Royal Mail (LSE: RMG) is a UK institution. Its been around in one form or another for hundreds of years. And it seems likely the business will remain a core component of the UK’s economic infrastructure for many decades to come.
However, in the firm’s short history as a public enterprise, Royal Mail shares have been a challenging investment to hold. The company’s short-term performance has been underwhelming, but could the stock produce attractive returns for my portfolio in the long run?
Buy-and-hold
Over the past year, my opinion on Royal Mail shares has changed a couple of times. In the second quarter of 2020, I thought the stock looked attractive compared to its potential. That proved to be the correct opinion. One year later, I was a little more cautious.
Earlier this year, I became worried that the market was expecting too much from the group. I thought demand for its services would begin to soften as the economy reopened.
The company’s latest trading updates present a mixed picture. Growth has slowed from last year’s furious pace, but overall delivery volumes still seem to be running above 2019 levels.
Unfortunately, the company has also earmarked significant sums for capital spending, which will impact its financial position. These headwinds explain why the stock has fallen around 16% since hitting its 52-week high of around 606p at the beginning of June. Over the past year, Royal Mail shares have added 134%, excluding dividends.
After its bumper 2020, I think Royal Mail is due a period of consolidation. This is why I’ve revised my opinion of the company in recent months. As the business spends heavily to develop the infrastructure it requires to meet the rising demand for its parcel delivery services, profits may remain under pressure.
This is unavoidable. The group has underspent in recent years and is now having to play catch-up. With competitors nipping at its heels, Royal Mail needs to invest to stay in the game.
The outlook for Royal Mail shares
Still, in the long run, I think these developments will pay off. As such, while I think the stock may continue to remain under pressure for the next couple of quarters, as spending starts too slow and operational efficiencies come through to the bottom line, sentiment towards Royal Mail shares should improve.
Of course, this isn’t guaranteed. There are plenty of reasons why the company’s capital spending may not yield the desired results. Higher than expected costs and ruined installations may only end up increasing costs and reducing efficiency.
Nonetheless, despite these risks, with the demand for its services rising, Royal Mail has the wind behind it. If management can improve efficiency and reduce costs further, I think the outlook for the stock is favourable over the next decade.
Therefore, I’d buy and hold Royal Mail shares for the next 10 years in my portfolio, although I think its near-term performance is likely to underwhelm.
