furthermore, core parts of the plane (e.g., essential fuselage, pipeline, and electrical parts), which Harbin Embraer referred to as a kit, were sent directly from Brazil. Until 2007, no essential supplies were procured in mainland China, although there were plans to engage a local Chinese supplier in the assembly and production of specific parts of the fuselage. Culture By late 2007, Harbin Embraer had approximately 260 employees, of which 13 were Brazilian. Most of these Brazilians had previously worked for Embraer and occupied managerial and quality-control jobs. The bulk of the labor force was Chinese and had been transferred directly from Hafei. The official language of the joint venture was English; Brazilians working at the Harbin plant found it difficult to master Mandarin. So, given that English was not native to virtually all people working at Harbin Embraer, gesticulation was often a necessary means of communication on the assembly line. Despite these difficulties, both Brazilians and Chinese agreed that interaction was smooth. The Chinese viewed Brazilians as friendly and flexible in accommodating necessary changes in operations. The Brazilians saw the Chinese as eager to learn and showing a marked sense of responsibility 18. General Manager Rossi thought that there was a natural affinity between the Brazilians and the Chinese. Deputy General Manager Jiang Da observed that once you put people together they start working as one family. Sales Initial sales were below expectations. By January 2003, China Eastern and China Southern Airlines had placed only 16 orders; Embraer executives blamed the slow pace of regional traffic development. The situation reversed itself in December 2006, when the joint venture received an order for 50 ERJ 145 jets from Hainan Airlines. Four of these ERJ 145 jets were expected to be delivered by December With this order, the plant would be producing at full capacity until Hainan also placed an order of 50 EMBRAER 190s to be assembled in Brazil. Unlike the import tariff for small aircraft such as the ERJ 145, the import tariff for larger planes larger than the EMBRAER 170 was still kept at the low level of 5%. Because Harbin Embraer lacked dedicated personnel for marketing and sales, it relied on Embraer s commercial sales office in China, for which it paid Embraer royalties and commercial fees. The sales process for Chinese carriers was very complex. Embraer s commercial office first had to convince airline companies that regional routes were profitable; the process often 18 From a paper by G. Azevedo, Brazilian Management in China and a Theory on the Formation of Hybrid Organizational Cultures, presented at the EGOS Conference in

11 involved detailed consulting on which specific routes could be exploited. Then the airlines had to convince CAAC that they would operate the route with high safety standards, and externalrelations officials would judge whether the nation of the aircraft manufacturer had any serious conflict with China. Finally, NDRC officials would have to analyze whether the product involved adequate technology. Only then could a Chinese carrier enter into a purchase agreement with the aircraft manufacturer. New Entrants AVIC I (China) Embraer would soon face competition from a project under development since 2002 by a consortium of AVIC I subsidiaries (ACAC): the ARJ21 family of jets. This family was intended to target the 70- to 120 seat market with two versions: the ARJ with seats and its stretched version the ARJ with seats. By October 2007, the family had a backlog of 35 firm orders from domestic carriers such as the Xiamen and Shanghai airlines, with first delivery expected in two years. Although most parts for the assembly of the ARJ21 and the overall design were to be provided by members of the ACAC consortium under AVIC I, part of the manufacturing technology originated from an early project involving the assembly of the McDonnell Douglas MD-80/90 jets, in the 1980s and early 1990s. (The MD-80/90 was also the basis for Boeings 114-seat 717. Boeing had acquired McDonnell Douglas in 1997.) McDonnell Douglas was one of the few companies that had not imposed strong restrictions on the transfer of technology, allowing Chinese companies to control most of the process of assembly and production of parts, namely, the AVIC I subsidiaries Xi an, Shenyang, and Chengdu, which would later on be involved in the ACAC consortium to develop the ARJ21. In June 2007, Bombardier and AVIC I announced an agreement to collaborate on the development of the stretched version of the ARJ21, in which the Canadian manufacturer agreed to invest US$100 million in the project. According to Lin Zuo Ming, president of AVIC I, the deal would allow partners to effectively evaluate current projects, identify areas of mutual collaboration and explore future endeavors that will further develop this relationship of cooperation. 19 Sukhoi (Russia) Previously focused on military aircraft, the Russian state-owned Sukhoi Corporation was attempting to increase its presence in the civilian aircraft market with its new Superjet 100, a medium-sized aircraft in the 75- to 95 seat range. Developed in 2001 with the help of Boeing and 19 Bombardier, China s AVIC Partner on Commercial Aircraft, Manufacturing.Net, June 18,

12 other risk-sharing partners such as Thales and Honeywell, as well as Italian firm Finmeccanica (which owned 25% of Sukhoi s Civil Aviation Division), the Superjet 100 received 98 orders by October 2007 and was expected to be delivered by late Sukhoi claimed that the Superjet 100 was more efficient than the competing Embraer and Bombardier s aircraft because it was more comfortable and less costly 20. At first, the goal would be to target Russian and western airlines; however, the possibility of exploiting East Asia was under careful consideration. China, in particular, was already a client of Sukhoi s Military Division and, in 1996, agreed to assemble Sukhoi fighters in the mainland. The Airbus joint venture in China On June 2007, Airbus signed a joint venture with Chinese partners to invest in an industrial plant in the city of Tianjin, located on the north coast in China, to assemble A320 jets. Similar to Embraer, Airbus managed to keep 51% control of the venture 21. The Chinese partners were the Tianjin municipal government, AVIC I and AVIC II. Production would start by Apparently, there was no intention of assembling smaller-sized Airbus jets. Challenges Ahead Frederico Curado was optimistic about the market prospects in China. Exhibit 12 presents a detailed breakdown of Embraer s forecasts of global deliveries involving regional airplanes (including all aircraft manufacturers). Curado explained: China, as a country, is probably the second-largest market for us. We are focusing on planes in the 30- to 120 seat range, and we see [a demand for] more than 1,000 planes over the next 20 years. 22 But despite his optimism, Curado knew that there were several risks involved that ranged from the myriad of obstacles to the future development of regional travel in China to the challenges imposed by escalating competition. As he made his way to the Harbin plant to meet with Harbin Embraer executives, he wondered about possible actions to circumvent those risks. 20 Sukhoi s Phoenix, Economist, October 20, China-Airbus JV to Deliver 300 A320 Planes by 2016, China Daily, June 29, Embraer Says China Will Make Up 60% of Asian sales, Bloomberg, April 4,

13 Exhibit Exhibit 1 - Products Commercial Aviation Market 13

14 Exhibit 1 (continued) 14

15 Exhibit 1 (continued) 15

16 Exhibit 2 - Embraer Deliveries According to Region and Seat Range 100% 90% 80% 2% 14% 7% 12% 3% 3% 2% 2% 18% 70% 60% 50% 22% Other Latin America Asia 40% 30% 77% 60% 77% Europe North America 20% 10% 0% seats seats seats 5% 14% 80% Percentage of total deliveries Source: Embraer. 16

17 Exhibit 3 - Evolution of Market Share of Small- and Medium-Sized Aircraft by Company 30- to 60-seat planes 80% 70% 60% 50% 40% 30% 20% 10% 0% EMBRAER BOMBARDIER AVCRAFT 61-to 90-seat planes 100% 90% 80% 70% 60% 50% 40% 30% 20% 10% 0% EMBRAER BOMBARDIER FAIRCHILD DORNIER 17

18 Exhibit 3 (continued) 91-to 120-seat planes 100% 90% 80% 70% 60% 50% 40% 30% 20% 10% 0% EMBRAER AIRBUS BOEING Source: Embraer; F. Lopes, A. Zimath, and A. Maat, Embraer: Shaking Up the Aircraft Manufacturing Market, Darden Business School Case (UVA-S-0135). 18

19 Exhibit 4 - Evolution of Embraer and Bombardier s Deliveries of Small- and Medium-Sized Aircraft (Units) Embraer Seats EMB EMB ERJ ERJ ERJ ERJ 145 XR EMBRAER EMBRAER EMBRAER EMBRAER Bombardier Q Q CRJ100/ CRJ CRJ Q CRJ Source: Embraer s Annual Report and Bombardier s Annual Report. 19

20 Exhibit 5 - Evolution of Embraer and Bombardier s Revenues and EBITDA, (in millions of dollars) Embraer Revenue EBITDA Bombardier Revenue EBITDA Source: Annual Reports of Bombardier (aerospace division) and Embraer. Exhibit 6 - Evolution of China s Main Routes Source: Centre for Asia Pacific, Aviation Analyst, Monthly Report #59, April

21 Exhibit 7 - Traffic Involving Chinese routes: Past and Expected Future Annual Growth (%) 14.0% 12.0% 10.0% 8.0% 6.0% 4.0% 11.2% 8.6% 7.8% 6.4% 6.4% 6.1% 8.8% 6.4% 5.8% 5.9% 6.0% 4.6% China-China China-Europe China-North America China-Northeast Asia China-Oceania China-Southeast Asia 2.0% 0.0% Source: Boeing Current Market Outlook 2007 Source: Boeing Current Market Outlook 2007 Exhibit 8 - Economic Growth in China: Per Capita GDP (RMB), Per capita GDP Coastal Region Central Region Western Region Source: National Bureau of Statistics of China. 21

22 Exhibit 9 - Main Airline Carriers in China (mainland) by Mid-2007 Carrier Share of Domestic Capacity Control Rights Number of Planes by Size (Seats) >120 China Southern Airlines 30% Central Government, through China Southern Air Holding China Eastern Airlines 19% Central Government Air China 16% Central Government Hainan Airlines 8% Government, through HNA Group Xiamen Airlines 6% China Southern Airlines (60%) and Xiamen Construction and Development Group (40%) Shenzhen Airlines 5% Guangdong Development Bank (65%), 3-48 CNAC (Air China) (25%) Sichuan Airlines 4% Sichuan Airlines Group, owned by the 5-30 government of the Sichuan Province Shanghai Airlines 4% Joint stock company owned by 5-43 financial funds and local groups Shandong Airlines 4% Air China Source: Center for Asia Pacific Aviation, Aviation Analyst, Monthly Report #79, July 2007; information from company and other Web sites. 22

23 Exhibit 10 - Harbin Embraer Aircraft Company: The Assembly Plant 23

24 Exhibit 11 - Organizational Structure of the Harbin Embraer Aircraft Company Board Members: 4 Brazilian, 3 Chinese Chairman: Chinese; Vice-Chairman: Brazilian General Manager Certification Deputy General Manager Finance/Adminisnistrative Commercial Production Production Quality Regulatory environment COSTIND: Commission for Science, Technology and Industry for National Defense CAAC: General Administration of Civil Aviation of China NDRC: National Development and Reform Commission Source: Rzezinski, H., China: oportunidadese desafios o casoembraer, Presented at the conference Desafiosemergentes: a ascensãoeconômicadachina e daíndiae seusefeitosparao Brasil, April

25 Exhibit 12 - Embraer s Forecasts of Global Deliveries of Regional Aircraft, (includes all aircraft manufacturers) Region Number of Planes by Size (Seats) USA, Canada and Caribbean Latin America Europe Russia and CIS Africa Middle East Asia Pacific China Total Source: Embraer Market Outlook. 25