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| FDX > SEC Filings for FDX > Form 10-Q on 20-Dec-2012 | All Recent SEC Filings |
20-Dec-2012
Quarterly Report
GENERAL
The following Management's Discussion and Analysis of Results of Operations and Financial Condition ("MD&A") describes the principal factors affecting the results of operations, liquidity, capital resources, contractual cash obligations and critical accounting estimates of FedEx Corporation ("FedEx"). This discussion should be read in conjunction with the accompanying quarterly unaudited condensed consolidated financial statements and our Annual Report on Form 10-K for the year ended May 31, 2012 ("Annual Report"). Our Annual Report includes additional information about our significant accounting policies, practices and the transactions that underlie our financial results, as well as a detailed discussion of the most significant risks and uncertainties associated with our financial condition and operating results.
We provide a broad portfolio of transportation, e-commerce and business services through companies competing collectively, operating independently and managed collaboratively, under the respected FedEx brand. Our primary operating companies are Federal Express Corporation ("FedEx Express"), the world's largest express transportation company; FedEx Ground Package System, Inc. ("FedEx Ground"), a leading North American provider of small-package ground delivery services; and FedEx Freight, Inc. ("FedEx Freight"), a leading North American provider of less-than-truckload ("LTL") freight services. These companies represent our major service lines and, along with FedEx Corporate Services, Inc. ("FedEx Services"), form the core of our reportable segments. Our FedEx Services segment provides sales, marketing, information technology, communication and back-office support to our transportation segments. In addition, the FedEx Services segment provides customers with retail access to FedEx Express and FedEx Ground shipping services through FedEx Office and Print Services, Inc. ("FedEx Office") and provides customer service, technical support and billing and collection services through FedEx TechConnect, Inc. ("FedEx TechConnect"). See "Reportable Segments" for further discussion.
The key indicators necessary to understand our operating results include:
• the overall customer demand for our various services based on macro-economic factors and the global economy;
• the volumes of transportation services provided through our networks, primarily measured by our average daily volume and shipment weight;
• the mix of services purchased by our customers;
• the prices we obtain for our services, primarily measured by yield (revenue per package or pound or revenue per hundredweight for LTL freight shipments);
• our ability to manage our cost structure (capital expenditures and operating expenses) to match shifting volume levels; and
• the timing and amount of fluctuations in fuel prices and our ability to recover incremental fuel costs through our fuel surcharges.
The majority of our operating expenses are directly impacted by revenue and volume levels. Accordingly, we expect these operating expenses to fluctuate on a year-over-year basis consistent with the change in revenues and volumes. Therefore, the discussion of operating expense captions focuses on the key drivers and trends impacting expenses other than changes in revenues and volume.
Except as otherwise specified, references to years indicate our fiscal year ending May 31, 2013 or ended May 31 of the year referenced and comparisons are to the corresponding period of the prior year. References to our transportation segments include, collectively, our FedEx Express, FedEx Ground and FedEx Freight segments.
RESULTS OF OPERATIONS
CONSOLIDATED RESULTS
The following table compares summary operating results (dollars in millions,
except per share amounts) for the periods ended November 30:
Three Months Ended Percent Six Months Ended Percent
2012 2011 Change 2012 2011 Change
Revenues $ 11,107 $ 10,587 5 $ 21,899 $ 21,108 4
Operating income 718 780 (8 ) 1,460 1,517 (4 )
Operating margin 6.5 % 7.4 % (90 )bp 6.7 % 7.2 % (50 )bp
Net income $ 438 $ 497 (12 ) $ 897 $ 961 (7 )
Diluted earnings per share $ 1.39 $ 1.57 (11 ) $ 2.84 $ 3.02 (6 )
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The following table shows changes in revenues and operating income by reportable segment for the periods ended November 30, 2012 compared to November 30, 2011 (dollars in millions):
Change in Percent Change in Change in Percent Change in
Revenues Revenue Operating Income Operating Income
Three Six Three Six Three Six Three Six
Months Months Months Months Months Months Months Months
Ended Ended Ended Ended Ended Ended Ended Ended
FedEx Express segment $ 275 $ 315 4 2 $ (112 ) $ (193 ) (33 ) (31 )
FedEx Ground segment 254 438 11 9 14 52 4 6
FedEx Freight segment 52 123 4 5 36 84 90 102
FedEx Services segment (22 ) (44 ) (5 ) (5 ) - - - -
Other and eliminations (39 ) (41 ) NM NM - - - -
$ 520 $ 791 5 4 $ (62 ) $ (57 ) (8 ) (4 )
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Overview
Despite an increase in revenues in the second quarter and first half of 2013, operating income and operating margins decreased as the continued strong performance of FedEx Ground and improving results at FedEx Freight were offset by reduced profitability at FedEx Express from higher demand for our lower yielding international services. Our results for the second quarter include a $0.11 per diluted share negative impact of Superstorm Sandy, primarily at FedEx Express, which caused severe damage in portions of the Northeastern United States region, particularly in New York and New Jersey, where each of our business segments have significant operations. This storm negatively impacted our operations, resulting in reduced shipment volumes and incremental operating costs. The results for the second quarter of 2013 also reflect the net year-over-year negative impact, primarily at FedEx Express, from the timing lag that exists between when fuel prices change and indexed fuel surcharges automatically adjust.
The following graphs for FedEx Express, FedEx Ground and FedEx Freight show selected volume trends (in thousands) over the five most recent quarters:
[[Image Removed: LOGO]]
[[Image Removed: LOGO]]
(1) Excludes international domestic operations.
(2) Package statistics do not include the operations of FedEx SmartPost.
The following graphs for FedEx Express, FedEx Ground and FedEx Freight show selected yield trends over the five most recent quarters:
[[Image Removed: LOGO]]
[[Image Removed: LOGO]]
(1) Excludes international domestic operations.
(2) Package statistics do not include the operations of FedEx SmartPost.
Revenue
Revenues increased 5% in the second quarter of 2013 and 4% in the first half of 2013, despite service interruptions and reduced shipments due to the impact of Superstorm Sandy. At FedEx Express, revenues increased 4% in the second quarter of 2013 and 2% in the first half of 2013 primarily driven by increases in international domestic revenues due to recent acquisitions, growth in our freight-forwarding business at FedEx Trade Networks and higher international export volume. Revenues were partially offset by lower U.S. domestic package revenue and the demand shift toward lower-yielding international services in the second quarter and first half of 2013. At FedEx Ground, revenues increased 11% in the second quarter and 9% in the first half of 2013 due to volume growth from market share gains and increased yields due to rate increases. Revenues increased 4% in the second quarter and 5% in the first half of 2013 at FedEx Freight as a result of higher average daily LTL shipments and yield.
Operating Income
The following tables compare operating expenses expressed as dollar amounts (in
millions) and as a percent of revenue for the periods ended November 30:
Three Months Ended Six Months Ended
2012 2011 2012 2011
Operating expenses:
Salaries and employee benefits $ 4,133 $ 3,982 $ 8,236 $ 7,986
Purchased transportation 1,860 1,576 3,540 3,094
Rentals and landing fees 630 623 1,248 1,243
Depreciation and amortization 592 518 1,165 1,027
Fuel 1,235 1,200 2,373 2,444
Maintenance and repairs 511 511 1,053 1,062
Other 1,428 1,397 2,824 2,735
Total operating expenses $ 10,389 $ 9,807 $ 20,439 $ 19,591
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Percent of Revenue Percent of Revenue
Three Three Six Six
Months Months Months Months
Ended Ended Ended Ended
2012 2011 2012 2011
Operating expenses:
Salaries and employee benefits 37.2 % 37.6 % 37.6 % 37.8 %
Purchased transportation 16.7 14.9 16.2 14.7
Rentals and landing fees 5.7 5.9 5.7 5.9
Depreciation and amortization 5.3 4.9 5.3 4.9
Fuel 11.1 11.3 10.8 11.6
Maintenance and repairs 4.6 4.8 4.8 5.0
Other 12.9 13.2 12.9 12.9
Total operating expenses 93.5 92.6 93.3 92.8
Operating margin 6.5 % 7.4 % 6.7 % 7.2 %
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Operating income and operating margin decreased in both the second quarter and first half of 2013 as a result of lower profitability at FedEx Express. Reduced profitability at FedEx Express in the second quarter of 2013 was driven by the demand shift toward lower-yielding international services, the negative impact of year-over-year net fuel changes, higher depreciation expense, and the impact of Superstorm Sandy. In the first half of 2013, lower profitability at FedEx Express was primarily due to lower U.S. domestic package volume, the demand shift toward lower-yielding international services, and higher depreciation and pension expenses. Our operating income was positively impacted in the second quarter and first half of 2013 by increased yields and higher volumes at our FedEx Freight and FedEx Ground segments.
Purchased transportation costs increased 18% in the second quarter and 14% in the first half of 2013 due to volume growth at FedEx Ground, recent international business acquisitions and the expansion of our freight forwarding business at FedEx Trade Networks. Salaries and employee benefits increased 4% in the second quarter and 3% in the first half of 2013 primarily due to increases in pension and group health insurance costs, partially offset by lower incentive compensation accruals. Depreciation and amortization expense increased 14% in the second quarter and 13% in the first half of 2013 due to aircraft recently placed in service and accelerated depreciation on certain aircraft at FedEx Express.
The following graph for our transportation segments shows our average cost of jet and vehicle fuel per gallon for the five most recent quarters:
[[Image Removed: LOGO]]
Fuel expense increased 3% during the second quarter of 2013 due to increases in the average price per gallon of fuel. However, fuel expense decreased 3% in the first half of 2013 due to lower jet fuel costs and lower aircraft fuel usage. Based on a static analysis of year-over-year changes in fuel prices compared to changes in fuel surcharges, fuel had a negative impact on operating income in the first half of 2013.
Our analysis considers the estimated impact of the reduction in fuel surcharges included in the base rates charged for FedEx Express and FedEx Ground services. However, this analysis does not consider the negative effects that fuel surcharge levels may have on our business, including reduced demand and shifts by our customers to lower-yielding services. While fluctuations in fuel surcharge rates can be significant from period to period, fuel surcharges represent one of the many individual components of our pricing structure that impact our overall revenue and yield. Additional components include the mix of services sold, the base price and extra service charges we obtain for these services and the level of pricing discounts offered. In order to provide information about the impact of fuel surcharges on the trend in revenue and yield growth, we have included the comparative fuel surcharge rates in effect for the second quarter and first half of 2013 and 2012 in the accompanying discussions of each of our transportation segments.
Income Taxes
Our effective tax rate was 36.8% for the second quarter and first half of 2013, compared with 36.1% for the second quarter of 2012 and 36.0% for the first half of 2012. Our effective tax rate in 2013 was higher than in 2012 primarily due to lower benefits derived from permanently reinvested international earnings, which are generally taxed at lower rates than in the U.S. For the remainder of 2013, we expect our effective tax rate to be approximately 37.0%. The actual rate, however, will depend on a number of factors, including the amount and source of operating income.
As of November 30, 2012, there were no material changes to our liabilities for unrecognized tax benefits from May 31, 2012.
We are subject to taxation in the U.S. and various U.S. state, local and foreign jurisdictions. Substantially all U.S. federal income tax matters through fiscal year 2009 are concluded, and we are currently under examination by the Internal Revenue Service (IRS) for the 2010 and 2011 tax years. It is reasonably possible that certain income tax return proceedings will be completed during the next 12 months and could result in a change in our balance of unrecognized tax benefits. The expected impact of any changes would not be material to our consolidated financial statements.
Business Acquisitions
In the first quarter of 2013, we expanded the international service offerings of FedEx Express by completing the following business acquisitions:
• Rapidão Cometa Logística e Transporte S.A., a Brazilian transportation and logistics company, for $398 million in cash from operations on July 4, 2012
• TATEX, a French express transportation company, for $55 million in cash from operations on July 3, 2012
• Opek Sp. z o.o., a Polish domestic express package delivery company, for $54 million in cash from operations on June 13, 2012
These acquisitions give us more robust transportation networks within these countries and added capabilities in these important international markets.
The financial results of these acquired businesses are included in the FedEx Express segment from the date of acquisition and were not material, individually or in the aggregate, to our results of operations. The estimated fair values of the assets and liabilities related to these acquisitions have been included in the accompanying unaudited balance sheet based on a preliminary allocation of the purchase price. See Note 1 of the accompanying unaudited financial statements for further discussion of these acquisitions.
Outlook
For the remainder of 2013, we expect weakness in global economic conditions, growing uncertainty in the U.S. on the outcome of tax and spending policy decisions and increased demand for our lower yielding international services to restrain earnings growth. However, weakness at FedEx Express will be partially offset by the sustained strong performance driven by yield and market share growth from our FedEx Ground and FedEx Freight segments.
Profit Improvement Programs. During the second quarter of 2013, we announced programs targeting annual profitability improvement of $1.7 billion during the next three years. The majority of the profitability improvement will come from initiatives at FedEx Express and FedEx Services and includes the following:
• Cost reductions in selling, general and administrative functions, including information technology, through headcount reductions, streamlining of processes and elimination of less essential work, as well as deriving greater value from strategic sourcing
• Modernization of our aircraft fleet, transformation of the U.S. domestic operations and international profit improvements at FedEx Express
• Improved efficiencies and lower costs of information technology at FedEx Services
Our overall profit improvement plan includes offering voluntary cash buyouts to eligible U.S.-based employees, beginning in February 2013. The voluntary buyout program will include voluntary severance payments and funding to healthcare reimbursement accounts, with the voluntary severance to be calculated based on four weeks of gross base salary for every year of FedEx service up to a maximum payment of two years of pay.
Costs of the benefits provided under the voluntary programs will be recognized in the period that eligible employees accept their offers, predominantly in the fourth quarter of 2013. We expect the pretax cost of the voluntary buyout program to range from approximately $550 to $650 million, but actual costs will depend on employee acceptance rates. Other costs associated with the profit improvement initiatives will be recognized in the period incurred. Eligible employees will vacate positions in three phases to ensure a smooth transition in the impacted functions so that we maintain service levels to our customers. Employees in the first phase will vacate their positions on May 31, 2013.
These programs, combined with continued profit improvements at FedEx Ground and FedEx Freight, are expected to increase margins, improve cash flows and increase our competitiveness. The ultimate costs and savings from our profit improvement initiatives will depend, upon other things, on the number of employees that participate in the voluntary buyout program and the timing and execution of these programs. We expect to begin realizing the benefits of these programs in 2014, with a significant portion of the benefits to be achieved by the end of 2015.
Other Outlook Matters. For additional details on key 2013 capital projects, refer to the "Liquidity Outlook" section of this MD&A.
All of our businesses operate in a competitive pricing environment, exacerbated by continuing volatile fuel prices, which impact our fuel surcharge levels. Historically, our fuel surcharges have largely offset incremental fuel costs; however, volatility in fuel costs may impact earnings because adjustments to our fuel surcharges lag changes in actual fuel prices paid. Therefore, the trailing impact of adjustments to our fuel surcharges can significantly affect our earnings either positively or negatively in the short-term.
As described in Note 7 of the accompanying unaudited condensed consolidated financial statements and the "Evolution of Independent Contractor Model" section of our FedEx Ground segment MD&A, we are involved in a number of lawsuits and other proceedings that challenge the status of FedEx Ground's owner-operators as independent contractors. FedEx Ground anticipates continuing changes to its relationships with its contractors. The nature, timing and amount of any changes are dependent on the outcome of numerous future events. We cannot reasonably estimate the potential impact of any such changes or a meaningful range of potential outcomes, although they could be material. However, we do not believe that any such changes will impair our ability to operate and profitably grow our FedEx Ground business.
See "Forward-Looking Statements" for a discussion of these and other potential risks and uncertainties that could materially affect our future performance.
NEW ACCOUNTING GUIDANCE
New accounting rules and disclosure requirements can significantly impact our reported results and the comparability of our financial statements.
On June 1, 2012, we adopted the authoritative guidance issued by the Financial Accounting Standards Board ("FASB") on the presentation of comprehensive income. The new guidance requires companies to report components of comprehensive income by including comprehensive income on the face of the income statement or in a separate statement of comprehensive income. We adopted this guidance by including a separate statement of comprehensive income for the three-month and six-month periods ended November 30, 2012 and 2011. In addition, on June 1, 2012, we adopted the FASB's amendments to the fair value measurements and disclosure requirements, which expands existing disclosure requirements regarding the fair value of our long-term debt.
We believe that no other new accounting guidance was adopted or issued during the first half of 2013 that is relevant to the readers of our financial statements. However, there are numerous new proposals under development which, if and when enacted, may have a significant impact on our financial reporting.
REPORTABLE SEGMENTS
FedEx Express, FedEx Ground and FedEx Freight represent our major service lines
and, along with FedEx Services, form the core of our reportable segments. Our
reportable segments include the following businesses:
FedEx Express Segment FedEx Express (express transportation)
FedEx Trade Networks (air and ocean freight forwarding
and customs brokerage)
FedEx SupplyChain Systems (logistics services)
FedEx Ground Segment FedEx Ground (small-package ground delivery)
FedEx SmartPost (small-parcel consolidator)
FedEx Freight Segment FedEx Freight (LTL freight transportation)
FedEx Custom Critical (time-critical transportation)
FedEx Services Segment FedEx Services (sales, marketing, information
technology, communications and back-office
functions)
FedEx TechConnect (customer service, technical support,
billings and collections)
FedEx Office (document and business services and package
acceptance)
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FEDEX SERVICES SEGMENT
The FedEx Services segment operates combined sales, marketing, administrative and information technology functions in shared services operations that support our transportation businesses and allow us to obtain synergies from the combination of these functions. For the international regions of FedEx Express, some of these functions are performed on a regional basis by FedEx Express and reported in the FedEx Express segment in expense line items outside of intercompany charges. The FedEx Services segment includes: FedEx Services, which provides sales, marketing, information technology, communications and back-office support to our other companies; FedEx TechConnect, which is responsible for customer service, technical support, billings and collections for U.S. customers of our major business units; and FedEx Office, which provides an array of document and business services and retail access to our customers for our package transportation businesses.
The FedEx Services segment provides direct and indirect support to our . . .
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