Can Rolls-Royce shares soar further? Here are 3 things driving growth

Rolls-Royce (LSE: RR.) shares have been on a tear in 2024, up nearly 56% year-to-date! The growth seems almost irrational yet it’s supported by a string of operational wins and favourable policy decisions. Lately, there seems to have been only good news for the company — but there are some cautionary signs.

From aerospace tariff cuts to international defence lobbying and growing civil aviation orders, momentum remains strong. But with a somewhat bloated valuation and signs of earnings tapering off, some investors may be wondering whether the shares have run too far, too fast.

Good news driving the share price

One catalyst is the UK’s new aerospace deal with the United States, removing tariffs on a wide range of aircraft parts. For Rolls, which sources and sells across global markets, this represents a meaningful cost saving and increases competitiveness – particularly in its civil aerospace segment.

Another driver is the UK’s lobbying effort in South Korea, which is attempting to secure a role for Rolls-Royce engines in the KF-21 fighter jet programme. If it’s chosen over key US rival GE Aerospace, this would be a strategic win and a boost to its defence portfolio.

Recently, the company also announced a new Power Systems headquarters in Johannesburg, South Africa, helping expand its reach in Africa. And to top off a string of positive developments, it signed an agreement with Riyadh Air to supply 50 Trent XWB engines, bolstering a growing presence in the Middle East.

Taken together, these three developments position the company as a vital player in the future of global aviation.

And if that wasn’t enough, CEO Tufan Erginbilgiç recently announced a £3bn jet engine project that he feels could be the “single biggest item for economic growth for the UK economy.” It’s expected to create 40,000 jobs in Britain.

What this all means for shareholders

Despite all this, Rolls-Royce shares look expensive on paper. The forward price-to-earnings (P/E) ratio sits at 37.7, while the five-year expected P/E growth (PEG) ratio’s a lofty 2.78 – well above the fair value benchmark. These figures suggest that a lot of optimism is already baked into the price.

Margins are starting to taper too. Its net margin fell from 14.6% in 2023 to 13.3% in 2024, suggesting higher costs or slower earnings growth. Analysts expect earnings per share (EPS) to climb 20% to 24p by 2026, but the pace of improvement may be slowing.

This leaves little room for error. If an upcoming earnings report fails to impress, the stock price could take a dive.

The average 12-month price target from analysts currently sits at 938p – only around 5.8% above today’s price. That implies the stock may be close to being fairly valued in the short term.

Still got it

Rolls-Royce looks like a stronger, leaner business than it was a few years ago. Revenue’s growing and its international footprint is expanding fast. With valuation stretched and margins slipping slightly, it isn’t the kind of a stock I’d usually consider as good value.

However, when it comes to a leading blue-chip like Rolls, the long-term investment case remains compelling. Despite a high valuation and slowing growth, I still think it’s a top stock to consider for any UK portfolio.

The post Can Rolls-Royce shares soar further? Here are 3 things driving growth appeared first on The Motley Fool UK.

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Mark Hartley has no position in any of the shares mentioned. 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.