FedEx Is Just Fine

FedEx (NYSE: FDX  ) . Quality company, right? Knocked the cover off the ball on earnings yesterday, right? So why did the stock dribble down a couple percent? Let's find out.

If you have read any of the dozens of stories that came out yesterday on the earnings report, you know what the mainstream media is saying: FedEx disappointed Wall Street with its third-quarter earnings guidance. Maybe that's true -- but if it is, I blame Wall Street, not FedEx, for the disappointment.

Short-term thinking
True, the company promised earnings in the range of $1.20-$1.35, when analysts had predicted $1.55. But if you look just one quarter farther out, you'll see that regardless of what happens in the couple of months remaining in this third quarter, the company is still promising to deliver fiscal year earnings that approximate analysts' consensus prediction of $6.82 per share.

The question, then, is whether FedEx can make it happen. On that score, management noted that in Q2, it grew its revenues 10% year over year, and would have grown profits 24% but for the fact that the cost of signing a new contract with FedEx Express pilots slashed $0.25 per share from its net. Looking forward, the firm noted that "package volumes are solid this holiday season, and we see continued global economic growth in 2007" (which logically means continued strong shipping volumes). On top of the anticipated gains in volume, FedEx will be raising rates on its services (and surcharges) at the end of this month. The hikes, in the low single-digit percentages, should do little to decrease demand for the firm's services, but will almost certainly help it grow its profits faster than its sales.

And judging from recent experience, rising sales should be forthcoming. FedEx experienced its fastest growth on the ground, where average daily package volume grew 14% year over year. International express volume also grew strongly at 6%. There was some weakness (perhaps due to competition from UPS (NYSE: UPS  ) and DHL) in domestic express (where volume declined 1%) and the Kinko's subsidiary.

An a-Kinko's heel?
Speaking of Kinko's, here's where I see FedEx's primary weakness. The subsidiary saw its revenues decline 2% in Q2, its operating margin chopped in half, and its operating profits likewise. Now, I understand that Kinko's was not bought for its growth prospects (as fellow Fool Alyce Lomax divined back in 2003, Kinko's was bought to "help FedEx grab shipping business from the small- and medium-sized business market, as well as from consumers who have fulfilled their other document needs in the stores"). But Q2's decline in domestic express shipping suggests that this plan may not be panning out. If the Kinko's acquisition turns in both declining profits and little incremental shipping volume for FedEx's core business, then that's the firm's real Achilles' heel.

Just how good a company is FedEx? It might be the best investment of 2007. Find out why in "The Best Blue Chip for 2007: FedEx."

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Fool contributor Rich Smithhas no interest, short or long, in any company named above. FedEx is a Stock Advisor selection. UPS is an Income Investor pick. The Fool'sdisclosure policyalways exceeds expectations.


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