Rolls-Royce (LSE:RR) shares are down nearly 20% over the last 12 months. Investors have become increasingly concerned about the impact of debt taken on during the pandemic, while doubts remain as to when the civil aviation business will fully return to pre-pandemic levels.
However, the picture over the past three years is even worse. The British-based aerospace and defence giant is down 75% over that period.
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But I believe the Rolls-Royce share price has reached its nadir and I see plenty of growth potential. Today, the stock is trading at 83p a share. Even if it doubled in value in the coming years, it would still be trading around half of its pre-pandemic peak. So, could I double my money with Rolls-Royce shares?
What’s behind the fall?
What’s the cause of the falling share price? Rolls-Royce stock slumped when the pandemic commenced as flying hours fell considerably.
With flying hours only just nearing pre-pandemic levels now, the last two years were very damaging for the group as a whole. Rolls-Royce ended up taking on more debt — £5.2bn by the end of 2021. This debt is a major concern for some analysts who believe it will impact future profitability.
In fact, Rolls-Royce hopes to raise £2bn in total proceeds from the sale of its ITP Aero business and other sales. Proceeds from the sale and its wider programme of disposals will be used to repay debt.
Staff and project cuts during the pandemic could also impact long-term profitability.
What will it take to double my money?
So could I double my money with Rolls shares? Firstly, in practical terms, I’d need the share price to reach 166p a share — double today’s price. But for this to happen, Rolls-Royce needs to become much more profitable and reduce debt.
The sale of ITP Aero, which has grown to become one of the top 10 aircraft engine and components manufacturing companies in the world, will help reduce debt, but it will also reduce Rolls-Royce’s revenue-generating capacity.
Net income in 2021 was £124m, that wa a considerable improvement on 2020, but it didn’t show a return to pre-pandemic levels of profitability. Rolls-Royce currently has a price-to-earnings (P/E) ratio of around 50 based on previous earnings, and that’s very expensive.
It’s price-to-sales ratio is much more attractive at 0.57. This means Rolls-Royce generated more revenue that the total value of the business in 2021.
Even if Rolls-Royce could achieve a fraction of its previous levels of profitability, its P/E ratio would bring it in line with the index average. The FTSE 100 has an average P/E ratio of around 15.
There are positive signs coming out of HQ. The Manchester-founded firm expects civil aerospace underlying revenues to grow in low double-digits. Meanwhile, it has noted a strong order backlog in its defence business.
However, Rolls-Royce clearly has some way to go to address balance sheet issues. With liabilities outweighing asset, its can’t offer a dividend.
I’m buying Rolls Royce shares!
I’ve bought Rolls-Royce shares and would buy more. If it manages to reduce debt, while delivering revenue growth and improving margins, I think the share price could double from today’s 83p. But it’s a business in flux, and it could take several years for this to happen, plus it may not happen at all.