In the past few years, Rolls-Royce (LSE: RR) has not been an investment for the light-hearted. The company diluted shareholders by issuing new shares to boost liquidity. It also saw its share price collapse, before starting to recover. Lately, though, the Rolls-Royce share price has been moving down again and now trades as a penny share.
Given the share price level, could this be the time to buy Rolls-Royce for my portfolio with the intention of holding it in the coming years? I think the answer could be yes – here is why.
Business fundamentals and the market
Lately the market has been nervous, with prices seesawing in unpredictable ways. Rolls-Royce is certainly sensitive to current nervousness, both because of its exposure to defence clients and its civil aviation business. If geopolitical risks lead to fewer passengers flying again, that could hurt revenues and profits at the aerospace engineer.
Given all that, it is understandable that the Rolls-Royce share price has been falling lately. Things have not been helped by the announcement that the company’s chief executive will leave. Nonetheless, I feel the shares have been hit by broader market concerns without the company’s improving business prospects being properly considered.
In its annual results last month, Rolls-Royce announced that it had returned to profitability. It also said that it is once more generating free cash flow. That reduces the risk of liquidity worries leading to another rights issue. Given how tough things have been for aircraft engine makers like Rolls-Royce in the past couple of years, I think that business turnaround is a significant achievement.
Is the Rolls-Royce share price a bargain?
Over the past year, the Rolls-Royce share price has fallen 12%. It remains a long way above its pandemic lows, though. It is almost 150% above where it stood in October 2020.
I still see possible value here for my portfolio. Rolls-Royce’s prospects now look very different to October 2020. If the company can continue its turnaround – which admittedly is not certain – I expect to see strong earnings growth over the next few years. There is substantial demand from customers, which could help boost both revenues and profits. Indeed, in its full-year results, the company said that it expects to see “positive momentum in our financial performance in 2022 despite the challenges and risks”.
The market for aircraft engine sales and servicing is likely to grow in coming years. In fact, I expect it to grow for decades albeit with the occasional bump. Only a handful of companies have the expertise to make and service large aircraft engines. Rolls-Royce is one, which I think gives the company a long-term competitive advantage.
My next move
I have been considering adding Rolls-Royce to my portfolio lately. I am still thinking about whether to do so. I recognise the risks involved, many of which are outside of Rolls-Royce’s control.
But it is a well-established company with a large installed customer base, specialist expertise, and a sustainable competitive advantage. As a long-term investor, those qualities make it a good fit for my portfolio at the current price.
