Rolls-Royce shares are up 180% in a year! Is it too late to buy?

Rolls-Royce shares have produced phenomenal returns for investors over the last 18 months or so. Are they worth buying today though?

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Rolls-Royce (LSE: RR.) shares have been one of the best performers on the London Stock Exchange. Over the last year, they’ve risen about 180%.

I’ve missed out on these explosive share price gains as I don’t own the stock. Is it too late to buy now? Let’s discuss.

Business is booming

To answer that question, I’m going to look at two factors – business performance and the company’s valuation.

Now, there’s no doubt that business performance has been brilliant. For 2023, Rolls-Royce posted:

  • Revenue of £15.4bn, up 21% year on year
  • Underlying operating profit of £1.6bn, up 144%
  • Record free cash flow of £1.3bn, up 155%
  • A return on capital 11.3%, more than double the year before
  • Net debt of £2bn, down from £3.3bn at the end of 2022

As a result of these figures, and healthy guidance for 2024 (it expects operating profit of £1.7bn-£2bn and free cash flow of £1.7bn-£1.9bn this year), brokers have been lifting their earnings forecasts and share price targets. For example, Jefferies just raised its target price to 470p from 390p. This kind of broker activity has boosted the shares.

Looking ahead, Rolls-Royce may be able to continue performing well. That’s because the airline industry’s booming and major airlines are scrambling to buy new aircraft.

Last year, the company said it expects a 7%-9% annual increase in Rolls-Royce-powered aircraft in service for the remainder of the decade. It also forecast engine flying hours to reach 120-130% compared to 2019 levels in the medium term.

Another key factor is that Rolls-Royce is putting its engine maintenance prices up. This should help to boost revenues and profit margins.

I will point out however, that Rolls-Royce does have some competition in the aerospace engine space. These include GE Aerospace, CFM International (a joint venture between GE Aerospace and Safran Aircraft Engines), and Pratt & Whitney.

And there’s a risk that customers could turn to these competitors for engines if Rolls-Royce hikes its prices too much.

Recently, long-standing customer Thai Airways turned to GE Aerospace to provide engines for new Boeing 787s, following what sources have said were disagreements over pricing.

This is an issue to keep an eye on.

High valuation

While the outlook looks promising however, the company’s valuation is quite high now.

Currently, brokers expect Rolls-Royce to generate earnings per share (EPS) of 14.9p for 2024 and 18.3p for 2025. These forecasts equate to P/E ratios of 28.1 and 22.9.

At those multiples, I think a lot of good news is already priced into the stock. They don’t leave a huge margin for safety.

That said, the multiples could come down if earnings forecasts continue to rise.

My view on Rolls-Royce

Putting this all together, I wouldn’t be surprised to see Rolls-Royce shares climb higher. The company’s performing well, and investors are enthusiastic about its prospects.

However, my gut feeling is that the bulk of the gains from the recovery in the civil aviation market and the company’s recent transformation are already baked into the stock. As a result, I think there are better opportunities for my money right now.

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.

Edward Sheldon has positions in London Stock Exchange Group Plc. The Motley Fool UK has recommended Rolls-Royce Plc. 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.

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