Business context and reporting period
United Parcel Service, Inc. (UPS) filed this unaudited Form 10-Q for the quarter and six months ended June 30, 2018. UPS operates through U.S. Domestic Package, International Package, and Supply Chain & Freight. Comparisons below are with the corresponding 2017 periods unless stated otherwise.
Financial performance and liquidity
| Metric | Q2 2018 | Six months 2018 |
|---|---|---|
| Revenue | $17.456 billion, up 9.6% | $34.569 billion, up 10.0% |
| Operating profit | $1.773 billion, down 13.0% | $3.293 billion, down 9.9% |
| Operating margin | 10.2%, versus 12.8% | 9.5%, versus 11.6% |
| Net income | $1.485 billion, up 7.3% | $2.830 billion, up 11.0% |
| Diluted EPS | $1.71, up 8.2% | $3.25, up 11.7% |
| Cash from operations | Not separately presented in the filing excerpt | $7.200 billion, versus $2.621 billion |
| Capital expenditures | Not separately presented in the filing excerpt | $2.849 billion, versus $2.009 billion |
Revenue growth reflected higher average revenue per piece and package volumes. Q2 average daily package volume rose 3.0% and average revenue per piece rose 4.6%. Higher operating expenses—especially compensation, purchased transportation and fuel—grew faster than revenue and compressed operating margins. The effective tax rate fell to 22.9% for Q2 and 21.1% year to date, primarily due to the Tax Cuts and Jobs Act’s lower U.S. corporate tax rate.
At June 30, cash and cash equivalents were $4.214 billion, marketable securities were $720 million, and cash, cash equivalents and restricted cash totaled $4.491 billion. Management reported $4.934 billion in cash, cash equivalents and marketable securities. Total debt carrying value was $22.711 billion, including $2.591 billion of current maturities and commercial paper; long-term debt was $20.120 billion. UPS reported no borrowings under its $4.5 billion and $3.0 billion revolving credit facilities and said it was in compliance with debt covenants.
Material changes and segment results
- U.S. Domestic Package: Q2 revenue increased 6.3% to $10.354 billion, while operating profit fell 25.2% to $939 million and margin declined to 9.1% from 12.9%. Excluding $196 million of transformation costs, operating profit was $1.135 billion, down 9.6%. Costs reflected volume growth, wage and benefit increases, fuel, outside carriers, Saturday operations, and investment in facilities and technology.
- International Package: Q2 revenue increased 13.6% to $3.602 billion; operating profit rose 8.4% to $618 million, with margin at 17.2% versus 18.0%. Excluding $36 million of transformation costs, operating profit was $654 million, up 14.7%. Volume, premium-product mix, fuel surcharges and currency supported results.
- Supply Chain & Freight: Q2 revenue increased 16.1% to $3.500 billion; operating profit rose 1.9% to $216 million, with margin at 6.2% versus 7.0%. Excluding $31 million of transformation costs, operating profit was $247 million, up 16.5%. Growth in forwarding and freight was partly offset by higher purchased transportation and other operating costs.
Operating cash flow increased substantially, but the comparison was heavily affected by pension contributions: UPS contributed $92 million to company-sponsored plans in the first half of 2018 versus $2.530 billion in 2017. Cash flow also benefited from tax receipts, including a refund associated with a $5.0 billion pension contribution made in December 2017, and working-capital changes. Investing cash use was $2.820 billion; financing cash use was $3.607 billion, including $1.507 billion of dividends and $521 million of reported share repurchases. Debt-to-total-capitalization was 90.6% at period end.
Outlook, management commentary, risks and unusual items
- Management expected 2018 capital expenditures of approximately $6.5–$7.0 billion and anticipated about $1.0 billion of share repurchases. It said current liquidity, capital-market access and operating cash flows should support operations, investment, dividends, repurchases and debt payments over the next several years. No full-year earnings or revenue guidance is provided in the supplied filing text.
- UPS launched a multi-year transformation strategy. Q2 charges were $263 million pre-tax ($200 million after tax): $192 million for a voluntary retirement program and $71 million for other costs. Management said expected efficiency and growth benefits, particularly in U.S. operations, would not be fully realized until future periods.
- Labor negotiations were a key execution risk. The Teamsters national agreements ran through July 31, 2018; tentative five-year agreements had been reached for Domestic Package and UPS Freight, but ratification and supplemental-agreement negotiations remained ongoing as of the filing. UPS also reported ongoing negotiations with airline mechanics.
- UPS disclosed a potential exposure of up to $247 million plus interest in the New York cigarette-delivery case; $9.4 million was accrued, and UPS appealed. A Spanish competition authority imposed a €19.2 million fine, which UPS appealed and sought to suspend. The company could not estimate potential losses from a U.S. Department of Justice investigation concerning USPS international air contracts or a Turkish competition investigation.
- A potential Central States Pension Fund insolvency could require coordinating benefits and increase the UPS/IBT Plan projected benefit obligation by approximately $4 billion, though UPS had recognized no liability for additional benefits based on its best estimate. The outcome remains uncertain.
- UPS adopted new revenue-recognition, restricted-cash and pension-cost presentation standards retrospectively. It also early adopted an accounting change that shifted $735 million from accumulated other comprehensive loss to retained earnings. A new lease standard effective in 2019 was expected to materially change the balance sheet; UPS cited $1.637 billion of future minimum operating-lease commitments at December 31, 2017.
- Other risks identified include fuel and currency movements, competition, labor disruption, pension and benefit costs, litigation, cybersecurity and technology disruption, regulatory changes, and economic conditions. The filing reported no material change to previously disclosed risk factors.
Most important facts for investors to verify
- Whether revenue growth and higher yields can translate into improved operating profit and margins after elevated labor, fuel, carrier and network costs.
- How much first-half operating cash flow reflects sustainable operating performance versus pension-contribution timing, tax refunds and working-capital movements.
- Progress and realized savings from the transformation strategy, alongside its total costs and implementation effects.
- Ratification and cost implications of labor agreements, and developments in the Central States pension matter.
- Outcomes and any changes in loss estimates for the New York case, Spain fine, DOJ inquiry and Turkish investigation.
- Funding needs for the announced capital-spending program, debt maturities and planned shareholder returns, including the company’s high debt share of capitalization.