Shareholders who’ve seen the Royal Mail (LSE: RMG) share price fall by 46% over the last year are probably thinking they’ve made an expensive mistake.
As a shareholder myself, I’m prepared to sell at a loss and move on, if necessary. However, I’ve not made that decision yet. Here’s why.
Letters down, parcels up
Last week’s third-quarter update contained few real surprises. Parcel volumes rose by 6% over the nine months to 23 December, maintaining the previous year’s rate of growth.
The only disappointment was letters, where volumes fell by 8%, versus a 5% fall during the same period last year.
This isn’t great news, but in reality we already know that letter volumes are going to keep falling. The challenge the company faces is to adapt to the shift from letters to parcels while staying profitable and fulfilling its legal obligation to service every address in the UK. As my colleague Rupert Hargreaves noted last week, this is probably the biggest problem faced by chief executive Rico Back.
Personally, I think it’s worth remembering that the company’s extensive delivery and collection network gives it a unique presence in every community in the UK. I still feel there should be some way in which this can be turned into a competitive advantage in fast-growing areas such as click & collect, parcel drop off, and fashion returns.
Is the dividend safe?
There’s no sign of a dividend cut so far. Royal Mail’s half-year results confirmed the group’s progressive (rising) dividend policy. The interim dividend of 8p per share was 4% higher than last year’s 7.7p per share payout.
Despite this, it seems clear to me that the dividend must be under pressure. Analysts’ forecasts for the 2018/19 financial year suggest that the group will report adjusted earnings of 27.1p per share, with a dividend of 24p per share. This means that earnings are expected to cover the dividend just 1.1 times.
I wouldn’t normally consider that to be a sustainable level, but in this case I’m not too worried about the risk of a cut. Reducing the dividend by 33% to 16p would give earnings cover of 1.6 times and a yield of 6%. In my opinion, that would still be attractive. It should also free up more cash for investment in the business.
The CEO is buying shares
Chief executive Rico Back has bought £1.3m of Royal Mail shares since November 2018. His most recent £391,000 purchase was made just last week, on the same day as the firm’s third-quarter trading update.
I would normally see such strong buying as a good sign, but in this case I’m not so sure. Back’s employment contract requires him to have a shareholding valued at 200% of this salary, which is £640,000.
That means he needs to hold shares worth at least £1.28m. From what I can see, his Royal Mail shares are now worth about £1.34m. So this latest purchase might have been more from necessity than conviction.
My decision
Although Royal Mail definitely has problems, I’m not sure things are as bad as the share price might suggest. I’m going to continue holding my shares and wait for the full-year results to be published in May. Then I’ll review my holding again.
