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This Top Value Stock Is Transforming Into a Growth Stock: Is It Worth Buying Now?

By Daniel Foelber - May 4, 2021 at 8:13AM

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Q1 earnings shine as UPS continues to expand margins and grow its top and bottom lines.

Shares of United Parcel Service (UPS -1.04%) just crossed the $200 per share mark, marking a new all-time high. UPS is now up over 110% over the past year and 25% in the last month, heavily outperforming the industrial sector and the S&P 500.

UPS reported its highest-ever first-quarter revenue and its highest quarterly net income in history. Let's unpack the company's results to see what's pole-vaulting UPS to new heights.

A man pole-vaults in front of a crowd in a stadium.

Image source: Getty Images.

Margin expansion

Adjusted Operating Margin

Q1 2021

Q1 2020

Q4 2020

U.S. domestic

10.4%

3.5%

8.8%

International

23.7%

16.5%

24.3%

Supply chain and freight

9.2%

4.9%

7.6%

Total

12.9%

6.1%

11.5%

Data source: UPS. 

UPS notched an adjusted operating margin of 12.9% in the first quarter, its highest quarterly operating margin in three years. 

The headline story for UPS throughout the pandemic has been increased business-to-consumer (B2C) sales. As early as the second quarter, UPS was posting impressive top-line growth at a time when most industrial stocks were reporting their worst results in years. However, the concern was that a slowdown in high-margin, low-volume business-to-business (B2B) sales would affect profitability. The narrative began changing in the fourth quarter as the company improved operating margins for the first time during the pandemic.

Heading into 2021, UPS's combination of organic growth and lower spending set the stage for further margin expansion. In its fourth-quarter release, the company guided for just $4 billion in 2021 capital expenditures compared to an adjusted $5.6 billion in 2020. It reaffirmed this guidance in its first-quarter press release.

Purposeful spending falls under the company's "better not bigger framework," which aims to streamline operations and focus on high-margin growth opportunities, like e-commerce and small and medium-sized businesses (SMBs).

UPS Total Return Level Chart

UPS Total Return Level data by YCharts

E-commerce growth

In late 2019, UPS began making a big push into e-commerce that just so happened to coincide with the pandemic. The timing was lucky, but UPS believes in e-commerce's multi-year growth trajectory. It has made major investments by expanding its fleet, logistics, and customer services.

SMBs are the contributing factor behind UPS's e-commerce growth. While its B2B business took a hit during the pandemic, the company focused instead on providing SMBs with the same opportunities as larger companies. By partnering with other leading e-commerce platforms, vendors, and payment providers, UPS built its Digital Access Program (DAP) in October 2019 to directly assist SMBs.

The growth has been impressive. UPS finished 2020 with over 700,000 DAP accounts and reaffirmed its guidance for $1 billion in DAP revenue by the end of 2021. In the first quarter, it added 150,000 new DAP accounts, meaning it could hit 1 million accounts before the second half of the year. 

During the first-quarter conference call, CEO Carol Tome noted that "in the U.S., total average daily volume growth for SMBs, including our platform businesses, reached an all-time high of 35.6%, outpacing the growth rate of our larger customers for the third consecutive quarter." She highlighted SMB volume as the primary reason for the uptick in U.S. domestic margins.

Two business owners fold clothes as they fill online orders.

Image source: Getty Images.

Rebound in B2B

Another catalyst for sustaining high operating margins is a rebound in B2B volumes. During the height of the pandemic, U.S. B2B volumes were down 21.9% before improving to down 8.3% by the fourth quarter. In the first quarter, overall B2B volumes were down less than 1% year over year, and up 8% in March -- helped by international B2B volumes, which were up 10% for the quarter. International continues to be the company's most profitable segment. 

The international segment's effect on profitability

Along with e-commerce, UPS's international segment is fueling its transformation from a value stock to a growth stock. The company continues to retain high margins despite ramping international spending. It added 25% more flights to support outbound Asia demand, which grew 43%.

As impressive as U.S. domestic is, international is the real reason behind the company's record-high profitability. Consider that the international segment made up just 20% of the company's first-quarter revenue but 37% of its profit. The narrative was the same in 2020 as well.

Close-up of globe with interconnected cities

Image source: Getty Images.

From deep value to breakout growth 

Profitability is key because it supports the company's much higher valuation, as well as its dividend. Despite the stock's rise, the company still has an impressive 2% dividend yield. A year ago, UPS was a value stock with a near 4% dividend yield. Now, quarter after quarter of blowout earnings and monster growth across e-commerce, healthcare, and international is transforming the company into a growth stock.

UPS is now the largest U.S.-based industrial stock by market cap and is showing no signs of slowing down. Although it's much more expensive than just a few months ago, UPS is a classic example of a company whose performance arguably justifies its higher valuation.

Considering that B2B volumes showed improvements in March and the rest of the company's business is performing well, UPS could finish the year with a surprising amount of profit, giving it a reasonable price-to-earnings (P/E) ratio even at the stock's higher level. The long-term thesis remains intact. Until that changes, UPS remains one of the most well-rounded stocks on the market today.

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