Image source: Rolls-Royce plc
He Rolls-Royce Holdings (LSE: RR.) The share price hit an all-time high in early 2014, when it briefly surpassed 440p.
That was the end of a long bull run, and then everything went out of control. Today, after the pandemic crisis, Rolls shares have not even reached half of that maximum value again.
So isn’t it a bit premature to think about 500p?
Long term goals
When I check brokers’ forecasts, I don’t pay much attention to stock price targets. I just want to see earnings and dividend growth, and the share price should surely take care of itself if that happens.
But new investors may have decades of investing ahead of them. And starting today, I’d like to think about the long-term prospects of the stocks I buy.
So whether a 200p share today could reach 500p in the next 20 years seems like a fair question.
After all, it would take an average annual return of just 4.7% to get there. And if I didn’t think a stock could do that, I think I’d look elsewhere.
Total profitability
Now, what really matters is total return, not just share price growth. And growth investors who buy Rolls-Royce shares today could expect to convert their £2 coins into £5 notes sooner.
I think they might have a good chance. But how could it happen?
Over the last 20 years, we have seen average annual FTSE 100 returns of 6.9%. That’s above the 4.7% we would need from Rolls-Royce over the next two decades. And if, instead, it achieved that 6.9%, we could see our 500 pence per share in just 14 years.
Share price
We’re still talking about total returns, not share price growth. And it will be divided between price growth and dividends.
At the moment, Rolls does not pay dividends. However, the city hopes to see them in the coming years.
What could we achieve in the next 20 years? In the five years before Covid, Rolls-Royce dividends averaged around 2%.
If it would take 4.7% a year for the stock to hit 500p, a 2% dividend would take that figure to 6.7%. And that’s still a little less than Footsie has achieved in the last 20 years.
Now what?
I’m not trying to predict anything. But the idea of Rolls-Royce shares reaching 500p for a long-term investor doesn’t seem at all outrageous.
I have worked on a 20 year perspective and we could expect better than that. But I’ve also used only average returns, which a recovering stock returning to earnings growth could outperform.
If it looked like it might take 50 years to reach 500p, I would conclude that Rolls shares are overvalued. And if it seemed like an easy short-term target, it could be an obvious buy.
As things stand, I would rate Rolls shares as a fair long-term investment, but not obviously cheap at the moment.
