A Look At Rolls-Royce Holdings

Rolls-Royce’s IMS has followed the usual pattern of maintaining the guidance set out at the interims, despite a small negative revenue impact in Marine as a result of the timing of deliveries. With the strategy supported by long-term investment and a visible pipeline of deliveries, particularly in civil aerospace, the group is well set to deliver sustained profitable growth over the next decade. Further opportunities to enhance margins are provided by continued process improvements in manufacturing, new facilities such as Seletar and the inclusion of Tognum to enhance the Marine and Energy businesses. With a stable strategy focused on long-term returns, we believe Rolls-Royce warrants its premium to the wider aerospace and defence sector.

IMS In Line With H1 Guidance
The IMS was typically conservative, with guidance maintained as delivered at the interims despite a small negative impact on Marine revenues from delivery phasing. Given the concerns aired by some peers regarding volatility in civil aftermarket revenues, we feel this is a positive announcement and it highlights the benefits of the smoothing effects of Rolls’ long-term contracting approach. New orders were won since the interims, including to engine 20 A350 and five A380 aircraft for Singapore Airlines and the US Navy’s Ship to Shore hovercraft programme, highlighting that even in the tight defence market, opportunities continue to present themselves.

Strategic Developments Continue
The announcement also highlighted some key developments that support the ongoing investment programme. The group’s first US defence operations centre opened in Indianapolis, providing a route to expand long-term military service contracts, and the first Trent assembled and tested at Seletar was unveiled by the Duke and Duchess of Cambridge in September. This paves the way for the ramp up of the facility to meet future demand that will effectively double Trent capacity worldwide.

Valuation: Long-Term Value Play
We continue to view Rolls-Royce as a sustained long-term value play. While the current rating of 13.4x CY13 EPS sits at a 27% premium to the wider UK A&D sector, we believe that this is justified by the long-term, sustained and visible growth profile of the group. We therefore consider a DCF-based approach as appropriate, yielding a fair value in excess of 1,000p per share.

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