With the Rolls Royce share price plummeting what might be next for the group?

With shares in Rolls Royce (LSE: RR) now at around 735p, down from a high of near 1,000p in the last 12 months, 2019 hasn’t been the best year for shareholders in the highly regarded engineer.  

The share price has been battered by problems of Rolls Royce’s own making. There have been repeated negative updates about the financial and operational impact of faulty Trent 1000 engines fitted to Boeing 787 Dreamliner aircraft. The issues with the engines have been going on since 2016, so the problem is ongoing and quite severe. Roll Royce has had to earmark at least £1.6b so far to deal with the problem.

Feeling the heat

The underperformance of the shares has bought about the wrath of an activist investor. The US investor group Harris Associates has taken a 5% stake in the company.

On its website, the firm says it looks for companies that are trading at a significant discount to what they are worth. “These businesses must offer significant profit potential and be run by managers who think and act as owners,” it says. It’s currently unclear what the investors will push for, but with a significant shareholding, their demands are likely to be heard soon.

CEO’s turnaround

Under the leadership of Warren East, one of the key themes at Rolls Royce has been his restructuring. He has complained, since joining from ARM Holdings, that the engineer is too complex and cumbersome due to layers of management bureaucracy.

To deal with this, the group aims to have cut its headcount by 4,600 by 2020. The plan will remove 10% of the workforce, targeting duplication in corporate, administration, and management roles to try to save £400m a year by 2020.

If the restructuring can be done well, then it may be a catalyst for boosting the shares down the line, but for now, it seems to be making little difference to investors’ perceptions of the group.

The numbers

The results from August showed that overall, the group is doing well financially – despite the downward momentum of the share price. The largest division, civil aerospace, saw revenue increase to just over £4b.

The core business overall grew revenues by 7% and operating profit by 32%. The gross margin also rose by 0.4% versus the year before. Previously, the group had swung to a loss of £2.9b. This was down from a profit of £3.89b the previous year.

The next big news from the group comes early next year. On 28 February the engineer will release its 2019 full-year results and it has already revealed these will be at the lower end of expectations. I’d expect that until the issues with the Trent 1000 engines are resolved – and that’s unlikely until 2021 – and the company can sustainably and consistently grow profits, the share price will remain under pressure.

Longer-term, the restructuring of the group should make it leaner and more profitable, but it’ll take a while for the improvements to filter down to shareholder returns and to be reflected in the share price.