UPS (NYSE:UPS) is the largest publicly traded delivery company in the world with a market cap of $98 billion. UPS delivered 4.3 billion packages and documents in 2013 and generated $46.5 billion in revenue through its 1,990 operating facilities and fleet of over 96,000 vehicles. The company was founded in 1907 in Seattle, Washington and has not reduced its dividend payments since 1983. UPS has not decreased its dividend payments in 31 years.
UPS operates in three segments: U.S. Domestic Package, International Package, and Supply Chain & Freight. All three segments have grown revenue over 4% through the first 9 months of the company's fiscal 2014 as UPS continues to grow across the company. A brief overview of each segment is given below.
The U.S. Domestic Package segment is the company's largest. It has generated 61% of UPS' revenue and 57% of UPS' operating income through the first 9 months of the company's fiscal 2014. The U.S. Domestic Package delivers both personal and commercial packages and letters throughout the U.S. The segment has grown revenue 4.4% through the first 3 quarters of 2014 versus the same period a year ago. E-Commerce growth is driving the U.S. Domestic Package segment's growth.
UPS' International Package segment has grown revenue at 5.6% through the first 3 quarters of fiscal 2014 versus the same period a year ago. The International segment is growing the quickest out of UPS' 3 segments. The International Package segment has generated 23% of the company's revenue and 32% of operating income through the first 9 months of 2014. The International Package segment delivers commercial and personal packages and letters throughout the world. UPS operates in 220 countries; the company spans virtually the entire world. Emerging market GDP per capita gains are propelling the International Package segment's growth.
The Supply Chain & Freight segment provides freight forwarding, customs brokerage, trucking services, logistics and distribution, and financing services to businesses throughout the world. The segment has generated 16% of revenue and 11% of operating profit for UPS through the first 3 quarters of 2014. The Supply Chain & Freight segment has grown revenue 4.4% through the first 9 months of 2014 versus the same period a year ago. Growth is being driven by health care and biotech transportation capabilities.
UPS competitive advantage is easy to spot. UPS is the largest delivery business in the world with a market cap more than double that of its nearest competitor FedEx (FDX). UPS competitive advantage comes from its extensive and well established global distribution and supply chain network. It is hard to imagine how a new entrant to the delivery business could compete with UPS on a global scale; the company has over 1,900 operating facilities and 96,000 vehicles at its disposal.
In addition, UPS is leveraging technology to realize efficiency gains. The company's ORION navigation system (ORION is short for On-Road Integrated Optimization & Navigation) uses modeling and data from planning systems to more efficiently route the company's drivers. UPS expects 45% of drivers to utilize ORION by the end of fiscal 2014. The company's long history in the delivery business gives it the experience needed to run an efficient operation. UPS also picks up mail and packages directly from customers. The pick-up service binds customers to UPS and reduces the chance of a customer switching to competing businesses.
Future Growth Prospects
UPS' growth is being driven by two trends: E-Commerce growth and emerging market growth. Online retail sales are expected to grow at over 10% a year in the US through 2018, and over 14% a year globally. This growth is far in excess of GDP growth or retail growth both domestically and globally.
UPS deliveries are driven by middle-class consumers sending letters and packages to each other and purchasing products online and having the product shipped to their home. The global middle-class customer base will grow rapidly through 2030. Only a small amount of growth will come from the US and Europe. The lion's share of middle class customer growth will be in India and Asia. The image below shows the explosive growth in the middle class expected by region through 2030.
Over the last decade, UPS has managed to grow its revenue per share by about 4.5% per year. EPS has grown at about 5.7% per year over the same time period. UPS has historically been a very shareholder friendly; the company has reduced its net share count by about 2% per year over the last decade.
UPS is expecting 7% to 9% EPS growth this year, somewhat higher than its historical average EPS growth. The company is seeing gains from economies of scale and favorable macro-economic tailwinds. UPS has a long growth runway ahead due to middle class consumer growth in emerging markets and rising e-commerce spending. I believe UPS will be able to grow revenue per share at between 5% and 7% a year over the next several years from organic growth (3% to 5%) and share repurchases. EPS will likely grow slightly faster due to rising margins from efficiency gains.
UPS currently has a dividend yield of 2.46% and a payout ratio of about 54% using expected 2014 earnings. The company will likely grow dividend in line with EPS growth over the next several years. UPS has historically used its excess cash flows to repurchase shares. The company targets a free cash flow return to shareholders of 100%. If the company grows its dividend payments at 6% a year, it will have the following yield on cost at various points in time:
UPS is currently trading at a P/E ratio of about 22 times expected 2014 earnings. The S&P500 currently trades at a P/E ratio of 19.7. UPS is trading at a 1.1x premium to the overall market. Over the last ten years, UPS has traded at a P/E ratio premium of about 1.1x the S&P500.
I believe it is reasonable for UPS to trade at a slight premium to the overall market due to the company's strong competitive advantages and solid growth prospects. At current market levels, I believe UPS to be fairly valued. If the S&P500 returns to its historical P/E ratio of about 15, the fair value for UPS will be a P/E ratio of around 16.5.
UPS is a high quality business that is trading at a slight premium to the S&P500. The company does not stand out on any one metric. It has a solid but not spectacular growth rate, an above average but not exceptional dividend yield, and a fairly high payout ratio. UPS stock has a fairly low price standard deviation of about 23%. The company is rated as a hold based on The 8 Rules of Dividend Investing; it is a solid investment but does not stand out in any category.
This article was written by
Disclosure: The author has no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. The author wrote this article themselves, and it expresses their own opinions. The author is not receiving compensation for it (other than from Seeking Alpha). The author has no business relationship with any company whose stock is mentioned in this article.