Rolls-Royce Group plc Interim Results 2007

Group Highlights

* Record order book, increased 34 per cent to £35.1bn (2006: year end £26.1bn).
* Group sales increased to £3,591m. Sales on an underlying* basis increased by 10 per cent.
* Services revenues increased by nine per cent to £2,001m on an underlying* basis, representing 53 per cent of Group sales.
* Underlying profit before taxation** increased to £380m, up 17 per cent.
* Profit before taxation of £377m** (2006: £870m).
* Average net cash of £373m (2006: first half £83m).
* Cash inflow of £61m, before the injection of £132m into the Group’s UK pension schemes (2006: first half cash inflow of £122m).
* Interim payment to shareholders increased by 10 per cent to 4.04p per share

*Underlying sales reflect the exclusion of the IAS 39 hedge reserve adjustments and the inclusion of the benefit of settled foreign exchange transactions, and is consistent with underlying profit presentation.

**Adjustments for underlying profits are included in note 1. Underlying profits reflect a level of performance that excludes items considered to be non-operating in nature (see notes 1 and 2). Profit before tax includes such non-operating items, principally those relating to unrealised revaluation effects.

Sir John Rose, Chief Executive, said:
“The Group has made strong progress in the first half.

“We have a well balanced business with a broad portfolio of products and services and proven access to global markets. Continued investment in our product portfolio and value added services for our customers has made us a market leader and gives us the ability to grow organically.

“Despite the challenges of increasing raw material costs and the effects of a weakening US dollar, the Group is well placed to deliver growth in underlying profit and, before pension scheme injections, a positive cash flow in 2007.”

Group Overview

Trading

Rolls-Royce has continued to make strong progress in the first half of 2007, increasing underlying profit and, before a payment into the Group’s UK pension schemes, generating a positive cash flow.

The Group’s order book, which grew by £9.0bn in the half to £35.1bn, continues to become more international and is well balanced between the Americas, Asia and the Middle East and Europe. The first half of 2007 saw a further broadening of the Group’s global reach, with a range of new customers being secured in growing markets for Rolls-Royce, including South America and Russia.

Sales in the period increased by 10 per cent on an underlying basis to £3,746m with organic growth across the business. Despite the effect of the weakening dollar, underlying aftermarket sales increased by nine per cent in the first half with growth coming from all segments.

Underlying profit before tax increased by 17 per cent to £380m. This was despite the impact of a further seven cent deterioration in the US dollar achieved exchange rate, creating a £40m headwind compared to the first half of 2006, and an increase in unit costs partly due to rising raw material costs.

At the end of the first half, the hedge book stood at $9.4bn with an average exchange rate of 1.78 US dollars to the pound, a deterioration of four cents from the start of 2007. For the whole of 2007, the Group continues to expect a deterioration in the achieved rate of between seven and eight cents relative to 2006.

The Group continues to take action to offset unit and other cost increases and the weakening US dollar, including increased dollar based sourcing, restructuring the supply chain and delivering productivity improvements from investment in new facilities.

Average net cash improved by £290m to £373m after a £132m injection into the Group’s UK pension schemes, the first phase in the Group’s plan to put £500m into these schemes. The Group expects to transfer the remaining £368m before the end of 2007 as actions on risk management and asset allocation are completed. This will enable the Group to conclude the review of financial strategy, the start of which was announced in February 2007.

Underlying earnings per share increased by 15 per cent to 15.72p (2006: first half 13.62p)1. Basic earnings per share were 17.12p (2006: first half 35.86p) . An interim payment to shareholders has been declared of 4.04p per share (2006: first half 3.67p), an increase of 10 per cent.

Developments

Three new engine programmes were announced in the period:

* A new Rolls-Royce engine was selected by Dassault Aviation to power its new, super mid-sized Falcon business jet;
* The Trent XWB was formally launched for the A350 XWB and has demonstrated significant success in the market;
* The new RR300 engine was selected for the Robinson R66 helicopter

These three programmes target a share of an addressable market opportunity estimated to be worth $200bn over the next 20 years.

In addition, the US Navy selected the MT30 to power the DDG–1000, a new class of advanced combat vessel.

Research and development activities progressed as planned over the period with the Group investing around five per cent of sales on a cash basis, a level expected to be maintained over the rest of the year. This investment enables the Group to develop a broad portfolio of programmes and service capabilities that typically enjoy a lifecycle of several decades.

The Group’s research programmes are increasingly aimed at improving the environmental performance of existing and future products. The Environmentally Friendly Engine (EFE) programme entered its manufacturing phase in the first half and will demonstrate and validate new technologies aimed at reducing aero engine fuel burn and emissions. The Group also believes that with its engineering and scientific background, it is well placed to exploit the increased demand for clean and fuel efficient power sources.

Rolls-Royce opened two new University Technology Centres (UTCs) at Bristol and Manchester Universities. The Group now has 28 UTCs worldwide, which make an important contribution to the Group’s research and technology acquisition programmes.

The Group also continued to expand its services capabilities. The construction of a new Trent repair and overhaul facility, through a joint venture with Lufthansa Technik, was completed in Germany and is now operational. The latest of the Group’s Operations Rooms was opened in Dahlewitz to support two-shaft engines in service. The benefits of the Group’s service capabilities were again demonstrated by the increasing number of customers committing to long term TotalCare® and Mission Ready Management Solutions contracts in the civil and defence sectors respectively.

The Group’s factory modernisation programme in the UK is nearing completion. New facilities in Derby and Bristol will be operational by the end of 2007 and together with improved processes will strengthen productivity and reduce costs. The Group is also making good progress in identifying a site for a new assembly and test facility, with proposals being considered from Singapore and a number of US states.

The Group operates in a competitive and challenging environment and in doing so, we benefit from a consistent strategy, a strong order book, long programme life cycles and the revenue generated by the provision of value added aftermarket services to the users of its products. Consequently we have good visibility of our future workload and market opportunity. The results in the first half of 2007 demonstrate the resilience of the Group and its business model.

Prospects

The Group expects to deliver an increase in underlying profits for the 2007 full year despite the headwinds of a weakening dollar and increasing unit costs. This increase in underlying profits will contribute to a positive cash flow for the full year before the effects of the cash injections into the UK pension schemes are taken into account.

Enquiries:

Mark Alflatt
Director of Financial Communications


Caroline Harris
Director of Corporate Communications
Tel: 0207 222 9020
www.rolls-royce.com

An interview on the results with Rolls-Royce Chief Executive, Sir John Rose, is available on video, audio and text on www.rolls-royce.com and www.cantos.com Photographs are available at www.newscast.co.uk
Visit www.thenewsmarket.com/rolls-royce to download broadcast-standard video or order a Beta SP tape of Rolls-Royce products, services and facilities.

REVIEW OF FIRST HALF 2007 BY BUSINESS SECTOR

Civil Aerospace
Order book: £28.1bn (2006: year end £20.0bn)
Engine deliveries: 421 (2006: 412)
Sales: £2,011m (2006: £1,790m)
Aftermarket services sales: £1,205m (2006: £1,077m)
Underlying profit before financing: £261m (2006: £243m)

The Group made strong progress in Civil Aerospace, securing significant new orders, expanding its product portfolio with the launch of two new programmes and taking forward existing production programmes.

Continued growth in the corporate and regional sector contributed to a two per cent increase in engine units delivered, to 421, as Trent deliveries slowed, largely because no Trent 900s for the Airbus A380 were delivered in the first half.

Underlying profit increased by seven per cent, reflecting the continuing growth of aftermarket service sales and original equipment deliveries, after incurring a further deterioration in unit costs and the impact of a seven cent deterioration in the foreign exchange achieved rate.

The selection by Dassault Aviation of a new engine based on the RB282 technology programme to power its next generation, super mid sized business jet reinforced the Group’s leadership in the business jet sector whilst broadening its product portfolio. This new programme will create new opportunities in this sector and will establish a route to market for a major technology programme.

The formal launch of the A350 XWB has opened up significant opportunities for the Trent XWB, the sixth member of the Trent family. Engine orders for a total of 172 firm aircraft were received up to the half-year.

The first flight of the Trent 1000 on the Rolls-Royce flying test bed took place in June and marked a major milestone in the development of the launch engine for the Boeing 787. Certification is expected shortly with entry into service in 2008. The Group has now received orders for more than 500 engines from 15 customers and leasing companies.

The success of the Trent family was further reinforced when the 3,000th Trent was ordered this year, with a total of 1,425 Trent units having been delivered and installed over the programme’s 12 year history. Although the Trent is important in terms of the Group’s future growth, it today represents a relatively small proportion of the installed base, accounting for only 11 per cent of the total civil installed fleet and around 18 per cent of annual civil flying hours and less than 20 per cent of Group sales.

Civil fleet flying hours rose by seven per cent compared with the first half of 2006, driven by the increased number of engines in service and global traffic growth.

More than 52 per cent of our modern jet engine fleet is covered by TotalCare or CorporateCare service agreements.

Defence Aerospace

Order book £3.2bn (2006: year end £3.2bn)
Engine deliveries: 168 (2006: 218)
Sales: £808m (2006: £761m)
Aftermarket services sales: £422m (2006: £416m)
Underlying profit before financing: £106m (2006: £95m)

Defence Aerospace continues to be an attractive and growing business. The Group’s portfolio includes a wide range of defence engine programmes at all stages of the product life cycle, supported by a growing services business.

Continued strong growth in new engines and modules contributed to a six per cent increase in sales in the period and a 12 per cent improvement in underlying profits.

The Group’s leadership in the provision of propulsion systems for military transport aircraft was further enhanced this year with the selection of the AE 2100 for the C-27J Spartan for the US military Joint Cargo Aircraft programme, with an initial order of 78 aircraft worth $500m.

The UK Ministry of Defence announced the launch of the Future Strategic Tanker Aircraft programme, with the order for 14 converted A330 aircraft.

The collaborative F136 engine and LiftSystem for the Joint Strike Fighter programme made good progress as they successfully continued their development programmes.

The helicopter portfolio has been broadened further with the launch of the RR300 engine programme to support the Robinson R66. In addition, the Australian Department of Defence selected the RTM322 for a further 34 NH90 helicopters underlining the popularity of this engine on the NH90 platform. More than 85 per cent of NH90 customers have selected the RTM322.

Defence services capabilities were further developed with contracts totalling more than £200m confirmed in the first half for UK and international customers.

Marine

Order book: £3.1bn (2006: year end £2.4bn)
Sales: £700m (2006: £621m)
Aftermarket services sales: £257m (2006: £234m)
Underlying profit before financing: £58m (2006: £50m)

Rolls-Royce is a world leader in the provision of marine propulsion systems, offering a unique set of products and services for naval and commercial customers.

All of the Group’s marine business segments, offshore, merchant, naval, and submarines, continued to perform well. The order book increased by 29% to £3.1 billion following continued strong demand in the first half.

Sales in the first half were supported by strong demand for original equipment leading to an overall 13 per cent growth and a 16 per cent improvement in underlying profit.

The selection in March by the US Navy of the MT30 to power the advanced destroyer, DDG-1000, was a major strategic success, demonstrating the Group’s ability to leverage core technologies across markets and platforms.

A 10-year contract worth £1 billion has recently been agreed with the UK Ministry of Defence to support nuclear power plant systems for the Swiftsure, Trafalgar and Vanguard class submarines and the new Astute class submarines when they enter service.

The first Astute Class submarine, HMS Astute, was launched in June featuring the Rolls-Royce long-life core, capable of providing power for the vessel’s entire service life of more than 25 years, without being refuelled. In addition Rolls-Royce provided marine propulsors, switchgear and electrical systems, demonstrating the benefits of the broadest product portfolio in the sector.

A series of major new orders for the offshore UT Ship design was secured, including the largest ever single order of £83 million from OSM Schiffahrt.

Energy

Order book: £0.7bn (2006: year end £0.5bn)
Engine deliveries: 9 (2006: 17)
Sales: £227m (2006: £232m)
Aftermarket services: £117m (2006: £106m)
Underlying loss before financing: £(1)m (2006: £(18)m)

The Rolls-Royce energy business supplies a broad range of gas turbine packages to the worldwide oil & gas and power generation markets, with more than 4,000 industrial gas turbines sold and over 140 million hours of operating experience.

A further period of strong demand in both the oil & gas and power generation markets supported the growth in the order book to £0.7bn.

The oil & gas market remains robust, with continued activity for both on-shore and off-shore projects in Europe, Brazil, Australia and West Africa leading to orders for a total of 14 RB211 units.

Global power generation markets continued to improve. There remains strong interest in the industrial Trent and orders were received for two further units in Chile and the USA.

Phasing of unit deliveries, mostly for oil & gas, contributed to a reduction in original equipment sales, partly offset by an improved aftermarket sales performance. The trading pattern in the first half has developed as anticipated with oil & gas remaining strong and power generation trading activity showing some improvement. The reduction in the trading loss for the period, compared to 2006, is after the net benefit of £13m fee income, principally relating to increased technology licence fees.

The Group invested £12m in its fuel cell development programme in the first half which will undergo a key test in 2007.

As in 2006, oil & gas trading is expected to improve in the second half and mitigate the increased full year investment in the fuel cell development programme with the additional licence fees contributing to a near breakeven performance for the full year.

FINANCIAL REVIEW

The firm and announced order book, at constant exchange rates, was £35.1bn (2006: year end £26.1bn). Aftermarket services represented 33 per cent of the order book (2006: year end 38 per cent).

Sales increased by six per cent to £3,591m (2006: £3,390m). Sales on an underlying basis grew by ten per cent. Payments to industrial Risk and Revenue Sharing Partners (RRSPs), charged in cost of sales, amounted to £95m (2006: £79m).

Underlying profit before tax was £380m (2006: £324m). Underlying earnings per share increased by 15 per cent, to 15.72p (2006: 13.62p) (see note 2).

Gross research and development investment increased eight per cent to £373m (2006: £346m). Net research and development investment charged to the income statement was £195m (2006: £177m) after net capitalisation of £9m (2006: £16m) on development programmes. Receipts from RRSPs in respect of new programme developments, shown as other operating income, were £40m (2006: £38m).

Investment in intangibles was £60m (2006: £97m) and included £24m (2006: £43m) on recoverable engine costs and a further £9m (2006: £23m) on certification costs and participation fees. Increases in intangibles are expected to be above the 2006 level, due to higher levels of participation fees on new programmes.

Restructuring costs of £24m (2006: £23m) were charged within operating costs.

The taxation charge was £74m (2006: £253m). The taxation charge on an underlying basis was £102m, representing 27 per cent of underlying profit before tax (2006: £91m, representing 28 per cent of underlying profit before tax). The effective rate is impacted by a number of drivers including the geographical mix of profits, changes in legislation and the benefit of research and development tax credits.

There was a cash inflow in the period of £61m (2006: inflow £122m) before the £132m pension scheme injection. Key features were: a net £23m outflow to purchase the Group’s shares to fund employee remuneration and share save schemes (there was an equivalent £25m inflow in the first half 2006) and an increase of £100m in working capital in the period, mostly relating to inventory. As a result, the net cash balance, after the pension scheme funding, at the half year was £755m (2006: year end £826m).

Average net cash was £373m (2006: £83m), an improvement of £290m over the last year.

Provisions were £300m (2006: year end £335m). Provisions carried forward in respect of potential customer financing exposure amounted to £74m at the period end having utilised £30m of the opening provision (2006: year end £98m).

There were no material changes to the Group’s gross and net contingent liabilities in 2007 (see note 7).

Gross post-retirement benefit obligations were £409m (2006: year end £995m) (see note 8). After taking account of deferred taxation, post-retirement benefit obligations were £276m (2006: year end £681m).

The Group is continuing to make payments to shareholders in the form of ‘B’ shares rather than a dividend. These shares can then be redeemed for the same amount of cash that would have been received with a cash dividend, or converted into the same number of ordinary shares in the Group that would have been received under the scrip dividend alternative. The issue of ‘B’ shares will result in significant tax benefits for the Group, by accelerating the recovery of Advance Corporation Tax, which will in turn benefit all shareholders.

The proposed interim payment to shareholders is equivalent to 4.04 pence per ordinary share (2006: interim payment 3.67p). The interim payment is payable on January 3, 2008 to shareholders on the register on October 12, 2007. The final day of trading with entitlement to B shares is October 9, 2007.