What could push Rolls-Royce Holdings (LSE: RR.) shares higher in 2023?
We all know about bums on seats and more engine flying hours. And that’s happening.
In the first four months of the year, large engine hours were back up to 83% of 2019 levels. Even at that level, they’d already hit the target of 80-90% for the full year.
Profit and cash flow are key, and those look good, so far. Rolls has stuck to its aim of £0.8bn-£1bn in underlying operating profit, and free cash flow of £0.6bn-£0.8bn.
Beating targets?
And I just wonder if those targets might be beaten. So far, since the big share price slump in the Covid crisis, Rolls has been conservative in its outlook.
Some firms have been upbeat and cheery throughout. And reading their trading updates, we might think there were no problems at all.
But when things end up worse that expected, share prices can tumble. And it can take a long time to regain investors’ confidence.
Straight up
Rolls-Royce was open about its problems. The company kept talking about turning cash flow positive by the end of 2022. And then it did exactly that.
I think it helped people put their trust in the board. Whatever happens, it looks like we’re going to get straight words from them.
The share price seems to have responded in line with that trust.
Valuation
The main risk for me right now though, is valuation. A price-to-earnings (P/E) ratio for the current year might not mean much, not as profit is just returning. But forecasts have it at around 15 by 2025, and that looks reasonable.
But it doesn’t account for the firm’s huge pile of debt. Against that, I don’t see much safety margin. I fear that the next few years of optimism might already be built into the share price.
More gains?
Still, I think we might see more gains this year. If Rolls should bring in results ahead of expectations, that could give the shares an extra boost.
Under new CEO Tufan Erginbilgic, I see a real chance of that. He’s zoomed in on cutting costs and increasing efficiencies.
As part of his strategy, the new boss has already cut back on some R&D work. That might disappoint some of us. But I think it’s right to focus on what’s bringing in the cash right now.
Cash is key
Cash flow is key to getting debt down and boosting the firm’s credit rating. Once that happens, or if we see early signs of it, I suspect big City investors might buy back in.
In fact, I see signs right now of the market warming to the Erginbilgic’s tough approach. The analyst consensus is moving steadily towards the ‘buy’ end of the range. Looking at a range of 16 views, I see 14 positive ones and only two negative.
So will I buy Rolls-Royce shares? Well, no. I’m upbeat about the prospects for the rest of 2023 and beyond. But that valuation holds me back. I just see better value stocks out there.
