Rolls-Royce (LSE: RR) on Thursday reported a pre-tax loss of £5.4bn for the first half of 2020, after the pandemic lockdown devastated the aviation industry. The Rolls-Royce share price lost 9% in early trading.
Chief executive Warren East said: “The Covid-19 pandemic has significantly affected our 2020 performance, with an unprecedented impact on the civil aviation sector with flights grounded across the world.”
That H1 loss is bad, but what’s most important right now is the company’s liquidity. I’m sure demand for Rolls-Royce’s products and services will recover, but it could take some time. And there’s a limit to the amount of cash the company can afford to lose in the meantime. It’s no wonder the Rolls-Royce share price has fallen 66% so far in 2020.
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Balance sheet
This year’s crash has certainly hit Rolls-Royce’s balance sheet hard. From a position of net cash of £1.4bn at the end of 2019, the company has slumped to net debt of £1.7bn (excluding lease liabilities). That’s the kind of thing that happens when a company suffers a free cash outflow of £2.8bn. And there’s going to be more pain to come in the second half. Total free cash outflow of approximately £4bn is expected for the full year.
Despite that, the balance sheet seems safe for the moment, which should lend some short-term support to the Rolls-Royce share price. Total liquidity stands at £6.1bn, comprising £4.2bn cash plus loan facilities.
Restructuring, cost reduction and job losses are helping the firm weather the current storm, but there’s more needed. The company has identified a number of potential disposals that should generate more than £2bn. And East adds: “We are continuing to assess additional options to strengthen our balance sheet.“
Rolls-Royce share price
The big question for investors: is the Rolls-Royce share price a buy now? I don’t have an easy answer.
I’ve been bullish on Rolls-Royce for a long time. It’s had its ups and downs, but I’ve considered it to be a well-managed business that should enjoy strong long-term demand. The firm’s involvement in the defence business also makes it (excuse the unavoidable pun) a defensive investment too. It’s one I’d generally consider to be resilient in the face of economic downturns.
But the current economic downturn is hitting its key markets very hard and killing the Rolls-Royce share price. Rolls doesn’t make money from selling engines, but from their long-term maintenance, repair and parts contracts. It’s a bit like the famous Gillette approach of selling razors cheap and making money on the blades. But that very model counts against the company in the current downturn, when planes just aren’t flying.
Recovery, but maybe not yet
I’m still convinced Rolls-Royce can provide solid long-term rewards for investors. But I can see more short-term pain coming its way — and more share price volatility — before things get better. It’s on my potential bargain buy list. But I’ll wait until I see some glimmers at the end of the tunnel. And particularly the decisions the company makes on how to raise more capital.
