Royal Mail float: should private investors buy the shares?

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The company has announced a price range for its shares in the forthcoming flotation. Are they a bargain?

Royal Mail has announced details of its offer of shares to investors , who have just 12 days to buy a stake in the postal service at its flotation.

For the first time we know roughly what the shares will cost, albeit only within a wide range of 260p and 330p each. This would mean a dividend yield of between 6.1pc and 7.7pc, according to Hargreaves Lansdown (LSE: HL.L - news) , the stockbroker.

Professional investors can now give their views on whether the shares deserve a place in your portfolio. Here is a selection of their views.

Gavin Oldham, chief executive of the Share Centre, a stockbroker, said: “This is a major opportunity to buy shares in one of Britain’s best known companies, a highly respected part of everyday life.

"What is less well-known is the transformation of the Royal Mail’s prospects through its parcel delivery service, responding to the surge in online shopping. Doorstep deliveries for goods purchased on the internet, efficient operations and competitive pricing should provide investors with a lower to medium-risk investment with the potential of good dividends."

The Share Centre will accept applications in the Royal Mail flotation until October 8.

Carl Lamb of Almary Green, a financial adviser, said: "I would certainly recommend buying Royal Mail shares as part of a diversified portfolio." He said the shares made an "ideal holding" for pension savers with self-invested personal pensions (Sipps) or small self-administered schemes (SSASs).

Danny Cox of Hargreaves Lansdown said Royal Mail was well placed to benefit from the growth in online shopping. He added that the company had undergone a programme of transformation since 2008 focused on enabling it to deliver letters and parcels more efficiently and adapting the network so that it could carry more parcels.

"Further efficiency measures and streamlining could increase profits," he said. But he added that Royal Mail also faced challenges, including a continued decline in letter volumes, the costs of the “one price goes anywhere” service, the possibility of industrial action and the need to invest in the replacement of ageing infrastructure.

Once the flotation has taken place you will of course be able to buy the shares on the market like any other quoted company. The risk is that the price rises immediately the offer price is often chosen deliberately to make this likely and that you therefore pay more.

There is more information about the Royal Mail share offer at royalmailshares.service.gov.uk .

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Quick facts about Royal Mail shares

Revenue (March 31) £9.3bn Adjusted operating profit £403m Market capitalisation £2.6bn to £3.3bn Share price 260p to 330p P/E ratio 6.5 to 8.3 Expected dividend yield 6.1pc to 7.7pc Dividend cover Two times Interest cover Four times Net debt (31 March) £906m Net assets £1.4bn Leverage 65pc The numbers explained:

Revenue (31 March) £9.3bn

Adjusted operating profit (31 March) £403m

- These two figures taken together (the proportion of sales income that is retained as profit) imply an operating profit margin of 4.3pc - a relatively healthy figure, although it does not allow for the cost of investing for the future.

Market capitalisation of £2.6bn to £3.3bn

- This is the size of the company. The top end of the range would make it almost big enough to enter the FTSE 100 (FTSE: ^FTSE - news) but it will more likely site in the FTSE 250 (FTSE: ^FTMC - news) index of medium-sized companies. The next review of the indices is in December, when changes are made.

Share price 260p to 330p

- A wide range. Some investors may be tempted to buy at the lower figure but not the higher one, where the valuation becomes more testing.

P/E ratio 6.5 to 8.3

- The price to earnings ratio is widely used comparison of the shares price and earnings per share. The lower the ratio, the cheaper the share. The lower 6.5 figure is certainly in bargain territory, as long as investors believe that profits are sustainable. Even at 8.3 times earnings - which will apply if the shares are priced at the top of their range - the shares would be far from expensive. The average p/e ratio of the FTSE 100 is 15, although the company is anticipated to be low growth, somewhat justifying such a valuation.

Expected dividend yield 6.1pc to 7.7pc

- Also attractive figures. A yield of almost 8pc is very attractive to savers when cash deposits earn 3pc at best. Few blue chip companies yield even 6pc. Again, the key thing is the sustainably of profits to support the dividend.

Dividend cover two times

- This is degree to which the dividend is exceeded by profits. In this case Royal Mail could double its dividend and still meet the payments from its earnings, although that would leave nothing for investment. Paying half of your profits to shareholders - in other words, dividend cover of two - is widely seen as a sensible and sustainable balance.

Interest cover four times

- This shows that the company's debts are affordable and do not threaten to swamp its ability to pay dividends to shareholders.

Net debt (31 March) £906m, Net assets (31 March) £1.4bn

- Debt is a relatively low figure - 65pc - relative to sales, profits and assets.