Peter Leahy: Other than a quick cash in, I wouldn't touch Royal Mail shares with a very long barge pole
The ‘low hanging fruit’ of government assets considered worthwhile privatisation candidates were sold long ago
Thursday 10 October 2013
While I’ve joined the queue of private investors applying for a small parcel of Royal Mail shares, it’s with the sole aim of cashing in at the earliest opportunity to generate a quick profit. Touch wood, I’m hoping for a return in the vicinity of 25 – 30 percent.
But beyond Friday’s floatation, I wouldn’t touch the shares with a very long barge pole, in any way, shape or form.
The ‘low hanging fruit’ of government assets considered worthwhile privatisation candidates have been sold long ago and then some. True, the Government and its advisors have played their modest hand with some dexterity in creating a buzz about the sale and the idea that it’s ‘cheap’.
But cheap compared to what is very hard to say. While the Royal Mail has been around for nearly 500 years – Henry VIII founded it – it has for almost all of its history been a monopoly with all of the financial transparency that goes with that role. Royal Mail might be a national treasure but it is also – undeniably – a 'sunset industry'.
Given the lack of clear information, the expected market capitalisation of £3.94bn (down slightly from £3.95 yesterday on the IG Index) is hard to describe as cheap or expensive. There are almost no comparators, so it’s important to focus on the business itself.
Royal Mail is hampered by its universal service obligation, forcing it to provide identical services and prices for residents of remote Scottish islands as they do in London suburbs. By comparison, its competitors can happily cherry pick the urban and suburban markets and simply not bother with serving the needs of the Orkneys.
Strategically, this may mean that Royal Mail could in future lose out to competition in the more profitable locations across the country while remaining obliged to provide a service to remote communities.
Additionally, the barriers to entry in the industry aren’t as high as some might suppose. It’s important to remember that parcel shipments – and not letters which are increasingly being replaced by email – deliver the juiciest profit margins.
Ultra-efficient international giants such as Germany's Deutsche Post – the owner of DHL – and America's FedEx both have substantial existing operations in the UK. Added to the mixture are logistics businesses such as Yodel who, given half a chancem will happily steal Royal Mail's lunch. And I wouldn’t bet against Amazon joining the queue sometime in the future!
A key characteristic of the Royal Mail is its heavily unionised labour force, boasting a long history of industrial action. The biggest union – the CWU – is four square against the privatisation, describing the move as a “betrayal” of the British public.
With 96% of Royal Mail staff reportedly opposing the sell-off, a new winter of discontent may be on our doorsteps. While we await the outcome of a ballot calling for a nationwide strike in response to the IPO, industrial action of some sort seems inevitable – a scenario that’s unlikely to help the share price.
Against this background, investors also need to take into account the current market environment. Sentiment on the major bourses is very much less than rosy – and the shenanigans going on in Washington makes it far less certain, or even likely, that subscribers will see profits beyond the immediate horizon.
It’s worth recalling that almost 26 years ago to the day, the then government’s part privatisation of BP got badly stuck in the midst of what came to be known as Black Monday. And remember that BP was at least a major oil company with a long track record of profitability.
Finally it should be borne in mind that privatisation has not always been a 'cure-all'. While British Telecom, British Petroleum and others have been successful, investors have had their fingers burned in others – Railtrack, for example, went bust.
And then there’s also the matter of undisciplined dogs to consider!
Peter Leahy, investment banking veteran, has spent 30 years working in the City for the likes of JPMorgan, Hoare Capital Markets, Bear Stearns and Kleinwort Benson. He is the founder of Sovereign Leadership Group, offering specialised training courses to the financial services sector and senior professionals within the industry, with a focus on the latest trends in bond and equity trading.
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