fedex vs ups - hong kong

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The Battle for Value:Federal Express Corporation vs.

United Parcel Service of America, Inc.

MBAD 6157H

November 2007

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Synopsis

Time: July 1995 Want to assess the financial performance of

Federal Express and UPS Two strong competitors in the overnight

express package industry Not a number-crunching case, rather, we

need to interpret results and reflect on the implications

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Main Issues/Objectives The definition of “excellence” from a corporate

finance point of view The use of economic profit analysis and the

measurement of financial performance and health– Economic profit analysis vs. other classic approaches

such as financial reports and ratios, and stock price performance.

– The opportunity to discuss the attributes of healthy and successful companies and to explore the strengths and weaknesses of economic profit.

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Main Issues/Objectives

– Key learning points about economic profit: (1) its dependence on GAAP conventions, and (2) its ignorance of strategic option value.

– Business segment analysis to identify strong and weak sectors.

The financial implications of rigorous competition and corporate transformation– Corporate transformation: customer focus, total

quality management, product innovation, re-engineering, alliances,…and so on.

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EVA

EVA: Economic Value Added EVA = NOPAT - C% (TC)

– where NOPAT = net operating profits after taxes

– C% = percentage cost of capital– TC = total capital

GAAP : Generally Accepted Accounting Principles

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Mission Statement

Objectives– stock price– market share– profits– EPS, P/E ratio– size of the firm (assets)– quality products/services– best in technology – …….etc.

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Ways to Measure Financial Excellence

Direct inspection of the financial statements Financial ratios EPS and P/E ratios Total returns to investors Economic Profit (Economic Value Added)

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An Important Event

July 10, 1995 J.C. Penney announced the award to UPS of

a $1 billion, five-year contract for delivery services.

At the announcement, the stock price of FedEx fell 2.33 percent => total market value of equity declined by $85 million.

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Surprised by the Event?

FedEx was perceived as innovative, entrepreneurial, and an operational leader– quality is what they are selling (time definite

transportation)– UPS had the reputation as a big, bureaucratic

industry follower. UPS was trying to shed this image and to make a transition to be an innovator and competitive in the new world of air-express package industry.

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Future Trends

Focus on product innovation, customers’ needs, quality, and reengineering

Capital-intensive investments Shifting market shares

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Analysis: Part 1

Describe the competition in the overnight package delivery industry and the strategies by which these two firms are meeting the competition. What are the enabling and inhibiting factors facing the two firms as they pursue their goals? Do you think either firm can attain sustainable competitive advantage in this business?

Objective: Explore the historical origins of the two firms

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Analysis: Part 2

Why did FedEx’s stock price decline at J.C. Penney’s announcement? Assuming a perfectly efficient stock market, how might on interpret this loss of $85 million in FedEx’s market value of equity?

Objective: Explore a basic idea about stock price

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Analysis: Part 3 How have Federal Express and United Parcel Service

performed since the mid-1980s? Which firm is doing better? Discuss the insights you derived from the two firms’ financial statements, financial ratios, stock price performance, and economic profit (or EVA). Also describe how EVA is estimated, and its strengths and weaknesses as a measure of performance.

Objective: Evaluate firm performances based on various measures

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Analysis: Part 4

If you had to identify one of these companies as “excellent” which would you choose? On what basis? More generally, what is “excellence” in business?

Objective: A reflection on the normative implications of financial and operational performance.

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Discussion: Part 1Company Origins and Strategic Forces of the Industry

Any assessment of financial performance and health of the two firms must be based on the key drivers of expectations and contingencies.

UPS was the dominant firm in the oligopolistic industry.

FedEx rose as an innovator in the industry

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Key Features of the Industry

Before 1990 stable setting economies of scale and

higher profits consistent thinking committed to a dominant

product or design resist adopting

innovations

1990s competition on all

functional areas including service innovation, quality, and geography

customer focus totally quality mgt info technology globalization strategic alliances

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Discussion: Part 1Company Origins and Strategic Forces of the Industry

The turbulent change within the industry must be a major influence on investor expectations and assessments of contingent value

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Discussion: Part 2FedEx’s Stock Price Reaction

Stock price: the sum of the PV of predictable future CFs (dividends and terminal value) to shareholders plus a contingent component

Why terminal value and/or contingent component might decline at the Penney announcement?

Loss of expected profits from Penney and restriction of FedEx’s ability to finance internally

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Discussion: Part 2FedEx’s Stock Price Reaction

Denying to FedEx some future business with Penney; UPS’s gain is FedEx’s loss; Zero-sum competition in air express

Signal of competitive disadvantage of FedEx relative to UPS. Whether or not the relationship with Penney was actually profitable for FedEx, the failure to win business may suggest that FedEx is slipping competitively.

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Discussion: Part 3The Financial Performance of FedEx and UPS

The relative strengths and weaknesses of the various criteria used to compare these two firms

Interpretation of the results and assessment of the implications

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Discussion: Part 3The Financial Performance of FedEx and UPS

Financial criteria: strengths and weaknesses (Table 1)

Interpreting the comparative results: Table 2; Insights from this table:– FedEx is growing faster than UPS on most criteria

except in book assets and income (could be attributed to difference in culture, scale, or life-cycle

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Discussion: Part 3The Financial Performance of FedEx and UPS

– A ‘red flag”: UPS has a higher EPS growth than FedEx => FedEx has been unable to translate net income growth into high EPS growth

– Sustainability: FedEx had an average of 6.1% return on equity over 1985-94 with 11.98% growth in book assets => need significant amounts of equity and debt for financing; UPS earned 22.2% on equity while growing at a 16.12% in book assets in the same period => the growth is self-sustainable even with a 27% dividend payout ratio

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Discussion: Part 3The Financial Performance of FedEx and UPS

– Return to investors:

$1 invested in 1982 in FedEx UPS

Be worth ?? In 1995 $1.94 $40.92

Be worth ? In 1995 $5.34 $34.63

after adjusted for less than more than

opportunity costs S&P 500 S&P 500

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Discussion: Part 3The Financial Performance of FedEx and UPS

– EVA analysis: Table 4 and 5• 1990-1991 decline??

• EVA results may reveal a war of attrition => the winners of such wars tend to be the contestants with the greater resources

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Discussion: Part 3EVA vs MVA

One hint from Table 2 that the demise is not FedEx’s fate yet….. => While EVA was $1.387 billion, MVA declined only $0.641billion. The capital markets is “more optimistic” than the EVA numbers. Why??

Estimation error in NOPAT and capital investment resulting from reliance on GAAP figures

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Discussion: Part 3 EVA vs MVA

Ignorance of terminal value and option value– EVA is a one-year measure and backward-

looking– Ignores potential future NOPAT – Ignores uncertain outcomes or options– Stewart Myers (1977): firms have two kinds of

assets => assets in place and growth opportunities. EVA only help us understand the value of assets in place

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Discussion: Part 3 EVA vs MVA

Ways in which FedEx can create option value– The mastery of special skills and technologies;

huge investments in process improvement and new technologies=> financially sensible investments of human capital

– International expansion: Table 3 shows a summary comparison of domestic and international segments for both firms; International segment can be viewed as a option that could create value in the future

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Discussion: Part 3EVA vs MVA

Capital Market Inefficiency: The difference between FedEx’s EVA and MVA could be due to overoptimism of the investors.

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Discussion: Part 4Which Firm is “Excellent”?