FedEx Corporation — Q1 FY2011 10-Q
Reporting period: Three months ended August 31, 2010; comparisons are with the three months ended August 31, 2009 unless otherwise noted. FedEx provides express, ground, freight, logistics and related services. Interim results are not necessarily indicative of full-year results.
Financial performance
| Metric | Q1 FY2011 | Q1 FY2010 | Change |
|---|---|---|---|
| Revenue | $9.457 billion | $8.009 billion | +18% |
| Operating income | $628 million | $315 million | +99% |
| Operating margin | 6.6% | 3.9% | +270 bps |
| Net income | $380 million | $181 million | +110% |
| Diluted EPS | $1.20 | $0.58 | +107% |
| Operating cash flow | $796 million | $898 million | −11% |
| Capital expenditures | $1.012 billion | $880 million | +15% |
Operating cash flow less capital expenditures was negative $216 million, a derived measure. The cash-flow decline reflected prior-year tax refunds of $213 million versus $72 million of net tax payments in the current quarter, as well as $118 million of pension contributions. Cash decreased $243 million during the quarter to $1.709 billion.
- Revenue drivers: Management cited stronger global demand and volume growth across transportation segments, especially FedEx International Priority shipments. Higher fuel surcharges and package weights supported yields in Express and Ground.
- Segment results: Express revenue rose 20% to $5.912 billion and operating income increased to $357 million from $104 million (6.0% margin versus 2.1%). Ground revenue rose 13% to $1.961 billion and operating income increased 37% to $287 million (14.6% margin versus 12.1%). Freight revenue rose 28% to $1.258 billion, but the segment recorded a $16 million operating loss versus $2 million income, reflecting competitive discounted pricing and excess capacity.
- Costs and margins: Total operating expenses rose 15%. Fuel expense increased 33%, purchased transportation 26%, maintenance and repairs 29%, and salaries and benefits 13%. Management attributed cost growth to higher volumes and fuel, aircraft maintenance, restored compensation programs, and higher pension and medical costs. Fuel surcharges more than offset incremental fuel costs in the quarter under management’s static analysis.
- Retirement costs: Pension, defined-contribution and postretirement healthcare costs totaled $210 million versus $108 million a year earlier. Management cited lower discount rates and partial restoration of 401(k) matching. FedEx planned to fully restore the company match effective January 1, 2011.
Balance sheet, debt and liquidity
- At August 31, cash was $1.709 billion; current assets were $7.036 billion and current liabilities $4.541 billion. Total assets were $25.212 billion and stockholders’ investment was $14.205 billion.
- Long-term debt was $1.919 billion including the $251 million current portion; debt excluding capital leases had a $1.8 billion carrying value. The company had a $1 billion revolving credit facility, entirely available, with no commercial paper outstanding.
- The adjusted debt-to-capital covenant ratio was 0.5 against a maximum of 0.7; the company reported compliance with covenants. Its senior unsecured ratings were BBB (S&P) and Baa2 (Moody’s), both with stable outlooks.
- Capital spending was $1.012 billion, including $747 million for aircraft and related equipment. Management expected FY2011 capital expenditures of approximately $3.5 billion and believed operating cash flow and available financing would meet liquidity needs.
Outlook, material actions and risks
- Management expected continued revenue and earnings growth in Q2 FY2011, assuming ongoing global recovery, slower but sustained U.S. growth, improving yields and forecast fuel prices. It cautioned that restored compensation and benefits, pension and medical costs, aircraft maintenance and purchased transportation would weigh on FY2011 earnings growth.
- FedEx announced a January 30, 2011 combination of FedEx Freight and FedEx National LTL, targeting improved segment profitability in 2012. Estimated program costs were $150–$200 million, primarily in Q2 and Q3 FY2011; actions included about 1,700 job reductions and approximately 100 facility closures. Management expected the net cash effect to be immaterial over time, partly due to asset-sale proceeds.
- Aircraft commitments included 30 Boeing 777 Freighters and 18 Boeing 757s. The company planned further aircraft investment; it also entered an agreement after quarter-end to acquire one MD11 aircraft for expected 2011 delivery.
- Key uncertainties include fuel-price volatility and the six-to-eight-week surcharge adjustment lag, competitive pricing and demand, global economic conditions, foreign exchange, employee benefit costs, labor negotiations, and litigation concerning FedEx Ground owner-operator classification. Management said potential contractor-case losses or business-model changes could be material, but did not consider a material loss probable. A separate ATA Airlines contract claim sought $94 million; trial was scheduled for October 2010, and management did not consider a material loss probable.
- FedEx Express pilots’ collective bargaining agreement became amendable October 31, 2010; the financial effect of negotiations could not be estimated. The IRS was auditing 2007–2009 U.S. returns; the expected impact of possible tax changes was not considered material.
Most important facts to verify
- Whether volume, yield and demand improvements persisted beyond this quarter, particularly in International Priority and Ground.
- Whether the Freight/LTL combination achieved projected efficiencies and 2012 profitability improvement, and how actual restructuring charges and cash proceeds compared with estimates.
- Whether approximately $3.5 billion of FY2011 capital spending and aircraft commitments were funded without weakening liquidity or credit ratings.
- Actual pension, medical and compensation costs, required pension contributions, and the impact of fuel-price changes relative to surcharge adjustments.
- Developments and potential financial exposure in owner-operator classification cases, wage-and-hour litigation, the ATA claim, and pilot negotiations.
The independent accountant performed an interim review, not an audit, and reported no material modifications identified as necessary for GAAP conformity.