ebook essays pieces of the puzzle
Thursday, January 9th, 2014
the buyback express

14 0109 zFDX ~ 1

Federal Express (FDX) stock jumped in October when it announced a stock buyback, finishing up 25% on the quarter.  The other shoe dropped after the first of the year, when the firm announced a $2 billion offering of notes to fund an expedited purchase of shares.

In October, a J.P. Morgan analyst’s report reflected the mood of the crowd, calling the buyback a “positive signal” of “excess cash” and a “constructive outlook” at the company.  (At the time, he kept his neutral rating but increased his target price from $110 to $134.  Six days later, he upgraded the stock and raised the target again, to $153.  Morgan was among the banks doing the debt deal to fund the accelerated repurchase agreements.)

There’s a lot to consider here.

First of all, the quality of a signal regarding a buyback is questionable at best.  Managements tend to “buy high” when it comes to repurchasing shares — and are too fearful to step up when shares are under pressure and represent better value.  Plus, they are conflicted:  Their incentive pay often is based on earnings per share goals and the stock price.  A buyback is an easy way to try to get a better payout.

In terms of outlook, it often signals a lack of opportunity to invest the money in a productive fashion.  That’s a downbeat prospect, not an upbeat one.  And keep in mind that FDX is increasing its debt considerably to buy shares, rather than relying on cash.

Looking at the chart above, I’d say that FDX hasn’t shown much ability to grow.  The top panel shows the last seven years (see my earlier postings on that time period) of results.  Obviously that time includes the financial crisis, but the bottom line hasn’t been good, with earnings lower than they were at the start and free cash flow only recently recovering.

The lower panel shows that the stock has lagged too.  The FDX return is shown relative to the S&P 500, so the -16% versus the -16% in the net income is a coincidence.  In nominal terms, the stock was up 28%.

Since I mentioned the JPM analyst, let’s also take a look at how the entire group of analysts has judged FDX:

14 0109 zFDX ~ 2

The top panel shows the average target price versus the actual price of the stock.  Predictably, it follows the stock up and down.  Following the October surprise, the average target is now back to a fairly normal premium.

Similarly, the ratings on the stock followed the price too, as shown in the middle panel (the total scale is from 1 to 5, with 5 meaning all analysts have a buy on the stock).  Interestingly, the average rating has actually declined as the stock has risen of late.  That kind of divergence is unusual.

The bottom panel shows the current earnings expectations of the analysts.  These are “adjusted” earnings, the ones favored by analysts and data services, which leave out some of the nasty bits.  You can see that next year’s earnings are inching up in response to the lower expected share count.

What’s not here is any evidence of a real fundamental improvement.  That doesn’t mean it won’t happen, but for now the express route remains the same:  Increase debt, buyback stock, meet targets, get bonus.  Someday, we’ll get back to business.  (Chart:  Bloomberg terminal.)