Can Rolls-Royce shares keep on flying?
I have no way of proving this but I suspect Rolls-Royce Holdings (LSE:RR.) shares are probably the most talked about in the UK. Thatâs because â and I donât think Iâm exaggerating when I say this â the group nearly went bust when the pandemic hugely disrupted global air travel. But since then, its share price has risen 1,470%.
Flying high
In my opinion, this demonstrates how important its civil aviation division is when it comes to the groupâs revenue and earnings. Even though its defence business has benefitted from increased global conflicts — and its power systems unit has prospered from the transition to cleaner energy — the airline sector remains the groupâs biggest market.
In 2024, civil aviation accounted for 61.1% of underlying operating profit. And this isnât expected to change any time soon. Analysts are forecasting a contribution of 61.6% in 2028.
Whenever a group sells an engine, it will book some revenue up-front but the bulk of its income will be recognised over many years. A key measure of performance is therefore large engine flying hours. And in 2024, this returned to its pre-pandemic level. Looking ahead, analysts are predicting an increase of 4.3m (27%) by 2028.
This is driven by an expected increase in global travel.
| Year | Large engine flying hours (m) | % of 2019 level |
|---|---|---|
| 2019 | 15.3 | 100 |
| 2020 | 6.6 | 43 |
| 2021 | 7.4 | 48 |
| 2022 | 10.0 | 65 |
| 2023 | 13.5 | 88 |
| 2024 | 15.8 | 103 |
| 2025 (forecast) | 17.2 | 112 |
| 2026 (forecast) | 18.1 | 118 |
| 2027 (forecast) | 19.1 | 125 |
| 2028 (forecast) | 20.1 | 131 |
More people flying than ever before
According to Bain & Company, revenue passenger kilometres (calculated by multiplying the number of passengers by the distance travelled) is expected to increase to 14.8trn by 2040. This would be 178% higher than in 2019.
But analystsâ forecasts are excluding the potential impact of Rolls-Royce re-entering the narrowbody engine market. At the moment, the group supplies engines exclusively to widebody aircraft, having pulled out of the single aisle sector in 2011.
The groupâs likely to partner with another manufacturer to help spread the development costs and risk. But even with a small market share, it could transform the size and scale of its civil aviation division. However, itâs unlikely to be active in the narrowbody market until the mid-2030s.
It’s not just about aircraft engines
However, there are other reasons to consider owning Rolls-Royce shares. Itâs developing small modular reactors — factory-built nuclear power stations — and its defence division is likely to benefit from increased NATO spending.
And I think itâs essential that the group continues to successfully demonstrate how it will gain from these new opportunities. Thatâs because its current (12 September) share price appears to have already factored in the anticipated earnings from some of these. Based on consensus forecasts for 2028, the stock has a price-to-earnings ratio of 30. This is over twice the FTSE 100 average.
I suspect any sign that earnings arenât growing as expected — or if the timescale of some of these new opportunities starts to slip — the groupâs share price could fall heavily. With a relatively modest dividend â its current yield is less than 1% — itâs unlikely to keep income investors on board should its market cap start to fall.
However, the groupâs chief executive is optimistic. He reckons Rolls-Royce could become the UKâs most valuable listed company but he didnât specify a timescale. Although its shares arenât cheap, I think the group has its fingers in enough pies — most importantly, the aviation market — to keep on growing. On this basis, I reckon its stock is one for long-term investors to consider.
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James Beard has positions in Rolls-Royce Plc. The Motley Fool UK has recommended Rolls-Royce Plc. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.
