Royal Mail: A Deal That Doesn't Even Make Sense for the City

As a conservative commentator, I have been naturally concerned by the move to privatise Royal Mail, both in terms of the potential damage to the institution and its services, but also to the Conservative Party politically. Yet beyond the political arguments against the privatisation of Royal Mail, there is also something quite unseemly about the way the transaction has been presented to the City.
Alamy

As a conservative commentator, I have been naturally concerned by the move to privatise Royal Mail, both in terms of the potential damage to the institution and its services, but also to the Conservative Party politically. Yet beyond the political arguments against the privatisation of Royal Mail, there is also something quite unseemly about the way the transaction has been presented to the City.

As in the political world, where the plan has been debated only quietly thus far, there appears to have been a concerted effort to prevent City commentators and analysts having the opportunity to properly review the business - warts and all.

An army of PR advisers have presented the privatisation as a straightforward no-brainer: a modernised, high-growth, balance-sheet cleansed business now enjoying harmonious industrial relations.

This is, at best, a distortion of reality and when the City wakes up to the truth -starting now as we get to the business end of the transaction - they are likely to demand to be able to buy the company even more cheaply. That would be a disaster for the Royal Mail as an institution and a service provider, and a scandal for the taxpayer.

Current plans envisage an initial public offering (IPO) as early as the autumn. It is likely that even an IPO would need to be priced on the low side to attract institutional investors, many of whom are increasingly sceptical about the merits of the business, as well as concerned about the threat of industrial action. But if an IPO fails - as the Government has admitted is a distinct possibility - then the Royal Mail faces being sold at an even lower, bargain basement price to a private equity buyer who would be more likely to cut services and jobs to the bone.

It feels as if, as a nation, we are sleep- walking into this. In their unexplained desperation to sell the business right now, the Government is giving the City and global investors the chance to pay a low ball price and short change the UK taxpayer.

Even if privatisation is the right thing to do, selling the Royal Mail now is like selling a house that is still only part way through a major renovation - only the ruthless developer buying it will profit. The reality is that Royal Mail has not been successfully modernised yet and is still a very long way from being so. True, some investment has been made in recent years. But Royal Mail has a relatively poor track record of targeting capital funds where they are most needed.

Then there's the key question for investors of how sustainable is Royal Mail's current growth. Again, the company did demonstrate impressive top and bottom line growth in its recent annual results. But, if you take a close look at the business model, a significant part of that growth can be attributed to very large rises in the price of stamps - rises that are pretty much one offs and form no basis for a coherent revenue growth strategy going forward. In fact, the real threat for Royal Mail is that, by pushing through such big price rises to "fatten the calf" ahead of privatisation, it risks doing real long-term damage to the core letter business before the parcel business is fit and ready to replace it.

Another critical aspect that the Government have glossed over, if not totally ignored, is the question of alternative sources of capital funding for Royal Mail. They have presented as axiomatic (and City commentators have barely challenged them) Royal Mail's need to raise capital in the public equity markets, or to receive fresh capital from a new private equity owner. But this assertion should be challenged. Railtrack, for example, as a quasi-public entity raises money at attractive rates but some of its debt is not counted in public sector borrowing. A rigorous analysis of Royal Mail's funding options in the current climate should have been undertaken before deciding on the privatisation route. But this - like the political debate - has been largely absent.

Nonetheless, perhaps the biggest turn-off for investors is that - contrary to the PR spin - neither the pension deficit issue nor industrial relations have been sorted out. Union leaders are furious about the move to cap retirement payments for postal staff and have threatened to call a national strike later this year.

With Royal Mail facing an unresolved pension deficit and increasingly belligerent unions, the company could well end up becoming uninvestible for all but the bravest (and most ruthless) investors.

It shouldn't be left to financial institutions based in the City, and also in Zurich, New York and the Cayman Islands, that make the final decision over a cherished British institution. There are signs that the Government are now considering the national debate and wider perspectives to the current privatisation, it is crucial that in this process deep consideration is paid as to how to protect the British taxpayer and Royal Mail both as a universal service provider and as part of our heritage.

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