Bullish: Rupert Hargreaves
Before the coronavirus pandemic, Royal Mail (LSE: RMG) shares were struggling. Years of mismanagement had left the organisation with elevated levels of debt, high costs, and inefficient operations. Many of the company’s problems could be traced back to the previous CEO, Rico Back, who was pushed out in May of last year.
Simon Thompson took over at the beginning of 2021. He is now driving the business forward, and it is using windfall profits generated over the last 18 months to invest £400m in the current fiscal year. It is also investing over £100m in its international delivery business, GLS.
The UK funds will be spent on projects like a new fully automated parcel sorting system in the Midlands. This will have the capacity to sort 1m parcels a day by 2023. Even Royal Mail has doubled the number of parcels sorted automatically in the past two years, machines still only sort 33% of packages. The industry average is 90%.
The company has also reset relations with its workers. A landmark agreement in December 2020 with the Communication Workers Union has helped the group improve efficiency and reduce costs.
Following these changes, I think the outlook for Royal Mail is incredibly exciting. The company is investing heavily, and it is trying to put past mistakes behind it.
These changes are desperately needed, and they should have a lasting, positive effect on the enterprise. Hopefully, this will allow the group to capitalise on the booming e-commerce market and the corresponding rise in parcel shipments around the UK.
Rupert Hargreaves does not have a position in Royal Mail.
Bearish: Christopher Ruane
With a 20% slide over the past three months, shares in Royal Mail may look cheap to some investors. But as always when investing, I prefer to take a broad view. Over the past year, the share price has increased 116%. So while the shares are already down markedly since June, I think they may yet have further to fall.
A key driver for recent optimism about Royal Mail’s prospects is the surge in parcel deliveries seen as a result of the pandemic. While some of that may fall away, I do think many consumers’ habits have changed permanently. I therefore do expect parcel volumes to remain higher than they were prior to 2019.
But bigger markets don’t necessarily translate into larger profits. Often the reverse happens: a market expands quickly and existing operators benefit hugely in the beginning. But over time, the expanded market size attracts new competitor. A crowded market leads to price competition, which hurts profitability. Royal Mail has some unique strengths, including its trusted name and unbeatable geographic reach across the UK. But other logistics companies have lately been expanding aggressively in the UK.
While the price-to-earnings ratio of 9 sounds low, I fear the current share price could make Royal Mail shares a value trap. Long-term letter volumes continue to decline. The company has high fixed costs and a tight labour market could drive up staffing costs. Crucially, I see increased competition in parcel delivery as a risk to future profitability.
Christopher Ruane does not have a position in Royal Mail.
