🚚 Will FedEx Deliver Despite Challenges?

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🚚 FedEx: What’s In The Package?

Investors of logistics and Shipping giant FedEx Corporation (FDX) have two packages before them. One contains growth targets, profits, and a 53% increase in the dividend. The other one includes challenges and a simmering dissent within its ground network. Which one would they pick?

Getting Leaner, Fitter

FedEx turns 50 this year. It held an investor day at its Memphis headquarters for the first time in a decade. New CEO Raj Subramaniam recently took over from founder Fred Smith and highlighted the company’s growth targets for 2025.

The company introduced the “Deliver Today, Innovate for Tomorrow” strategy. The plan aims to make FedEx more efficient and grow revenue and operating income over the next five years.

Here are FedEx’s growth targets for 2025:

4-6% revenue CAGR
10% consolidated operating margin
Adjusted dividend payout of at least 25%
Adjusted earnings growth of 14-19%

It plans on using co-locations for different operating segments. The move will cost FedEx $2B in a one-time expense. Operational complexities are preventing the company from combining both Express and Ground units. For example, FedEx’s Ground facilities cannot handle air containers.

The focus on high-profit deliveries or “revenue qualities is similar to UPS’ “Bigger, not better” strategy. Since announcing that strategy, UPS has outperformed FedEx in profitability and service. FedEx’s on-time performance was 93% in May from 89% in December but still lagged UPS’ performance in the high-90s.

FedEx is also putting AI and machine learning to use to improve efficiency. The transition towards cloud-based data storage will unlock annual savings worth $400M. It is also building a data platform with FourKites Inc. to combine data from the network of both companies to support ~20M daily shipments. FedEx has also made an unspecified financial investment in FourKites.

Subramaniam has a difficult task at hand. The sector is encountering slowing demand, persistent inflation, and competition from peers. Adding to that melee are investors, who have long-lamented the company’s inconsistent performance and are pushing them to improve profitability.

Under pressure from activist investor D.E. Shaw, FedEx boosted its quarterly dividend by 53% last week to $1.15 per share. The firm has a stake worth $200M in the company. FedEx also added two new directors to its board, with a third one to be added after consensus between both parties.

FedEx’s net profit increased 25% from last year in Q4, despite shipping fewer packages. An increase in fuel surcharge on shipments in April offset the drop in package volumes. The company shipped 16.8M parcels in a day in Q4, compared to 17.6M last year.

Ground Worries

So where does the flaw lie? FedEx’s ground network is struggling to keep itself afloat and the problem is not new. Multiple company contractors complained of being left under financial duress after renting trucks and hiring staff to handle a heavy load of packages. The only problem? The packages never arrived!

Over 800 of FedEx’s 5K+ contractors have raised issues with the company’s shipping forecasts. The shortfall in packages and new payment terms resulted in less pay for contractors during Thanksgiving & Christmas, while costs were significantly higher.

Problematic forecasts, coupled with rising costs made contractors lose money in a season when revenue is the highest. FedEx’s delivery contractors, part of the company’s Ground business, deliver 60% of the daily packages. Contractors protect FedEx from costs like paying for vehicles and driver wages.

Ground contractors are demanding higher compensation to offset the rising fuel and maintenance costs. A two-decade-old contractor with FedEx, walked away from his routes, as he “did not have the money to keep his fleet moving.” Payments from FedEx were insufficient to cover his costs, including paying 50+ drivers on his payroll. He put all his trucks for sale to pay his loans.

Some contractors are even considering getting out of business. More payments to ground contractors will increase transportation costs for FedEx. If a route is not immediately awarded to a new contractor, FedEx would have to pay for contingency drivers.

20-25% of clients of a ground contractor consultancy are struggling to make a profit, which is double the normal rate. FedEx plans on shifting the cost of lost and damaged parcels to those operators, increasing the burden further.

Express and Ground are FedEx’s largest business divisions and both were hurt by the pandemic, and the need to pay higher wages to retain workers. Both combined are 85% of FedEx’s FY22 topline. Expanding delivery networks is currently crippling FedEx’s margins. Labor costs in Q4 rose $350M from last year.

Speaking of the Ground business, FedEx does not see its margins returning to pre-pandemic levels even by 2025. The guidance calls for Ground business margins to increase to 11-12% by 2025. The business reported margins of 13% and higher in the two years before the pandemic.

FedEx shares are down 13% this year, marginally better than UPS, which is down 17%. It may have packaged growth, dividends, and optimism into one parcel, but the question is, will it find the contractors who would deliver the same?

Market Reaction
FedEx ended at $226.71, down 3.04%.

Company Snapshot 📈

FDX 226.71 -7.10 (3.04%)

Analyst Ratings (31 Analysts) BUY 71% HOLD 29% SELL 0%

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Later Today 🕒

7:15 PM IST: S&P Global Manufacturing PMI
7:30 PM IST: Construction Spending

Today’s Fun Fact

95% of grain exports in Canada travel by rail. One car of grain can be worth as much as $30,000

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