FedEx Corporation (NYSE:FDX) is a globally integrated carrier providing time-definite delivery of documents, packages and freight through a network of supply chain, transportation, business and related information services. The company operates in four divisions: FedEx Express, FedEx Ground, FedEx Freight, and FedEx Services. FedEx and United Parcel Service (NYSE:UPS) are the two largest global courier services in the world and dominant players in the U.S.
FedEx shares have put up a good show over the last year; however, the company now needs to deliver. FedEx delivered significant value to investors in the past 12 months. While earnings grew by only 8%, shares increased by more than 50% over the last year. Up until now, in the FedEx bull vs. bear debate, the burden of proof fell on the bears to justify why consensus expectations for 30% EPS growth in FY15 were overly optimistic. However, following the impressive quarterly results and management's bullish guidance, the burden of proof now shifts to the bulls to prove that aggressive growth targets are achievable.
Double Digit Growth In The Reported Margins
The Memphis, Tennessee-based FedEx recently reported strong quarterly results. The company reported 1Q14 revenue of $11.84 billion, a year-over-year ("Y/Y") increase of 4% and better than consensus estimates of $11.66 billion. The company's earnings per share of $2.46 also came in better than consensus estimates of $2.36. The combined effect of the 3% decline in operating expenses and increase in prices of products and services resulted in a huge jump in operating margins, which increased from 4.4% to 10%.
The company reported an increase of 8% (from 4.25 million to 4.60 million packages) in average daily package volume for the FedEx Ground. The increase was primarily because of increased orders shipped for the online merchants because of the underlying growth in e-commerce. While the company's other division - FedEx Smart post, reported a decline of 8% from 2.08 million to 1.92 million packages.
10%-15% Per Annum Growth Target
FedEx is targeting annual earnings per share growth of 10%-15% with improved cash flows to be returned to shareholders. The company expects its FY15 EPS to be in the range of $8.50-$9.00, which at mid-points represent an impressive Y/Y growth of 29%. This growth in EPS is supported by a number of initiatives the company has launched in Express, solid growth in Ground and Freight, and meaningful accretion from its share buyback.
I think the company can achieve the high-end of this target, particularly if the positive fundamentals, including higher weight/package, product mix stabilization and improving yields, experienced in the most recent quarter persist. While I think FedEx's target is realistic and achievable, it is important to mention here that for a company like FedEx certain variables such as global trade growth, volatility in fuel prices, pension returns on assets and discount rates, and weather can result in meaningful swings in earnings.
A Detailed Look at the Financials
The 4% Y/Y revenue growth was mainly driven by the 8% increase in ground revenues which came in at $3.1 billion, 12% increase in freight revenues which were $1.55 billion, and a modest decline of 1% in sales ($402 million) reported by the service segment. The company's results from the Freight division were particularly stronger than expected. For FY15, revenue and earnings growth is anticipated from ongoing improvements in all transportation segments with moderate global economic growth driving volume and yield increases.
FDX reported flat revenue of $7 billion from the main express unit. The company's express division is reporting underperforming growth and lack of margin expansion for several years. The company expects both the revenues and earnings to increase during the FY15 owing to improved U.S. domestic and international yields and as the company remains focused on revenue quality and its yield. The company needs to focus on a continued restructuring plan to improve its express earnings targeted to be $1.6 billion by 2016.
A Considerable 20% Increase In Capex
FedEx has increased its capex expectations by approx. 20% from FY14 levels to $4.2 billion in 2015, primarily driven by aircraft fleet modernization, investments in its Ground network, and partially because of few projects that FDX decided to defer into FY15.
Share Repurchase Program Near Completion
FedEx repurchased 9.9 million shares during the last quarter, bringing the aggregate shares repurchased for fiscal year to 36.8 million. Moreover, the company has 5.3 million shares left under its current share repurchase authorization and expects to complete the program by the end of 2014. Although the share repurchase program would increase the shareholder value, it could also weigh on company's free cash flow generation and hence future returns to shareholders.
FedEx pleasantly surprised the market with its fourth-quarter results coming in better than expectations. The company is continuing its efforts to grow itself and cost cutting exercises are yielding results. The recovery in the U.S. and global economy, continued growth of e-commerce, and the fruits of the turnaround plan in its express business are paying off.
The situation is further marked by a substantial dividend hike, although the dividend yield remains modest. However, I think all these positive points are already priced in the stock (share price rose over 50% during the last year) and there is little upside potential. FedEx has set itself optimistic targets (earnings growth and cost savings) and until there is greater visibility on the achievability of these targets in FY15, shares of the company may remain range-bound. For investors bullish on macro, FedEx still has plenty of cyclical leverage and the stock should start working again at the first sign of a pickup in air freight, but for now I prefer to remain on the sidelines. I prefer UPS and will follow up with an article on the company soon.
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