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He rolls royce (LSE:RR.) stock price is off to a flying start to 2023. The FTSE 100 the engine builder is up 15% in value since trading began in January. There is also a good chance of more fabulous gains in the months.
However, it came to my attention that its shares continue to offer excellent value despite recent gains. City forecasters expect annual earnings to skyrocket 477% by 2023, a prediction that leaves the company operating with a price-to-earnings (PEG) growth ratio of 0.1
Any reading below one indicates that a stock is trading below value.
However, this does not necessarily mean that Rolls-Royce shares offer excellent value. Some stocks have low valuations due to high risk to earnings. So is Rolls too cheap to miss out on? Or is it a trap investors need to avoid?
china is reopening
Eased Covid-19 restrictions in China have sent Rolls-Royce shares soaring over the past month. As market analyst Susannah Streeter of Hargreaves Lansdown has commented: “Hopes are high that China’s reopening will help herald a renewed love of long-distance travel.”.
She points out that the looser rules will give a boost to FTSE 100 business given “its primary business of manufacturing and servicing commercial jet engines”. Asia has become the fastest growing aviation market in the last decade as wealth in the region has skyrocketed.
A scientist from the China Center for Disease Control and Prevention predicts that 80% of the country has now been infected with Covid-19. This suggests that cases have now peaked and a return to lockdowns is unlikely. But I am aware that new variants of the virus could set the country back and make air travel difficult once again.
An uncertain recovery
I am also aware that air traffic could collapse if the world economy goes into recession. This would hit the money Rolls-Royce makes from servicing engines, while weakened airline profits could also reduce orders for its power units.
Spending on big-ticket items like vacations tends to drop sharply as economies contract. Business travel is also down as companies try to save money.
That said, the worsening cost-of-living crisis has failed to hamper a strong recovery in the civil aviation sector. In fact easyJet this week it raised its full-year forecasts due to record booking days in January.
big debts
It’s true that the earnings outlook for many UK stocks is fraught with peril in 2023. But what perhaps makes Rolls-Royce shares riskier than many is the size of its massive debt.
It had £4bn of unused debt as of September. So he needs the profits to keep piling up to help him pay off these immense responsibilities. Persistently high debt could weigh on its investment in growth programs like low-emission engines. They could also hinder your ability to restart dividend payments.
The verdict
Rolls-Royce’s share price looks low on paper. But I think the venture still carries too many risks at this point. With high-cost inflation and supply chain issues also threatening to linger, I prefer to buy other value stocks to try and get long-term returns.
