FedEx Corporation (NYSE:FDX) launched a new fiscal year in June, and reports its fiscal first-quarter 2015 earnings on Wednesday. The company's stock has rewarded investors generously over the last 12 months, appreciating more than 38% versus the S&P 500 index return of 18.25%. Year to date, the global shipper has seen more tepid stock movement, gaining 6% versus the S&P's return of 8%. Below are three keys to the company's upcoming earnings report that are also relevant to the new fiscal year.
1. A new challenge: Higher annual operating margins
Our overarching goal is to achieve annual double-digit operating margins for the total company in the near future.
-- CFO Alan Graf, Q4 2014 Earnings Conference Call
In the last fiscal quarter of 2014, FedEx recorded a total operating margin of just over 10%. Management's desire to achieve this margin on an annual basis is laudable, but it may be ambitious. By way of comparison, FedEx has averaged an annual operating margin of 6.5% over the last five years, although last year's margin hit 7.6%.
What would reaching this goal mean for FedEx? If the company expands its total revenue by just under 3%, as it did in fiscal 2014, notching 10% in operating margin would yield the equivalent of $1.1 billion annually -- a significant boost to both earnings and cash flow.
Last quarter was the first since the recession of 2008 that FedEx was able to breach the 10% barrier. Investors will want to see how close first-quarter operating margin comes to 10%, which may help gauge the realism of the new benchmark.
2. Will FedEx Ground continue to drive earnings? Or will network expansion dull its contribution?
For those who follow FedEx, it's no secret that the Ground segment is benefiting from the continued rise in e-commerce related shipping. As my Foolish colleague Eshna Basu points out, this allows it to punch above its weight in contribution to company earnings. Let's review last quarter's revenue and operating margin by segment:
|Segment||Revenue||Operating Income||Operating Margin|
As you can see, at roughly 42% of the revenue, FedEx Ground outpaces the Express segment in both margin and total dollar contribution. This is a bit easier to understand if we approach the same data in a visual format:
Ground's results are meaningful, but they won't be cemented by any means going forward. Think of the earnings potential for Ground as a never-ending cat-and-mouse game: to continue to increase volume and maintain its margins, FedEx must consistently expand and innovate around the reach of its network. That means a never-ending investment in hubs, trucks, logistics, and people. Management has forecast upcoming investment in the Ground network in 2015: This will potentially drag on the segment's margins, at least in the near term.
3. Watch CapEx and watch cash as FedEx is in investment mode
This year, FedEx plans to spend $4.2 billion on capital expenditure, or "capex," to upgrade its aircraft fleet and to improve its ground network as discussed above. CapEx will outpace last year's total by about 20%. In 2014, a combination of capital spending of $3.5 billion, in addition to a muscular share buyback of nearly $4.9 billion, meant that despite FedEx's robust cash flow, net cash on the balance sheet declined by just over $2.0 billion. As the company takes delivery of new Boeing 757, 767, and 777 fleet options, and continues to upgrade freight and ground capabilities, cash may take some time to rebound from its current level of $2.9 billion.
Looking forward: Will optimal pricing trends continue?
Over the last few years, FedEx has shrewdly ridden the modest wave of global economic growth by pricing into an improving environment. It's added fuel surcharges, and raised rates as demand for its services has risen. For example, in January 2015, FedEx Ground will convert to dimensional weight pricing, or "dim weight" pricing, which is based on dimension (size), rather than weight. Additionally, the company started its new fiscal year by increasing its published fuel surcharge indices for FedEx Freight by 3%.
Yet FedEx's pricing power may soon face a cloud, as the U.S. Postal Service won approval from regulators last month to offer wide discounts to retailers shipping at least 50,000 parcels annually. According to a Wall Street Journal analysis, the new rate structure could undercut some FedEx and UPS express delivery rates by as much as 58%. While we won't be able to discern the impact of this aggressive move by the Postal Service -- a valuable FedEx shipping partner -- until after the 2014 holiday season has passed, investors should keep this potential future wrinkle in mind as they evaluate first-quarter results.
Asit Sharma has 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.
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