2 Reasons To Steer Clear Of Rolls-Royce Holdings plc

In recent days I have looked at why I believe aerospace giant Rolls-Royce Holdings (LSE: RR) (NASDAQOTH: RYCEY.US) is poised to take off (the original article can be viewed here).

But, of course, the world of investing is never a black-and-white business — it take a confluence of views to make a market, and the actual stock price is the only indisputable factor therein. With this in mind I have laid out the key factors which could, in fact, undermine Rolls-Royce’s appeal as a blue-chip beauty.

Bribery allegations still spreading across Asia

Allegations of corruption have shaken investor faith in Rolls-Royce in recent months. The Serious Fraud Office has been investigating allegations of bribery in Indonesia and China related to the sale of aircraft engines for some months now, and news of arrests in the City in February drove shares to their lowest for more than a year below £10 per share.

Rolls-RoyceSince then the newsflow has worsened considerably, with claims of misconduct in India prompting authorities there to put a hold on all deals with the company until a full investigation is completed. If misconduct is proven, this could have a devastating impact upon future earnings should new and existing contracts be nullified and hefty financial penalties imposed.

Meagre dividend growth in the pipeline

Rolls-Royce has been a reliable deliverer of strong dividend growth in recent years. The engineer has charged the full-year payout at a compound annual growth rate of 10.1% over the past five years, culminating in last year’s 12.8% increase to 22p per share.

However, the City’s number crunchers expect payout expansion growth to slow markedly over the medium term as earnings slow. Rolls-Royce is anticipated to fork out a 23.2p dividend in 2014, up 5.5% from last year, even though a 9.1% rise to 25.3p for 2015 marks something of a revival.

These projected increases create below-par dividend yields of 2.2% and 2.4% for 2014 and 2015 correspondingly. By comparison, the entire aerospace and defence sector carries a forward average of 2.6%, while the FTSE 100 takes Rolls-Royce to the cleaners with a prospective yield of 3.2%.

Rolls-Royce has been playing catch-up with the wider market in the dividend stakes for some time now, even in spite of the heavy annual rises of recent years. So for income investors I believe that better payout prospects can be sought elsewhere, particularly as the company’s worrying cash flow situation could also pressure future growth rates.

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> Royston does not own shares in Rolls-Royce Holdings.