Q2 2019 Earnings Call

Good morning, My name is Steven and I will be your conference facilitator today at this time I would like to welcome everyone to the U.P.S. Investor Relations second quarter 2019 earnings Conference call. All lines have been placed on mute to prevent any background noise and after the speakers remarks.

There will be a question and answer period.

It is now my pleasure to turn the floor over to your host Mr., Scott Childress Investor Relations officer, Sir the floor is yours.

Good morning, and welcome to the second quarter 2019 earnings call. Joining me today are David Abney, Our CEO Richard parents, our CFO , Kate Gutmann, our chief sales and solutions officer, along with Chief Operating Officer, Jim Barber, Our Chief information and Engineering Officer, one per ads and Scott price, our chief strategy and transformation officer before we begin I want to review the Safe Harbor language. Some of the comments, we'll make today are forward looking statements and address our expectations for the future performance or operational results of our company. These statements are subject to risk and uncertainty which are described in detail in our 2018 Form 10-K , and other reports filed with the Securities and Exchange Commission. These reports are available on the PS Investor Relations website and from the FCC during the quarter EPS recorded a pre tax charge of $21 million or two cents per share on an after tax basis the choice.

It is primarily from transformation related activities with the majority allocated to the US domestic segment in the prior year period EPS recorded a pre tax charge for transformation cost of $263 million or 23 cents per share on an after tax basis. The webcast of today's call along with a reconciliation of non-GAAP financial measures are available and EPS Investor Relations website, unless stated otherwise financial performance discuss today will refer to adjusted results webcast users can submit live questions. During today's call. We will attempt to answer questions of a long term strategic nature callers are asked to submit only one question. So that we may allow as many as possible to participate thank you.

And I will turn the call over to David Thanks, Scott and good morning, everyone. During the quarter, we continued making significant progress executing our strategies as expected our transformational initiatives are producing positive operating leverage and improved profit.

Signifying an important turning point for you Pos during 2009.

These initiatives combined with the strength of our underlying business and scale of our global network are creating strong results, we generated more than 3% consolidated revenue growth and greater than 6% growth in operating profit. In fact, we grew profit in all three segments and generated the most profitable quarter in the history of our company. Our transformation is also creating greater efficiency and agility and funding reinvestment in new state of the art solutions.

This will enable us to capture profitable growth opportunities.

At an even higher level. This morning, I will share a few quarterly highlights.

Okay, we'll introduce numerous market leading solutions focused on driving higher quality revenue growth and Richard will cover the financial details.

Yesterday, we announced the latest wave of new services and solutions and there are more coming.

These services will provide our customers new level of UBS feed visibility control and market access, especially our SMB e-commerce in the healthcare customers. This is an exciting and momentous time did you pay us as we leverage the exceptional power VP of technology and innovation.

To bring to market new industry firsts capabilities only efficiency for our transformation initiatives are enabling a faster more flexible network and the euros reopened three major automated hubs in the quarter, adding more than 2 million square feet of new highly automated sortation.

The modern facilities brought on in 2018, and 2019, along with significant changes, we're making to our network are improving transit times on key leads for improved local national and global customer service.

We're also adding highly efficient aircraft in the EU us and other major international trade lanes in line with shifting volume levels.

Between 2017, and 2022, we will add 44 new aircraft.

Which creates more than 10 million pounds of additional air capacity in the network the largest air capacity expansion in the industry in recent history. In fact this year, we will add the most annual capacity in our multiyear program by deploying a 11, new 747 dash eights.

And seven six sevens.

And the timing of our actions couldn't be better with the largest ecommerce shippers.

Adopting next day and often moving from our competitors to day options to our one day services. This structure will change is creating opportunities for you.

Our additional where capacity in modern integrated network offer unmatched flexibility positions us well to serve changing customer needs.

In the quarter average daily volume for you pay US next year search more than 30% the strongest growth in more than a decade, our air market share growth is accelerating and we are strengthening our industry leadership.

You PS is in a unique position to enhance financial performance as we create new solutions that enable shippers of all sizes to being accelerated delivery expectations of their customers.

Turning to the trade environment.

Yes has long supported free trade, making cross border commerce easier for all businesses.

I recently met with top trade officials from the U.S. and from China.

And while I'm encouraged by the commitment of the negotiating teams we need to see more measurable progress towards a comprehensive agreement.

At the moment the global business community is facing prolong trade uncertainty in Europe , and elsewhere and forecasts are softening global industrial production was lowered to about 1.5% for the year. Additionally world exports are now forecast to grow at a slower pace than global GDP. Nevertheless, you PS using the flexibility of our network to help our customers optimize their supply chains and take advantage of continued growth opportunities.

The us economy appears to be in better shape with lower unemployment.

Healthy consumer demand and forecast for improved view us GDP the concern for the U. us industrial production.

The IP outlook for the fourth quarter is forecast to be slightly negative on a year over year basis.

Regardless of external conditions, our transformation initiatives are making you pay us more competitive and more perficient is helping our customers.

The progress in our operations and the exciting new solutions, we announced yesterday were made possible by three things our strategies.

Investments, we're making.

And the execution by our people I would like to thank our employees worldwide for their tremendous contributions to our success.

Momentum is building.

We remain confident our strategies and initiatives will drive even stronger revenue quality.

Create further efficiencies and improved company profitability.

We will continue to accelerate our initiatives in 2019 and beyond.

Now I will turn it over to Kate to share more details about our new services and solutions.

Thank you David and good morning, everyone.

Last September at our transformation conference, we unveiled key initiatives designed to generate growth. We're excited to announce the most extensive rollout and innovative new solutions in recent history.

Our customer first strategy targets, an optimal customer mix that will yield high quality revenue across all of our strategic growth imperative.

Small and medium sized businesses health care international growth market and VTB Nvtc E. Commerce. These solutions were created to leverage the expanded automated capacity, we have added to our network, which will empower our customers to do more move faster and go from there.

Yes aim to be an indispensable partner for Smbs to that end Smbs can now leverage that Brett speed and information and the PS network like never before first with growing demand for next day delivery you PS is improving time in transit in many key lanes and across all products and our broad us portfolio beginning in the second half of this year.

These faster transit times connect the places where more than 80% of the population resides.

Enabling faster delivery for all shipments.

Second beginning in January you PS will offer customers pickup and delivery services seven days a week, we are expanding our current Saturday residential and commercial pickup and delivery services.

And adding new Sunday option.

As the only major carrier with Monday through Saturday pickup offerings. This service significantly expands our market coverage on the weekend.

Providing customers added speed and convenience.

We plan to efficiently leverage the combination of the U.P.S. integrated network access point locations and GPS share repo.

In collaboration with the U.S.P.S. to deliver this new capability third we're providing later pickup for next day ground delivery, enabling SMB shippers to process more orders in a day later pickup times are available now to hubs covering 85% of the U.S.

Solidify new PS is leading market position and next day ground coverage and Additionally building on the tremendous success of EWP, yet my choice for home we are excited to announce.

Yes, My choice for business available Monday July 29th participating companies will join the nearly 60 million consumers worldwide enjoying the benefits of U.P.S. My choice for home.

Small businesses will now have unprecedented levels of visibility and control over both their inbound and outbound shipments advantages that can enable smbs to provide better customer service and improve planning for staffing and equipment needs.

Health care has long been a priority for you Pat.

And we continue to develop unique solution to rapidly scale, our recently announced drone operations on the weight met campus and Raleigh North Carolina.

We created you PS flight forward a subsidiary formed to operate commercial drone delivery.

This fall we expect to receive part 135 certification the highest level of certification from the FAA, which will enable us to complete routine flight.

Beyond line of sight day or night.

Yes, it is leading the industry and intends to stay at the forefront of commercial drone aviation.

This certification will pave the way for service expansions to other hospitals and medical campuses and the U.S.

Cross border E. Commerce is growing fast and is a significant opportunity for our customers and for you Pat.

To help our customers tap into this opportunity with an affordable and easy to use the international service. We created U.P.S. worldwide economy. This new service has been designed specifically to enable smbs to send lower value cross border shipments using an economical deferred service.

To that top e-commerce markets around the world.

Yes worldwide economy is now available in Canada, China, Hong Kong, the UK and the us.

With more European and Asian markets coming soon.

And finally understanding how busy small businesses and consumers are every day, we are dramatically increasing the number and variety of locations that enable access to U.P.S. services. We're excited to announce advance autopart Cvs pharmacy and Michaels stores are joining the U.P.S. access point network collectively over the coming months. These retailers will add more than 12000 locations nationwide when fully implemented.

Bringing our us total to 21000 locations, where consumers can conveniently pick up or drop off their U.P.S. packages, including returned close to their homes and offices.

We remain the e-commerce shipper of choice, providing unmatched support to meet our customers needs together with the U.P.S. My choice for home App consumers have broader choice visibility and control over when and where they are you PS deliveries are made and like with all other access points.

Yes, the teens further geographic reach and greater delivery densities driving increased efficiency.

Yes, as the global industry leader with more than 78000 points of contact including retail locations and Dropbox is around the world.

Soon more than 90% of U.S. consumers will find an access point location within just five miles of their home offering our remarkable new level of convenience.

You PS is poised to capture an even greater share of the fast growing b to C market by making pickups and drop offs close by and convenient for virtually all customers.

In closing you PS is actively enhancing the customer value chain from top to bottom.

By leveraging the power of our integrated network state of the art technology and expanding access point network.

We are helping our customers to be even more successful this rollout of exciting new services, along with innovative platform like Eve fulfillment and where to go are just the beginning.

Many other industry first solutions and partnerships are in development.

And vision to empower our customers and enhance efficiency and new ways. They are being enabled and accelerated by our transformation initiatives and the power of the U.P.S. Smart Global logistics network.

Now I will turn it over to Richard to move into the financial results and outlook.

Richard.

Thanks, Kate and good morning, everyone.

We had a good performance in the quarter.

Driven by our planned multi year investments, our transformation initiatives and strong execution within a dynamic environment. The enhanced leverage we are buildings evident in our performance.

All three segments grew profits during the period consolidated operating margins were 12% and expansion of 30 basis points year over year today I will cover performance of the segments and provide an update to our forward guidance for 2019 lets look at the segments.

One of the most notable elements for the quarter was the performance we delivered in the U.S average daily volume was up more than 7% with strong growth across all products. Both in B to B and B to C. Next the volumes up more than 30% as we seize the market opportunities with large e-commerce shippers.

Who are early adopters faster delivery to their customers. Our air source are completely automated plus with the investments we've made in our integrated ground and Air network. You PS is well positioned to meet the market shift towards next day delivery and grow profits.

Reported nifty yields were lower due to higher growth with large customers and end of day favorite products. The good news is underlying base rates increased 3.4% and the air profitability and operating margins improved on a year over year basis.

Ground volume grew over 4% and revenue increased more than 5% base rates for ground also increased almost 2% and although customer and product mix weighed on reported yields ground showed a solid increase in profitability in the U.S. domestic business unit costs were up a half a percent this quarter the lowest increase in several years contributing to positive operating leverage in the business. The results would have been even stronger without the startup cost of an additional 2 million square feet of new automated sorting capabilities, we are gaining efficiency and becoming more agile enhancing nucleus is ability to scale rapidly and adapt to capture market opportunities and generate higher levels of profit as a result of our actions total us revenue was up 7.7% operating profit grew 8% to over $1.2 billion and we produced a margin of 11%.

Now, let's turn to the international business in the quarter, we leverage the strength and flexibility of our global network to deliver operating profit growth and margin expansion as a segment adjusted to the challenging trade environment revenue quality was driven by disciplined yield management on a currency neutral basis revenue per piece for the international domestic increased 5.6% and revenue per piece for the entire segment was up nearly 2%.

Although volumes were down slightly we're seeing growth in a number of trade lanes.

Asia exports are growing to virtually all regions of the world except to us.

UK exports and imports continued to be down on a year over year basis, driven by the uncertainty around Brexit. However, you PS is growing exports within the European caught in the segment, we generated $665 million in operating profit a record for the second quarter and expanded margins by 80 basis points compared to last year.

Turning to supply chain and freight we had another strong profit result were up almost 11%. This segment delivered its best second quarter operating profit in the company's history operating margins expanded 90 basis points to 8% and large part due to the effective execution of our strategies multiple units within supply chain and freight contributed to strong results by leveraging the flexibility of our asset light businesses.

Looking at the highlights of some of the individual units in supply chain International Airfreight achieve robust profit growth on lower tonnage, we generate higher quality revenue.

Expanded the buy sell spreads and executed prudent cost controls.

All of these offsetting the softer demand on the China U.S. Lee Coyote, our truckload brokerage division continues to outpace others in the market.

They had another outstanding quarter enabled by productivity gains and optimization actions revenue was down driven primarily by the overall market rates, but profit increased significantly and operating margins expanded across the three segments. We are pleased with the progress we are making.

Each of these businesses is executing well and showing gains and operating profit.

Now, let's turn to the balance sheet.

Yes generate $4.2 billion in cash from operations and about $2.2 billion and adjusted free cash flow and Thats with capital investments of about $2.9 billion year to date.

We're well on our way to meeting our free cash flow target with potential for additional upside.

As expected we made an opportunistic contribution of just over $800 million to the pensions resulted in lower ongoing costs and an increase in our funding status.

Our timing was good as long term interest rates were significantly below the PBGC premiums.

So far this year, you PS distributed nearly $1.7 billion and dividends, which represents a 5.5% increase on a per share basis over the same period last year, and we repurchased 4.8 million shares for about $500 million moving to tax.

As we work through upcoming filings, there's a potential for favorable benefits that could lower our effective tax rate likely in the third quarter. As a result, we expect our full year tax rate to be between 22 and 24%.

Now before we move to guidance, let me take a moment to expand on what key shared with you the new solutions, including by choice for business improvements in transit time, and the extended hours pickup and others did activate in 2019, all embedded in this year's guidance as we rollout our targeted weakened operations to expand Saturday coverage can add Sunday in 2020, we will leverage the combination of our highly efficient network.

Expanded U.P. us access points and EPS surepost.

This brings together the efficiency of our great partnerships.

Proven technology and utilizes our new weaken driver category to produce higher levels of asset utilization and enhanced services for our customers across all seven days the actions announced yesterday, a part of our broader transformation and are included in our long term targets.

For the remainder of 2019, although external conditions have changed we are reaffirming our annual guidance as David mentioned forecast for world exports and US industrial production have been lowered and remain concerned about the growing headwinds from trade uncertainty working in our favor you PS as a number of company specific tailwinds.

First positive momentum from the capacity and efficiency Creed inside the network, especially in the us as well as the new product and services. We are introducing second profit gains from the structural movement to more next day delivery through the benefits from previously discussed items like the completion of our VR P program wrapping of currency headwinds from last year among others.

And as I mentioned earlier in my talk we will likely see a favorable tax benefit predominantly in the third quarter, which will help offset forecasted headwinds.

Putting everything together as momentum builds is expected to result in the second half of the year will be considerably stronger than the first half.

Based on our positive momentum and the current economic outlook, we remain on track to achieve our full year adjusted earnings per share guidance of 745 to 775.

We are making visible progress on our strategy and remain confident.

The transformation and our other initiatives will produce gains.

And now I'd ask the operator to open the line operator.

As a reminder, please ask only one question. So that we may accommodate more callers feel free to get back in the queue and we will take a second question time permitting I will now turn the program over to our all Scott Childress just start to Q at a segment. Please go ahead Sir.

Thank you, let me reiterate what Steve and just said we've got a lot of ground to cover today. So callers are asked to submit and ask only one question do we need to get through as many as possible.

So our first question comes from Scott Schneeberger from Oppenheimer.

Please discuss your progress in growing share with the small and medium businesses.

Great. Scott This is Kate will take that one.

SMB is a key priority within our strategic growth imperatives, and Theyre going well, we handle more SMB business than anyone and we continue to innovate.

And the the solutions, we actually announce where foreshadowed at our transformation conference. So this strategy is unfolding as we speak.

They are a holistic strategy as we aim to win more business Monday through Sunday meeting all of our customers needs.

And making it easy for them like the market, leading my choice for business, where weve provided unprecedented visibility and control for their inbound and outbound shipments.

And enhancing our network with faster time in transit in meaningful ways hitting the lanes that actually will cover 80% of the population.

And seven day service, expanding Saturday, and Andy adding Sunday options to win even more SMB from the full week.

But leveraging the combination of European integrated network access point locations and shore post in collaboration with the post office.

We also extended have our extended hours next day ground service, enabling smbs and large customers to process orders later in the day.

And reaching more than 85% of the population.

We're also proud of the access point expansion and the partnerships with Cvs Michaels and advance auto.

That adds more than 12000 locations nationwide, bringing us total to 21040 thousand globally.

Further helping SMB take advantage of the cross border trade opportunity Weve announced worldwide economy.

This is an economical and deferred service designed for their low value cross border good.

And it's available in Canada, China, Hong Kong UK.

And U.S. with more coming soon.

Further with the SMB as well as larger healthcare accounts, we have our drone service staying at the forefront and rapidly scaling our drone operations on the campus of wake, Matt and other hospitals to come.

So we're very excited about our SMB initiative and priority the strategy that we laid out for you at the transformation conference in being able to bring more into two you with detailed and we remain committed to the strategic growth imperative. So just a quick.

Rick This is David the.

Yeah, well look at all these announcements that we made those individual projects, but this is a holistic approach.

To basically, enabling small and midsize customers plus we swing above their weight.

And so the focus is on this group of customers. So that they can compete with the larger companies that are out there.

The excitement that we see both of those.

Profitable and we're very confident that we will continue to serve the small and mid size customer.

In ways that none of our competitors can do in this model is.

My tours business.

It is unique in the industry. There's no one that can manage that and and we expect the same enthusiasm as we heard my choice for home, which is 60 million members.

And we believe we'll get was a good traction with my tours business.

Thank you for the question, let's move on.

Your next question comes from Ben Hartford of R.W. Baird.

Based on global trade trend.

Do you have any clarity on years stated long term EPS targets of five to 10.

Yeah I'll start to question.

David will.

Comments, well first to start our long term targets are built around different economic cycles. When you look at this year, we call for a year of real progress we saw in the second quarter results and in the second half we look for even stronger.

Performance is driven by many of the factors the Cajun David just covered as well as some of the items that I talked about my prepared remarks.

Well, we're really starting to play offense. When you think about the network benefit what cost per piece is doing as well as.

The the capabilities that we're bringing to the market as you're adding to the top line.

And it's important to remember embedded in our guidance is all those items that we've called out that we talked about earlier in the year strategic initiatives and now we have it now.

David.

Yes, Great question, Ben and I, Wouldnt say lets look real quick obviously, there are headwinds and tailwinds there always are and.

Well when you look just quickly at the second quarter, we had our.

This quarterly performance, we've ever had in the history of this company.

And had positive operating leverage in our us business.

Our international supply chain and freight business has the highest second quarter. They have never had and this is under dynamic.

Under a dynamic trade environment.

Hi, this is merely a turning point in our profitability, we have momentum going into the.

The rest of the year.

And the.

When you look at our transformation initiatives that we talked about a year ago are really kicking in we're getting the efficiencies and the gains.

And the and then you add on top of that exacerbated solutions.

And that will help our customers.

To deal with all of these changes that we will see.

And we have a lot of confidence here that the that in spite of what may or may not know.

Great environment.

That weekend bloodsuckers systems like social network and that we can continue to take care of the needs of our customers. So we feel confident in the second half of the year and going into next year.

We have a question from the line of Tom Wadewitz of you BS. Please go ahead.

Yes, good morning, and congratulations on the strong results add to look at two or three times when I saw the 30% growth in next year I don't think I've seen a number like that before so.

Strong results.

How would you think about the.

Greater growth in e-commerce and in I, presumably in that next day category.

I'm looking forward or or continued growth as you saw in second quarter, and how that might affect the margin outlook in domestic package.

I know you talked about at the transformation meeting that mix was a factor and focus more on b to B. So as you had this really strong ecommerce growth does that affect how we think about margin improvement.

In second half and 2020 and domestic package. Thank you. Tom This is Kate thanks for the question and we do see that structural change in the market today commitment to this shift to one day commitment.

Drives air and ground as we've just talked about that extend the next day ground coverage that we give and you see the growth that occurred in both we believe SMB, they're going to follow and so they're going to be empowered by some of these solutions. So the growth while at the levels. They caught your attention. This morning morning may not be the same in the future. We do believe the structural change continues and it will be strong growth in the future. Richard you want to answer margins. So when you think about margin.

We do continue to call for improvement in operating margin.

For the U.S. business, it's driven by the efficiency.

Across the network both the ground in the air with the new buildings and you saw what cost per piece did this quarter and that half a percent is among the lowest it's been in several years and we expect that to continue.

We aren't calling for low double digit operating profit growth in all three segments for the entire year and so when you put it all together, we expect the second half to be well, we do believe that the nics data will continue to grow but that that growth started really in the first quarter. If you look at our growth numbers.

There is little higher in the second quarter, we don't expect to stay that high through the rest of the year, but we do expect to continue to win share based on the solutions, we have in the market and will help margins.

Thank you.

David Vernon of Bernstein. Please go ahead.

Hey, Good morning, guys, Richard I Wonder if you could talk a little bit about how the investments in service go into seven day speeding up the road network, which I would presume means take something off the train putting onto a truck.

How does that can affect.

The trajectory domestic margins into next year is this a case, where you guys are are taking some of the leverage you would have had in the business and reinvesting it or should we expect some margin pressure in 2020 against whatever 2019 comes up to be I'm, just wondering about that that pace of investment and where that where it's being funded from.

Sure. So let me take those two boxes I'll go very quickly in 2019, everything we said we would start early in the year, we talked about strategic initiatives, we would announce with embedded in the guidance.

The announcement is the improvement in time in terms of its starts now in terms of 2020.

What we have is we have targeted Sunday operation. It's the combination of Surepost expanded access point and the use of the new part time driver Ken I'm sorry the.

Weekend driver category.

It's also important to information and what we committed to reinvest in the business to make it grow even more and so as we get to 2020 guidance in a few months will come out and explain to you how that all plays out but it was all part of the plants. We initially had.

Okay, so nothing incremental to that to the cost guidance.

That's right 2019, it's all embedded in.

All right, we're going to take a online question here. This question. We've got multiple question Helane Becker of Cowen and Chris Wetherbee of Citi.

Can you give us an update on the transformation.

Initiative and are there benefits beyond the European 2019.

Yes. This is Scott. Thanks for the question. So as you recall last year, we kicked off the transformation program with the voluntary retirement program and procurement. Those are really just two of the early initiatives that are helping us to reduce our costs to fund both growth and innovation a significant number of additional cost reduction programs are in the pipeline focused on modernizing our systems and as well, helping us to create the fund to invest both in some of the programs that were announced yesterday that.

Pete mentioned that give us a peerless market, leading position in many customer facing a areas as well as investing in innovation like our drone announcement, which is just one of many that we expect in the future.

We continue to invest those savings both in terms of our investments in growth, but also.

We reiterate our commitment to the dollar to $1.20 of incremental EPS in 2022, let me just quickly turn this over to want to talk a little bit more about the modernization. Thank you Scott and.

Absolutely all points connect that to technology, we are well on our way in executing our digital transformation in our digital strategy in the company. We continue to make investments in four key technology areas customer technologies, you've heard some of the announcements yesterday and today those of those announcements are supported by technology to do peers operational technologies technology modernization as well as transformation.

All of these areas in which we're making technology investments our transformational I mean 2019, we have already gone through multiple back office technology modernization projects. We have made enhancements in our technology to support our fourth strategic growth imperatives. We will continue to do that we've expanded the use of our operations technology and best in class operations technology. That's out there and of course, we continue to make investments in advanced analytics. The last point I'll make Scott is that we have a great solid history over effective implementation of technology in our company and we intend to continue to do that.

Good decisions for our customers and we're going to continue to enhance our service and we're all excited about it.

We're becoming as a company more agile and the timing of our investments could not have been any better.

The structural change in the market for next day delivery.

Is favorable for Dps is favorable for our customers and for the consumer but it is certainly favorable for us.

The us domestic segment has good momentum and we're going to continue that momentum.

We continue to see growth opportunities in the U.S. and also internationally and in our supply chain business.

So in summary, we expect strong profit growth ahead.

And we'll continue to accelerate our initiatives.

And move at a faster pace. So thank you very much for joining us today and I appreciate the time.

Ladies and gentlemen that does conclude our conference call for today, we would like to thank you for your participation have a wonderful day you may now disconnect.

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