FedEx Corporation: Recovery Is Expected In The Bottom Line

Mar. 1.14 | About: FedEx Corporation (FDX)

FedEx Corporation (NYSE:FDX) operates in the integrated shipping and logistics industry providing a range of transportation, e-commerce, and business services. It operates through its four business segments: FedEx Express, FedEx Ground, FedEx Freight and FedEx Services. The company has a long-term bottom-line target to achieve a higher than 10% operating margin and a 10%-15% rise in EPS per year. This is mainly due to the company's target of $1.6 billion in annual profit improvement by the end of FY 2016 mainly from the FedEx Express operating segment.

My article will analyze the company's current bottom-line performance and determine actions initiated by the company that will contribute to the operating margin and EPS growth targets in the coming years. To begin, let us analyze the company's current operating margins and EPS performance.

Operating Margin and EPS Performance Analysis

Source: Morning Star

You can see from the table above that the company recorded a decline in its operating margin in FY 2013. The FY 2014 TTM operating margin shows a slight recovery due to ongoing initiatives undertaken by the company that I will discuss later on in my article. A similar trend can also be seen with regards to the company's EPS that declined in FY 2013 and is showing recovery in the FY 2014 TTM. The company is so far ahead of its target of 10-15% growth in its EPS for FY 2014. I will now determine how the company is putting its efforts into achieving its long-term target of a more than 10% operating margin.

Path to Reach Margin Improvement Target

Business Realignment focused on FedEx Express Segment

Source: FDX 10K Filing

The company experienced a more challenging business environment in FY 2013. This included changing trends for FedEx Express as customers shifted from priority to deferred shipping services that impacted the company's profitability materially in FY 2013. Priority freight is a high-margin operation for the company as it satisfies the customers' need for speedy delivery.

As a result of these factors, the company announced its profit improvement programs in FY 2013 targeting a profitability improvement of $1.6 billion for FedEx Express by the end of the year 2016 (from full year 2013 base business). This cost reduction initiative is mainly targeted at cost reductions in selling, general, and administrative functions through headcount reductions, rationalization of processes and modernization of the FedEx Express' aircraft fleet.

The following chart displays the targeted savings to be made from a broad category of items.

Source: FDX PIP Presentation

First let us have a look at the company's initiative to decrease its SG&A expenses.

SG&A Cost Reductions

Source: Yahoo Finance

You can see from the table above that the SG&A expenses represented 50.22% of the company's consolidated revenue in FY 2013. The company successfully reduced its SG&A expenses to 49.55% as percentage of the company's consolidated revenue.

The company has further planned cost reductions in selling, general, and administrative functions through headcount reductions, rationalization of processes and removal of less essential work. FedEx Express employed approximately 160,700 employees by the end of FY 2013.

The company completed a voluntary program offering cash buyouts to eligible U.S.-based employees in certain staff functions. Around 3,600 employees left or will be leaving voluntarily by the end of the year 2014. These actions will reduce the company's SG&A expenses (that represent around 50% of the company's revenue) as a percentage of the company's consolidated revenue and in turn will improve the company's overall operating margin.

Now, I will determine how the company will save money due to fleet modernization.

Fleet Modernization

Fleet modernization results in lower aircraft maintenance expenses along with savings from fuel efficiency. The maintenance and repair expenses incurred by the company decreased by 6% in Q2 FY 2014 and by 9% in the Q1 FY 2014 due to continued modernization of the company's aircraft fleet. The FedEx Express global air and ground network is comprised of a fleet of over 640 aircrafts that provide delivery of packages and freight to more than 220 countries and territories. The table below shows the company's aircraft purchase commitment for the coming years.

Source: FDX 10K Filing

These new aircraft models are more economical compared to the older ones the company has as shown through the trip cost comparison chart below.

Source: FDX PIP Presentation

The company aims to experience a 20% improvement in trip costs savings from B757 aircraft and a 30% improvement in trip costs saved from B767 aircraft through to FY 2016.

The use of newer and more fuel-efficient aircrafts will reduce the company's greenhouse gas emissions and airport noise in addition to saving from jet fuel efficiency as discussed below.

Click to enlarge

Source: FDX 10K Filing

You can see from the table above that the company's jet fuel costs represent 8.3% of the company's consolidated revenue while total fuel expense was 10.7% of the company's consolidated revenue in FY 2013. The company's fuel expense declined by 4.24% in FY 2013 and 5.60% in Q2 of FY 2014.

The company is adding more fuel-efficient aircraft to its fleet. The company updated its long-term goal to increase its FedEx Express vehicles' fuel efficiency by 30% by 2020. The company has also established a goal of obtaining 30% of its jet fuel from alternative fuels by the year 2030.

The company's electric delivery fleet has grown to 360 low-emission hybrid-electric vehicles and 165 zero emission electric vehicles. In addition to this, the company recently purchased 1,900 lightweight, composite-body Reach vehicles from Utilimaster to add to its 400 Reach vehicles already in operation. This makes the FedEx Express lightweight composite-body vehicle fleet the biggest in the industry. The Reach van is 35% more fuel efficient than conventional vehicles in the FedEx Express fleet.

Closing Remarks

I am optimistic about the company's bottom line due to the profit-improving programs initiated the company. The FedEx Express segment that is currently hurting the company's overall bottom line is likely to gain benefits from savings due to headcount reductions and fleet modernization. These steps will also support the reduction in the company's SG&A expense, which eats up around 50% of the company's consolidated revenue, repairs and maintenance, and fuel expense in the coming years.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

Business relationship disclosure: The article has been written by a Blackstone Equity Research research analyst. Blackstone Equity Research is not receiving compensation for it (other than from Seeking Alpha). Blackstone Equity Research has no business relationship with any company whose stock is mentioned in this article.