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Stock of the week: Rolls Royce

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Helal Miah, investment research analyst at The Share Centre, picks Rolls Royce as stock of the week.  

This week’s share of the week is engineering giant, Rolls Royce. The FTSE-100 listed company has gone through a difficult period in recent years, primarily down to the Marine division which was affected by the slump in energy prices, and along with weak demand from government sectors the group issued several profit warnings.

Subsequently, with new leadership in place, the group has made deep structural changes, removing layers of management. In January this year further changes were announced with the planned integration of several divisions to help save on costs and intention of offloading the Marine division. Further cost savings and restructuring initiatives were announced in June, including the shedding of nearly 5,000 jobs, mostly involving the corporate head headquarters in Derby and giving the three core businesses more independence.

The group’s 2017 results demonstrated the fruits of deep restructuring from a few years ago with revenues of £16.3bn, up 9%, which was well ahead of market expectations, while profits before tax up 25% to just over £1bn also surpassing expectations. The civil aerospace division, its largest, continues to be the division that drives the group’s fortunes with sales up by 12%; this is despite issues relating to engines where certain components have been wearing out quicker than expected.

For the additional servicing costs to fix these issues the management has recognised a £227m charge against profits. Other divisions have been relatively stable except their marine division which experienced a sales fall of 9%. However, some investors who expected an answer on whether this division will be spun off will have to wait further and the review is still underway.

At the capital markets day in June, the company laid out plans to save a further £400m a year with the aim of reaching £1.2bn of free cash flows by 2020 with the implication that dividends should return to historic norms. It also suggested that current cash flows were good and were running ahead of targets, sending the share price surging.

Partly as a result of the restructurings, the shares have staged a good recovery but we believe that there is more to come and therefore continue with our ‘buy’ recommendation for investors seeking a balanced return and willing to accept a medium level of risk.


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