FedEx Corporation — Form 10-Q Summary
Reporting period: Fiscal third quarter ended February 28, 2017, with year-to-date results for the nine months then ended. The filing is sometimes labeled “2016 Q3” in the request metadata, but the report covers FedEx fiscal 2017 Q3. Dollar amounts are in millions unless stated otherwise.
Business context and financial performance
FedEx operates express, ground, freight and related transportation and business services. TNT Express, acquired in May 2016, is included in results from the acquisition date, limiting year-over-year comparability.
| Metric | Three months ended Feb. 28, 2017 | Nine months ended Feb. 28, 2017 |
|---|---|---|
| Revenue | $14,997; up 19% | $44,591; up 19% |
| Operating income | $1,025; up 19% | $3,456; up 10% |
| Operating margin | 6.8%; unchanged | 7.8%; down 0.6 percentage points |
| Net income | $562; up 11% | $1,977; up 5% |
| Diluted EPS | $2.07; up 13% | $7.31; up 9% |
| Operating cash flow | Not stated for the quarter | $2,645, down from $3,796 |
| Capital expenditures | Not stated for the quarter | $3,790, up from $3,562 |
Year-to-date operating cash flow less capital expenditures was negative $1,145, compared with positive $234 in the prior-year period. Management attributed lower operating cash flow principally to higher pension contributions, variable-compensation payouts and interest payments, partly offset by lower income tax payments. Cash and equivalents were $3,173 at February 28, 2017, versus $3,534 at May 31, 2016.
At February 28, total debt was approximately $14,758, including $45 of current debt; long-term debt was $14,713. Debt increased from $13,762 at May 31, 2016. The company had a $1.75 billion revolving credit facility, no commercial paper outstanding, and a debt-to-adjusted-EBITDA covenant ratio of 1.9x against a 3.5x maximum. Management said cash, operating cash flow and financing sources were adequate for liquidity needs. Current assets were $11,938 and current liabilities $7,450.
Material changes and segment trends
- TNT Express: Contributed $1,790 of Q3 revenue and $2 of operating income; year-to-date revenue was $5,493 and operating income $58. Results included integration costs and acquired-intangible amortization.
- FedEx Express: Q3 revenue rose 3%, but operating income fell 7% to $555 and margin declined to 8.2% from 9.1%. Year-to-date operating income rose 3% to $1,815.
- FedEx Ground: Q3 revenue rose 6%, while operating income fell 8% to $515 and margin declined to 11.0% from 12.6%. Year-to-date operating income declined 2% to $1,590.
- FedEx Freight: Q3 revenue rose 3%, but operating income fell 27% to $41 and margin declined to 2.7% from 3.9%. Year-to-date operating income fell 9% to $264.
Management cited yield and volume growth, partly offset by fuel effects and one fewer operating day at Express and Ground. Ground also faced higher rent, depreciation, staffing and purchased transportation costs associated with network expansion. Freight faced higher operating costs and a weak U.S. industrial environment.
Consolidated comparisons were affected by prior-year charges: $204 of independent-contractor litigation expense in Q3 2016 and $245 year to date, plus a $69 CBP duty-and-fee settlement in both comparison periods. In 2017, FedEx recorded $78 of TNT integration expense in Q3 and $204 year to date, plus $16 and $54, respectively, of acquired-intangible amortization. A share-based payment accounting change benefited net income by $21 in Q3 and $42 year to date.
Outlook, risks and contingencies
- Management expected volume and yield growth at Express and Ground, together with TNT inclusion, to drive Q4 and full-year earnings growth before any pension mark-to-market adjustment. Results remained exposed to fuel prices and global economic conditions.
- FedEx estimated approximately $300 of TNT integration costs in fiscal 2017 and approximately $800 over four years. Integration was expected to take four years. The company targeted $1.2–$1.5 billion of FedEx Express group operating-income improvement in 2020 versus 2017, assuming moderate economic growth and current accounting and tax rules.
- 2017 capital expenditures were forecast at approximately $5.3 billion. Management expected no further U.S. pension-plan contributions in Q4; through the filing date, contributions totaled $2.0 billion. The plans expected to pay more than $1 billion in Q4 to former employees electing early benefits.
- The expected fiscal 2017 effective tax rate was approximately 35% before any year-end pension mark-to-market adjustment. Management expected longer-term tax-rate benefits as TNT synergies generated more international profits.
- FedEx Ground contractor-classification litigation remains material. The filing reported a $204 liability for expected losses in certain matters and a $228 California settlement subject to appeal. Other contractor cases could result in material losses, though the company could not estimate a range.
- A FedEx Trade Networks review of potentially improper customs-duty claims identified probable losses; the amount could not yet be estimated and a material loss was reasonably possible. New York cigarette-shipment claims were reasonably possible, with expected loss described as immaterial. An alleged California hazardous-waste matter was assessed as a probable immaterial loss.
- Other principal risks include TNT integration execution, fuel and foreign-exchange movements, demand and pricing, competition, labor and pension costs, technology disruption, regulation, and litigation. The filing reported no material change in risk factors from the prior Form 10-K.
Key facts investors should verify
- Separate organic performance from the revenue and earnings contribution of acquired TNT Express, and track its low reported operating margin and integration costs.
- Reconcile the decline in operating cash flow and negative cash flow after capital expenditures with pension funding, working-capital movements and planned investment.
- Monitor Ground and Freight margin pressure, including network expansion costs, purchased transportation rates, shipment mix and yield trends.
- Assess whether integration costs, synergy realization and the 2020 operating-income target remain on schedule; the purchase-price allocation was still preliminary.
- Review the outcome and potential financial exposure of contractor, customs and other legal proceedings, including matters for which losses are probable or reasonably possible but not estimable.