Rolls-Royce’s New CEO Faces Challenges

By Richard Pettibone, Aerospace & Defense Companies AnalystForecast International

While the backlog of engine production will drive profits for years, Rolls-Royce is looking to adapt its operations for a new era – and a change in leadership is on the way. Effective this July, tech industry veteran Warren East will replace CEO John Rishton at the helm.

This announcement comes in the wake of lower earnings in 2014. Rolls-Royce’s sales fell six percent to GBP14.6 billion compared to GBP15.5 billion in 2013.  Net income also declined, from GBP 1.38 billion in 2013 to GBP1.23 billion in 2014.

The declines were attributed to deteriorating economic conditions and a tightening of Russian trade sanctions over the course of the year.  With concern that this trend will continue, Rolls-Royce initiated a restructuring plan that will see a total of 3,000 jobs cut across its business lines – with a warning that more cuts may be coming in the future.

The majority of the cuts will be in the aerospace sector where engineering requirements have declined following the development phases of the Trent 1000 and XWB engines.  With those programs now in the production phase, the large development groups can be disbanded. In addition, new, more efficient facilities have been opened in the U.S. and U.K. that should boost productivity and improve the firm’s competitive position.

According to Chairman Ian Davis, incoming CEO East has a “deep understanding of technology and of developing long-term partnerships. He has proven strategic and leadership skills in a global business and a strong record of value creation.”

The board hopes that East will be able to capitalize on his research and development acumen in pushing Rolls-Royce forward.  These skills will be put to the test as the company seeks to develop next-generation gas turbines to succeed the Trent program.

One of the vulnerabilities facing the company is that its current programs focus on widebody aircraft, while the market wants narrow-bodied planes. In the widebody market, engine manufacturers are tweaking existing designs to deliver improved performance rather than pursuing clean sheet development.

Rolls-Royce did have a foothold in the narrowbody market via its shareholding in International Aero Engines (IAE). However, it sold its stake to Pratt & Whitney for $1.5 billion. With the narrowbody market forecast to be strong in the years ahead, Rolls-Royce will be focusing on developing new technology.  The question now is whether the firm will go it alone or look to partnerships on such a project – both are areas in which incoming CEO East has expertise.

Looking ahead, services and support are expected to become avenues of growth for the company.  Both the U.S. and the U.K. are expanding the use of professional service providers to supplement their armed forces – so much so that operations and maintenance budgets are expected to rival production budgets.

As it comes under new leadership, the company’s $114 billion backlog should give it a little breathing room to reset itself for coming changes.

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