It’s been a very disappointing few years for Rolls-Royce (LSE: RR) shareholders. Indeed, at the start of 2018, the Rolls-Royce share price exceeded 1,000p. Since then, it has sunk over 90%, currently priced at around 80p. This is partly due to the company’s rights issues, which have caused a major dilutive effect. The effects of the pandemic have also proved to be severe. However, there have been signs of a recovery recently, and with the share price down over 20% in the past year, there are signs that the sell-off may have been overdone. Therefore, with Rolls-Royce currently in penny stock territory, can it see a turnaround in the next few years?
Trading updates
In 2020, there was very little that was positive to take away from the Rolls-Royce trading update. In fact, with the company struggling to adapt to the impact of the pandemic, and its multiple impairment charges, it recorded a statutory loss of over £3bn. There were signs that things had improved in 2021 however, with the group reporting a statutory profit of £124m. While this was low, it was still very encouraging to see the company reporting a profit, given the difficult operating environment.
There are more recent signs that things are starting to improve too. For example, as highlighted by the most recent trading update, “flying hours for the first four months of 2022 were 42% higher than the prior year period”. Rolls-Royce is paid according to the hours flown by aircraft fitted with the company’s engines, so rising flying hours will, hopefully, have a positive effect on both revenues and profits. This means that the group is aiming for both positive free cash flow and profit this year. These are factors that could help the Rolls-Royce share price rise.
The risks
Despite these improvements, many risks remain. Indeed, the coronavirus situation in China remains precarious, and this has reduced the number of flights to the country. This is likely to hinder the recovery in international tourism.
Further, I’m slightly worried about the group’s balance sheet, where net debt now totals over £5bn. This means that the company has negative shareholders’ equity, meaning that total liabilities are greater than total assets. This is a key risk for the company, especially if it experiences further struggles or losses.
Finally, CEO Warren East is set to leave at the end of the year. As there have been no updates on his potential replacement so far, this could mean significant disruption.
Can the Rolls-Royce share price recover this year?
Despite these worries, I am confident about the prospects for the Rolls-Royce share price overall. Flying hours are continuing to recover, and thanks to the company’s restructuring, I feel long-term profit margins will also be strong. In terms of the balance sheet, the recent £2bn disposal of ITP Aero should cut its debt. Therefore, although there are many risks, I may add some Rolls-Royce shares to my portfolio.
