Are Rolls-Royce shares the FTSE 100’s best bargain?

The Rolls-Royce share price still looks like a brilliant bargain despite further strength. So should I be adding it to my portfolio in September?

| More on:

The content of this article was relevant at the time of publishing. Circumstances change continuously and caution should therefore be exercised when relying upon any content contained within this article.

You’re reading a free article with opinions that may differ from The Motley Fool’s Premium Investing Services. Become a Motley Fool member today to get instant access to our top analyst recommendations, in-depth research, investing resources, and more. Learn More.

The Rolls-Royce (LSE:RR) share price continues to surge in late summer trading. At 219.9p per share, the FTSE 100 stock has gained a whopping 44% in value over the past two months alone. It’s also more than 130% more expensive than it was at the start of the year.

Yet amazingly the engineer still looks dirt cheap according to current profits estimates. City analysts have upgraded their forecasts following recent strong half-year results, and earnings are now tipped to soar 329% year on year in 2023.

This means that Rolls-Royce shares trade on a forward price-to-earnings growth (PEG) ratio of 0.1. As a reminder, any reading below 1 indicates that a stock is being sold below value.

Brokers think yearly earnings in 2024 and 2025 will rise another 24% and 21% respectively, too. So the PEG reading remains below this bargain benchmark long into the future.

Is Rolls a FTSE value stock I can’t afford to miss?

Sunny skies

Rolls has been flying thanks to the civil aviation sector’s sustained recovery. In fact, a better-than-expected rebound prompted the company to upgrade its profit and free cash flow forecasts for this year.

The business makes a terrific amount of money from servicing the large engines used on commercial aircraft. Its Civil Aerospace division is responsible for just under half (47%) of group revenues.

Things are looking sunny for its core unit over the long term too. As the graphic below shows, aircraft numbers are — thanks in large part to robust sales in Asia Pacific — tipped to rise strongly over the next decade. This gives aerospace companies an excellent opportunity to sell and service their product.

As a potential investor, I’ve been keeping a close eye on speculation that Rolls could re-enter the narrow-body aircraft market too.

New chief executive Tufan Erginbilgic hasn’t suggested an imminent return to this segment as part of his transformation strategy. But he has touted the possibility of entering “into partnership” with another company when the next round of development projects begin, Reuters has reported.

Why I’m not buying Rolls shares

Things are looking tasty for the civil aerospace market, then. And the defence sector — another major source of company profits — also looks set for steady growth as geopolitical tensions grow.

However, I’m not tempted to buy Rolls-Royce shares today. I’ve long worried about a bubble forming around the FTSE share. And the fresh upswing in its price during recent weeks has increased my fears.

The company’s major £2.8bn net debt pile, a large chunk of which needs to be repaid by the end of 2025, is one problem that overshadows it. Should the travel sector begin to slow as the economy splutters, concerns over Rolls’ balance sheet will inevitably rise.

I’m also mindful of the huge competition the business faces to sell its commercial engines. According to Statista, Rolls-Royce has a market share of just 12%. A debt-heavy balance sheet could see it fall even further in the pecking order if development budgets are affected.

Despite the cheapness of its shares, I’d still rather buy other FTSE value stocks.

Should you invest, the value of your investment may rise or fall and your capital is at risk. Before investing, your individual circumstances should be assessed. Consider taking independent financial advice.

Royston Wild has no position in any of the shares mentioned. The Motley Fool UK has no position in any of the shares mentioned. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.

More on Investing Articles

British bank notes and coins
Investing Articles

Should I buy M&G shares for the 9.8% dividend yield?

With the M&G dividend yield close to double digits, this existing shareholder explains why he'd happily buy more of the…

Read more »

British Isles on nautical map
Investing Articles

This cheap UK stock could rise 30%, the City says

Analysts covering Serco Group shares reckon they could rise by over a quarter. But is this UK stock a good…

Read more »

2024 year number handwritten on a sandy beach at sunrise
Investing Articles

Here’s how I’d aim for a million by investing £45 a day

Christopher Ruane thinks putting £45 a day into blue-chip shares could help him aim for a million. Here are some…

Read more »

Light trails from traffic moving down The Mound in central Edinburgh, Scotland during December
Investing Articles

I’d buy FTSE 100 shares in December before the next stock market rally!

Christopher Ruane explains why he would happily snap up cheap FTSE 100 shares between now and the end of the…

Read more »

Businesswoman calculating finances in an office
Investing Articles

6% yield and 8% annual revenue growth! A passive income opportunity

Why not have the best of both worlds? Our writer explores a passive income opportunity with a 6% yield, bolstered…

Read more »

Group of young friends toasting each other with beers in a pub
Investing Articles

I’ve been loading up on this FTSE 250 share in November!

Christopher Ruane explains why he's been adding even more shares in this well-known FTSE 250 name to his portfolio this…

Read more »

One English pound placed on a graph to represent an economic down turn
Investing Articles

Down 30%, these cheap shares are on sale!

Cheap shares don’t mean anything to our analyst unless there’s real value in what he’s buying. Let’s see his Foolish…

Read more »

Photo of a man going through financial problems
Investing Articles

I can’t believe how far these FTSE 100 shares have fallen!

While the FTSE 100 is up 0.7% over six months, these five Footsie flops have collapsed 26% to 40%. But…

Read more »