Do FTSE 100 promotees ITV and Royal Mail have investment appeal?

Robert Stephens, CFA, discusses the investment outlook for Royal Mail and ITV after their promotion to the FTSE 100. 

The recent promotion of Royal Mail (LON: RMG) and ITV (LON: ITV) to the FTSE 100 index highlights how quickly company fortunes can change. 

The two stocks have endured extremely challenging periods over recent years. However, they appear to have found favour with investors in recent months as they look ahead to their improving financial prospects.

Indeed, Royal Mail’s share price has risen 70% year-to-date. Meanwhile, ITV’s 17% gain in the same period is more modest, but is still twice that of the FTSE 100. Could further outperformance be ahead for the two newly promoted stocks?

Royal Mail’s improving prospects

Royal Mail has benefited from an acceleration in e-commerce sales growth that has been prompted by Covid-19. The pandemic has shifted a greater proportion of spending to online channels. Indeed, prior to Covid-19, around 19% of UK retail sales were conducted online. Last month, this figure had risen to 27%. As such, demand for Royal Mail’s parcel services has increased significantly over the past 15 months.

Looking ahead, recent trends may persist. There has been a well-established shift from in-store to online shopping for many years. For instance, in 2009 digital sales made up around 6% of total retail sales. A decade later, this figure had trebled. Further growth in online sales could provide a catalyst for Royal Mail, with the company focused on expanding its parcel operations in the UK and across the 40 countries in which its GLS subsidiary operates.

Of course, Covid-19 also caused additional costs for the business. They included one-off items related to protective equipment, as well as greater costs incurred in sorting a higher volume of parcels. 

However, the firm’s adjusted operating profit increased by 116% versus the previous year. This puts it on a price-earnings ratio of 11, while an expected dividend for the current year of 20p per share means it has a forward yield of 3.5%. As such, it could offer good value for money ahead of a period of improving operating conditions.

ITV’s recovery potential

ITV has experienced a more challenging period than Royal Mail during the pandemic. Covid-19 lockdown measures have severely disrupted its production capabilities, while an economic slowdown has caused a substantial fall in advertising revenue.

However, the firm’s recent quarterly update showed that operating conditions are beginning to improve. Notably, advertising revenues in April increased by 68% year-on-year. ITV expects them to grow by 85% in May, and by as much as 90% in June. This is based on factors such as an ending of containment measures, a forecast UK economic growth rate in excess of 5% in 2021 and in 2022, as well as a strong programme schedule that includes the return of Love Island and Euro 2020.

Clearly, ITV continues to face an uncertain future that could persist for many months. For instance, a new Covid-19 variant could prompt a return to containment measures that causes further disruption to its operations.

However, the company’s strategy could position it for long-term growth. It has been able to reduce costs during the pandemic and has continued to grow its digital and streaming services. Trading on a forward price-earnings ratio of 14, and with significant growth potentially ahead, it could offer a favourable risk/reward opportunity.