FedEx’s Margins To Grow On Aircraft Retirements and Pricing

+2.10%
Upside
288
Market
294
Trefis
FDX: FedEx logo
FDX
FedEx

FedEx (NYSE:FDX) is likely to see a strong improvement in its margins in 2015. The improvement is likely to come from initiatives such as retiring old inefficient planes and a shift to dimensional-weight pricing in response to the overwhelming e-commerce volumes. Revised fuel surcharge rates and the likelihood of the logistics industry now imposing peak-based surcharges could also drive an improvement in margins. In this article we take a look at these factors and how they will impact FedEx’s margins.

See our complete analysis of FedEx here

Accelerated Retirement Of Aircrafts

Relevant Articles
  1. Should You Pick FedEx Stock At $300 After Q3 Earnings Beat?
  2. What To Expect From FedEx’s Q3 After 20% Gains In A Year?
  3. Up 30% In A Year Is FedEx Stock A Better Pick Over UPS?
  4. With 20% Gains In A Month Is Target A Better Pick Over FedEx Stock?
  5. Will FedEx Stock Rebound To Its Pre-Inflation Shock Level of Over $300?
  6. Which Stock Is A Better Pick For The Next Three Years – FedEx Or UNH?

One of the major profitability improvement programs undertaken by FedEx includes replacing old inefficient aircrafts. To this end, FedEx recently announced that it has expedited the retirement of aircrafts and related engines, which will be likely replaced by new aircrafts with greater efficiency. ((FedEx Corp. Accelerates Aircraft Retirements, June 1, 2015, FedEx News Release)) Each such replacement can boost the company’s bottom line by $10 million. [1] However, the move has led to an impairment charge of $246 million in the fourth fiscal quarter. While this does not impact the company’s cash flows, as the charge is non-cash, it should temper FedEx’s reported earnings.

Dimensional Weight Pricing To Boost E-Commerce Package Revenues And Margins

In May 2014, FedEx announced that it would be applying dimensional weight pricing for all FedEx Ground packages, effective from January 5, 2015, as opposed to absolute weight based priced. [2] Dimensional weight can be calculated by multiplying the length, breadth and height of the package, and then dividing by 166. The change in pricing mechanism was aimed at generating higher revenues from lightweight e-commerce packages which occupy a large space in FedEx trucks. When charged simply on the basis of their weight, these products would generate revenues which did not justify the space they occupied. In order to charge a fair value for its most important asset, the space in its trucks, FedEx decided to move on to a dimensional weight based pricing.

The impact of the change in pricing mechanism proved to be beneficial for FedEx’s Ground segment in the third fiscal quarter. The segment’s revenue per package grew 3% as dimensional weight pricing charges and increases in base rates more than offset fuel surcharge headwinds. [3] Since the pricing mechanism covers operating costs more efficiently, it should not only increase revenues but also help improve margins.

Revised Fuel Surcharge Rates To Counter Impact Of Falling Fuel Prices

FedEx revised its fuel surcharge rates, which were effective from February 2. [4] The revision came after FedEx announced a decline in its fuel surcharge revenue in the second quarter of fiscal 2015, as a result of the falling prices of U.S. on-highway diesel fuel and U.S. Gulf Coast kerosene-type jet fuel.

In addition to increasing fuel surcharge rates, FedEx has also widened the range over which rates remain static. The difference in fuel surcharge rates becomes wider at lower prices when compared with previous rates. The higher rates and broader price ranges will allow FedEx to capture higher fuel surcharge revenue, which will help cover its fuel costs.

Logistics Companies Likely To Add Peak Based Surcharges

UPS (NYSE:UPS) and FedEx made significant investments in their networks in order to cater to the growing holiday season package volumes. The investments were either in the form of new technology, capacity expansion or increasing seasonal workers. Looking at the significantly improved delivery rates, it seems that the investments paid off. On December 24, the busiest day of the season, FedEx and UPS had delivery rates of 98%, compared to 90% levels in 2013. [5]

However, UPS’s pre-announcement of its poor fourth quarter results suggested that investing in improving the network may not be enough to deal with overwhelming holiday season package volumes. At its earnings meeting, UPS announced that it would be implementing a season-based surcharge, with deliveries made on peak days carrying a higher surcharge. [6] Industry experts believe that this is the best possible solution to help logistics companies to cover their operating costs, which are bound to surge with volume.

Given the history of FedEx and UPS following each other’s pricing mechanisms, it is likely that FedEx will soon announce a similar surcharge for its services during holiday season. This should also help improve FedEx’s margins.

View Interactive Institutional Research (Powered by Trefis):

Global Large Cap | U.S. Mid & Small Cap | European Large & Mid Cap
More Trefis Research

Notes:
  1. FedEx: Fleet Retirement Keeps 10% Margin Target in Sight, June 2, 2015, www.barrons.com []
  2. FedEx announces pricing Changes, May 2 2014, www.fedex.com []
  3. FedEx Q3 FY 2015 Earnings Release, March 18, 2015, www.fedex.com []
  4. FedEx Feb. 2, 2015, Fuel Surcharge Changes, www.fedex.com []
  5. FedEx, UPS step up their holiday shipping performance, January 1, 2014, www.washingtonpost.com []
  6. United Parcel Service’s (UPS) CEO David Abney on Q4 2014 Results — Earnings Call Transcript, February 3, 2015, www.ups.com []