tiprankstipranks
UPS Stock: Higher Profits Despite Falling Volumes
Stock Analysis & Ideas

UPS Stock: Higher Profits Despite Falling Volumes

Founded in 1907, Georgia-based United Parcel Service (UPS) is the world’s largest package delivery company and a leading provider of global supply chain management solutions.

The company also operates one of the largest airlines in the world and has the world’s largest fleet of alternative-powered vehicles. The company operates through three segments: U.S. Domestic Package, International Package, and Supply Chain & Freight.

UPS recently released its earnings report, which beat on both the top and bottom lines. Revenue came in at $24.4 billion, which was $600 million above consensus estimates. In addition, earnings per share came in at $3.05, a beat of $0.16.

The company also reaffirmed its outlook for 2022, guiding for $102 billion in revenue versus the consensus estimate of $101.84 billion. Despite the positive report, we are neutral on the stock.

UPS Headwinds

The reason why we are neutral on the stock and why the stock sold off initially after the report is because shipping volumes decreased. It appears that the pandemic e-commerce boom that saw logistics companies such as UPS benefit greatly is starting to wane.

Indeed, a quick glance at UPS’ website traffic would’ve given investors clues about the slowdown in volumes:

As we can see from the image above, unique visitors to the website in the first quarter of 2022 were lower than they were in the first quarter of 2021.

It’ll be interesting to see if this trend continues or if volumes return to growth. In addition, input costs are going up for things such as fuel and tires because of inflation.

Fortunately for UPS, it was able to hike prices enough to more than offset rising costs and lower volume, which ultimately led to the earnings beat. This demonstrates that the company is resilient despite the macroeconomic headwinds.

However, UPS might be facing a bigger headwind in the future, which happens to be named Amazon (AMZN). Amazon has been investing heavily into its logistics infrastructure over the past several years, building out its fulfillment network.

As a result, Amazon is now offering businesses the opportunity to provide Prime shipping through their own websites instead of only on Amazon’s marketplace. This would essentially set up Amazon as a full-fledged logistics company that would be directly competing with UPS but with one major difference – 200 million Prime members.

Therefore, it’s not difficult to see why businesses would benefit from this option. With roughly 148 million Prime users in the U.S. alone, it could create an increased level of trust between sellers and buyers on websites outside of the marketplace. This could potentially equate to higher conversions, a win-win for both Amazon and third parties.

Although UPS will most likely be able to remain competitive, it’s something investors should keep in mind, going forward.

UPS Still Has a Competitive Advantage

It’s not only doom and gloom for UPS. In fact, we can measure the company’s competitive advantage by calculating its earnings power value (EPV).

Earnings power value is measured as adjusted EBIT after tax, divided by its weighted average cost of capital, and reproduction value (the cost to recreate the business) can be measured using its total asset value.

If the earnings power value is higher than the reproduction value, then a company is considered to have a competitive advantage.

For UPS, the calculation is as follows:

EPV = EPV adjusted earnings / WACC
$77.014 billion = $5.391 billion / 0.07

Since UPS has a total asset value of $70.11 billion, we can say that it does have a competitive advantage. In other words, assuming no growth for UPS, it would require $70.11 billion of assets to generate ~$77 billion of value over time.

Dividends and Buybacks

For investors that like dividends, UPS currently has an annualized 3.32% dividend yield, which is above the sector average of 1.29%. Its current payout ratio of 30% means that the current dividend yield is safe.

Taking a look at its historical dividend payments, we can see that UPS’ yield range has trended downwards in the past several years.

At a 3.32% forward yield, the company’s dividend is near the middle of its range, implying that the stock price is trading at a premium relative to the yields investors have seen in the past.

Furthermore, UPS has decided to double its buyback authorization to $2 billion for 2022, which equates to a buyback yield of approximately 1.24% at current levels (assuming the buybacks are done at an average price near its current price). Therefore, investors can expect an approximate 4.56% total return when combining dividends and buybacks.

Valuation

To value UPS, we will use a single-stage DCF model because its free cash flows are volatile and difficult to predict. For the terminal growth rate, we will use the 30-year U.S. Treasury yield as a proxy for expected long-term GDP growth.

Our calculation is as follows:

Fair Value = Four-Year Average FCF per share / (Discount Rate – Terminal Growth)
$169.37 = $7.1 / (0.071 – 0.0291)

As a result, we estimate that the fair value of UPS is approximately $169.37 under current market conditions.

Wall Street’s Take

Turning to Wall Street, UPS has a Moderate Buy consensus rating based on nine Buys, nine Holds, and no Sell ratings assigned in the past three months. The average United Parcel Service price forecast of $229.76 implies 23.3% upside potential.

Final Thoughts

UPS is a solid company that currently has the backing of Wall Street analysts. However, it’s important to remember that its free cash flow tends to be volatile from year to year, which makes it difficult to predict.

Therefore, when using an average of its free cash flow, it appears that the company is actually overvalued. As a result, we remain neutral on the stock.

Discover new investment ideas with data you can trust.

Read full Disclaimer & Disclosure

Trending

Name
Price
Price Change
S&P 500
Dow Jones
Nasdaq 100
Bitcoin

Popular Articles