It’s been a good month for the Rolls-Royce (LSE: RR) share price, which is up 25% in that time. This doesn’t change the fact the FTSE 100 aircraft engine maker is in dire straits, and remains a risky buy.
On Thursday, it reported a 23.9% drop in underlying revenue to £11.8bn, with civil aerospace revenues down a thumping £3bn. The group reported a £2bn underlying operating loss, rising to £4bn after hedging and financing charges.
Markets took the news on the chin, with the Rolls-Royce share price up slightly. Investors already knew the company was in trouble.
Is this an opportunity or a threat?
Management saved more than £1bn in 2020 from “in-year cash mitigations” and “removed” 7,000 roles. However, cutting costs and restructuring isn’t enough when the group relies on airlines buying its engines and signing service contracts based on hours flown. But entire fleets have been grounded.
I’m tempted to take a punt on the Rolls-Royce share price. If vaccine programmes do their work and release the world from lockdown, management says it could turn cash flow positive as early as the second half of this year. It calculates that engine flying hours (EFH) will climb to 55% of 2019 levels in 2021, and possibly 80% in 2022. By then, cash flow could hit £750m.
I’m sceptical about these projections. While many of us are desperate to get airborne again, it’s fanciful to expect air travel to recover that quickly. Vaccine programmes will take time to roll out and many passengers will remain uneasy. Also, there’s the danger of further restrictions, if we get yet another wave of Covid.
I don’t think Covid-stricken industries such as travel can expect a swift return to normality. Especially since the rise of Zoom is likely to reduce future business travel. For the Rolls-Royce share price to stage a convincing revival, I think management needs to explore potential growth areas in sectors beyond civil aerospace. That will take time.
Management does have plenty of funds at its disposal, if things drag on longer than expected. It ended the year with liquidity of £9bn, made up of £3.5bn cash and £5.5bn undrawn credit facilities.
Rolls-Royce share price faces headwinds
Optimists may point towards 8% profit growth in the group’s defence division, but this makes up less than a third of overall revenues.
Despite the recent recovery, the Rolls-Royce share price still trades two thirds lower than two years ago. This will tempt contrarians and bargain seekers, and I’d usually include myself in that camp.
However, I think it would take me five or 10 years before I’d see much reward from investing in Rolls-Royce. Share price growth is likely to prove sluggish post pandemic, when the reality of the task it faces sinks in.
I’d have to be patient about dividends too, as Rolls-Royce is barred from returning any cash to shareholders before 31 December 2022 at the earliest, under rules attached to its loans. Any recovery in the Rolls-Royce share price is going to be a long haul. I’ll stay home.