Rolls Royce Holdings Management Discusses 2012 Results - Fixed Income Call Transcript

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Rolls Royce Holdings (OTCPK:RYCEY) 2012 Fixed Income Call February 14, 2013 8:45 AM ET


Mark Morris - Finance Director, Director and Member of Risk Committee


Michie Yana - European Credit Management Limited


Good day, and welcome to the Rolls-Royce Holdings plc 2012 Full Year Results Fixed Income Conference Call. Today's conference is being recorded.

At this time, I would like to turn the conference over to Mr. Mark Morris. Please go ahead, sir.

Mark Morris

Well, good afternoon, good evening, good morning wherever you are. I thought what I'll do is just maybe give a quick summary. I suspect most of you by now have seen the press release and maybe some of the presentations, maybe listened into the prelims analyst session we had this morning. So I'll just sort of pick out really a few things.

I think the first thing to say is that I believe it's been a good year for us. We certainly delivered on our guidance. The order book is up at GBP 60.1 billion against the backdrop of relatively uncertain macroeconomic climate, and of course, the order book is what gives us the visibility and confidence to continue investing to meet the rising load. Revenues were up 8% to GBP 12.2 billion, and core profit before tax was up 12% to GBP 1.26 billion, excluding Tognum and IAE, and I'll talk a little about those in a minute. Underlying profit before tax was up 24% to GBP 1.43 billion, including Tognum and IAE. So again, the effects there is sort of, in that total 24%, 12% from the core business and 12% from the recent transaction activity we've had with Tognum and IAE.

The key point really here is we've seen some margin progression, better margins, up to 12.2%, so that's a 1.5 percentage point progression. And you'll recall certainly that John and I are very focused on looking at cost and bottom line margin progression. Of course, we're a long-cycle business, so these things sort of don't happen overnight, but it was pleasing to see some movement in that area. Of that 1.5 percentage point progression, about 0.4% is from the underlying business and 1.1% is from the effects of -- trading effects from now Tognum and IAE. They do distort a little bit in the sense that because Tognum is equity accounted, it has no contribution to revenue, so therefore, sort of exacerbates part of that. But nonetheless, good performance, good progression.

You'll be aware that last year, we concluded the IAE transaction at the half-year, resulted in about a $1.5 billion of proceeds or GBP 940 million or so, which we took back in June and profits -- the one-off profits at the time of about GBP 700 million. With the revised trading arrangements, the guidance we gave back in 2012 was that we would expect to see about GBP 140 million for the full year or GBP 70 million for the half-year, which is, of course, when the transaction concluded, and we ended up with about GBP 92 million, so slightly better than we thought, really reflecting higher part sales and more profitable part sales, so slightly higher than the estimates that we had.

Tognum, you're aware, is a joint venture acquisition we've made with Daimler. That progresses, and it contributed last year GBP 77 million in terms of equity contribution to us, maybe profits. And as of this year, starting in January 1, we will look to consolidate Tognum fully into our accounts.

So I think that's the sort of background. Maybe I should just sort of summarize by saying that when I look across each of our segments, that sort of Civil and Defense had a good year and sort of more subdued performances from our Marine and Energy businesses, just reflecting shorter order cycles and more volatility around original equipment and the rates and pace at which customers are making those decisions and when they have made them, the pace at which they're then taking and paying for them.

But nonetheless, I think the trends look promising. For 2013, we've guided the market with modest revenue growth, good profit growth and cash flow around breakeven. And I guess, looking to -- most of the analyst commentary that we had this morning tended to focus around cash flow and certainly their perception, the lack of cash generation. I think it's sort of, first, important to say that we are where we are and where we've expected to be in the investment cycle. This is a long-term business. We've got a $60 billion order book, and we're developing -- delivering 2,000 Trent engines over the next 5 years. And just to put that into perspective, it's taken us 15 years to deliver the last 2,000.

So we're ramping up facilities to ensure we can meet the volume rise and deliver on our commitments to customers because that damages our reputation and gives us financial penalties if we don't, and of course, we need to be ahead of the curve. It's not just about building a few facilities that we've got in Singapore, in the U.S., the ones that normally get flagged out. There's continual refresh of our facilities as we implement modern working practices and look to restructure operations to be more efficient and help drive bottom line margin progression, so that's ongoing. As I've said, we've guided, back in 2012, breakeven. We've ended up with GBP 137 million inflows, so slightly better than where we thought we would be. But we continue to invest to meet the rising load.

I think, just turning quickly to Defense, a lot of surprise the Defense business had performed as well as it did. And again, we did guide the market last year that Defense would have quite a good year in 2012, driven by engine flying hours, predominantly from our transport sector and export sales opportunities. What I mean export sales, this sort of beyond our normal markets of the U.S. and the U.K. and some of the other NATO countries. We're generally taking product that was developed for our core countries and it's being now exported to other countries as well, and we generally make better margins on those.

Nonetheless, I think the defense landscape looks pretty uncertain as we look forward into 2013, lots of budgetary constraints and sequestration and so forth. And of course, accordingly, we're not immune from that. We expect to see lower opportunities, and we expect to see lower flying hours. And of course, on the back of that, we've guided that profits will reduce slightly, although from a higher base than which most of the market was starting from.

Energy, I think just briefly. I mean, this is a business where we have really a very good Oil & Gas business, and it generates about 2/3 of the turnover or almost all of the profits. But its performance is then dragged down by the investment we have in less mature and immature technologies that we've had in the power generation, Civil Nuclear as we seek to build that up and our tidal and fuel cells business, both of which now -- the tidal business has been sold, and we sold a 51% stake in our fuel cell business as we seek to focus on the key areas that we do want to grow. So as we look into 2013, we expect the Energy business to perform better, obviously less drags from having the 2 business effectively having been removed, lower R&D also from those parts as well. But of course, we'll continue to invest in Civil Nuclear.

So I think that's a quick sort of go round the houses of the segments. And not to try and take up too much of your time with stuff that you've already read, maybe I'll stop there and open up for questions.

Question-and-Answer Session


[Operator Instructions] We will now take our first question from Stephen Smith [ph] of Thomson Financial.

We will now move on to our next questioner, Michie Yana of ECM.

Michie Yana - European Credit Management Limited

My apologies because I didn't have a chance to listen to the earlier equity call, but 2 questions, if I may. Is it possible to give us a color on what implications you might have from the 787 being grounded? And my second question is -- again, my apologies if there were some slides on the appendix or in the reports, but can you just comment about any P&L and balance sheet implication from the change in the pension accounting?

Mark Morris

Right. So 2 questions. Let's start with the 787 first. The 787 grounding certainly, as it currently sits, will have minimal impact on us. If we just rewind ourselves for a second, this is obviously a relatively young program. There are only 22 of our powered aircraft currently in service. And just to put that in context, we've got about 12,000 civil aircraft engines in service, so 24 [ph] engines over 12,000 is a fairly small amount and of course, they're early into their days in terms of requiring overhauls and so forth. So the short answer is a sort of 1-month, 3-month, 6-month grounding has very limited impact to us in terms of loss of revenue and inventory buildup. And in fact, we continue to deliver engines to Boeing, and Boeing continues to produce 787 aircraft at the moment. I mean, obviously, to the extent that 6 months becomes a year or whatever, and we have no idea how long it will be, then, of course, it will start to have a small impact. I think related to -- I didn't quite catch all of it. Was it around pensions and implications?

Michie Yana - European Credit Management Limited

Yes. That's correct, yes.

Mark Morris

Sorry, what was the particular question? If you could just say it again a bit more slowly, I didn't quite catch it.

Michie Yana - European Credit Management Limited

I'm sorry. If there was any implication from pension accounting changes.

Mark Morris

Short answer, for us, is there have been some, but we strip them out of our underlying numbers because there's sort of revaluation effects. So when we think about pension is we think about sort of about 2 things. One is what is the cash contribution that the companies are making, and that's purely driven by the actuarial valuations that we have 3 every years. And then, of course, we have the accounting noise from IFRS. And there's been a number of changes that have happened over the last few years. So one of them was the move in the U.K. from RPI to CPI, which had some effects in terms of what we were recording. And secondly, there's been a change just recently on IAS 19. I can't remember the exact name of the part of it now, but it talks about using a AA discounted bond rate to effectively value both assets and liabilities, so the net deficit or the net surplus. Whereas, pre this change, most companies would value their assets on expected returns, while using the AA curve just for liabilities. And that was done for very good reasons. It was that it is quite easy for companies to artificially inflate their profits by whatever their estimations on what their return on assets. In our case, we have a pretty much matched asset and liability profile. We've moved progressively from equities, which were about 75% of the portfolio 10 years ago, to around about 12% now. And the rest is in what we call LDI, liabilities-driven investments, which pretty much correlate and match the underlying liabilities. So in effect, applying this accounting treatment has relatively smaller effect on us than it does on many others. But as I say, we strip any of those effects between our reported and underlying numbers out because, again, it's just sort of accounting noises, I'll call it.


[Operator Instructions] We have no questions at this time. [Operator Instructions] We have no further questions at this time.

Mark Morris

Okay. Well, maybe I'll just wrap up by saying thank you for attending the call. Like I said, we feel it's been a good year for 2012, and I think we sort of set the scene and tempo for 2013. So with that, I'll say thank you, and goodbye.


That will conclude today's conference call. Thank you for your participation, ladies and gentlemen. You may now disconnect.

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