While Gulf Coast residents are taking to the streets for Mardi Gras, Brazilians prepare to kick it up a notch (or 12) with their own unique, pre-Lent festival: Carnival. But despite its reputation as a party-hardy destination, Brazil is also home to a thriving, highly productive, developing emerging market. And while emerging market investments underperformed noticeably last year, there’s still opportunity for value investors.

One of my favorite is aircraft manufacturer Embraer SA (NYSE: ERJ).

Embraer is one of the world’s two largest manufacturers of regional jets (the other is Canada’s Bombardier). The small regional jet changed the face of commercial aviation by offering a larger, faster aircraft that replaced fleets of aging turboprops (a.k.a. “puddle jumpers”). In addition to the commercial aviation segment, which represents 54% of Embraer’s revenue, the company also competes successfully in the executive, defense and agricultural segments.

A major competitive advantage Embraer has is that it’s a niche player. There’s a big difference between a Boeing Dreamliner (which costs $200 million-plus) and an Embraer regional jet, for instance (the 122-seat ERJ 190, for example, costs $34 million). Plus, while developed markets are experiencing sluggish growth at best, emerging markets — and Brazil more than ever — are enjoying the pleasant fallout of a growing middle class. Naturally, more middle class consumers means more travel, so Embraer is clearly poised to benefit.

Drilling down into the business, there’s a lot to like about this company. Since 2003, for instance, sales have risen at a 14% compounded annual growth rate (CAGR) to a current $5.36 billion. Earnings per share (EPS) have also grown at a 13% pace, with 2011 results expected to come in at $1.80 per share.

The company’s guidance is promising. Management just announced it expects revenue for 2012 is to come in at roughly $5.7 billion, up nearly 7% from 2011. And in 2013, it’s projected to grow another 10%.

Ready and cleared for take-off
The most compelling aspect to the Embraer investment thesis is the company’s backlog. As of September 2011, Embraer had a backlog of $16 billion in firm orders, which represents more than three years of sales. That’s a 4.5% increase compared with the same period in 2010. With a higher number of orders in the pipeline, this increases the odds of an upside surprise on the revenue and earnings front as the company improves on efficiency and input costs.

Embraer’s balance sheet is fundamentally strong. The company currently holds about $2.13 billion in cash on its balance sheet, has a market capitalization of $5.3 billion and carries $1.7 billion in long-term debt.

Another strength is Embraer’s ability to generate cash: about 13.5% of the company’s sales last year went straight to cash flow (or about $720 million), compared with a 6.7% average for Embraer’s competitors.

In addition to its core commercial business, Embraer realizes 12% of its revenue from military contracts. Currently, the company has a $355 million contract from the U.S. Air Force for its A-29 Super Tucano, a single-engine aircraft that can be used during training and light combat duties.

Risks to Consider: Aerospace is a textbook cyclical industry. Therefore, the stock prices of most aerospace firms will track the fortunes of the macroeconomic environment. There are clear risks to the company’s defense business as well. The United States Air Force has placed a temporary stop work order on the Tucano contract due to pending lawsuits from Embraer competitor Hawker-Beechcraft. The company could also be affected by global austerity measures. Lastly, as with any foreign investment, currency risk is always a major consideration, especially if the value of the Brazilian real depreciates against the dollar.

Action to Take –> Given that Embraer is an emerging-market company that does business in many developed countries, the stock looks like a good way to conservatively invest in emerging market growth as well as a recovery in developed markets for big-ticket items like jet airplanes.

Shares currently trade at about a 20% discount to the stock’s 52-week high. The stock has a forward price-to-earnings (P/E) ratio of about 15 and a dividend yield of about 3%. If Embraer can continue growing its revenue by 14%, and with a 10% operating margin combined with strong free cash flow growth and the dividend, I think a $37 a share is a reasonable price target. Including the dividend, that’s a potential total return of nearly 30%.