Federal Express (NYSE:FDX) reports fiscal first quarter 2013 financial results before the bell on Tuesday, September 18, with consensus analyst expectations of $1.41 for earnings per share (EPS) and $10.7 billion in revenues for expected year-over-year growth in revenues of 2% and a decline in earnings per share of 3%.
The story of FedEx today is a complicated one. By segment, FedEx Express is the company's largest division at 62% of revenues (roughly two-thirds) but with just a 3% operating margin. There has been talk of the Express Division being restructured for some time, and the first substance of that restructuring could come with this earnings report, and the analyst conference in October.
The problem with Express has been slowly declining volumes, costs, and a compression in the operating margin over the last five years, from over 9% as of May 2007 to just 3% - 5% today.
On the positive side, the Ground segment, (competes with UPS), represents 22% of FedEx's total revenues and has an operating margin of 18%, but Ground's operating margin has been flat to growing since 2007, expanding from 13.5% in 2007 to 18.4% today. (Operating margin history is courtesy of a Jefferies research report dated June 20, 2012.)
Last quarter (2012's fourth fiscal quarter, reported in mid-June 2012), FedEx beat on revenues, which grew 4% year-over-year, while earnings per share grew 16%. Express volumes fell 5% and even International Priority volumes fell 0.5%, as Express revenues rose 2.5%. Ground was again the star last quarter, as the operating margin expanded to 20% on volume growth of 3.5%. Ground revenues rose 9% year-over-year.
The recent earnings warning by FedEx in early September, didn't impact the stock price too much, as the Q1 2013 earnings per share midpoint was reduced from $1.52 to $1.40.
Last June, in our first ever article written for Seeking Alpha, we previewed FedEx's fiscal fourth quarter 2012 earnings report. Our headline was "When Operating Leverage Becomes a Drag," and that really is the crux of the issue for FedEx. The expenses associated with Express have become a drag on operating income, as Express and I/P volumes have declined and prevents FedEx from reaching its operating nirvana of a 10% operating margin.
The last time FedEx hit a 10% operating margin was May 2006, which by the way, coincides nicely with the last time the stock traded near $110 - $120 per share -- an all-time high for the share price. (See the chart below):
From the above chart, we think FedEx has been building a long base, with one potential catalyst being the Express restructuring, and another being a drop in crude oil prices. Ultimately though, I think FedEx returns to its outperforming days when we get some semblance that global growth is on the mend.
From a valuation perspective, the most compelling metric for FedEx is the 6(x) enterprise value (EV) to cash-flow valuation the stock sports at $88 per share, and the enterprise value to 4-quarter trailing sales of 0.66(x) isn't too shabby either.
In addition, even with earnings per share estimates reduced in early September, the consensus earnings estimates are calling for 7%, 17%, and 14% earnings per share growth on expected revenue growth of 5%, 6%, and 4% for fiscal 2013, 2014, 2015, respectively.
The ironic part of the Express restructuring, which will likely happen in the next two months, is that FedEx's operating leverage could be enhanced, just as U.S. and global growth starts to accelerate, thereby improving FedEx's earnings delta from faster volume growth.
We've long been a believer in the company and the brand, and we would add to current positions near $85 and $80.