The Royal Mail (LSE: RMG) share price has fallen by more than 20% already this year. The shares are now down by more than 70% from their May 2018 peak.
There doesn’t seem to be much hope that things will improve soon. Boss Rico Back recently warned that the number of letters being posted is falling faster than expected. Industrial relations problems are slowing the group’s turnaround plan and posties are expected to vote soon on whether they should strike.
Play it safe
For investors, the obvious decision is to stay away until there’s some sign of improvement. I certainly wouldn’t argue with anyone who decided to do this.
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I have to admit that my previous optimism about this business was premature, to say the least. As things stand, I don’t think that Royal Mail is the kind of safe and stable dividend stock you’d want to buy for your retirement. And yet…
Could the shares double?
The negative sentiment towards the UK’s postal service is starting to remind me of the way investors dumped mining stocks in 2015. But anyone who bought shares in the big FTSE 100 miners in early 2016 enjoyed massive profits as the sector started to recover — I know I did.
Is Royal Mail now a genuine value play? And could the shares double as it recovers? With the stock now trading close to its book value, I think it’s worth asking these questions.
After all, this business has been trading since the 17th century and handles nearly half of all parcels posted in the UK. Annual turnover is more than £10bn and the group owns property valued at around £2bn.
Royal Mail also owns the more profitable GLS international parcels business, which operates as Parcelforce in the UK and under various other names abroad.
These metrics look cheap to me
Arguably, the Royal Mail share price has reached a point where it looks cheap.
For example, I estimate that the group’s book value is around £1.7bn, excluding its pension surplus. The current market cap is £1.8bn, so the stock is valued at little more than the value of its property, minus debt.
The valuation also looks tempting when compared to historic profits. Over the 12 months to 30 September, my sums show that Royal Mail generated an underlying after-tax profit of £220m. That means the shares are currently trading on just 8.1 times historic earnings. That’s potentially cheap, if earnings can recover to this level after the slump that’s forecast for 2020/21.
What’s less certain is whether the company can repeat its past performance, or whether it’s locked into a cycle of falling profitability.
The boss is buying
Chief executive Rico Back has a tough job on his hands, in my view. But he appears to remain confident. He’s been making significant share purchases at regular intervals since his appointment in 2018.
Mr Back’s latest purchase was on 6 February, when he spent £537,676.80 on RMG stock. This buy came less than two months after a £702,000 purchase in December.
Despite the current problems, I continue to believe Royal Mail should be a valuable and sustainable business. The stock’s 8% dividend yield is also tempting, although I think this payout could be cut again.
I’d describe the shares as a ‘buy for the brave’. It will be uncomfortable, but it could be very profitable.
