It's been another good year for investors in FedEx Corporation (FDX 1.23%). The stock's near 24% rise this year is significantly ahead of the 18% increase of the S&P 500 and key rival United Parcel Service's (UPS -0.34%) rise of merely 5%. Let's take a look at FedEx's 2017 and why the market has taken a positive view of the package delivery company's prospects.
FedEx's brushes off NotPetya
Fedex's stock price performance is all the more notable given that it was a major victim of the NotPetya malware earlier in the summer. FedEx's TNT Express, a business acquired in 2016, has operations in Ukraine -- the originating country of the malware -- and TNT's worldwide systems quickly became infected. The impact on FedEx's first quarter from TNT's problems was significant, with TNT losing its parent company some $300 million in income.
Ultimately, FedEx's first-quarter adjusted diluted EPS came in at $2.82, with the cyber attack costing $0.79 in diluted EPS in the quarter. Ultimately, FedEx cut its full-year 2018 adjusted diluted EPS guidance to $12-$12.80 from $13.20-$14.
However, the market has decided to put the cybersecurity issue to one side in favor of focusing on the underlying positives. I have three arguments why.
Why FedEx stock outperformed in 2017
- The TNT Express integration is on track, and FedEx's management continues to expect its express segment (which now contains TNT) to improve operating income by $1.2 billion to $1.5 billion from the $2.76 billion reported from the express segment in 2017.
- An improving global economy and, in particular, a pickup in global trade growth bring benefits to companies like FedEx and UPS.
- There are signs that FedEx and UPS are starting to get to grips with the margin challenges coming from booming e-commerce demand.
TNT Express integration
On a five-year basis, FedEx's stock has outperformed UPS in rising nearly 158% compared to just 65%. One of the key reasons was the successful implementation of FedEx's 2013-2016 profit improvement plan. FedEx's profit improvement plan involved FedEx cutting costs in the express segment by modernizing its air fleet, optimizing network efficiency, and rationalizing the organization. As such, profits improved by some $1.7 billion in the period.
In other words, FedEx has already demonstrated an ability to implement self-help initiatives in order to improve profitability, and the TNT Express integration promises more of the same. Clearly, the NotPetya impact was a setback but management has set about accelerating its integration plans in response, and the market probably feels confident in FedEx's management's ability to improve profits at TNT in the same way it did with FedEx express segment in 2013-2016.
Improving global economy
FedEx and UPS are traditionally seen as stocks to play growth in global trade, and the current indicators are suggesting better conditions ahead. For example, FedEx's economic outlook is calling for global GDP growth to improve 2.9% in 2017 and 2018 from just 2.3% in 2016. Moreover, U.S. industrial production is forecast to improve to 1.9% in 2017, following on from a 1.2% decline last year, and then improve again to 2.5% in 2018.
In addition, airline cargo growth is forecast to increase more than passenger growth in 2017 -- a good sign that global trade is picking up. All of which is good news for FedEx and UPS.
E-commerce pricing initiatives
UPS and FedEx are obvious ways to play long-term growth in e-commerce, but both companies have faced challenges from the need to increase capital expenditures in order expand and upgrade their networks. Moreover, e-commerce growth also brings about margin challenges.
Consequently, both UPS and FedEx have been increasing prices and taking initiatives in order to influence customer behavior. One key aim is to increase revenue per package while not negatively impacting volume growth. The good news is both companies are having success in this regard.
As you can see in the chart below, for the first time in years, both companies are achieving volume growth alongside yield growth at the same time -- this implies good pricing power in the industry and suggests both companies can expand e-commerce margin in the future.
If FedEx's stock outperformance is going to continue, then these three pillars of performance need to continue. The TNT integration offers an opportunity to expand profitability and FedEx's global reach, while good trade growth will obviously help the company. Meanwhile, UPS and FedEx are both taking proactive measures to try and increase profitability from e-commerce deliveries.