The Rolls-Royce share price has risen 189% in just the last 12 months. If I’d bought some of the shares a year ago, I’d be more than pleased.
However, not only did I not make a purchase back then, but I’m convinced I’m too late to the party. In fact, I’d even consider getting in at the present valuation a gamble rather than an investment. Here’s why.
Pandemic rebound
Since the pandemic hurt the company, it’s done a good job of coming back fighting. For example, it has massively improved efficiency by cutting thousands of jobs. It also streamlined its operations as a result of the reduced demand for air travel and new aircraft engines.
With its aviation sector hit hard, the company doubled down on its defence and power systems segments. In particular, the defence sector has provided resilience to economic hardship through ongoing government and military contracts.
These efforts have clearly been working as free cash flow has jumped a whopping 280% in the last year. However, does that mean the results are likely to continue?
Buying for the long-term
I’m an investor who focuses on over 10-year investment periods. After all, Warren Buffett made his wealth that way, and I’m confident he’s a great person to listen to for investing wisdom.
Based on Buffett’s approach, I think Rolls-Royce is just too expensive now for what it’s really worth.
For example, the company will need to hit 20% earnings growth on average every year over the next 10 years to justify the current price based on the discounted cash flow analysis method.
It’s rare for even the highest-growth tech companies to maintain such high earnings expansion, let alone a company like Rolls-Royce that’s been around since 1904.
A bubble
My feeling is that as the price has risen so much at this point, it could come crashing down. In investing, we often refer to this as a stock-market bubble bursting. It’s almost impossible to tell when, but if the financials can’t justify the price, it’s usually only a matter of time.
Also, I have to bear in mind it’s got negative equity at the moment. If there’s one thing I tend to make sure I do when investing is to look for a stable balance sheet. Unfortunately, Rolls-Royce doesn’t have that.
I’m not risking it
Even if the share price does keep rising, I’m not a fan of taking on lots of risk as an investor. If I did, I’d feel like I was gambling rather than investing.
This is why I’m a big advocate of value investing. Using that method, I look for great companies that are selling for less than they’re worth. That means even if bad things happen to the company, I have some margin of safety in the price I bought it at.
I wish Rolls-Royce shareholders well, but if I’d bought the shares a year ago, I’d be thinking about selling now. At the current valuation, I’m not buying a stake.
The post Rolls-Royce shares keep on climbing. Here’s why I’m staying away appeared first on The Motley Fool UK.
Like buying £1 for 51p
This seems ridiculous, but we almost never see shares looking this cheap. Yet this recent ‘Best Buy Now’ has a price/book ratio of 0.51. In plain English, this means that investors effectively get in on a business that holds £1 of assets for every 51p they invest!
Of course, this is the stock market where money is always at risk — these valuations can change and there are no guarantees. But some risks are a LOT more interesting than others, and at The Motley Fool we believe this company is amongst them.
What’s more, it currently boasts a stellar dividend yield of around 8.5%, and right now it’s possible for investors to jump aboard at near-historic lows. Want to get the name for yourself?
See the full investment case
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More reading
Can the Rolls-Royce share price keep going? Here’s what the experts say
When will the Rolls-Royce share price rally end?
How much higher can the Rolls-Royce share price go?
Why I think the Rolls-Royce share price rally is just getting started
Rolls-Royce shares keep rising. Here’s why I’m still not buying
Oliver Rodzianko has no position in any of the shares mentioned. The Motley Fool UK has recommended Rolls-Royce Plc. 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.
