FedEx Corporation — Q1 FY2016 Form 10-Q
Reporting period: Three months ended August 31, 2015; comparisons are with the three months ended August 31, 2014 unless noted. Amounts are in U.S. dollars. The interim statements are unaudited and the filing cautions that quarterly results are not necessarily indicative of full-year results.
Business context and results
FedEx provides express, ground, less-than-truckload freight, logistics and related services. Revenue rose 5% to $12.279 billion. Management attributed the increase mainly to Ground growth, GENCO acquisition revenue, one additional operating day, and a prospective change to reporting SmartPost revenue gross rather than net. The SmartPost presentation change added approximately $240 million to reported revenue; it also increased reported expenses and is not, by itself, equivalent to underlying growth.
| Metric | Q1 FY2016 | Q1 FY2015 | Change |
|---|---|---|---|
| Revenue | $12.279 billion | $11.684 billion | +5% |
| Operating income | $1.144 billion | $1.062 billion | +8% |
| Operating margin | 9.3% | 9.1% | +20 basis points |
| Net income | $692 million | $653 million | +6% |
| Diluted EPS | $2.42 | $2.26 | +7% |
| Declared dividends per share | $0.50 | $0.40 | +25% |
Segment performance
- Express: Revenue declined 4% to $6.591 billion, while operating income increased 45% to $545 million and margin improved to 8.3% from 5.5%. Higher base yields, an additional operating day, lower international expenses and profit-improvement initiatives supported results. International volumes, yields and revenue were pressured by foreign exchange and weaker activity in some services.
- Ground: Revenue increased 29% to $3.830 billion, including $370 million from GENCO and the SmartPost gross-reporting change. Operating income slipped 1% to $537 million; margin fell to 14.0% from 18.4%. Higher self-insurance and operating costs, GENCO, and gross presentation weighed on margin; package volume grew 4%.
- Freight: Revenue was essentially flat at $1.601 billion. Operating income declined 21% to $132 million and margin fell to 8.2% from 10.4%, reflecting lower-than-anticipated demand, higher compensation costs and a facility-closure charge.
Cash flow, liquidity and capital
- Operating cash flow was $1.241 billion, versus $982 million a year earlier. Capital expenditures were $1.209 billion, up from $720 million, principally due to aircraft investment. Cash flow from operations less capital expenditures was approximately $32 million for the quarter.
- Cash and cash equivalents were $3.543 billion at August 31, down $220 million from May 31. The filing states that $448 million was held offshore under a permanent-reinvestment strategy.
- Long-term debt was $7.244 billion, plus $14 million current portion. The $1 billion revolving credit facility was fully available; no commercial paper was outstanding. FedEx reported a 61% adjusted-debt-to-capital leverage ratio against a 70% covenant limit and said it was in compliance.
- Management forecast FY2016 capital expenditures of approximately $4.6 billion and said operating cash flow was expected to fund them. Total contractual obligations were reported as $44.578 billion, including $16.373 billion in operating leases and $12.820 billion in aircraft and aircraft-related commitments; these amounts span multiple years and are not a forecast of total cash spending.
- FedEx repurchased 1.1 million shares for $190 million at an average $172.30 per share. It paid $71 million in dividends during the quarter.
Changes, outlook and notable items
- Management expected revenue and earnings growth in Q2 and for FY2016, before any year-end mark-to-market pension adjustment, citing expected transportation-segment volume and yield growth and ongoing profit-improvement programs. The outlook depended on fuel prices and global economic conditions and did not include effects of a potential TNT Express acquisition.
- The effective tax rate was 36.2%; management expected 36.0%–37.0% for FY2016 before any pension mark-to-market adjustment.
- FedEx expected to acquire TNT Express for €4.4 billion (then approximately $5.0 billion), with completion expected in the first half of calendar 2016, subject to customary approvals and competition clearances. Management expected to fund it with cash and available financing.
- FedEx acquired GENCO for $1.4 billion in January 2015 and Bongo for $42 million in December 2014. Their results affect period comparisons. On July 21, 2015, FedEx Express also agreed to buy 50 additional Boeing 767 freighters, expected to be delivered from FY2018 through FY2023.
- FedEx Ground’s California independent-contractor case had a proposed $228 million settlement pending court approval. The filing also describes other contractor-classification litigation, with potential material exposure possible in some cases and no estimable range for certain matters.
- A federal criminal indictment concerning shipments for online pharmacies could result in material loss if FedEx is convicted; the company said it would vigorously defend itself and could not estimate a loss range. Other disclosed proceedings include New York cigarette-shipment litigation and environmental matters; management generally described expected losses in those matters as immaterial, with stated exceptions and uncertainties.
- FedEx Express pilots had reached a tentative collective-bargaining agreement, pending a membership vote. The filing also reports a $67 million benefit in “eliminations, corporate and other” associated with a change in pension-cost recognition; the text does not clearly isolate the net effect of related items.
- Foreign currency movements adversely affected some Express revenues, while the stronger U.S. dollar had a slightly positive overall effect versus May 31, 2015, according to the market-risk discussion. Fuel expense fell 36% year over year, but lower fuel surcharges meant fuel’s net effect on consolidated operating income was slightly negative.
Key facts for investors to verify
- Separate underlying volume, pricing and margin trends from the SmartPost gross-reporting change and GENCO’s acquisition contribution.
- Track Ground and Freight margins, self-insurance claims, shipment demand and the ability to manage operating costs.
- Assess execution, financing, regulatory clearance and integration risks for the proposed TNT Express acquisition.
- Monitor independent-contractor litigation, including court approval and payment timing for the proposed California settlement, and the pharmacy-indictment outcome.
- Compare the $4.6 billion FY2016 capital-spending outlook and aircraft commitments with operating cash generation and liquidity needs.
- Confirm pension contribution requirements, any year-end mark-to-market adjustment, and the precise effect of the reported $67 million item on comparable earnings.