The Rolls-Royce (LSE: RR) share price is shaking wildly as the Covid-19 crisis ramps up. Fears over its recovery as travel restrictions return have ratcheted up several notches. Now the FTSE 100 engineer is trading at near-three-month lows of 120p.
A case could be made that Rolls-Royce’s share price could now be too cheap for me to miss. City brokers think earnings at Rolls will soar 307% in 2022 as the aviation industry rebounds.
This leaves the business trading on a forward price-to-earnings (PEG) ratio of 0.1. A reminder that a reading below 1 suggests a UK share could be undervalued by the market.
On the right path…
To recap, Rolls-Royce’s share price took a hammering in 2020 as profits slid and debt levels soared. Coronavirus-related travel curbs reduced flying hours of its engines and decimated demand for its maintenance services. Concerns that orders of its hardware could slump if airlines go to the wall also spooked investors into selling their holdings.
A steady recovery in flying hours, along with a solid start to company restructuring, helped the Rolls-Royce share price recover some ground in 2021. Financials this month showed large engine flying hours back at 50% of 2019 levels, up from 43% as of June. It announced too that it had achieved £1bn worth of cost savings so far and chalked up £2bn worth of disposals.
Critically, this restructuring — along with the steady recovery in civil aviation and solid performances in its Defence and Power Systems Division — meant Rolls-Royce returned to positive free cash flow in the third quarter, it said. Now it expects full-year cash outflows to be better than the £2bn previously predicted.
…but for how long?
This is important news, given the colossal amount of debt the group has on its books (more than £4.9bn worth of as June). It has perhaps proved that the company has what it takes to manage its debt-buckled balance sheet.
I wasn’t prepared to buy Rolls-Royce shares following the result however. Past performance is no guarantee of future success. The dangers to the company remain immense as the Omicron variant spreads. Indeed, the Rolls-Royce share price fell again despite the release of that positive trading statement.
As I said, the Rolls-Royce share price is cheap. But this reflects the uncertain outlook for the aviation industry and, by extension, aerospace engineers like this. The UK Business Travel Association recently described the reintroduction of mandatory Covid-19 tests for those entering Britain as a “hammer blow”. Countries across the world are reimposing, or tightening, their restrictions too, creating a global problem for the travel sector.
Why I worry for Rolls-Royce’s share price
Last month, ratings agency Fitch slashed its global passenger forecasts for 2021 and 2022, due to Omicron. It also reiterated its expectation that the airline industry won’t return to pre-pandemic levels until 2024.
It’s possible the sector will perform better than predicted if increasing rates of vaccination play out. But this isn’t a risk I’m prepared to take with Rolls-Royce, given its enormous debts. I’d rather buy other blue-chip shares today.