Rolls-Royce (LSE:RR) shares dipped below 65p this morning, establishing a fresh 52-week low in the process. Over the past year, it marks a 53% fall and a far cry from the highs of 150p in Q4 2021. I’ve been waiting on the sidelines watching the stock, trying to figure out where the fair value is. With the fall today in the Rolls-Royce share price, could this be the right time?
Concerns in the short term
In the past month, the share price has dropped by 14%. There are a few clear catalysts that I can see for this.
A big one over the past week has been the depreciation of the British pound. The currency has been falling for much of 2022, but this accelerated late last week with the mini-budget and concerns over the amount of debt needed to fund the income tax cuts.
In the recent half-year results, under the balance sheet section the company noted that the negative “£969mn movement was primarily driven by the change in the fair value of foreign exchange contracts”. In other words, the weaker pound caused a hit to the value of the assets held on the balance sheet.
Given the continued fall in the value of the currency since then, I imagine more FX losses will be noted on the full-year results.
Another catalyst hurting the share price is worry around inflation. This was flagged up as a cost pressure in recent results. Again, inflation has stayed high since then. The capping of energy costs is expected to keep a lid on it in coming months. However, it means that higher prices are expected to stay for longer, instead of them spiking and then falling. This could mean higher costs for Rolls-Royce well into the future.
The future for the share price
The reason why I wanted to talk through the risks first is because this influences what the fair value is for the stock. Normally I would use more traditional valuation metrics such as the price-to-earnings ratio or the enterprise value. However, given the financial performance and the large share price movements, I don’t think these give me the clearest view.
For example, most statistics give me a number that’s relevant right now. But most don’t take into account subjective measures, such as the outlook for the future. Both foreign exchange movements and inflation will be key factors influencing Rolls-Royce shares for the future. But I can’t compute this mathematically and assign a figure on the impact today.
I could be wrong in my view. The restructure of the business should allow it to be a more streamlined and efficient entity, with lower costs. This should make it easier to deal with problems and survive a difficult winter. The diversified range of operations could also help to support revenue.
Ultimately, I can’t say with confidence if 65p is fair value. It’s clearly better value than 150p, but further problems arising over the winter could easily push the share price even lower. On that basis I simply can’t justify investing at the moment.