FedEx Corp. said Wednesday it has launched a long-awaited strategy to integrate all of its operations, a move that signals the end of the operationally siloed business model that was the hallmark of FedEx’s first 50 years.
The strategy, Network 2.0, will cost about $2 billion to implement over the next five years, company executives said during a meeting of analysts and investors at its Memphis, Tennessee, headquarters. If all goes according to plan, it will add $2 billion to FedEx’s (NYSE: FDX) annualized operating income starting in fiscal 2025, the company said.
Wednesday’s announcement formalizes an approach that’s already underway, albeit in limited fashion. In early 2020, FedEx launched a “last-mile optimization” tool to allow parcels to be handed off to the operating unit best equipped to deliver them. FedEx Express, the company’s air and international unit, has co-located with FedEx Ground, its ground-parcel delivery unit, at three FedEx Ground locations in the U.S. FedEx Express tenders 1.3 million parcels per week — mostly end-of-next-day or second-day deliveries — to FedEx Ground. That collaboration will intensify as FedEx Express sees more opportunity to off-load parcels to FedEx Ground, which has lower operating costs in part because it uses independent driver contractors instead of company employees.
FedEx Freight, the company’s less-than-truckload business, and FedEx Ground have begun to combine their vast line-haul operations, which combined ran 3.7 billion miles in the company’s most recent fiscal year that ended May 31, in a bid to reduce empty miles and improve equipment utilization. Greater use of rail intermodal networks has reduced so-called bobtail miles — mileage operated by a tractor with no trailer attached — by approximately 8 million miles, company executives said.
FedEx said the initiative will allow it to operate 100 fewer U.S. stations over the next five years even as it grows its volumes over that time. It also forecast a 10% reduction in U.S. pickup and delivery routes over that period. In areas with relatively low package density, business units will operate out of one station, executives said.
The project will extend beyond the U.S. As more below-deck or bellyhold aircraft capacity that was shut down during the pandemic reenters the international air shipping market, FedEx will expand its use of passenger lift and rely more heavily on its FedEx Logistics business to perform freight forwarding functions to procure capacity outside of the FedEx global air network.
CapEx reductions
FedEx said increased efficiencies stemming from the initiative, along with the soon-to-be-completed modernization of the company’s air fleet, will help reduce annual expenditures to 6.5% or less of annual revenue by its 2025 fiscal year, which begins June 1, 2024. By contrast, its annual capex-to-revenue ratio has ranged from 7% to 8% in the past couple of years. Executives vowed that, after years and billions of dollars spent to expand its networks — notably at FedEx Ground to accommodate projected surges in e-commerce demand — it would begin to “sweat the assets,” business parlance for a company squeezing more productivity out of the resources it already has.
Annual adjusted operating income will increase between $3 billion and $4.5 billion by fiscal 2025, the company forecast. Adjusted operating margins by that time will rise to 11% to 12% for FedEx Ground, 8% to 9% for FedEx Express, and 20% to 22% for FedEx Freight.
FedEx expects 4% to 6% compound annual revenue growth through fiscal 2025, with one-third of that coming from volume expansion and the balance through pricing initiatives. Executives said the revenue forecast was relatively conservative.
Company executives acknowledged the complexities of such a significant operational change and pledged to move deliberately to minimize service disruptions and avoid unexpected costs. “We have to get this right,” said Raj Subramaniam, FedEx’s president and CEO.
Subramaniam, who has been a forceful advocate of the integration strategy, took over June 1 as CEO. He succeeded Frederick W. Smith, FedEx’s founder and chairman. Smith developed the original model and as recently as a couple of years ago publicly voiced his support for it.
FedEx built its business on the idea that units which operated separately could build out their unique capabilities and respond more effectively to the needs of customers using specific services. Judging by the company’s remarkable growth trajectory over most of its history, few would argue with the rationale.
In recent years, however, it became apparent the approach had begun to outlive its usefulness. Operations had become less efficient, and there were far too many internal seams to manage through. “We built systems and processes that don’t talk to each other,” said Richard W. Smith, president and CEO-elect of FedEx Express and the son of the founder. Smith had also pushed aggressively for the change that was announced Wednesday.
Satish Jindel, head of consultancy ShipMatrix and who has pounded the table on the integration strategy for years, said he was pleased with the announcement and the company’s assurances that it will move expeditiously but carefully to execute. The program is “ambitious and also very doable,” Jindel, who has worked with FedEx for about 25 years, said in a phone interview Wednesday.
FedEx Ground, which has fallen short of operating margin projections in the past couple of years despite massive volume increases, may derive the most pronounced benefit from the new integration, Jindel said. “I expect [Ground] margins to exceed forecasts by 2 or 3 full percentage points, and that it will hit its targets well before 2025,” he said.
FedEx shares declined more than 2.6% in New York Stock Exchange trading on Wednesday.