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Morningstar | FedEx Guides to Decline in EPS in the Coming Fiscal Year, Market Focused Near Term

FedEx beat fiscal fourth-quarter adjusted EPS expectations slightly, but management’s guidance of a mid-single-digit decline in near-year’s EPS will stick in the investor’s mind and do beleaguered shares no favor in the short term. With no evidence of improved global trade or progress on FedEx operational improvements, we expect the stock to remain pressured. FedEx shares have declined 40% from a $259 52-week high on multiple concerns (trade, the threat from Amazon and the China conflict) and during the last few weeks FedEx has been bustling with strategic announcements. Our fair value remains well above the market price, and we expect it will remain so even after incorporating full-year results into our valuation model. We anticipate a decrease to our fair value estimate of well under 10%.

Headwinds include slowing global trade, growth in the hard-to-serve e-commerce segment, E.U. market weakness and share loss, struggles at TNT after the cyberattack, the cost of early retirement buyouts, rolling out six-day ground in fiscal 2019 and then seven-day in fiscal 2020, and replacing lost parcel density following the termination of the U.S. Express contract with Amazon (perhaps 1% of total revenue). The board also held the dividend fast rather than announcing an expected annual increase.

Many of these near-term expenses will offer midterm benefits, and the firm has taken prudent (but expensive) action by refleeting the Express airline, structuring headcount through domestic and international retirement incentives, and increasing Express automation, especially at the big Memphis and Indianapolis hubs. The firm maintains Express in the domestic market is fine and we concur, noting year-over-year growth of 24% in U.S. Express (cheap) deferred daily volume and 9% in total U.S. daily volume. During the quarter international priority revenue declined 5% as load factors out of Asia were fair but IP yields declined 5%, and this product has an outsize influence on margins.

The firm grew revenue 11% in Ground and 5% in Freight, but Express declined 1%, constraining total revenue expansion down to 2.8%. Operating margin contracted from 9.0% to 8.1% in Express and decreased from 16.9% to 15.2% in Ground, but improved from 9.0% to 9.9% in Freight, pulling down total operating margin 30 basis points to 7.4%. Management projected in fiscal 2020 that Freight will increase earnings and margin, and Ground will grow earnings with minimal margin compression. However, for Express the firm indicated EBIT will be negatively affected by the mix shifting to cheaper products (we saw this in the growth of deferred this period), macro weakness, and trade barriers. Excluding TNT integration costs, management guides to a mid-single-digit percentage point decline in EPS.