Backed by a rigid plan to improve performance across all activities, Rolls-Royce first half year results have provided investors with strong evidence of good progress being made just as they also present a message from the company of increasing confidence.
Importantly, full year guidance on operating profit given at the time of the FY17 results announcement of £400m +/-£100m are unchanged just as is guidance on free cash flow which remains in the range of £450m +/-£100m. Transparency is writ large throughout these results with analysts provided with clarity and information that in the past they could only dream of.
Guidance on free cash flow at Rolls-Royce is hugely important and in reiterating cash cost expectations of about £450m this year, these in relation to the in-service cost issues of the Trent 1000 engine problems and ongoing customer disruption, believing that it now has a clearer visibility in regard of costs likely to be incurred , Rolls-Royce said this morning that it anticipates costs related to Trent 1000 issues are likely to remain the same as those being incurred this year this year, before declining by at least £100m in 2020 and falling away significantly after that.
Despite this and the need to have taken an overall £554 million exceptional charge in relation to the Trent 1000 issue, the company still expects to deliver an improvement in 2019 underlying core free cash flow compared to our guidance for 2018. This is hugely important and the company has also confirmed this morning a firm belief that it remains well placed to exceed free cash flow of £1 billion by 2020 as it pushes forward toward a mid-term ambition for free cash flow per share to exceed £1 per share.
As to the actual first half results for the period to June 30th, revenues increased by 14% to just over £7 billion for the half year driven by strong growth in Civil Aerospace and continued ramping up of delivery of wide-bodied engines. The Power Systems division also benefited from revenue increases in almost all of its markets, including rail, marine and mining. Because of this, underlying profits in Power Systems rose on higher volumes alongside a reduction in losses from Civil Aerospace. Defence was down a touch but while I suspect little change over the next year the longer term story for defence is one that in my view should be of increasing confidence. Underlying earnings per share came out at 3.1p against a (6.5p) loss last year. Traditionally second half weighted in respect of free cash flow, the company ended the period in a net cash position of £165 million.
Restructuring on the scale envisaged by Warren East following his arrival at the company exactly three years and one month ago on July 2nd 2015 was never going to be easy in a company of this size and scale. But, with an attitude and approach best described I suspect as being one of relentless determination to succeed, the benefits of rebuilding the company from a top down approach are now increasingly visible through slowly improving performance.
There is of course still a very long way to go yet and various obstacles to progress yet to be fully overcome but the combination of actions, consistency and transparency now evident within Rolls-Royce are in my view to be taken as real markers for a positive future.
Transparency is hugely important in this day and age but of the above qualities that Rolls-Royce is further demonstrating today are a mark of consistency of messaging, of a company saying what we means and doing exactly what it says it intends to do as being the most important in the story of change going on at Rolls-Royce.
From CEO Warren East the message this morning was that “Rolls-Royce is at a pivotal moment in its history. After a long period of significant investment and innovation, we are poised to become the world-leader in large aircraft engines. Now we need to deliver the fundamental changes that will enable us to realise the potential of our position, delivering improved returns while continuing to invest in the innovation needed to realise our long-term aspiration to be the world’s leading industrial technology company. Our new business structure and drive for greater pace and simplicity, combined with our growing installed base, means we are well placed to exceed free cash flow of £1bn by 2020 and push towards our mid-term ambition for free cash flow per share to exceed £1.”
On progress in respect of restructuring Rolls-Royce said in its statement this morning that “Since our initial announcement on 17 January 2018, we have made progress with our plans to simplify the Group into three customer-focused business units. Our new Defence business has been formed by combining both our Naval and Submarine businesses with Defence Aerospace; Civil Nuclear has been moved into Power Systems; we successfully completed the sale of L’Orange and announced an agreement to sell Commercial Marine. While we are determined to establish a strong foundation for the future of Rolls-Royce, we are also acutely aware that this restructuring will impact 4,600 colleagues. Restructuring efforts are now focused on removing duplication and fixing the inefficient processes and interfaces across our business. All parts of the business will be managed under a radically simplified structure, alongside an operating framework that clearly outlines roles and responsibilities”.
I will leave it at that and look forward to further progress being made in the second half. I will however remind of what Ian Davis, chairman of Rolls-Royce saying after announcing that Warren East was to become CEO – “he is an engineer by training, has a deep understanding of technology and of developing long-term partnerships and that he has proven strategic and leadership skills in global business together with a strong record of value creation”. To that I say that Warren East is certainly all that and a lot more besides.
CHW (London – 2nd August 2018)
Howard Wheeldon FRAeS
Wheeldon Strategic Advisory Ltd,
M: +44 7710 779785