Rolls-Royce (LSE:RR) shares collapsed during the pandemic and the stock has continue downwards in 2022. The pandemic has proven somewhat of a watershed moment for the British engineering giant. So let’s take a close look at Rolls-Royce’s fortunes and see whether this stock is right for my portfolio.
Five-year trend
If I had invested £1,000 in Rolls-Royce five years ago, today I’d have £250. That’s a pretty shocking return on my investment. The UK’s leading engineering firm is down 75% over the past five years.
For the first couple of years of my hypothetical investment, the Rolls-Royce share price remained pretty constant. But then the pandemic hit and brought air travel to a halt. This saw income from its flying hours contracts plummet.
Recent performance
Despite an improving market for civil aviation, Rolls-Royce said underlying operating profit fell to £125m in the six months to 30 June, from £307m a year ago. This was primarily down to a £371m spend in research and development, specifically focusing on Defence and Power Systems.
But one of the biggest challenges is debt — as of June, net debt stood at £5.1bn. The group has also been selling business segments in an effort to raise £2bn, some of which has and will be used to reduce the debt burden. But this also leaves Rolls a smaller company.
Things are looking up
I believe there are several reasons to be positive about Rolls-Royce going forward. In fact, all three of the company’s segments — Civil Aviation, Defence and Power Systems — are improving.
As we all know, civil aviation is returning to pre-pandemic levels, albeit slowly. Rolls-Royce’s engines are widely fitted to aircrafts used on long-haul flights, and that’s recovering a little slower still. Notably as some areas of the world, such as South East Asia, are yet to fully reopen to international travel. But, importantly, it is recovering.
Rolls-Royce also has a strong order book in Power Systems and Defence. The Power Systems division has seen its orders grow by 53% to £2.1bn over the past year. And the modular nuclear reactor programme was recently given government approval.
Defence is also likely to see a boost, although the impact won’t be immediate, according to Rolls. Defence spending is going up around the world and new prime minister Liz Truss wants to see UK defence spending hit 3% by 2030.
A strong order book gives the firm visibility going forwards. And that’s particularly important in the current macroeconomic environment, which is fairly challenging.
Is Rolls-Royce a buy?
For me, Rolls-Royce is a buying opportunity I cannot miss right now. Morgan Stanley recently upgraded its shares, saying it was “the clearest example of mispricing” in its coverage. In fact, the share price has fallen further since the broker’s comment.
Debt is clearly an issue. But with £2bn raised, and a strong order book, Rolls-Royce looks like a good buy for my portfolio.
