Engineering companies have started to shine over the past year or so as the recession has been fading, and today I’m taking a look at Rolls-Royce (LSE: RR) (NASDAQOTH: RYCEY.US), famous mainly for its aerospace engines which are heavily used by the likes of Airbus and in combat aircraft. Is it likely to be a winner in 2014?
Here’s a quick look at the past five years’ earnings and dividend figures, with forecasts for 2013 and the following two years:
| Dec | EPS | Change | P/E | Dividend | Change | Yield | Cover |
|---|---|---|---|---|---|---|---|
| 2008 | 36.70p | +8% | 9.1 | 14.3p | — | 4.3% | 2.6x |
| 2019 | 39.67p | +8% | 12.2 | 15.0p | +4.9% | 3.1% | 2.6x |
| 2010 | 38.73p | -2% | 16.1 | 16.0p | +6.7% | 2.6% | 2.4x |
| 2011 | 48.54p | +25% | 15.4 | 17.5p | +9.4% | 2.3% | 2.8x |
| 2012 | 59.27p | +22% | 14.7 | 19.5p | +11% | 2.2% | 3.0x |
| 2013* | 67.07p | +13% | 18.5 | 21.5p | +10% | 1.7% | 3.1x |
| 2014* | 72.72p | +8% | 17.1 | 23.8p | +11% | 1.9% | 3.1x |
| 2015* | 78.78p | +8% | 15.8 | 26.1p | +9.7% | 2.1% | 3.0x |
* forecast
Nice growth last year
Those are good earnings and dividend rises, but it’s clear that Rolls-Royce isn’t really much of a dividend investment at the moment — yields of around 2% are a good way short of the forecast FTSE average of 3.1%.
What we’re looking at here is really a growth opportunity, which is relatively rare for a FTSE 100 share. We’ve seen some decent growth already — and at around 1,250p, the share price is up nearly 40% over the past 12 months against a FTSE that has struggled to top 10%.
So after such a year, is there anything left? I think there is.
Forecasts
For a start, we have slowing but impressive earnings growth forecast for the year just finished and for the next two years, after a couple of years of rapid recovery. And with economies strengthening I feel those expectations could be a little on the conservative side — at third-quarter update time, Rolls-Royce had made some significant progress in snagging new contracts, and it’s added impressively to that since.
Looking back to July’s first-half results, Rolls-Royce told us that expected modest growth in both civil and defence aerospace. But a closer look reveals a pretty strong first half for the company’s oft-overlooked Marine division, which recorded an impressive 16% rise in revenue and a 10% boost to its order book — its Marine business accounts for around 18% of Rolls-Royce’s turnover.
Valuation
Sure, December 2013 expectations put the shares on a price-to-earnings (P/E) ratio of 18.5, which is certainly ahead of the FTSE’s long-term average of 14 — but forecasts for the next 12 months actually put the FTSE on a P/E of 17, so it looks like there’s growth expected across the board.
Rolls-Royce, then, isn’t really that highly valued relative to the overall market, even if it is priced more richly than some of its engineering peers — BAE Systems, for example, commands a P/E of only around 11.
But with further forecasts dropping the Rolls-Royce P/E to 17 for 2014 and then under 16 the following year, I really can see a positive year for Rolls-Royce shareholders this year.
Verdict: Strength in defence for 2014.