Investors who bought Royal Mail (LSE: RMG) shares when they were sold by the UK government would have done well – for a little while. Anyone buying the shares since then (and in the last two years in particular), not so much, as Royal Mail shares have tumbled. Now on a trailing P/E of 12, even though the shares are relatively cheap I think they will fall further. These are the reasons why.
Continued decline in UK profitability
A trading update this month showed Royal Mail is still expected to make a material loss this year. That’s despite £200m of operating cost savings planned in the division this year, and a further £130m in 2021-2022.
This follows on from other negative updates this year. Back in March, Royal Mail warned that the group has suspended guidance for 2020-2021 and all future periods, with delays to the Journey 2024 plan. The group also cut its final dividend in response to Covid-19.
Back then it also warned that its finances would become problematic if difficult conditions were still around in September. With a lot of the UK now in local lockdowns, and more government restrictions coming in, that’s exactly the situation we’re now in.
The years when conditions were better didn’t inspire confidence in the business. Profits before tax have been volatile over recent years, although the company has remained profitable. The inability to grow profits consistently makes Royal Mail shares risky, I feel.
Also, the problems will continue while its highly unionised workforce resists proposed changes to automate warehouses. RMG’s high costs mean UK margins are razor thin.
I think the group has suffered both from some big structural challenges, but also from mistakes on the part of its management and this has hit the Royal Mail share price.
Management’s engagement with unions has been poor, which has held back everything else. Executive rewards have been weakly linked to performance. Moving away from letters, which are in terminal decline, has been too slow under successive CEOs too. Turnaround plans have been poorly implemented. And turnover of CEOs has been high, showing just how difficult these problems are to deal with.
The one bright spot for Royal Mail shares
I think investors looking for a turnaround will be relying on the international part of the delivery group. The GLS business for some time now has been the strongest part of Royal Mail, but growth there hasn’t been enough to arrest the falling share price.
Even if GLS continues to grow, I think Royal Mail shares have further to fall. Investors have lost confidence in this business and that will likely continue to hit the shares.
There’s a wider good news story around more e-commerce activity as a result of the pandemic, and as a result, more need for parcels delivery. But that doesn’t seem to be helping the group, even though it should be flying in an e-commerce-focused world. Overall, I don’t think the fundamentals look good and will avoid Royal Mail shares at all costs.
