The last time I reviewed Rolls-Royce (LSE:RR) shares for my holdings, I made the decision not to buy the shares. In recent months, shares in the company have dropped even further. Are they now too cheap to ignore?
RR becomes a penny stock
As I write, Rolls-Royce shares are trading for 94p, making it a penny stock as it trades for less than £1. This time last year, the shares were trading for 108p, which is a 12% decline over a 12-month period. Since the beginning of 2022, the shares have dropped by 25% from 127p to current levels due to the Russia-Ukraine crisis as well as macroeconomic pressures.
RR’s issues since the pandemic began in 2020 have been well-documented. Rolls-Royce shares were trading for over 300p in 2019, prior to the pandemic. I’d happily add the shares to my holdings today if I believed they would reach similar levels once more.
Risks with Rolls-Royce shares
The Rolls-Royce share price is currently trading for a price-to-earnings ratio of close to 20. This is too high for my liking, especially for a business badly affected by the pandemic that had to borrow to keep the lights on, and that is still at the mercy of the pandemic.
As a passive income seeker, I like to see a regular dividend. Rolls-Royce has a lot of debt on its books, so its priority may be to pay down debt, rather than reward shareholders.
The Rolls-Royce shares are still at the mercy of the pandemic. For example, Covid-19 is still rife in China, which is a huge market for the company. Further trading issues in such a big market could once more affect the company’s performance and balance sheet.
Positives and my verdict
Rolls-Royce could be about to turn the corner, despite credible risks to its progress. Firstly, its annual report released last month reported an operating profit of £414m compared to substantial losses last year. This tells me that some of its business is beginning to experience pre-Covid demand. Defence aerospace did particularly well last year, and with the current geopolitical landscape, firms like Roll-Royce could benefit. This could boost the shares upwards.
Next, the shares could be boosted by the company’s civil aerospace business returning to pre-pandemic levels if international travel demand continues upwards. The civil aerospace business reported a huge loss of £2.5bn in 2020. This loss was down to £172m in last month’s results for 2021. I believe there’s every chance 2022 could see Rolls-Royce’s civil aerospace business return to profitability.
Finally, Rolls-Royce could see its nuclear reactor business boost performance, the balance sheet and the shares upwards in the coming years.
Rolls-Royce shares may have fallen to penny stock levels, but I wouldn’t add them to my holdings. Despite 2021 results being better than 2020, I still think there is a long way before RR becomes an attractive stock for me personally. Its high debt levels, coupled with potential ongoing pandemic woes put me off for now.
