Royal Mail strikes pay and pension deal – and the City thinks it is ready for a return to the big time

 
Oliver Gill
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Royal Mail said adjusted operating profit before transformation costs for 2017-18 will be at least £680m (Source: Royal Mail)

Royal Mail leapt into contention for a return to Britain’s blue-chip index after “damaging industrial action” was averted.

The postal giant said a pay and pensions deal had been struck with the Communication Workers Union, ending a long and embittered dispute.

Shares in the 501-year-old firm leapt over nine per cent after an announcement was made at lunchtime, prompting analysts to predict a swift return to the FTSE 100 in next month's reshuffle.

Royal Mail’s unwieldy final salary pension scheme – which the firm said would cost more than £1bn a year to keep open – will be closed from the end of March. It will ultimately be replaced by a hybrid scheme, with a transitional arrangement in place in the interim.

“As an employee, if you’re going to lose your final salary pension scheme, this is a pretty good way to do it,” said Hargreaves Lansdown head of policy Tom McPhail.

Read more: Royal Mail boss should not shun the limelight

Staff will see pay rise by five per cent with two per cent rises from April 2019. One hour will be taken from the working week and Royal Mail made a commitment to move towards a 35-hour week by 2022.

Royal Mail also snuck in a trading update into today’s announcement, saying it expected to deliver adjusted operating profit before transformation costs for 2017-18 of at least £680m.

Cantor Fitzgerald analyst Rob Byde said while the pay deal was more favourable and the hours deal was less favourable, changes “will come with significant productivity gains”.

With Royal Mail powering past a £5bn stock market valuation, the firm is in the running for a return to the FTSE 100, Byde said.

ETX Capital senior market analyst Neil Wilson added:

It was already looking like it might re-enter the FTSE 100 after gaining about 25 per cent since November but this jump takes it back to September 2016 levels so should make the grade.

Read more: Royal Mail retires pensions scheme: The what, why and how

Major overhang

Wilson said today’s share price reaction was due to the “major overhang” from a potential £1bn plus pension cost.

“There is a clear winner here in getting unions to agree to effectively a cut in pensions but they’ve obviously had to buy them off with a five per cent pay rise and reduction in working hours,” he said.

Moya Greene, Royal Mail’s chief executive said: “This agreement marks a new chapter for Royal Mail and the CWU. Following the conclusion of a helpful mediation process and further talks, we have delivered the right result for Royal Mail and our stakeholders. This is an affordable and sustainable solution that enables us to continue to innovate and grow and to meet the intense competition with confidence.

Read more: Union boss: Royal Mail deal will be “nailed down” this week

“Royal Mail and the CWU will continue to work together as we build on our position as the leading delivery company in the UK. I’m pleased that, under this agreement, we will continue to offer the best terms and conditions in the delivery industry by some distance.”

Wilson said today’s announcement appeared to be “job done” for Greene.

"She’s taken the business through a radical transformation in becoming listed and now seems to have fixed the pension problem and squared things (for now) with the unions,” he said.

Time to get pensioned off and allow a younger CEO to take the business forward with focus on parcels and grow [international arm] GLS.

Read more: More progress in Royal Mail talks as parties eye New Year breakthrough

What has been agreed?

Pensions

  • The Royal Mail Pension Plan (RMPP) will close to future accrual in its current form on 31 March 2018.
  • Royal Mail and the CWU have committed to work towards the introduction of a Collective Defined Contribution(CDC) scheme for all employees. This will be subject to necessary legislative changes being enacted. A Defined Benefit Cash Balance Scheme (DBCBS) will sit alongside it.
  • Transitional pension arrangements will be put in place from 1 April 2018 until a CDC scheme can be established. These comprise a DBCBS and an improved Defined Contribution scheme.
  • The ongoing annual cash cost of pensions will continue to be around £400m.

Pay and shorter working week

  • From October 2017, employees will receive a five per cent increase in pay (including base pay, overtime and allowances). This rate of pay will also apply throughout 2018-19.
  • From October 2018, there will be a one-hour reduction to the working week (currently 39 hours), subject to completion of trials and implementation plans for a range of initiatives.
  • From April 2019, employees will receive a two per cent increase in pay (including base pay, overtime and allowances) and a further one-hour reduction to the working week from October 2019, subject to successful implementation of those initiatives.
  • Eligible part-time employees will, in addition, receive increases in their hourly rate of pay equivalent to c.2.6 per cent in October 2018 and October 2019 to reflect the impact of the shorter working week.
  • Commitment to move towards 35-hour working week by 2022.

Culture and operational changes

  • As part of our strategy of ensuring a contemporary Universal Service Obbligation, the last letter delivery time will move back by 30 minutes to 3.30pm in urban areas and 4.30pm in rural areas.
  • Agreement on operational changes to enable later collections, processing and delivery of parcels, use of technology to enable further efficiency improvements and a pipeline review.
  • Review of the Agenda for Growth starting in 2019. The legally-binding undertakings on industrial stability and protections under the Agenda for Growth are ongoing and remain until 2020.

Pensions – what the analysts said

Angry

AJ Bell analyst Tom Selby said: “While many Royal Mail employees will inevitably be angry at the decision to ditch their gold-plated defined benefit pension scheme, its replacement – a scheme with an employer contribution of over 13% - remains extremely generous by private sector standards. Indeed, from 2019 the minimum employer contribution required by law under automatic enrolment will be just 3%, way below the figure Royal Mail employees will enjoy under the new arrangement.

“Confirmation Royal Mail plans to work towards building a Collective Defined Contribution scheme for members is particularly interesting. Advocates of these schemes argue that they pay significantly higher pensions than their individual DC counterparts, although these claims are usually based on a number of assumptions which have been vigorously challenged by many in the industry.

“Furthermore, the costs and charges associated with CDC schemes tend to be murky. This lack of transparency jars with growing demands on providers to show investors exactly what they pay for their pensions and investments.”

Read more: Pension closure hands Royal Mail £106m profit boost from taxman

Mixed feelings

McPhail added: "The ongoing employer contributions at £400 million and 13.6 per cent of salary are very generous compared to the majority of Defined Contribution schemes. For members of the Cash Balance scheme there will still be an element of certainty around their benefits. The plans to launch a CDC scheme will be watched with keen interest by the pensions industry, which has very mixed feelings about the viability of such schemes.”

Ground-breaking

Aon senior partner Kevin Wesbroom said: “Royal Mail and the CWU have identified a ground-breaking approach to pension provisions. Aon has long been an advocate of the collective defined contribution (CDC) scheme they have committed to, and we have lobbied hard for their introduction, building on our global experience of these plans.

“CDC fills a gap in the market of current pension provision. Individual members do not bear all of the longevity, inflation and investment return risk as they would with a conventional DC scheme. Instead, demographic and financial risks are pooled across the membership. At the same time there is a fixed cost to the employer – none of the open-ended commitment associated with DB schemes.

“Members receive a lifetime income in retirement, paid directly from the scheme’s asset pool. This means members do not need to take on the risk of buying an individual income product, such as an annuity, where low rates at the point of retirement lead to a permanent impact in members’ retirement funds. They also do not need to make complex financial decisions if they do not wish to, unlike conventional DC pensions.”

Read more: Royal Mail is held back by out-of-date red tape

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