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Investment Overview for UPS (NYSE:UPS)
Below are key drivers of UPS that present opportunities for upside or downside to the current Trefis price estimate.
US Domestic Ground Package
- U.S. Domestic Package EBITDA Margin: Historically, the US Domestic Package EBITDA margins (includes all three sub-divisions) has stayed around the 17% - 18% mark, but increased significantly, to 22%, in 2015 driven by declining fuel prices and improving operational efficiencies. We expect margins to remain over 20% for the rest of our review period. If EBITDA margins for all three sub-divisions decline to the historical level of 17%, there will be a more than 15% downside in our price estimate for UPS.
- International Package EBITDA Margin: The international package (includes the three sub-divisions) EBITDA margin remained close to 20% between 2011-2014, but increased to 26% in 2015. We forecast the figure to remain close to the current level for the rest of our review period. However, if EBITDA margins for the three sub-divisions of the International Package business decline to 20% over our review period, there will be a less than 10% downside in our price estimate for UPS.
United Parcel Service, Inc. ("UPS") is the world's largest package delivery company, a leader in the U.S. less-than-truckload industry, and a global leader in supply chain management. It delivers packages each business day for 1.1 million shipping customers to 7.7 million consignees in over 220 countries and territories.
Its primary business is the delivery of packages and documents worldwide. The UPS service portfolio also includes global supply chain services and less-than-truckload transportation which is primarily in the U.S. Other business units within this segment include Mail Boxes Etc. and UPS Capital.
UPS operates a ground fleet of approximately 101,000 vehicles which reaches all business and residential zip codes in the contiguous U.S. It also operate an air fleet of 523 aircrafts and is one of the largest airlines in the world. The firms primary air hub is in Louisville, Kentucky. Regional air hubs are located in Hartford, Connecticut; Ontario, California; Philadelphia, Pennsylvania; and Rockford, Illinois. Its largest international air hub is in Cologne, Germany, with other regional international hubs in Miami, Florida; Canada; Hong Kong; Singapore; Taiwan; and China.
The US Domestic Package is the most valuable to the company because of the following reasons.
Highest number of shipments for US Domestic Package division
The US Domestic package division delivers a greater number of packages than the International Package division or UPS Freight. The total number of packages transported by the US Domestic division is more than 6 times the number transported by the International Package division.
The primary reason behind the high volumes of the U.S. Domestic Package is the booming e-commerce industry. With the North American e-commerce market forecast to grow more than 30% per year through 2018, we believe UPS's US Domestic Package segment will continue to grow in the coming years. (Link)
Moderated GDP growth forecasts
Demand for shipping volume is closely correlated with the overall consumer demand and GDP growth of an economy. The IMF recently lowered its global GDP estimate to 3.1% for 2015, which is marginally lower than figure recorded in 2014. The main reason for the revision was a slowdown in North America in the first and the fourth quarter of the year, while a slowdown in emerging market economies continued further. (Link) The global economy remained subdued in 2015 driven by the slowdown in China and gradual tightening in monetary policy in the United States. The first quarter of the year recorded better than expected growth figures in Japan driven by an increase in capital investment. Of the emerging markets, India is expected to show continued growth, while China's growth has slowed down considerably as the economy moves to a consumption-dominated economy.
Growing U.S. e-commerce industry
The growing e-commerce industry has been driving volumes at UPS's U.S. Domestic Package segment. In 2015, e-commerce sales grew 14.2%, increasing the segment's contribution to overall retail sales from 5.8% in 2014 to 6.5% in 2015. (Link) Not only is online shopping more convenient, but it has also become more accessible due to the increase in the number of smartphones and tablets available, supported with higher internet penetration. Many brick-and-mortar retailers have rolled out online shopping portals to cater to the growing online retail shopping customer base. Deals and discounts on online shopping also encourage customers to purchase via websites rather than traditional stores. UPS’ package volume is directly impacted by e-commerce sales since many online retailers, such as Amazon (NASDAQ:AMZN), employ UPS’ services in order to offer their customers timely and economical delivery of products. With the North American e-commerce market forecast to grow more than 30% per year through 2018, we believe UPS's US Domestic Package segment, in the long run, should continue to grow in the coming years. (Link)
Over the last 2 years, UPS has faced problems in dealing with the high volumes during the peak holiday season. In 2013 during the holiday season, deliveries were hurt by bad weather and inadequate planning. In 2014, the company over invested, leaving a dent in their top line for the fourth quarter. But, in 2015, UPS reversed this trend by successfully adopting a broad strategy aimed at better handling the seasonal volume changes.
Dimension based pricing
In the past (prior to 2014), UPS's margins declined due to the growing number of light-weight yet bulky packages. Since these packages are priced on the basis of their weight, they generate lower revenues due to lesser packages carried per vehicle or aircraft. In order to realize better prices from such packages, UPS has decided to follow a dimension based pricing strategy which will result in a 30-50% increase in pricing of the light-weight yet bulky packages. This strategy, which was effective from December 29, 2014, helped improve margins.
Demand for cheaper shipping options and higher competition from sea-borne shipping
There has been a clear trend of customers shifting from premium services to slower or deferred products while seeking lower shipping expenses. The air freight carriers are accordingly facing higher market share competition with seaborne shipping that offers lower rates.
Increased international trade in finished goods translates into more packages shipped over longer distances. But the potential benefits of international trade for UPS are not limited to growth in the parcel carrier market. Many developed world businesses already purchase materials they use from abroad, and this practice which is known as global sourcing is on the rise.
For businesses, the downside of global sourcing is complex supply chains that present previously unknown risks. For businesses facing import/export regulations and international transportation logistics for the first time, the appeal of outsourcing supply chain management is obvious. UPS Supply Chain Solutions hopes to capitalize on a projected increase in the market for third party supply chain managers.
How Does Trefis Modelling Work?
How do we get the historical numbers for this chart?
Trefis has a team of in-house Analysts who gather historical data from company filings and other verifiable sources. When historicals are available, we explain how we got them at the bottom of the Trefis analysis section below.
Who came up with the Trefis forecast for future years?
The Trefis team of in-house Analysts considers a variety of factors when projecting any forecast. The rationale for our projections is explained in the Trefis analysis section below.
How does my dragging the trendline on the chart impact the stock price?
- We use forecasts for business drivers to calculate forecasted Revenues and Profits for each division of the company.
- We then use forecasted Profits in a Discounted Cash Flow (DCF) model to obtain the Price Estimate for the company.
See more on: DCF Methodology
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