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Summary

  • The 32 million share repo, about half of which is left, is driving near-term results.
  • Longer-term, Express profitability needs to improve and Ground needs to continue to gain share.
  • FDX is an iconic brand.

FedEx Corporation (NYSE:FDX), the transport juggernaut, is scheduled to release its fiscal q4 '14 earnings before the opening bell on Wednesday, June 18, 2014.

Analyst consensus (per Thomson Reuters) is expecting $2.36 in earnings per share (EPS) on $11.66 billion in revenue, for expected year-over-year growth of 11% and 2%, respectively.

Analyst consensus for revenues has fallen slightly from $11.714 bl to $11.66 in revenue since the March '14 q3 '14 earnings release, while the consensus EPS estimate has risen a penny in the last 3 months.

FDX is down about 2.5% year-to-date as of Friday, June 13th, but rose 56% in 2013, neither of which calculation includes the dividend.

We've owned FDX for a long, long time. We have one account with a cost basis on FDX of $36.85 from March 2000.

You have to think about the iconic transport company and brand over two time frames:

1.) Near-term, with the results being driven by the share repo and the restructuring of the company;

and

2.) The longer-term time frame, as Express volumes continue to shrink and more importantly the cost structure of FDX's Express business is adjusted to reflect lower volumes;

Last quarter was a sizable EPS and revenue miss for FDX even though revenue grew 3% y/y, operating income grew 9%, and EPS grew 9%. Weather was thought to have cost FDX about $0.25 per share in q3 '14.

During the q3 '14 conference call, FDX management cut the fiscal '14 guidance to 5%-9% EPS growth due to the q2 '13 and q3 '14 weather.

As it stands right now, FDX will grow revenue and EPS for the full year ended May 31, '14 at 2.5% and 7%, respectively.

Fiscal '15 revenue and EPS are expected to grow y/y at 5% and 31% respectively.

Of the 31% expected EPS growth in fiscal 2015 (begins June 1, 2014), it looks like about half of the share repurchases will occur in fiscal '15, resulting in 8% of the 31% of expected growth being due to the share repo.

FDX originally set out to repo 32 million shares or roughly 10% of their fully-diluted shares outstanding when they made the share repo announcement in October '13, and by q3 '14 management had repo'ed about 17 million of the 32 million total. However, they didn't get the full benefit of the repo, since the jump in the stock price caused some unexpected stock option exercises or what I would think was unanticipated dilution.

When FDX made the share repo announcement, there were 319 million fully-diluted shares outstanding, and even though there has been 17 million shares repo'ed (per the FDX March '14 earnings call), as of the February '14 quarter, there were 307 million fully-diluted shares outstanding. Mathematically, there should have been 302 million shares outstanding (319 - 17 million repo'ed = 302 million should have been remaining). 5 million shares materialized (I suspect) from exercise of stock options that were out of the money and maybe were expected to expire worthless, and didn't.

The point being (sorry, I had to take readers through the math to be sure I understood it), is that in fiscal '15 about 7%-8% of the expected 31% EPS growth will be due to lower share count, or roughly 25% of 2015's expected full-year earnings growth as the 32 million share repurchase program ends.

Longer-term, even as management downsizes Express, Express has been a pleasant surprise the last two quarters: per our spreadsheet notes, Express margins rose 130 bps in q2 '14, and then again in q3 '14 (last quarter) Express, as Express volumes, particularly Domestic volumes, continued to be negative in the low single digits.

By segment, FedEx Express is 59% of FDX's total revenue as of last quarter, and 20% of total operating income.

By contrast, FedEx Ground is 27% of FDX's total revenue as of last quarter, but 74% of FDX's total operating income.

Ground is the star right now for FDX, as the Ground segment has better margins and faster growth.

Express is being pressured as more commercial airlines move freight in commercial airliner underbellies, as Fred Smith detailed in the March '14 conference call.

Valuation: Expected EPS growth for fiscal years 2014 to 2016 are 7%, 33% and 21% respectively, while expected revenue for the next two years is 2%, 5%, and 6% respectively. (Fiscal '14 is over, so we are really clued in on the 2015 and 2016 estimates.)

At $140 per share, FDX is trading at 21(x), 15(x) and 13(x) the next three years' consensus estimates, so on a PEG basis, FDX is cheap. To pay 15(x) fiscal 2015's consensus EPS of $8.84, which is 33% growth from the expected 2014 EPS of $6.67, is pretty reasonable.

But that is about where the valuation attraction ends: FDX is trading at 1(x) 4-quarter trailing revenues, 10(x) cash-flow and 39(x) free-cash-flow.

FDX is returning 393% of its free-cash-flow to shareholders primarily in the form of the share repurchase, although there is a small dividend, as long-term debt has increased to fund part of the share repurchase.

Debt to total capital has risen from 10% to 24% in the last 8 quarters.

To be frank, given FDX's capital intensity, operating leverage, and free-cash-flow generation, I'm amazed they committed to a 10% share repo program at all. There are many companies with less leveraged business models and more free-cash-flow that could do this size of a share repo, but don't.

Our internal valuation model has given us widely divergent estimated intrinsic value estimates for FDX over the last 5 years, given the operating leverage and capital intensity of the business. If we use an 18 quarter average intrinsic value estimate for FDX, it is exactly $140 per share (I kid you not) which is where the stock closed Friday, June 13th.

Morningstar has an intrinsic value estimate on FDX of $146 per share.

From our valuation models, FDX seems pretty fairly valued at current levels.

Technically, we would only buy the shares if FDX fell to the $120 area, which is a price level that represents a series of highs from early 2006 through mid-2007, before the stock fell apart.

The stock is overbought on the daily, weekly and monthly charts.

We have no plans to add or subtract to the current position.

The stock tends to run when the economy is on the upswing, volumes are improving and the price of crude oil is stable to falling, which allows the fuel surcharge to fatten the margins.

Talk of $120-$150 crude oil if Iraq falls would not be a near-term positive for FDX.

From a competitive analysis position, FDX Ground is pushing UPS even though the price competition is still thought to be rational. Both companies can maintain their yields and profit margins, without getting stupid about market share. Having DHL vacate the US market (or at least my impression was DHL pulled back from the US market), helped maintain margins and competitive positions.

FDX's q4 '14 should see a bounce back from q3 '14 and the weather issue. 2015 guidance should be around 5% revenue growth and 33% EPS growth.

We think the stock is fairly valued, although there have been a number of high-profile investors and activist hedge funds sniffing around the stock. We have followed the company for 15 years, and I just am not sure how much value there is left to unlock.

Here is our March '14 article on FDX, and here last Sept '13.

Source: FedEx Earnings Preview: Stock Fairly Valued