Rolls-Royce (LSE: RR) shares have been performing well in the last 30 days. They’ve climbed over 10%, with more than 5% of this gain coming in the last seven days. However, the shares are still down a whopping 30% year-to-date. Broadening this time span to 12 months, they’ve sunk 19% in value.
So, with Rolls-Royce shares seemingly gaining momentum, is now the time for me to buy this stock? Let’s take a closer look.
The story so far
Rolls-Royce shares were hammered after the onset of the pandemic. As the aerospace and defence giant makes most of its money servicing jet engines, the standstill in international travel led to revenues collapsing. Things got so bad that Rolls had to take on over £5bn in debt just to keep itself afloat.
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With interest rates on the rise in the UK and the US, this debt could quickly magnify if not correctly managed. I think the drop in the share price this year reflects investors’ worry about this risk. The firm has announced the shedding of various business units – including the £1.5bn sale of ITP Aero – to remedy this issue.
In Rolls’ FY2021 results announcement, it reported some great results. These helped push Rolls-Royce shares higher over the last week. For the first time in over two years, it reported a profit, albeit of only £10m. For context, it recorded a £4bn loss for FY2020. Gross margins also rose by 23% signifying that the business is getting back on track. Finally, cash burn fell to £1.4bn, a near £3bn reduction compared to FY2020.
The firm also announced that it achieved its goal to cut costs by over £1.3bn a year early. This mainly came from a 34% reduction in headcount, as well as a 70% capital expenditure decline. This cost-cutting shows Rolls is taking serious steps to rebuild its balance sheet.
Are the shares good value?
Rolls’ £10m in profits mean the shares currently trade on a price-to-earnings ratio of 60. This is way above the accepted ‘good value’ figure of 10. But analysts are expecting Rolls’ profits to rise to £240m in 2022. This puts the shares on a forward P/E ratio of 21, which still isn’t cheap. This high valuation deters me from buying the shares.
However, there are several reasons I think the stock could rise over the next few years. Rolls is currently leading the field in small modular reactor (SMR) production and expects approval by mid-2024 for manufacture in the UK. It’s also committed to creating complete power and propulsion systems for electric motors, control systems, and batteries. These development plans excite me.
The bottom line
With Rolls-Royce shares on the rise, I think now could be a good time for me to buy. The monumental debt pile is my biggest worry, but Rolls has outlined its plans to tackle this and it’s already following through on these promises. The return to profitability also fills me with confidence, and as such, I would be happy to add its shares to my portfolio at 88p.
