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Morningstar | Expeditors Finishes 2018 With Solid Execution Amid Volatile Pricing

Wide-moat global forwarder Expeditors International’s fourth-quarter gross revenue increased in the midteens year over year, slightly ahead of our forecast, though the outperformance was offset by lower-than-expected gross profit margins (net revenue/gross revenue). Net revenue increased 8% and was mostly in line. Adjusted operating profitability (EBIT/net revenue) didn’t deviate drastically from our expected run rate. Our midcycle revenue growth and profitability assumptions didn’t change much, but we expect to boost our fair value by 2%-3% on the time value of money. That said, the stock is trading in modestly overvalued territory, probably due in part to optimism over the firm’s solid execution against a volatile capacity and pricing backdrop. Behind our fair value estimate, we still think Expeditors is capable of 5%-6% average annual net revenue growth over the long run, as benefits from the network effect support modest market share gains in a fragmented market. We are baking in a midcycle operating margin (calculated off net revenue) of 31.0%-31.5%, which compares with roughly 30.4% in 2018.

By segment, airfreight gross revenue expanded 6%, driven by higher sell rates to shippers and increased volume--tonnage was up 2% year over year in the quarter and 3% for all of 2018. Airfreight volume growth decelerated throughout 2018, but that’s partly because management strategically became more selective on business as market conditions shifted. Total ocean gross revenue jumped 18% on volume and sell rates; volume grew 10% in the quarter (6% for the year). Expeditors’ customs brokerage and other services gross revenue expanded more than 20%, likely driven in part by continued strength compliance management, transcon (multimodal delivery services), and warehousing and distribution business.

Expeditors' total net revenue (gross revenue less purchased transportation) increased 8% in the fourth quarter. Net revenue growth was below gross revenue growth due to gross margin compression, especially on ocean business. Lower ocean margins stem from recent volatility in buy rates paid to ocean liners, which are aggressively managing capacity and looking for ways to boost profitability. We note liners’ attempts to manage their networks more efficiently isn’t a bad thing because greater longer-term stability in liners’ profitability will benefit all parties (shippers and forwarders). Overall, the firm executed quite well, as volume gains helped drive 7%-plus ocean net revenue growth. The firm’s consolidated operating margin (calculated off net revenue) rose 20 basis points to 31.9% as previous IT investments appear to be successfully lifting overall salesforce and back-office efficiency.