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Morningstar | Rolls-Royce Company Report

Rolls-Royce is one of only a few firms in the world that can successfully develop and manufacture civil and defence jet engines, which is a key reason we believe it possesses a narrow moat. The growing installed base of engines that have useful lives of more than 25 years results in a stable, long-term annuity of future services revenue. Rolls’ market share currently stands at about 35% of the wide-body fleet, but we think its Trent 1000 and Trent XWB engines will increase this percentage to around half of the engine fleet by 2025. That said, we do see headwinds for Rolls-Royce, namely weak marine offshore markets in 2018 and the company's absence in the next generation of commercial narrow-body aircraft.Rolls-Royce's large investments in research and development are a major structural competitive advantage that have secured a market-leading position in wide-body aircraft, including prominent positions on Boeing's 787 and sole-source provider status for the Airbus A350-XWB and A330neo. Orders for the Trent XWB engines represent close to 60% of the firm order book, exposing Rolls strongly to deliveries of A350. Thus, we expect wide-body platforms to produce steady demand for Rolls-Royce in the coming decades.Rolls-Royce's management strategically chose to allocate capital and highly skilled labour to develop next-generation wide-body airframe engines at the expense of the narrow-body airframe arena. The firm currently has no narrow-body engine offering in place and will not join the party until 2025-30, when new narrow-body platforms are going to be developed. We believe this will limit sales growth, as the bulk of aircraft deliveries will continue to flow to the narrow-body frames.Rolls-Royce has attempted to leverage its aero-derivative engine technology into other areas, including marine applications, energy power generation, and power systems, which have structurally lower operating margins driven by limited aftermarket services revenue. Revenue contribution from the land and sea division will be muted in the short term, mainly due to limited future volume growth in the marine market and continued price pressure resulting from current shipyard overcapacity.