Editor's note: The vast majority of this piece was written by Len Janeski.
The recent initial public offering for almost 60 percent of the United Kingdom’s Royal Mail converted this government-owned institution into a private company, although not without some controversy. Created in 1516 by King Henry VIII, Royal Mail has posted losses for five of the last 12 years while abolishing more than 50,000 jobs. It has also seen its daily delivery of letters and parcels decline from 84 million just five years ago to 58 million today. At the same time, it saw its prospects rise as more and more shoppers had goods delivered that they bought online.
It is believed that 100 million shares were purchased in the first hour of trading, and that demand was at least seven times over supply. Government ministers sought to achieve a diverse investor base, with the Department of Business reporting that one-third of shares were sold to retail investors and the remaining two-thirds sold to pension funds, sovereign wealth funds, and the London-based financial institutions.
A simple example of what happened to one brokerage firm will give a sense of the reaction to this IPO. Financial services company Hargreaves Lansdown plc of Bristol, England, had a net gain of 20,000 new clients for the three months ending Sept. 30th, and doubled cash inflow to £1.2 billion. The results would have been even more spectacular if the company’s systems had been able to keep up with the extraordinary load.
These next few paragraphs use pounds and pence. It is important to remember that, at present currency translations, there are about 1.61 cents to the pence. There are also 100 pence to the pound.
Overall, and through all different brokerage houses, 700,000 investors tried to buy shares during the IPO. More than 93,000 investors seeking to invest between £750 and £10,000 ended up receiving 227 shares each, for a total value of £749.10 worth of shares per investor. The 5 percent of investors applying for more than £10,000 worth of shares ended up with none, and the government was broadly condemned and applauded for shutting them out. The U.K. staff of Royal Mail (around 150,000 individuals) were each given approximately £2,200 worth of shares, which represents 10 percent of the total shares available.
The postal service was offered at 330 pence per share, and the stock price, within a few days, climbed to 478.5 pence, causing some to claim the shares were under priced. The robust price rise prompted the Commons Business, Innovation and Skills (BIS) select committee to call in the independent adviser, Lazard, to answer questions on the pricing strategy. Secretary of State for Business Vince Cable, a target of criticism from unions and the opposition party, claims that the pricing was adequate considering the threat of a national strike and the value of the Royal Mail assets, particularly its London property.
Royal Mail was sold at a valuation of £3.3 billion on Oct. 11, 2013, but was worth around £5.4 billion on Nov. 21, 2013, equal to 545 pence per share.
In an effort to evaluate the IPO price, executives from six financial services firms were questioned on Nov. 20, 2013, by MPs on the BIS Select Committee. The representatives from Citi, Deutsche Bank, JP Morgan, Panmure Gordon, Goldman Sachs and UBS defended the stock valuation due to the variety of risks facing Royal Mail, such as its lack of proven profitability, as well as feedback from potential investors.
Unconvinced by the executives at the hearing, Adrian Bailey, chairman of the BIS Committee and a member of the opposition Labour Party, remarked, "It is possible that the government has lost over 1 billion pounds worth of revenue for taxpayers at a time of great austerity."
Executives from Citigroup, Deutsche Bank, JP Morgan and Panmure Gordon (the four banks that did not participate in the IPO) placed valuations of Royal Mail pre IPO in a range of £3.7 billion to £8.5 billion, while UBS and Goldman informed the government that they believed they could ask an additional 20p to the 330p offer price. They decided against upping the offer due to the United States’ debt uncertainty and potential for labor action by Royal Mail employees.
The Communication Workers Union, which represents Royal Mail staff, said the government had given too much weight to the impact of the risk of a strike. On the same day as the hearing, UBS issued a note to investors advising them to sell Royal Mail shares and warning about too much optimism for future margin growth.
Royal Mail is expected to join the FTSE 100 at December’s index review, and by then the market will have settled the question of pricing fairness and hopefully the process for valuing such shares. The valuation process is at the core of the controversy, and with the government considering an offloading of shares of other firms, the process for pricing shares fairly becomes critical if the public is to receive adequate value.
If the purpose of the IPO was to raise funds to modernize the operation of Royal Mail, then it was a success; and since the government still has a considerable number of shares to sell, the price rise will carry over to the remaining government shares.
It is also important to note that a new contract has been signed by labor and the company since the IPO. This removes much of the threat of a large walkout by employee owners.
John Hoffmire teaches at SaÏd Business School at the University of Oxford.
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