After such a blistering run, I’m instinctively wary of the Rolls-Royce (LSE: RR) share price. It’s up 88% in the last year and an astonishing 1,157% over three. That latter figure would have turned a £10,000 investment into £125,700.
It’s also the kind of performance that sucks in latecomers, keen to grab a slice of the action. The big risk is that it all blows up in their faces.
High-flying FTSE 100 stock
I’m surprised the Rolls-Royce share price has done so well over the last year, but that’s a familiar failing. I tend to underrate the power of momentum. The FTSE 100 engineering powerhouse has continued to deliver.
In August, it upgraded full-year 2025 guidance, citing strong demand for civil aerospace engines and progress in cost-saving programmes. It now expects underlying operating profit of between £3.1bn and £3.2bn, up from previous forecasts of up to £2.9bn.
Free cash flow may rise to as much as £3.1bn, compared with the earlier £2.9bn. That news gave the shares another lift, even though the group warned operating profit would be slightly lower due to higher maintenance costs. Reliability problems with the Trent 1000 engine, which powers the Boeing 787 Dreamliner, persist.
The shares have now developed reliability issues of their own, falling 3% over the last three months. That’s despite Rolls-Royce reaffirming its outlook last month amid “strong” trading, and announcing a further £200m interim share buyback on 16 December, following the £1bn completed in November.
Much now rests on 2025 results, due on 26 February. These will show whether full-year targets have been hit, beaten, or missed. With the shares trading on a dizzying price-to-earnings ratio of 54, any disappointment would be painful.
All down to company results
At The Motley Fool we don’t believe in ducking in and out of shares, but prefer to hold for the long run. Even so, I’ve started to wonder whether to take some profits and reduce my exposure.
So I did something I rarely do and asked artificial intelligence, in the shape of ChatGPT, to run a discounted cash flow (DCF) analysis on Rolls-Royce at around 1,097p. And rather wished I hadn’t.
AI has its limits, and to its credit, it acknowledged them, warning that a DCF “is not a single fixed number” without detailed cash flow assumptions. It then did what it often does, scraping other people’s work from the internet while making a few ridiculous goofs, in this case suggesting Rolls-Royce shares trade at £1,100 each rather than almost 1,100p (£11 as I write). Just a small rounding error!
Cash flow confusion
Its fair value estimates ranged from £5.67 per share, implying Rolls-Royce is 48% overvalued, to £9.35, suggesting a more modest 15% premium.
That suggests the shares may be a little overvalued, but the exercise felt unsatisfactory. I’ll stick to the P/E for now. And return to first Foolish principles. We believe it’s impossible to second-guess short-term share price movements. We encourage buying with a long-term view to ride out volatility.
I won’t be selling my Rolls-Royce shares. But I think investors should think very carefully before considering them today. The company has an awful lot to live up to, and I can see better value elsewhere on the FTSE 100.
