Rolls-Royce: new chief needs steadier engine for long-term growth

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Restructurings at Rolls-Royce are a bit like British trains. There are plenty of them but they do not always reach their destination. 

The failure of past turnarounds does not bother Tufan Erginbilgic. Nine months in as chief executive, he is going full steam. In his latest move, Rolls-Royce will cut up to 2,500 jobs, 6 per cent of its workforce. 

Markets have expected cost reductions. Its shares are up more than 115 per cent this year. To maintain this rally, Erginbilgic must prevent costs from creeping back in. Just as important, he must set out where future growth lies.

Its three core businesses — civil aerospace, defence and power systems — largely operate as fiefdoms, with their own finance, legal, human relations and marketing staff. Power systems, which makes diesel engines for trains and ships, especially needs better integration.

The job cuts could strip out between £175mn and £215mn of costs, an amount largely expected by investors, says UBS. That would explain why Rolls-Royce has kept its full year £1.2bn-£1.4bn underlying operating profit guidance, which was upgraded in July. Analysts expect Erginbilgic to hit the top of that range, according to Visible Alpha estimates.

A stronger than expected post-lockdown bounce in air travel helps. Profitability at the core civil aerospace division is at the highest level for at least 15 years. An operating margin of 12.4 per cent still trails rival General Electric’s at 19 per cent.

Erginbilgic has promised to set out longer-term plans next month, a bigger test. For example, a move back into the higher volume single-aisle aircraft engine business would require a partner to scale up production.

There is more to do. Rolls-Royce still has about £1.4bn of unprofitable contracts it seeks to renegotiate. Also, Erginbilgic could trim some lower margin units, such as the power systems’ agricultural business. The Rolls-Royce share price run suggests investors will require more than this to trust that his restructuring avoids getting stuck in the sidings.