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Over the past year, Rolls-Royce (LSE:RR.) shares have exploded in value as profits rebounded. But as it’s Friday the 13th, it’s worth considering whether the engineer might now be a terrifying trap for investors to avoid.
At 212.8p per share, the Rolls-Royce share price has risen a whopping 248% since this time last year. It eclipses the 12% rise the broader FTSE 100 has recorded over that time.
Does this suggest a bubble has formed around the company? Could I lose a blood-curdling amount of money by buying its shares at today’s prices?
Strength in depth
Dont get me wrong, Rolls-Royce is no damsel in distress, as its rampant share price shows.
The company sources a large swathe of its profits from selling and servicing engines on commercial aircraft. So it’s very effectively ridden the travel sector’s robust post-pandemic rebound. Organic sales from its Civil Aerospace arm rocketed 38% in the six months to June.
Rolls has enjoyed a solid uptick across the rest of the business too. Rising arms budgets means sales have been rising by double-digit percentages at its Defence division. Turnover at the firm’s Power Systems unit also rose by almost a quarter during the first half of 2023.
Creepy conditions
That said, I fear Rolls-Royce could struggle to keep its recent momentum going as economic conditions worsen. It threatens to derail sales at its Power Systems division (where orders worryingly dropped 14% between January and June).
The threat of a downturn at the firm’s Civil Aerospace unit is even more concerning. As analyst Sophie-Lund Yates of Hargreaves Lansdown comments: “There are questions about how much fuel consumers have left in the tank… although consumer confidence in the UK is moving in the right direction, this doesn’t necessarily translate to a continued flood of international travel.”
Lund-Yates’ comments followed easyJet’s latest (positive) financials on Thursday. But her warnings will resonate with airlines across the world. European economies are facing a painful recession, while struggles in China threaten to engulf the broader Asian continent.
The chance of higher-than-usual global interest rates persisting poses another threat to the travel sector. Around 47% of Rolls’ revenues come from Civil Aerospace, so a sudden fall in flying hours for its engines could prove catastrophic for the group.
Dastardly debts
On top of mounting trouble in its end markets, Rolls also faces lasting supply chain problems that could hit sales and profits. Engineering giants Airbus and Safran have both recently warned that current disruptions could last into next year.
These problems alone don’t make the UK company a horror show. But their effect on its still-stretched balance sheet could be grisly.
Rolls had net debt of £2.8bn as of June, and there are no further asset sales forthcoming to help the company get this down. A large proportion of its financial liabilities need to repaid by the end of 2025 too.
Rolls-Royce’s share price has trended gradually lower in recent weeks. I fear it could be the beginning of a sharp downturn, so I’m happy to buy other UK stocks right now.
