After a storming 2023, the Rolls Royce share price has continued its ascent in the new year after a positive full-year earnings release supported the investment case.

When the engine maker released full-year earnings last week, Rolls Royce provided the justification investors needed to continue to hold the stock. At least for now.

Rolls Royce issued solid results for the last year and an outlook which suggests the CEO is far from done with his turnaround plan.

Rolls Royce shares are up 146% over the past year and were the best performing FTSE 100 shares of 2023. For this rally to continue, Rolls Royce investors will need to see the company meet and even exceed the 2024 guidance set out last week.

The company said they were targeting £1.7bn-£2.0bn operating profit in 2024 after recording £1.59bn in 2023.

Although the rise in profit over the past year warrants multiple expansion to a degree, Rolls Royce will be vulnerable to any suggestions issued guidance may not be met. 

Rolls Royce is currently priced for what investors think they’ll achieve in 2025 or 2026. The underlying business performance needs to maintain momentum or investors will be looking for the exit.

That said, Rolls Royce is operating in an extremely favourable environment. 

The stars have aligned for the company. An ambitious CEO not scared of making difficult decisions has come in at a time when the macro environment is highly supportive of companies with exposure to travel.

During the cost of living crisis, consumers have opted to allocate their discretionary spending on holidays. Consumers are happy to cut back on other nonessentials but are not willing to sacrifice a holiday. This is the case across most of the Western world.

Travel demand has increased flying hours feeding straight into Rolls Royce’s top line. In addition, the bounce back from the pandemic has bolstered demand for air travel, and airlines are being forced to expand capacity with new plane orders.

Just this week, the Ryanair boss said they are experiencing a shortage of planes after the delivery of a number of Boeing planes was delayed.

Brokers have reacted positively to the news and a string of price target upgrades followed last week’s update. JP Morgan have bumped their price target up to 475p from 400p.

The FTSE 100 was slightly lower on Monday as global equities looked set to take a break from the rip-roaring rally that has pushed US, Japanese and European equities to record highs.

London’s leading index was down 0.3%, while stocks across Europe were mixed.

“This of course follows record trading last week, so the slow down signals a pause for breath rather than anything more sinister,” said Sophie Lund-Yates, lead equity analyst, Hargreaves Lansdown.

“Investors are looking ahead to the monthly personal consumption expenditures price index reading, which is the Federal Reserve’s preferred measure of inflation, on Thursday.”

Last week was a week for the corporates to drive equity performance. With a raft of economic data coming in the next two weeks, one would expect the focus to shift back onto the macro picture and interest rates in the coming days.

Investors should note that while Nvidia almost single-handedly drove US stocks to fresh record highs, the US small caps did not join the rally which signifies underlying weakness in the breadth of investor confidence in the rally.

Housebuilders

The FTSE 100 was fighting to offset weakness in the housebuilders on Monday following the launch of a  Competition and Markets Authority investigation into information sharing that may have impacted the pricing and availability of housing in some areas of the UK.

Barratt Developments, Bellway, Berkeley, Persimmon, Redrow, Taylor Wimpey, and Vistry were named by the CMA as companies they would look into amid concerns about anti-competitive practices.

“A regulatory probe is the last thing the sector needs. It is just finding its feet again after a tricky period for the property market as demand dried up thanks to higher borrowing costs.

“Housebuilders may also argue the proposed introduction of more red tape, including the establishment of a New Homes Ombudsman, will clip the sector’s wings. However, previous issues around build quality and treatment of customers means they are reaping what they have sown.”

Taylor Wimpey and Persimmon were the most heavily hit FTSE 100 homebuilders with declines of over 3%.

Ocado was the FTSE 100’s top faller ahead of full-year results due to be released on Thursday.

After a storming session on Friday, Standard Chartered was again the best performer adding 2.8%. The Asia-focused bank recorded strong profit growth in the last quarter, and Berenberg and JP Morgan have increased their price targets as a result.

Disinfection products supplier Tristel (LON: TSTL) has doubled its interim dividend on the back of strong sales growth and cash generation. This is before approvals for the Cache surface cleaning products start to contribute and North American royalties begin to ramp up. The share price is 8.89% higher at 490p.

In the six months to December 2023, revenues increased from £17.5m to £20.9m, while underlying pre-tax profit improved from £3.08m to £4.13m. Cash improved to £10.8m, even though there was a £3.74m outflow relating to the dividend.  

The latest interim dividend has doubled to 5.24p/share. The policy is to grow the dividend in line with earnings with a minimum annual increase of 5%. This will not hamper the ability of Tristel to fund its growth.

UK revenues grew fastest through a combination of an increasing number of medical procedures as the NHS tries to reduce the backlog and higher prices. Medical device decontamination revenues continue to grow outside of the UK.

North American sales of Tristel ULT for ultrasound disinfection have started, but they are still at low levels. There were also initial revenues in Canada for the ophthalmology product, but it still awaits approval in the US.

Cache surface cleaning product revenues were slightly lower. The TANK ClO2sporicidal disinfectant storage and distribution system has gained additional approvals, which will help to improve revenues in the fourth quarter and next year.

The strategy is to build up Cache revenues to a similar level to the medical device decontamination products, but they are currently less than 10% of the group total.

Cavendish forecasts a 2023-24 pre-tax profit of £7.6m, up from £6.2m. The total dividend is expected to improve from 10.5p/share to 11.6p/share. The prospective multiple is 36, which reflects the potential for royalty based growth in North America.

Although Tekcapital has gained 105% year to date, the shares are still undervalued compared to its portfolio company’s net assets. However, focusing on the current net asset value may be a little short-sighted.

Two broker notes released shortly after the MicroSalt IPO suggest the stock has at least 50% upside. And that was when recently listed portfolio company MicroSalt shares traded significantly lower than they are now.

Rating Tekcapital as a ‘buy’, broker SP Angel analysts said: “The IPO of Microsalt Plc on AIM this month provides further tangible evidence of the deep value in Tekcapital’s portfolio. Tekcapital is trading at a 50% discount to our fair value target of 20p. In our view, the stock trades at a double discount to its long term potential because the underlying prices that constitute the majority of our fair value target are themselves depressed.”

SP Angel has a 20p fair value target while Kemeny Capital sees 29.9p as fair value by applying an adjustment to NAV based on historical premium/discounts to NAV for technology investment companies and other listed entities that hold early-stage companies on their balance sheets.

There is some justification for the market attributing a discount to Tekcapital’s holding in MicroSalt because Tekcapital is locked in for 12 months before they can realise the value by selling shares. However, the market is effectively valuing the rest of the portfolio at less than zero.

At today’s share price of 91p, Tekcapital’s stake in MicroSalt is worth circa £30m. This compares to Tekcapital’s market cap of £23m.

Tekcapital’s holdings in Belluscura and Innovative Eyewear are worth at least £4m and are readily realisable. In addition, Guident has a Net Asset Value of £14m, according to SP Angel.

Guident, the last remaining privately held portfolio company in the Tekcapital portfolio, recently span out its Regenerative Shock Absorber into its own entity.

While Tekcapital hasn’t announced any specific fresh developments for the new company this year, they have previously alluded to the opportunity to recognise the value in the shock absorber technology separately from the teleoperations and for the new entity to satisfy its own funding requirements. This will likely increase Guident’s net asset value and is another important step in crystalising the value for Tekcapital shareholders.

Macro Environment

There are macroeconomic influences for investors to consider. The higher interest rate environment has weighed on the valuation of early-stage technology companies and this is evident in Tekcapital’s share price, as well as the value of underlying portfolio companies.

“Not only is Tekcapital trading at a 50% discount to this fair value figure, but the fair value calculation itself is mostly based on very depressed market prices,” SP Angel analysts said.

As rates start to fall, one would expect the value of Tekcapital’s portfolio companies to lose the valuation risk premium and return to historical averages. This by itself is supportive of Tekcapital shares at 13p.

Some may have preferred more progress in the portfolio companies to date but this doesn’t detract from the future potential the portfolio companies have to create Tekcapital shareholder value.

Tekcapital said they expect multi-million-pound revenue for each of the portfolio companies this year which will represent a step change in the valuation methods for the portfolio. Investors should expect Tekcapital to be valued on portfolio company revenues and profits in the coming years as opposed to the historical NAV.

Tekcapital is an investment company which has established technology companies with substantial competitive advantages and structural intellectual value, and their strategy is inherently long-term.

But this doesn’t mean Tekcapital’s listing on AIM can provide investors with opportunities in the short and medium term. As investors saw in the run-up to the MicroSalt IPO and the immediate reaction to the listing, Tekcapital shares can rerate very quickly on positive news. 

Venture capital strategy

Essentially, what Tekcapital does is provide investors with access to knowledge-intensive companies that may otherwise only be available to select private equity venture capital investors.

Venture capital investors are prepared to value and accept risk in early-stage ventures in the pursuit of returns many multiples of their original investment.

Successful venture capitalists only need one or two big winners to make a portfolio. The same can be said of Tekcapital. The two aforementioned price targets of 20p and 29.9p for Tekcapital are academic in that respect.

The lowly public valuations arguably do not reflect the long-term potential of Tekcapital. But, as we mentioned previously, being publicly listed provides the venue for investors to quickly revalue shares. Such an opportunity is only reserved for liquidity events in privately held companies.

Naturally, investing in early-stage companies is risky, but it will only take one company to produce outsized returns to create real Tekcapital shareholder value.

The UK Investor Magazine is thrilled Cornish Metals, NextEnergy Solar Fund, hVIVO, and 1Spatial will join us at the London Stock Exchange 13th March for our first in-person investor event of 2024.

Featuring four London-listed companies, this UK Investor Magazine Investor Conference will provide investors with deep insight into growth companies and their investment cases.

Register for the UK Investor Magazine Investor Conference 13th March

The focal point of the investor conference will be a series of investment presentations delivered by each company and a company Q&A session.

Investment presentations will be followed by a drinks reception and the opportunity to speak with business leaders and network with fellow investors.

Featured companies:

• hVIVO (LON:HVO)
• Cornish Metals (LON:CUSN)
• 1Spatial (LON:SPA)
• NextEnergy Solar Fund (LON:NESF)

Investors are able to join the event either by attending in person or by watching the virtual event.

UK Investor Magazine Premium Members and Qualified Investors are eligible for complimentary tickets. It is free to join the virtual event.

The event will be held at the London Stock Exchange in the heart of the City of London 13th March.

Register for the UK Investor Magazine Investor Conference 13th March

Featured Companies

hVIVO

hVIVO plc (ticker: HVO) (formerly Open Orphan plc) is a rapidly growing specialist contract research organisation (CRO) and the world leader in testing infectious and respiratory disease vaccines and therapeutics using human challenge clinical trials. The Group provides end-to-end early clinical development services to its large, established and growing repeat client base, which includes four of the top 10 largest global biopharma companies.

Cornish Metals

Cornish Metals is a dual-listed company (AIM / TSX-V: CUSN) focused on advancing the South Crofty high-grade, underground tin project towards a construction decision. South Crofty is a strategic tin asset in the UK and covers the former producing South Crofty tin mine in Cornwall which closed in 1998 following over 400 years of continuous production. South Crofty is fully permitted: underground permission till 2071, water discharge permission and planning permission to build a process plant in place. In 2017 Cornish Metals completed a Preliminary Economic Assessment that demonstrated the economic viability of re-opening the mine. In 2023 an updated MRE increased tonnes by 39% and contained tin by 32% in the Indicated category for the Lower Mine.

NextEnergy Solar Fund

NextEnergy Solar Fund (NESF) is a leading specialist solar energy and energy storage investment company that is listed on the premium segment of the London Stock Exchange and is a constituent of the FTSE 250. NextEnergy Solar Fund invests primarily in utility scale solar assets, alongside complementary ancillary technologies, like energy storage.

NextEnergy Solar Fund is driven by a mission to lead the transition to clean energy.

1Spatial

1Spatial plc is a global leader in providing Location Master Data Management (LMDM) software, solutions and business applications, primarily to the Government, Utilities, Transport and Built Environment sectors via the 1Spatial platform. Our solutions ensure data governance, facilitating the efficient, effective and sustainable operation of customers around the world. Our global clients include national mapping and land management agencies, utility companies, transportation organisations, government and defence departments.