It’s been an uneventful three months for the Rolls-Royce share price which, given some of the moves in recent years, is probably a good thing.
Rolls-Royce share price shakes off pandemic effect
The pandemic has had a chilling effect on the company’s prospects, given how closely aligned its fortunes are to civil aviation. In May, management was at pains to focus on a specific narrative, that things can only get better, choosing to focus on a more positive outlook, and judging by today’s half-year update, there has been some improvement, pushing the Rolls-Royce share price to a one-month high.
Of course, that only works if the path out of the crisis is clear. While Rolls-Royce has taken significant steps to reduce head count and cut costs (the company has said it was on course with a further £1.3bn of annualised cost savings), the reality remains that the business is still heavily reliant on civil aviation engine flying hours (EFH) for a good proportion of its annual revenue.
Yesterday the company announced the sale of Bergen Engines for €63m, which is better than nothing but still less than half of the price of £130m that was agreed with Russian firm TMH at the beginning of the year, but then blocked on national security grounds by the Norwegian government.
The company also announced last night that it was in discussions with Bain Capital on the sale of ITP Aero, its Spanish business, for £ 1.6bn, which is much more like it, and is likely to be needed given today’s half-year results.
Half-year results beat expectations
Statutory half-year revenues came in light at £5.16bn. However, the company was still able to turn a surprise profit of £393m, beating consensus expectations of a small loss. This was helped by a better-than-expected £600m improvement in free cash flow, which while still negative to the tune of -£1.17bn, is still a marked improvement on a year ago.
In the first four months of 2021, large engine flying hours (EFH) were at 40% of 2019 levels, supported by demand for cargo as well as the maintenance of key routes, and this improved modestly in the remaining two months to 43%, while 100 large engines were also delivered. International travel continues to be a drag even as domestic route activity has recovered.
Even with the success of the vaccine program, EFH have been below expectations due to the various traffic light restrictions imposed by the UK, as well as foreign governments, and still remains below the company’s target of 55% for 2021 from six months ago. There's no doubt this has weighed on the Rolls-Royce share price in recent months.
Cost-saving measures on track
The company said it was making good progress on its restructuring program, with the removal of 8,000 roles already. The company says they're on course to make more than £1bn in savings by year end.
In terms of meeting the target to be free cash flow positive by the end of this year, and £750m by the end of 2022, management insists that when border restrictions are lifted the recovery in international travel will ensure that this happens and that EFH will exceed 80% of 2019 levels. The company did concede that this is unlikely to happen before the end of 2022, and that it could take a little longer.
There is no question that Rolls-Royce continues to face significant challenges due to the slow summer for aviation. Its recent decision to ask its 19,000 staff to take unpaid leave for two weeks as it strives to preserve cash clearly shows this. So, while the Rolls-Royce share price is up this morning, the company isn't out of the woods.
That said, the liquidity position remains strong, with £3bn in cash at the end of the first half, with the signing a two-year extension to its unused £1bn loan facility to 2024.
The civil aviation business continues to remain a core part of the business, albeit much smaller now, making up just over 40% of revenues. However, defence remains a bright spot, contributing a good chunk of today’s profits.
All in all, it was an encouraging update this morning. However, there still remains some way to go as the company reorientates its business model.
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