Morgan Stanley on Thursday lowered profit expectations for FedEx for the fiscal year fourth quarter that just ended, partially because of a double-digit decline in domestic flight activity, an indicator that the company moved significantly fewer parcels than previously assumed.
The global financial services company also warned FedEx (NYSE: FDX) revenues could be more important to financial performance than management’s recent focus on cost savings, contrary to consensus thinking on Wall Street.
Domestic aircraft utilization at FedEx Express fell 10% sequentially in April, following a March rebound, and is down 17% year over year, according to new Morgan Stanley research.
There is a strong correlation between cargo flight hours and freight demand. Morgan Stanley equity analyst Ravi Shanker said flight activity is a better predictor of earnings results than relying solely on macroeconomic data points, such as airfreight rates and demand, industrial production, and business surveys.
Morgan Stanley said its model shows FedEx will have adjusted earnings per share of $4.63, 5% below the consensus of $4.87.
“The biggest red flag” was that domestic flight frequency in April “materially underperformed seasonality” as demand for parcel shipping continues to deteriorate, the report said. Morgan Stanley forecast FedEx parcel volumes for the fourth quarter will come in 9% lower than last year, in line with the company’s guidance and better than the 10.5% decline in the third quarter. The revenue environment is also negatively impacted by lower Express yields, especially out of Asia as shippers trade down to deferred service.
Domestic Express shipping accounts for 25% of parcel revenue at FedEx.
The investment bank’s newly launched Parcel Flight Tracker relies on publicly available data and proprietary analytical tools.
The firm’s data aligns with FedEx’s stated intent to reduce flight hours 10% by midsummer following an 8% decrease in the fiscal quarter that ended Feb. 28. Reducing aircraft utilization is part of an effort to align assets with lower demand and coincides with a broader streamlining strategy aimed at eliminating $700 million in annual costs from the air network.
The downturn in flight activity has the most immediate implications for the Express business, but also underscores a difficult demand environment that will impact the Ground division.
FedEx’s third-quarter revenue fell $1.4 billion to $22.2 billion, with adjusted operating income of $1.17 billion compared to $1.33 billion in the 2022 period.
A decline in flight activity isn’t unique to FedEx. The domestic flight count at UPS (NYSE: UPS) dropped 12% from March to April and is down 9% year over year. UPS is also downsizing flight activity and said it intends to scale back operations by 14% in the Asia-Pacific region this quarter from the prior year.
Amazon’s (NASDAQ: AMZN) in-house airline flew 3% less month over month but increased its flight count by 11% from the same period last year, according to Morgan Stanley. The firm noted that the correlation between Amazon’s flight activity and retail sales was not as strong as the comparisons for FedEx and UPS.
Meanwhile, dedicated freighter activity across the airline sector fell 5.2% in April from last year, primarily due to pullbacks in North America and Asia, according to analysis by BMO Capital Markets. April represented the steepest decline in flight hours over the past two years, on a seasonally adjusted basis, it said in a recent research note.
A wild card that could influence FedEx’s earnings is how much ground parcel business switched over from UPS because of potential fears that Teamsters drivers and dockworkers could go on strike when the current five-year contract expires July 31.
Shanker was less optimistic about FedEx’s 2024 fiscal year as short-term cost actions reach their limit, inflation acts as a $5.5 billion headwind and consumer demand normalizes to pre-pandemic growth rates, which suggests the market is still searching for the bottom.
Those factors could offset the $1.5 billion to $2 billion in savings FedEx projects from its DRIVE program, which targets $4 billion in structural costs by fiscal year 2025.
“We believe the real risk to numbers going forward comes from the revenue line,” Shanker wrote. “FDX needs to deliver $4+ billion of revenue growth to merely grow earnings before interest and taxes from here. The street on the other hand is looking for 20%+ EPS growth next year, which we think could be a tough ask.”
He projected full-year EPS will end up slightly above current levels, at about $15.
FedEx is scheduled to release its quarterly earnings on June 20.
Click here for more FreightWaves/American Shipper stories by Eric Kulisch.
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