In the past five years, Rolls-Royce (LSE: RR) stock has been hard on investors’ portfolios given the 65% drop in its share price. It is also now one of the very few FTSE 100 penny stocks around. But all is not lost for Rolls-Royce. In fact, I think there is a good chance that things might actually get much better for it in the not too distant future.
Becoming a nuclear energy producer
My view is based on the business opportunities that are clearly opening up for the company best known for its aero-engines. A potentially big one is nuclear energy generation, which would make the company a utility provider as well. It aims to build small modular reactors, which are both cost effective and easier to construct than the usual nuclear power plants.
At any other time, I would probably have taken these plans with a pinch of salt. It can take years to get approvals and to get such projects up and running. But now is a different time than most. The UK government recently released its energy security strategy, which among other things, aims to give a push to nuclear energy generation.
This comes at a time when oil prices have gone through the roof. Households’ electricity bills are rising. And Europe’s dependence on Russia’s fuel made it harder to impose sanctions as it went to war against Ukraine. This convinces me that clean energy might finally get a really big push forward.
Rolls-Royce’s improving health
Even otherwise, Rolls-Royce’s dependence on its significant aero-engine business might just decline in relative terms over time. Over the last two years of the pandemic, both its defence and power systems segments have stayed strong, while the civil aerospace division raked in half the revenues in 2021 it did in 2019. Yet, the company managed to clock a small profit this year.
The downside for Rolls-Royce stock
The story could change next year, though, if travel remains relaxed. At the same time, I am not sure if that will necessarily be the case. China, for instance, still has Shanghai in lockdown. A new coronavirus variant called Omicron XE is now doing the rounds. And while the recent coronavirus statistics for the UK look encouraging, I am still keeping my fingers crossed, considering that there was an uncomfortable increase recently.
Even without air travel taking off though, as I was saying earlier, the company seems to have managed to find a growth path. I am not entirely convinced that it is a buy yet, however, not until I see another quarter’s numbers. Essentially, I am waiting to see how its earnings will look. At the last count, they were so low that its price-to-earnings (P/E) ratio has risen to a massive 65 times, even though it is still a penny stock.
What I’d do
But if its earnings were to improve, and its prospects continue to look as good as they do now, it might just be a winning stock to buy with the next 3-5 years in mind. I am keeping a close watch on it.