聯邦快遞 (FDX) 2011 Q2 法說會逐字稿

Good day, everyone and welcome to the FedEx Corporation's second-quarter earnings conference call.

Today's call is being recorded.

At this time, I would like to turn the call over to Mickey Foster, Vice President of Investor Relations for FedEx Corporation.

Please go ahead, sir.

Good morning and welcome to FedEx Corporation's second-quarter earnings conference call.

The second-quarter earnings release and our 25-page statistical supplement book are on the website at FedEx.com.

This call is being broadcast from our website and the replay and podcast download will be available for about one year.

Joining us on the call today are members of the media.

During our question-and-answer session, callers will be limited to one question and a follow-up so we can accommodate all those who would like to participate.

I want to remind all listeners that FedEx Corporation desires to take advantage of the Safe Harbor provisions of the Private Securities Litigation Reform Act.

Certain statements in this conference call may be considered forward-looking statements within the meaning of the Act.

Such forward-looking statements are subject to risks, uncertainties and other factors, which could cause actual results to differ materially from those expressed or implied by such forward-looking statements.

For additional information on these factors, please refer to our press releases and filings with the SEC.

In our earnings release, we include certain non-GAAP financial measures, which we may discuss on this call.

Please refer to the release available on our website for further discussion of these measures and a reconciliation of them to the most directly comparable GAAP measures.

To the extent we disclose any other non-GAAP financial measures on this call, please refer to the Investor Relations portion of our website at FedEx.com for a reconciliation of such measures to the most directly comparable GAAP measures.

Joining us on the call today are Fred Smith, Chairman, President and CEO; Alan Graf, Executive Vice President and CFO; Mike Glenn, President and CEO of FedEx Services; Chris Richards, Executive Vice President, General Counsel and Secretary; Rob Carter, Executive Vice President, FedEx Information Services and CIO; Dave Bronczek, President and CEO of FedEx Express; Dave Rebholz, President and CEO of FedEx Ground; and Bill Logue, President and CEO of FedEx Freight.

And now our Chairman, Fred Smith, will share his views on the quarter followed by Alan Graf and after our Alan, we will have Q&A.

Thank you, Mickey.

Good morning, ladies and gentlemen.

Happy holidays and welcome to our conference call to discuss earnings for the second quarter of fiscal '11 and our outlook.

Strong demand for FedEx transportation, outstanding customer service from our team of 300,000 plus around the world, and a healthier global economy combined to drive revenue higher.

As we reminded many of you at our investors and lenders meeting in September, we are relentlessly focused on improving our yields.

Our strategy is fast gaining traction.

Yields and volumes increased significantly year-over-year in our transportation segments during the second quarter.

On Monday, FedEx recorded its busiest day in Company history in terms of total shipments carried.

More than half this year's peak volume increase is expected to result from online retail and catalog shipments delivered to residential customers through our FedEx SmartPost network, which also delivered a 10% yield improvement for the quarter.

We are now more bullish about the remainder of the year based on our record-setting peak volumes and greater anticipated customer demand for our services.

We also are increasingly upbeat about longer-term, more positive macroeconomic trends.

As a result, today, we are increasing our earnings-per-share guidance for the fiscal year.

We believe FedEx will continue to prosper as we execute our strategy of revenue and yield improvement and as customers increasingly appreciate our unparalleled service and portfolio of global business solutions.

Overall, the global economic picture is increasingly more positive as recovery continues at a steady pace.

We are encouraged also by the recent bipartisan cooperation in Washington on taxes.

We believe the actions being considered, particularly the expensing provisions, will lead businesses to increase capital expenditures thereby creating jobs and increasing economic activity and GDP.

Also, FedEx is very pleased with Tuesday's significant rulings from the Federal District Court in Indiana favoring FedEx Ground related to its independent contractor business model.

We believe consumer and business sentiments are improving.

Forward-looking indicators, such as purchasing and credit manager surveys and other leading economic indexes, collectively point to continued growth.

While Asia is moderating toward more normal high growth rates, it is still the world's economic engine.

Latin America, as a whole, is doing very well and European GDP growth is performing better than many expected.

We expect manufacturing and industrial production will continue to lead the economy forward in the near term and drive transportation volumes higher.

At FedEx, we are committed to investing in strategic, long-term projects to position us for stronger worldwide growth in the future.

In this regard, in October, FedEx Express officially inaugurated service through its new hub at Cologne Bonn Airport in Germany.

As an aside, its rooftop solar panels cover 16,000 square meters.

The hub is the largest FedEx solar-powered system worldwide.

The Cologne hub will play a pivotal role in our strategy of strengthening and expanding our market position in Central and Eastern Europe.

On the other side of the world, in November, FedEx launched a 777 freighter route in Shenzhen, China with four flights weekly to meet the growing demand for nonstop service between the Pearl River Delta, Southern China and the United States.

Customers greatly appreciate the nonstop 777 flights that we've put in place that offer them the latest cutoff times in key manufacturing centers in China, an advantage unmatched by the competition.

Our investments in Asia are driving marketshare gains and improved customer satisfaction.

FedEx Express recently was named among the top 20 in the 200 most admired companies in Asia by The Wall Street Journal Asia and first among international express companies.

Earlier today, we were very excited to announce that FedEx has reached an agreement to acquire MultiPack, a Mexican domestic express package delivery company.

Last month, as you may recall, FedEx Express also announced plans to acquire a logistics, distribution and express business in India, AFL and we are very pleased to have both of these companies joining our team.

Once completed, these acquisitions will give FedEx more robust domestic transportation and related capabilities in these important global markets.

Also in this quarter, FedEx Trade Networks, our international forwarding trade facilitation company, opened an additional five offices in Europe, the Middle East and Asia.

As part of an aggressive global expansion plan, FedEx Trade Networks has opened 33 new offices since 2008 in addition to its more than 70 locations in the United States and Canada.

All of these are recent examples of how we are expanding our international network, already the strongest express network in the world to sharpen our focus on global trade as our prime source of growth in the future.

Emerging market GDP as a percentage of the world's GDP increased from 36% in 1980 to 46% in 2010 and emerging markets are forecasted to contribute about 50% of world GDP by 2013.

In the United States, we are very encouraged by the progress by Bill Logue, CEO of FedEx Freight and his team in combining FedEx Freight, our regional operation, and FedEx National LTL.

We strongly believe this action will substantially increase profits in FY '12 and let us offer the LTL marketplace a unique value proposition.

Overall, we are soundly on track for increasing our earnings, as well as achieving our 10% plus operating margin goal.

As always, we are very committed to improving cash flows and increasing shareowner value.

Finally, I would like to thank all of our frontline team members around the world who are working harder than ever to deliver the holidays to millions of customers.

Our operations teams are the backbone of FedEx and we are especially appreciative of their dedication to our purple promise, simply stated as I will make every FedEx experience outstanding.

And for all of you shopping and shipping procrastinators, you have until tomorrow to send your Christmas gifts by FedEx Ground or FedEx home delivery and you last-minute shoppers have until December 23 to utilize FedEx Express to get your gifts to their destination.

For your added convenience, more than 1800 FedEx office locations across the US offer a full range of FedEx shipping options, including packaging, with most stores open as late as 11 p.m.

and 300 that are open 24 hours a day.

Now let me turn things over to our Chief Financial Officer, Alan Graf.

Alan?

Thank you, Fred and good morning, everyone.

The most important point I want to make today is that we have raised our yearly guidance range of EPS to $5.00 to $5.30 per share from our previous guidance of $4.80 to $5.25 per share.

Both these ranges excludes FedEx Freight combination costs and a second-quarter legal reserve from the ATA matter and assumes stable fuel prices and continued moderate growth in the global economy.

Our yield management programs are delivering improvement across the entire portfolio and we intend to maintain that focus.

I also want to emphasize that we remain a people first company and have already reinstated many of the compensation and benefits programs we had to curtail during the recent global downturn.

As we move through the second half of the year, we will have already absorbed most of the year-over-year impact of these restorations.

We also expect to see substantial productivity improvements and cost reductions at FedEx Freight in the fourth quarter.

All of this, coupled with continued moderate improvements in the global economy, set the stage for continued earnings improvements in FY '11 and into FY '12.

We have a lot of earnings momentum.

As for the second quarter, our adjusted EPS of $1.16 is at the low end of the range we had previously provided of $1.15 to $1.35 per share.

Since we provided you that range, IP volume growth, while still very strong at over 10%, mitigated some from our expectation.

Additionally, due to the lag effect of our program, fuel surcharges did not keep pace with the increasing price of fuel in the quarter.

Lastly, because we are forecasting improved annual operating profit, our second-quarter adjusted earnings were restrained by increased variable compensation.

For the corporation as a whole, solid demand for our transportation solutions, outstanding customer service from FedEx team members, and a healthier global economy helped drive second-quarter revenue higher.

The quarter reflects many positive trends in yield improvement and volume growth.

Revenue increased 12% to $9.6 billion versus $8.6 billion the previous year.

Of note, IP package revenue increased 14%; ground package revenue increased 12%; and freight revenue increased 14%.

Base yields increased across all transportation service cohorts.

A couple of examples are base yields at Express Domestic were up 3.6%; base yields at Freight Regional were up 5.2%; base yields at Freight National were up 6%.

Our yield improvement strategy is being implemented brilliantly by our terrific sales, marketing and pricing teams and this will remain an ongoing focus for us.

Operating income decreased 18% to $469 million versus $571 million the previous year.

Significant impact to earnings resulted from $86 million in costs related to the FedEx Freight and FedEx National LTL combination, the $66 million legal reserve and also last year's results included a $54 million benefit in the self-insurance program change.

Operating margin declined to 4.9% versus 6.6% the previous year as a result of the restructuring costs, legal reserves and the self-insurance I mentioned earlier.

Those three items accounted for a 200 basis point decline in corporate earnings margins.

Looking at our segments, at FedEx Express, revenue increased 13%, $6 billion versus $5.3 billion last year.

In addition to improved yields, IP package volume was at record levels and increased 11% led by exports from Asia.

IP freight pounds increased 29% led by exports from both Europe and Asia and US overnight box grew at 4%.

Operating income did decrease 23% to $264 million versus $345 million last year and includes the legal reserve, last year's self-insurance program change, the reinstatement of compensation programs, increased aircraft maintenance charges and higher pension charges from the previous year.

At FedEx Ground, results strongly benefited from higher package volumes and yields.

Revenue increased 13% to $2.1 billion versus $1.8 billion last year.

FedEx Ground revenues increased 12% and FedEx SmartPost revenues increased 29%.

FedEx Ground average daily volume was up 7% to 3.8 million packages per day and yields at FedEx Ground were up 5% to $7.89.

FedEx SmartPost average daily volume increased 17% to 1.5 million packages per day due to the growth of e-commerce, marketshare gains and new service offerings in the small shipper and returns area.

FedEx SmartPost yield increase 10%.

You might recall SmartPost yield is net of postage paid for the USPS and lower postage costs from increased deliveries and final US Postal Service facilities resulted in higher yields.

Overall, Ground segment operating income increased 24% to $296 million and operating margins were a stellar 14.3% versus 13% last year.

At FedEx Freight, strong revenue growth was offset by costs associated with the combination of FedEx Freight and FedEx National LTL operations.

Revenue increased 14% to $1.2 billion.

LTL average daily shipments increased 8% to 89,400 and LTL yield per hundredweight increased 7% to $18.27.

This strong performance was the result of more disciplined contract pricing, [targeted] improvement from lower performing accounts, 6.9% general rate increase on November 1, higher fuel surcharges.

I should note that yields increased sequentially from Q1 by 5%.

Freight operating loss was $91 million, and resulted from the $86 million in costs related to the FedEx Freight and National LTL combination.

As noted in the press release, we have lowered the expected cost of combining regional and national to $140 million to $170 million and expect a net cash cost after the sale of assets to be negligible.

Substantial profit improvements at Freight will begin in the fourth quarter.

In conclusion, we anticipate volume growth at Express and Ground and positive yield trends across our transportation segments during the second half of fiscal 2011.

Our ongoing yield improvement activities, including general rate increases and changes to our dimensional weight pricing, will continue to be a major focus in the second half of FY '11 and into FY '12.

We expect revenue growth to be partially offset by cost increases associated with higher aircraft maintenance, increased pension costs for the second half of FY '11, continued investments in our employees as we complete the reinstatement of compensation benefit programs curtailed during the recession.

Effective January 1, 2011, we will reinstate the full 401(k) match.

We do expect margins to improve in the second half of FY '11 and in FY '12 as we continue to benefit from solid global demand for our differentiated services and as abnormal cost headwinds subside the next fiscal year.

I also want to thank all the team members around the world for their outstanding performance during this extremely busy peak shipping season.

What our team does every day is truly incredible.

Now the strategic management team will be happy to answer your questions.

(Operator Instructions).

Tom Wadewitz, JPMorgan.

Yes, good morning.

I wanted to see, Alan, if you could give us a little bit of further perspective on how much of a change in some of these cost lines in Express that you would expect.

You made some comments that indicated I think that you had kind of seen the greater impact from incentive comp in this quarter so that might be less of a headwind.

I think also if I look at the maintenance costs sequentially in Express, $320 million versus $352 million in the first quarter, it seems that that is maybe easing up a little bit.

But if you could give us some comments on how to think about Express costs in second half versus what you saw in the second quarter.

Thank you.

I will start and then I will pass it over to Dave.

I think, as you can see from our year and third-quarter forecasts, that they are going to start to mitigate in the third quarter, but by the fourth quarter, will be almost fully absorbed and you will see some substantial improvements at Express and you can do the math and figure that out.

So I think we have got a lot of it behind us.

The shock absorbers worked perfectly in the downturn and now we are slowly absorbing them back into the business and expect to have that completed as we get through the fourth quarter and into FY '12.

And Dave can give you some more color.

Thanks, Alan.

This is Dave Bronczek.

Yes, that is exactly right.

Obviously, we had talked about it for some time now.

Aircraft maintenance, the planes out of the desert, our increased volumes around the world, so we had incremental aircraft maintenance costs.

The third quarter will be somewhat less than the second and then, of course, by the fourth quarter, it starts to gradually go back to normal rates.

I did want to say one thing on the cost issue.

Alan framed it exactly right.

We have great base business performance across the board in the US and our global powerhouse around the world with our revenues, etc.

growing.

We can talk about that later.

But on the expense side, we had a couple of one-time items that really were affecting our operating profits in the second quarter and then, of course, the variable comp, the 401(k) and pension.

You add those three things together, I think you can realize and see Dave's performance business actually did very well.

Okay, great.

Thank you.

And then the follow-up, on the volume side, how would you look at year-over-year volume growth in second half of the year, third quarter, fourth quarter versus what you realized in the second quarter?

Would you expect it to decelerate significantly or you think you are kind of steady-state type of levels for IP domestic, international and if you want to comment on Ground?

This is Mike Glenn.

As Alan stated, I think what we have seen is a return to more normal high growth rates out of the international business, particularly out of Asia.

I think we are pretty confident that we will see continued positive trends in the second half regarding our US parcel business as well.

We are doing a very good job of managing the freight business to balance the yield improvement that we are looking for with the right amount of growth rate to maximize return.

I'd just add that this is -- a year ago is when we started to see a real upswing in IP and of course, the absolute numbers are getting larger.

So I don't think you are going to see the same kind of growth rates as you saw in the first quarter in the second half.

Having said that, we are quite encouraged by the inventory to sales ratio, which is now down to 1.2 and so any kind of a restocking that starts to occur post the holidays I think will obviously be a benefit for us.

This is Dave Bronczek again.

Just one more piece of color on the international performance.

We actually set an all-time record volume for the quarter for International Priority and actually Asia-Pacific set their all-time record volume as well.

Gary Chase, Barclays Capital.

Good morning, everybody.

If I could pick up a little bit on the Express cost question that Tom was asking.

I wondered -- you referenced some one-time items and clearly you disclosed in the release the $66 million.

I am wondering if there were other things that you think were kind of temporary in the quarter.

As we look at say other expense, rental expense, there were a number of line items that sort of surprised us sequentially on the upside.

I am wondering if you were referring to any one-time headwinds in there we should be thinking about?

Well, the headwinds are -- there are two kinds.

There is sort of the normal headwinds that you would get associated with merit increases, healthcare costs, normal volume increases and those kind of things.

Then there is the abnormal when you are doing things like pulling planes out of the desert and ramping up your operations for a much higher peak than originally had been expected, which we, as Fred told you, are in the middle of right now.

And a lot of those costs have to be front-end loaded and expended in the second quarter for benefits in the third at Express.

Pension has been a big problem for us all year because of the mark to market and the May performance of the pension plan and how horrible the market was last May and the very low discount rate.

We do not expect to see that again in FY '12.

We may see some headwind from that, but certainly not to the degree that we saw this year and we have everything else in the base now.

Our incentive comp programs have been built back up and they are in the base and they won't be a drag year-over-year to the extent that they were this year.

So there are many other things and I will let Dave talk more about some of these direct operating lines.

Yes, it is important to note, and you wouldn't notice it, but in our purchase transportation, we are up 37% and of course, we had an accounting change there where we moved the freight, the FTN revenue from net to gross and that accounted for half of the change.

That was a simple accounting change.

And then last year's second quarter, the fuel expense was $2.08 a gallon and it is $2.39 a gallon this quarter.

That made a change as well.

And then we had some volume-related expenses in there to go along with.

And then Alan pointed out the long-term disability issue from last year was over $50 million.

So when you add them all up, and you can see -- you strip those back out away, the base performance is very solid.

Did you have too many sections in the quarter and are you dialing down the level of capacity or is it just the costs associated with spooling up that activity?

No, we actually have added, as Fred pointed out, we added 777 out of Shenzhen, we added a 777 that went from Hong Kong to CDG.

And we actually have extra sections, extra MD-11 sections.

We didn't put as many extra sections on as we had anticipated we might.

But we still went over the top of our normal scheduled route connecting Asia to the rest of the world.

One of the things that will help us going forward is that we should, as we have more -- still high -- but more normalized growth, we will be able to much more effectively manage those costs associated with our aviation network because we can plan for a much more steady sort of increase.

You will see that in the fourth quarter and you will definitely see that in FY '12 at Express.

Ken Hoexter, Bank of America-Merrill Lynch.

Hi, good morning.

I just want to understand on the International, your yields were up significantly and you kind of mentioned that the volumes were kind of going to a more normalized.

Is this something you have the power to kind of flex to keep pace with that incremental capacity that you continue to add on the lane?

I just want to understand if this is -- you talk about the new normal being that low double digit level.

Just want to understand what we should expect on the go-forward?

Well, this is Dave Bronczek, then I will turn it over to Mike.

The answer is yes, we can flex up and down and of course, we have scheduled 777s coming into our network that are replacing MD-11s and of course, that is a net positive straight across the board, not to mention on the operating expense side, not to mention the revenue upside.

But, of course, we can flex our extra sections in our capacity up or down.

Mike?

Well, the point I would make about yields is, with the broader portfolio of services that we have today, which we reviewed with you at the recent investor and analyst meeting, our sales team is doing an excellent job matching the service the customers are seeking with the right network to make sure that we are getting very good returns and that we are getting the right amount of yield for the right amount of service that we are providing.

So our sales team is doing a great job with that and it is showing up in our results.

Strategically, Ken, recall that where we really want to push yields hard are Domestic Express and Freight and in fact, willing to give up volume at both places as a result.

The opposite is true at Ground and International Priority where we are very happy with those yields and we are looking to push volumes.

So that is sort of the strategic play that you are seeing actually impact us positively right now and that we will continue to do.

Great, Alan.

Thank you.

That's helpful.

And then on the Freight side, you mentioned on the decreased Freight combination costs lower than expected.

What changed as you began this process?

And I guess you are still ready to launch on, if I recall, it is February 1 on the combination.

So what is this far in advance that you are seeing change that you are kind of lowering that combination cost?

Hey, Ken, Bill Logue.

Yes, actually the date is -- we will be operating January 31 in the new format, very excited about it.

The planning is going very, very well by the team.

The upfront charges have obviously come down, which is a good sign, heavily driven by severance packages.

Again, we have made a couple of strategic moves.

One, obviously, we protect a lot of our CDL drivers by moving some of our drivers to kind of a dock assignment for the first startup until we get a good handle on the volume.

As well as we have also had very good management since the announcement September 16, done a very good job of -- recapitalized on every attrition opportunity.

If someone leaves, not replacing and really redistributing the work.

So we have done a nice job there.

And again, the front-line employees have done an excellent job obviously since the announcement.

Fabulous service, but at the same time, they have also been very good about realigning to their new opportunities and transferring and so forth and getting ready for the new organization.

So that is basically the front end of it.

That is where most of the drop came in upfront severance costs.

John Barnes, RBC Capital Markets.

A question on the LTL side.

I was a little bit surprised that you were able to see LTL shipments per day stay up even with the move in -- the upward move in LTL revenue per hundredweight.

One of your competitors is going through a very similar restructuring, actually has been seeing the opposite in improvement in yields, but not the volume side.

They are giving up some share.

Can you just talk through what you think you did right in the quarter to keep the volume while also pushing yields?

Well, first of all, I think it is a great inflection of the organization.

The Freight team does a fabulous job in the eyes of the customer.

So again, as we went through -- back in September, I think a lot of folks thought we would see some volume drop off because of the announcement.

The service since that day has not missed a beat.

The team has done a fabulous job, so my hat is off to the teams out there in the field.

They have done a great job.

The sales team, as we have worked through this educating the customers on the new priority economy offering in all lengths of haul, has gone over very well.

So I think that has been the main focus.

As we have worked on specific targeted customers, working on the yield, obviously, we have targeted those that we believe that there is other options for us and for the customer.

And overall, the base of business has maintained very strong for us.

Very good.

And then, lastly, in looking at the aircraft, now that you have gotten -- you are starting to see some moderation in the International shipments, does it change your mind at all in terms of fleet size or at what pace you add additional aircraft into the International or do you believe this is just more of a we are up against a tough comp, but we are still going to see incremental International volumes be layered on and therefore we need more capacity?

Well, I think certainly B is true.

I mean the comps are going to get tougher, but the absolute size of the amount of IP and IP freight that we carry continues to grow more in pounds on an absolute basis.

And that is what it takes to -- you have to have aircraft to fly those pounds.

So we don't see anything in that regard.

In fact, we may go the other way.

If we get the expensing bill passed, we are likely to actually increase our acquisition of aircraft over the next 18 months and take advantage of that because we can.

And we think we are going to need those planes.

Dave?

Thanks, Alan, yes.

Our International pounds are up 29% and every time we put a 777 into replace an MD-11 in a route, we add obviously better cost, better revenue performance, later pickups, better customer service.

The 777s are performing exceptionally well.

So no, we are right on track and we are expecting it to be a tremendous opportunity going forward, these 777s.

Justin Yagerman, Deutsche Bank.

Hey, Alan.

Pension, obviously, is going to do what it is going to do and aircraft maintenance, you gave us some guidance around that.

On the comp side, you have got the 401(k) coming back, but if I remember at the Investor Day correctly, you said that incentive comp basically -- those buckets were filled by the end of September.

So how should we think about those costs as we transition into the back half of '11 and into '12?

What is the run rate?

Is it going to be coming off or is the 401(k) going to keep things at the elevated levels we have seen for the last couple quarters?

Well, the 401(k) match, since it starts in January, a lot of that additional cost will be absorbed by the end of May 31, particularly for the highly compensated employee.

And they are in my range that I gave you.

So significantly less headwind in FY '12 from that as there was in '11 and as far as our annual incentive compensation, the pool will be significantly higher at the end of FY '11 than it was at the FY '10.

So most of those headwinds will also be mitigated as we go into FY '12.

We do expect to improve our earnings in FY '12, but we won't see the same negative impact to the bottom line from variable compensation accruals next year.

All right.

And I guess the other part of that question was, in the back half of the year relative to the front half of the year, is it still going to stay at kind of a Q2 run rate or are we going to see that actually come down as we net the 401(k) against incentive comp funding?

I think you will see it start to mitigate in Q3 from Q2 and you will see the biggest impact in Q4.

If you just take a look at the range I gave you for Q3 and the year, you have the fourth-quarter range there and you will be able to see that not only do we have volume and yield momentum, but then the cost mitigation headwinds start to fade away, which is what is so exciting about the momentum we have going into '12.

Matt Brooklier, Piper Jaffray.

Thanks, good morning, guys.

You had very nice pricing at your Express and also within your Freight divisions.

If I look at Ground pricing and the yield there, healthy but maybe not as healthy as I would have expected.

And I think sequentially, and I am talking about the core Ground pricing, that yield there ticked down sequentially.

I wanted to know what impacted pricing within Ground?

Was there anything specific in the quarter?

Has there been a change in terms of your strategy on that product?

Maybe just provide a little bit more color on the Ground yield.

I am going to give you the high part and then I will let Mike and Dave Rebholz take you through the rest of it.

But yes, sequentially, I can feel you because of our mix changes and the amount of traffic that we carry in the second quarter versus the first.

But year-over-year, base Ground yields -- base Ground yields were up over 3%.

Mike?

Yes, I have to tell you, Matt, we were quite pleased with the yield performance at Ground.

If you just look at the second-quarter year-over-year improvement, if you exclude fuel, virtually 100% of that change was due to improved rate and discount management.

So that is exactly what we want to see.

And I think our sales team and our pricing group that manages this is doing a heck of a job there.

So we are pleased with the yield performance overall across all of our segments.

But we are especially pleased not only at Ground, but Express as well, the strength of the base yields, which are coming from improvements in base rate and discount management, which is really what is driving these changes.

Okay.

Let me just add one comment.

This is Dave Rebholz.

You have heard all of us talk about it.

If you provide a superior performance and service, the customers will eat the dog food.

I mean it is that simple.

And every one of us have very specific goals to be the very best in the industry and we can prove it statistically.

So it all comes together in the end.

Okay.

Second question, FedEx received favorable outcomes and I think it was roughly 20 of the 28 cases consolidated within the MDL litigation in Indiana.

I think eight of those cases where they were either mixed or a decision that went against FedEx, those cases have been remanded and head back to court.

Maybe you can provide us a little bit more color on kind of the timing of when those cases go back to court, if that is the case and what are your expectations for the potential outcome with the remaining eight cases?

Matt, it's Chris Richards.

The timing of the return of the cases, it will probably be about 60 to 90 days before the cases that are going to be remanded will actually get back to the receiving court and those individual courts will set the schedule for the proceedings in each of those respective cases.

I do want to make it clear that, in the 20 cases, we achieved a complete grant of summary judgment in our favor, which means that the court found, as a matter of law, in those cases, that the contractors are contractors and not employees.

With the other eight cases, in each instance, many of the claims were found to be situations where we achieved the same outcome.

The contractors were found to be contractors, as a matter of law, with respect to the claims.

But in some instances, the court determined that it was inappropriate with respect to at least one claim to make that determination and remanded those matters back for consideration.

Of course, there were three states where a single claim was found to be a situation where the determination was in the plaintiff's favor.

That is Kentucky, Nevada and New Hampshire.

But we will be proceeding with those matters in accordance with the process.

We have achieved significant victories under the Court's decision in Kentucky and New Hampshire.

Nevada, largely the court sent it back for remand, so we will have a lot of work to do there.

Timewise, I expect we are going to be a couple years working our way through all this.

But we are very impressed with the outcome so far.

We are delighted to see the court reaffirm the ability of these independent work organizations to be contractors to continue to operate their businesses and provide the outstanding service that Ground has promised to our customers.

Donald Broughton, Avondale Partners.

Good morning, everyone.

Hello?

If you could perhaps give me just a little bit of insight.

You had very solid progress on the pricing front and as promised on the Freight side, we saw, what, almost 7% increase in revenue per hundredweight on a year-over-year basis, solid 5.4% sequentially.

I know that is partially driven by fuel.

Bill, can you kind of break it out and give us some insight into how much of that is driven by actual yield, core yield improvement and how much of that was driven by increases in fuel surcharge?

This is Mike Glenn.

We had several positive things going on in the quarter, but the fuel and the base rate changes were roughly the same.

So we certainly saw some substantial improvement in base rate.

The weight per shipment actually decreased a little bit during the period, which was an offset to that, but the underlying trends on the base rate changes at Freight, like the other parcel businesses, are quite strong.

So if you want to think about it, the base rate and the fuel were similar in terms of their impact in the quarter.

So a break-out of 50 -- half of that is fuel and half of that is base rate?

Is that what I just heard?

There were some other positive things going on in the quarter, but certainly those were the two biggest items.

And we saw a little bit of class change that helped us a little bit.

Shipment miles went down a little bit in terms of -- had a little bit of a negative for us.

So there was some other activity there, but the point I want to make is that the improvement in base rate and fuel were roughly equivalent to each other.

And the class went up slightly and the weight per shipment goes down a little bit, so those are also positive.

I'm sorry, shipment miles actually hurt us a little bit.

Class helped us a little bit.

And weight going down a little bit helps you slightly?

Right.

Great.

Thank you.

David Ross, Stifel Nicolaus.

Good morning, everyone.

Fred, you talked about the -- I guess the more positive outlook for macro trends that you are seeing.

And Alan said something about a lower inventory to sales ratio being one of them.

Can you give a little more color on what you're seeing in the macro that makes you more positive going forward?

Well, I think in terms of the current holiday season, we took our estimate of the year-over-year up from about 3% to about 3.3% or so, much better than 2009 and 2008.

I am sitting right here across from Gene Huang, our very esteemed economist, so he will jump in here if I get off base.

We have taken our US estimate for calendar '11 up from about 2.6% to 2.9% calendar '12 to 3.2%.

As Alan mentioned, the inventory to sales ratio has bled down.

So when we come into Chinese New Year, I will be surprised if you don't see a relatively strong restocking from the industrial base in Asia.

And I think one of the things that we are very bullish on, as I mentioned in my remarks, is the continued growth in these emerging markets where we are very strong and our network is the biggest in the world.

And as the emerging markets go from their current status of world GDP up over 50% by 2013, that is a huge growth opportunity for us.

It is why the 777s are so important because it lets you eclectically connect these various regions of the world and all of our regions are growing very strongly.

And as we have also reported, we made a couple of important acquisitions in the last quarter, one we just announced this morning in Mexico.

As I said, we are very excited about and one we announced in India a little while ago.

So the momentum that is underway for all of those reasons lead us to be positive.

From the internal standpoint, we have talked about a lot of individual line items and so forth, but as both Alan and I tried to say at the investors and lenders meeting, we put up some charts, the shock absorbers that we have designed worked perfectly in cushioning the downturn for the shareowners.

And they have been a retardant on the way back up, but as we go into the second half of this year, we are essentially normalized is what it amounts to.

So as we roll into the second half of the year and into FY '12, we will have a lot of momentum and that is why we just said as plainly as we can say margins will go up, cash flows will increase and our EPS should increase.

And of course, we will presumably continue to give you guidance on that as each quarter comes out.

Although I've had a couple of directors wondering why we give guidance at all.

If I could just add a little bit to that, the inventory to sales ratio, part of the reason it is down to 1.2 is because it can be because of networks like FedEx that allow you to skip intermediate distribution and go direct to the point of consumption.

The market is coming our way on a global basis on that and that is part of our momentum and part of what is so exciting around here.

Jason Seidl, Dahlman Rose.

Good morning, everybody.

If I could just talk a little bit about acquisition.

Clearly you are starting to make more in the emerging markets, but they are all sort of on a smaller nature.

Is that the plan to make sort of the smaller acquisitions in the emerging market areas and build up over time, or is there anything on the plate that might make you want to do something larger?

As a matter of policy, we don't comment on corporate development matters.

If you're interested in the criteria that we apply when considering acquisitions, you can listen to the comments we made at the Investors and Lenders Conference regarding culture and return on investment and strategic fit.

And I think I will just leave it at that.

The acquisitions that we made are perfect.

They fit those criteria.

We are very excited about them, expanding our network and reach and they are small and bite-size.

And the one thing we do well is we know how to integrate these.

For example, ANC in the UK is one of my favorite examples.

So we will keep you posted as we have something to say.

Jeff Kauffman, Sterne Agee.

Thank you very much.

Two questions.

Fred, Alan, if I interpret your comments, I guess this is probably for Dave.

It sounds to me like when you were talking about Asia, you said the market for shipping was a little bit slower and you were a little bit disappointed with the IP volumes, but it looked like the IP freight was actually pretty strong.

Was this more of a mix issue or was this at the whole market for shipping was a little lighter than you expected?

Well, let me comment on this and then have Dave Bronczek deal with greater specificity.

As Alan mentioned, as we came out through the summer where you had this tremendous year-over-year increases, the restocking continued, we anticipated that the growth going into the peak season would be slightly higher than it ended up being.

But the growth is still very substantial and remember the incremental margins on that traffic, particularly in this quarter as we sort of reached that plateau that I mentioned of these normalization of cost as a shock absorber are re-absorbed, it is very sensitive because you are right on the bubble there.

But as I mentioned a moment ago, the holiday season is very strong, much stronger than 2009 and 2008.

So that means, by definition, with that inventory to sales ratio that Alan gave you, and with a peak season to what we are seeing, as we go into Chinese New Year, it will be very surprising if the strength of the international traffic flows isn't pretty good.

And part of that is why we have our optimism.

So a little bit under what we thought it would be at peak season, but what has happened at peak season leads us to more optimism on a go-forward basis.

Dave?

Thanks, Jeff.

Yes, Fred is right on all counts.

Our International volumes, as I mentioned, start off, around the world, achieved record level volumes and Asia-Pacific had record volume.

We had anticipated possibly a little bit higher growth rates based on the trends over the last couple of quarters.

With that being said, we had tremendous quarters to compare ourselves against from Q2 last year as an example.

But you have to look underneath all these covers and we had 29% growth on International pounds.

So we are very bullish and very optimistic and I think Fred and Alan and I have talked about this issue, our International business is performing very, very well.

Chris Ceraso, Credit Suisse.

Thanks, good morning.

A couple of quick questions on fuel and one on the charges.

On the fuel, can you tell us what the difference was or how much of an added cost headwind versus your initial guidance came from fuel?

Well, I will just say it is part of the three that I gave you and rather than break it down, I mean there was very little net impact from fuel, negligible impact to the quarter from fuel and I expected it actually to have a more positive impact.

But as I said, with the costs rising here, we have that lag effect, so it should, provided it stays where it is, buy us a little bit of benefit in the second half more than I thought would be the case when we gave you the original guidance.

So they all three were the same.

It was the fuel, slightly less than expected IP and the variable compensation with the higher profit in the second half, all about equal.

Bill Greene, Morgan Stanley.

Hi, good morning.

Just one quick question here for Fred.

Fred, in your travels in China, do you ever hear from the Chinese an expression of interest in having for themselves an Express operation or are they sort of satisfied having FedEx and their partners like that sort of provide the Express in and out of the country?

How do they think about that?

What do you hear?

Well, I will make a couple of comments and then ask Dave who is probably even more tuned into it than I am.

First of all, the Chinese have some good Express companies inside China, which Dave can talk about.

So it is not as if they don't have domestic competitors.

And they are very active in the international air cargo business with all of their major carriers.

So they are active in that regard.

On the other side of the coin, I think the Chinese government has understood for a long time that FedEx and our competitors, but particularly FedEx, has provided an enormously useful service for a Chinese industry to access the rest of the world with their products.

And that is just not my speculation; I have actually heard Jiang Zemin say it to our Board of Directors when he had us over several years ago.

So our commitment to China is very large.

We built this enormous hub in Guangzhou, which is growing mightily and is a centerpiece of our AsiaOne network.

The 777 in large measure was bought because it gives us unique capabilities out of China.

But I don't doubt that China, whose economy is now I guess the second largest in the world, they will have participants in probably almost every sector, certainly inside China and within Asia.

Dave?

Yes, in fact, we were at a dinner last night with the Chinese ambassador in Washington, DC and he actually unsolicited by us said thanks to FedEx and people like FedEx that is making China more successful, more prosperous and we were a very good corporate citizen.

And of course, as Fred pointed out, our Guangzhou hub in China has been fabulous.

So I think that, on all counts, I think that that is correct that FedEx does provide those services.

There are Chinese operators out there, Shun Feng who is the local domestic one and of course, China Southern, China Eastern, that all provide services.

But of course, like I mentioned before, our core International growth has come from Asia-Pacific led by China.

Scott Malat, Goldman Sachs.

Thanks, good morning.

On just -- two questions, a quick follow-up on the International Priority, would you guys release any of the actual numbers on Asia or Europe volume growth in the quarter?

We don't release the sector-specific things for competitive reasons, but I can say that we are growing in all regions.

And our US export is strong, our Trans-Pacific is strong, our Trans-Atlantic is strong, Latin America is strong, Intra-Europe is strong, Transborder is strong, so all of our International sectors are growing, some more than others.

And obviously, Asia, in general, and China, in particular, has become the manufacturing center of the world.

Mike is going to give you some more color on this.

Well, we have got strong double-digit growth rates out of APAC on a volume basis.

We have got near double-digit growth rates out of EMEA and Latin America and we are very happy with our growth rates on a US export basis, which are above our domestic growth rates.

So that will just give you a flavor for where we are.

I mean we are very pleased with our performance and of course, the revenue numbers are very strong as well because of the good job we are doing on managing yields.

So very good trends.

US export is very important for us, as you can imagine, given the size of the imports that the US have and US exports are growing.

It is a great opportunity for us going forward because we have some space as we exit the US, particularly to Asia on our planes.

Things like chemicals and drilling equipment and steelmaking materials and material handling and all that stuff that is made in the US that goes to Asia is very important.

As that continues to grow, we get really good margins on that because we already have the fixed cost network up and we have space available.

I mean just to put it in perspective, on a US basis, I mean FedEx US export is substantially larger than our next two competitors combined.

So I mean we have got a very strong position and very solid growth rates.

Edward Wolfe, Wolfe Trahan.

Thanks, good morning, guys.

Just two quick questions.

One on dimensional weight and then one a little follow-up on the guidance.

First, on the dimensional weight charges, Alan, you mentioned that you think you are going to start pushing those forward in the second half.

Can you talk a little bit about the percentage of revenue that is impacted by dimensional weight changes and how you think over time that could impact yields?

Yes, this is Mike.

That is pretty hard to predict because one of the things that we talked about at the investor and lenders meeting is we actually want to work with customers to minimize the amount of packages that get the dimensional weight charge because it is greater handling cost for us.

Many of these packages have to be handled in a more manual fashion.

So one of our objectives here is to actually minimize the percentage of packages that receive the dimensional weight charge.

I don't see a significant change in trends in the near term, but in the long term, hopefully customers will be more efficient in their packaging going forward so they don't have to receive the higher DIM charges, but they are being well-received.

Our sales team is doing a great job positioning the changes in the dimensional weight just as they did last year with International.

So we don't see any significant pushback regarding the DIM changes.

Jon Langenfeld, Robert W.

Baird.

Good morning.

On one of the comments I believe in your prepared remarks, you were talking about your yield strategy and that you were more comfortable with your yield in terms of where they were on an absolute level on the Ground side versus maybe the Express side.

Can you talk about what that means relative to how you approach the customer on pricing?

Do you have a differentiated thought in terms of we need more rates on the Express side versus Ground and how do you balance that mix?

This is Mike Glenn.

You have to understand our sales team does a fabulous job in a consultative selling role.

They go in and work especially with our larger customers to deliver value to those customers.

In doing so, it is our objective to put the right traffic in the right network and to make sure we are compensated accordingly.

So there is no one single strategy, especially as it relates to larger customers.

We go in, we look at a customer, we look at the modes that they use and most of our larger customers use all of our modes of transportation.

We see where the opportunities are.

We make assessments about where we need rate increases for those individual customers and then we negotiate those accordingly.

So that is the biggest driver right now in addition to the annual rate increases to the yield improvement that we have seen.

And that is especially true at freight.

We have a tremendous amount of pricing science and analytical horsepower that we apply to this.

And we make these judgments collectively as a management team about the amount of increase that we need to take to maximize the return to FedEx.

So there is no one set formula here.

I mean this is a pricing science exercise is the best way I could describe it, but we have a process that is working very well in delivering significant improvements in yields and we are going to continue that.

Part of that process, and this is the steely-eyed financial guy talking now, is we have fabulous margins and fabulous return on invested capital at Ground.

We are pushing hard to get Express to double-digit margins and so yield improvements at Express, particularly Domestic, are vital for us to get to those numbers.

So yes, it is more important for us to improve Express Domestic yields and that is part of what Mike was mentioning.

I mean we are willing to walk away from some business there or put it into the Ground or SmartPost network as appropriate.

But we must get higher yields at Domestic Express and we are in the process of doing that.

The one thing I would add is the value of the Ground service that we are delivering, the faster network, the higher levels of reliability, the choices available in our home delivery network allow us to go in and command a higher price.

So that is why when I say that you are seeing strong improvements in base rate and discounts, we are able to deliver on those because we have a fabulous Ground service and our sales team is doing a great job of presenting that value to our customers.

So it is a great combination and it is working very well for us.

Edward Wolfe, Wolfe Trahan.

Thank you.

I appreciate that.

My question on the guidance was it seems like you have greater conviction and visibility into guidance six months from now for fiscal fourth quarter than you did for this quarter or for next quarter.

And you talked about on the quarter a lot of costs that are going to start coming out, which you talked about at the investor conference for maintenance and other things.

But I am guessing you knew that when you gave the guidance a quarter ago.

So what has changed in the last quarter or so that has given you more guidance out six months from now?

Is it just the general, the economy picking up and confidence from the customer?

Is it the timing of fuel?

Is it you are seeing things happen faster on the LTL side?

Just want to get a sense for that.

Ed, I would say yes to all that.

The reason that we gave you such a wide range for the second quarter and we did come in inside that range was because we knew the volatility on the margins and profitability of IP and we were worried about fuel price spikes because we were starting to see our traffic pick up.

Both those things came to fruition.

The third quarter, weather is always a huge factor and we have been hammered, hammered with weather already.

As you know, people are still suffering in the northeast, in the northern Midwest.

And those expenses are very, very difficult to predict.

So always the third quarter is probably our most volatile and also post-holiday season shipping.

As we get back into the spring, our seasonally strongest quarter, we start to see, with more confidence, what we think our traffic is going to be.

We are hoping that fuel price doesn't spike from here.

That is part of our guidance, as well as, last year, we started to have significant accruals for bonuses in the third and fourth quarter for the whole year that we didn't have in the first half.

And so the year-over-year AIC accruals won't be as high.

So that gives us a more confidence as well.

But it is really simply the volatility on the margin right now in a very high-growth environment and as the percentage starts to mitigate, we have a lot more confidence.

That is really a long-winded answer.

This is Fred Smith again.

I said this again at the investors and lenders meeting and I don't think we are getting this across, the shock absorbers in the second quarter, they sort of reached normalization and it is right on the bubble there.

So as traffic goes up, a lot of money goes to the bottom line, a lot of money goes into AIC and it goes right back and forth there when it is on that bubble.

But as you get into the third and particularly into the fourth quarter, as Alan just said, those costs are now normalized year-over-year.

So you don't have that volatility right on the expense line.

So I hope I am making that clear, but that is what the issue is.

(inaudible), Lazard Capital Markets.

Good morning.

Actually all my questions really regarded Asia and IP and you guys covered it in previous questions.

Thank you very much for your time.

Okay, thank you for participation in our second-quarter earnings release conference call.

Please feel free to call anyone on the Investor Relations team if you have additional questions.

Thank you very much.

Thank you.

Again, that does conclude today's conference.

We thank you for your participation.