United Parcel Service, Inc - a Strategic Analysis Report

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While UPS has a high debt to equity ratio their long term debt could be paid in less than 3 to 4 years with their earnings. This would resemble a competitive advantage according to Warren Buffet (GuruFocus.com, 2016)

Current Ratio compares current assets to current liabilities. The ratio depicts the solvency of a company. In figure 3 and 4 we can see the trend of the current ratio over the last 10 years for UPS and its competitors. UPS’s current ratio is 1.23 meaning that the value of the current assets is just slightly higher than its current liabilities. This reveals that UPS and its competitors are quite solvent and if needed, could meet any short term financial obligations. Also, because it is very close to 1, it illustrates that all the firms are using their current assets or short term debts efficiently.

We can see from the below figures that UPS is not in the lead and barely trailing behind UPC. This, combined with the debt to equity ratio, could indicate that UPS may want to have better control their short and longer term debt.

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Figure 3 Figure 4

Return on Equity (ROE) reveals to the shareholders just how well a company is using their funds to generate growth. Return on equity is a useful ratio to compare the profitability of UPS to its competitors and the industry. UPS has a significantly high ROE compared to others in the industry. At 196.11%, means that investors are happy with how the company is utilizing their funds! The high ratio also confirms the high amount of debt UPS has taken on from 2012 to 2015. The incline in ROE is due to profits being cyclical and dependent on the economy as well as growing debt to finance their expansion beyond package delivery to logistics and distribution.

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Figure 5 Figure 6

Profit Margin represents the percentage of revenue that a company keeps as profit after costs are paid. It’s found by simply dividing net income by revenue. It can illustrate the amount of profit a company keeps per dollar of revenue. Acceptable profit margins can vary between different industries. UPS Profit margin is 8.30% meaning that UPS keeps $.83 for every dollar it earns in sales. This shows that UPS is better than FedEx (2.21%) at converting its revenue into profit and has lower fixed costs. However, they are significantly behind Union Pacific Corp. The higher the number of profits the happier the shareholders will be because it results in higher profit margins and higher profit margins reduce the risk that a decline in sales will cause a net profit loss (YCHARTS, 2016).

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Figure 7 Figure 8

Quick Ratio is a ratio showing a firm’s ability to pay off current liabilities with cash or other equivalents like accounts receivables. It is a good indicator to determine a firm’s solvency. If they have enough cash on hand to pay off liabilities, if not they could be headed for trouble.

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Figure 9 Figure 10

From figure 9 and 10 we can see that United Parcel Service Inc.'s quick ratio declined from 1.67 in 2013 to 1.11 in 2015. Similarly, the competing firms also experienced a decline. However, a quick ratio of 1.1 along with being a leader in the industry does show that it is solvent and indicates financial stability. Combined with the debt to equity ratio and current ratios, UPS and FedEx may be struggling to maintain or grow sales, pay bills or may be collecting receivable slowly. UPS may need to increase their inventory turnover and cash conversion cycles (Stock Analysis on Net, 2016). We will see later in the disaggregation of the ROCE that they have relatively well turn over ratios.

WACC

The weighted average cost of capital (WACC) or in some cases is referred to as the firm’s cost of capital, or the rate that a company is expected to pay on average to all its security holders to finance its assets. It is common for a company's assets to be financed by debt and equity. As we saw earlier, UPS uses high levels of debt to finance its growth. The WACC is the average of the costs of these sources, each of which is weighted by its respective use in a certain situation (GuruFocus, 2016). By taking a weighted average, we can see how much interest the company has to pay for every dollar it finances and compare it to that of other competitors in the industry see figure11.

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Figure 11

Currently, United Parcel Service’s WACC is hovering around 8%. This is because their cost of equity is much higher than their cost of debt. They have significantly more debt than equity to finance the firm. This means that they expected to pay 8% to their security holders who finance their assets through debt and equity. FedEx has a higher WACC at 13%. This high WACC is typically a sign of higher risk and so investors will require a higher return to take on the risk.

Because it costs money to raise the capital for investments and UPS has experienced higher returns from those investments than it spent on raising the capital its earning an excess return. In essence it costs about 8% to raise the capital (through debt and equity) for its investments and its return on investments is 50%. UPS should see value and growth increase in the future because they are generating surplus returns on new investments.

DUPONT

The DuPont analysis breaks down the ROE by using three main things; the profit margin, the total asset turnover and the equity multiplier. If ROE is unsatisfactory, the DuPont analysis helps locate the part of the business that is underperforming through these measures which point to three different areas; operating efficiency, asset use efficiency and the financial leverage. Looking at figures 12 and 13, we see that the net profit margin fell from 2010 to 2014 and asset turner over moved contrary with the biggest change in leverage, or equity multiplier from 5 to 15.5. Meaning that growth of the ROE came from an increase in leverage or taking on more debt. Compared to FedEx whose ROE fell in 2010 to 8.5 to 7 over the past 5 years and is still far below UPS. UPS has been a dominant leader but probably need watch their ROE since their profits are dependent on the economy.

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Figure 12 Figure 13

Capital