FedEx: Sweeping Restructuring Plan as FDX Seeks Rally from Recent Setbacks

Excerpt from Footnotes and Flashbacks: Week Ended April 9, 2023

For our micro section this week, we dug into the FedEx news as the company announced a sweeping restructuring plan that would include $4 bn in cost savings by fiscal 2025 with an additional $2 bn in the planning stages to be in place by FY 2027 for a total of $6 bn.

The company raised its dividend by 10% and dialed back some of its revenue projections (by $5 bn-$10 bn to $100 bn revenues) while targeting a 10% operating margin that still calls for $10 bn in operating income by FY 2025.

FedEx has had a rough time since its investor day and major planning presentation in late June 2022. Within a few months of that Investor Meeting, FDX had pulled its guidance for the year ahead of the F1Q23 earning report (August quarter, FDX is a May fiscal year). The announcement after the market close on Sept 15 sent the stock down by almost 22% the next day for its worst trading day ever. 

As detailed in the chart below, that performance led FDX to lag UPS as a freight bellwether but also lag the overall Transport peer group. FDX has been digging out of the hole since. Last week’s news showed the seriousness of its commitment to move the needle on its financial performance and earn back some market credibility.

As noted, the plunge in FDX equity in mid-September was the worst in the company’s history and was worse than the FDX equity decline in the stock market crash of 1987 (FDX modestly outperformed the Dow decline of over 22% that day). The above chart starts the total return comparison on March 1, 2022, just ahead of the end of ZIRP as inflation forces were rising with the Fed needing to embark on an aggressive round of inflation fighting that came with the steady tightening we have been covering in other commentaries. 

For a capital intensive and cyclical business, the question marks have weighed heavily on FDX and raised many questions on the direction of the major freight and logistics players who were fighting their way through a few years of massive supply chain disruptions on the sea, on the land, at the ports, or in the air.  The challenges to the major freight players have been splattered all over the headlines since COVID, and FDX had it harder than most.

A few years of struggling in the market for FDX…

The chart below looks at the period from the “Vaccine Day” of 11-9-20 (the day the news broke on the vaccine) on across through the current period. We frame FDX vs. UPS and the XTN ETF. We chose XTN (the SPDR Transportation ETF) over IYT since IYT had a high issuer concentration with over 1/3 in UPS and UNP. In contrast, XTN has a more comprehensive cross-section of transportation related names with low single digit concentrations in the Top 10 holdings. Both UPS and FDX are large cap S&P 500 names with UPS at around $161 bn in market cap and FDX at $58 bn.

The mega-freight players are always useful bellwethers for economic cycles globally as well as in the US. Whether tied to tonnage or some other volume metric such as miles, they are often viewed as key leading indicators used as proxies for the cycle. They lose some of that value when they have structural setbacks (e.g., excess capacity) or execution setbacks (network efficiency), but the volume signals still matter as cyclical sentiment shapers. What the market is seeing in intermediate term retrenchment on the revenue line is a bearish signal measure.

It’s a difficult fact for FDX fans to absorb that the company is pulling back from its longstanding model of individual units operating more as stand-alone businesses by shifting to a new structure that integrates Ground and Express (“One FedEx”). FedEx Freight is the LTL Trucking business and will continue to operate as a stand-alone operation. Ground and Express comprise almost 85% of revenues, so that restructuring of operations is the main event.  

Going into all the segment and operating history takes a deeper dive than we can do here and will be for another day, but the main point is taking action (and the execution risks that comes with it). The plan is to improve services and efficiencies and make changes to the operating model that will take out $6 billion in costs. 

The terms Network 2.0 and DRIVE programs are not new and have been discussed for some time now. The headlines this past week were more about infill on the details and clarity on the structural changes that will allow FDX to take on the next round of challenges facing the industry. There was some discussion on topics such as fleet size and mix, lower aircraft capex, retirements (MD-11s) and modernization, but there will be a lot more details ahead.

There was a mixed reaction from equity commentators from what we saw apart from the sense of good news that more action was being taken. FDX is still near the top on some bull lists but there are also skeptics around how much was new in the latest headlines as opposed to a continuation of what in substance were actions on the list already around costs and rationalization of their asset base and network.  The setbacks and reversals in 2022 leave some in a wait-and-see mode.

We would say it is hard to doubt that FDX will make significant progress given the history of this iconic company and the scale, breadth, asset base and cash flow of FDX to deploy. It is easier to get comfortable with the credit quality than the equity picture given the execution risk and the shifting tides and operational challenges of freight and logistics in global context. There are a lot of moving parts.

The COVID disruptions and geopolitical risks got the world thinking a lot more about how fragile supplier chains can be as well as freight and logistics functionality. The uncertainty, as well as the importance of where companies that move supplies fit into the picture was hammered home in 2020-2021 and in China into 2022. The more you read trade rags like Journal of Commerce, your head starts to spin with many developments across markets and freight services subsectors.

China is a cyclical question mark and trade tension runs high. With Taiwan that could get worse. There is a major land war in Europe with cyclical concerns. Meanwhile, the US is now staring at inflation (even if lower) and possible stagflation.  We see higher fears of credit contraction after the regional banking mess. The role of Amazon in freight has been a hot topic in recent years with worries about excess supply flowing into pricing. The same is true with global growth of air freight carriers as that intermittently raised capacity fears and pricing fallout.

For bondholders, FDX has enormous flexibility around its capex programs, which the company indicated would be scaled back relative to revenue. We will see more network changes and outsourced solutions as part of the next evolution.