Global Turnarounds: Rolls-Royce and Volkswagon

05/01/2017 2:50 am EST


George Putnam

Editor, The Turnaround Letter

Investors here in the United States usually have plenty of turnaround opportunities to invest in.  Yet change is everywhere, and the trends that affect American-based companies can affect companies all over the globe, observes George Putnam, editor of The Turnaround Letter

There are, of course, additional risks involved in foreign turnarounds. Among other things, the legal systems, particularly the bankruptcy laws, can be very different from what we are accustomed to in the U.S. 

As a result, it makes sense to focus on large, well-established companies when prospecting for international turnarounds.

Rolls-Royce Holdings PLC ADR (RYCEY), based in the United Kingdom, is one of the largest producers of aircraft engines, although we note that it is no longer involved in the iconic luxury cars.

Rolls-Royce has struggled with a wide range of strategic and operational problems that, combined with lower energy prices (which hurt demand for newer, more efficient jet engines) and smaller defense budgets, have pressured revenues and profits. 

However, since July 2015, a new CEO has been working aggressively to modernize the company, simplify its structure and build value for shareholders.

Cost reductions and cash flow improvements are meeting targets. Highly-regarded activist ValueAct has a board seat. The market remains skeptical but, the recovery continues to roll forward.

Volkswagen Group ADR (VLKAY) remains plagued by its 2015 emissions testing scandal.  Its shares quickly fell by 50% and remain down 40% from their pre-scandal level.

The financial penalties could cost it $20 billion or more, and it must now transition much of its production to electric vehicles where investment is high and demand is uncertain. 

In addition, VW faces aggressive competition, weaker demand for its diesel cars, high labor costs and falling market share in Europe and China.

Nevertheless, VW was the world’s largest car maker by unit volume in 2016, has plenty of cash on hand to pay its fines, and is likely to maintain steady profits. 

Management is keenly aware of the challenges ahead. With time and ongoing strength in global vehicle sales, VW is likely to be on the road to recovery.

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