Royal Mail delivers growth warning

Royal Mail shares had rocketed by a quarter since mid-October when the company put money aside to cover fines in France and sold its former Paddington mail centre site. But the price fell late Tuesday as investors got nervous ahead of these first-half numbers. They were right to be.

Revenue at the UK business - UK Parcels, International & Letters (UKPIL) - was flat at £3.7 billion, but operating profit before transformation costs slumped by over a quarter to £219 million. Within that, the real problem is parcels where revenue fell 1% to £1.46 billion. And Amazon's own delivery network is such a threat that Royal Mail thinks annual growth in its addressable market will now be just 1-2% for the next two years.

"The rise of online shopping continues to support their parcel business, but increased competition alongside the introduction of Amazon's own delivery network as well as the rise in click and collect services are all combining to offset the trend and may weigh heavily on the share price going forward," says Rebecca O'Keeffe, head of investment at Interactive Investor.

It certainly has Wednesday morning. Investors are unhappy both with the limited revenue growth potential near-term and some other challenges for 2016, including an increase in pension charges of £40-£45 million.

Royal Mail also warns that the expansion of Whistl - the old TNT Post UK business - could wipe out over £200 million of Royal Mail revenue in 2017-18. "This amounts to a potential material threat to the Universal Service," says the firm.

"It's down to on-going cost control to improve earnings," says Numis Securities. And here there was progress. Tight cost control meant that UK costs were flat on an underlying basis and management expects a similar outcome for the full-year. Look for "flat or better" UK cost performance in 2015-16, says Royal Mail.

Elsewhere, election mailings nudged letter income up 1% to £2.2 billion, and a 3% drop in letter volumes was, at least, better than the anticipated decline of 4-6%. Royal Mail's General Logistics Systems (GLS) did better than expected, too, with revenue up 7% to €1 billion (£813 million) and profit up 11% to €69 million.

"Despite these pressures, the stock remains a favourite for both traders and investors and with stable income stocks increasingly difficult to find, Royal Mail continues to be an attractive option for investors at this level," says O’Keeffe.

Our resident technical analyst had some sound advice for Royal Mail traders in an insightful piece last month. It's certainly worth reading again.

Now, Royal Mail trades on a forward price/earnings (PE) ratio of just over 13 for the current financial year, dropping to a tad over 12 for 2016. That appears modest, but only if Royal Mail can deliver the double-digit earnings growth estimated by analysts for the next few years. There is a decent prospective dividend yield of over 4%, too.

This article is for information and discussion purposes only and does not form a recommendation to invest or otherwise. The value of an investment may fall. The investments referred to in this article may not be suitable for all investors, and if in doubt, an investor should seek advice from a qualified investment adviser.