These are the reasons I’ll avoid Royal Mail shares – even though they’re cheap

Andy Ross says Royal Mail shares are cheap, but there are many very good reasons for that and the share is a classic value trap.

| More on:

The content of this article was relevant at the time of publishing. Circumstances change continuously and caution should therefore be exercised when relying upon any content contained within this article.

When investing, your capital is at risk. The value of your investments can go down as well as up and you may get back less than you put in.

Read More

The content of this article is provided for information purposes only and is not intended to be, nor does it constitute, any form of personal advice. Investments in a currency other than sterling are exposed to currency exchange risk. Currency exchange rates are constantly changing, which may affect the value of the investment in sterling terms. You could lose money in sterling even if the stock price rises in the currency of origin. Stocks listed on overseas exchanges may be subject to additional dealing and exchange rate charges, and may have other tax implications, and may not provide the same, or any, regulatory protection as in the UK.

You’re reading a free article with opinions that may differ from The Motley Fool’s Premium Investing Services. Become a Motley Fool member today to get instant access to our top analyst recommendations, in-depth research, investing resources, and more. Learn More.

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.

Should you invest, the value of your investment may rise or fall and your capital is at risk. Before investing, your individual circumstances should be assessed. Consider taking independent financial advice.

Andy Ross owns no share mentioned. The Motley Fool UK has no position in any of the shares mentioned. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.

More on Investing Articles

Young black female footballer training on stadium pitch
Investing Articles

My JD Sports Fashion share price prediction for the second half of 2024

The JD Sports Fashion share price hasn't yet recovered from January’s slump. So will the retailer's stock bounce back in…

Read more »

Investing Articles

Up 47% in a week! Can the Capita share price continue to rocket?

The Capita share price has smashed the market in the last week, and Harvey Jones wonders whether it has the…

Read more »

Young Asian man drinking coffee at home and looking at his phone
Investing Articles

What could the second half of 2024 have in store for the BAE Systems share price?

After a strong first six months of the year, what could be coming next for the BAE Systems share price?…

Read more »

Growth Shares

2 FTSE 100 stocks that are outperforming these MAG7 members

Jon Smith reveals some FTSE 100 stocks that offer him a viable alternative to the Magnificent 7, based on recent…

Read more »

Investing Articles

My Scottish Mortgage shares just paid me £14.88. It’s another step towards making a million

Harvey Jones has just received a measly dividend from his Scottish Mortgage shares, but he's got big, big plans for…

Read more »

Investing Articles

FTSE 100 shares: is Barclays a standout buy?

Barclays shares are among the FTSE 100's top performers and this Fool thinks they have further to go. He explains…

Read more »

Black woman using loudspeaker to be heard
Investing For Beginners

At 52-week highs, here’s what may be next for the Lloyds share price

Jon Smith notes the strong rally in the Lloyds share price in the recent past and explains why the good…

Read more »

Young Asian woman with head in hands at her desk
Investing Articles

These UK shares are stinking out my ISA. Time to sell?

Paul Summers has been reviewing some of the worst-performing UK shares in his portfolio. Has the time finally come to…

Read more »