Following a weather affected start to the year UPS (UPS +2.05%) and FedEx (FDX +3.76%) have recovered nicely, with FedEx's latest results sending the stock sharply higher. Both stocks will always be correlated plays on global growth, but by stint of its productivity improvement plan, FedEx has an opportunity to strongly grow profits in the coming years. Moreover, e-commerce offers a good long-term growth opportunity. There is a lot to like about FedEx.
FedEx delivers strong results
Earlier in the year, FedEx was forced to reduce its full-year EPS guidance to $6.55-$6.80, and its rival, UPS, also reduced expectations by guiding the market to the low end of its full-year guidance of $5.05-$5.30. The good news is that FedEx summarily delivered diluted EPS of $6.75 in its full-year to May 2014. The market clearly liked the fact that its EPS figure came in at the top end of its range, but there are five other reasons investors should look favorably on the company.
Reasons to like FedEx
First, FedEx gave a slight upgrade to its expectations for U.S. GDP growth in 2015. A hike in expectations from 3% to 3.1% may not seem much, but it matters a lot to a company whose revenue correlates to economic growth. Moreover, at the start of the year, FedEx had predicted U.S. GDP growth of 2.4% in 2014, and global growth of 2.8%. Weather clearly played a part in reducing those estimates to 2.2% and 2.7%, respectively, but on a positive note, FedEx sees global growth accelerating to 3.1% in 2015 -- in line with U.S. guidance discussed earlier.
Second, FedEx's productivity improvement plan remains on track. The plan was hatched in October 2012, and aims at improving profits by $1.6 billion before the end of 2016. Investors, have good cause for being concerned about progress, because -- as management outlined in the recent conference call -- global economic and trade growth has not been as strong as expected. As such, FedEx has had to "significantly revise" how it will reach the $1.6 billion improvement, but with each passing quarterly earnings report, FedEx manages to confirm that the plan is on track.
Third, FedEx continues to restructure the business in response to the shifts in demand since the global recession, and it's managing to achieve some impressive increases in margins as a consequence.
Here is a chart that demonstrates the shift as customers have tended to prefer cheaper, but slower, ground services to more expensive express deliveries in recent years.
Source: FedEx Presentations.
The good news is that express margins improved in 2014, and with more productivity improvements to come, Fools can look forward to some impressive earnings increases in future years.
Source: FedEx Presentations.
The fourth reason is that e-commerce offers FedEx and UPS some strong long-term growth opportunities. Indeed, Fools already know that one of the reasons for both companies having problems in the winter was because e-commerce demand came in higher than they both expected. UPS's response was to invest in technological solutions in order to help it to deal with inordinate spikes in demand.
Similarly, FedEx continues to invest in modernizing its ground services. In fact, capital expenditures are expected to ramp to $4.2 billion in 2015 from $3.5 billion this year. When questioned on the increase on the conference call, FedEx Chairman Fred Smith responded:
We're basically spending capital on two major initiatives. The first is the growth in our Ground network as we continue to exploit the great improvements that the Ground team had put in place over the last decade. And second to modernize our aircraft fleet.
The fifth reason is that global trade is expected to improve in 2014. For example, here is the data and forecast from the International Air Transport Association, or IATA.
Source: IATA Website (link opens a PDF)
The bottom line
The big news with FedEx's results is that its productivity improvements are still on track, and analysts have its EPS growing by 31% and 20% over the next two years. In other words, by the time its profitability improvement plan is finished in May 2016, FedEx should trade on a P/E of around 14 times analyst consensus. This compares favorably with UPS's P/E of 17.5 times forward estimates to December 2015. Moreover, both companies have good prospects thanks to e-commerce and expected pick-up in global trade. In particular, FedEx looks a good value.
