Rolls-Royce declares historic losses due to corruption and Brexit
Rolls-Royce will declare one of the largest losses in UK corporate history as a result of a corruption scandal and the Brexit vote. The loss could be over £4bn, its size exacerbated by the fall in the pound and repercussions from a £671m fine the company will pay to settle corruption allegations. The aerospace company will make the payment over five years to authorities in the US, UK and Brazil for allegedly bribing middlemen between 1989 and 2013 to win global contracts. The corruption scandal has not stopped a solid recent performance from Rolls-Royce, whose profits in 2016 reached £687m and are expected to be £861m this year.
Rolls-Royce will report one of the biggest losses in British corporate history this week as Brexit and a corruption scandal leave an indelible mark on the famous aerospace company.

City analysts have forecast that Rolls could report a pre-tax loss of more than £4bn – its worst ever – due to the sharp decline in the value of the pound and the £671m penalty that the company has agreed to pay to settle corruption allegations.

Accounting rules mean Rolls will be forced to write down the value of its currency hedges to reflect sterling’s slump. The pound has lost almost a fifth of its value against the dollar since Britain voted to leave the EU last June. Rolls hedges billions of pounds of cash to protect itself against currency fluctuations because deals in the aerospace industry are conducted in dollars.

The financial results will also recognise the impact of the £671m penalty that Rolls agreed with authorities in the UK, US and Brazil to settle corruption charges. Although Rolls will make the payment over five years – with £293m expected to be paid in the first year – it is likely to recognise the full cost in the latest accounts as an impairment charge.

The pre-tax loss will be the biggest in the history of Rolls, although it is a non-cash loss that reflects a change in the value of assets in its accounts rather than cash actually leaving the business. The biggest loss in British history is the £24bn recorded by Royal Bank of Scotland for 2008. RBS reported another £8.3bn loss for 2013, while Vodafone reported a £22bn loss in 2006 and a £13.5bn loss in 2002. Other milestones include a £8.5bn loss for HBOS in 2008 after it was bought by Lloyds, £6.5bn for Cable & Wireless in 2003, Tesco’s £6.4bn in 2015, and £4.5bn for BP last year.

Warren East, Rolls’s chief executive, will face questions about the corruption scandal when he presents the results, such as how it was allowed to happen, what has been done to ensure it does not happen again, and whether the company could lose contracts due to the damage to its reputation.

He has already apologised and called the behaviour that was uncovered “completely unacceptable”. However, an industry source said he was prepared to “address the issue front and centre and not shy away from it”.

Rolls agreed to the settlement over allegations that it bribed middlemen around the world between 1989 and 2013 to win contracts.

Sir Brian Leveson, who approved the so-called deferred prosecution in court, said the SFO’s investigation into Rolls had revealed “the most serious breaches of the criminal law in the areas of bribery and corruption” and that some of the charges “implicated senior management and, on the face of it, controlling minds of the company”.

However, the judge praised the co-operation of the company’s existing management, which allowed Rolls to settle with the SFO rather than face a damaging criminal trial.

Rolls-Royce’s chief executive, Warren East. Photograph: Bloomberg via Getty Images

Despite the penalty and the record loss, East is likely to be in a positive mood when he presents the results. This is because the underlying performance of Rolls is gradually improving.

The company has already told shareholders that it enjoyed a “good finish” to the year, with underlying profit – which excludes the impact of sterling’s decline and the SFO penalty – ahead of expectations. The consensus in the City is that underlying profits in 2016 were £687m, down from £1.4bn in 2015. However, they are predicting a rise back to £861m this year.

East has been trying to overhaul the engine-maker since replacing John Rishton as chief executive in 2015. He inherited a company that was struggling after a long run of success. Revenues were falling for the first time in a decade and underlying profits were down, prompting East to cut the dividend payout for shareholders for the first time in 24 years in 2016.

Rolls, which makes engines for Boeing’s 787 Dreamliners and Airbus’s A380 superjumbos among others, has been affected by lower-than expected demand for the wide-bodied airliners to which it supplies engines. But it has also been hurt by cuts to defence spending and the decline in the oil price, which has lowered demand from the offshore oil and gas industry for its marine products.

A year ago, in a sign of the pressure on the company, Rolls was forced to appoint the chief operating officer of ValueAct to its board after the US activist investor built up a stake and called for change. Since then however, Bradley Singer, ValueAct’s representative, has stayed quiet, publicly at least.

Meanwhile, East has focused on making Rolls more efficient and accelerating the pace at which it builds engines. He has cut hundreds of middle and senior managers and by the end of 2017 wants to have cut £200m of annual costs. The Rolls boss has effectively backed the company’s technology – and its pipeline of future development – but wants it to be a better manufacturer.

Howard Wheeldon, a veteran defence and aerospace analysts, said that East had “taken the bulls by the horns”. He said: “Rolls was paying the price for making a few mistakes in the past. They did not focus on efficiency. They are now, but they didn’t. They allowed the company to become middle-heavy, and top-heavy actually.”

The settlement with the SFO ends a four-year probe – although individuals linked to allegations are still being investigated – and Wheeldon said Rolls could now focus on its future.

“What happened was a negative, but the positive is that we now have a settlement,” he said. “They can now move on with more clarity than they have in the last four years. They are on course with the plan they set out, but there is still a long, long way to go.”