Royal Mail trading update falls flat amid tough competition and declining letter volumes

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Royal Mail's revenues rose 2% in the nine months to December 24 but shares fell as investors took profits

Royal Mail Group PLC’s (LON:RMG) latest trading update failed to enthuse investors as analysts pointed to ongoing challenges in the letters business and rising competition in the parcels division.

The postal operator delivered a 2% increase in revenue in the nine months to December 24, driven by growth in its European parcels arm.

Revenue and volumes in European parcels rose 10% while UK parcels revenue grew 4% and volumes rose 6%. Letters revenue was flat with addressed letter volumes falling 5% but this was better than the company had expected.

Shares fell 1.3% to 460.8p in morning trading.

Can Royal Mail sustain its dividend yield?
“A good Christmas performance by Royal Mail but hardly enough to persuade investors that anything materially has changed with regards the investment thesis,” said Neil Wilson, senior market analyst at ETX Capital.

Wilson said the company remains highly cash generative and can afford to offer a progressive dividend that’s yielding about 5%. However, he questioned how long Royal Mail can keep this up.

“Declining letter volumes amid a broad switch to electronic communications at the corporate and government level, combined with rising labour costs, could start to leave it exposed. Shares are already up more than 20% from the November lows and these in-line results seem to be offering investors a chance to take profits.”

Rising competition in parcels
Royal Mail is also facing mounting competition for parcel deliveries from the likes of Amazon.com Inc (NASDAQ:AMZN) and Deutsche Post.

It is competing at a time when rising inflation and stagnant wage growth is prompting consumers to cut back on spending.

Brexit negotiations are also creating uncertainty in the wider economy, causing some businesses to delay investment decisions.

Row with unions drags on
For Royal Mail, it has the added uncertainty of how talks with unions over its pension scheme will pan out.

The company has been in a dispute with the Communications Workers Union over its plan to replace its defined pension scheme. However, Royal Mail said it has made progress on this front and is confident of reaching an agreement on an “affordable and sustainable pension solution”.

“Industrial relations concerns will continue to dog the company until a final deal is signed and sealed, but the rhetoric in today's announcement was positive,” said Fiona Cincotta, a senior market analyst at http://www.cityindex.co.uk" onclick="window.open(this.href);return false;.

Cost savings calms nerves about pensions dispute
Royal Mail said the impact of the industrial relations environment has “slowed the pace of change” and now expects transformation costs to be around £130mln for the full year, the lower end of its previous £130mln-150mln guidance range.

It also remains on track to save £190mln in operating costs in the UK parcels and letters division for the full year.

This, according to Hargreaves Lansdown analyst Nicholas Hyett, should “settle some nerves about a tense industrial relations environment slowing progress”.