When new CEO Tufan Erginbilgic took the reins in January, the Rolls-Royce (LSE: RR) share price was only 99p. Now, it’s up to 227p.
It’s been a stunning rise that has made Erginbilgic look like a miracle worker. Under his leadership, the firm is the FTSE 100’s best performer this year and its market value has jumped from £8bn to £19bn.
As impressed as I am to see the shares more than double, I’m interested to see if he can keep the good times rolling. If so, the previous share price of over £4 might be in reach. Here’s how long it might take to get there.
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A problem jumps out at me immediately here, and it’s the firm’s valuation. The shares have been surging, sure, but it’s not based on big earnings.
Earnings per share for 2022 was 1.89p and the forecast for 2023 is 8.36p. On a forward basis, that makes a price-to-earnings ratio of 27. That looks very high with FTSE 100 valuations as depressed as they are right now. It looks like there’s a lot of hope built into the price.
To reach £4 a share at current earnings, the firm would need a P/E of 48. That’s as high as the most pricey of stocks. I don’t think reaching it is likely.
Earnings uplift
So the £4 target will require increased earnings. How does Rolls-Royce look in this department?
Well, Erginbilgic might be the key. He was unafraid to ruffle a few feathers when he got the job and called the company a “burning platform”. His approach seems to be having the desired effect. Rolls smashed expectations in its first half. Some highlights:
- H1 operating profit £660m-£680m (consensus: £328m)
- H1 free cash flow £340m-£360m (consensus: £50m)
- Full-year operating profit guidance £1.2bn-£1.4bn (consensus: £0.9bn)
- Full-year free cash flow £0.9-£1.0bn (consensus: £732m)
The momentum looks good then, but can it continue? Are we looking at a terrific leader cementing Rolls-Royce’s status as an engineering powerhouse? Or did he just get lucky and come in at the right time?
Well, I’d say timing does play a part here. Rolls-Royce’s income was slashed during the pandemic when the aeroplanes its engines were fitted in weren’t flying. The end of lockdowns was always likely to see some uplift.
Similarly, many cost-saving measures were brought in under the former boss. We’re seeing the result of that now, but most of the efficiency improvements have already been made.
The £4 mark
The firm’s order book looks strong, to be fair. Air India just placed a huge order for engines for its Airbus A350 fleet, and the order to replace the engines of the US’s B52 bombers was another that caught my eye.
These things could take years to push revenues up though. That’s just the nature of the business. And with supply chain issues plaguing the sector, it could take even longer than usual for strong orders to make a difference to the top and bottom line.
My answer then is that the £4 looks a long way off. I do own the shares and will continue to hold, but I won’t be expecting much growth from them in the near future.
