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What Is FedEx's Biggest Growth Driver?

By Adam Levine-Weinberg - Feb 10, 2016 at 10:25AM

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It's a battle between the express and ground delivery segments.

FedEx (FDX -1.37%) became famous for its overnight delivery service, but it actually has four distinct business segments. In addition to the original express business, FedEx also consists of a freight business that handles larger shipments, a ground shipping business that competes with United Parcel Service (UPS 1.34%) for lower-priority shipments in the U.S. and Canada, and a services business that includes the FedEx Office retail stores.

Let's take a look at how much each of these business units contributes to FedEx's revenue and earnings, and how they stack up in terms of offering growth opportunities.

Express business remains king -- sort of
While FedEx has significantly diversified its business in the past 15 years, the FedEx Express division remains, by far, the largest piece of the company. In the 2015 fiscal year, the express segment generated $27.2 billion of revenue, representing 57% of the company's total revenue of $47.5 billion.

The express delivery business is still, by far, FedEx's largest.

The ground segment was a distant No. 2, with $13.0 billion of revenue in fiscal 2015, followed by the freight segment, with $6.2 billion, and the services segment, with $1.5 billion. (These totals don't add up exactly to $47.5 billion due to payments between the business segments.)

In terms of earnings, though, the picture is quite different. The ground segment has very high margins, allowing it to routinely generate more income than the express division in recent years. Last year, the express segment recorded adjusted operating income of $1.9 billion, compared to $2.2 billion for the ground segment.

These two divisions together account for the vast majority of FedEx's earnings. The freight segment produced $0.5 billion of operating income last year, while the services segment doesn't even produce enough profit to be reported separately.

FedEx Express is poised for profit growth
Several years ago, FedEx began to restructure the express business to make it more efficient. These efforts have already started to drive faster earnings growth. Nevertheless, the express segment's full-year adjusted operating margin in fiscal 2015 was just 6.8% compared to the company's goal of producing double-digit margins in all three main business segments.

FedEx's express business has posted strong profit growth this year.

FedEx is poised to take a major step forward in fiscal 2016. For the first half of the fiscal year, the express segment achieved an 8.9% operating margin, up by 2.6 percentage points from a year earlier. As a result, it has overtaken the ground segment in terms of earnings.

The express division's profitability is likely to continue rising in the second half of fiscal 2016 due to a big benefit from lower fuel prices. Looking further ahead, the pending acquisition of Dutch rival TNT Express will allow FedEx to further grow its express segment profit as it captures cost and revenue synergies.

FedEx Ground is the long-term growth machine
FedEx Express is thus enjoying a resurgence in profitability, while the addition of TNT Express will boost its revenue. However, its organic growth has been virtually nil in recent years. The segment's earnings can only rise so far if organic revenue growth remains sluggish.

By contrast, the ground business is growing steadily. FedEx Ground has gained market share from United Parcel Service -- its key rival -- for 16 consecutive years. As a result, from fiscal 2005 to fiscal 2015, its revenue nearly tripled, and segment operating income grew even faster.

FedEx Ground has grown rapidly over the past decade.

Even after all these years of growth, the ground business still holds just a third of the market. FedEx, therefore, has an opportunity to continue taking share from UPS, based on its focus on automation and faster service times.

Furthermore, both FedEx and UPS are benefiting from the explosive growth of e-commerce. Every year, retailers need more and more parcels delivered, and this trend is likely to continue for the foreseeable future. Thus, while the express division is driving strong profit growth today, the ground business will continue to be FedEx's main profit-growth driver in the decade ahead.

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Stocks Mentioned

FedEx Corporation Stock Quote
FedEx Corporation
FDX
$223.61 (-1.37%) $-3.10
United Parcel Service, Inc. Stock Quote
United Parcel Service, Inc.
UPS
$184.99 (1.34%) $2.45

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