The Rolls-Royce (LSE: RR) share price has been on an extraordinary run, doubling in the last 12 months and soaring 475% over two years. Investors who bought at the lows have seen staggering returns, but it can’t maintain this breakneck pace forever.
Rolls-Royce shares look expensive with a trailing price-to-earnings (P/E) ratio of 44 times. That’s well above the FTSE 100 average of 15 times. The danger is that stellar past performance blinds investors to future risks.
Can this FTSE 100 flyer keep going?
Analysts expect strong earnings growth to bring the P/E down to 28.6 times in full-year 2025, based on a consensus earnings per share (EPS) forecast of 21p. By 2027, EPS are forecast to hit 29.3p. That would reduce the forward P/E to around 20 times. So while the stock is pricey today, it could grow into its valuation if the company continues executing well.
But if it falls short? That will hurt. Transformative CEO Tufan Erginbilgiç has navigated the “burning platform” phase successfully, but must now ensure the company runs at full speed to keep investors happy.
Financial performance has been impressive. Half-year results for 2024 showed revenue rising from £7bn to £8.2bn. Underlying operating profit leapt from £670m to £1.15bn. Margins expanded from 9.7% to 14%.
Where will the stock go next?
Debt, once a major issue, is no longer a pressing concern. At the end of 2022, net debt stood at £3.3bn. At last count, it was down to just £820m. Free cash flow is expected to range from £2.1bn to £2.2bn for the full year, strengthening the company’s financial position. Dividends are back, though with a modest forecast yield of 1.1%.
The 15 analysts covering Rolls-Royce have a median 12-month price target of 640p. That’s a 9% increase from today’s 592p. Nobody is going to double their money this year, I’m afraid.
Predictions vary widely though. The highest estimate is 850p, a potential 44% gain. The lowest is 540p, implying a near 9% drop. As with any stock, it could go anywhere in the short run.
Analyst sentiment remains strong. Of 17 analysts, nine rate it as a Strong Buy, two as a Buy, four as a Hold, and only one recommends selling.
Rolls-Royce got another boost on 24 January, announcing the eight year £9bn Unity contract with the Ministry of Defence, designing and supporting nuclear reactors for the Royal Navy’s submarine fleet.
What could hold it back?
Despite these positives, risks remain. Any earnings disappointment could hit the share price hard. External threats, such as a global aerospace slowdown, technical issues with aircraft engines, or a return to inflation could squeeze performance. Geopolitical tensions, including a potential trade war under Donald Trump, add further uncertainty.
The company’s improving profitability, strong cash flows, and major defence wins suggest a bright future. Investors will get a clearer picture when Rolls-Royce publishes full-year results on 27 February.
I’d still buy Rolls-Royce, but only with a minimum five-year view, as things may get bumpier from here. Since I already own the stock, I’m holding.
