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Takeaway: FDX Express may have passed the trough in margins, with improvements likely in FY 4Q/FY 2014. FedEx Ground & Freight performed well.

 

FDX:  Inflection in Express Margins Visible

  • Inflection in Express Margins:  Given the cost reductions that are already underway, such as a ~2% drop in FTE head count, FedEx Express is probably past the trough in margins on an adjusted basis.  While there is some uncertainty around FY 3Q Express margins, Alan Graf commented that “you'll see it in Q4” on the conference call. 

FDX:  Inflection in Express Margins Visible - fdx marg

  • Express Margin Matters:  FedEx’s competitors have operating margins that are roughly 5-7 points higher than FDX’s, by our estimates.  Structurally, FedEx Express should be able meet or exceed the competition, in our view.  The FedEx Express division has ~26 billion in revenue, giving margin expansion significant bottom line leverage.  While a multi-year project, the potential upside is significant.
  • Ground Gains Ground:  The margin at ground declined, partly due to Sandy, fuel surcharge lag, and capacity additions ahead of a very strong peak volume season.  Those should be temporary factors and underlying volume gains looked healthy.  We expect FedEx Ground to be a growth driver for FDX as the division wins share from UPS and benefits from growth in e-commerce. 
  • FedEx Freight:  We were surprised by the profit growth at FedEx Freight.  We have generally dismissed the potential of this business because of the challenging competitive dynamics in that market.  The results in 2Q suggest that the Freight division may be a more relevant factor than we had previously assumed.
  • Just Getting Started:  FedEx remains one of our top long ideas.  As FedEx Express implements its cost reduction plans and FedEx Ground continues to win share in a growing market, we see meaningful upside potential over the next year or two.  Our base case fair value range for the shares is $120-$150.  For additional information, please see our November 8th Express & Courier Services Black Book.

Jay Van Sciver, CFA

Managing Director


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