RR - Rolls-Royce

[Guest Schwab711]

http://www.nasdaqtrader.com/content/technicalsupport/specifications/dataproducts/nasdaqfifthcharactersuffixlist.pdf

 

The 5th symbol in a ticker always has a defined meaning. The F mean it's priced in a foreign currency (not USD) and you will have some currency risk.

[rb]

Interesting writeup on seeking alpha

http://seekingalpha.com/article/3311125-rolls-royce-recent-dip-is-an-opportunity-long-term-outlook-remains-intact

 

It is really hard to understand the profitability here.

http://www.rolls-royce.com/news/press-releases/yr-2015/pr-29-07-2015-rr-signs-580m-totalcare-engine-support-agreement-with-vietname-airlines.aspx

 

340M Pounds for 14 engines. That's 24 M per engine. Assuming a 20% profit margin, it will be 4.8 M per engine profit. How long is this total care contract? 10 years? 20 years? That can change the valuation drastically. Does anyone know?

 

Assuming it is 10 years contract. Each year it will make 0.48 Million pounds per engine. There are 1500 engines sold. So that's 740 Million pounds per year profit. Giving it a 10 PE, and we get 7.4 Bn valuation. Today's market cap is 13 bn.

 

Is my assumption reasonable? Of course they have other lines of businesses, but not that profitable. It puzzle me as to why the author claims it is way undervalued.

 

I asked the article's author about totalcare revenue recognition today, he wrote:

"The company does not provide much detail on how revenue is recognized from TotalCare agreements. Given that, it is hard to give you an answer."

 

On the subject of pricing, he goes more into it in his previous article:

http://seekingalpha.com/article/3266845-rolls-royce-the-goose-has-laid-the-golden-engine

 

If it is hard to give the answer, then why can he comfortably claim RR is undervalued? Isn't totalCare contracts the major reason to invest in this annuity like business?

 

Typical total care contracts are about 15 years.

 

The life of an engine is 20-30 years. During that time the aftermarket revenue is about 3 times the price of the engine with a fat margin.

[sampr01]

Please can you help me out with why there is huge price difference between two

 

RYCEY: $64

RYCEF:$12.70

 

Which one is beneficial to hold. Thanks

[cubsfan]

Please can you help me out with why there is huge price difference between two

 

RYCEY: $64

RYCEF:$12.70

 

Which one is beneficial to hold. Thanks

 

The ADR RYCEY gives you 5 shares of RYCEF.

RYCEY is fairly liquid as well - I own RYCEY.

[rb]

Why don't you just buy RR in London?

[cubsfan]

Why don't you just buy RR in London?

 

I could buy the ADR and it's fairly liquid with no premium - was just easier directly via Schwab.

[sampr01]

Thanks cubsfan. I was thinking same but unable to find any info Thanks

[cubsfan]

Thanks cubsfan. I was thinking same but unable to find any info Thanks

 

Sampr - here you go:

 

http://www.rolls-royce.com/investors/shareholders/frequently-asked-questions/about-your-shareholding.aspx

 

7. Which Stock Exchange is the Company listed on?

 

The Company is listed on the London Stock Exchange. The Company’s ticker symbol is RR. Rolls-Royce Ordinary Shares are also traded “over the counter” in the United States in the form of a sponsored American Depositary Receipt (ADR) facility with The Bank of New York Mellon as the depositary. Each ADR represents five Ordinary Shares

[portfolio14]

Why don't you just buy RR in London?

 

Someone please corrects me if i'm wrong. I think you can avoid the 0.5% British stamp duty if you buy ADR instead of RR.L? And ADR is exempt from SDRT.

 

Besides, does anyone know what happens when Rolls-Royce distributes Class C preference shares as dividends if I hold ADR?

[portfolio14]

Typical total care contracts are about 15 years.

 

Where did you get this information?

 

By the way, the expiry of a TotalCare contract doesn't mean it's the end of the revenue. The engine still requires replacement parts even if it's serviced by 3rd party MRO. Parts have a 50-80% margin.

[rb]

Why don't you just buy RR in London?

 

Someone please corrects me if i'm wrong. I think you can avoid the 0.5% British stamp duty if you buy ADR instead of RR.L? And ADR is exempt from SDRT.

 

Besides, does anyone know what happens when Rolls-Royce distributes Class C preference shares as dividends if I hold ADR?

 

You're right you would save the stamp duty if you buy the ADR. I like generally like to own the underlying instead of the ADR because the ADR sometimes has some tax disadvantages but not in the case of UK companies. In RR's case I tend to be paranoid of unsponsored ADRs that don't trade on an exchange. I always imagine liquidity disappearing and other stuff like that. So I guess I pay the stamp duty as a bit of peace of mind. I tend to hold tings long term so it's not that big of a deal. But that's just me.

 

I regards to the C-shares for the ADR if I remember correctly RR covers that on their investor site. But even better get the ADR documentation and read that. It should cover everything. I'm pretty sure ADR administrator is BoNY.

[rb]

Typical total care contracts are about 15 years.

 

Where did you get this information?

 

By the way, the expiry of a TotalCare contract doesn't mean it's the end of the revenue. The engine still requires replacement parts even if it's serviced by 3rd party MRO. Parts have a 50-80% margin.

 

Can't remember exactly where I got the info re the 15 yr total care contracts. It was from one of the RR presentations or management calls. The engines have a life of 20-30 years but the initial care contracts cover 15. They still require parts after that but management didn't get into detail on what happens after the first 15. Maybe they do another Total Care contract for old engines or it moves to a pay as you go system for parts. What is clear is that there is after-market revenue after the first 15 years.

 

You are also correct that there is after-market revenue even if the engine is not under Total Care, but I think that the margins under total care may be somewhat higher and airlines pay that for the benefit of smoothing out cash flow. Also some services like real live tracking of the engines is not available if they don't buy total care.

[portfolio14]

Thanks rb.

 

If we look at RR's presentations, they seem to imply the cashflows from the TotalCare contracts will only catch up with recognised revenues after ~10 years. With such a long lag, the discount rate (i.e. time value of money) becomes a factor. I don't think RR does a NPV adjustment when they recognise the revenues. They only do an accounting sum. At least that's what I can see from their financial statements.

 

There is no further details in the financial statements to explain how recognised revenues can be reconciled to future cashflow. You got to wonder whether their accounting revenues are overstating their true econimcal earning power or not. I'm still scratching my head, trying to establish that.

[rb]

Thanks rb.

 

If we look at RR's presentations, they seem to imply the cashflows from the TotalCare contracts will only catch up with recognised revenues after ~10 years. With such a long lag, the discount rate (i.e. time value of money) becomes a factor. I don't think RR does a NPV adjustment when they recognise the revenues. They only do an accounting sum. At least that's what I can see from their financial statements.

 

There is no further details in the financial statements to explain how recognised revenues can be reconciled to future cashflow. You got to wonder whether their accounting revenues are overstating their true econimcal earning power or not. I'm still scratching my head, trying to establish that.

 

No, that's not the case. They used to have a presentation that went into detail on Total Care. I just checked and they seem to have taken it down - Beats me why. In that one they went over cash flows year by year and it was basically first few years really cash positive then year 3 or so dips back to cumulative negative then starts to grow again. I'm really mad right now that I didn't save it.

 

Regarding the accounting. These total care contracts are a nightmare and makes RR's accounting one of the most complicated I've seen. I don't want to dip into the statements right now. But I'm pretty sure the contracts have to be booked at the discounted value. RR reports under IFRS and they make you do that for everything.

[muscleman]

Why don't you just buy RR in London?

 

I could buy the ADR and it's fairly liquid with no premium - was just easier directly via Schwab.

 

Be careful about ADR fees though. Do you know the annual ADR fee on this one?

[rb]

Why don't you just buy RR in London?

 

I could buy the ADR and it's fairly liquid with no premium - was just easier directly via Schwab.

 

Be careful about ADR fees though. Do you know the annual ADR fee on this one?

 

I don't know cause I didn't bother checking due to my paranoia regarding non exchange traded ADRs. The fee should be in the aforementioned ADR documentation at the sponsor. Great point though.

 

Btw, I think that anyone buying any ADR should read the docs first.

[portfolio14]

No, that's not the case. They used to have a presentation that went into detail on Total Care. I just checked and they seem to have taken it down - Beats me why. In that one they went over cash flows year by year and it was basically first few years really cash positive then year 3 or so dips back to cumulative negative then starts to grow again. I'm really mad right now that I didn't save it.

 

Regarding the accounting. These total care contracts are a nightmare and makes RR's accounting one of the most complicated I've seen. I don't want to dip into the statements right now. But I'm pretty sure the contracts have to be booked at the discounted value. RR reports under IFRS and they make you do that for everything.

 

Very useful details. Many thanks. Would you have one of those old presentations handy?

 

I'm pretty sure the accounting breakdowns are not in their 2014 annual report, including the footnotes. I've just read through it this morning. Unless you are telling me in UK what they are filing with the regulators don't have to go into the annual reports.

 

p.s. They took them down: maybe because of the restating of the risk-sharing fees forced by FRC, so that the figures are no longer inaccurate?

 

[rb]

I'm sorry, I don't have it. I didn't save it. Kicking myself now for that. The pres wasn't that old. I think it was in 2014 and was on the site just a couple of months ago. I don't think it was a reg issue or the figures were wrong. It was more like a guideline of how the cash flows work over time. Not legal or anything like that.

[Phaceliacapital]

What exactly are your main questions surrounding totalcare contracts?

[portfolio14]

What exactly are your main questions surrounding totalcare contracts?

 

1. What discount rate do they use to recognise future cashflow as today's revenues? My gut feeling is 0%. (I think that's the IFRS standard but rb thinks it's not.) If so, accounting profit is overstating the actual earning power.

 

2. Is there a numerical example showing what the actual cashflow looks like for a single contract over its lifetime and how the revenue is recognised?

[portfolio14]

What exactly are your main questions surrounding totalcare contracts?

 

1. What discount rate do they use to recognise future cashflow as today's revenues? My gut feeling is 0%. (I think that's the IFRS standard but rb thinks it's not.) If so, accounting profit is overstating the actual earning power.

 

2. Is there a numerical example showing what the actual cashflow looks like for a single contract over its lifetime and how the revenue is recognised?

 

I think I found the answer to my question 1.

 

Accounting of Linked TotalCare is governed by IFRS IAS 11. Accounting of Unlinked TotalCare is governed by IAS 18. Deferred revenue is discounted to arrive at a "fair value".

 

http://www.accaglobal.com/an/en/student/exam-support-resources/fundamentals-exams-study-resources/f7/technical-articles/revenue-recognition.html

 

 

 

 

[NJL]

http://www.rolls-royce.com/~/media/Files/R/Rolls-Royce/documents/investors/results/presentations-and-briefings/2014-investor-briefing-totalcare-accounting-mark-morris-tcm92-57736.pdf

 

 

http://www.rolls-royce.com/~/media/Files/R/Rolls-Royce/documents/investors/results/presentations-and-briefings/rolls-royce-2014-investor-briefing-19-06-2014-transcript-tcm92-58286.pdf

 

 

Keep in mind that the new engines for the monopoly planes (A350, A330neo) will mostly be unlinked contracts.

[Picasso]

Anyone have thoughts on the weakness the energy downturn will have on Rolls Royce?  I want to invest alongside ValueAct on this one, but you have a few moving pieces that all need to work out and they are largely tied to energy.  There's no guarantee that they can or will unload the crappy business segments.  Unless there is a natural buyer who would benefit from those segments?  Otherwise RR will continue to announce disappointing earnings and this will erode all the activist gains.

[rb]

http://www.rolls-royce.com/~/media/Files/R/Rolls-Royce/documents/investors/results/presentations-and-briefings/2014-investor-briefing-totalcare-accounting-mark-morris-tcm92-57736.pdf

 

 

http://www.rolls-royce.com/~/media/Files/R/Rolls-Royce/documents/investors/results/presentations-and-briefings/rolls-royce-2014-investor-briefing-19-06-2014-transcript-tcm92-58286.pdf

 

 

Keep in mind that the new engines for the monopoly planes (A350, A330neo) will mostly be unlinked contracts.

THANK YOU SIR!

[KCLarkin]

Anyone have thoughts on the weakness the energy downturn will have on Rolls Royce?  I want to invest alongside ValueAct on this one, but you have a few moving pieces that all need to work out and they are largely tied to energy.  There's no guarantee that they can or will unload the crappy business segments.  Unless there is a natural buyer who would benefit from those segments?  Otherwise RR will continue to announce disappointing earnings and this will erode all the activist gains.

 

Actually, I have the opposite view. It seems like all of their businesses are at or near cyclical lows:

- defense aviation (hurt by sequester)

- wide body (temporary lull until Airbus ramps up new planes)

- business jets (not sure what is causing this weakness because low fuel prices should drive more usage)

- land and sea (low oil prices)

- high investment ahead of big order book

- weak margins in civil aviation

- FX impacts

 

Once you get past 2016, the order book for wide-body engines is so strong, the rest of the business is largely immaterial. If they can deliver on their order book and get their costs under control, this puppy is going to fly.