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FedEx (NYSE: FDX)
Q2 2025 Earnings Call
Dec 19, 2024, 5:30 p.m. ET
FedEx Announces Strategic Separation Plans in Q2 Earnings Call
Overview of the Call
- Prepared Remarks
- Questions and Answers
- Call Participants
Key Highlights from Prepared Remarks
Operator
Good day, and welcome to the FedEx fiscal year 2025 second-quarter earnings call. [Operator instructions] Please note this call is being recorded. I will now turn the conference over to Ms. Jeni Hollander, vice president of investor relations.
Please proceed.
Jeni Hollander — Vice President, Investor Relations
Good afternoon, and welcome to FedEx Corporation’s second-quarter earnings conference call. For financial reports and other materials regarding our performance, please visit our website at investors.fedex.com. This presentation and the supporting slides can be streamed online. In our Q&A session, we will limit each caller to one question to help accommodate all participants.
Some statements made during this call may be “forward-looking” as defined in the Private Securities Litigation Reform Act of 1995. These statements are subject to risks and uncertainties that could make actual results differ significantly. For more details, refer to our SEC filings and press releases. The presentation will include certain non-GAAP financial measures.
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For a detailed reconciliation of the non-GAAP financial measures discussed on this call, please visit the Investor Relations section of our website. Today, joining the call are Raj Subramaniam, President and CEO; Brie Carere, Executive Vice President and Chief Customer Officer; and John Dietrich, Executive Vice President and CFO. Now, I will turn the call over to Raj.
Leadership Insights from FedEx’s CEO
Rajesh Subramaniam — President, Chief Executive Officer, and Director
Thank you, Jeni. As we approach the end of peak season, I want to extend my gratitude to our team members for their unwavering commitment to providing excellent service during this holiday season. Today marks a pivotal moment in our evolution as a company. Following our analysis of FedEx Freight, which started in June, we have decided to fully separate this business, ultimately forming two public companies that lead in their respective sectors.
This separation is expected to create significant value for shareholders while enabling both companies to maintain operational and technological collaborations. By doing so, each entity will sharpen its focus and improve competitiveness. For FedEx, this will help us effectively implement our short- and long-term strategic initiatives while preserving the connections we have with Freight. Each independent business will have the resources to fuel profitable growth and return capital to shareholders.
Let me briefly outline the potential of both businesses, starting with FedEx Freight. We aim to establish a leading LTL (less-than-truckload) carrier, the largest by revenue, boasting an extensive network and rapid transit times. FedEx Freight enjoys strong customer relationships driven by our reliability and variety of services. This segment has consistently maintained a strong market share and increased operating profit by nearly 25% annually over the past five years, expanding its operating margin by approximately 1,100 basis points.
Our team’s emphasis on safety, facility utilization, revenue quality, and operational efficiency has contributed to this success; these will continue to be guiding principles as we advance. As a standalone entity, Freight is well-positioned to maximize its value. We see several key areas for growth:
First, an expanded dedicated LTL sales team led by Tom Connolly, our new VP of LTL Sales, who brings nearly 30 years of experience. We’re in the process of building this team and aim to incorporate over 300 LTL specialists by the time of the separation.
Next, an upgraded LTL-specific pricing system will accelerate our market response and provide more tailored contracts. Third, we will improve efficiencies across both the Freight and FedEx networks to enhance speed and service quality while reducing costs. Lastly, we plan to automate LTL operations, which will drive efficiency and decrease reliance on external vendors. FedEx Freight’s range of services, encompassing both priority and economy options, is well-suited to the long-term trends shaping the LTL industry.
Throughout this separation, we remain dedicated to enhancing customer experiences, aiming to sustain or improve service quality. To facilitate this transition, Lance Moll will continue as President of FedEx Freight. The long-standing collaboration between FedEx and FedEx Freight will persist, ensuring smooth service continuity through commercial and operational agreements, allowing us to leverage our established relationship significantly.
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FedEx Announces Strategic Separation to Enhance Services and Efficiency
FedEx has laid out plans for a strategic separation aimed at strengthening its service offerings and operational efficiency.
Transitioning with New Technology and Agreements
The company intends to implement shared technology and service agreements to ensure a smooth transition. FedEx will connect its freight operations with advanced tech platforms, allowing for seamless coordination between the two businesses. Maintaining the FedEx Freight name will leverage the brand’s strong reputation and familiarity, ensuring customers continue to receive the high-quality service, speed, and coverage they expect.
FedEx’s Legacy in Express Transportation
For over 50 years, FedEx has been a leader in the Express Transportation industry. It delivers almost 17 million packages daily to over 220 countries and territories, linking more than 99% of the world’s GDP. The company transports approximately $2 trillion worth of goods annually, connecting 3 million shippers to 225 million consumers. Notably, FedEx’s weekend and rural coverage gives it a competitive edge, generating over 1 petabyte of data each day, which helps enhance operational efficiency and customer service.
Future Growth and Savings Initiatives
The separation will enable FedEx to concentrate on delivering outstanding service, especially in premium segments. The company has set clear capital allocation priorities, including maintaining a strong balance sheet and enhancing stockholder returns through buybacks and dividends. They anticipate executing the separation within the next 18 months under the guidance of Claude Russ, an experienced leader with nearly 25 years at FedEx.
Q2 Performance Results and Market Conditions
In its recent quarterly results, FedEx experienced sequential improvements in cost savings and adjusted operating profits. FedEx Express Corporation reported a 13% increase in adjusted operating profit on nearly flat revenue. Challenges included the expiration of the U.S. Postal Service contract and shifts in demand during Cyber Week. This reflects the company’s ongoing transformation amidst a tough industrial economy that has impacted B2B volumes.
Cost Optimization Through DRIVE
For the second quarter, FedEx reported $540 million in DRIVE savings, part of its broader initiative aimed at achieving up to $2.2 billion in incremental savings by FY’25. The rollout of Network 2.0 is progressing, and operations in Canada are expected to be fully integrated early next year. Adjustments to capacity in response to demand have led to a significant reduction in domestic flight hours, helping to cut costs while ensuring solid service.
Revised Expectations for FY’25
Looking ahead, FedEx has updated its expectations for fiscal year 2025, projecting an adjusted EPS range of $19 to $20. The DRIVE program, initially perceived as a cost-cutting strategy, has evolved into a comprehensive framework driving efficiency and accountability across the company. In Europe, FedEx aims to achieve $600 million in DRIVE savings by the end of this fiscal year.
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FedEx Reports Progress in Europe Amid Market Challenges
In the spirit of One FedEx, we are implementing hub and sort best practices from the U.S. to Europe, leading to several recent successes. A notable highlight is the revenue growth combined with the benefits from our DRIVE initiative, which has contributed to our improved performance this quarter.
Technology-Driven Efficiency Enhancements
We are optimistic about Europe’s near and long-term prospects. The foundation of our financial performance in this region lies in technology. By adopting a common data platform, we now better understand our European network, assets, and service costs. These insights are allowing us to boost efficiency.
Improved Services and Pricing Strategies
For instance, enhanced data flow has streamlined our routing in Europe, decreasing the number of touches for intra-European packages. This improvement not only raises productivity but also speeds up clearance times, resulting in better customer service. Moreover, we have implemented dimensional pricing at our Charles De Gaulle hub in Paris. This advancement effectively captures package dimensions and weights, integrating applicable surcharges through standardized processes.
As a result, we are receiving more accurate compensation for the goods we transport, especially the higher-margin packages that have unique dimensions. Over the next year, we will expand this capability to additional European facilities. Together with the introduction of non-stackable shipment surcharges, we anticipate this initiative will generate an operating income benefit of over $50 million in FY ’25. This accomplishment exemplifies how our new business architecture is converting into better financial and operational results.
Commitment to Enhancing Customer Experience
Looking forward across Europe, our team is dedicated to establishing the right value proposition, network design, and digital tools that enhance customer experiences and processes. Improving our financial performance in Europe remains a top priority for our leadership team. I am encouraged by our recent achievements and optimistic about the opportunities lying ahead. In October, just before the peak season, we celebrated the grand opening of a new, state-of-the-art sorting facility at our Memphis World Hub.
Modernization and Efficiency Gains
This facility represents a significant step in our modernization efforts, enhancing the work experience for employees and service quality for customers, while also increasing operational efficiency. Additionally, we are rolling out Network 2.0 in select markets during the first half of Q2, and to date, we have successfully optimized 200 stations. Our international air network design strategy, Tricolor, is also under execution, aimed at improving density and asset utilization across the enterprise while pursuing profitable growth.
As I conclude, I want to express my gratitude to the FedEx team as we approach the end of our peak season. Their dedication ensures that every FedEx experience remains exceptional, which positions us strongly through the peak season and beyond. Now, let me turn the call over to Brie.
Brie A. Carere — Executive Vice President, Chief Customer Officer
Market Conditions and Performance Insights
Thank you, Raj. Despite soft market conditions, our strong service levels, unique value propositions, and innovative offerings have enabled us to achieve our Q2 performance and positioned us well for a successful peak season. Consolidated revenue declined by 1% in the quarter, primarily due to the sluggish industrial economy. The U.S. manufacturing PMI has indicated contraction for 24 out of the past 25 months, marking the second-longest downturn in U.S. history.
Sectored Revenue Analysis
Examining each segment on a year-over-year basis, we noted that Federal Express revenue remained relatively flat. Higher yields across our services were countered by a decline in volumes. Demand increased for our lower-yielding services, partly due to changes in customer preferences, particularly moving from home delivery to ground economy services. However, this demand increase primarily stemmed from organic growth rather than a shift between service tiers.
FedEx Freight faced lower volumes, fuel surcharges, and decreased weight per shipment, all contributing to the top-line decline. Year-over-year comparisons proved challenging, as some customers who profited from Yellow’s bankruptcy last year have since sought lower prices elsewhere. Nonetheless, we stand ready to capture additional profitable volume when market conditions improve.
Volume Trends and Pricing Quality
During this quarter, volume trends showed pressure, especially in the U.S. domestic market, despite strong international growth helping to balance declines. U.S. domestic express services saw a 1% decline in volumes, mainly due to economic weakness. Ground volumes also fell by 1%, impacted by a soft B2B environment. While we acknowledge that e-commerce is expected to outpace B2B growth in the coming years, our priority customer base remains stable, exhibiting low churn rates. The current volume decline reflects broader global economic conditions. Ground residential volumes struggled due to a challenging year-over-year comparison, especially with the Cyber Week discrepancies between the last and current year.
On the positive side, international export package volumes increased by 9% over the quarter, mostly driven by international economy services, consistent with recent quarterly trends. Within FEC, average daily volumes rose by 10% for international priority freight and 5% for international economy freight, indicating progress from our Tricolor strategy aimed at driving profitable growth in the global air freight market. However, FedEx Freight encountered challenges with an 8% drop in average daily shipments and a 3% decrease in weight per shipment.
Revenue Quality Actions and Future Projections
The pricing environment remains competitive, yet I’m optimistic that our revenue quality actions are beginning to take effect. Ensuring revenue growth positively impacts the bottom line is our highest priority. At Federal Express, the composite package yield increased by 1%, boosted by international priority, U.S. priority, home delivery, and ground commercial services.
Overall yield for Ground Services stabilized, as growth in Home Delivery and Ground Commercial was balanced by Ground Economy. International economy parcel yields decreased due to service mix and lower shipment weights. For FedEx Freight, composite freight yield increased by 4%, influenced by decreased postal service volumes owing to contract expirations and successful execution in the international export freight market.
FedEx Freight experienced a 4% decrease in revenue per shipment, primarily due to reduced fuel surcharge revenue from lower fuel prices and decreased weight per shipment. As we progress through the peak season, we project demand surcharge revenue to rise year-over-year. I am confident that our pricing strategy supports our revenue and profit expectations for the third quarter. Looking towards the second half of FY ’25, we anticipate slight year-over-year growth in consolidated revenue for Q3 and Q4.
Although we still have five days remaining, I am pleased with December’s volumes, which are surpassing our initial forecasts. Our general rate increase of 5.9%, set to take effect in January, is expected to be well absorbed. Growth in Federal Express revenue during the latter half will be driven by increased ground residential and international economy volumes, particularly in Asia, as well as our market share gains in Europe. Our commercial traction in Europe remains strong.
In FedEx Freight, we foresee a slight decline in revenue in the second half due to ongoing softness in average daily shipments, although modest yield improvements are anticipated. As Raj highlighted, we’ll start hiring 300 additional LTL specialists in January, aimed at enhancing support for our customers and facilitating profitable growth opportunities ahead.
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FedEx Outlines Ambitious Commercial Strategy for Future Growth
As the year draws to a close, it’s an opportune time to revisit our commercial strategy.
I take pride in leading what I believe is the best team in the industry. I am confident that our commercial strategy will bring significant value in the coming years. This strategy aligns with our vision of creating a smarter supply chain for everyone. Our goal is to be the unmatched partner for our customers in propelling their businesses forward by offering a top-tier digital portfolio and an exceptional customer experience.
This is encapsulated in what we are calling Purple Promise 2.0, powered by the FDX platform. In fiscal year ’26, we will start transitioning our fedex.com customer base to the FDX platform. This shift will accelerate our speed to market and allow us to introduce new features, such as enhanced visibility for millions of small and medium-sized customers. We are focused on designing new experiences tailored for high-value segments while aiming for above-market growth where we have a distinct portfolio.
Our main focus areas include B2B markets for healthcare and automotive, domestic e-commerce, global airfreight, and the European market. Starting with B2B, we have seen remarkable success in healthcare, which represents a key priority in our B2B strategy. Federal Express currently captures a double-digit percentage of revenue from the rapidly expanding $70 billion healthcare segment, making it a vital contributor to our profits. This fiscal year, we aim to increase our market share in the U.S. by leveraging our unique offerings, which include cold chain support, our new quality management program, and FedEx Surround Monitoring and Intervention. While the majority of our healthcare revenue is generated in the U.S., the international healthcare market presents considerable opportunities. We plan to globalize our offerings and boost revenue growth outside the United States. The automotive sector also holds great promise, as we focus on what we estimate to be a $10 billion market that demands premium services essential for automotive supply chains.
We have established an automotive vertical and expect to introduce new benefits in early fiscal year ’26. Next, we turn our attention to the U.S. Domestic e-commerce market, which is projected to account for 90% of parcel growth in the coming years.
Our U.S. Ground services provide a competitive advantage thanks to our superior speed and coverage, along with picture proof of delivery, which helps us secure new business. As we implement Network 2.0, we aim to reduce our cost to serve, leading to enhanced incremental flow-through from the increased volumes. Our third focus area is the global air freight market, which holds significant potential as we currently possess a low single-digit market share in the $80 billion air freight sector. International priority freight already serves as a significant profit driver for us. Our tricolor strategy is essential to compete effectively in this domain.
In addition to these segments, we have made strategic changes within our company to enhance performance. This includes the establishment of a dedicated sales organization, a new customer service model, and investments in our digital experience. The air freight industry is fragmented with outdated shipping processes, making it ripe for disruption.
Finally, we look toward Europe, where the parcel market is currently valued at approximately $130 billion and is expected to grow further. Our revenue mix in Europe is already favorable, primarily driven by B2B. As previously noted, Q2 revenue in Europe showed robust growth due to effective execution.
Our DRIVE initiative continues to transform our cost structure and improve service across the continent, allowing us to focus on the most appealing market segments. A critical focus remains on revenue quality and capacity management for sustainable profitable growth. Over the past several years, we have made substantial strides in yield capture. A noteworthy illustration is the increase in total non-standard surcharges, which has provided an annualized benefit exceeding $180 million. This success stems from a new AI image capture process. In calendar year 2025, we will expedite our development of an end-to-end capacity management system. With FDX, we now possess a digital twin of our network, providing a real-time view of global capacity.
By employing AI and our digital quote platform, we can efficiently fill gaps at a scale and speed previously unattainable. I am optimistic about our future as we embrace these commercial priorities. I am proud to collaborate with the industry’s best and extend my heartfelt thanks to our team members for their dedication during this peak season. With that, I will hand it over to John.
John Dietrich — Executive Vice President, Chief Financial Officer
Thank you, Brie. Despite challenging market conditions, our Q2 performance highlights the team’s effective execution in commercial strategies and cost management. We achieved a sequential increase in adjusted operating profit of approximately $170 million and saw year-over-year growth in adjusted earnings per share, primarily driven by our Federal Express segment, even as total revenue dipped by 1%.
Analyzing the quarter, we faced pressures from a soft global industrial economy and a competitive pricing landscape. Additionally, the expiration of our Postal Service contract negatively impacted two months of our results, creating a headwind for operating profit. Nonetheless, we are on track to mitigate costs associated with this contract loss. Our DRIVE savings have provided $540 million in offsetting benefits, supporting year-over-year growth in adjusted earnings.
Diving deeper into segment performance, Federal Express saw an increase in adjusted operating income of $146 million due to DRIVE savings, improved base yield, and growing international export demand. Despite inflationary challenges and operational headwinds, including the Postal Service contract expiration and a $90 million impact from the Cyber Week timing shift, we made significant strides. Our efforts in Europe further bolstered our profit improvements at Federal Express, while our tricolor strategy fostered increased daily volumes and yields in Federal Express International Freight.
In Q2, we cut total U.S. Domestic flight hours by 24%, largely due to a 60% reduction in daytime hours tied to the expiration of the postal service contract. At FedEx Freight, although we faced an operating profit decline of $179 million, approximately $30 million of this was due to gains from the prior year’s sales of multiple facilities. Similar to trends in the broader LTL market, we encountered headwinds from lower average daily shipments, fuel surcharges, and decreased weight per shipment due to the sluggish industrial backdrop.
These challenges were mitigated by effective cost management and ongoing base yield improvements. With our DRIVE initiative, we achieved sequential savings growth in Q2 compared to Q1. General and administrative savings of $210 million were pivotal, as we continue to streamline our IT and back-office operations and cut down on vendor-related expenses. Savings from surface operations amounted to $150 million, primarily attributed to maximizing third-party rail utilization, which reduces our cost to serve on deferred service offerings.
Including the $180 million from Air Network and International, our total savings for the quarter reached $540 million. As we move into the second half of fiscal 2025, we anticipate further sequential improvement in DRIVE savings.
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FedEx Adjusts Financial Outlook Amid Industrial Economy Challenges
FedEx recently revised its fiscal year 2025 earnings forecast, indicating an adjusted diluted EPS range of $19 to $20, down from the previous estimate of $20 to $21. The company is facing ongoing pressures in the global industrial economy that have impacted demand, particularly in commercial services.
Revised Revenue Expectations and Earnings Cadence
At the high end of this updated outlook, FedEx anticipates low-single-digit revenue growth, driven by slight improvements in industrial production and B2B demand. Conversely, the lower end of the forecast assumes a low single-digit revenue decline, reflecting continued softness in the industrial sector and pricing challenges. For the latter half of the fiscal year, FedEx expects Q3 to benefit from the implementation of DRIVE savings and increased consumer spending during Cyber Week. However, the adverse effects of the postal service contracts will likely diminish in Q4 as the fiscal year concludes.
Impact of External Factors on Earnings
The expected decline from postal services in Q3 will overshadow any benefits from Cyber Week. Nonetheless, FedEx is confident in achieving $2.2 billion in DRIVE savings, which should contribute positively to the company’s financial health. At FedEx Freight, the company foresees ongoing pressure from a sluggish U.S. industrial environment and decreasing fuel prices, posing challenges to operating profits through the remainder of FY ’25.
Fourth Quarter and Operational Insights
Historically, Q4 has been FedEx’s strongest quarter for earnings, and the company expects this trend to continue despite having one fewer operating day. The revised outlook includes an adjusted operating income expectation of $6.6 billion, translating to $19.50 in adjusted EPS.
Revenue Quality Initiatives and Future Outlook
FedEx has identified a $700 million headwind from lower revenue expectations and ongoing inflation. This contrasts with a revised estimate of a $300 million headwind from international export yield pressures, improved from a prior $500 million forecast. The company also recognizes a $300 million impact due to two fewer operating days and an anticipated $500 million headwind following the expiration of its postal service contracts.
Despite external challenges, FedEx is committed to balancing these pressures with DRIVE savings. Recently implemented rate increases and revised surcharges aimed at improving revenue quality should support overall financial stability as FedEx navigates fiscal year 2025.
FedEx remains focused on reducing capital intensity and enhancing returns on capital. The company spent approximately $820 million on capital expenditures in Q2, maintaining a planned FY ’25 capex of $5.2 billion, similar to last year. Additionally, FedEx executed $1 billion in share repurchases during Q2, bringing the year-to-date total to $2 billion, with another $500 million planned for the latter half of the fiscal year.
Looking ahead, FedEx maintains confidence in its ability to grow earnings and generate strong adjusted free cash flow, ultimately benefitting shareholder returns in the coming years. Let’s now open the floor for questions.
Questions & Answers:
Operator
Thank you. [Operator instructions] Our first question comes from Chris Wetherbee with Wells Fargo. Please go ahead.
Christian Wetherbee — Analyst
Thanks, good afternoon. I’d like to discuss the guidance you provided, especially concerning the potential revenue declines in the second half of the year. Can you break down the factors contributing to this adjustment, particularly regarding the freight segment and how the performance might be weighted between Q3 and Q4?
John Dietrich — Executive Vice President, Chief Financial Officer
Thank you, Chris. Our prior projections included expected DRIVE savings and price adjustments, but the anticipated volumes did not materialize. The adjusted EPS range of $19 to $20 reflects these revenue expectations. While we don’t provide quarterly specifics, Q3 will experience some benefits, especially due to Cyber Week, albeit countered by increased USPS headwinds. As we traditionally see stronger earnings in Q4, we expect this trend to hold even with one fewer operating day.
Operator
Your next question will come from Ken Hoexter with Bank of America. Please go ahead.
Ken Hoexter — Analyst
Congratulations on the freight spending developments. Can you elaborate on the peak season trends you mentioned, specifically regarding volume capabilities and pricing strategies at Ground and Express?
Brie A. Carere — Executive Vice President, Chief Customer Officer
Thanks for your question. We’ve observed strong performance in December, with improved volume and pricing dynamics…
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FedEx Projects Strong December Amid Ongoing Strategic Changes
Following Cyber Monday, FedEx has reported a robust week, expressing satisfaction with December’s performance as volumes exceed expectations. Notably, the peak surcharge capture is expected to rise compared to last year, indicating a promising outlook for the month.
However, FedEx executives cautioned that the current success in December may not necessarily translate into continued growth in the latter half of the fiscal year. The company’s leadership anticipates improvement primarily in domestic volumes, particularly in ground services. They believe that revenue for FedEx Freight may have reached its lowest point during Q2. Conversely, international volume could show only slight growth, with expectations of a decline in Asian markets. Overall, the positive results from December are encouraging, even as the company prepares for potential challenges ahead.
As FedEx gears up for these shifts, operational execution and capture efforts are prioritized, yet there’s an acknowledgment that December’s strength does not guarantee future performance.
Operator
The next inquiry comes from Ari Rosa with Citigroup. Please proceed.
Ariel Rosa – Analyst
Good afternoon, and congratulations on your strategy. Raj, could you elaborate on the process of separating the businesses? What steps are necessary to ensure a smooth transition? Also, what are your thoughts on the risks associated with customer attrition during this separation?
Rajesh Subramaniam – President, Chief Executive Officer, and Director
Thank you, Ari. We initiated the separation to enhance shareholder value for both FedEx and FedEx Freight. To facilitate this transition, we have established a separation management office led by Claude Russ. Key steps include appointing a VP of LTL sales and hiring an additional 300 sales representatives over the next year to focus on addressing customer needs. Additionally, we will continue to enhance customer experience during this period. Notably, FedEx Freight will still benefit from its association with FedEx in terms of support in sales, operations, and technology, ensuring a robust framework as we move forward.
Overall, we are confident in managing this transition effectively.
Operator
Your next question is from Jordan Alliger with Goldman Sachs. Please continue.
Jordan Alliger – Analyst
Could you provide more details concerning the Network 2.0 rollout? What insights have you gained from operations in Canada or other areas? What aspects have gone particularly well, and what challenges have you faced?
Rajesh Subramaniam – President, Chief Executive Officer, and Director
Thank you, Jordan. We are making consistent advancements with Network 2.0, employing a careful rollout strategy while prioritizing service quality. So far, we’ve optimized 200 stations, including 130 in Canada, and expect to complete the Canadian integration by early 2025, with Montreal being the last major market. Each phase provides valuable lessons that we apply to subsequent rollouts. Notably, we’ve observed a 10% reduction in pick-up and delivery costs where Network 2.0 has been fully implemented. By the end of fiscal year 2025, our target is to have around 250 stations integrated.
Operator
Your next question comes from Daniel Imbro with Stephens Inc. Please proceed.
Daniel Imbro – Analyst
Good evening, everyone. Thank you for your time. John, I would like to inquire about capital allocation and the balance sheet.
How do you envision distributing debt between the businesses? What should we expect in terms of target leverage for each segment? Additionally, how might capital allocation change post-separation? Will this spin-off enable investments that were previously not feasible?
John Dietrich – Executive Vice President, Chief Financial Officer
Thank you, Daniel. We do not foresee any significant changes in our capital allocation strategy. Our focus remains on optimizing existing operations while ensuring substantial adjusted free cash flow for shareholders, both before and after the separation. We aim to continue our ongoing share repurchase programs, having already repurchased $1 billion in Q2, bringing the total to $2 billion for the year, with $500 million remaining. The capital allocation strategy in the post-separation landscape will be evaluated, and we will keep you updated on our progress.
Operator
The next question will come from Jason Seidl with TD Cowen. Please go ahead.
Jason Seidl – Analyst
Thank you, operator. Good evening, everyone, and thank you for taking my question. Congratulations on the spin-off; it’s great to see value creation. I would like to focus on the commercial agreements mentioned, particularly regarding peak and drayage. How long will these agreements last? Furthermore, what are the implications for existing bundled services between the two companies?
Brie A. Carere – Executive Vice President, Chief Customer Officer
That’s a relevant question. It’s essential to consider the customer base for FedEx Freight. The strength of FedEx Freight arises from its integration of three networks under the FedEx brand, leveraged by strong relationships cultivated with customers. Presently, while many smaller clients have bundled services, most volume is conducted under independent contracts. This shift occurred about four to five years ago, reflecting the need to negotiate separately in a competitive market. Rest assured, these contracts will continue to be honored as we move forward.
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FedEx Discusses Freight Challenges and Strategic Improvements in Earnings Call
Focus on Incremental Improvements in Sales and Customer Strategy
FedEx is committed to honoring its dedicated sales team as it refines its commercial strategy. Currently, the company has around 75 sales representatives focused exclusively on large accounts for FedEx Freight, and this new strategy aims to add more support in this area.
While discussing the small customer strategy, FedEx highlighted the value of its earned discount program. Contrary to the belief that this program dilutes FedEx Freight revenue, the company clarified that increased shipments through the program can lead to added benefits on the parcel side. There remains potential for improvement among smaller customers as well.
Overall, FedEx feels confident about its commercial approach and plans to execute it effectively.
Intra-Company Benefits Highlighted by CFO
John Dietrich — Executive Vice President, Chief Financial Officer
From an internal perspective, Dietrich noted the existing agreements that will enhance efficiencies after separation from prior operations. The groundwork laid through these agreements may reduce the need for substantial changes moving forward.
Market Conditions Affecting Earnings Guidance
Conor Cunningham — Analyst
Conor Cunningham from Melius Research inquired about recent changes in earnings guidance related to the freight business. He pointed out that while freight faced pressure, core trends in Express services seemed to be improving.
Dietrich’s Response
Dietrich explained that while pricing actions support FY ’25 earnings growth assumptions, overall revenue expectations are still limited due to a sluggish U.S. industrial economy. Although there are signs of improvement, premium services in the U.S. are projected to remain subdued, affecting profitability. Growth in deferred services is anticipated but with lower margins, and the projections for revenue range reflect varying expectations about industrial production.
CEO’s Take on Market Trends
Rajesh Subramaniam — President, Chief Executive Officer, and Director
Subramaniam added that the ongoing decline in industrial production indicates uncertain recovery timelines. He believes that FedEx’s performance in this challenging environment reflects its ability to succeed amid tough market conditions. He highlighted that a significant portion of revenue comes from both B2B and LTL segments, which could play a role in future revenue calculations.
Competitive Landscape and Pricing Strategy
Brian Ossenbeck — Analyst
Brian Ossenbeck from J.P. Morgan asked about competitive pricing trends and the impact of various surcharges implemented to enhance revenue management as the company looks toward the second half of the year.
Insights from Brie A. Carere
Brie A. Carere — Executive Vice President, Chief Customer Officer
Carere elaborated on the competitive market, indicating that pricing strategies face pressure due to economic conditions and a shift in service mix. There are instances where customers are seeking lower-cost options while FedEx strives to capture new business. Despite the overall pressure on base rates, the execution of strategic surcharges remains strong.
Carere emphasized FedEx’s capabilities in meeting large package needs and highlighted their successful management of surcharges, especially for peak demands. Their aim is to maintain discipline in pricing and maximize surcharges to counterbalance challenges in base rates. The company’s value proposition in rural markets continues to play a significant role in customer retention and satisfaction.
Future Outlook with DRIVE Program
Brandon Oglenski — Analyst
Brandon Oglenski from Barclays sought insight into the new DRIVE initiative and how it is reshaping the company’s operations moving forward.
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FedEx Leaders Discuss Strategy Amid Changing Market Conditions
In recent discussions, executives at FedEx have addressed their approach to revenue quality and future adjustments in response to lost customers, all while noting an increase in margins.
Rajesh Subramaniam — President, Chief Executive Officer, and Director
Thank you for your questions, Brandon. Let’s talk about the evolution of our DRIVE initiative first. DRIVE has transformed how we operate at FedEx, establishing a leading approach to governance that fosters disciplined execution.
This data-driven strategy ensures timely decision-making and better execution overall. It serves as a strong foundation for our operations going forward. Additionally, we have embraced a digital-first mindset to solve problems and differentiate our services. The technological innovations we have implemented are significant.
These two elements are at the core of our success. As we refocus our vision towards smarter supply chains, we are beginning by enhancing our own operations. Out of the $4 billion savings from DRIVE, approximately $1.8 billion results directly from these new technologies. Looking ahead, whether implementing Network 2.0, enhancing Tricolor, or expanding in Europe, we will guide these efforts through DRIVE, which bolsters our execution confidence. I hope this answers your question.
Operator
The next question will come from Bruce Chan with Stifel. Please go ahead.
Bruce Chan — Analyst
Good evening, everyone. It’s exciting to hear about the spin-off. I have a follow-up regarding potential USPS privatization. How would that affect competition? Would it create a true competitor or make USPS more profit-driven and therefore rationalize the market?
Rajesh Subramaniam — President, Chief Executive Officer, and Director
It’s early to offer insights on that matter, Bruce. We will closely observe developments. However, it’s essential to state that any package delivery business should not be subsidized by taxpayers, which we hope will be a guiding principle if changes occur.
Operator
The next question will come from Jon Chappell with Evercore ISI. Please proceed.
Jonathan Chappell — Analyst
Thank you. Good afternoon. Brie, I’d like to ask about the impact of tariffs. This topic seems prevalent in discussions right now. How has your cost structure changed since the beginning of the Trump administration? Have you received feedback from customers regarding a potential surge in demand?
Brie A. Carere — Executive Vice President, Chief Customer Officer
That’s a great question. In December, we might see a slight pull forward due to shifts in both the freight and parcel networks from ports. It’s difficult to determine the exact cause at this moment, as we are currently in peak season. Clarity should come in January. I’m particularly pleased with how quickly our airline team is responding to these dynamics.
As Raj pointed out, we’re utilizing DRIVE to adapt to these changes. With our expansive customer relationships, we’re ready to pivot alongside our customers. While it’s hard to predict future developments, we are prepared to remain agile.
Rajesh Subramaniam — President, Chief Executive Officer, and Director
Moreover, Jon, we constantly function as a barometer for global supply chains, especially concerning high-value goods. Our large-scale network connects 99% of global GDP, providing us with a significant advantage to adjust capacity quickly. This agility distinguishes us from past operations and enhances our value proposition through end-to-end delivery, including customs clearance. Our insights into international logistics solidify our competitive edge as we help our customers optimize their supply chains.
Operator
The next question will come from Scott Group with Wolfe Research. Please go ahead.
Scott Group — Analyst
Hi there, thanks. Good afternoon. John, you mentioned that the challenges posed by the Postal Service are greater than the benefits from Cyber Week. Could you clarify your expectations for Q3? Regarding LTL expenses, why does an 18-month timeline seem lengthy? Also, should any corporate unallocated costs be factored into LTL?
John Dietrich — Executive Vice President, Chief Financial Officer
Thanks for your question, Scott. Regarding the 18-month timeline, this period is standard for transactions of this magnitude. We’ll keep you updated on our progress. As for the Postal Service situation, we’re on track to eliminate costs associated with the upcoming contract expiration. We have reduced approximately 60% of our U.S. domestic daytime flight hours, which comprise around 24% of all our daytime hours. This shift will significantly impact Q3, but we expect to see positive results moving into FY ’26. This context should clarify our current and future expectations.
We appreciate the efforts being made and will continue working towards improving our cost structure as we move forward. Hopefully, this provides further insights into our situation.
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FedEx Leaders Discuss Expansion Plans and Strategic Initiatives
Strong Focus on Volume and Network Changes
The conference call featured insightful exchanges between analysts and FedEx executives, addressing the company’s initiatives in its less-than-truckload (LTL) division and the Network 2.0 project. Tom Wadewitz from UBS opened the discussion, seeking clarity on FedEx’s strategy for future volume growth within LTL.
Strategic Growth in LTL
Wadewitz expressed appreciation for the detailed presentation on the spin, underscoring the complexity of the changes. He inquired whether the company would prioritize volume in the LTL sector moving forward, given the margin improvements noted in prior discussions. Specifically, he referenced a notable 1,100 basis points enhancement driven by price adjustments and operational discipline. His question pivoted on whether an increase in sales staff focused on small to medium-sized businesses would influence a more aggressive approach to competing for freight.
Disciplined Approach with Future Investments
Brie A. Carere, Chief Customer Officer at FedEx, responded affirmatively, highlighting the disciplined strategy the team has maintained. She noted that while current weights might not suggest a significant upward trend due to market conditions, there are technological opportunities to improve capacity utilization. Carere emphasized plans to invest in new sales personnel and explore new industrial opportunities, indicating a willingness to adopt a more offensive strategy moving forward.
Progress with Network 2.0
Next, David Vernon of Bernstein raised questions about the Network 2.0 initiative, specifically about the integration of 250 stations anticipated by fiscal 2025. He asked for insight regarding the percentage of volume affected by this project and the timeline for incorporating major metropolitan areas into this framework.
Rajesh Subramaniam, CEO of FedEx, provided clarity on this issue, confirming that fiscal 2026 would represent a significant progression, with both fiscal years 2026 and 2027 being pivotal for Network 2.0’s full implementation.
Closing Remarks
As the call concluded, Subramaniam expressed gratitude for the efforts of the FedEx team during the peak season. He noted five days remaining and anticipated a strong finish. He also extended wishes for a happy holiday season to all participants on the call.
Call Participants Overview
The call included various analysts and top executives, illuminating ongoing dialogues about FedEx’s future strategy.
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The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.
