ii view: Royal Mail rocked by uncertain future

Down over 40% in the past year, what should investors make of this latest sell-off? 

Half-year results to 29 September 2019

• Revenue up 5.1% to £5.17 billion
• Adjusted operating profit down 13% to £165 million
• Dividend payment down 6.25% to 7.5p per share

Guidance: 

• Forecasting unchanged full year adjusted operating profit between £300-340 million
• Expect addressed letter volume decline (excluding elections) to be in the 7-9% range
• Core full year dividend of 15p per share, plus possible additions
• A break-even or loss-making position for the UK business in 2020-21

Chief executive Rico Back said:

"Our profitability performance is in line with our expectations for the half year, despite considerable UK economic and political uncertainty. Group revenue was up 5.1 per cent, including our best UK revenue performance in 5 years. UK parcel revenue growth more than offset letter revenue declines. GLS revenue, up 14.1 per cent including acquisitions, underlines the strength of our international operations. The business has delivered good in-year trading cash flow, supporting our new dividend policy. 

"Our transformation is behind schedule. We are investing more because of the industrial relations environment, the General Election and Christmas, to underpin our Quality of Service at this key time. This is likely to impact our productivity for the remainder of the year. When combined, revenue and cost headwinds could possibly result in a break-even or loss-making position for the UK business in 2020-21. We maintain the ambitions associated with our Journey 2024 plan as set out in our full year results in May.

"People are posting fewer letters and receiving more parcels. We have to adapt to that change. The challenging financial outlook in the UK means now, more than ever before, we need to make the changes required - and accelerate them - to ensure a successful UK business. We remain committed to investing £1.8 billion in our transformation. We want to change, working with our unions, but we can only do so through an affordable resolution. We have changed many times before. We will do it again."

ii round-up:

The Royal Mail (LSE:RMG) handles and delivers around 13 billion UK letters and 1.3 billion UK parcels every year. 

As the UK's sole designated Universal Service Provider, its UK Parcels, International and Letters business (UKPIL) provides a 'one-price-goes-anywhere' service on a range of letters and parcels to over 30 million addresses across the UK, six-days-a-week.

Its overseas business, General Logistics Systems (GLS), accounting for around one quarter of 2018 revenue, operates in 44 countries including 41 in Europe and eight states in the Western US and Canada. 

Royal Mail employs just over 160,000 people, of which around 143,000 are in the UK.

For a round-up of these half-year results, please click here. 

ii view:

Management previously detailed a significant five-year UK 'turnaround and grow' plan. Underlying the five-year plans, the board highlighted commissioned research which suggested that the number of UK domestic letters in its mail bags will decline by around 26% over the next five years. As such, and importantly for investors, the dividend payment is being reduced to help fund a series of investments to increase productivity and help restore and enhance operating profit margins.

A sum of £1.8 billion is being invested, with an adjusted group operating profit margin of over 4% in 2021-22 being targeted (currently 3.2%), increasing to over 5% in 2023-24. As for the targeted investments, currently around 26% of its UK parcels are machine sorted. The company's objective is to increase that to over 80% within five years.

For investors, a reduced dividend offering a yield of over 7% (not guaranteed) still provides a core attraction. But its battle with staff unions has left its transformation plan behind schedule. The possibility of a Labour administration and its potential policy to bring Royal Mail back under government control – and at an unknown price – also requires serious consideration. Above-average dividend returns usually come with above-average investment risk. 

Positives: 

• Attractive dividend payment
• UK parcel revenue growth more than offset letter revenue declines
• GLS adjusted operating profit up 17% to £90 million

Negatives:

• Ongoing dispute with staff unions
• Could be nationalised under a Labour government
• Outlook, excluding elections, for the UK letters business is challenging

The average rating of stock market analysts:

Sell