Why Rolls-Royce shares just reversed to one-month low

Shares fell sharply following the new chief's AGM statement, but they're still close to their highest in three years. Our City writer rounds up today's news.

New boss Tufan Erginbilgic took the edge off a recent spectacular run for Rolls-Royce Holdings (LSE:RR.) shares when he stuck to guidance on engine flying hours and other key metrics.

The widely-held stock touched 155.8p yesterday, a rise of more than 50% since the posting of annual results on 23 February, as sentiment benefited from the recent revival in long-haul airline travel and the company’s own restructuring momentum.

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Rolls has been boosted by a flurry of broker upgrades, some pointing to shares as high as 200p. Yesterday’s strong update by Melrose Industries (LSE:MRO) also fuelled optimism after the GKN Aerospace owner reported trading materially ahead of expectations for the first four months of the year, with significant growth in revenue, profit and margin.

Addressing shareholders in Bristol for today’s AGM, Erginbilgic reined in some of the City’s loftier expectations when he delivered an update that was short on surprises. Shares fell 5.8% to 147.25p, taking the stock back to where it was a month ago.

One of the key statistics concerned engine flying hours, which are now back at 83% of their 2019 pre-Covid level and still on track for the targeted 80-90% in 2023.

For every percentage point increase in hours flown, analysts estimate that Rolls-Royce generates about £30 million-£32 million of additional pre-tax cash inflows.

Today’s unchanged guidance shows free cash flow on track for between £600 million and £800 million, compared with 2022’s £505 million and an outflow of £1.5 billion in 2021.

Bank of America said recently it believes flying hours have the potential to reach 92% this year if appetite for summer travel remains as strong as it was over Easter.

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However, there are tentative signs that passenger growth may be levelling off, after today’s latest traffic figures from Heathrow airport pointed out that its recovery stood at 93-95% of 2019 levels in each of the first four months of this year.

Supply chain management also remains a key operational challenge for Rolls as original equipment and aftermarket services volumes increase, especially in civil aerospace.

Overall, however, Erginbilgic is pleased with progress so far as he looks to transform Rolls into “a high quality and competitive business” with a strong balance sheet and growing profit, cash flows and returns.

He added: “We are already benefiting from the actions we are taking as well as recovery and growth in our end markets.”

More details on Erginbilgic’s plans are due later in the year, including the key points from a strategic review designed to focus investment on the most profitable opportunities.

Another stock with recent momentum has been 3i Group Ord (LSE:III), with the private equity firm showing more progress today after its net asset value for the March year-end of 1,745p came in at the top end of the City consensus and 32% higher than a year ago.

The FTSE 100-listed stock lifted 4p to 1,750p, leaving it a third stronger over the past year. The robust performance has been built on the continued momentum of the Benelux-based Action discount chain, which represents its largest asset.

Action has performed strongly since the early days of the Covid-19 pandemic, reaching its 2019 five-year plan target of one billion of underlying earnings more than a year ahead of schedule. Dividend distributions generated £325 million for 3i last year..

Action’s annual underlying earnings rose 46% last year and 3i said today that the chain’s performance in 2023 had started well.

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Chief executive Simon Borrows said 3i’s success reflects the benefits of thematic investing, disciplined pricing and active asset management.

He added: “No portfolio company reflects this approach better than Action, which continues to be 3i's largest and most resilient portfolio investment.

“We are now focused on developing a select number of other companies to fulfil their potential to also become long-term compounders for the group.”

Bank of America retained its “buy” recommendation alongside a price target of 2,000p following the results. The bank said: “3i is financially highly robust, with leverage of only 2%, and it is well placed to increase investment rates if and when the cycle allows. We view the company as a high quality compounder which is well suited to the present conditions.”