RYCEY Rolls Royce Holdings PLC (PK)

By Robert Wall 

LONDON-- Rolls-Royce Holdings PLC warned it may cut its dividend to cope with spiraling costs and profit shortfalls--sending shares into their sharpest tailspin in 15 years.

Rolls-Royce is one of the most recognized names on London's blue-chip FTSE 100 stock market index and a mainstay of British pension-fund portfolios, but has struggled recently with deteriorating demand for some of its key engines. Big capital outlays aimed at delivering newer engines, meanwhile, won't be generating returns for years to come.

Rolls-Royce hived off the luxury car maker of the same name decades ago, and now makes the majority of its profit selling aircraft engines for large, commercial jets, like Boeing Co.'s 787 Dreamliner and Airbus Group SE's A380. Those companies have been delivering record numbers of planes and profits in recent years.

Rolls-Royce's biggest competitor in commercial-aviation engines, General Electric Co., has benefited from a boom in orders for smaller, narrow body jets. But Rolls-Royce has largely missed the party, struggling in recent years to rein in costs.

The company also disclosed for the first time Thursday that activist investor ValueAct Capital Management LP, which revealed over the summer that it had built a more than 5% stake in the company, was seeking a board seat.

Rolls-Royce said full-year underlying pretax profit, a measure that excludes some costs but serves as a key investor benchmark, is now expected to be at the low end of its previously issued GBP1.33 billion and GBP1.48 billion ($2.02 billion to $2.25 billion) range. It also warned that its earnings outlook next year had weakened. Further rattling investors, it suspended its medium-term earnings guidance, which it started providing not much more than a year ago.

The company said it would decide by February, when it reports full-year earnings, whether to cut its dividend to cope. Shares ended down 130.5 pence, or 19.6%, at 536.50 pence in London. Shares in Rolls-Royce have retreated more than 50% since February 2014, when it issued the first in a string of profit warnings.

"As a business, we carry too much fixed cost and are inflexible in managing this in response to changes in market conditions," Chief Executive Warren East said in a statement. The company's balance sheet and liquidity were strong, Mr. East said, but he called the cost issues "unacceptable."

The company elevated Mr. East, a former chief executive of computer-chip design giant ARM Holding PLC, to the top job in July, with a mandate to turn the business around. Two days after taking over, he issued his own profit warning and initiated a broad operational review. The same month ValueAct disclosed its holdings in Rolls-Royce, ratcheting up the pressure.

Mr. East has engaged with ValueAct over his tenure but though it is unclear if the investor has made any other specific requests aside from the board seat. "They have some very good questions," Mr. East told reporters Thursday, without detailing them. ValueAct couldn't immediately be reached for comment.

Rolls-Royce is being buffeted by difficult conditions across its product lines. Its commercial aircraft engine business--the biggest profit contributor--is transitioning from delivering well-established, profit-generating engines, such as those powering Airbus A330 widebodies, to newer engines, like the TrentXWB, which powers Airbus's latest long-haul plane.

Rolls-Royce has invested billions of dollars developing the engine and building production plants, but won't generate profit from these new products for several years. The company's servicing business has also been hampered as some of the older planes using its engines are flying less. It is also losing market share in powering business jets, after failing to invest in new products. Meanwhile, demand for Rolls-Royce turbines, used to power ships and in electricity generation, has also suffered.

Rolls-Royce announced Thursday initial findings of Mr. East's operational review. The review was aimed at finding ways to boost Rolls-Royce's returns, though shies away from major shifts in strategy.

The company said savings measures identified, including streamlining senior management, should yield incremental gross cost savings of GBP150 million to GBP200 million a year from 2017. Rolls-Royce plans to spell out full details on these measures in a Nov. 24 investor day.

Rolls-Royce said a previous cost-savings program was on track to deliver a promised GBP115 million in year-over-year savings in the aerospace and marine businesses next year. The company has announced big job cuts in both areas.

"The next few years are going to be important in laying the foundations for our long-term profitable growth," Mr. East said.

Write to Robert Wall at robert.wall@wsj.com

Subscribe to WSJ: http://online.wsj.com?mod=djnwires

(END) Dow Jones Newswires

November 12, 2015 15:35 ET (20:35 GMT)

Copyright (c) 2015 Dow Jones & Company, Inc.