Royal Mail shares: is it the right time to buy?

Royal Mail shares have performed well in the past year. Royston Roche analyses the company to understand if the company is a good fit for his portfolio.

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Royal Mail (LSE: RMG) shares rose 170% in the past year, widely outperforming the FTSE 100 index, which dropped around 5% in the same period. I would like to analyse the pros and cons of investing in the company.

Royal Mail’s fundamentals

Royal Mail Group’s trading update for the nine months ended December 2020 was released recently. Revenue grew by 14% year-over-year to £9.3bn. Of that, Royal Mail revenue was up 9.3% to £6.4bn and revenue for international operations grew by 24% to £2.96bn. Online sales and Christmas sales in the December quarter were big contributors. The Group’s revenue for fiscal year 2020 grew by 2.45%.

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In terms of the future, management expects the Group’s adjusted operating profit to be in excess of £500m for fiscal 2021. This is better than the £325m for the previous year. The median analyst’s revenue growth estimate is 13% y-o-y for the fiscal year 2021, which is good. However, forecasts can change as future conditions evolve. 

The company is also working on digitisation. In the long term, it should help to improve operational efficiency. It is also reducing the management layers, which should help to speed up the decision-making process. 

Royal Mail Group has a stable balance sheet. It had an in-year trading cash inflow of £219m in the first half of this year when compared to an inflow of £152m in the same period last year. It also reduced net debt to £1.0bn at the end of September 2020 compared to £1.37bn at the end of September 2019.

In my opinion, the company’s satisfied employees will play a key role in the success of the company. It has an annual staff turnover rate of 6.7%, which is very good. The company was able to negotiate the demands of the Communication Workers Union in December. Most of the Royal Mail’s employees are its members. Employee equity ownership is about 8%, which is another reason for employees to work hard towards the company’s success.

Risks to consider while investing in Royal Mail shares

Royal Mail has been traditionally known for postal services. The company is transitioning to parcel service which is expected to have strong growth due to online sales. It has benefitted from the lockdown wherein more consumers bought goods online. With the lifting of restrictions, online shopping might be reduced. This could negatively impact the strong growth the company benefitted from in the year 2020. Also, the stock performed very well in the past year and it could see profit booking if the growth slows down.

The company’s letter business is slowing down. It is investing money in modernising its operations. This could put pressure on the company’s profits. In the parcel delivery space, it is facing competition from companies like DPD, Hermes, FedEx, and UPS

I believe the company has good growth prospects going forward benefitting from online sales. However, I feel the shares have already moved up a lot in the past year. Also considering the competition in the courier industry, I would wait for a better entry point and will not buy Royal Mail shares now.

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Royston Roche has no position in any of the shares mentioned. The Motley Fool UK owns shares of and has recommended FedEx. 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.

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