Restoring power and cash flow growth
Management's update on 24 November provided a roadmap to restoring credibility in Rolls-Royce (L:RR)'s investment case in the medium term, and as such focused on cash flow growth. This should be driven by the rising installed base of Trent aircraft engines. That element is unaltered no matter which accounting wrapper is applied to returns, and despite the near-term collapse in cash generation arising from weak marine returns, legacy programme reductions and high investment levels
Core investment thesis remains
As we stated in our previous note, the long-term nature of the civil engine model is at odds with the short-term, returns-driven appetite of the market. A meaningful investment takes a long time to generate first positive cash flows, and proving a business case can take more than a decade. As such, surrounding the core Civil business with other activities with differing cash dynamics has proven to largely be a positive for Rolls-Royce over the past 10 years. Unfortunately, a severe downturn in Marine cash flows has coincided with a flat period for Civil cash generation. The latter is the result of high ongoing investment in new engine programmes (Trent 1000, Trent XWB and Trent 7000), which should ultimately prove to drive cash growth from 2018 onwards. It coincides with the end of extended lives of high-margin, cash-generative legacy engines as more modern fuel efficient aircraft now enter airline fleets in increasing numbers, often after years of delay.
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