Call it a worst, worst-case scenario for uk business: the collapse of rolls-royce. in a country where world-beating technological advantage is patchy, the jet engine maker is the national engineering champion. the success of a mammoth 5bn financing launched on thursday matters deeply. otherwise, a direct state bailout may become necessary.
Coronavirus has delivered a body blow to rolls-royce, technology legatee of the great engineer frank whittle. the flying hours of airlines, who pay as they go for engines, has collapsed. the company haemorrhaged almost 3bn of net cash in the first half. the shares have dropped more than 80 per cent since mid-february
With hindsight, chief executive warren east should have launched a recapitalisation this summer. instead, he is seeking a sum twice the groups market worth in the teeth of renewed lockdowns and a us presidential election.
Encouragingly, long-term shareholders bridled at plans for an equity placing to new investors. that suggests take-up should be tolerable for the 2bn share offering on which 3bn in new junk-rated debt partly depends.
Uk rights issues feature low offer prices relative to recent trading, triggering criticism of deep discounts. in reality, full subscribers put up cash simply to avoid a drop in their percentage shareholding.
Rolls-royce is raising a lot because it is losing a lot. under its base case scenario, about 8.2bn in liquidity this summer would over 18 months drop to just 2.2bn, a minimum cash cushion. if the recapitalisation succeeds, it would leave the group with a bulwark of 7.2bn by the end of next year, as free cash flows turned positive.
The financing also covers rolls-royce against its reasonable worst-case scenario, assuming 2bn in asset sales takes a few years. this possibility envisages a recovery curve for flying hours that is lower for longer, but bounces back just as healthily.
Unfortunately, coronavirus has a habit of ignoring the reasonable expectations of human beings. suppose, pessimistically, that flying hours pegged along at a third of 2019 volumes into 2022 and jet engine sales remained depressed. rolls-royce would be in deep trouble.
The state, which is already rallying round with loans and guarantees, might then need to support this strategic asset directly. the fact the uk government has done so before will hopefully reduce the need to do so again, by keeping private capital flowing.
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