Rolls-Royce today reported that revenue for the six months to the end of June came in at £5.3bn, a modest increase on last year. However, the engineering company slipped to a bigger-than-expected underlying loss before tax of £111m, as higher costs squeezed margins. Gross margins fell to 17.7%, down from 21% last year, while financing costs rose to £236m, up from £174m.
The results appear to have raised concerns among investors, whose reaction sent the Rolls-Royce share price more than 5% lower in early trading this morning. As of 10.15am, that share price dive had deepened to almost 10%.
Revenue from power systems increased
Ahead of today's numbers, shareholders were hoping to see progress in Rolls-Royce's power systems business, as the firm looks to diversify away from its main revenue source of civil aerospace. On this front, there was some positive news. Revenue from power systems grew 20% to £1.37bn, comfortably beating expectations. Order intake for the division was £2.1bn, up 53% from the prior period, after a record quarter for orders in Q2.
However, results for the defence unit were disappointing. Revenue there fell 9% to £1.61bn, which the company attributed to delays in signing off the next tranche of F-35B fighter jets and lower spare engine sales.
Civil aerospace, the division which accounts for the bulk of the company’s revenue, saw underlying revenue rise 8% to £2.34bn. Large engine flying hours were still at 60% of 2019 levels, but the company expects that this will rise to 70% by year-end and return to pre-pandemic levels in 2024.
Meanwhile, the project to deliver small nuclear reactors, announced last year following investment from private sources and the UK government, has the potential to be a huge revenue driver, despite significant upfront costs. But this "new markets" division has not yet generated any revenue of note, while operating losses have more than doubled to £48m. The latest development here is that the company has shortlisted six potential sites for a factory to build the reactors.
Bosses maintain guidance
At the end of Q1 Rolls-Royce said that trading was in line with expectations – today, that guidance was maintained on the basis that business activity in civil aerospace will continue to improve.
Overall, however, today’s half-year numbers are somewhat disappointing. Although progress is being made in civil aerospace and power systems, the deterioration in margins is concerning. It's an issue that new CEO Tufan Erginbilgic will need to get to grips with when he replaces Warren East at the start of 2023.
In the longer term, there is room for optimism, especially given the potential of the new markets division. However, investors appear to be running out of patience, if today’s share price tumble is any indication.
Shares stuck in a range
Since early April, Rolls-Royce shares have traded sideways within a range of 80-100p. The stock hit an 18-month low ahead of the release of Q1 results in May, but have performed much better since then, albeit within that confined range.
The various problems affecting civilian air travel this year have meant that an expected revenue rebound has been slow to materialise. Long-term flying hours in Q1 were 42% higher than a year earlier, although the year-ago period set quite a low bar.
Rolls-Royce has been making progress, but may need to move faster to keep shareholders onside. In May, the company announced a deal with Qantas to supply 12 Trent XWB-97 engines to power 12 A350s, along with a service agreement for those engines. These engines, which are made in Derby, are said to be capable of powering non-stop flights between London and Sydney.
Meanwhile, the sale of ITP Aero for £2bn was completed this week, with Rolls-Royce likely to use the proceeds to pay down its debt, which currently sit at £5.14bn.
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