Rolls-Royce Group PLC (RR.)

[funduffer]

As an ex-employee of Rolls-Royce Group (that is the aero-engines, not the luxury cars), it is saddening to see how the pandemic has impacted this great company. I have a significant number of RR shares from my time in employment.

Anyway, a rights issue is imminent, assuming it is passed at the Shareholders meeting later this month on the 27th October.

https://www.rolls-royce.com/investors/r ... untry.aspx

The deal on offer is 10 shares for every 3 held, to raise over £2bn.

The 3 options will be:

1. Buy some/all of the rights on offer

2. Sell some/all of the rights and buy RR shares with the proceeds.

3. Sell your rights

New shares under the issue will be 32p each, with the current share price being £1.80. I am not sure how these 2 values relate at this stage. If £1.80 is the market value of RR, then it would seem option 1 is a good option. Buy shares at 32p, then keep or sell later at a profit.

Option 2 only makes sense if the share price after the event drops to less than 32p.

Option 3 is money in the bank. But what price will the rights sell for? Will it be nearer to £1.80 or 32p?

Any ideas on how this story is likely to unfold, based on similar rights issues?

FD

[AsleepInYorkshire]

I don't know a great deal about this business. You're probably already aware of the headwinds facing the aircraft engine design and manufacturing part of the company and the potential timelines that a recovery in this particular sector may play out over. In your position I'd want to understand what threat (if any) the need to reduce Co2 emissions from air travel will impact (negatively) upon the current Trent engines which I believe are the main stay of Rolls Royce's offering.

If the technology used in the Trent engines is going to become redundant or obsolete in the short term there may well be a pressure on RR's ability to research, design and deliver a replacement engine. There could be a demand for additional cash (at best) or a part of the business which perhaps passes into history in the near future?

The above notwithstanding any short term transaction profits you feel you could make of course.

AiY

[GrahamPlatt]

The calculation goes something like this:

If the shares you currently hold are valued at £1.80, then 3 = £5.40
and you buy 10 shares at 32p, you give £3.20 to the company
So now, 13 shares in the company should be “worth” £8.60
So the post-RI sp should 8.60/13 = 66p.
The rights should sell at something between 32 & 66p.
After the RI the three you still hold ought only be worth £1.98, so to be left equal, you should get at least £5.40-£1.98 for your rights; £3.42. Implying that a fair price for the rights is about 34.2p, but given that someone buying the rights is expecting them to be worth 66p, they’ll probably go for more.
This is how it panned out with the recent WTB RI.

[Dod101]

This is a hugely discounted rights issue though,10 rights for every 3 shares held? Existing holders are going to be very heavily diluted if they do not take up the rights and it seems to me that as well as doing an estimate of the financial outcome as per the OP, you need to think about whether the option of selling the rights is worthwhile because you are going to be left with a very much smaller share in the company than you currently have. The options here are almost take up the rights or sell the lot.

That is how would be looking at it anyway. Coupled with the disaster that is the current aviation industry I think I would simply be getting out. I appreciate though that you may well have a sentimental attachment to RR and you may have a good idea what sort of timescale RR is working to or at least better than mine. My simple mind would say that airlines are not going to need new planes for a while and in any case do not have the money until the operational side returns to some sort of normality. In other words, I would need to see a very good case by RR for the returns likely from the new capital that they want to raise.

Dod

[funduffer]

The calculation goes something like this:

If the shares you currently hold are valued at £1.80, then 3 = £5.40
and you buy 10 shares at 32p, you give £3.20 to the company
So now, 13 shares in the company should be “worth” £8.60
So the post-RI sp should 8.60/13 = 66p.
The rights should sell at something between 32 & 66p.
After the RI the three you still hold ought only be worth £1.98, so to be left equal, you should get at least £5.40-£1.98 for your rights; £3.42. Implying that a fair price for the rights is about 34.2p, but given that someone buying the rights is expecting them to be worth 66p, they’ll probably go for more.
This is how it panned out with the recent WTB RI.

Thanks for this clear explanation, much appreciated.

I am tempted to sell the rights and hang on to my current shares, if I can get a price a bit above the 34p you calculated.

I am pessimistic about the future of aviation and Rolls-Royce. Even if the recovery from Covid is reasonably quick, there is the prospect of climate change. The company is having to reinvent itself anyway, but civil aviation is such a very large part of the company.

Quite honestly, if the government didn’t have a golden share, I could see it being sold for a song, asset stripped, and the aftermarket revenues from the current engine fleet being milked for the next 30 years or so.

RR.

[YeeWo]

My simple mind would say that airlines are not going to need new planes for a while and in any case do not have the money until the operational side returns to some sort of normality.

Your mind is far from simple! Airlines are only circa 50% of the RR business. Turbines, Diesel Engines, Military and Nuclear all in the portfolio. However even if Airlines aren't "going to need new planes for a while" the installed base of RR engines still generates significant revenues while being flown.

In other words, I would need to see a very good case by RR for the returns likely from the new capital that they want to raise.

This is the nub of the issue! My belief is that RR will still have business to be done in other products if no airplanes' ever take off again. Work on the basis it's lost 50% of it's business but 90% of it's value and things may appear different. Worst case scenario it'll be merged into BAE........

Disc : As I type RR is trading at 180p, 3.1% of portfolio held at an average price of 280p. I will participate in the RI fully on the basis things may look very different in 5 years time.

[monabri]

BAE might want some financial support to take on RR (and BAE is where I can see RR ending up).

RR.
http://financials.morningstar.com/ratio ... region=GBR

BA.
http://financials.morningstar.com/ratio ... region=GBR

Looking at the numbers, RR is a pretty poor business (low/ no operating margin). It might be a forced shotgun marriage. If I was CEO of BAE I'd be looking at the (very) likely reduction in overall ROCE from the contribution from the "new business unit" and checking to see what my bonus depended on!

For that reason, I'd be a bit reticent as regards BAE shares as it will be an unpleasant anchor for BAE.

[Dod101]

Well airlines may only be 50% of RR but that is what seems to have sent them on the skids. The other work is presumably continuing, but to need a massive rights issue like this and at these terms things are pretty desperate. I have not looked at the accounts but before taking up any rights issue in them I would be looking very carefully at their future plans. The fact is as I have said, current shareholders are going to be diluted to almost wipeout status and I think the FD who says he is thinking of selling the rights and hanging on to his current shares is probably lining himself up for the worst of all worlds. Unless of course BAE can come up with a knockout bid.

Dod

[dspp]

My simple mind would say that airlines are not going to need new planes for a while and in any case do not have the money until the operational side returns to some sort of normality.

Your mind is far from simple! Airlines are only circa 50% of the RR business. Turbines, Diesel Engines, Military and Nuclear all in the portfolio. However even if Airlines aren't "going to need new planes for a while" the installed base of RR engines still generates significant revenues while being flown.

In other words, I would need to see a very good case by RR for the returns likely from the new capital that they want to raise.

This is the nub of the issue! My belief is that RR will still have business to be done in other products if no airplanes' ever take off again. Work on the basis it's lost 50% of it's business but 90% of it's value and things may appear different. Worst case scenario it'll be merged into BAE........

Disc : As I type RR is trading at 180p, 3.1% of portfolio held at an average price of 280p. I will participate in the RI fully on the basis things may look very different in 5 years time.

RR is progressively exiting the diesel business, https://dieselprogress.com/rolls-to-she ... ess-31019/ as part of a longer term trend https://www.ft.com/content/bc3650c8-a72 ... 1d6de94879

The nuclear business struggles to find a raison d'etre outside the SSN/SSBN space, and I think that recent battery developments have killed any prospect of the small modular reactors ever coming to fruition (which point I have been making for over 20-years).

How much does RR actually make from civil stationary turbines, and how fast will that collapse ? Not much and quite quickly I suggest. And I don't think the civil LNG marine power will keep the bigger business afloat.

Which leaves RR in the same strategic quandary as BAe, a US-poodle on a short leash with none of the full-fat USA market opportunities, and increasingly excluded from EU workloads. Again this has been the direction of travel for a long time, but the edges are becoming harder and sharper. Shifting the RR-MTU design authority out of UK and into Germany was only one of the indicators.

RR is one of the leading aerospace engine companies, so it ought to have a future. However the current situation makes it very difficult for RR to access. One could see a bid from USA as being more likely, indeed one might find BAe at similar risk.

regards, dspp

[funduffer]

For further understanding, don't forget that RR divested it's mechanical drive and power generation aero derivative engine business to Siemens some time ago. It hasn't been a massive success. The industrial Trent packaged and marketed by Siemens, despite being a truly beautiful thing is undercut on price and sadly outperformed by GE (Baker Hughes) aero derivatives in that space.

RVF

Yes, RR only has 3 sectors now, having sold off industrial gas turbines and the commercial marine businesses in recent years:

Civil Aerospace - basically aero-engines on aircraft (large widebody aircraft, regional and business jets)

Power Systems - industrial diesels, civil nuclear

Defence - aero-engines, submarine nuclear power, naval marine gas turbines

They also own the Spanish aerospace company, ITP which they are trying to sell.

The prospects for Civil Aerospace look bleak, but if long haul flying recovers, there is a large, profitable aftermarket business for several decades to exploit.

Power Systems also look a bit vulnerable. Industrial diesels are unlikely to grow, and civil nuclear also unlikely to take off very quickly.

Defence is a stable, profitable business, maybe of interest to BAE.

The future doesn't look great to me at the moment.

FD

[funduffer]

Thanks, yes but I would go further and say that any civil nuclear business is a dead man walking (staggering). I see zero chance of RR ever establishing a viable long-term business in nuclear power. It's very much last century technology. (Much of) The world has simply moved on. Never thought I would say it but there you go.

It all depends on the UK government and it's commitment to becoming carbon neutral.

Rolls-Royce is talking about developing small modular reactors, much smaller than the giant monoliths at Hinckley etc. These would be built in 5 years and generate up to 440MW each. The SMR would be built on the reactor technology built into Trident nuclear submarines, which RR provide.

Here is RR's brochure on SMR's:

https://www.rolls-royce.com/~/media/Fil ... y-2017.pdf

Still not sure if this will take off or not - I remember discussing this when I was an RR employee some 20 years ago! It rather depends on whether the UK government want to kick-start it or not.

FD

[funduffer]

So the Rights Issue has now been approved, and the share price has collapsed to 85p, from over £2 a couple of days ago!

Using GrahamPlatt's calculations above, the Rights should attract a price between 12p and 44p, yet the new share sale price is 32p!

It would be sad if the Rights could only be sold for a price less than the sale price. Is this likely, or are the Rights more likely to be sold for between 32p and 44p?

Maybe it will sort itself out in the next few days

FD

[dredd0]

The rights are priced at 47.53p as I write, so the market is prepared to pay a pretty premium over the 32p to buy the shares. Still depends on your long-term view ofthe company and its markets. I will take up my rights I think, more in hope than certainty.

[Dod101]

This is of course the interaction between the market price for the original shares in issue, the price of the rights issue and the price of the rights. The only thing fixed there is the price of the rights issue. The other two prices will vary as demand for the original shares varies, and the 'collapse' has been caused by the very modest price for the new shares compared to the then market value of the original shares, and the dilution of the existing shares. At least that is how I have always seen it.

Dod

[Jam2Day]

I think there will inevitably be winners and losers in the current global mess that has been dubbed Covid-19. One should always try to read between the lines. Let's just say that pre the so called pandemic, Being were in it up to their eyeballs as a direct result of their own incompetence and negligence in the shortcut/penny pinching improvised development of the 737 'Max' after aircraft began falling from the sky. I very much doubt they are shedding too many tears over the current headless shenanigans we are witnessing around the world. Far from it, the much needed breathing space must feel like divine intervention, or some sort of intervention anyway. Not long ago, they were staring down the barrel of a very nasty crisis largely of their own making. Now, with the help of the big stick policies of the US government, regardless of administration, they have every opportunity of regaining some of their former status with interest, perhaps in the form of a renowned engine manufacturer that will certainly not receive any preferable big stick support from the snivelling and spineless procession of governments that preside over what remains of the UK. Don't get me wrong, bailouts are bad news and do no one any favours in the long run, but a level playing field is surely not unreasonable and too much to expect. It seems so. As for RR, some years ago I watched an interesting documentary on the development of the Trent engine. At the end of the programme I was both in awe and horrified. In awe of the dedication and commitment shown by the Derby community, from top to bottom, families deep. Yet I was horrified that such a sophisticated business seemed to be bordering on the archaic in an almost cottage industry structure of suppliers and subcontractors. The skills were never in question, it just felt one step away from a Heath Robinson scenario, with all that old school traditional English enthusiasm that we have seen struggle so often in an ever changing world, ironically typefied when one considers its original roots in arguably one of the most prestigious and famous brands of motor car in the world. RR needs a complete overhaul and I cannot see it happening under the existing regime in the UK unless we see radical change. Personally, I expect the share price go to around 20-30 pence in a flood of liquidity. I am not currently a shareholder but I will certainly consider buying if I feel there is a fighting chance this Bluechip company can once again find its feet and consolidate its position as one of the finest engineering outfits in the world.

[funduffer]

I think I am going for the cashless option (taking up Rights by selling some nil-paid Rights), as I don't want to take any money out, nor put any money in to RR at the moment.

Then sit and hold, and hope for a long term recovery.

Would rather invest my spare cash elsewhere at the moment.

FD

[funduffer]

So in the end I sold just under half my Rights for 33p, and will buy the rest with the proceeds at 32p.

Not sure if this is a good deal or not, but it is done.

FD

[Dod101]

So in the end I sold just under half my Rights for 33p, and will buy the rest with the proceeds at 32p.

Not sure if this is a good deal or not, but it is done.

FD

Swallowing the tail, which seems to me to be as good an idea as any given the uncertainty over the whole situation. Now just sit back and await developments.

Dod

[dredd0]

Taking up all my rights. Let's compare in a couple of years.

[funduffer]

Taking up all my rights. Let's compare in a couple of years.

Good luck.

I am a loyal ex-employee, but I already have a fairly big stake in RR, and would prefer to invest elsewhere at present, hence my tail-swallowing!