TNT N.V.

TNT N.V. intends to split into two separate businesses starting January 2011. Mail business
which is traditional postal services business in the Netherlands and Express business which is
a global Courier-Express-Parcel (“CEP”) business that competes with the likes of FedEx,
UPS and DHL. I believe the Mail business, post-separation, offers a very compelling short
opportunity at the current implied and estimated enterprise value. The short-thesis is based
on following key points:
• The passage of liberalization of postal service in the Netherlands in 2009 has opened up
the domestic mail market to competition from foreign as well as domestic players. This
will likely drive down prices for domestic mail business significantly.
• The company is the high-cost player and as a result stands to lose significant amount of
market share due to its inability to price competitively
• Secular declines in mail volumes are likely to add incremental pressure on what is a
high-fixed cost business with high negative operating leverage
• Valuation is expensive on current cash flow estimates and will likely get significantly
more expensive in the next 2-3 years
Brief Background
Netherlands passed a legislation in April 2009 that opened up the domestic mail business to
competition for the <50g mail category or ~75% of market by revenue (the other ~25% of
market had been de-regulated over a decade ago). Since the passage of the law several
competitors have announced entry into the sub 50g category and have set aggressive growth
plans.
Pricing competition: here it comes…
Many analysts and investors alike have assumed that pricing competition in Netherlands will
be benign post-liberalization. Analysts often point to the fact that Netherlands has one of the
lowest priced mail in Europe and conclude that as a result of this the market is unlikely to
face significant amount of price erosion and. Yet this simplistic analysis ignores the very
attractive geographic structure of Netherlands which provides for a very low cost of mail
distribution. The average population density of Netherlands is over 1,000/sq mi as compared
to less than 600/sq mi for most of Europe and the median below 300/sq mi. This translates
into very attractive margins for TNT Mail which earns ~30% EBITDA margins on its
domestic mail business as compared to ~10% for the next most profitable peer and less than
5% for most of the other peers
I believe pricing for the overall sub-50g market is likely to fall by over 15% over the next 2-3
years. I derive this estimate by triangulating through a number of different methods all of
which point to similar or bigger drops in estimate. Please refer to Exhibit 1 with detailed
market-segmentation for below discussion:
• Method 1: Comparing to liberalized part of the market: As one can see from exhibit 1
the price for “Direct Mail” (liberalized over a decade ago and represents 25% of market
revenue) is ~€0.14/item as compared to “Letter Mail” (recently liberalized) at
~€0.43/item. This is despite the fact that “Direct Mail” is heavier by definition and as
such should command a higher price all else equal. I do not believe the prices for
“Letter Mail” overall will fall from current price levels to the level of “Direct Mail.”
However I do believe that prices are likely to fall from ~€0.43/item to ~€0.35-
0.38/item. This is because within “Letters Mail” the competitors are only targeting the
“addressed bulk segment” which is easier to distribute than the “single mail items”
which require sorting centers and would fall under the Universal Service Obligation
(USO) regulations (more on this later). As such, I believe pricing for the “single mail”
 items~€0.67/item are likely to remain relatively flat while pricing for the “addressed
bulk market” are likely to fall from ~€0.30/item to ~€0.20/item in-line with current
pricing for “addressed direct-mail” market. This brings the overall average for “Letter
Mail” from ~€0.43/item to ~€0.35-€0.38/item
• Method 2: Comparing to competitors pricing: Another way to look at pricing is to see
what competitors are currently quoting. Both Sandd and Deutsche Post (the two
primary competitors) quote on their website ~€0.20/item for the “addressed bulk mail”
market or about 15-20% below TNT Mail. The competitors currently deliver mail only
2-days a week as compared to TNT which delivers mail 5-days a week. TNT currently
offers a slower delivery service for similar price to competitors and has said they plan to
transition all “addressed bulk mail” to a 3-days/week delivery schedule down from 5-
days/week. Hence the company itself acknowledges that demand is moving to the
lower-tiered price category and will be working to move all its “addressed bulk mail” to
that tier. The company has laid out an aggressive cost-cutting program to reduce labor
costs over next 3-5 years and while the analysts have all modeled out the cost-cutting
programs associated with the move to 3-day delivery schedule in great detail most have
failed to recognize the related decline in pricing that will come with the reduced
delivery schedules.
• Method 3: Economic Theory: Basic Econ 101 theory states that a company will
continue to grow volume until its marginal revenue (MR) equals marginal cost (MC)
MR=MC and will stay in business as long as pricing is above its average total cost
(ATC). Looking at competitors cost structure, the ATC is ~€0.19/item and MC is
~€0.10-11/item. Hence competitors will be incentivized to continue to drop prices to
gain market share. This would suggest that pricing at current volume levels would need
to drop to ~€0.19/item before competitors start losing money.
• Method 4: Channel Checks: Recent channel checks indicate that competitors are
pricing for large businesses that are coming up for renewal in the ~€0.13-14/item.
While this makes perfect logical sense for some large accounts (as its still above
variable cost but below average total cost) it does not make sense for the overall
average. Hence the channel checks confirm the analysis above as accurate however I
do not believe these are indicative of how far the prices would fall and are likely
exaggerated
Long-term competitive disadvantage: high cost structure:
Perhaps even more concerning than the coming price declines is the structural cost
disadvantage that TNT Mail has as compared to competitors. While I do not currently model
out company losing share beyond management stated guidance of maintaining above 70%
market share (from current ~81% market share and ~85% last year) The company faces a real
threat of losing significant amount of market share over long-term which has the vicious
cycle affect of causing decreased competitiveness due to increasing cost-structure as a result
of de-economies of scale. In particular:
• High labor cost: Labor represents ~55-60% of the cost structure for the Mail business.
TNT Mail currently pays its unionized employees ~€24/hr before pension benefits
(pension add another €4-5/hr) in labor cost. This compares to competitors paying their
not-unionized labor force ~€12-13/hr. TNT has attempted to reduce its own labor cost
but has been unsuccessful in reducing wages after it finally settled with its labor unions
in what was a long 3-year negotiations process to bring down costs. The company is
also vigorously lobbying regulators to require minimum wage levels for competitors.
These lobbying efforts are viewed as unlikely to have any affect and in worst case
 scenario would likely cause labor cost for competitors to go up by €2-3/hr. Nowhere
near the `€10-15/hr in labor cost differential
• Universal Service Obligation: Unlike its competitors, TNT Mail is bound by the
“Universal Service Obligation” regulation in Europe. This states that for “single-mail
items” TNT must deliver the mail 5-days a week with certain minimum delivery
standards that require most of the mail to be delivered within 48hrs. The competitors
have thus far avoided entering the “single-mail items” business and as such do not have
to keep the added labor force related to maintaining a 5-day deliver schedule for a sub-
segment of the market. This puts TNT mail in at a structural disadvantage as well
Hence, while one would at first assume that TNT mail would have the low-cost structure in
Mail due to the high-fixed cost nature of the business and the large economies of scale
benefits the above two factors currently lead to competitors having average total cost/item
that is in-line to slightly better than TNT. As competitors continue to gain market share they
will see their ATC slide down the cost scale which will allow them to continue to reduce
prices. I estimate that at 25% market share, Sandd would be able to reduce its ATC to
€0.14/item down from €0.19/item at the moment. While TNT Mail has a very aggressive
cost-cutting program this program will only allow it to reduce number of employees and
hence move to 3-day delivery schedule for mail that is not covered under USO. This
program does not reduce the actual labor cost/hr for TNT which is likely to remain a key
competitive disadvantage for the company.
Secular decline in mail
I will not go into many details about the secular decline story for the mail business. I believe
this story is fairly well understood by the market and both management and analysts have
discussed this in great details. Suffice is to say that management expects continued volume
declines in the 4-6%/yr for mail business as result of substitution from online billing and
other e-commerce based trends. The company has shown some good data during its last two
analyst days showing that while internet penetration and online banking are highly penetrated
in Netherlands, the move toward e-billing is still in early stages with penetration for e-billing
below 20% for most bill-types (eg utilities, phone bills etc).
Valuation
In Exhibit 2 I show the sum-of-parts valuation analysis on the street for the Mail business.
As can be seen from this exhibit both the market-implied price as well as the street consensus
estimates indicate the mail business is likely to have an enterprise value in the range of €3.8-
4.5b or about 5.5-6.5x 2011 EV/EBITDA multiple. In-line with closest publicly traded peer
Austria Post. I believe this valuation method is misleading as Austria Post currently pays a
6.5-7% dividend yield and trades at 11% free cash flow yield. TNT mail on the other hand
would be trading at 3% free-cash-flow yield at the indicated valuation (this is because TNT
mail has large pension and restructuring cash outflows that are perpetual and lead to a
structural ongoing free-cash-flow that is significantly below EBITDA).
The above valuation levels are in of themselves expensive for TNT mail. However, I believe
the free-cash-flow would further fall by circa 40% over the next 2-3 years driven by the 15%
estimated decline in pricing and loss of volume due to secular declines and market share
losses. The sensitivity table in Exhibit 1 show how EBITDA and adjusted free-cash-flow
(ex-restructuring cash outflows and normalized for steady-state pension outflows) change
based on varying assumptions around price and market share losses. Using 11% free-cash-
flow yield from Austria Post and applying to adjusted free-cash-flow I get to valuation range
of ~€2b for the mail business or about 50% below the current implied valuation.
Exhibit 1
SANDD TNT Mail NL
CAGR '09-
Market 2007 2008 2015E 2007 2008 2009 2010 2011 2012 2013 13
Letters 3,575 3,477 2,145 3,038 2,955 2,803 2,631 2,525 2,424 2,327 -4.5%
Addressed bulk mail 2,245 2,200 1,356 1,908 1,870 1,795 1,663 1,596 1,532 1,471 -4.9%
Singe item personal mail 522 501 310 444 426 396 380 365 350 336 -4.0%
Single item business mail 808 775 479 686 659 612 588 564 542 520 -4.0%
Direct mail 3,564 3,557 3,279 4,039 4,142 4,014 4,021 3,860 3,706 3,557 -3.0%
Addressed 2,081 2,045 1,828 2,359 2,381 2,319 2,242 2,152 2,066 1,983 -3.8%
Unaddressed 1,482 1,512 1,451 1,680 1,761 1,696 1,779 1,708 1,640 1,574 -1.8%
Market Share
Letters
Addressed bulk mail 100% 100% 100% 95% 90% 90% 90%
Singe item personal mail 100% 100% 100% 100% 100% 100% 100%
Single item business mail 100% 100% 100% 100% 100% 100% 100%
Direct mail
Addressed 75% 73% 72% 70% 68% 65% 62%
Unaddressed 75% 73% 72% 70% 68% 65% 62%

Market share 5.4% 5.6% 25% 86% 84% 84% 81% 78% 76% 75%
Market size (addressed items)
Market share

CAGR
Income Statement 2007 2008 Long-term 2007 2008 2009 2010 2011 2012 2013 '09-13
Total Items 389.0 396.0 1,356 6,068 5,978 5,694 5,362 4,991 4,680 4,386 -6.3%
Letters 3,038 2,955 2,803 2,548 2,366 2,271 2,180 -6.1%
Addressed bulk mail 1,908 1,870 1,795 1,580 1,437 1,379 1,324 -7.3%
Singe item personal mail 444 426 396 380 365 350 336 -4.0%
Single item business mail 686 659 612 588 564 542 520 -4.0%
Direct mail 3,029 3,023 2,890 2,815 2,625 2,409 2,206 -6.5%
Addressed 1,769 1,738 1,669 1,569 1,463 1,343 1,230 -7.4%
Unaddressed 1,260 1,285 1,221 1,245 1,161 1,066 976 -5.4%
Revenue letters 79.5 79.8 244.1 1,881 1,726 1,620 1,498 1,325 1,175 1,038 -10.5%
Post office & other 408 395 395 339 339 339 339 -3.8%
Parcels 332 353 353 380 391 403 415 4.1%
Total NL mail Revenue 79.5 79.8 244.1 2,621 2,474 2,368 2,217 2,055 1,917 1,792 -6.7%
COGS (42.7) (43.0) (147.2) (571) (562) (424) (352) (328) (307) (288)
Gross profit 36.9 36.8 96.8 2,049.8 1,911.6 1,944.6 1,864.6 1,727.8 1,609.5 1,504.0
Personnel expenses (15.6) (17.4) (36.6) (1,376) (1,269) (1,281) (1,217) (1,140) (1,061) (993)
Depreciation (1.6) (2.2) (7.4) (55) (50) (45) (69) (69) (69) (69)
Amortization (1.3) (1.3)
Other operating expenses (17.2) (15.4) (15.9)
Operting Income 1.1 0.6 36.9 619 592 619 578 519 480 442 -8.1%
EBITDA other businesses 87 121 62 116 116 116 116

Reported EBITDA 4.0 4.0 44.3 761 764 725 763 704 665 627 -3.6%
Less: pension - (179) (209) (226) (280) (237) (246) (256)
Less: restructuring - 87 40 (55) (80) (80) (80) (80)
"Cash" EBITDA 4.0 4.0 44.3 669 595 444 403 387 338 291 -10.0%
Less: Taxes (0) (0) (10) (172) (152) (112) (93) (89) (75) (62)
Less: Capex (3) (3) - (99) (93) (100) (120) (120) (120) (120)
Unlevered Free cash flows 0.8 0.4 34.0 398 350 232 189 178 143 109 -17.3%
Adjusted Unlevered Free cash flows 319 307 272 238
Total mail NL cash costs (75.5) (75.8) (199.7) (1,947) (1,831) (1,705) (1,569) (1,467) (1,368) (1,281)
Balance Sheet
Operating metrics
Average revenue/item 0.204 0.202 0.180 0.43 0.41 0.42 0.41 0.41 0.41 0.41
Letters 0.46 0.44 0.43 0.43 0.40 0.38 0.37
Addressed bulk mail Letters segment (including 0.32 0.30 0.30 0.29 0.23 0.20 0.17
Singe item personal mail subsegments) liberalized in April 0.71 0.67 0.67 0.67 0.67 0.67 0.67
Single item business mail 2009 0.71 0.67 0.67 0.67 0.67 0.67 0.67
Direct mail 0.15 0.14 0.14 0.14 0.14 0.12 0.11
Addressed Liberalized over a decade ago 0.24 0.23 0.23 0.23 0.23 0.20 0.17
Unaddressed 0.03 0.03 0.03 0.03 0.03 0.03 0.03

FTE basis Employees (exc. Delivery) 589 670 1,396 30,138 28,882 28,858 27,415 25,415 23,415 21,915
Avg salary/FTE (26,559) (25,915) (26,237) (45,648) (43,935) (44,400) (44,400) (44,844) (45,292) (45,292)
Average Total Cost/item (0.194) (0.191) (0.147) (0.321) (0.306) (0.299) (0.293) (0.294) (0.292) (0.292)
Variable costs/item (0.110) (0.109) (0.109) (0.094) (0.094) (0.074) (0.066) (0.066) (0.066) (0.066)
Fixed costs/item (0.084) (0.083) (0.039) (0.227) (0.212) (0.225) (0.227) (0.228) (0.227) (0.226)

Invested capital 9.2 10.4 36

Fixed assets/mail 0.02 0.03 0.03
Mail NL EBITDA margins 1% 1% 18% 26% 26% 28% 29% 29% 29% 29%
Mail NL "Cash" EBITDA margins 5% 5% 18% 22% 19% 16% 13% 13% 12% 10%

2013 EBITDA 2013 Adjusted Free Cash Flow

Bulk mail average revenue/item Bulk mail average revenue/item
0.16 0.18 0.20 0.22 0.24 0.16 0.18 0.20 0.22 0.24
77% 615 669 723 777 831 77% 230 269 308 347 385
76% 608 661 714 766 819 76% 225 263 301 338 376 2013
Total Market Share

75% 601 653 704 755 806 75% 220 257 293 330 367
73% 595 644 694 743 793 73% 215 251 286 322 358
72% 588 636 684 732 780 72% 210 245 279 314 349
71% 581 627 674 721 767 71% 205 239 272 306 339
70% 574 619 664 709 754 70% 200 232 265 298 330
68% 567 610 654 698 742 68% 195 226 258 289 321
67% 560 602 644 687 729 67% 190 220 251 281 312
Exhibit 2
Sum-of-Parts UBS MS Goldman Macquarie ABN Amro Median
mail 5,232 4,217 3,989 4,771 4,494
restructuring capitalized (372) - -
Mail 5,232 3,845 3,841 3,989 4,771 3,989
Express 5,652 6,040 5,860 6,628 5,636 5,860
Other networks - 88.0 120 99 153 99
Divisional Enterprise value 10,884 9,973 9,821 10,716 10,560 10,560
Group costs (211) (437) (160) (139) (295) (211)
Working capital invest - 272 - 62 - -
TNT Post group EV 10,673 9,808 9,661 10,639 10,265 10,265
Deduct - -
Net Debt (1,144) (1,106.0) (1,106) (1,106) (1,106) (1,106)
Lease obligations (7.0) - - - -
Pension (587) (552) (368) (400) (292) (400)
TNT German mail minority (42.0) (20) (20) 324 (20)
Add - - -
TNT associates & financial assets 62.0 - - - -
TNT post-group equity value 8,942 8,163 8,167 9,113 9,191 8,942
Total value/shr 24.1 22.0 22.0 24.6 24.8 24.1
Methadology used EV/EBIT Multiples EV/EBITDA DCF EV/EBIT
Mail peers/assumptions Austrian/Sing Austrian Austrian -2.5% Austrian
Express peers/assumptions FedEx/UPS FedEx/UPS FedEx/UPS 3.5% FedEx/UPS

2011E Mail
Sales 4,144 4,145 4,274 4,107 4,277 4,145
EBITDA 654 724 725 712 724 724
EBIT 541 589 612 599 611 599
EV/EBITDA 8.0x 5.3x 5.3x 5.6x 6.6x 5.6x
EV/EBIT 9.7x 6.5x 6.3x 6.7x 7.8x 6.7x

2011E Express
Sales 7,399 6,799 7,528 7,206 7,402 7,399
EBITDA 701 666 733 710 732 710
EBIT 484 438 516 493 515 493
EV/EBITDA 8.1x 9.1x 8.0x 9.3x 7.7x 8.1x
EV/EBIT 11.7x 13.8x 11.4x 13.4x 10.9x 11.7x
Group
Sales 11,799 11,184 12,058 11,529 12,033 11,799
EBITDA 1,342 1,374 1,462 1,381 1,350 1,374
EBIT 1,012 956 1,132 1,051 1,006 1,012
Net Income 646 637 642 656 644
EV/EBITDA 8.0x 7.1x 6.6x 7.7x 7.6x 7.6x
EV/EBIT 10.5x 10.3x 8.5x 10.1x 10.2x 10.2x