Royal Mail PLC Perform well in challenging environment

Royal Mail plc (LON:RMG) today announced its results for the full year ended 25 March 2018.

Moya Greene, Chief Executive Officer, said: “It has been another successful year, despite the challenging environment. Group revenue is now over £10 billion, a significant milestone, thanks to our geographical diversification and focus on growth.

GLS had another strong year. Its revenue grew organically and through targeted acquisitions in higher growth markets. Parcel volume growth in UKPIL was our best for four years. We delivered a resilient letters performance.

We continue to focus on cost avoidance and parcel revenue growth in the UK and through GLS. The good cash generation characteristics of our business will support our progressive dividend policy.”

FINANCIAL AND OPERATING PERFORMANCE SUMMARY
Group financial summary1

Business units

1 Reported results are prepared in accordance with International Financing Reporting Standards (IFRS). Adjusted results exclude the pension charge to cash difference and specific items, consistent with the way that financial performance is measured by Management and reported to the Board.

2 Movements are presented on an underlying basis. For further details of reported results, adjusted and underlying reconciliations to the closest IFRS measures where appropriate, see section entitled ‘Presentation of Results and Alternative Performance Measures (APMs)’.

Group performance1,2

· Revenue up two per cent on an underlying basis, to £10.2 billion, driven by UKPIL and GLS parcels growth.

· On a reported basis, operating profit before transformation costs was £236 million.

· Adjusted operating profit before transformation costs was £694 million, up one per cent on an underlying basis.

· Adjusted operating profit margin after transformation costs of 5.7 per cent increased by 20 basis points on an underlying basis.

· Total net cash investment was £445 million, down from £492 million in 2016-17. In-year trading cash flow increased to £545 million.

· The Group had a net cash position of £14 million at 25 March 2018. This benefitted by around £100 million from the timing of the 2017-18 frontline pay award.

· The Royal Mail Pension Plan closed to future accrual in its Defined Benefit form on 31 March 2018. A new Defined Benefit Cash Balance Scheme was put in place from 1 April 2018. The overall ongoing annual cash cost of pensions will continue to be around £400 million.

· The Board is recommending a final dividend of 16.3 pence per ordinary share, giving a total dividend of 24.0 pence per share for 2017‑18, up four per cent.

Business performance1,2

· UKPIL revenue was unchanged. Parcel revenue grew four per cent. Total letter revenue declined by four per cent.

· UKPIL parcel volumes up five per cent. Addressed letter volumes declined by five per cent, in line with expectations.

· Underlying UKPIL operating costs before transformation costs unchanged. Exceeded our cost avoidance target, avoiding £642 million over the last three financial years. Transformation costs were £113 million.

· UKPIL collections, processing and delivery productivity improved by one per cent, outside our target range (two to three per cent).

· Our regulatory First Class Quality of Service performance was 91.6 per cent (target: 93 per cent). Second Class performance was within the target range when allowing for sampling margin of error. We are talking to Ofcom about exceptional events3. If taken into account, we estimate we would have achieved our First Class target and exceeded the Second Class one.

· GLS performed strongly. Revenue was up 15 per cent, including the impact of acquisitions on a constant currency basis.

· On an underlying basis, GLS revenue grew 10 per cent. Volumes were up nine per cent.

2018-19 outlook

· UKPIL parcel volume and revenue growth rates anticipated to be at least the same as 2017-18.

· Maintain outlook for addressed letter volume declines of four to six per cent per annum (excluding election mailings) over medium‑term. Expect decline to be at higher end of range for 2018-19 due to GDPR and, or, if business uncertainty persists; may fall outside range in a period.

· Targeting to avoid around £230 million of UKPIL costs. Productivity improvements expected to be towards the upper end of targeted two to three per cent range. Transformation costs expected to be at upper end of forecast £130-150 million range.

· Expect continued good performance in GLS. Margins may be impacted by continuing labour market pressures.

· Total net cash investment expected to be around £500 million.

· Remain committed to progressive dividend policy going forwards.

3 These factors included a challenging industrial relations environment, some very severe weather, Cyber Week and Australian flu. It will be for Ofcom to decide.

CHIEF EXECUTIVE OFFICER’S REVIEW
Our performance

We are the UK’s number one delivery company for letters and parcels. UKPIL revenue was flat. This was due to a good performance in UKPIL parcels, where revenue was up four per cent; letter revenue declined by four per cent. Parcels growth was primarily driven by Royal Mail domestic account parcel volumes (excluding Amazon, they were up four per cent) and international import parcel volumes. Addressed letter volumes (excluding political parties’ election mailings) declined by five per cent, in line with our forecast range.

GLS revenue increased by 15 per cent, including the impact of acquisitions, on a constant currency basis in the year. It rose by 10 per cent on an underlying basis. Volumes were up nine per cent. GLS now accounts for 33 per cent of the Group’s adjusted operating profit after transformation costs, up from 29 per cent in 2016-17.

Winning in parcels

Competitive landscape

The UK is Europe’s most competitive parcels market, with 15 key competitors. Consumers are spending more online per head than in any other major market, including the US and China1. Pure play e-retailers (those that trade online only) are now the leading drivers of market growth. They overtook online retailers with a store presence for the first time in 20162.

As the Universal Service Provider, we provide the delivery backbone for e-commerce in the UK. We have 53 per cent of total market share by volume, in an addressable market growing at around three per cent per annum3. Our strategy of targeting faster growing sectors – like clothing and footwear – and winning and retaining volumes is paying off. This year, we delivered our biggest parcel volume growth since privatisation. Royal Mail Tracked 24®/48® and Tracked Returns® growth is ahead of the market by some distance.

E-commerce is also fuelling international growth. The largest European B2C parcels markets outside the UK are Germany, Italy and France – GLS’ largest markets. Having recently expanded its international FlexDeliveryService across 20 European countries, GLS is well placed to capitalise on opportunities for growth, particularly in cross-border parcels.

Our progress

Winning business with UK’s leading e-retailers

More barcoding and delivery confirmation on UK parcels

Expanding our parcels automation programme

Strong performance from GLS

Our service and product developments are designed to meet customer demand for faster delivery and more tracking information. We won a number of new contracts with large customers in our target sectors of clothing and footwear. They include New Look and Inditex. We also secured more business from existing customers. This includes growing the share of revenue generated by our largest account customers. Parcelforce Worldwide volumes were up two per cent, driven by new contract wins and existing customer relationships.

Over 70 per cent of Royal Mail parcels now carry a barcode. In April 2017, we began offering delivery confirmation for the majority of those barcoded parcels. We introduced new automated parcel sorting machines at our Chelmsford, Home Counties North, Greenford and Warrington Mail Centres, following the successful installation of a parcel sorting machine at our Swindon Mail Centre in the prior year. They enable quicker and more accurate scanning and sortation. Preparations are underway for our sixth machine in the South Midlands Mail Centre. Automation serves to complement and enhance; it does not replace our existing parcel sortation processes.

Our International business performed well. This was driven by growth in cross-border parcels, mainly from Asia into Europe. It accounts for 20 per cent of UKPIL parcel volumes and 18 per cent of revenue. In exports, we are focusing on major e-commerce retailers. We are also upgrading our processing automation at our Heathrow hub. It is helping to improve quality of service and reduce cost.

While negotiations are ongoing and the future UK-EU relationship remains unclear, it is not possible to predict with any degree of accuracy what impact Brexit could have on Royal Mail Group. The main issues for us relate to any potential economic downturn, and changes associated with customs and VAT processing. We are working closely with Government on alternative models for customs and tax collection after the UK leaves the EU. We were pleased that the UK Government explicitly referenced Royal Mail’s role in its recent Customs Bill White Paper.

GLS revenue growth was achieved in almost all its markets. Volume growth was driven by both international and domestic parcels. We won more new business and new traffic from existing customers.

1 Ofcom International Communications Market report, December 2017.

2 Mintel online retailing report, July 2017.

3 Excludes Amazon Logistics and other retailers’ own delivery networks.

GLS is a growth engine for the Group. It has delivered consistent, strong underlying growth. This is driven by its focus on B2B parcels and the premium B2C market. Its recent acquisitions in the western US and Spain have helped further establish GLS as a major player in and outside Europe. It now operates in 41 European countries and seven US states. Its largest markets – Germany, Italy and France – account for 60 per cent of GLS revenue. In Italy, GLS is now within the top three players in the market. In Germany and France, it is in the top five.

Defending letters

Resilient performance in UK letters

Maximising the value of letters including the rollout of Mailmark®

Coordinating with the industry and our customers in the lead up to the introduction of GDPR

Leading industry response to stop scam mail

Letters performed as expected. Addressed letter volumes (excluding the impact of political parties’ election mailings) were down five per cent. Total letter revenue benefited from 2017 General Election mailings and declined by four per cent. Unaddressed letter volumes (which typically have low average unit revenue), were up six per cent. Our performance in marketing mail was resilient. Revenue was up one per cent.

The UK continues to have a relatively high number of letters per capita compared to other major countries. Therefore, we continue to forecast a medium-term four to six per cent annual decline in UK addressed letter volumes (excluding political parties’ election mailings). The decline is broadly driven by e-substitution. But, GDP is also a material driver. We are closely monitoring the economic environment in the UK.

We introduced a number of strategic initiatives to demonstrate the value of letters. Our Scheme for Growth incentivises companies to grow their direct mail. It does so by giving them discounts on incremental volumes. We launched a Joint Industry Committee to make the case for advertising mail. Our Keep Me Posted and MAILMEN campaigns are gaining traction. We also commenced the rollout of Mailmark® to unsorted mail. This offers customers more detail on the progress of their mailing, and online, customised reporting. It also ensures that we bill accurately and are fairly paid for the work we have done. Around 90 per cent of in scope mail now has a Mailmark®.

Protecting customer data and treating it with respect is a key priority for us. We have been working closely with our customers and industry stakeholders in the lead up to the introduction of General Data Protection Regulation (GDPR) in May 2018. We have also outlined how mail can help our customers thrive in a GDPR world.

Scam mail is a scourge. We launched a new initiative impounding scam mail at distribution centres before it reaches the customer’s letterbox. This is part of our rolling programme of moves to stop postal scammers. We have stopped three million items of scam mail since stepping up our drive against fraudsters in November 2016.

Adding value and expanding our networks

GLS’ ‘scale up and grow’ strategy progressing well

Expansion in Spain following targeted and focused acquisitions

Introduction of International Tracked email notifications service

GLS occupies a leading position in all its major markets. Its ‘scale up and grow’ strategy to strengthen its position in its core markets and grow in higher growth areas is progressing well. It has delivered strong volume growth in key markets and targeted acquisitions in Spain and the western US.

In February 2018, GLS acquired Spanish express parcels delivery company Redyser Transporte. Redyser will further strengthen GLS’ position as Spain’s second biggest national express parcels network following the acquisition of ASM Transporte Urgente in 2016. Since acquiring Redyser, the focus has been on integration. This is going well. The business is performing in line with expectations.

Following its acquisitions of GSO (2016) and Postal Express (April 2017), GLS now provides a parcel service with full US west coast coverage. GLS’ coverage in this area enables it to offer shorter delivery times than its competitors. This, in turn, is helping it to win more business and benefit from growth in interstate deliveries. We are integrating Postal Express into GSO, with the first GLS branded vans being deployed in the region shortly. Integration costs and inflationary pressure have negatively impacted our operational costs and profitability in the region in the period.

GLS is making the most of the opportunities to harness growth in cross-border e-commerce. Its FlexDeliveryService is a great example of this strategy in action. FlexDeliveryService makes it easier for online shoppers to take delivery of goods purchased abroad. GLS also now offers its international returns service, ShopReturnService, across seven European countries.

In September 2017, we announced our International Tracked email notifications service. This enables overseas customers of UK-based retailers to track the progress of their parcels. The service, initially available to customers who have a business account with Royal Mail, has received positive initial feedback. We also now have the capability to offer tracked cross-border outbound and returns services to our larger customers.

Strategic focus on costs and investment

Exceeded our three year £600 million cost avoidance target

Extended our Collection on Delivery programme

Ongoing investment programme

Underlying UKPIL operating costs before transformation costs were flat. We have exceeded our three year cost avoidance target. We avoided around £640 million of costs, while simultaneously delivering service and product improvements. We are disappointed to have missed our productivity target of a two to three per cent improvement per annum. This was driven by the challenging industrial relations environment for much of the year, high levels of sickness-related absence and adverse weather conditions in the last month of the year. We continue to focus on controlling costs and making investments in technology to drive productivity.

We are constantly looking at ways to deliver efficiency improvements across our cost base. For example, we are extending our Collection on Delivery programme. This is where colleagues collect mail while they are out on delivery. Over 50,000 post boxes are now covered by this programme. We are also reducing costs in central functions, marketing, property and technology.

Since privatisation in 2013, we have invested over £1.8 billion in our UK operations. This year, we made a net cash investment of around £445 million. Our ongoing investment programme is one of the largest of its kind in the UK.

Becoming more digitally-enabled

PDA rollout complete

Parcelforce Worldwide one-hour delivery timeslot notification and My Parcel Live

GLS app and private customer portals in Europe

Investing in technology and innovation is a core part of our growth strategy. We completed the rollout of our Postal Digital Assistant (PDA) technology. This technology has been used in the rollout of estimated delivery windows for customers using our Tracked 24®/48® service. As part of our negotiations with the CWU during the year, we reached an agreement on the use of ‘PDA outdoor actuals’. This enables us to gain a better understanding of our outdoor delivery and collection activities. This will help us meet the increasing demand for new and improved services. It will also ensure that workload is fair and balanced for our postmen and women. We are carrying out further trials before national rollout.

Parcelforce Worldwide is expanding its range of digital tools to enable customers to send parcels more quickly and easily. It launched its own app to give customers more control over their deliveries. We also launched the Parcelforce one-hour delivery timeslot notification and ‘My Parcel Live’. A new online tool also helps marketplace sellers’ customers to link their eBay and Amazon accounts to their Parcelforce Worldwide account. This makes it easier and quicker to send several different parcels at once.

At GLS, comprehensive technology solutions – scanning devices and customer tracking systems – have been employed at every stage of the parcel process. They help customers track their parcel’s delivery status for both national and cross-border shipments. We also launched GLS‑ONE for customers in Belgium and Luxembourg. There are plans to expand this next year. GLS-ONE offers maximum flexibility as customers can now send a parcel using the online portal, GLS app or one of 5,500 ParcelShops. They can either order a pickup service from their home or workplace or receive and send goods easily and securely using a parcel box. We also upgraded the GLS app this year. Recipients can track the current position of a delivery vehicle and the expected delivery window of their parcel. GLS also carried out a Europe-wide upgrade of the scanning terminals for incoming shipments at its depots and hubs.

Our workforce

Agreement with the Communication Workers Union

Employee engagement in line with large company average

Gender pay report shows men and women are paid broadly the same

In February 2018, we announced our agreement in principle with the Communication Workers Union (CWU) on pensions, pay, a shorter working week, culture and operational changes. CWU members overwhelmingly voted in favour of the agreement in March 2018. This is an affordable and sustainable agreement; it enables us to continue to innovate and grow. It puts us in a better position to serve our customers’ evolving needs. The agreement contains commitments to work together to extend last letter delivery times and later Latest Acceptance Times (LATs). These changes are fundamental to our objective to be the chosen delivery partner of e-retailers. A joint review will help us to design a more efficient and responsive pipeline. This should enable more flexibility in our working practices, new delivery methods that benefit the single operational pipeline and add more value to our service for our customers. The phased introduction of a shorter working week is dependent on the completion of trials and the successful implementation of a range of initiatives.

Just after the reporting period, we were also pleased to announce that, following extended discussions and difficult negotiations, we have reached agreement with Unite on pay, pensions and working arrangements for junior and middle managers in Royal Mail. Unite will ballot its members on the agreement with a recommendation that they accept. This is a positive position to reach and much of the agreement commits both parties to ongoing discussion to make Royal Mail the success we all want it to continue to be.

As previously announced, the Royal Mail Pension Plan closed to future accrual in its previous Defined Benefit form on 31 March 2018. This step was necessary to avoid an expected increase in cash contributions to around £1.2 billion per annum – an unaffordable amount. I know how important pension benefits are to our colleagues; I have heard from and spoken to many of them on this subject. The pension arrangements we have put in place are a good and fair outcome. They compare favourably with the retirement benefits offered in our industry and by other large UK employers. Working together with the CWU, we are lobbying Government to make the necessary legislative and regulatory changes to enable the introduction of a Collective Defined Contribution pension scheme. In the meantime, from 1 April 2018, the Company has put in place transitional arrangements. For Royal Mail Pension Plan members, we implemented a Defined Benefit Cash Balance Scheme. Members of our Defined Contribution Plan have also benefitted from an increased contribution from the Company.

We saw an increase in our employee engagement score, up from 57 points to 59, which is in line with the Ipsos MORI norm for large organisations. Engagement levels also play a part in employee turnover. This influences training and recruitment costs. Our employee turnover rate remained low at 7.2 per cent. This compares well with the average UK turnover rate of 23 per cent4.

We were pleased – but not complacent as there is more to do – with the results of our annual pay review. The average salaries for male and female Royal Mail employees are broadly the same. On a mean basis, women are paid 2.1 per cent more than men. This is because we have a greater proportion of women in senior positions. On a median basis, men are paid 1.5 per cent more than women. This compares to an average UK pay gap, according to the Government, of 9.7 per cent5. Our difference in median pay rates is due to males being more likely to select work that qualifies for allowances, such as shift work during the evening or at night.

Customer focus

Mean business customer satisfaction score of 78; in line with last year

Named global sustainability leader of the Transportation industry group in the Dow Jones Sustainability Indices

For 2017-18, our mean business customer satisfaction score was 78, in line with our performance in 2016-17. In a recent survey conducted by Ipsos MORI, 81 per cent of customers said they were favourable towards Royal Mail in 2017; 88 per cent said they were satisfied with our services. This was well above the average for all the brands in the survey. The majority of our customers rated us as delivering extremely or very good value for money6.

We were disappointed that our full year regulatory First Class Quality of Service performance was 91.6 per cent, below our target of delivering 93 per cent of First Class mail the next working day. For Second Class mail delivered within three working days, our performance of 98.4 per cent was within the 98.5 per cent annual regulatory target range when allowing for the margin of error in sampling.

We are talking to Ofcom about a number of exceptional events during the year. They impacted our Quality of Service performance. These factors included a very challenging industrial relations environment, some very severe weather, Cyber Week falling outside the exemption period and significantly reduced staffing levels caused by the Australian flu outbreak. We believe that, if the 2017-18 performance was adjusted for these factors, we would have achieved our First Class Target. We are asking Ofcom to take these issues into consideration. It will be for Ofcom to decide.

We were disappointed that we have seen an overall increase in complaints. This was driven principally by an increase in ‘Denial of receipt’ claims. We continue to highlight the importance of correct doorstep scanning and ensuring that if an item is left with a neighbour, the appropriate details are written on the ‘Something for You’ card.

We make the seventh biggest contribution to the UK economy of any UK company through our high quality employment, our procurement activities and the taxes that we pay. That is why we are delighted to be named global sustainability leader of the Transportation industry group in the Dow Jones Sustainability Indices.

Current trading and outlook

Trading in the first few weeks of 2018-19 has been in line with our expectations.

The UK parcels market remains highly competitive. We anticipate that UKPIL parcel volume and revenue growth rates in 2018-19 will be at least the same as in 2017-18 due to the expected growth in our tracked and international products, as well as additional initiatives.

We maintain our outlook for addressed letter volume declines of between four to six per cent per annum (excluding political parties’ election mailings) over the medium‑term. However, due to the potential impact of GDPR and, or, if business uncertainty persists, we expect to be at the higher end of the range of decline for 2018-19 and may fall outside the range in a period. In addition, we are not expecting any benefit from political parties’ election mailings in 2018-19.

The new Pensions, Pay and Pipeline agreement provides a framework for the next phase of transformation of our UK business into a truly customer-focused organisation. In this first year of the agreement we will be working with our unions and people to implement operational changes to help retain and grow parcel volumes and to lay the foundations for future growth and productivity opportunities through operational trials.

Our cost avoidance programme in UKPIL is targeting to deliver around £230 million costs avoided this year. This encompasses productivity improvements towards the upper end of our targeted two to three per cent range. Higher variable costs associated with increasing volumes of tracked and international products are expected to create some incremental cost pressures. Transformation costs for the year are expected to be at the upper end of our forecast £130-150 million range due to the expected productivity improvements.

GLS has performed consistently strongly over the past few years and we expect continued good performance in 2018-19 although margins may be impacted by continuing labour market pressures in many of its markets.

Total net cash investment is expected to be around £500 million in 2018-19, within which transformation operating expenditure will reflect the expected productivity improvements.

4 Total UK turnover rate taken from www.xperthr.co.uk/survey-analysis/labour-turnover-rates-2017/162496/

5 Data reported by over 10,000 companies with more than 250 employees to the Government Equalities Office.

6 Ipsos MORI Corporate Image Survey Winter 2017.

In-year trading cash flow in 2018-19 will reflect the payment of the 2017-18 frontline pay award in the first quarter of 2018-19. Given the good cash generation characteristics of the business we remain committed to our progressive dividend policy going forwards.

As in previous years, the outcome for the full year will be dependent on our performance over the important Christmas period.

Thank you

As you may know, we announced that the Board and I agreed that I will retire in September 2018, and step down as CEO on 1 June 2018. It has been my pleasure and a great privilege to serve as CEO of this cherished UK institution. I am proud of what we have achieved over the last eight years.

I would like to warmly congratulate Rico Back and Sue Whalley on their new roles, as our Group CEO and CEO of Post and Parcels, Royal Mail UK. I have had the privilege of working closely with Rico and Sue for many years. They are the best possible team to continue to transform our business. I am delighted that they have both been promoted to the Board and into expanded roles.

We are pleased to have come to an agreement with the CWU during the year. We are determined to continue to provide the best pay and terms and conditions in our industry by some distance. Good labour standards lead to better service standards for customers. Our commitment to serving our customers throughout this period has enabled our good trading performance to continue and helps to secure a sustainable future for our people and our business.

I am honoured to have worked alongside Royal Mail’s people and the union leadership. It is their hard work and dedication that connects households, communities and companies across the UK every day.

Moya Greene

Royal Mail Plc Chief Executive Officer

16 May 2018