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FedEx Corporation (FDX) is a holding company with subsidiaries that provide a broad range of transportation, e-commerce, and business services under the FedEx brand. It is scheduled to announce its Q4 and full-year earnings on June 19. Shares of the courier delivery services company have traded in a narrow range over the last three months after they tanked 7% after its third-quarter results. Investors realize there has been a fundamental shift in the dynamics of this industry, but the company is adjusting its operations in order to adapt to the changing environment.

Clients have now adjusted their lead times and prefer to get their items delivered through shipping mediums, which has resulted in an excess capacity in international freight. A continuing shift in freight traffic from air to sea driven by higher fuel prices is not helping the air cargo industry at all. The shift in customer demand for slower deliveries is apparent from the fact that FedEx's international deferred package volumes grew 12% in the previous quarter, while international priority volumes could only manage a 2% rise. The company expects the trend to continue going forward and plans to improve its cost structure, to align lower yielding operations with lower cost networks by leveraging its FedEx trade network capabilities.

Although the company derives half of its revenues from its Express division, it only contributes about 15% to the stock price as per our estimates. FedEx Express offers a wide range of shipping services for the U.S. domestic and international delivery of small packages and freight. U.S. Express provides guaranteed delivery of deferred packages in two to three days and overnight delivery of urgent items within the U.S. through its Overnight Box and Overnight Envelope offerings. International Express guarantees time-definite delivery service to more than 220 countries and territories, with unparalleled air route authorities and an extensive air/ground infrastructure.

Thin margins due to high fuel prices combined with a grim volume forecast are the reasons why we think the division's profitability to the total company will be limited. The segment's operating income plummeted by two-thirds to $118 million in the third quarter, primarily due to a shift in demand toward lower yield offerings.

FedEx Ground Holds the Key

On the other hand, the performance of the FedEx Ground will be critical. FedEx Ground offers small-package ground delivery services and low-cost, day-certain service in the U.S. and Canada. It also includes the Smartpost service that uses a hybrid delivery mechanism leveraging the delivery networks of U.S. Postal Service or Canada Post Corporation for final delivery. Although the division's contribution to the top line in the previous fiscal was less than 25%, it was the source of more than 50% of the company's consolidated operating income.

FedEx Ground's revenues jumped 11% in the previous quarter due to higher volumes (up 10%) from both home delivery and commercial categories. Smartpost posted smart gains in volumes, which rose 26% year over year due to rising e-commerce deliveries. With growing expectations of free shipping of goods purchased through the fast-growing electronic market, e-retailers are increasingly adopting the low-cost "hybrid" alternatives like Smartpost offered by FedEx to cut down on shipment costs.

Disclosure: No positions.

Source: FedEx Earnings Will Rely On Ground Delivery As Express Services Remain Weak