Even for a company specialising in rapid gains of altitude, Rolls-Royce (LSE: RR) has been having good year so far in 2023. Rolls-Royce shares are up by more than half since the start of the year.
That has been handsomely rewarding for some shareholders, depending on when they bought. Buying in January, the gain has been impressive. But longer-term shareholders remain deeply in the red. Rolls-Royce shares are 47% below where they stood five years ago.
Can the recent run continue – and ought I to add Rolls-Royce to my portfolio on that basis?
Potential tailwinds
I do see some possible drivers for continued upwards movement in Rolls-Royce shares.
Some of the positive movement this year is down to the appointment of a new chief executive, who has outlined plans to cut costs at the company. That could boost profits. If there is news about the positive impact of this programme, I think that could help drive up the share price.
What about the return of civil aviation around the globe? One of the reasons that Rolls-Royce shares were depressed in recent years was the reduced number of flying hours of large civil airliners. That translates into smaller servicing revenues for Rolls-Royce, which has a sizeable installed base of engines.
As flyers have returned to the skies, investors have bid up the price of Rolls-Royce shares.
But it may be that there is room for even more civil aviation growth ahead. Over Easter, for example, easyJet reported “strong demand and positive yield growth” compared to the pre-pandemic equivalent in 2019. Ongoing high travel demand could boost servicing revenues for engine makers. It could also lead some airlines to place orders for new planes and engines, after a lean few years during the pandemic when their priority was on conserving cash.
Valuing Rolls-Royce shares
The challenge I see, though, is that a lot of these expectations now seem to be baked into the price of the aeronautical engineer’s shares.
Shareholders are expecting better profitability and higher customer demand ahead. How else to explain the surging share price, given that the company reported a £1.2bn loss after tax last year?
Rolls certainly has some powerful elements to its investment case. The technical nature of designing, building, and servicing aircraft engines means that the industry has just a few big players and high barriers to entry.
Its installed base of engines should help the firm earn sizeable servicing revenues for years to come. The defence division is performing robustly and asset sales have helped the firm reduce debt.
Nonetheless, I think it is now time for business results to catch up with expectations. Until there is more hard evidence of a sustained turnaround in the company’s fortunes, I think the price of Rolls-Royce shares is high enough.
I sold my position recently and have no plans to buy back into the company soon at the current price. But I will be keeping an eye out for further concrete signs of solid business recovery.
