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My 3 reasons why the Royal Mail share price could rally in 2020

Jonathan Smith
Compass pointing towards 'best price'

If you are reading this article then you are probably well aware of the doom and gloom surrounding the performance of Royal Mail (LSE: RMG) over the past year or so. The share price is down around 35% over a rolling 12-month period, from 279p in the middle of February 2019 to a close last Friday at 181p.

My Foolish colleague Edward Sheldon wrote a good piece last week making the argument that the shares are not worth the risk of buying currently. I agree that the risk is high for investors who want to buy into the battered stock, however below are three reasons why buying at the moment might not be as crazy as you think if you do not mind taking on some risk.

Price-to-book value

This is a financial metric that is useful for investors looking below the surface. It is a figure that compares the current share price to the book value (think tangible value) of the firm. In effect, this is if Royal Mail stopped trading today and sold its assets and paid the liabilities it has, how the amount of money left over to pay to shareholders compares to the value shareholders currently assign to it.

Currently the ratio is 0.39, which is very low. While this highlights the negativity of investors (the tangible value of the firm is over double what the share price currently reflects), in my opinion this shows a very undervalued stock, and one which therefore could be worth investing in.

Dividend yield hunters

As the dividend yield takes into account both the absolute value of the dividend along with the current share price, a move lower in the share price artificially pumps the dividend yield higher. This has been the case for Royal Mail, with the dividend yield rising sharply over the past couple of months to currently stand at 13.5%. 

This is high, and although a dividend cut is on the horizon, you will see various investors buy into the share at current levels to lock in the generous yield on offer. Over the next few months, this buying could see the share price well supported, even rallying, I believe.

Respect the bottom line

In the latest trading update two weeks ago, group revenue was up by 3.7%, with a fall in letters offset by a growth in parcel deliveries. Indeed, the company is expecting gross profit in line with expectations for the period of between £300m-£400m. 

For all the concerns of potential strikes and loss of business to competitors, the financials reveal two tangible things to me. One, top-line revenue is growing. Two, the business is profitable. On these two factors alone, the share price looks undervalued, I think.

If Royal Mail happened to be several years into loss-making territory, with huge debt and liabilities on the books, then I would say steer clear of investing. While I acknowledge valid arguments that this is a risky investment, the above reasons do merit a small investment, in my opinion. 

The post My 3 reasons why the Royal Mail share price could rally in 2020 appeared first on The Motley Fool UK.

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Jonathan Smith and The Motley Fool UK have no position in any of the shares mentioned. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.

Motley Fool UK 2020