UK Mail has now released its final results for the year ended 2016.
Revenues declined when compared to last year as a £3.3M growth in parcels revenue was more than offset by a £7.4M decrease in mail revenue. RM access costs fell by £6.4M but this was offset by an increase in subcontractor costs, up £6.5M. Fuel costs were down £1.3M but other cost of sales increased by £4.5M to give a gross profit some £7.4M below that of 2015. Depreciation was up £1M and operating lease rentals grew £1.9M, although other underlying admin expenses did fall modestly. We then see a £4.6M growth in the national hub relocation cost, a £3.8M impairment of intangibles, a £1M impairment of tangibles and a £1.4M cost relating to management reorganisation. These costs were offset by a £1.1M profit on the sale of the old hub and a £14.5M increase in HS2 compensation to give an operating profit £5.2M below that of last year. There was a modest increase in finance costs but tax fell by £1.7M to give a profit of the year for continued operations of £11.9M, a decline of £4M year on year.
When compared to the end point of last year, total assets declined by £24.8M driven by a £9.8M fall in trade receivables due to lower sales in March, an £8.5M decrease in freehold land and buildings following the sale of the old hub and offices, a £2.8M decline in internal software developments, a £2.7M decrease in the value of computer equipment and a £2.7M fall in prepayments and accrued income, partially offset by a £2.2M growth in cash. Total liabilities also decreased during the year as a £10M decrease in the revolving credit facility, an £8.9M decline in trade payables, a £9.2M decrease in deferred compensation and a £1.3M fall in accruals was partially offset by a £4.8M growth in finance lease obligations. The end result was a net tangible asset level of £56.7M, an increase of £3.8M year on year.
Before movements in working capital, cash profits declined by £1.1M to £28.7M. There was a modest cash inflow from working capital, due to a fall in receivables, and after tax payments increased by £3.2M, the net cash from operations came in at £29.1M, a growth of £5.5M year on year. The group spent £11.9M on property, plant and equipment along with £4.7M on software but they also received £5.4M in HS2 compensation which gave a free cash flow of £17.9M. This covered the dividends but not the debt repayments so they took out a net £4.8M in new finance leases relating to the sale in leaseback of the new automation equipment to give a cash flow of £2.2M and a cash level of £6.8M at the year-end – this looks much improved to me.
The underlying operating profit at the Parcels business was £15.9M, a decline of £7.7M year on year. Average daily volumes increased by 4.5% and there is a continued volume mix change towards the lower margin B2C segment which meant that operating margins fell from 9.7% to 6.4%. Both the rate of volume growth and the operating margin have been impacted by the operational issues related to the move to the new hub. The profit reduction is partly temporary due to a temporary increase in operating costs associated with this and also due to a magnified mix effect as a result of the increased customer churn experienced in the first half of the year.
A detailed plan has been underway to address these issues including a number of initiatives that have already eased the pressure on the hub. A key decision was to introduce a second hub which will specialise in handling the non-machineable freight. This is an efficient cross-dock facility designed specifically for such use and, whilst it increases the overall hub costs, it allows the automated hub to focus on machineable freight whilst enabling them to retain significant volumes of other freight.
The efficiency of the main hub will also improve as new customers come on board thereby increasing volume throughput, with some of that new volume arriving at the new hub throughout the day rather than just in the peak hours. More widely, the plan involves re-engineering the line haul template to fully align it with the efficiency of the new hub. They are shortly to introduce a new computerised model to optimise the planning of the linehaul routing, with the new routing being rolled out during Q2. This is expected to deliver improvements in trunk vehicle utilisation levels and therefore a reduction in overall linehaul costs.
The sortation equipment is operating effectively and service levels are now back to where they should be with a number of new customers apparently keen to use the services available through the new hub. The group continue to make progress with product innovations. These include Retail Today, the same day delivery service; and ipostparcels, one of the lowest-cost online collection and delivery services available in the UK. To support the growing the demand for same-day deliveries in the retail sector, they are expanding their capability in this area, particularly in London. Revenues and profits grew well for these operations and they continue to invest in further enhancing these services.
The enhanced next day delivery service is achieving strong service levels of over 95%. This service has now been improved to include the ability to redirect a delivery after the driver has left the depot as well as GPS stamping which allows the group to confirm that a delivery has been made based on the GPS coordinates on the delivery confirmation. They are also progressing their plans to offer parcel drop-off and collection points, including a trial with a national multi-site retailer.
The underlying operating profit at the Mail business was £10.1M, a fall of £2.4M when compared to last year. Daily mail volumes increased by 5.2% in a contracting overall market but the operational issues faced across the business also had some impact on the mail business in the form of additional operation costs in order to maintain service levels. In addition, the pricing environment in the mail market remains highly competitive with margins falling from 5.2% to 4.4%.
In the past year there have been a number of substantial mail accounts out for tender and the group have done well with retaining existing customers and winning competitor accounts, albeit with some pricing pressures. Product innovation helped the group offset the mail market decline. Imail, their web to print postal service, continued to show good revenue and profit growth. They continue to invest to increase their capacity and provide additional services with imailprint being launched, providing a specialist printing service which, rather than being purely mail-related, can produce printed documents for general usage. The board see this as a medium-term growth opportunity using their existing infrastructure.
In addition they have launched a turn-key solution for the Royal Mail Mailmark service where they manage and process individual item data on behalf of their customers with the Royal Mail. By providing a clearer chain of custody for the mail and more accurate data input into Royal Mail reporting systems, they can minimise RM surcharges for their customers.
A key growth element of the mail market is the rising popularity of packets. Whilst the group have made some progress in this area, their share of the market remains very low. They now have a clear plan in place to growth their market share, with specialist packets sortation equipment in place which allows them to offer a service that fully meets their customer’s requirements. They have increased the size of their sales team to capitalise on this and are gaining good traction with customers. They expect to see a positive impact in the current year and continue to believe that this area will be key to growing their mail revenues and profitability in the future.
The new automated hub is operating well and achieving good throughput levels and the objective now is to further increase volumes that it processes through improved network planning and hub operating methods, along with further enhancements to the automated sorter throughput. The group have also added a second hub which is focused on the non-machineable freight that is not efficient for the automated hub to process. This facility increases the overall capacity and allows the group to handle freight that whilst not suitable for automated sortation, can provide a profitable income stream.
There were a number of exceptional items again this year. There was a profit on the sale of the nation hub following the compulsory acquisition by the DfT as a result of the HS2 railway and also income relating to the compensation agreed due to the impact of the HS2 route on the business.
There was a cost of automation expense which represents the costs incurred as the group implemented the new equipment, and largely represented asset write-downs and contract termination costs. The national hub relocation costs represent disturbance costs associated with the relocation of the National hub to Ryton following an agreement reached with the DfT. These comprise £4M of disturbance payments including recruitment and redundancy costs along with legal and professional fees; £2.5M of property costs associated with running two sites for six months; hub expansion costs of £300K and £300K loss of profit due to the delay in hub capacity expansion. No further amounts are expected to be taken as exceptional costs next year.
The impairment of intangibles follows a comprehensive review of the group’s IT systems which identified a number of software assets that did not fit within the medium and long term strategic goals of the group. The impairment of tangible assets represents the cost of sortation equipment that are no longer required given the revised automation strategy of the business. The management reorganisation costs include the contractually agreed payments to departing directors, and appointment costs of new board members.
The process of identifying a successor to Guy Buswell who stepped down as CEO in November is still ongoing and Peter Kane continues to serve as executive chairman until an appointment is made.
Going forward, the immediate focus is to resolve the issues that arose on the transition to the new hub combined with the effective introduction of the new automated sortation methodology, and the board believe they are making encouraging progress in this regard. The first half of the new year will reflect the fact that they are in transition so the board expect the performance for the year to be weighted towards the second half of the year, which sounds a bit dangerous.
At the current share price the shares traded on a PE ratio of 15 which increases to 15.5 on next years’ consensus forecast. After a reduction in the final dividend, the shares are yielding 5% which increases to 5.2% on next year’s forecast. At the year-end, the group had a net cash position of £2.2M compared to a net debt position of £5.2M at the same point of last year.
Overall then this has been another difficult year for the group as the problems associated with the new hub and automation equipment continued. Profits from continuing operations declined again but net assets actually improved during the year. The operating cash flow also improved, generating a decent amount of free cash flow but this was aided by a large fall in receivables and the cash profit declined.
The parcels business struggled due to the problems with the hub and the growth of lower-margin B2C parcels at the expense of B2B parcels. The mail business also saw profits fall, partly as a result of the operational difficulties but also due to the competitive nature of the market. The group are taking action to combat the operational issues but there is little they can do about the competitive nature of the industry which is driving down margins – although some of the new services look interesting.
The dividend yield looks good at 5.2% but the forward PE ratio of 15.5 looks less inspiring and with no CEO yet in place, despite the company looking stronger than it has done for some time, now might not be the time to buy in.
On the 14th July the group released a trading update covering Q1. They made a solid start to the year with overall performance in line with their expectations. The move of their second hub has been completed with high service levels maintained throughout the period. They are making good progress with their plans to improve the efficiency of their operations and remain in a sound financial position – this all seems OK but the shares don’t really interest me at the current price.
On the 28th September the group announced that they have reached an agreement with Deutsche Post to sell the company. Under the terms of the offer, shareholders will be entitled to receive 440p in cash for each share held. The offer values the entire share capital at £242.7M and represents a premium of about 43% to the previous share price. DHL has received irrevocable undertakings of about 60% of the share capital so this looks a done deal.