Is Royal Mail PLC A Super Income Stock?

When Royal Mail (LSE: RMG) listed in October 2013, its merits as an income stock were clear. Not only did it offer a 6%+ yield, it also included the potential to increase dividends at a brisk pace. Since listing, shares are up nearly 75% — does this mean that Royal Mail is no longer a super income stock?

A Decent Yield

Despite shares performing extremely well since they listed, Royal Mail still yields a very healthy 4.2%. Of course, this is well in excess of the interest rate at a typical high street savings account and, crucially, is well ahead of inflation. It also beats the FTSE yield of 3.5%, although inevitably after such a vast price rise in a short space of time, Royal Mail’s yield is not quite as attractive as it once was.

Dividend Growth

Over the next year, Royal Mail is forecast to increase dividends per share by around 15%. This is extremely generous and is above and beyond the growth rate of dividends offered by many of its index peers. In addition, Royal Mail’s dividend remains very well-covered at 1.8 times, meaning Royal Mail could have paid its dividend 1.8 times with net profit. While this is encouraging (and shows Royal Mail is reinvesting sufficient profits back into the business) it could be argued that this ratio should be lower.

royal mailFor instance, if Royal Mail were to pay out two-thirds of earnings as a dividend (as opposed to the current 55%) it would mean a better yield for shareholders and could still mean that enough capital is being ploughed back into the business for expansion. Therefore, it could be a win-win situation for income-seeking investors and for those more focused on seeing continued growth in profitability.

Looking Ahead

With shares having made stunning gains in the last five months, it may be expected that Royal Mail’s valuation is excessive. However, trading on a price to earnings (P/E) ratio of 12.9, Royal Mail does not appear at all expensive — especially when the FTSE 100 has a P/E ratio of around 13.5. Therefore, with an above-average yield, the potential for higher dividends in future and an attractive valuation, Royal Mail remains a super income stock.

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Peter does not own shares in Royal Mail.