Editor's note: As it turns out, the lone analyst rating FedEx isn't just a loon -- he's an illusory loon. According to FirstCall, a bug in its system caused a 3-year-old, and no longer effective, sell rating to somehow make it into the current consensus analyst reports. In other words, none of the analysts surveyed by FirstCall currently rate FedEx a "sell."

This one's too easy to pun. It's beneath me to start this column off with a line like "FedEx delivers its fiscal Q3 2006 earnings news tomorrow before market-open." Instead, I'll simply say that Motley Fool Stock Advisor pick FedEx (NYSE:FDX) announces its earnings tomorrow morning. Here's what you need to know about the news before it arrives.

Wall Street Wisdom:

  • General consensus. Eighteen analysts follow FedEx. Ten of them rate the stock a buy; seven more a hold. One lone loon has it down as a sell (you have to admire his courage in breaking from the herd, though).
  • Revenues. Analysts expect FedEx to report 9% quarterly sales growth tomorrow. $8.03 billion is the target.
  • Earnings. 9% sales growth is hardly enough to make investors wake up in the morning anymore. Ah, but the profits, that's another story. Analysts expect per-share earnings to grow 26% year over year.

Margin watch:
FedEx's rolling gross margin has been sliding over the past 18 months, but you wouldn't know it from the bottom line. That's up 110 basis points over the same timespan, meaning the company is 28% more profitable today than it was a year and a half ago.

Margins %

8/04

11/04

2/05

5/05

8/05

11/05

Gross

69.8

69.3

69.1

68.5

67.7

67.2

Op.

8.2

8.2

8.4

8.4

8.3

8.7

Net

4

4.8

4.9

4.9

4.8

5.1
All data courtesy of Capital IQ, a division of Standard & Poor's. Data reflects trailing-12-month performance for the quarters ending in the named months.

Foolish lookout:
FedEx is a superior company, and analysts set superior expectations for it. When FedEx raised its earnings guidance last quarter to $1.15 to $1.30 per share for fiscal Q3, analysts promptly raised their own expectations to $1.28 per share. Over the ensuing few months, expectations have continued inching upwards, to the point where FedEx now must max out its own expectations just to meet those of Wall Street.

Valuation metrics:
There's always a danger when Wall Street sets its expectations too high and investors believe them. In FedEx's case, the primary risk I see lays with the firm's free cash flow situation. Over the past 12 months, FedEx generated $626 million in free cash flow. That's less than half of its reported GAAP income over the same period, and 46% less than the firm generated in the equivalent year-ago period. Looking at a P/E of 22 times trailing earnings, FedEx looks fairly valued when you compare that against its expected long-term earnings growth of 15%. But it's trading even more dearly from a free cash flow perspective: at 55 times FCF.

I'm not ready to join the loony analyst out on his sell branch just yet, but I do encourage you to monitor that relationship between free cash flow and earnings going forward. It's important, and not least because I suspect few people on Wall Street are focusing on it -- yet.

Aside from FedEx, which other companies have made the Stock Advisor cut? Take a free, 30-day trial today to learn more.

Fool contributor Rich Smith has no interest, short or long, in any company named above.