"It's not how I envisaged my first communication with the market," admitted new Rolls-Royce chief executive Warren East as, on his second day in the role, he delivered a profits warning covering the UK engine maker's core aerospace propulsion business.
"Even until the middle of last week, I was not imagining we would be talking so soon in my tenure," he added during a 6 July call in which he explained "headwinds" affecting the civil aerospace unit.
But with first-half results set to be released at the end of this month, the urgency for Rolls-Royce to break the bad news to the market was clear.
The numbers accompanying the fourth profits warning in under two years make for grim reading. Although revenue and profit forecasts for 2015 remain within guidance, the manufacturer is already seeing weakness in two core markets – the Trent 700 for the Airbus A330, and engines for high-end business jets – which will have a £300 million ($461 million) impact on 2016's profits. And, admits finance chief David Smith, that figure is likely to be repeated in 2017 as well.
Rolls-Royce's problem with the Trent 700 is twofold. Weaker demand for the current-generation widebody in the run-up to the arrival in 2017 of the re-engined A330neo is coupled with fierce pricing by the engine manufacturers to win positions on the remaining backlog.
While A330neos will be exclusively powered by Rolls-Royce's Trent 7000 engine, on the widebody's current iteration it faces competition from Pratt & Whitney and General Electric with their respective PW4000 and CF6 models.
"We are seeing the negative effects of a very successful outcome last year," says Smith, alluding to Rolls-Royce's selection by Airbus as sole engine provider for the A330neo.
Airbus has been attempting to bridge the gap to the arrival of the re-engined model, but with limited success so far. It has already disclosed plans for an output reduction from 10 to six aircraft per month from January next year, but has not ruled out further rate falls. "The commercial situation is very keen," says Smith, "and clearly [Airbus] and the engine manufacturers are seeing the impact of that."
Deliveries of Trent 700s – including both original equipment and higher-margin spare engines – will drop this year by nearly a quarter, to around 140 from 184 in 2014, says Smith, who forecasts an additional cut to 80-100 in 2016 and 2017.
There are still engine campaigns up for grabs, says Smith, "but we don't know how many we will win". Flightglobal's Ascend Fleets database records that there are currently 87 A330s on order or covered by tentative agreements where no engine selection has been made. An additional 75 covered by a recent memorandum of understanding with China are also yet to have engines assigned.
Rolls-Royce's share of the in-service A330 fleet is around 60%, rising to 84% for firm orders, but with such keen pricing there is no guarantee this will be replicated across the remainder of the backlog.
"Pricing is a big factor here, and that's where all of us underestimated the impact as we thought about it," says Smith.
However, audibly frustrated analysts repeatedly asked how Rolls-Royce could have read the tea leaves so badly in what is meant to be its core area of expertise, particularly for an engine that Smith calls "one of its most successful ever".
"The Trent 700 is a very difficult area for us to assess," he admits. It is reviewing the potential market "airline by airline", he says, describing it as "a quite uncertain environment".
Richard Evans, senior aerospace analyst at Flightglobal consultancy Ascend, says the Trent 700 has become "almost the default option" on the platform and as a result Rolls-Royce has grown used to a certain level of revenue and profit on engine. "But now we are at the tail end of the programme and everybody is fighting over what's left."
While the medium-term outlook for Rolls-Royce is unclear, East remains confident in the "outstanding long-term prospects" for the business.
Central to that, he argues, is the move from around 30% of the installed engines on widebodies to 55% in the future, with the Trent XWB, 1000 and 7000 at the forefront. Indeed, says Smith, the Trent XWB promises to deliver around double the cash margin of the Trent 700.
Further out, there is likely to be the opportunity to additionally grow Rolls-Royce's share of the widebody segment if Airbus launches a re-engined version of its A380. However, despite admitting its interest, Smith is adamant that it will only participate in the programme "if we see a clear business case".
That rationale, says Evans, may be difficult to establish. "I find it difficult to see how you can make an incremental business case," he says. "If it happens at all, it will be with a Rolls-Royce engine, but it depends on what level of performance is required.
"Developing an all-new engine costs a couple of billion dollars. If you think the incremental market is only a handful of aircraft and the only one buying it [Emirates] drives the keenest price you have ever seen, I'm not sure how you square that circle."
Source: Cirium Dashboard
