Buying Rolls-Royce (LSE: RR) shares last November will go down as one of my best investment decisions, as they’ve rocketed 89.16% since then. Measured over 12 months, they’re up 62.85%.
I watched them lose three-quarters of their value before deciding the sell-off had gone far enough and it was time to take a punt on the recovery. Now I’m trying to decide whether to run my big winner or plough the profit into another undervalued recovery play.
The FTSE 100 stock I’m thinking of buying is BT Group (LSE: BT.A), whose share price has fallen by three-quarters since 2016. I’ve been watching its remorseless slide waiting for the right moment to buy the stock. So are we there yet?
Time to jump horses?
I’ve come close to buying BT on a number of occasions, but always held back. I’m glad I did, because the share price has fallen 18.94% over the last three months. Over the last year, it’s down 29.97%. Even reports that major shareholder Deutsche Telekom is lining up a takeover haven’t injected much life.
Outgoing CEO Philip Jansen reckons BT has made “a lot of progress” over the last four-and-a-half years, giving 11m homes fibre, extending 5G to more than two-thirds of the country, and improving its customer service. This should strengthen BT Group and “drive growth for both investors and the UK”, he said, but it hasn’t done much for long-term investors.
BT shares even managed to miss out on this week’s bounce. Even its dirt-cheap valuation of just 6.5 times earnings doesn’t tempt buyers, which makes me wary, too. I like buying out-of-favour stocks but only up to a point.
I’m nervous about its mammoth net debt, which is set to top £20bn in 2025. Its pension scheme commitments worry me, too. Sales are expected to rise slowly, from £20.68bn in 2023 to £20.77bn in 2024, then £20.932bn in 2025. It’s not enough.
BT has one thing to offer that Rolls-Royce didn’t. Despite its troubles, it still pays a bumper dividend. The current yield is more than 6%. However, UBS recently warned BT will need to borrow more than £900m a year for the next three years to maintain shareholder payouts at current levels, as free cash flows are squeezed. It looks fragile to me.
I don’t want to throw money away here
My success with Rolls-Royce won’t count for much if I end up losing my profits on BT. Rolls-Royce has momentum on its side, fewer problems, a less complicated structure, and far lower borrowings. It has mostly cleared its huge borrowings through disposals, leaving relatively modest net debt of £2.65bn this year. Better still, this is forecast to fall to just £1.64bn in 2024. There’s no dividend today, but it should be back in a year or two.
Naturally, Rolls-Royce has risks, as new CEO Tufan Erginbilgic tries to generate some lasting value, but with full-year free cash flow of £505m, it’s pointing in the right direction. It could be a long time before my Rolls-Royce shares grow another 90%, but I’m willing to be patient.
I’ll leave BP on my watch list while I wait for the right moment to buy. Maybe after the dividend is cut?
