FedEx Beats Top-Line Expectations on Mixed Fundamentals

FedEx Corporation

has just reported strong earnings growth for the third quarter of fiscal 2012, beating bottom-line expectations while coming in slightly lighter on the top-line on the back of positive-to-mixed operational trends across its business segments. FedEx reported diluted earnings per share of $1.65 for the quarter ending in February 29, 2012. Excluding a $0.10 reversal of a legal reserve, non-GAAP EPS is $1.55, which is up from $0.81 on the same quarter a year ago. On average, analysts had expected the company to report $1.35 in diluted EPS. EPS estimate outperformance came on revenues that missed estimates slightly. Analysts had expected around $60 million more in revenue than FedEx's reported $10.56 billion. Revenue was up 9 percent on last year's $9.6 billion. Operating margin saw even better improvement to last years, up 107 percent at $813 million. This lead to an operating margin of 7.7 percent compared to 4.1 percent in the previous year. The company's CEO Frederick W. Smith said results were driven by improving yields, record holiday package shipping and exceptional performance at FedEx Ground. The company's Ground segment saw 14 percent more revenues and 43 percent more operating income for this Q3, compared to last year's. Outperformance came on 5-percent-higher volumes, 8 percent higher revenue per package, as well as a 13 percent growth in e-commerce volume. The company's Freight segment also posted significant improvement, nearly breaking even (negative 0.1 percent) compared to an operating loss of 9.8 percent last year. Significantly milder weather comparison with last year helped this outperformance, in addition to higher base yields as well as higher fuel surcharges. Fuel surcharges contributed in operating earnings across the board, but especially in the Express segment, due to a timing lag existing between when fuel prices change and when indexed fuel surcharges automatically adjust. John Barnes, Managing Director of RBC Capital pointed out that rising fuel costs are nonetheless bound to be a headwind in the near-term future. “It will hurt them when it comes to raising rates in the future,” he told CNBC's Squawk Box. FedEx Express remains an area of concern, however. Although the company saw 8 percent more revenue in the Q3 of this year versus that of the last--and an operating income of $349 million that is nearly double on last year's $178 million--the increase was driven by higher rates per pound and the aforementioned fuel surcharges. Average daily volumes actually decreased by 1 percent. In the earnings call, company officials attributed the slowdown in domestic volume to weaker demand related to a depressed activity, such as lower tech sector shipments in the channel, underperformance of finance, insurance and real estate sectors, and competitive losses due to the company's initiative to improve yield rates. An intentional mode shift between networks, aimed at improving the value proposition to consumers, was also quoted as impactful to volume trends in the segment. John Barnes of RBC Capital also hinted at such shifts, driven on the consumer side,in terms of a shift from Express to Ground products as a cheaper alternative for shipping. The company noted in the call that they were evaluating domestic capacity and efficiency of its Express divisions. They expected reduced full-time headcount by attrition--already down 3,500--route consolidation, and line haul efficiencies. The company suggested that efficiencies suffered due to lower-than-expected volumes in the quarter. Going forward, the company expected its performance to continue into its fourth quarter and to cap off a strong fiscal year. Projected earnings for the next quarter are between $1.75 and $2.00 per diluted share, and an adjusted $6.35 to $6.60 for the fiscal year. Moderate global economic growth and the current outlook for fuel prices, most notably jet fuel, are strong considerations into this guidance. Seasonally, the fourth quarter is one of the strongest, whereas the quarter just ended was one of the weakest, thus the company expects strong sequential improvement. Lower-than-expected PMI readings from China are expected to weigh in on overall outlook. However, so are potentially improving Asia shipping datapoints, especially in light of increased shipping demand related to Apple

new product shipments. FDX is currently down -1.82 in premarket trading, suggesting that investors may have expected better sequential quarterly improvement given the exceedingly midler winter.