Fedex Corp (FDX) — Q3 2017 Earnings Call Transcript

Good afternoon and welcome to FedEx Corporation’s third quarter earnings conference call. The third quarter earnings release, 28-page stat book and earnings presentation slides are on our website at fedex.com. This call is being streamed from our website and the replay and earnings slides will be available for about one year. Written questions are welcomed via e-mail or through the webcast console. When you send your questions, please include your full name and contact information. Our e-mail address is ir@fedex.com. Preference will be given to inquiries of a long-term strategic nature. 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, such as projections regarding future performance, 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. Please refer to the Investor Relations portion of our website at fedex.com for a reconciliation of the non-GAAP financial measures discussed on this call to the most directly comparable GAAP measures. Joining us on the call today are Fred Smith, Chairman; Dave Bronczek, President and Chief Operating Officer; Alan Graf, Executive Vice President and CFO; Chris Richards, Executive Vice President, General Counsel and Secretary; Rob Carter, Executive Vice President, FedEx Information Services and CIO; Don Colleran, Executive Vice President, Chief Sales Officer, FedEx Corporation; Rajesh Subramaniam, Executive Vice President, Chief Marketing and Communications Officer, FedEx Corporation; David Cunningham, President and CEO of FedEx Express; Henry Maier, President and CEO of FedEx Ground; and Mike Ducker, President and CEO of FedEx Freight. And now Fred Smith will share his views on the quarter.

Thank you, Mickey. Welcome to our discussion of results for the third quarter of fiscal 2017. We appreciate the interest of the people on the call. As our press release notes, we reaffirm our FY'17 guidance of $11.85 to $12.35 adjusted EPS based on our expectation of an excellent fourth quarter and despite the 30% year-over-year fuel cost increase in the third quarter. Going forward, we will experience less volatility in earnings when fuel prices change rapidly due to our new weekly versus monthly fuel charge adjustment system that was implemented last month. Alan will cover this in greater detail. I should note given the interest in the subject, FedEx Ground segment margin will be 15% plus in the current quarter, and Alan will also comment further on this. FedEx delivered an outstanding peak season with our highest volumes ever and record service levels. I thank our team members around the world for doing this. We believe strongly that our strategic investments to expand our global scope and our portfolio of services will significantly increase long-term profits. During the third quarter, for example, FedEx was pleased to extend our 16-year Express Air transportation relationship with the U.S. Postal Service. We added to our range of customer solutions with FedEx Fulfillment to benefit small and medium-sized businesses, and we reached an agreement with Walgreens to broaden convenient access to FedEx services. Raj will provide additional context on these. The integration of TNT Express is proceeding smoothly, and we are targeting operating income improvement at the FedEx Express Group of $1.2 billion to $1.5 billion in fiscal 2020 versus fiscal 2017. Alan and Dave Bronczek will offer additional information on this. We reiterate our continued commitment to grow corporate earnings, margins, cash flows, and returns over the long term. Recently Fortune Magazine recognized FedEx as one of the best companies to work for and the world's most admired companies, a reflection of the commitment by more than 400,000 team members who live the purple promise, which simply states, 'I will make every FedEx experience outstanding.' Now I'll turn the call over to Raj.

Thank you, Fred. I'd open with our economic update and outlook, then discuss our performance and business conditions in each segment, including revenue, volume, and yield, and provide some commentary on broader industry trends and enhancements to the FedEx portfolio. We see moderate growth in the global economy. We expect U.S. GDP growth of 2.3% and calendar year 2017 driven by robust consumer spending and stronger business investment. Industrial production growth should rebound to 1.5% this year. GDP and industrial production are expected to grow by 2.5% and 2.4% respectively in calendar year 2018. For the global economy, we forecast growth of 2.6% for 2017 and 2.8% for 2018. Now I'll review revenue, volume and yield trends by segment. U.S. domestic express package revenue grew 3% year-over-year in Q3. Yield per package increased 3% as a result of increased weight per package, dimensional divisor change, and improved rate and discount. Yield excluding fuel surcharge increased 2%. Fiscal year 2017 Q3 had one operating day less than Q3 last year, which lowered the revenue growth in year-over-year comparison. Domestic Express package volume increased by 1% year-over-year during the quarter. FedEx international export package revenue increased 4% year-over-year in Q3. FedEx international priority volume increased 5%, while international economy volume grew 2%. International export package yield increased 1%. Excluding fuel and exchange rate impact, yields increased 2%, primarily driven by product and destination mix impacts. The Ground segment revenue increased 6% year-over-year, while average daily volume increased 2% year-over-year. Ground yield per package increased 6%, benefiting from the annual rate increase and yield improvement in both Ground and SmartPost and the ground dimensional divisor change. As has been mentioned before, fiscal year 2017 Q3 also had one operating day less than Q3 of last year. Fuel prices did not have a material impact on yield per package. FedEx Freight segment revenue increased 3% year-over-year in Q3. Average daily shipments are flat year-over-year, partially driven by our stronger emphasis on pricing improvement. Revenue per LTL shipment increased 4%. Excluding the impact of fuel surcharge revenue, revenue per LTL shipment was up 2%. The third quarter included most of the 2016 peak holiday season. This year's peak was record-breaking both in volume and service. We are proud of more than 400,000 team members around the world who came together to provide record service levels this past holiday. Volume during this season was impacted by the continued growth of e-commerce. The retail and e-tail industry and consumer shopping patterns continue to evolve. We had record volumes over the peak season, although we had a few large customers who had volumes below their peak forecast. We are already well into our planning for peak 2017 to ensure we are ready to meet our customers' needs profitably. The retail industry is being transformed by e-commerce, and FedEx is at the forefront of innovating and implementing solutions that make e-commerce convenient and accessible to consumers around the world. In this context, we made some significant enhancements to the FedEx portfolio during the quarter. Let me highlight a couple of them. First, we recently announced a long-term alliance agreement with Walgreens for FedEx On-Site. FedEx On-Site is a nationwide network of alternate delivery locations, which directly responds to our customers telling us they want access to more choices for package delivery and drop-off. FedEx On-Site locations include some Albertsons and Kroger grocery stores, as well as select Office Depot, OfficeMax, and FedEx authorized ship centers. Adding Walgreens will dramatically increase the number of FedEx On-Site locations. Walgreens is an ideal partner; they're a well-respected brand with whom we have a long history and are well known for their convenient locations. We have already started the rollout and expect nearly 8,000 Walgreens locations with FedEx On-Site in time for this year's peak season. Second, we also announced the launch of FedEx Fulfillment in February. This is an e-commerce logistics solution for small and medium-sized businesses. The strength of the FedEx portfolio allowed us to bring to market a fulfillment solution with advanced warehouse management, the latest same-day cut-off times, two-day ground shipping throughout the United States, and a seamless return process. FedEx Fulfillment also improves order accuracy through top-tier warehouse management systems and experts in fulfillment. We've received strong customer interest over the first few weeks since launch, especially from small and medium-sized customers in need of a powerful and attractive alternative to competitive e-tail logistics and fulfillment options.

Thank you, Raj. Well done for your rookie performance. Good afternoon, everyone. I hope your NCAA Brackets are holding up better than mine and all your favorite college teams are winning. Looking at FedEx Corporation's third quarter results, the net impact of fuel, one fewer operating day at Express and Ground, and ground expansion costs weighed significantly on earnings. A bright spot was yield growth at all our transportation segments as we continue to improve our revenue quality and manage yields. Three things you should know about fuel. First, jet fuel prices increased 30% year-over-year for the quarter. Second, year-over-year we had a benefit from net fuel in Q3 last year and a loss from net fuel this year. And thirdly, last month, as Fred mentioned, we began adjusting our fuel surcharge weekly instead of monthly for both Express and Ground. This should better match the volatility of our fuel expenses to our surcharge. With that change, fuel will not impact our future results as much as it did in the past, and we will not fully lap those year-over-year impacts until February of 2018. Our effective tax rate of 37.5% for the quarter was 203 basis points higher than last year and was also a drag. The higher tax rate in fiscal year 2017 is due to costs incurred in connection with the integration of TNT Express, as well as local country losses in some entities within TNT for which no tax benefit was recognized due to uncertainty for the utilization of these losses. This impact has been partially offset by the continuing benefit to the tax rate from last year's early adoption of the accounting standards update for share-based payments. During the next three years, however, the benefits of the TNT Express integration, fleet modernization, yield management, e-commerce growth, and investments in network capabilities and efficiency will drive significant earnings growth. For the full year, we are reaffirming our guidance for adjusted earnings of $11.85 to $12.35 per diluted share, assuming moderate economic growth as Raj discussed. Earnings in Q4 will primarily be driven by growth in volume and yield in Express, Ground, as well as the inclusion of TNT Express. As Fred mentioned, we expect ground segment operating margin to be 15% plus for the quarter. We expect our effective tax rate to fall from Q3 to Q4, and our fiscal year 2017 effective tax rate should be about 35% prior to year-end mark-to-market accounting. Our capital spending forecast for fiscal year 2017 is approximately $300 million lower at $5.3 billion due to reduced spending forecast at FedEx Ground. For the year, we have made contributions totaling $2 million to our tax-qualified U.S. domestic pension plans, which is $1.5 billion more than what is required, partially funded by the $1.2 billion debt offering we issued in January. We do not expect to make any further contributions to these pension plans during this fiscal year. We anticipate our U.S. pension plans will make benefit payments aggregating in excess of $1 billion in the fourth quarter to former employees who elected to receive their benefits early under a voluntary program. This payout will allow us to reduce future liabilities and administrative costs associated with our U.S. pension plans. Our U.S. pension plans continue to have ample funds to meet expected benefit payments. At Ground, operating income declined 8% year-over-year because of higher rent, depreciation, and staffing as a result of network expansion, unfavorable net fuel impact, and one fewer operating day. Ground's fiscal year 2017 CapEx forecast is reduced from $2 billion to $1.7 billion, much of which is timing of the projects that are already underway. We continue our intense focus on balancing capacity and volume growth with yield management at Ground. These actions affected our Q3 volume results and are also expected to mute Q4 volume growth. While network expansion dampens Ground's near-term profitability, we believe these investments will enhance long-term earnings, margins, and cash flow. At Freight, higher salaries, wages, and information technology expenses reduced operating income. As with Ground, we're working toward a better balance of volume, pricing, and capacity. Those efforts along with an expected improvement in the U.S. industrial environment should lead to better operating results at FedEx Freight in coming quarters. Express adjusted operating income was significantly impacted year-over-year by the unfavorable net impact of fuel and one fewer operating day. On a GAAP basis, Express results included $31 million of TNT Express integration expenses for the quarter. Express results benefited from higher yields and volumes, and we continue to manage network capacity to match customer demand, reduce structural costs, modernize our fleet, and increase productivity. At TNT, revenues were approximately $1.8 billion with an adjusted operating profit of $40 million. The adjusted operating margin was 2.2%. Adjustments to operating income for Q3 included TNT Express integration and restructuring expenses of $22 million, as well as intangible asset amortization of $16 million.

Okay. And thank you, Alan. Good afternoon to everyone. The TNT acquisition, as I'm sure you know, is the largest in FedEx's history, and we have discussed this with you previously. This provides extensive benefits to FedEx, including rapidly accelerating our European and global growth around the world, substantially enhancing our global footprint and leveraging TNT's lower-cost road networks in Europe, the Middle East, and Asia, producing improved results for the entire corporation. Our global integration teams are working to bring TNT and its 54,000 employees and their operations across 200 countries and more than one million shipments daily into the FedEx Express system. The integration of TNT and FedEx is on track with significant progress thus far in fiscal 2017. Our teams around the world are energized; they are focused on delivering the opportunities and the benefits provided by this combination. The integration plan that was developed prior to the close of the deal has been fully validated and did not require a significant revision, which has given us tremendous momentum as we moved into the execution phase. While we have a multi-year integration ahead of us, my comments will give you some additional context on why we're so confident in the value of this deal and the status of our progress to date, which has gone extremely well. On the people side, our leadership team is now all in place. We continue to benefit from the expertise of TNT's personnel. More than 35% of our integration, international officer positions are now held by former TNT executives. We have an outstanding leadership team in place to drive our integration, and as Alan and Fred have already discussed, the integration is a key driver to FedEx Express's fiscal 2020 operating income improvement target of between $1.2 billion and $1.5 billion. The benefits of the integration will be driven by four key areas: the first being optimizing pickup and delivery operations. We are implementing new technology and optimizing the location of all our facilities and all our stations to deliver unmatched service. We'll benefit from efficiencies, improved stop density, and the economies of scale that come along with integrating our pickup and delivery operations. Next, we will operate one integrated global express network, capitalizing on technology and solutions to most efficiently route parcels and freight through our integrated hub, line haul, and, of course, our intercontinental air network to deliver the absolute best service for our combined customers while at the same time significantly lowering our costs. Third, we will improve the efficiency of staff functions with improved IT solutions, streamlining support functions, and realizing significant sourcing savings globally. Last but certainly not least, we will grow revenue by offering a best-in-class portfolio of services through a single sales team, a single online customer-facing tool, and through revenue management activities focused on improving market share, yield, and of course, profitability. As you all know, these are network businesses and require the combination of our pickup and delivery operations at a local level, our air and ground networks, and our extensive operational sales and back-office IT systems. Given all the factors, we continue to expect the full integration to take four years to complete from the date of the acquisition, which was last May. As for the integration of the two businesses, we generally have concluded there are different integration models at the country level and we have identified the planning process. Those integration models are what we call direct serve – the direct serve; it's FedEx and TNT or a global service partner at FedEx through global service partner at TNT or one or the other. Using these models, we have successfully integrated 33 countries around the world already. Beyond these 33 countries, other country integrations are underway, including three that we launched during this third quarter: Spain, Japan, United Arab Emirates. Our integration in the United States and Canada, which started in the first quarter of fiscal 2017, will in fact be complete by May 31. In total, we have approximately 50 countries in process or completed to this point. In addition to representing different integration models, the countries completed to date are well-established markets with high-value opportunities, and from them, we're learning very valuable lessons. While the integration activities are most visible at the country level, the integration is supported by several key back-office initiatives mainly by our IT functions around the world. One of these foundational element is the success of the integration of our two companies and the ability for us to handle TNT packages inside FedEx and FedEx packages inside TNT. This cross-scan technology we are deploying will significantly benefit our customers and of course all our employees. This first phase of technology was launched February 27. Now as we look to the fourth quarter in April, we will begin a phased conversion of the intercontinental flights currently operated by ASL Belgium at the FedEx Express operation. The first phase will convert the TNT Transatlantic flight and over time the wide-body operations between Asia and Europe. These changes bring benefits to approximately 100,000 existing TNT customers for shipping to the United States and Canada, with improved transit times and broader service coverage. Beyond the air network changes, country-level integration preparation and executions are in full swing. As we prepare for our fiscal year 2018 launch of integrated activities, we're adding 25 more countries. So, we have a complex and multi-year integration ahead of us and we are off to a very strong, fast, productive, and extremely important for us, team collaboration going forward. So, with that, I'll turn it back over to Mickey for Q&A.

Okay. We're going to take two questions from those submitted before and then we'll take two live questions. Fred?

All right Mickey, let's start off with a question about capital. A: will CapEx as a percentage of sales come down by the end of this decade or will it remain elevated beyond 2020? Any specifics would be appreciated. That's from Amit Mehrotra, Deutsche Bank. And B: what will be your biggest requirements for capital over the next five years? As a percentage of revenue, do you expect your capital budgets to be less, the same, or more than will be this year Matthew Troy, Wells Fargo? Alan will take this.

The biggest requirements for capital over the next five years will remain elevated at Express. We have a current pace that we have right now, and you can see in our stat book how that pace continues. So, I think over time, we will start to see post fiscal year 2018 CapEx as a percentage of revenue beginning to decline. TNT is not nearly as capital intensive as Express is, although we are investing a lot in the integration, and as you saw in my opening remarks, we've accelerated a lot of these costs into '17 and will bring some of '19 into '18 because we've been so successful as Dave so eloquently described. There are a couple of wildcards in what I'm saying here. One is if we can somehow get approval for 33-foot twins; those have a ridiculously fast payback, and we will begin to re-fleet our line haul ground operations as rapidly as we can. Those were not in my projections. And then secondarily, if there is expensing of capital as part of the tax code, we're likely to accelerate our capital spending as well because we get significantly improved returns on essentially the interest-free loan from the government for being able to expense day one.

Yes sir. As I mentioned before, our planning is well underway for the peak 2017 to ensure we provide outstanding service for our customers, and we continue to work with our customers year-round to prepare for peak. Now it's important to remember that it was a relatively small number of customers that drive the bulk of the surge in demand at peak, and we work closely with each of them to ensure the highest possible levels of accuracy on their forecast. But do keep in mind that forecasting e-commerce volume at peak is an exact science at best. With all that being said, we're looking at several pricing options to ensure that we get a reasonable return on the investments we're making.

Okay. Now we'll take some live questions.

Good afternoon. Thanks for taking my question. I just wanted to follow up on the earlier CapEx question, but sort of honing in on Ground specifically, so it seems fair to say that with elevated spending at Ground over the last two years, along with the pretty meaningful ramp in CapEx at UPS recently, announced that volume growth has become more expensive. So really, my question is, are the investments that you're currently making to improve efficiencies in margins solving today's problems? And then if we look out another three to five years, assume customer demand will continue to evolve, could you find yourself in a similar situation whereby you need to continue to invest to solve tomorrow's issues? So really, has e-commerce led to a structural increase in the capital intensity of the Ground business in your view? Thanks.

Allison, this is Henry Maier. Well, first of all, I think we get an awful lot of flexibility out of these highly-automated projects that we've deployed the last couple of years. In fact, today we operate roughly 100 fully automated facilities that include hubs, that include automated satellites, and we have a lot of incremental capacity built into those buildings just by virtue of the fact that the technology not only allows us to operate those buildings more per day, but we get better productivity out of them. They require about 30% less headcount to operate, and the automation of the operation allows us to flex that capacity across the network depending on where the volume shows up. So, we've invested in capacity today through our CapEx spend, that is going to allow us the ability to flex up and down based on volume for some time. In terms of just network planning in general, we have a five-year plan. It's a rolling five-year plan. We adjust the number of projects up or down based on the trends we see in the business. I would say that other than the items that Alan mentioned, probably the biggest thing out of our control right now with respect to our CapEx spend is the timing of the projects. We had three major hubs delayed due to weather, and we had a land acquisition that was delayed because we discovered some historic artifacts on it. So, through the due diligence process, we're going to have to comply with the state laws with regard to finding those kinds of things. I think we're in good shape today and in the future. I don't feel like we're in the catch-up mode that we've been in the last couple of years. I am going to throw this back to Alan; he wants to make a comment here.

A couple more points; the vast majority of the volume that we carry at FedEx Corporation is business-to-business, and while e-commerce is the fastest-growing piece, it's the smallest piece. And secondarily, as we discussed many times, and we can discuss this ad infinitum, we can't afford the same capital intensity for peak e-commerce volume, which is why we have been backing away from some customers and raising our prices significantly. So that balancing act will continue for us going forward.

And we'll take our next question from Chris Wetherbee at Citi.

Good afternoon, guys. I wanted to follow up on Ground a little bit and sort of the CapEx relative to capacity utilization. So we're assuming $300 million off of this year. I think Alan has sounded like that was a bit of a pull forward. Are we lowering the ground spend going forward when I get a sense of maybe how your trajectory might look beyond fiscal 2017? And then just thinking about the fiscal fourth quarter outlook, your ability to sort of fill up that underutilized capacity that you invested in earlier this year? How that's ramping up through the fourth quarter? Thank you.

I believe our capital expenditures will decrease over time. The projects we are initiating will set us up for future growth. When it comes to capacity, we typically purchase land based on what we anticipate will be the final configuration of the facility, but we do not construct it to meet future demands. This strategy allows us to expand these facilities as business conditions change. For example, next year we are launching a new hub in Houston, along with two expansion projects at our existing hubs in Champaign, Illinois, and Northern Kentucky. I don’t want to give the impression that we have excess capacity; we really don’t. Once a facility is established, we design it with the potential for expansion over the years as it reaches its full operational stage.

Okay. Now we'll do two questions here. Fred?

There are a couple of additional ones on Ground. I think I am going to segue right into that since they follow on what Henry's been talking about and then there's one on freight. This is a question about what percentage of SmartPost volume can be redirected into Ground by end of 2018? Any targets you can share in terms of potential margin impact this could have would be appreciated; Amit Mehrotra of Deutsche Bank. And then a related question from David Ross of Stifel: Are you having any problems getting contractors, Henry?

On the first question, I think we have to keep in mind here that the mission is improving delivery density and revenue per stop, and we're getting some software delivered this summer. We call it 'The Terminator.' Internally, it's part of a delivery optimization project that allows us to virtually divert packages in the network from SmartPost to Ground that have the same address on the same day. But you've got to keep in mind here that there is also an opportunity with adjacent deliveries and the ability to build density through the expansion of our retail on-site network, which is the Walgreens deal that we did a couple of months ago that Raj referred to. So, there are a number of moving parts here that get us to where we believe we need to be. We do have an internal number, but we've decided that we're going to keep it internal for this time. In terms of Ground businesses and the trouble of finding contractors, you might be surprised to know that the actual number of businesses under contract has declined over time, and that's been the result of two things. One, the size of these businesses is getting larger, and two, our transition to a single independent service provider contract nationwide. Currently, we contract with roughly 6,000 small businesses that collectively employ over 60,000 employees, and we have seen no indication that these businesses are having any trouble attracting drivers either on the line haul side or on the pickup and delivery side. And we just came through a record peak season, and they performed admirably in terms of being able to get the necessary resources to handle the volume.

So, we have a question or two on freight. You mentioned on the last call the investments being made at FedEx Freight. Is that why the margin is compressed a bit? Can you talk about the investments being made and how they should set FedEx apart from the competition? That's from David Ross of Stifel. And what investment is the firm meaning Freight making in natural gas tractors, and do you think over the next few years that these alternative sources will reduce fuel expenses at FedEx Freight? That's from Keith Schoonmaker of Morningstar? Mike Ducker?

Okay. Thank you, David. Yes, there is somewhat that is partial reason for the margin compression. There are a number of different areas we're investing in. Number one, safety systems. 80% of our fleet today has the most recent safety features available on the fleet. We'll be 100% complete by the end of '18. We're investing in customer automation systems, line haul optimization systems and replacing some legacy systems as well as new dimensioning technology. All of those investments are really aimed at our goal of double-digit margin and improving the customer experience. So, hope that answers your question. Secondly, Keith, we have the signature facility in Oklahoma City with 100 CNG trucks operating today. We opened that facility in October. So, it's somewhat dependent on the difference in CNG pricing and diesel pricing. So, it's really too early to tell the long-term impacts of that. But we're monitoring that closely and looking at investing in these newer kinds of technology and really the whole Corporation or FedEx Freight Corporation in embracing the new technologies available to us.

Let me make an editorial comment based on what Mike said about our reaching 80% of our FedEx Freight having these new modern technologies in the tractors. Similarly, Ground has been providing incentives, and soon all of our independent service providers will be required to have these same types of technologies, and quite frankly, the Department of Transportation and Congress should mandate these technologies. It is simply unacceptable to have vehicles on the road that don't have these modern technologies that can prevent so many accidents that take place historically because of the inability to stop in time or to change lanes precipitously and so forth. So, every truckload carrier in the United States, every LTL carrier, ground parcel, it should all be mandated, and we're trying as hard as we can to push this technology into every vehicle we have as fast as we can do it.

Okay. Let's take a couple of live questions.

Yes. Good afternoon. I wanted to appreciate the new information you've updated on TNT. This is a lot of good information to work with. It's great to hear about the strong progress there. I was wondering if you could help us understand maybe the new framework of the $1.2 billion to $1.5 billion versus the prior framework of $750 million? How much of an increase is there versus the prior $750 million? Obviously, it's a different categorization. It sounds like it's an expansion on the $750 million that you think there is, but I don't know if you could parse that out on a comparable basis and give us a sense of that? Thank you.

Okay. Thank you. This is Dave Bronczek. Then I'll turn it over to David Cunningham. Let me start off by saying what Alan said earlier. We decided, and it's in the best interest of our company to just look at it holistically starting June 1. So, we're not going to break out TNT and FedEx Express in the future, and the combination of TNT and FedEx Express, the synergies of it all are what we've actually presented to you now. So, looking at our business and our business model and our strategic outlook, combined with TNT and what we see and what we've seen before and putting it all together, these are the numbers that we've now come up with, and so, because of all the hard work and because of all the teams that have been working on this for almost a year now, we're confident to give you these new numbers. So, David?

So, just a couple of quick questions, and thanks. We got a lot of moving parts in this equation. You've got two base businesses; you've got integration; you've got fleet changes. And so, what we try to do is give you the ability and us the ability to measure our progress in very clear terms between now and then. So that's what this target is, and that incorporates the synergies that we identified earlier.

It's Alan. So also, everything else we're doing at Express, so there are unbelievable things going on at Domestic Express, things that have nothing to do with TNT in terms of productivity. We continue to deploy automation and IT solutions that are increasing our cost performance, and so I can't see the $750 million anymore. It's really the issue, and I might've been able to see it a little bit longer, but we've done such a good job with speeding up the integration that became very clear. So, we didn’t wait till June. We just thought we would deliver this news now, and so you'll know what to expect.

Okay. Good afternoon, everyone, and thanks for taking my question. Alan or Fred, I guess as I look at the outlet here, if margins are improving at Ground from where we are today and you get the express improvement as you've laid out, and we appreciate the guidance as well. It sounds like you're going to have more free cash flow, although I'm not sure that we heard a commitment that CapEx will stay flat from here, but I'm thinking more strategically at the Board level. Fred, is there any emphasis or change in strategy as we need to start compensating people on the long-term plans, not just an EPS growth, but also look at free cash conversion or return on invested capital?

It's funny you should ask that. I just requested several months ago another look at whether we should put an ROIC component into our LTI, which Judie Edge, who heads up our Corporate HR and Strategic Finance, headed up by Bob Henning, just did a crackerjack report, and we will show this to our Board of Directors either at the next meeting or the June meeting; I can't remember which. But bottom line is our current correlation between EPS and shareholder return is so close, it's approaching 95%, and the dangers of perverse incentives of putting things like that on automatic pilot are so great that we don't think that it makes sense. Now having said that, for those of you who've been here or listened to what we've said over the last year and a half, let me say it again. I don't think that FedEx Corporation's CapEx in absolute dollars is going to vary too much for the foreseeable future. We want to put these new modern airplanes in. We see an opportunity to continue to grow our ground business, the Freight 2020 initiative that Mike said about. But with the numbers that we gave you today, it just reinforces what we've been saying that margins, cash flows, and returns are going to increase over the next several years. So, there should be an increase in free cash flow unless we do some other corporate development activity, or as Alan mentioned to you, there is expensing of the new tax bill or we got 33-foot trailers, which is a huge improvement in national productivity and safety, as we've been arguing over and over again. That might change a little bit, but I don't think you're going to see the CapEx materially change the next few years. It's just too lucrative to us, and our position does nothing but strengthen competitively by continuing to do this, but we will be throwing off more free cash flow in the years to come as a result of these projections or outlooks that Alan gave to you, particularly based on TNT synergies.

Thanks. Good afternoon. Could you delve in a little bit into B2C versus B2B growth in Ground in the quarter, just to give us a feel of how each of those performed versus past peak? And then a little commentary on what you would think for Ground volume going forward? Thanks very much.

Let me kick this off and then I'll turn it over to Henry. This is Raj. We do not break out our commercial and residential volume growth numbers. Although what I can tell you is that we did see higher growth rates in our residential delivery volume driven by e-commerce.

Yes, I would say without breaking out our Ground and sorry, commercial and residential volumes, our commercial volume has been very strong and has been for the last three quarters or so. I think I'm pretty bullish on where we are from here, but you need to understand that we're going to continue to balance yield and volume going forward, as Alan and others have said here. And other than that, I think you can continue to see us make good progress in this area.

Okay. I think we'll do a couple more questions, Fred.

Okay. There are a couple of additional ones on Ground. I think I am going to segue right into that since they follow on what Henry's been talking about, and then there is one on freight. This is a question about what percentage of SmartPost volume can be redirected into Ground by end of 2018. Any targets you can share in terms of potential margin impact this could have would be appreciated; Amit Mehrotra of Deutsche Bank. And then a related question from David Ross of Stifel: Are you having any problems getting contractors, Henry?

On the first question, I think we have to keep in mind here that the mission is improving delivery density and revenue per stop, and we're getting some software delivered this summer. We call it 'The Terminator.' Internally, it's part of a delivery optimization project that allows us to virtually divert packages in the network from SmartPost to Ground that have the same address on the same day. But you got to keep in mind here that there is also an opportunity with adjacent deliveries and the ability to build density through the expansion of our retail on-site network, which is the Walgreens deal that we did a couple months ago that Raj referred to. So, there are a number of moving parts here that get us to where we believe we need to be. We do have an internal number, but we've decided that we're going to keep it internal for this time. In terms of Ground businesses and the trouble of finding contractors, you might be surprised to know that the actual number of businesses under contract has declined over time, and that's been the result of two things. One, the size of these businesses is getting larger, and two, our transition to a single independent service provider contract nationwide. Currently, we contract with roughly 6,000 small businesses that collectively employ over 60,000 employees, and we have seen no indication that these businesses are having any trouble attracting drivers either on the line haul side or on the pickup and delivery side. And we just came through a record peak season, and they performed admirably in terms of being able to get the necessary resources to handle the volume.

So, we have a question or two on freight. You mentioned on the last call the investments being made at FedEx Freight. Is that why the margin is compressed a bit? Can you talk about the investments being made and how they should set FedEx apart from the competition? That's from David Ross of Stifel. And what investment is the firm meaning Freight making in natural gas tractors, and do you think over the next few years that these alternative sources will reduce fuel expenses at FedEx Freight? That's from Keith Schoonmaker of Morningstar? Mike Ducker?

Okay. Thank you, David. Yes, there is somewhat that is partial reason for the margin compression. There are a number of different areas we're investing in. Number one, safety systems. 80% of our fleet today has the most recent safety features available on the fleet. We'll be 100% complete by the end of '18. We're investing in customer automation systems, line haul optimization systems and replacing some legacy systems as well as new dimensioning technology. All of those investments are really aimed at our goal of double-digit margin and improving the customer experience. So, hope that answers your question. Secondly, Keith, we have the signature facility in Oklahoma City with 100 CNG trucks operating today. We opened that facility in October. So, it's somewhat dependent on the difference in CNG pricing and diesel pricing. So, it's really too early to tell the long-term impacts of that. But we're monitoring that closely and looking at investing in these newer kinds of technology and really the whole Corporation or FedEx Freight Corporation embracing the new technologies available to us.

Let me make an editorial comment based on what Mike said about our reaching 80% of our FedEx Freight having these new modern technologies in the tractors. Similarly, Ground has been providing incentives, and soon all of our independent service providers will be required to have these same types of technologies, and quite frankly, the Department of Transportation and Congress should mandate these technologies. It is simply unacceptable to have vehicles on the road that don't have these modern technologies that can prevent so many accidents that take place historically because of the inability to stop in time or to change lanes precipitously and so forth. So, every truckload carrier in the United States, every LTL carrier, ground parcel, should all be mandated, and we're trying as hard as we can to push this technology into every vehicle we have as fast as we can do it.

Okay. Let's take a couple of live questions.

Yes. Good afternoon. I wanted to appreciate the new information you've updated on TNT. This is a lot of good information to work with. It's great to hear about the strong progress there. I was wondering if you could help us understand maybe the new framework around the $1.2 billion to $1.5 billion versus the prior framework of $750 million. How much of an increase is there versus the prior $750 million? Obviously, it's a different categorization. It sounds like it's an expansion on the $750 million that you think there is more there at TNT standalone, but I don't know if you could parse that out on a comparable basis and give us a sense of that? Thank you.

Okay. Thank you. This is Dave Bronczek. I'll turn it over to David Cunningham. Let me start off by saying what Alan said earlier. We decided, and it's in the best interest of our company, to just look at it holistically starting June 1. So, we're not going to break out TNT and FedEx Express into the future, and the combination of TNT and FedEx Express, the synergies of it all are what we've actually presented to you now. So, looking at our business and our business model and our strategic outlook, combined with TNT and what we see and what we've seen before and putting it all together, these are the numbers that we've now come up with. So, because of all the hard work and the teams that have been working on this for almost a year now, we're confident to give you these new numbers. So, David?

So, just some quick questions, and thanks. We got a lot of moving parts in this equation. You got two base businesses, you got integration, you got fleet changes. And so, what we try to do is give you the ability and ourselves the ability to measure our progress in very clear terms between now and then. So, that's what this target is, and that incorporates the synergies that we identified earlier.

It's Alan. So also, everything else we're doing at Express, so there are unbelievable things going on at Domestic Express, things that have nothing to do with TNT in terms of productivity. We continue to deploy automation and IT solutions everywhere that are increasing our cost performance, so I can't see the $750 million anymore. It's really the issue, and I might have been able to see it a little bit longer, but we've done such a good job with speeding up the integration that became very clear. So, we didn’t wait for June. We just thought we would deliver this news now, so you'll know what to expect.