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Earnings

Can Rolls-Royce’s share price rally after H1 cash drain?

British engine maker Rolls-Royce [RR] reported revenue growth and narrowed pre-tax losses in its interim results on Tuesday, however, the positive performance failed to overshadow the large cash outflow of £429m, which caused the firm’s share price to crash.

The deteriorating free cash flow from the first half of last year (when it was at just £72m) was primarily due to higher in-service costs for the Trent 1000 engines as well as increased inventory levels in its civil aerospace and Power Systems businesses. 

The troublesome Trent 1000 engine programme for the Boeing [BA] 787 Dreamliner, which has been the reason many of its fleet are grounded, is expected to continue posting a £100m loss across the next three years, Rolls-Royce warned. 

Trent 1000 charges have totalled £1.6bn for the company, with more than half relating to compensation payments to its airline customers. 

Despite posting underlying positives in its half-year results, shares in the group plunged to the bottom of the FTSE 100, extending a five-day downward streak with a fall of 6.9% on Tuesday to 759p. The stock is down 23.2% since reaching a year-to-date high of 988.40p on 20 February. 

 


 

Turnaround plan begins to bear fruit  

Valued at £14bn at the start of the week, the engineering giant has had a turbulent few years. However, since CEO Warren East embarked on a turnaround plan to revive the struggling business in 2016 when its stock had reached a low of 497p, shares have risen roughly 53%. 

East has been trimming back underperforming areas of the business such as commercial marine and fuel injection to focus on growing its civil aviation and maintenance divisions, which has been a benefit to its R&D and cost of sales.

However, measures to remove costs and improve operating efficiencies led to a restructuring charge of £69m in its latest results. Total costs for the restructuring plan remain around £500m and are expected to be completed by the end of 2020. 

“Progress on our restructuring programme is in line with the plan we outlined a year ago,” East said. “We took significant strides in accelerating our electrification ambitions through the announced acquisition of Siemens's eAircraft business in our drive to create cleaner, more sustainable and scalable power for the future.”

Indeed, revenue for the six months to June climbed 5% year-over-year to £7.88bn, with revenues across its civil aerospace, power systems and defence businesses up 11%, 6% and 2% respectively. 

£7.88billion

Revenue for first half of 2019 - a 5% year-over-year increase

  

The swing to an operating profit of £83m from a loss of £747m also represents improving fundamentals in the business, as pre-tax losses shrunk 35% year-over-year to £791m.

Hargreaves Lansdown’s George Salmon believes East’s strategy to simplify and streamline Rolls-Royce is working.

“By focusing on cash flow rather than accounting profit, he's using a sensible and shareholder-friendly metric to measure success,” Salmon wrote. “In recent years you could have flown a plane between Rolls's cash flows and profits, such has been the difference.”

 

Market cap£14.72bn
EPS (TTM)-129.20
Operating Margin (TTM)-5.24%
Quarterly Revenue Growth (YoY)1.90%

Rolls-Royce share price vitals, Yahoo Finance, 8 August 2019
 

Bullish outlook 

Rolls-Royce expects a significant improvement in cash in the second half, as it hopes to disperse inventory build-up and benefit from improving trading in its civil aerospace and power systems.  

The UK aerospace company forecasts full-year cash of £700m, and £700m in operating profits. It is also on track to deliver 500 large aircraft engines by the fiscal year-end, as a result of delivering 257 in the first half. 

“We remain on track to meet our full-year guidance for underlying Core operating profit and Core free cash flow of £700m plus or minus £100m,” East said. 

“Our outlook remains positive, underpinned by continued progress on our key free cash flow drivers towards our ambition to exceed £1 of free cash flow per share in the mid-term, together with the steadily improving health of the Trent 1000 fleet.”

“Our outlook remains positive, underpinned by continued progress on our key free cash flow drivers towards our ambition to exceed £1 of free cash flow per share in the mid-term, together with the steadily improving health of the Trent 1000 fleet” - Rolls-Royce CEO Warren East

 

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