Last week, FedEx (NYSE:FDX) reported stronger-than-expected earnings for the final quarter of its 2017 fiscal year. However, most analysts were disappointed with its profit outlook for fiscal year 2018.
Following the earnings report, FedEx's management spent some time answering questions about the company's results and its plans for the coming year. Here are five of the most important points discussed on the earnings call.
The express business is firing on all cylinders
... Express achieved record operating profit and adjusted operating margin climbed to 12.7%. Express results increased with higher base rates and package volume, a positive net benefit from fuel, and the continued benefit of cost management initiatives.
-- FedEx CFO Alan Graf
Five years ago, FedEx's signature express delivery business was performing poorly, weighed down by high fuel prices, an inefficient aircraft fleet, and pervasive overstaffing. Since then, the company has cut costs dramatically.
FedEx is finally reaping the full benefit of its cost savings initiatives. During fiscal year 2017, the FedEx Express segment earned a $2.7 billion operating profit, up from just $1.4 billion three years earlier. The company expects to drive another $1.2 billion to $1.5 billion of operating profit improvement by fiscal year 2020.
The TNT Express integration is moving forward
In April, one of the first tangible and very important steps in connecting the FedEx Express and TNT world networks was realized with the successful launch of our new Boeing 777 FedEx flight from TNT's hub in Liege, Belgium to the FedEx world hub in Memphis.
-- FedEx President Dave Bronczek
Last year, FedEx completed the acquisition of Dutch package delivery company TNT Express. The deal vaulted FedEx past United Parcel Service (NYSE:UPS) to become Europe's No. 2 package delivery company, improving its global scale. (Previously, FedEx was a distant No. 4 in Europe.)
FedEx is still in the early stages of the merger integration process. It has already integrated FedEx and TNT operations in dozens of countries. Earlier this spring, it took a big step by starting direct flights between the two companies' biggest hubs (Memphis, Tennessee and Liege, Belgium). This will allow it to move packages between the U.S. and Europe faster and at a lower cost. The integration efforts will remain in high gear throughout fiscal year 2018.
Profitability will start to rebound at FedEx Ground
We remain committed to mid-teens margins at FedEx Ground. We expect FY '18 operating profit and cash flows to exceed FY '17.
-- FedEx Ground CEO Henry Maier
While the express business is posting record results, FedEx's ground delivery business has faced some margin compression in recent years. The ground segment's annual revenue has surged 56% in the past three years -- due in part to an acquisition -- but segment profit is up a modest 13% during that period.
However, FedEx expects profit growth in the ground segment to improve beginning this year. In the long run, it expects to earn "mid-teens" margins in this line of business, up from 12.7% in fiscal year 2017. Furthermore, FedEx Ground has tons of room for growth, driven primarily by the growth of e-commerce.
Rising capex will deliver long-term benefits
We have a large and growing capital-intensive business with many opportunities to invest. We have an extremely rigorous process that's designed to ensure that all of our capital expense and acquisition investments will provide strong positive cash flows and increase our returns over time.
-- Alan Graf
For many investors, one of the biggest worries about FedEx is its heavy capital spending. The company did nothing to quell that fear last week, announcing that its fiscal year 2018 capex budget is $5.9 billion, equal to about 10% of its revenue. That's up from $5.1 billion last year.
That said, FedEx executives pointed out that the company has a strong track record of getting good long-term returns from its capital investments. For example, its aircraft fleet investments from the past few years have driven dramatic improvements in fuel efficiency, reliability, and maintenance costs.
FedEx expects comparably large benefits from its current capital spending projects. Additionally, it does intend to ramp down capex after 2018.
Improving peak-period margins is a priority
We are focused on ensuring that we are compensated for the investments we make to deliver outstanding service during peak. We continue to consider additional peak pricing changes but have not made a final decision in this regard.
-- FedEx EVP of Marketing and Communications Rajesh Subramaniam
Another area of concern for FedEx in recent years has been weaker margin performance during the December peak shipping season. UPS has had similar struggles, due to the cost of adding capacity to meet peak demand.
UPS is responding by implementing a $0.27 to $0.97 surcharge during the peak periods around Black Friday, Cyber Monday, and the week before Christmas. FedEx is considering a similar move. The company is determined to improve its earnings performance for peak periods. However, FedEx is not yet sure if UPS' surcharge model is the right way to do that.