Image source: Rolls-Royce plc
Death and taxes. And Rolls-Royce (LSE:RR.) shares tearing to fresh peaks. Those are the three things investors have got used to counting on.
Risks to Rolls-Royce’s earnings soared in the wake of the Iran war. They remain elevated as the global economy absorbs the aftershocks. Yet the aviation giant has soared 26% in value since the start of the year. To put that in perspective, the broader FTSE 100‘s up 7%, which is still a decent result in the circumstances.
And yet incredibly, some analysts believe Rolls-Royce’s share price is still too cheap. One predicts the engine builder will soar another 16% over the next year, to £17.40 per share. If that’s correct, a £9,999 investment in the Footsie firm will be worth £11,599 by next July.
But here’s the thing. There are 20 different brokers with ratings on Rolls shares today. And I’m more minded to listen to the collective wisdom of City analysts.
Their broad view? Investors today could lose a chunk of cash by investing here today…
A £500 drop
The consensus among City analysts is that Rolls-Royce could slip 5% in value during the next 12 months, to £140.20. That would turn the same £9,999 lump sum today into £9,499.
That’s not a catastrophic result by any means. Long-suffering Diageo shareholders like me, for instance have seen the value of their investments topple 17% over the past year. That puts the sort of mid-digit drop brokers are tipping into perspective.
But then it depends on your perspective. If you’ve bought Rolls-Royce shares on previous performance — they’re also up 50% on a five-year horizon — I imagine you’d be pretty upset.
So what is the most likely result?
The case for… and against
To formulate an answer, we need to consider the opportunities and threats facing Rolls-Royce today. They include:
| Bull case | Bear case |
|---|---|
| Long-haul travel growth that boosts demand for large aircraft engines. | A civil aviation downturn that reduces engine sales and aftermarket revenues. |
| Continued profit margin and balance sheet improvements as restructuring continues. | Worsening supply chain issues that impact costs and operational activities. |
| Steady growth in global defence revenues. | Geopolitical tensions that push up trade tariffs. |
| Rising data centre opportunities that boost power systems demand. | Delays or technical issues with key projects. |
| Growing interest in Rolls’ small modular reactors (SMRs). | Currency fluctuations that squeeze profit margins. |
Are Rolls-Royce shares a buy?
Armed with this information, it’s up to us as investors to decide whether we think these factors are properly reflected by the engineer’s current valuation. We also need to consider if the risks to current earnings are reflected in its price-to-earnings (P/E) ratio.
My view? On balance, Rolls-Royce’s shares look mighty expensive given all the above. Its continued outperformance means it’s long traded at a premium to the broader FTSE 100. However, I believe a forward P/E of 40 times is enormous even by recent standards.
I’m struggling to see any value in Rolls’ share price at right now. This could limit any further share price gains. In the worst case, the firm’s huge valuation could see the stock reverse sharply if trading conditions worsen even slightly. If I had £9,999 to invest today I’d rather find stocks offering better value to buy.
Should you invest £5,000 in Rolls-Royce Plc right now?
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Royston Wild owns shares in Diageo.
