For readers that have been following Rolls-Royce (LSE: RR) stock for a while now, the headline might sound strange. After all, the aero-engine manufacturer’s share price has more than doubled in the past year. So what brings it on?
Why Rolls-Royce stock may just be a bargain buy
First things first, the increase over the last year looks really big because 2020 was a most unusual time. The pandemic had driven the Rolls-Royce share price to multi-year lows and the post-vaccine development stock market rally was just about taking off.
In actual fact, the price is still almost 40% below its pre-pandemic levels. This is one of the reasons why the stock looks like a bargain buy for me. I reckon that there is a possibility that it will rise even closer to pre-pandemic levels as the company’s performance improves.
Already, the signs are encouraging. Rolls-Royce managed to become profitable again in the last quarter. It has also won new contracts in the recent past. And its disposals programme is going well, which puts it in a good place to manage its debt and focus on its core operations.
At the same time, the fact that its price-to-earnings (P/E) ratio is ridiculously low is a sweetener too. Depending on the source I consider, it ranges between three and five times. That the average FTSE 100 P/E stands at 20 times puts this into perspective. I find this facet particularly positive at a time when many other recovery stocks have run up enough to actually become pricey, like non-essential retailers, for instance.
What makes me uncertain
So there appears to be little denying that it indeed looks like a FTSE 100 bargain buy for me. But is it the best among them? I am not so sure. One reason for my lack of certainty is that I am not entirely convinced that the company will make profits in the next quarter as well. A tax credit had contributed significantly to its profits the last time. That does not sound like a sustainable way of making profits to me. Also, there are other FTSE 100 stocks like the miner Rio Tinto that have a comparable P/E but a longer history of being profitable.
Also, there are still some uncertainties around travel. British Airways owner International Consolidated Airlines Group released its results earlier today, which showed that passenger numbers for the first nine months of 2021 are actually lower than those for 2020. To me this illustrates that travel weakness is still evident.
My takeaway
Still, I do think that the Rolls-Royce share price can continue to inch up over time, because its prospects look better to me than not. At the same time I maintain that I would like to see whether it is able to sustain its financial performance before making a call on buying it. It does look like a bargain buy for me for sure, but I am not sure if it’s the best one right now!
Manika Premsingh owns shares of International Consolidated Airlines Group and Rio Tinto. The Motley Fool UK has no position in any of the shares mentioned. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.
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