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Why I think the Rolls-Royce share price is a FTSE 100 bargain

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It seems a long time since 28 February, when Rolls-Royce Holding (LSE: RR) boss Warren East reported a 25% rise in profits for 2019. Since that day, the FTSE 100 has fallen by 12% and the Rolls Royce share price has fallen by more than 45%.

Given the impact of the Covid-19 pandemic on air travel, it’s not hard to see why Rolls’ share price performance has lagged behind the wider market. But I think that when we look back in a few years’ time, we’ll find that Rolls-Royce shares looked seriously cheap in April 2020.

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It’s tough out there

The coronavirus pandemic has forced airlines to ground their fleets. British Airways owner International Consolidated Airlines has cancelled 90% of its passenger flights for April and May. With flying hours down, demand for Rolls’ maintenance, repair and overhaul services is also falling fast.

Over the next six months, I suspect we’ll also see airlines cancelling orders for new aircraft. If so, orders for new engines from Rolls-Royce could be lower than expected over the next few years.

This won’t last forever

However, the current situation can’t continue for too long without causing permanent damage to airlines and their suppliers.

We’re already seeing signs that a number of countries in Asia and Western Europe are easing their lockdown restrictions. In time, I’m sure that air travel will recover too. This won’t happen overnight, but I’m pretty sure that by the end of this year, we will be able to fly freely all over the world again.

What’s special about Rolls-Royce?

Some companies could disappear tomorrow and not really be missed. But Rolls-Royce isn’t one of these. The company is one of only two major suppliers of jet engines for wide body aircraft — the kind used for medium and long-haul flights.

New competition seems unlikely too. There are huge barriers to entry. Producing engines for such planes is immensely complex and expensive. Becoming a trusted partner to both Boeing and Airbus — as well as major airlines — is also difficult. And on top of all that, any company producing jet engines faces tough regulatory hurdles.

All of this combines to give Rolls-Royce a significant ‘moat’. It simply isn’t possible for competitors to easily enter this market.

I think the Rolls-Royce share price is cheap

Many successful investors — including Warren Buffett — prefer to invest in companies with a moat. The reason for this is that when businesses have limited competition, they’re often able to generate reliable profit growth over many years.

Things look tough at the moment, but this won’t last forever. The world’s airline industry needs Rolls’ products and specialist engineering skills.

At about 330p, the Rolls-Royce share price hasn’t been this low since the financial crisis. We saw a strong recovery then, and I think we can expect the same this time. I see the shares hitting 600p-800p over the coming years. At current levels, I’d be buying.

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Roland Head 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.

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