Crunch time in battle for Royal Mail: New regulations threaten ‘Czech Sphinx’ deal

As the holiday season looms into view, Royal Mail is joining M&S, Sainsbury’s, Aldi et al in the advertising battle for Christmas revenues.

Britain’s postal delivery service is involved in an existential fight.

Owner International Distribution Services (IDS) finds itself under intense regulatory scrutiny following the board’s decision to sell-out to Czech billionaire Daniel Kretinsky for £3.6billion in a debt-fuelled takeover.

In parallel, Royal Mail is in a fight to the death to compete in the all-valuable parcels market as it seeks to honour its long-term contracts with Amazon and other online traders.

Finally, it has discovered that customers demand reliable and accessible tracking. 

They have had enough of queuing at Post Office counters behind citizens seeking all manner of other services, from passports to banking. It is imitating other delivery companies by installing deposit and pick-up lockers at convenient locations. 

Best of all, perhaps, Royal Mail is promoting the services of their emblematic red vans, replete with a royal cipher, ready to pick-up as well as deliver to your front door.

The fate of the post is among a myriad of industrial challenges – including the viability of Thames Water and the future of Chinese-owned British Steel – that is faced by the Labour Government. 

At the heart of the dilemma for Business Secretary Jonathan Reynolds is whether the sale of IDS to the ‘Czech Sphinx’ – as Kretinsky, 49, is known – and a shadowy group of Slovakian investors can be shown as a triumph of inward investment.

Alternatively, allowing such an asset to fall in to foreign hands, possibly on the cheap, will be seen as a betrayal of its heavily unionised workforce, the King and UK heritage.

A series of regulatory interventions slammed the brakes on the normal City takeover timetable. The Government is due on Friday to deliver its assessment of the bid under the terms of the National Securities & Investment Act.

The date is not fixed because the clock can be stopped at any time if the Business Department or security services want to intervene.

Kretinsky and his group, EP, are deeply involved in the national security process and supplying additional data. 

Tough call: Ofcom boss Melanie Dawes will have to decide whether proposals need to be amended and unveil a range of pricing options

But the probe is opaque, and it is understood that the would-be buyers of the Royal Mail owner have very little visibility.

There is some concern that the markets are starting to recognise that there is more political risk to the bid – in spite of the large strategic shareholding – than previously thought.

Scrutiny of the offer document alone ought to start the alarm bells ringing given the layers of debt, mainly supplied by a posse of overseas banks. 

The financing consists of a £1.1billion medium-term facility, a bridging loan of a further £750million, another bridging credit of £500million and a multi-currency loan of £500million.

All of this on an IDS balance sheet already weighed down with £2billion or so of debt also to be taken on by the buyers.

The substantial premiums and fees to be applied means none of this is cheap money.

Some may see it as reminiscent of the complex financial structures that have made Thames Water such a nightmare for Whitehall.

Since Kretinsky won clearance to buy his 28 per cent stake, much has changed. Labour is in charge and full ownership is a very different kettle of fish to a dominant share stake.

Clearance on national security grounds would be ironic in that the postal service came into being in Tudor times as the ‘King’s Messenger’, which allowed Henry VIII to deliver secure messages to military officials. 

Crisis: Postal volumes are down from a peak of 20bn letters a year in 2004-05 to 7bn now, and heading to 4bn in the next year or so

Of equal importance to the IDS board and investors is the Ofcom review into the future shape of Royal Mail, and in particular the Universal Service Obligation (USO) that requires first class letters to be delivered the length and breadth of the land six days a week.

With postal volumes falling like a stone – down from a peak of 20bn letters a year in 2004-05 to 7bn now, and heading to 4bn in the next year or so – the current economic model has become unworkable. 

It is among the reasons why Royal Mail has raised the price of a first class stamp three times in 2024, with an increase of 30p to £1.65p having taken place last month.

The review by Ofcom goes much further and, if ever it is approved, could totally change the economics.

At its core is that the USO is suspended for second class deliveries, which would be delivered every few days without any guarantees. 

But a premium first class service would be established, at a commercial price, which would ensure next day delivery, reintroducing the reliability of the past.

Ofcom is not sprinting. It is conducting further market research to understand better public and commercial response to the radical changes to the USO. 

The results of that work will not be known until early in 2025 and, even then, the review will not be done.

Ofcom boss Melanie Dawes will have to decide whether proposals need to be amended and most critically unveil a range of pricing options. 

Reynolds will then have decisions to make about the political and economic fallout – in terms of inflation – of far reaching price changes.

A generous settlement that provides the Royal Mail with far more flexibility could place the IDS board in a difficult position. The bid timetable may have lapsed but the sale price could well greatly undervalue the company.

A group of up to 20 per cent of outside investors could well deem the offer price inadequate, causing mayhem for a board already under fire for not securing a better price.

The Czech Sphinx is sinking ever deeper into a regulatory and governance quagmire.

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