There were contrasting fortunes last week for investors in Royal Mail (LSE: RMG) and Fuller, Smith & Turner (LSE: FSTA). The former’s shares jumped as much as 6% on Wednesday, while the latter’s were down 16% at one stage on Friday.
Royal Mail’s rise came on the back of news of a High Court ruling that a union postal ballot of employees for industrial action was unlawful. Fullers’ fall was down to it announcing that its central overheads this year will be materially higher than management previously expected.
Here, I’ll look at the immediate impacts on the two companies, and also give my views on the medium- and longer-term prospects for their businesses and investors.
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Happy to buy
Fullers’ announcement on Friday stems from the £250m sale of its brewing business to Asahi earlier this year. There is a transitional services agreement (TSA), under which Fullers bears central overheads until May next year.
Clearly, management misjudged the costs, although it also told us costs have been adversely impacted by a migration to a new enterprise resource planning (ERP) system, which has not yet delivered the expected benefits.
As a result, the company expects pre-tax profit for its financial year ending 28 March 2020 to be in the region of £31m, broadly in line with the prior year on a comparable basis. My sums say earnings per share (EPS) will be around 46p, which gives a price-to-earnings (P/E) ratio of 21.3 at a current share price of 980p.
Fullers has a record of seven decades of unbroken annual dividend growth, and I can’t see it changing this year. A modest increase in the payout to, say, 20.25p would be well-covered by EPS, and give a yield of a bit above 2%.
Despite the company’s slip-up on central overheads – and another near-term headwind in the shape of industry-wide cost pressures – I believe the company’s medium- and longer-term future is bright. With its long history of prudent management, strong balance sheet, and well-invested estate, I’d be happy to buy the shares today.
Happy to avoid
Last week’s news that Royal Mail has managed to prevent a damaging December strike has certainly been welcomed by the market. It’s reckoned the company could get a £30m windfall from the general election, due to a big volume boost from electioneering mail and postal votes. And then, of course, there’s the crucial Christmas trading period.
However, the news also serves as a reminder that Royal Mail has a highly unionised workforce. Generally, I believe this tends to hamper flexibility, technological innovation, and the speed at which the company is able to implement change.
I’d anticipate another union ballot – and a strike – next year, leaving the company’s cost-saving target of up to £200m looking overly optimistic. But it’s the long-term impact of fraught management-union relations that concerns me.
And that’s not the only structural negative for the business and investors. Letter volumes are in long-term decline, as more customers and businesses migrate to digital communication. I see downside risk to the rate of attrition here.
The growing, but highly competitive parcels market isn’t sufficiently attractive to overlook the business’s structural issues, in my view. As such, despite a P/E of 10.2% and 6.5% dividend yield (at a share price of 231p), I see Royal Mail as a stock to avoid.
