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Price: $17.85
Discount category: Close to intrinsic value
Next earnings: 2027-02-25
Next earnings is estimate: Yes
Company name: Rolls-Royce Holdings
Sector: Aerospace & defense
About: Rolls-Royce makes engines and power systems. Civil Aerospace makes Trent engines for wide-body aircraft and engines for business jets, and it earns most of its profit from service contracts that pay per flying hour. Defence makes engines for military aircraft, ships and submarines. Power Systems sells mtu engines and generators, including backup and prime power for data centers. Rolls-Royce SMR develops small modular nuclear reactors. In the first half of 2026, underlying revenue was £11.3 billion and the underlying operating margin was 22.5%. The shares trade in London. The US ADR trades over the counter, and one ADR is one ordinary share. The company reports in pounds sterling.
Thesis: The market doubts that Rolls-Royce can keep its higher profit for many years. Profit rose fast after the company changed its service contracts and cut costs, and investors fear that the gains will slow. Cash from service contracts grew less in the first half of 2026: the net increase of long-term service balances was £86 million, against £472 million a year earlier. Large engine flying hours now trend to the lower end of the 2026 range because of the conflict in the Middle East. Engine durability and the supply chain are still problems. For the gap to close, three things must be true. Rolls-Royce must deliver its raised 2026 guidance of £4.7 billion to £4.9 billion of underlying operating profit and £3.8 billion to £4.0 billion of free cash flow. It must show a path to its 2028 targets of £4.9 billion to £5.2 billion of underlying operating profit and £5.0 billion to £5.3 billion of free cash flow. The durability program must double time on wing for engines in production by the end of 2027. The trading update on November 12, 2026 and the 2026 full-year results in February 2027 give the next tests. If these pass, the gap can close within one to two years.
Risks: Civil Aerospace earns most of its profit from flying hours of wide-body aircraft. A recession, a pandemic or a war that closes air routes can cut flying hours and cash. In 2026, the conflict in the Middle East moved flying hours to the lower end of the range. Some Trent engines need shop visits earlier than planned. If the durability program does not double time on wing by the end of 2027, service costs and customer claims can rise. Profit rose fast after new contract terms and cost cuts. If these gains stop, profit can grow more slowly than the 2028 targets require. The aerospace supply chain is still weak. The company expects a cash cost of £150 million to £200 million from it in 2026. Rolls-Royce SMR needs large investment, and nuclear projects often have delays. Costs can rise before the reactors earn revenue. Rolls-Royce reports in pounds, and the ADR trades in US dollars. A weaker pound lowers the dollar value of the ADR.
Balance sheet: Cash: £6.5B Debt: £2.7B Net cash: £3.8B Undrawn credit line: £2.5B, to December 2030 Debt due within 12 months: £4.0M Last debt due: 2036 Ratings: Moody's A3 (stable outlook), Fitch A- (stable outlook), S&P BBB+ (positive outlook) Rolls-Royce had net cash of £2.136 billion at June 30, 2026, up from £1.895 billion at December 31, 2025. Net cash includes lease liabilities of £1.656 billion and the fair value of swaps. Cash and cash equivalents were £6.484 billion, and borrowings were £2.651 billion. In the first half, the company repaid €750 million and £375 million of notes, and it issued €1 billion of bonds that mature in 2031 and 2036. The £2.5 billion revolving credit facility is undrawn and matures in December 2030, so liquidity was £9.0 billion. Moody's rates the company A3 and Fitch A-, both with a stable outlook, and S&P rates it BBB+ with a positive outlook. The company plans buybacks of £7 billion to £9 billion from 2026 to 2028 and had completed £1.4 billion of the £2.5 billion for 2026 by July 30, 2026. As of 2026-06-30.
Checkpoints: Nov 12, 2026: Trading update: 2026 guidance. Pending. Watch: A kept or higher 2026 guidance for profit and free cash flow passes; a lower guidance or a weaker flying-hour outlook fails. Feb 25, 2027 (estimate): 2026 full-year results and 2027 guidance. Pending. Watch: Underlying operating profit of £4.7 billion or more and 2027 guidance on the path to the 2028 targets pass; results below the 2026 guidance fail.
Recent events: 2026-10-13: Rolls-Royce said that Avolon ordered 70 Trent 7000 engines. 2026-09-28: Rolls-Royce said that it will invest £300 million in UK manufacturing and engineering facilities for aerospace and defence. 2026-07-30: Rolls-Royce reported first-half 2026 results. Underlying operating profit rose 46% to £2.5 billion, with a margin of 22.5%. Free cash flow was £2.0 billion, up from £1.6 billion. Underlying earnings per share were 22.17 pence. Net cash was £2.1 billion. The company raised its 2026 guidance to £4.7 billion to £4.9 billion of underlying operating profit and £3.8 billion to £4.0 billion of free cash flow. In the first half, Moody's raised its rating to A3 and Fitch to A-. The interim dividend is 6.0 pence per share. 2026-02-26: Rolls-Royce reported 2025 results. Underlying operating profit was £3.5 billion, and free cash flow was £3.3 billion. It raised its 2028 targets to £4.9 billion to £5.2 billion of underlying operating profit and £5.0 billion to £5.3 billion of free cash flow. It announced share buybacks of £7 billion to £9 billion from 2026 to 2028, with £2.5 billion in 2026. The dividend for 2025 was 9.5 pence per share.