UPS (UPS 0.14%) operates in a highly cyclical business, so it's no surprise its revenue came under pressure last year as the economy slowed down. Last year was made worse by protracted labor contract negotiations that led to customers diverting delivery volumes away from UPS and into the arms of competitors.
On the other hand, the stock's valuation is attractive, and a 4.5% dividend yield is nothing to sneeze at. Is UPS stock worth buying now, or should it be avoided? Here's the lowdown.
UPS' disappointing earnings
The company's latest results and guidance were not good, and investors knocked the stock back after getting the news. Fourth-quarter revenue declined by 7.8%, taking full-year revenue down by 9.3%. Meanwhile, full-year adjusted income fell by nearly 29%, with its U.S. domestic package segment profit down a similar amount and the industrial segment profit down almost 26%.
The following chart shows the extent of the volume declines, exacerbated by the contract negotiations issue. The worst impact from the negotiations with the Teamsters came in August (which falls in the third quarter). In August, the union ratified a five-year deal with UPS that included increased wages.
Now, UPS is on a mission to win back customers who went to other networks while union negotiations made them nervous.
CEO Carol Tome said on the Jan. 30 earnings call with analysts that "by the end of December, we had won back and pulled through nearly 60% of the volume diverted during our labor negotiation." If you take a glass-half-empty view, you might worry about the possibility that the volumes may stick with the company's rivals. In contrast, the glass-half-full view sees a growth opportunity for UPS, as it can generate growth by simply winning back lost customers.
Data source: UPS presentations. Chart by author.
Beneath the headline numbers of the latest report, there was disappointing news from one of the initiatives UPS is undertaking to improve its underlying business. I'm referring to its efforts to increase revenue from small and medium-sized businesses (SMB). While the SMB share of UPS' total U.S. revenue grew to 28.6% in 2023, from 28.2% in 2022, and continues to expand, revenue related to UPS' digital access program (an initiative aimed at SMBs) came in at $2.9 billion in 2023. That's an increase of 22% from 2022, but it was short of management's aim of $3 billion.
Weak guidance
Furthermore, management's full-year 2024 guidance calls for revenue to increase from $91 billion in 2023 to a range of $92 billion to $94.5 billion, but for adjusted operating margin to decline to between 10% and 10.6%, compared to 10.9% in 2023. The midpoint of these ranges gives an adjusted operating profit of about $9.6 billion, compared to $9.9 billion in 2023.
Image source: Getty Images.
The case for buying UPS stock
While plenty of negatives exist around the earnings report and guidance, there's still a powerful case for buying the stock. Despite digital access program (DAP) revenue coming in lower than expected, UPS is still growing its DAP and SMB-related revenue at a healthy pace. Moreover, UPS' healthcare revenue is now at $10 billion, in line with management's targets.
UPS is making underlying improvements to its business, and when the economy recovers, you can expect its volumes to start improving again. In addition, in response to weakening demand, UPS is cutting 12,000 jobs in 2024, resulting in $1 billion in cost savings.
However, the most robust case for buying the stock rests on the idea that the company will exit 2024 in much better shape than when it entered it. This is a point explicitly acknowledged by CFO Brian Newman when he said revenue in the first half would be "flat to down 2%" only to grow "4% to 8% in the back half," with profit growing 20%-30% in the second half.
Delivery volumes are forecast to return to growth in the second half, and focusing on the U.S. domestic package segment, Newman said: "We expect the revenue per piece growth rate to outpace the cost per piece growth rate beginning in the third quarter, and we expect to exit the year at a 10% operating margin."
Everything points to UPS experiencing a tale of two halves in 2024. The company is winning back lost customers, and it will lap the impact of the increased costs coming from the new labor contracts in the second half. Moreover, the delivery volume comparisons also get easier in the back half of the year.
Consequently, if investors are willing to be patient, they should see significant improvement in the company's earnings momentum. It will be a rocky ride through the first half, notably in the first quarter. UPS would suit patient investors willing to tolerate the potential for near-term bad news.
