Rolls-Royce set out a new growth strategy today along with ambitious medium-term goals in a capital markets day. The engine manufacturer has set mid-term targets that would deliver record performance, with operating profits targeting between £2.5bn-£2.8bn, with an operating margin of 13-15% – a significant upsize from 2023 current full year guidance of £1.2-£1.4bn underlying operating profit and a 9.7% operating margin. Rolls-Royce Civil Aerospace unit has the biggest step change, improving from a 2.5% operating margin in 2022 to 15-17% over the mid-term. The team is also predicting a return on capital of 16-18% and returning to investment grade rating.
Turfan Erginbilgic, chief executive officer of Rolls-Royce, said that the financial targets were “compelling and achievable” for the mid-term that would “take Rolls-Royce significantly beyond any previous financial performance”. He added that the targets are based upon the company’s expectations for a 2027 timeframe, and that they “expect a progressive, but not necessarily linear, improvement year-on-year, and if we can accelerate the achievement of our ambitions we will”.
Among the major headlines from today’s meeting for civil aviation was the indication that Rolls-Royce could enter the narrowbody engine market, leveraging off its UltraFan programme; and that the company would seek to exit the electric flight market with the sale of its Advanced Air Mobility capabilities.
Erginbilgic announced that the company would target raising between £1bn-£1.5bn in a broad asset disposal programme to take place over the next five years, which would include divesting electric flight capabilities. “For example, for Rolls-Royce Electrical we are looking at options to exit in the short run or alternatively – for the right value – to reduce our position to minority with an intention to exit fully in the mid-term,” he said. “We believe, given the world-class capability we have built in Advanced Air Mobility, that this will represent good value to a third party and will allow us to focus on our core electrical engineering activities in Power Systems, Defence and Civil Aerospace.”
In a Q&A session held towards the end of the day, Erginbilgic clarified this position in more detail: “We have great growth opportunities in our core businesses…and we need to actually allocate our resources more effectively… we believe we have built very good capability in advanced air mobility [and] we believe it is will be of a better value tto a third party,” he said. He had however that the manufacturer was not ruling out the potential for hybrid electric flight, specifically for regional aircraft. “We are actually working on [a] hybrid solution in regional setup and that [is] already [an] established business.”
A core pillar of Rolls-Royce’s new strategy involves leveraging opportunities by creating new partnerships ‘that will create truly winning positions’, the development of a narrowbody engine would be part of such a new partnership with an airframe manufacturer.
Although Erginbilgic was clear that the focus of its civil aerospace business remained the widebody commercial airline market and business aviation where it can work to leverage the value from the Trent and Pearl engine families while investing for the future with the UltraFan engine programme, it could look to growth in the narrowbody sector. Erginbilgic stated in his speech: “In Civil Aerospace, we believe we are well positioned to re-enter the narrowbody market, by choosing a partnership approach for the next new engine programme, and our UltraFan technology is a vital step towards this.” Erginbilgic expanded on this announcement in the Q&A session noting that the narrowbody engine segment was a duopoly with very high barriers of entry but one that Rolls-Royce was probably the only company that could enter this market but he tempered that by adding: “We will not do anything that is not going to bring profitable growth. We don't need to enter narrowbody. It is an opportunity. And given there are only a few [other engine] companies, I believe it can be profitable place.”
With the Civil Aerospace division tasked with achieving the highest growth rate under the new mid-term targets, another of the main strategic initiatives announced today involve “six levers” to improve widebody Long Term Service Agreement (LTSA) margins by: extending time on wing, lowering shop visit costs, reducing product costs, keeping engines earning, implementing a new value-driven pricing strategy, and driving rigour on contractual terms and conditions. Rolls-Royce added that time and material, spare engines and original equipment also contribute to improving profitability.
Speaking at the event today, Rob Watson, president of Civil Aerospace, recognised that the targets for the business were ambitious but achievable with the execution of “granular focused plans” that would “underpin profitability” and transform the business into a “simpler and more efficient operation”. Watson explained that the demand for the Pearl Engine family in the business aviation market was growing with aircraft deliveries expected to be up by 9% per year over the midterm and that the noted improvements driven by the six levers in the widebody sector would help drive profitability further. He added that thanks to the work to drive efficiencies, the sector was already seeing tangible results with the operating margin for the half year 2023 “already double digit” with “clear plans to continue to build on that progress for the midterm”.
The forthcoming issue (No.76) of Airline Economics magazine will contain a more detailed analysis of the Rolls-Royce capital markets day announcements.