We will save our main commentary until after the 10-Q tomorrow, but we think it is fair to say that the FedEx report today exceeded muted expectations and added credibility to the Express restructuring program. FedEx continues to show that it can deliver higher Express margins and, as it does, the market should move to price in continued success. We continue to think that there is significant potential value at FedEx Express that the market is not pricing in.
The Quarter vs. Our Thesis
- Express Margin: Despite continued negative mix of IE/IP, FedEx Express held onto its 50 basis points of margin expansion from FY4Q (YoY). That is good enough, since we would guestimate a net headwind of 10 to 30 basis points from mix, fuel, depreciation etc.
- Valuation & Sum of the Parts: As the shares move higher, our DCF-based fair value range suggests a bit less upside. That said, in this market, the potential still looks favorable. There was nothing new that moved the needle on our valuation. An updated sum of the parts presentation showing the low implied market valuation for FedEx Express is presented below.
- Thesis Playing Out: We think the market has been overly fixated on the 'trade down' headwinds at FDX, while missing the underlying potential of FedEx Express. FedEx Express is a competitively advantaged player in a structurally favorable industry. Many of its challenges have been self-imposed, with higher energy costs and inventory trends filling the balance that are not. We believe that FedEx Express should be able to meet or exceed competitors’ margins in pretty much any operating environment. This was just the second quarter where we have seen a focus on closing that gap, with further progress likely through FY14 and FY15.
- Pricing In Success: As FedEx gains credibility on the Express restructuring, the market is likely to price in success well before it is actually completed. That anticipation may explain the strong reaction to merely maintaining the FY4Q 2013 Express margin gains amid a more difficult operating environment.
We continue to think that FDX will prove a rewarding long-term position, as FedEx Express focuses on profitability instead of market share. FedEx is also well positioned to benefit from signs of stronger economic growth.
Jay Van Sciver, CFA
HEDGEYE RISK MANAGEMENT
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