Recommendation: BUY United Parcel Service (UPS); Sell NG, JOYG, BHP
Industry Overview
Industry demand drivers:
• E-commerce
• Emerging economies
• Trade
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Company Profile
UPS is the world's largest express carrier, specializing in time-definite package delivery and a growing
presence in specialized transportation and logistics services. UPS delivers packages for more than 1.1
million shipping customers to 7.4 million consignees each day in over 220 countries and territories, using a
network of 99,800 delivery vehicles, 527 planes, and 400,600 employees as of December 31, 2010. In 2010,
UPS delivered 15.6 million pieces per day and recorded $49.5 billion in revenue.
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Investment Information
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In Search of Superior risk-adjusted returns
UPS Outguns FDX:
1.Lower volatility (beta)
2.Higher yield
3.Stronger profitability
UPS v. FDX
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UPS v. FDX
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Notes:•Returns since January 1, 2003•Adjusted for dividends•Risk adjusted returns = (TotalReturns%*100)/standard deviation•Past performance does not guarantee future results
UPS FDX
Total Returns 24% 42%
Standard Deviation 7.53 17.55
Risk-adjusted returns 3.20 2.37
Chart: Buy the Dip
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Chart: Oversold and Bottoming
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Key Investment Points
#1: Pricing power – domestic duopoly, international oligopoly
#2: E-commerce tailwind for long-term growth
#3: Return of capital to shareholders
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#1: Pricing Power
1. DHL competition2. Oil price spike3. Recession / avg weight down
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#1: Pricing Power
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#1: Pricing Power
4 competitors: UPS, FDX, DHL, USPS
•DHL: Low cost provider exited domestic express land/air market in 2009
• DHL continues to offer international and heavy weight shipping
•USPS considering more limited services
•UPS and FDX now have greater pricing power
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#1: Pricing Power
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#2: E-commerce: US
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#2: E-commerce: US
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#2: E-commerce: China
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#3: Return of Capital
Reduced share count by >2% per year since 200517
#3: Return of Capital
Dividend CAGR 10% for the last decade18
SWOT Analysis
Strengths Strong competitive position – duopoly International growth, esp. Asia Scale / profitability Strong cash flow, financial flexibility
Weaknesses Capital intense Unionized labor force(agreement runs through July 2013)
Opportunities USPS cutbacks Price increases Increase buy backs, dividends New distribution partnerships
Threats Labor strike Oil prices Recession Price war with FedEx, USPS Mkt decline / pension funding
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Valuation
Dividend Discount ModelBeta 0.89Rf 2.33%MRP 8%Required Return 9.5%5-yr Dividend Growth Rate 7.30%Dividend 2.08
Fair Value $96.74
P/E Price Target2012E EPS $5.16 1-yr average forward P/E 17.0x
Price Target $87.72
DCF Model
Terminal growth rate 2.50%
Terminal FCF $3,986
/(r-g) $83,562
Discount factor $1.45
PV TV $57,480
+ PV of FCF $12,867
= Enterprise Value $70,347
less debt $12,170
add cash $5,640
= Equity Value $63,817
/ Shares 981
Fair Value $65.07 Note: UPS' FCF potential is likely understated as margins have fallen. 20
Valuation
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Valuation: Which Method?
• Given the company’s record of consistent dividend increases, DDM appears most appropriate
• However, each valuation method in sensitive to the assumptions used to derive the inputs
• An average of the methods yields a more conservative 12-month price target.
Valuation Summary
Dividend Discount Model $96.74 P/E Price Target $87.72 DCF Model $65.07 Average $83.18
Current Price $64.70 Upside 29%
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BUY 150 shares of UPS at a limit price of
$64 ($9,600, 2.1% of portfolio)
Sell 100 JOYG @ Market (~$83.45, $8,345)
Sell 125 BHP @ Market (~$85.17, $10,646)
Sell 400 NG @ Market (~$10.30, $4,121)
Portfolio Recommendation
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Industrials
Target Sector Allocation: 7.3%,
Current Sector Allocation: 3.3%
Allocation after sale: 1.6%
Allocation after purchase: 3.7%
Portfolio Recommendation
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Materials
Target Sector Allocation: 2.4%,
Current Sector Allocation: 5.4%
Allocation after sales: 2.2%
Portfolio Recommendation
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Materials
BHP: Levered to China, fairly valued in an
uncertain market = sell
JOYG: Similar to BHP. Repurchase if the stock falls
to $55 or below. Expect the stock to fall no further
than the upper $40s. I would highly recommend a
repurchase.
NG: Will need to raise funds by issuing stock. We
can repurchase after the secondary if we so desire.
Sell Rationale
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