If you think that FedEx (NYSE:FDX) stock has run out of steam after last year's 57% surge, then you can think again. The stock is up more than 9% year to date, reflecting that investors expect more out of the courier giant. So, what is it that's powering the stock higher? The 9.9 million share buyback in the fourth quarter could be an obvious reason, but there could be more to FedEx than what meets the eye. Here's a page from the courier giant's playbook.
Ground segment riding the e-commerce wave
Ground division is expected to thrive on the back of e-commerce sales growth. According to FedEx, online shopping the world over could reach $1 trillion by 2016, indicating that there's a huge potential for FedEx to up its sales through online shopping. The effect could clearly be seen in the fourth quarter with revenue rising 8% over the year ago period to $3.01 billion, mainly fueled by e-commerce.
As more people opt for online shopping, FedEx is coming out with new strategies to make the most of this opportunity. As a case in point, the company realized that while free shipping is important for customers when it comes to ordering online, it increases the operating costs of retailers. So, it launched its less expensive SmartPost service that ships light parcels to the residential segment, and has since become a hit among customers. In fiscal year 2014 ended May 31, SmartPost volumes grew 6%, driven by e-commerce growth.
FedEx is converting the sales growth into superior returns. In fiscal year 2014, the Ground segment accounted for more than half of the courier major's operating income even though it makes up only 25% of total sales. FedEx has been aiming for an operating margin of 10% for each of its segments (Express, Ground and Freight), and in the last reported quarter, Ground business' operating margin was a good 19.5% because of higher volume and revenue per package.
Express looking up
The Express segment's operating margin has been rising steadily in the past few quarters, which is very encouraging because it shows that the company's cost cutting plans are bearing fruit. Aided by lower pension costs, operating margin inched up to 6.8% in the fourth quarter from an adjusted 6.6% in the same period the previous year. Express revenues were also up 2% due to higher volume and yields.
The bottom line improvement has come from the profit improvement plan the company put in place a couple of years back. Other than overhauling its air fleet, FedEx set out to transform the domestic Express network by doing away with excess capacity and optimizing resources, thereby bringing down costs. It also devised a voluntary cash buyout scheme for suitable U.S. employees. In fiscal year 2014, 3,600 odd employees quit the company and were appropriately paid. This cost FedEx around $300 million in the fiscal year and $180 million in the earlier year. The benefit from this was realized in part in fiscal year 2014, but the full impact will be visible in 2015.
The courier behemoth is concentrating its investment, acquisitions, and specialized services in those regions where business is showing signs of growth. The European market has a huge potential for FedEx to tap into. In less than three years, FedEx Express has unveiled 100 stations, on-boarded 3,600 employees, and started intra-country services in 13 countries for increasing its footprint across the continent.
China's aging population has created a demand for health care products, and FedEx has wasted no time in improving its health care logistics capacities in the country to speed up services and meet increasing demand. It opened a new North Pacific regional hub in Osaka, Japan's Kansai International Airport in April 2014, which would function as a consolidation junction between northern Asia and the U.S.
With India emerging as a significant market for FedEx, it launched FedEx International Direct Priority Ocean services in the country. The service, more cost-effective than air shipping and swifter than ocean delivery, would transport freight from India to the U.S. on the sea route.
FedEx also completed the acquisition of Supaswift in South Africa and six other nations in the region in the fourth quarter. It's looking to make the most of global growth and is laying a lot of emphasis on increasing its presence worldwide.
FedEx has put cost reduction and profit improvement programs in place, and has come up with innovative marketing solutions to up sales. While a lot could depend on factors such as fuel prices and speed of global economic growth, the company's earnings are likely to continue their upward growth trajectory.
ICRA Online and Eshna Basu have no position in any stocks mentioned. The Motley Fool recommends FedEx. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.