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What caused the Rolls-Royce (LSE: RR.) share price to surge from 70p in 2022 to over 1,500p by 2026? One big factor was the rebound in flying hours after the pandemic. The increase in engine orders and maintenance fees sparked a huge uplift in earnings and cash flow.
That’s why I’m watching its latest moves with interest. Because Rolls-Royce is pivoting its aerospace strategy to target an untapped $1.6trn total addressable market – up to nine times the size of its current market, according to reports. Here are the impressive details.
Growth opportunity
While Civil Aerospace (the division that makes and services engines for passenger planes) accounts for around 50% of revenues, it actually only concentrates on a small part of the market – wide-body planes. The other type of plane – narrow-body – has one aisle instead of two and flies shorter journeys rather than long-haul.
Here’s where it gets interesting. The number of new narrow-body planes being ordered and delivered is between seven and nine times the number of wide-body planes. And because these planes are used for shorter trips and more often, they need more servicing.
Essentially, this is a massive growth opportunity and Rolls-Royce has already earmarked £3bn in investment towards it. The plan is not to play catch-up, but to target the next generation of aircraft in the 2030s. Part of the strategy will be to produce engines using 100% Sustainable Aviation Fuel.
Estimates reveal the total addressable market over the next 20 years could be as high as $1.6trn. That dwarfs Rolls-Royce’s current revenue from Civil Aerospace of around £10bn ($14bn).
CEO Tufan Erginbilgiç pulled no punches when he called it “the single-biggest opportunity for economic growth for the UK in the next 50 years.”
A buy?
It’s worth pointing out this is an opportunity rather than a guarantee. And with billions needed in investment, this might be a risk for the company’s ongoing success.
Another interesting but risky part of the plan is the proposed government assistance. Rolls-Royce has asked those in charge to chip in with £100m-£200m to support local business and jobs (up to 40,000 from this venture, in theory).
While supporting these types of businesses is par for the course for countries across the globe, it might seem a bit cheeky coming from a company doling out billions in share buybacks. And because the UK’s finances are flush with cash at the moment, this type of support may not be extended either.
Also, the opportunity itself needs to be looked at against a backdrop of the stock’s valuation. Rolls-Royce trades at 41 times earnings and 33 times forward earnings. For some, that might be too much of a premium to pay. Personally, I think the growth opportunities may still make this look like a cheap buy in the years ahead. I think it’s worth considering.
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John Fieldsend owns shares in Rolls-Royce.
This story originally appeared on Motley Fool
