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Why? While the Covid-19 outbreak and associated lockdowns resulted in an uncertain outlook for the broader markets, the multi-billion-dollar Fed stimulus announced in late March helped the markets stage a strong recovery.
Further, with increased vaccination rate for Covid-19, economies are opening up gradually, implying a pickup in demand for UPS' services. There has been an increase in e-commerce orders, boding well for UPS' ground shipments. In addition, the company posted solid results over the recent quarters, which aided its stock price.
While the company's results were above the Trefis as well as consensus estimates, UPS stock fell nearly 7% on Jul 27, following the earnings announcement. This can be attributed to declining volume in the U.S. The much talked about Ground segment for UPS, which saw a massive growth since the beginning of the pandemic, due to an increased demand for e-commerce orders, started to see lower volume with the gradual opening of the economy. This did not bode well with the investors. That said, Trefis estimates UPS valuation to be $220 per share, implying over 10% premium to the current market price of $195 (as of Jul 27).
However, fuel prices have seen a gradual increase over the last year or so, and EIA now estimates WTI Crude to average $61 a barrel in 2021, compared to $39 levels in 2020. While this will result in higher fuel expenses for UPS, it will also result in higher revenue from fuel surcharge.
Below are key drivers of UPS that present opportunities for upside or downside to the current Trefis price estimate.
United Parcel Service, Inc. ("UPS") is the world's largest package delivery company, a leader in the U.S. truckload industry, and a global leader in supply chain management. It delivers packages each business day from its 1990 locations worldwide to 10 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 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 123,000 vehicles which reaches all business and residential zip codes in the contiguous U.S. It also operates an air fleet of 650 aircraft and is one of the largest airlines in the world. The firm's 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; Ontario, Canada; Hong Kong; Singapore; Taiwan; and China.
The US Domestic Package is the most valuable to the company because of the following reasons.
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 almost 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 10-15% per through 2019-2022, we believe UPS's US Domestic Package segment will continue to grow in the coming years. (Link)
Demand for shipping volume is closely correlated with the overall consumer demand and GDP growth of an economy. After the coronavirus pandemic winds down, the global economy is expected to see a rebound, and this will bode well for UPS' shipments.
The growing e-commerce industry has been driving volumes at UPS's U.S. Domestic Package segment. 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.
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, has helped improve margins. The company announced a rate increase of 4.9% on Ground and Air services effective from June 2021.
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.