Thursday (1 August) was deemed to be something of a make or break day for Rolls-Royce (LSE:RR) shares by my fellow Fools.
Many have argued that the stock is priced for perfection having surged around 500% in less than two years.
However, the company has developed something of a track record for outperforming analysts expectations.
And Rolls-Royce didn’t disappoint, releasing its H1 results at 7am. The stock surged 10% when the market opened.
Strong earnings
Rolls-Royce reported its 2024 half-year results on 1 August, and highlighted more progress in its move to maximise returns.
The company achieved £7.5bn in revenue during the six months, marking a 20% increase compared to the same period in the previous year.
Meanwhile, operating profit surged to £673m, rising from the £125m recorded in the first half of 2023. Additionally, free cash flow improved dramatically, reaching £356m, up from a negative £68m.
The company also reported an order backlog of £34bn, providing management with a solid foundation for future revenue and operational planning.
This backlog is also a modest increase on the £32bn recorded last year.
All in all, it was a strong set of results. And net debt, once considered a major issue for investors, was reduce to just £800m.
Driving growth and cutting costs
Rolls-Royce is experiencing supportive trends across its three main business segments — civil aerospace, defence, and power systems.
However, most notably, the business is being propelled forward by an improvement — and post-pandemic recovery — in its civil aerospace division, which delivered an operating margin of 18% in the first half of 2024.
This is up from 12.4% in the first half of 2023. It’s quite a remarkable improvement.
The recovery of international air traffic, particularly in Asia, has boosted large engine flying hours back to 2019 levels. Coupled with strong margins, the division made an outsized contributed to the company’s growth.
These strong topline results complemented Rolls-Royce’s ongoing cost-cutting programme.
But while things are looking up, there are always challenges.
CEO Tufan Erginbilgiç recently said the aerospace industry was suffering from “one of the worst supply chain environments it has ever experienced”.
Clearly, it didn’t weigh of H1 results, but it could be a challenge going forward.
If I’d invested 6 months ago
We all love these ‘what if’ questions. So, if I had invested £1,000 in Rolls-Royce shares six months ago, today I’d have £1,503. That’s because the stock is up 50.3% — and this was before the market opened on 1 August.
This surge has polarised investors. Many just can’t see why Rolls-Royce is trading around 28 times forward earnings.
However, the answer is in the company’s growth prospects.
Currently, the consensus estimate suggests that Rolls-Royce will grow earnings by 27.5% annually over the next three to five years.
As such, that forward price-to-earnings (P/E) ratio falls from 28 times in 2024 to just 19 times in 2027.
Personally, I remain committed to Rolls-Royce and may buy more. The price-to-earnings-to-growth (PEG) ratio sits at just 1.03, and my discounted cash flow calculations suggest the stock’s fair value may be around 850p.
