FedEx (NYSE: FDX) shares had a great run in 2017, up 34.02% for the year. The early days of 2018 have been just as strong. Can the company continue to deliver oversized returns to shareholders in the new year?
Solid recent results
FedEx in late December released fiscal second-quarter earnings that gave cause for optimism, beating estimates and raising its full-year outlook to a range of $11.45 to $12.05 in adjusted earnings per share from $11.05 to $11.85 previously. Both the company and its archrival UPS are feeling good enough about demand to raise prices, with FedEx hiking shipping rates by an average of 4.9% on Jan. 1.
FedEx's ground margins expanded for the first time in more than a year during the recently completed quarter, and CEO Fred Smith on a call with investors said "we are confident" the company can boost earnings, margins, and cash flow in the years ahead. The company has been spending heavily in recent years to build out its infrastructure to accommodate growing demand for e-commerce shipments, but says the worst of that expense is now behind it.
Timely tax relief
During FedEx's December earnings call, management said that the tax reform package that at the time was making its way through Congress would add an additional $4.40 to $5.50 to fiscal adjusted earnings per share in 2018. That package was later passed, and analysts have in recent weeks been upping FedEx estimates as a result.
FedEx paid an effective tax rate of 34.6% in 2017 and had forecast a rate of between 32% and 35% in the current fiscal year prior to new legislation. Changes in how the company can value deferred tax liabilities, as well as the cut in the corporate rate to 21%, should bring that number down sharply.
In addition to the normal expenses associated with maintaining its extensive collection of trucks, planes, warehouses, and distribution centers, FedEx has an expensive project in trying to integrate Netherlands-based TNT Express, which was bought in early 2016. The tax overhaul should provide the company with capital to accelerate infrastructure spending or to pay down its more than $14 billion in long-term debt, without having to sacrifice the dividend or reduce buybacks.
Indispensable role in e-commerce
FedEx has long been one of the winners from the growth in e-commerce. That should continue as the company builds out a slate of products designed to not just deliver goods, but also to help traditional brick-and-mortar retailers better compete against online giant Amazon.com.
In 2016 the company acquired Genco, a company that handles returns and repairs for e-commerce sellers (the industry niche is known as "reverse logistics"), giving FedEx the ability to manage a part of the business that, if left in-house, can be a major hassle for a retailer. FedEx claims that returns represent between 20% and 30% of all e-commerce goods transported within its network.
FedEx also offers smaller retailers logistical services, including warehouse management and inventory fulfillment, and boasts that its network of facilities allows it to reach 94% of the U.S. population within two days through its ground service.
FedEx delivers for Amazon as well, and faces some risk as Amazon continues to build out its internal logistics platform. But no single customer represents more than 3% of total FedEx sales. And while it is possible that retail rivals will one day use Amazon logistics the way tech companies now use Amazon Web Services, that risk seems remote for the foreseeable future. For now, Amazon's rapid growth is more of an opportunity for FedEx as it spurs other retailers to increase their own online efforts.
So is FedEx a buy?
FedEx today is something of a Rorschach test for investors. Bears can note that the stock is now trading at an all-time high and reasonably argue a repeat of 2017's massive gains is unlikely. But bulls would note that, trading at 24 times trailing earnings and 1.14 times trailing sales, FedEx is near its 10-year average valuation and actually cheaper than UPS.
There is headline risk to FedEx due to the TNT integration and Amazon's build-out. But over the longer term, the company is well-positioned to play an important role in what might be the biggest trend transforming retail since the birth of the department store. FedEx could be a solid investment for any long-term portfolio.
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John Mackey, CEO of Whole Foods Market, an Amazon subsidiary, is a member of The Motley Fool's board of directors. Lou Whiteman has no position in any of the stocks mentioned. The Motley Fool owns shares of and recommends Amazon. The Motley Fool recommends FedEx. The Motley Fool has a disclosure policy.