For a company that’s involved in the civil aerospace industry, it’s fitting that the Rolls-Royce (LSE: RR.) share price has been flying in recent times. In the last 12 months, the stock has posted a thumping 193.5% gain. This year alone has seen it soar 53.9%.
Despite the FTSE 100’s impressive 5.8% rise year to date, the Rolls performance has blown it out of the water. But what’s next for the stock? Surely it can’t continue to surge?
A skyrocketing stock
To answer that, let’s start by looking at why Rolls has soared in recent times. There are a few main reasons.
First, the firm has provided investors with numerous positive updates over the last couple of months. For example, a trading update released in May highlighted that in its civil aerospace unit, engine flying hours had returned to pre-Covid levels in the opening four months of the year.
On top of that, the business has made good strides in strengthening its balance sheet. It has reduced the large amount of debt it had on its books and that has helped it improve its credit rating with major agencies, which is a big positive. The heavy burden of its debt was a big concern of mine before.
There’s also the impact that CEO Tufan Erginbilgic has had. From the get go the former BP executive asserted himself as a bold leader with grand ambitions. So far, he’s not only talking the talk but he’s also walking the walk.
Last year, operating profit reached just shy of £1.6bn up from £652m the year before. By 2027, Rolls is aiming for up to £2.8bn in operating profit. If it goes on to achieve that, its share price could look like a steal at its current level.
A justified rise?
But when a stock rises so much in a short space of time, I’m also dubious.
Who can blame me? The stock market is full of surprises. Investors could be getting carried away with Rolls and at the first sign of a slowdown its share price could sharply recoil. That’s probably the biggest threat I see with the company.
It’s why I’ve been hesitant to open a position in the Footsie giant. I really like the business and where it’s going under Erginbilgic. But when investigating the fundamentals, I see a few issues.
The stock is trading on the expensive side. Its forward price-to-earnings ratio is 28.9. The Footsie average, for comparison, is around 11. I’m fine with paying a premium for a company like Rolls. After all, it’s a British stalwart with a large customer base and incredibly strong brand recognition. Even so, I think that’s too pricey for my liking.
The plan of action
Stocks can’t keep rising forever. And while Rolls has posted an impressive turnaround since the pandemic, it’s inevitable that this growth will slow and the company will hit some speed bumps in the times ahead. At that point, I think we could see its share price pull back.
If that occurs, that’s when I’d make a move. I’ll buy the dip and tuck Rolls away in my portfolio for the long run. Until then, I’m sitting tight.
This post was originally published on Motley Fool
