Our rating on FedEx Corp. (NYSE: FDX) is BUY. The shares are still trading at reasonable valuation levels, even after running up from $88 earlier this year.
The beta on FDX shares is 1.35.
Revenue rose 19% year-over-year – versus growth of 14% in the previous quarter – to $20.6 billion. Adjusted diluted EPS rose 92% to $4.83 from $2.51 a year earlier, surpassing the consensus forecast of $4.10. In the first half of the fiscal year, the company earned $9.70 per share.
Along with the earnings release, management said that it would not provide an earnings forecast for FY21.
The pandemic continued to have an impact on the company in fiscal 2Q. Operating results increased in U.S domestic residential package services, and pricing initiatives across all transportation segments.
FedEx is also transporting COVID-19 vaccines. ‘We have no higher priority as a company,’ said CEO Fred Smith of the vaccine transport work during the latest conference call.
During the call, CFO Brie Carere also noted that ‘inventory restocking and a strong recovery in capital goods spending are supporting industrial production.’ She also commented that ‘when the health emergency ends and pent-up services demand is released, we should see a long growth runway.’
EARNINGS & GROWTH ANALYSIS
FedEx Express (50% of 2Q revenue), Ground (36%); and Freight (10%).
Second-quarter revenue in the Express segment rose 14% versus a 4% gain in the previous quarter. Management has taken steps to reverse a previous downtrend, including improving hub automation, modernizing the air fleet, and increasing prices to boost yields. Revenue in the Ground segment rose 38% year-over-year, benefiting from higher e-commerce volume and a surge in customer returns. In the Freight segment, revenue rose 5%.
Management continues to focus on margins amid the challenging top-line environment. Management has launched restructuring programs, including reducing intercontinental capacity and completing its European ground interoperability program, which should continue to improve margins in the Express segment.
Turning to our estimates, based on our forecasts for e-commerce growth in 2021, as well as expected benefits from the company’s restructuring programs, we are raising our FY21 adjusted EPS forecast to $17.50 from $14.90.
FINANCIAL STRENGTH & DIVIDEND
The company had $8.3 billion in cash at the end of fiscal 2Q. Total debt was $23 billion or 52% of total capital. Cash flow covered interest expense last quarter by a factor of 13. The company’s operating margins are typically in the high single-digit, low double-digit range. FedEx pays a dividend. The current rate is $2.60 annually. FedEx has a history of double-digit dividend growth, but lately has opted to keep the dividend constant. We think the current dividend is secure but unlikely to grow until consistent EPS growth resumes.
MANAGEMENT & RISKS
Fred Smith founded FedEx in 1971 and still serves as chairman and CEO. Alan Graf had been the CFO since 1998 and has retired. Mike Lenz is the new CFO.
The company has established key long-term financial goals, including:
– Achieve a 10%+ operating margin
– Grow EPS 10%-15% per year
– Grow revenue
– Improve cash flows
– Increase ROIC
– Increase returns to shareholders
To achieve these goals, management is banking on continued growth in e-commerce and global trade, and plans to generate profitable growth in the Express, Ground and Freight segments by controlling costs.
The air freight industry growth rate is accelerating; previously, forecasters were looking for 10% growth through 2026, at which time 100 million packages were expected to be delivered each day. That 100 million package forecast date is now 2023.
In addition to organic growth, FedEx has a growth-by-acquisition strategy. In May 2016, the company completed the acquisition of TNT Express for $4.8 billion. The acquisition has enhanced FDX’s position in the European delivery market, though that market has recently weakened due to Brexit, a slowdown in Germany, and now the coronavirus. FedEx also was forced to manage the fallout from a cyberattack on TNT Express in 2016, shortly after it was acquired. The impact of Brexit and the cyberattack have kept FedEx from improving margins at TNT as fast as had been expected; that work is now expected to be completed next year.
FedEx has reduced carbon and aircraft emissions and has increased vehicle fuel efficiency over the past decade.
Investors in FedEx face numerous risks.
The shares have been exposed to trade and tariff threats, and now the economic slowdown caused by the coronavirus. The company’s earnings are susceptible to volatile fuel costs. FedEx is also sensitive to changes in overall economic growth in the U.S. and abroad.
In addition, the company faces the risk of increased competition as rivals – and even former customers, such as Amazon.com (AMZN: BUY) seek to gain market share in a business that is highly sensitive to price and quality of service. FedEx mitigates this risk with its broad-based network, which allows international customers to reach a number of U.S. destinations not served by competitors. In the past, FDX management has noted that Amazon represented 1.3% of total revenue. In 4Q19, FedEx ended its domestic express shipping relationship with Amazon.com in order to focus on other customers. In 2Q20, FedEx also ended its ground-shipping contract with Amazon.
FedEx Corp. is a leading international provider of package delivery, e-commerce and related services.
In our view, the shares are still trading at attractive valuation levels, even after running up from $88 earlier this year, and are more than 10% below their all-time high.
On December 29, BUY-rated FDX closed at $261.40, down $1.54.