Royal Mail - paddling up the Amazon

Royal Mail: This big beast is there for all to compete against and everyone knows it. These half year results to 28^th September 2014 have plenty of ‘adjusted’ metrics, but showed revenue up 2%, with underlying pre-tax profits down 6.4% at £218m. Underlying eps were down slightly at 16.3p against 16.8p and a 6.7p dividend was declared. They calculated this by taking one third of the 20p dividend paid in FY2014. Addressed letter volumes decreased by 3%, against expectations of 4-6% declines, whilst a bit of cream on the overall letter division was added by election mailings in May (and of course next year is a General Election year). The bad news was that parcel revenue was down 1% as Amazon built up its own delivery network. This will curb Royal Mail’s progress “for approximately two years”, reducing long term growth expectations of 4% p.a. volume growth by 1%-2%. Overall costs have been kept tightly under control, with an increased £70m being targeted by FY2016. Their guidance is that they are in line with their own expectations, depending on a good Christmas period.

Royal Mail faces a tough world in which it has to deal with its own legacy issues of under-investment and poor work force relations. At the same time it has to provide the Universal Service, whilst new entrants nibble away at low hanging fruit in cities and big business contracts. The main advantage held by Royal Mail is a VAT exemption for providing the Universal Service, but that has already been (and will be again) challenged by those new entrants. Such tussles are part and parcel of life for Royal Mail.

Following guidance and assuming that consensus forecasts hold, then FY2015 eps of 32p gives a PE of 13.4x at 430p, with a 4.8% yield on a progressive 20.5p dividend. For a previously under-managed beast with scope for self-improvement, these seem reasonable, despite all the political and competitive pressures. However, there are factors at work outside their control, centred on the Universal Service, whilst Amazon have become a new threat in the parcels business. So I fear that forecasts may be flaky for this 500 year old business, but with a very short stock market record. The likes of BT found the ultimately successful transition from monopolistic regulated business to modern company to be lengthy and at times troubled. I suspect the same will be true of Royal Mail. (Neil Cumming^, 19^th November 2014)

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