Investing.com — Citigroup raised its target price for by roughly 50% to 1,647 pence from 1,101 pence, lifting long-term profit and cash flow forecasts by 30%-40% after strong first-half results, powered by surging data centre demand for the company’s Power Systems division.
Despite the upgrade, Citi maintained its “neutral” rating on the stock, with the shares trading at £15.25 and implying an expected total return of 8.6%, below the 15% threshold required for a “buy” recommendation.
The brokerage said Power Systems had displaced Civil Aerospace as the dominant driver of fair value, contributing 504 pence of value in its sensitivity analysis, versus 353 pence for Civil Aerospace.
Data centre customers are driving sales growth in Power Systems, with Citi now forecasting long-term margins of 23.5% for the division, well above the company’s own medium-term guidance of 18%-20%.
Citi raised forecasts across all three divisions but applied differing levels of confidence to each.
For Civil Aerospace, upgraded estimates reflect contract catch-ups totalling a net £497 million and onerous contract provision releases of £125 million in the first half, which the bank cautioned were largely non-recurring and non-cash in nature. The bank said it expects catch-ups to fall to roughly £100 million per year over the long term.
Defence margins hit a record 21% in the first half, well above the 14%-16% medium-term target, driven by a favourable mix of high international and aftermarket sales.
Citi said it did not view that level as sustainable and forecast long-term Defence margins in the 16%-16.5% range.
The bank separately valued Rolls-Royce’s Small Modular Reactor business at 87-90 pence per share using two methods: one based on the company ramping up to eight SMR deliveries per year, and a second based on the company capturing a 25% share of a global market of up to 400 units by 2050. The SMR value is added to enterprise value in deriving the equity target price.
Citi’s DCF-based valuation assumes five-year profit growth of 12.2% compound annual growth, followed by 8% growth in years six through 10 and 3% perpetual growth, with operating cash conversion of 110% and a weighted average cost of capital of 9%.
Group sales are forecast at £22.99 billion in 2026, rising to £28.62 billion by 2028, while free cash flow to shareholders is projected to reach £5.69 billion in 2028.