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FedEx Remains Neutral

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On Oct 4, we maintained our Neutral recommendation on FedEx Corporation (FDX - Free Report) . While the company’s first quarter fiscal 2014 earnings surpassed the Zacks Consensus Estimate, revenues were in line with our expectation. Currently, the Zacks Consensus Estimate for the company is pegged at $1.62, representing an annualized growth rate of 16.32%.

Why Retained?    

FedEx remains on a solid growth trajectory with significant earnings momentum. For fiscal 2014, the company estimates 7–13% earnings per share growth from fiscal 2013 figures. FedEx foresees modest growth in the global economy, driven by gradual improvements in Europe and China. Based on this, the company foresees global GDP growth of 2.0% and 2.9% for calendar year 2013 and 2014, respectively.

In addition, we are encouraged by the company’s ability to achieve $1.6 billion in incremental profit at FedEx Express and its target of 30% improvement in fuel efficiency of its fleet by 2020.

Other than gaining $600 million in cost savings through 2016 from the Voluntary plan, the company expects profits from infrastructural developments like aircraft modernization, aircraft maintenance processes, fuel consumption, increased productivity in pick-up and delivery services. FedEx is aggressively working on plans to curb over-capacity from Asian lanes to adjust traffic in lower yield networks and in this context, it expects to remove some of its networks between U.S. and Asia.

In fiscal 2014 and beyond, the company expects to increase capital spending in the Ground segment in order to meet growing demand. Based on higher demand assumption, FedEx anticipates a higher return on invested capital (ROIC) from such spending. In the Freight segment, management expects to further invest in technology to upgrade network and equipment and automation planning to enhance customer service levels in fiscal 2014.

However, we expect the global economic environment impacted by the European debt crisis and tardy Asian growth to remain detrimental to the company’s demand function. As a result, FedEx is experiencing a demand shift from premium services to deferred services within FedEx Express as customer preferences drift toward lower-yielding international services, lower rate per pound and weight per shipment. This will ultimately have a negative impact on operating margins.

In addition, the company derives a significant portion of its revenues from international operations, including business in the emerging markets. Emerging markets are more volatile than the developed world, and any broad-based downturn in these markets could reduce the company’s revenues and affect its financial position. Additionally, the company faces significant market risks arising from fluctuations in foreign exchange rates, commodity prices and interest rates.

Going forward, the company expects subdued revenue performance in the Freight segment in fiscal 2014 due to poor market demand in Less-Than-Truckload services. Depreciation expenses are also expected to increase due to accelerated retirement of old aircraft, which would cost around $74 million in fiscal 2014.

FedEx, which operates with freight forwarding carriers like United Parcel Service, Inc. (UPS - Free Report) , Radiant Logistics, Inc. (RLGT - Free Report) and Expeditors International of Washington Inc. (EXPD - Free Report) has a Zacks Rank #3 (Hold).

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