Contents
My interest has been piqued in that FedEx's (FDX) current ~$201.50 share price is well below the ~$320 52 week high. In this review, I touch upon why FedEx's valuation is appealing and why I acquired a few additional shares on April 8, 2022 at ~$201.50/share.
I last reviewed FDX in this March 25, 2021 post at which time I passed on acquiring additional shares.
More recently, I reviewed United Parcel Service (UPS), FDX's larger competitor, in my guest post at Dividend Power; UPS's share price has subsequently pulled back considerably after my report.
Financials
FDX provides investors with comprehensive Financial and Operating Statistics. The Q3 FY2022 report dated March 17, 2022 is accessible here.
Q3 and YTD 2022 Results
On March 17, 2022, FDX released Q3 and YTD2022 results.
FDX reported its most profitable December in the company's history.
While FDX is focused on improving margins, 2022 has brought new challenges that are mostly driven by the COVID Omicron variant.
- staffing shortages, particularly in FDX's air operations. In January, a 15% absentee rate due to Omicron caused significant flight disruptions.
- FDX's customers experienced Omicron-driven staffing shortages thus reducing demand for FDX's services, especially in US domestic and European markets.
Both resulted in softer-than-expected volume levels, especially in January. Management estimates the effect of Omicron-driven volume softness in its Q3 results is ~$0.35B.
Despite these challenges, FedEx Express delivered adjusted operating income growth of 27% year-over-year. Management also notes that volumes have subsequently rebounded from January levels.
FedEx Freight nearly tripled its Q3 operating income relative to Q3 2021.
FedEx Ground's operating costs, primarily increased labour rates, continue to be challenged by the competitive labour environment. Management estimates the total impact in Q3 is ~$0.21B; this impact is significantly lower than in Q1 and Q2.
Free Cash Flow (FCF)
Looking at FDX's Condensed Consolidated Statements of Cash Flows (page 7 of 74) in the Q3 2022 10-Q we see a YTD FCF of ~1.95B.
As noted in my previous post, FDX's business is highly capital intensive. Capital expenditures (CAPEX) during the FY2011 - FY2021 timeframe (in billions rounded) was $3, $4, $3, $4, $4, $5, $5, $6, $5, $6, and $6.
FCF during the same timeframe amounted to: $0.607B, $0.828B, $1.313B, $0.731B, $1.019B, $0.89B, ($0.186B), ($0.989B), $0.123B, ($0.771B) and $4.251B.
FY2022 Outlook
FDX is unable to forecast the FYE2022 year-end mark-to-market (MTM) retirement plans accounting adjustment. It is, therefore, unable to provide FY2022 EPS or an effective tax rate outlook on a GAAP basis.
The following, however, is provided:
- Diluted EPS of $18.60 - $19.60 before the year-end MTM retirement plans accounting adjustment, compared to the prior forecast of $18.25 - $19.25;
- Diluted EPS of $20.50 - $21.50 before (i) the year-end MTM retirement plans accounting adjustment, and excluding (ii) estimated TNT Express integration expenses, (iii) estimated costs associated with business realignment activities, and (iv) the Q2 2022 MTM retirement plans accounting adjustments, unchanged from the prior forecast;
- Estimated tax rate of 22% - 23% before the year-end MTM retirement plans accounting adjustment, compared to the prior forecast of 24%; and
- Capital spending of $7B compared to the prior forecast of $7.2B. Much of this ~$0.2B change is driven by extended timelines resulting from supply chain considerations. Management is still developing its FY2023 plans. The focus, however, remains on lowering capital intensity while investing in strategic initiatives to improve returns.
The FY2022 cash provided by operating activities on a GAAP basis outlook is $9.58B. Deduct FY2022 projected CAPEX of $7B and unadjusted FY2022 FCF should come in at ~$2.58B. Adjusted FY2022 FCF is expected to be just above $3B; YTD FCF is ~$1.95B.
Management's forecasts assume continued growth in U.S. industrial production and global trade, a continued gradual improvement in labour availability, no new COVID-19 related business restrictions, current fuel price expectations and no additional adverse geopolitical developments.
Risk Assessment
On March 15, 2022, FDX completed the amendment of its credit agreements. Included in this amendment is a financial covenant requiring FDX to maintain a ratio of debt to consolidated earnings (excluding noncash retirement plans mark-to-market (“MTM”) adjustments, noncash pension service costs, and noncash asset impairment charges) before interest, taxes, depreciation, and amortization (“adjusted EBITDA”) of not more than 3.5 to 1.0; the terminated credit agreement also included this financial covenant.
This ratio is calculated as of the last day of each fiscal quarter on a rolling four-quarters basis.
FDX's debt to adjusted EBITDA was 1.87 to 1.0 on February 28, 2022.
FDX's domestic senior unsecured long-term debt ratings remain unchanged from the time of my prior review. They are:
- Moody's: Baa2 - last reviewed April 16, 2021.
- S&P Global: BBB - last reviewed August 20, 2021.
Both ratings are the middle tier of the 'lower medium grade' category. At this level, FDX has an ADEQUATE capacity to meet its financial commitments. Adverse economic conditions or changing circumstances, however, are more likely to lead to a weakened capacity for it to meet its financial commitments.
These ratings are satisfactory for my prudent investor profile.
Dividends and Dividend Yield
FDX's dividend history is unlikely to appeal to investors who focus heavily on dividend metrics.
At the time of my last review, FDX had frozen its quarterly dividend at $0.65. A temporary covenant within FDX's May 27, 2020 Credit Agreement restricted FDX from repurchasing any shares or increasing the $0.65 quarterly dividend payable per share of common stock between May 27, 2020 and May 31, 2021. Effective March 16, 2021, this temporary covenant is no longer contained in FDX's amended and restated $2.0B five-year credit agreement and $1.5B 364-day credit agreement.
The impact of this temporary covenant is borne out by the:
- dramatic decline in the 'Purchase of treasury stock' line item in the Consolidated Statements of Cash Flows on page 84 of 368 in the FY2021 Form 10-K.
- surge in value of the 'Purchase of treasury stock' line item in the Condensed Consolidated Statements of Cash Flows on page 7 of 74 in the Q3 FY2022 Form 10-Q.
At the time of my last review, FDX shares were trading at ~$272 and the dividend yield was sub 1%. Now, the quarterly dividend yield is ~1.5% based on the current $0.75 quarterly dividend and the current ~$201.50 share price.
On April 1, 2022, FDX distributed its 4th quarterly $0.75/share dividend. The next quarterly dividend is likely to be declared in mid-June. I anticipate a ~$0.10/share/quarter increase.
Although I touch upon FDX's dividend, investors should focus on FDX's total potential long-term investment return.
The weighted average number of issued and outstanding shares in FY2010 - FY2021 (in millions) was 314, 317, 317, 317, 310, 287, 279, 270, 272, 265, 262, and 268. The weighted average number of issued and outstanding shares for the first 9 months of FY2022 is ~264.
On January 26, 2016, FDX announced a stock repurchase program (with no expiration date) through which up to an aggregate of 25 million shares of common stock could be purchased in the open market or privately negotiated transactions. At FYE2021 (May 31, 2021), 5.1 million shares remained authorized for purchase under the stock repurchase program.
In Q1 2022, FDX resumed repurchases under the January 2016 stock repurchase program. In Q1 and Q2, FDX repurchased $0.549B and $0.2B of Treasury Stock.
During Q3 2022, FDX's Board of Directors authorized a new stock repurchase program of up to $5B of common stock (in addition to the 25 million share repurchase program authorized in 2016). FDX also entered into an accelerated share repurchase ('ASR') agreement with a bank to repurchase an aggregate of $1.5B of common stock bringing the YTD value of Treasury Stock purchases to ~$2.248B; 6.1 million shares were delivered under the ASR agreement. These share repurchases had a benefit of $0.06/diluted share for Q3 and the first 9 months of FY2022.
During the 9 months ended February 28, 2022, FDX repurchased 8.9 million shares (~3% of the shares outstanding at the beginning of FY2022) of common stock at an average price of $253.85/share for a total of $2.2B. As of February 28, 2022, approximately $4.1B remained available to use for repurchases under the 2022 repurchase program. No shares remain available for repurchase under the 2016 repurchase program.
The timing of the execution of the accelerated share repurchase program could have certainly come at a better time. FDX shares are currently trading at ~$201.50!
Valuation
At the time of my March 25, 2021 post, the online brokerage platforms I use reflected FY2021 adjusted mean, low/high estimates of $17.91, $16.85 - $18.25 from 23 brokers. Using the ~$272 share price at the time of that post, FDX's forward adjusted diluted PE range was ~15 - ~16.1 with a mean of ~15.2.
Now, we derive the following adjusted diluted PE levels using the current ~$201.50 share price and adjusted diluted EPS estimates:
- FY2022 - 24 brokers - mean of $20.59 and low/high of $19.75 - $21.07. Using the mean estimate, the forward adjusted diluted PE is ~9.8.
- FY2023 - 27 brokers - mean of $22.45 and low/high of $18.83 - $24. Using the mean estimate, the forward adjusted diluted PE is ~9.
- FY2024 - 9 brokers - mean of $24.55 and low/high of $21.17 - $26.40. Using the mean estimate, the forward adjusted diluted PE is ~8.2.
Management's FY2022 diluted EPS forecast is $18.60 - $19.60 before the year-end MTM retirement plans accounting adjustment. Using the $19.10 mid-point, the forward adjusted diluted PE before the year-end MTM retirement plans accounting adjustment is ~10.55.
Management's FY2022 diluted EPS forecast before several adjustments (see above) is $20.50 - $21.50. Using the $21 mid-point, the forward adjusted diluted PE before the year-end MTM retirement plans accounting adjustment is ~9.6.
On a GAAP EPS basis, FDX has generated $12.17 in YTD diluted EPS. If we estimate FDX will generate $4.10 of diluted EPS in Q4, we end up with ~$16.27 in projected FY2022 diluted EPS. Using the current ~$201.50 share price, the forward diluted PE is ~12.4.
In comparison, FDX's FY2011 - FY2021 diluted PE levels are 15.18, 14.72, 27.81, 22.01, 37.81, 27.02, 22.98, 8.79, 432.03, 28.25, and 14.24.
FDX's FY2019 diluted PE is extremely high. This is because the $3.882B retirement plans mark-to-market loss (a non-cash charge) grossly distorts GAAP earnings. In contrast, FDX reported a $0.794B loss in FY2020 and a $1.176B gain in FY2021. Further details on FDX's retirement plan costs in FY2019 - FY2021 are found in NOTE 14: RETIREMENT PLANS in the FY2021 Form 10-K starting on page 102 of 368.
In the first 9 months of FY2022, FDX has reported a $0.26B retirement plans mark-to-market loss. Further details on FDX's YTD FY2022 retirement plan costs are found in the Q3 FY2022 Form 10-Q starting on page 14 of 74.
Final Thoughts
Management is confident the company will deliver strong Q4 results. Uncertainty, however, remains regarding additional pandemic developments, the labour market, inflation, high energy prices, further geopolitical risk and the potential effects on the pace and timing of global economic activity. These uncertainties are likely contributing to FDX's attractive valuation.
I think domestic/international e-commerce tailwinds should remain favourable over the long term thus benefiting FDX.
Furthermore, FDX continues to invest heavily to strengthen its ground and express capabilities and its extensive international shipping network. This makes it extraordinarily difficult for a competitor to duplicate.
On June 23, FDX will release Q4 and FY2022 results. On June 28 and 29, FDX will hold its Investor and Analyst meeting. At these events, I expect management will announce that the very costly TNT integration is complete. As soon as this integration is complete, I envision improved results from the European region.
The bulk of any FDX investment return is likely to continue to be derived from capital gains as opposed to dividend income. Looking at FDX's historical stock chart over the long term, we see that the share price has been extremely volatile; I envision this will continue going forward. This is why it is extremely important to acquire shares when the company falls out of favour with the investment community and FDX's valuation is appealing.
FDX currently appears to have fallen out of favour with the investment community. Rather than wait for the release of FY2022 results to determine if I should increase my FDX exposure, I have acquired a few additional shares. Regrettably, I am forced to severely limit my purchase because I require existing liquidity in the account through which I initiated the additional purchase to meet income tax obligations.
I hold shares in a 'Side' account within the FFJ Portfolio and in a retirement account for which I do not disclose details. Although I could acquire additional shares in the retirement account, I am looking to deploy available funds toward other investment opportunities.
I wish you much success on your journey to financial freedom!
Note: Please send any feedback, corrections, or questions to [email protected].
Disclosure: I am long FDX and UPS.
Disclaimer: I do not know your circumstances and do not provide individualized advice or recommendations. I encourage you to make investment decisions by conducting your research and due diligence. Consult your financial advisor about your specific situation.
I wrote this article myself and it expresses my own opinions. I do not receive compensation for it and have no business relationship with any company mentioned in this article.
