MarketLine Blog

Royal Mail delivers second class performance

Royal Mail Holdings plc  (RM) has blamed increasing levels of competition in its parcels delivery business for a 20% fall in operating profit for the six months ended 28th September. Although results were better than some analysts had predicted, shares still slumped by over 8% after the news – although they remain much higher than the flotation price of 330p.

Part of the fall in operating profit was attributed to the growth of rival firms, squeezing the parcels delivery market and causing revenue from parcels to fall 1%, whilst overall revenue grew by just 2% – boosted by large electoral campaign mailings and price rises. Royal Mail has faced increasing competition from companies such as Amazon  and Whistl (formerly TNT Post UK) who do not have to operate under the restrictions of Royal Mail’s Universal Service obligations. A legacy from pre-privatization, the mandate dictates that Royal Mail must deliver to all UK addresses – some 29 million – for a fixed price.

Executives from within Royal Mail argue that this does not allow them to compete fairly with their rivals who are free to pick and choose their delivery routes and areas and can therefore concentrate resources in more profitable urban zones. Royal Mail also contends that this allows new entrants to cherry pick markets with high volumes and quickly grow market share, potentially causing a ‘material threat to the Universal Service’. Combined, these factors mean that Royal Mail often shoulders the bulk of rural deliveries and collections – both letters and parcels – which are often operations that generate little or no profit.

Royal Mail used the announcement to spell out its hopes that its competitors may have to operate under some aspects of the Universal Service mandate, and the company has appealed to its regulator Ofcom to consider imposing some of the conditions on its competitors. Royal Mail outlines its concerns that direct delivery services operating outside of these obligations enjoy an unfair advantage. The announcement includes predictions that Whistl’s expansion could cut RM’s revenues by £200m by 2018 unless change to competition is facilitated.

Whilst results were not as bad as some feared, perhaps a darker tale lies in the company’s prediction for growth in the UK parcels market. Royal Mail had predicted annual growth of 4% in the UK parcels market, driven by increased levels of e-commerce. However, as a consequence of Amazon’s decision to process more of its deliveries in-house, Royal Mail estimates that its addressable market will now only grow by 1-2% annually. Coupled with competition from other growing players in the parcels market, the outlook perhaps does not look so rosy for Royal Mail.

Before its decision to deliver more of its own parcels, Amazon was Royal Mail’s biggest customer accounting for 6% of sales. Alongside its own delivery service Amazon has also launched a next day delivery service which allows customers to collect their parcels from local newsagents and high street shops – potentially taking market share away from Parcelforce Worldwide, Royal Mail’s express delivery business.

All in all, the mid-year announcement does not paint too bright a picture for Royal Mail as lower than expected growth in its parcels business, coupled with declining letter volumes cast a shadow over the company’s ability to maintain market share. Royal Mail will be hoping that Ofcom acknowledges its claims of a ‘material threat’ which would mean the advancement of the planned review into Access Pricing Policy – perhaps RM’s best hope for levelling the playing field.

For further reading on Royal Mail’s privatization see our case study: The Royal Mail: UK Postal service sucked into the privatization trend

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