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The Royal Mail share price continues to rise. Here’s why I’m steering clear

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Paul Summers
·3-min read
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GLS van in front of building
GLS van in front of building

I’ll hold my hands up and say that the Royal Mail (LSE: RMG) share price has done far better over the last year than I ever thought it could. Even so, I still remain cautious about just how good the company is as a long-term investment. Before saying why, let’s take a quick look at the latest news from the company.

Dividend delight

Today’s brief statement from the company appears to have gone down well with the market.

Unsurprisingly, trading has remained “broadly in line” with the comments made by the firm earlier in March. All told, adjusted operating profit for the just-completed FY21 financial year will likely come in at roughly £700m. Approximately half of this will come from the firm’s international parcels business (GLS).

The main reason why the Royal Mail share price is buoyant this morning is probably due to the promise of a one-off final dividend from the company. A 10p per share cash return will be paid out to those who still hold the stock at the end of July. As expected, RMG plans to unveil a new dividend policy when it releases its latest set of full-year numbers in May.

Still not tempted

As great as the last year has been for holders, we need to put these things in perspective. The Royal Mail share price has only just got back to levels it last hit three years ago!

This performance is not indicative of a great business. Indeed, RMG continues to score poorly on ‘quality’ metrics. Returns on capital employed (ROCE) are woeful. As one would imagine from a business in this space, operating margins are also wafer-thin.

On top of this, Royal Mail still faces stiff competition. Rival Hermes, for example, picked up 10 million parcels from homes in December. Royal Mail managed only one million in the six months its equivalent service has been operational. The former’s offer of free parcel pick-ups from home until the end of May may provide a temporary boost but I question whether volumes might moderate once lockdown restrictions lift.

RMG shares look cheap on 11 times forecast FY22 earnings but I remain convinced that there are far better businesses to invest in.

Value trap?

Another stock updating the market today — Imperial Brands (LSE:IMB) — hasn’t fared quite so well. In contrast to the Royal Mail share price, the FTSE 100 giant can’t seem to catch a break. Although slightly higher than where it was one year ago, the company’s valuation is still down 60% over the last five years.

It doesn’t look like today’s pre-close trading update will be enough to reverse this trajectory. That’s despite the £14bn cap saying that it had made a “good start” to its current financial year.

At the six-month stage, trading at Imperial has been in line with expectations. As such, the top-tier tobacco titan still predicts it will deliver low-mid-single-digit growth in organic adjusted operating profit for the full year.

Right now, IMB’s stock can be picked up for just six times forecast earnings. That looks incredibly cheap at face value. What’s more, the shares currently boast a dividend yield of over 9%.

Notwithstanding this, the company continues to give off the whiff of a value trap. Until I see clear evidence of a more promising outlook, I’ll remain on the sidelines.

The post The Royal Mail share price continues to rise. Here’s why I’m steering clear appeared first on The Motley Fool UK.

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Paul Summers has no position in any of the shares mentioned. The Motley Fool UK has recommended Imperial Brands. 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 2021