FedEx (FDX -0.40%) stock suffered its largest single-day decline in company history last week after it cut its full-year fiscal 2023 guidance and gave a disappointing outlook for the first half of the fiscal year (which ends May 31, 2023). United Parcel Service's (UPS -0.04%) stock price fell 4.5% in sympathy, but it was not nearly as severe when compared to FedEx's 21.4% decline.
FedEx stock is now down more than 50% from its all-time high set in May 2021, while UPS is only down 27.4% from its all-time high set in February. While the bigger opportunity for stock price recovery seems to fall with FedEx, there are several reasons why UPS could still be the better buy right now. Let's take a closer look.
Image source: Getty Images.
Inconsistent expectations
FedEx stock has gone nowhere in the last five years. A big reason for that has been the company's failure to forecast the short-term performance of its business accurately. Wall Street hates being blindsided by worse-than-expected results. And FedEx has a reputation for underdelivering on its promises.
In the two-year stretch between third-quarter fiscal 2018 (ended Feb. 28, 2018) and second-quarter fiscal 2020 (ended Nov. 30, 2019), FedEx stock fell the day after reporting earnings for eight consecutive quarters. Many times, the sell-off was due to lower-than-expected earnings. But even when FedEx would beat its estimates, it would often blame macroeconomic factors, rising costs, or myriad other reasons for weak segment performances or for lowering expectations.
What makes last week's sell-off so painful is that FedEx investors went through this same song and dance before. Granted, there was a reprieve during fiscal 2021 (ended May 31, 2021) and fiscal 2022 (ended May 31, 2022) as FedEx benefited from the COVID-19-induced boom in package delivery. But even then, FedEx continued to post relatively weak margins compared to UPS, struggled with the labor shortage, and seemed to be much more affected by higher input costs due to inflation than UPS.
The recent stock sell-off makes sense because FedEx went from an optimistic tone to a pessimistic tone in the span of just one quarter. The secondary headline of the company's Q4 fiscal 2022 press release from late June was "additional earnings momentum expected during fiscal 2023." In fact, the company guided for full-year fiscal 2023 diluted EPS of $22.50 to $24.50 -- which would have been an all-time high for a FedEx fiscal year.
It's hard to believe that the business environment worsened so quickly that FedEx not only discarded its prior full-year guidance but is now calling for just $5.98 in first-half fiscal 2023 diluted EPS. The earnings estimate cut is so drastic that it puts the company on pace to earn roughly half of its prior full-year guidance. Given FedEx's track record, investors should not give the company the benefit of the doubt and expect it to turn things around in the second half of fiscal 2023.
Strong leadership and record results
The last quarter UPS reported was Q2 2022 (reported in late July). Like FedEx, UPS offered an upbeat tone, saying it grew earnings and revenue despite incredibly difficult comps from the prior quarters and years. UPS' guidance called for record revenue for full-year 2022 paired with a 13.7% operating margin, record-high dividend payments, and $3 billion in share buybacks. If UPS hits its target, it will mark the highest operating margin in 10 years and the first $100 billion-plus revenue year in company history.
FedEx's bleak outlook adds uncertainty to UPS' prior guidance. The concern now is that the company will cut its guidance when it reports Q3 earnings in late October. But some context is in order. Even if UPS' results come in slightly lower than expected, we still could see a record revenue year from the company.
More important than a single quarter's results is the reliability that Carol Tomé has given UPS since taking the helm as CEO in March 2020. Tomé takes a big-picture approach to growing the business that involves leading e-commerce, being the preferred partner for small and medium-sized businesses, growing the healthcare division, and maintaining high profitability while also growing the top line.
UPS' late October report will mark a pivotal point for FedEx and UPS investors. Based on UPS' commentary and results, we'll know if the prospects of the package delivery industry as a whole are weakening or if FedEx is having a particularly tough time relative to UPS.
UPS has an edge over FedEx
In terms of comparing FedEx to UPS, both companies have high forward dividend yields (FedEx at 2.5% and UPS at 3.3%). The high yields are due in part to record dividend raises earlier this year when FedEx raised its dividend by 53% and UPS raised its dividend by 49%.
UPS continues to be a better-run business with a consistently higher operating margin -- giving it wiggle room in an inflationary environment.
UPS Operating Margin (TTM) data by YCharts
As costs rise, UPS can still generate high earnings even if its margins come down. There's less room for error with FedEx.
In terms of valuation, it's difficult to compare UPS to FedEx because we don't know how bad fiscal 2023 will be for FedEx or if UPS will cut its guidance in the next earnings report. The good news for FedEx is that even if it only earns half of its prior diluted EPS guidance, it would still have a forward price to earnings (P/E) ratio below 15 -- which goes to show how strong its earnings have been and how far the stock price has fallen. As for UPS, the company's trailing-12-month (TTM) P/E is just 14.2 -- making it an inexpensive stock even if growth grinds to a halt. In sum, both stocks are inexpensive even if earnings fall.
UPS is the better buy
A common mistake investors will make when comparing two companies is assuming that the stock that trades down further from its high is the better deal. In reality, long-term investing is all about finding quality companies with strong management teams that can compound revenue and earnings over time, no matter the price.
In the case of FedEx and UPS, both companies are down significantly off their highs. But UPS stands out as the better buy due to its high margins, better management team, superior forecasting, reasonable valuation, and 3.3% dividend yield.
