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Should You Buy Royal Mail Shares?

02 Oct 2018, 16:32

http://www.morningstar.co.uk/uk/news/17 ... hares.aspx

Royal Mail's profit warning late on Monday afternoon scared investors and saw the stock fall 28%, but is this a sign of things to come or a buying opportunity?

oyal Mail (RMG) shares are trading at a low not seen since the delivery service’s initial public offering five years ago after a Monday-afternoon profits warning.

The update by new chief executive Rico Black was released at 3.27pm on Monday and saw the stock price immediately plummet 20%, before a further 10% fall in Tuesday morning trading.

All in all, after a long winning streak, shares have almost halved since May and the stock is firmly back in contention for relegation from the FTSE 100 when the next reshuffle takes place in December.

The company said adjusted operating profit for the full-year is expected to be in a range between £500-550 million. That’s a significant drop from consensus forecasts of around £650 million, which is, in turn, well below last year’s £694 million.

Most of that can be attributed to significantly reduced cost savings in its UK business as the fallout from the pension dispute rumbles on. It’s now likely to save just £100 million, rather than the previously forecast £230 million.

Its parcels business continues to perform well, the firm said, with volumes up 6% in the first half, while revenue from its general logistics systems grew 9%.

But the letters side of things continues to decline and is down 7% in the first half. While a lot of that’s structural, a further headwind has popped up. Less marketing mail is being sent thanks to a combination of general business uncertainty and the implementation of GDPR rules.

Strong balance sheet and long-term cash generation characteristics, though, mean Royal Mail will continue with its progressive dividend policy. Broker UBS currently expects a dividend per share of 25p which, at its current 360p share price level, equates to a healthy yield of 7%.

The View on Royal Mail
“It seems that Rico Black is throwing out the baby with the bath water so that he can begin his tenure with a clean slate,” claims Helal Miah, investment research analyst at The Share Centre.

This can be a good strategy, but clearly it’s worrying for investors. Both The Share Centre and UBS have put their respective ‘hold’ and ‘neutral’ ratings under review.

Miah worries that any stalling of the rapid growth seen in the parcels and GLS businesses would “surely result in further troubles”. These can be at the mercy of industrial action or competitive pressures, he adds.

But Dominic Edridge, analyst at UBS, thinks some of the issues can be alleviated. In the main, the tight labour market in Europe has seen labour costs rise. However, Edridge says that will be offset by expected rising parcel pricing on the Continent, due also to the tight labour market.

“Royal Mail is emerging from a difficult period of industrial negotiation and relations with the unions are no doubt strained,” says Laith Khalaf, senior analyst at Hargreaves Lansdown. “It looks like the resolutions to those problems have not yet delivered the desired results.”

We will find out more at half-year results due on 15 November.

Funds Hit By Royal Mail’s Decline
Royal Mail is a popular stock for many retail investors, with its flotation grabbing the headlines. However, it’s also got its fans amongst the fund manager community.

The Livingbridge UK Multi-Cap Income fund, managed by Ken Wotton, has the largest exposure to the stock, at 4.36%.

Meanwhile, a trio of Morningstar Silver-rated investment trusts in Troy Income & Growth (TIGT), Fidelity Special Values (FSV) and Lowland (LWI) also hold stakes.

Elsewhere, the Bronze-rated Artemis Income has a holding, as does UBS’s UK Equity Income and UK Opportunities funds, Jupiter UK Alpha and Edentree Higher Income.

The information contained within is for educational and informational purposes ONLY. It is not intended nor should it be considered an invitation or inducement to buy or sell a security or securities noted within nor should it be viewed as a communication intended to persuade or incite you to buy or sell security or securities noted within. Any commentary provided is the opinion of the author and should not be considered a personalised recommendation. The information contained within should not be a person's sole basis for making an investment decision. Please contact your financial professional before making an investment decision.

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