Image source: Rolls-Royce plc
It’s been another month of cash outs for shareholders at the aerospace engineer Rolls-Royce (LSE: RR). Shares in Rolls-Royce have risen sharply and are now up nearly 83% year to date in 2024, after FTSE 100 indicator that you did very well last year.
This means that in five years, the shares have increased by 120% in value.
I don’t have them yet and I missed a recent surgery.
Given the momentum we’ve seen recently, should I add it to my portfolio as we head into November?
Investor enthusiasm continues
Some investors make decisions based on impulse alone. But in the stock market as elsewhere, it is not just because things have been going up, they will continue to do so.
Although the business has improved its performance over the past few years, I feel that the meteoric rise in Rolls-Royce’s share price reflects the enthusiasm of investors.
That can be a dangerous thing as if it changes (something that can happen overnight), it can mean that the shares lose some of their support, which can lead to a drop in the price.
The business is doing well and can do better
The company has been doing well from a sales perspective. At the half-year point, revenue was 18% higher than the year-ago period.
That means revenue is now on track to surpass where it was before the pandemic, which brought a multi-year challenge to the business.
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In fact, pre-tax profits actually fell slightly in the first quarter. Underlying earnings per share fell slightly to 13.7p in the six months under review compared with 14.7p in the same period last year.
Basic earnings per share have been volatile in recent years.
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The company has set big goals but is very focused on operating profit. Those can differ significantly from after-tax earnings and basic earnings per share, due to non-operating expenses such as interest.
Here’s why I don’t buy
From a valuation perspective, most investors use the price-to-earnings (P/E) ratio that looks at earnings per share.
Currently, Rolls-Royce shares trade at a P/E ratio of around 20. I consider that to be the perfect price.
Estimates tread a fine line between current (known) performance and future (unknowable, but measurable) performance. I feel the rise in Rolls-Royce’s share price reflects current business performance, but also a large amount of expected value due to future performance.
Business has the wind in its sails. It benefits from an established customer base, strong demand, a recognized brand, high barriers to entry in its market and technical know-how. But expectations about future performance, especially whether Rolls can meet its medium-term goals, are expectations for now.
At the current share price, I think there is little margin for error, if the company sees sales decline due to circumstances beyond its control, such as an epidemic. So I won’t be shopping this November.
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