TRANSPORTATION TRANSPORTATION INDUSTRYINDUSTRY

Security Analysis

Student Managed Investment Portfolio Class

Prof. P.V. Viswanath

Spring 2002

ANALYSTSANALYSTS

ELLEN MATUSHANSKYKENLEE ABRAHAMWAYNE LEEERNEST R. LARENAS

CRITERIA FOR CRITERIA FOR STOCK SELECTIONSTOCK SELECTION

Transportation industry-wide selectionCreate a unique list from S&P 1500 Super

Composite, Yahoo Finance, and Multex.Financial Information obtained from

StockVal, Bloomberg and Multex.Select stocks with positive Cash Flow.Select companies with a market value

greater than $1 billion market cap.

CRITERIA FOR CRITERIA FOR COMPANY SELECTIONCOMPANY SELECTION

Each stock was ranked using the following ratios:• FCF/MVA

• DEBT/EQUITY

• CFFO/PRICE

• FCF/SALES

• FCF/CAPEX

Ratio Normalization includes FCF/MVA, Debt/Equity, and Residuals (CapEx) weighted evenly to select stocks based on ratio levels in different sectors

CRITERIA FOR CRITERIA FOR COMPANY SELECTIONCOMPANY SELECTION

Multiply rankings to find the product of the following:

• FCF/MVA• DEBT/EQUITY• RESIDUALSNote: assigning a weight to each ranking product did

not change the outcome of the final 9 stocks selection

The final four stocks were selected based on the analyst’s knowledge and growth potential of the each corporation.

FINAL CUTFINAL CUT

United Parcel Services (UPS) - TruckingC.H. Robinson Worldwide (CHRW) - Misc.

Transportation (Logistics)Atlantic Coast Airlines Holdings (ACAI) -

AirlineExpeditors International of WA (EXPD) -

Misc. Transportation (Logistics)

TRANSPORTATION SECTORTRANSPORTATION SECTOR

Overview

Near Term ConcernsNear Term Concerns

Domestic and international economies weakness, jet fuel and diesel prices, rational industry wide pricing, increased insurance cost and safety concerns benefit some firms and leave others exposed

The outlook for the air freight sector continues to remain weak with no signs of near term recovery.

Air FreightAir Freight

Non asset base carriers tend to use commercial airlines over competing integrated carriers, US Bancorp believe it is important to consider the industry volumes excluding the integrated carriers. Therefore, to get a good picture of the heavy air freight environment, the package volumes for FEDEX and UPS should be excluded. When this is done, air freight volume for 2002 declines 25.6%/ y/y.

Economic RecoveryEconomic Recovery

US Bancorp believes that if the economy does improve in the 2H02 to expect to see a modest improvement in air freight volumes. This improvement may be held back somewhat by a slow recovery in high tech products. Also, shippers will be hesitant to use air freight in a modestly improving economy as they will continue to be focused on cost savings and will look for low cost modes of transportation.

TOP SELECTIONTOP SELECTION

We are recommending UPS as a Long Term Buy based on the following information

United Parcel Services (UPS)United Parcel Services (UPS)

United Parcel Service Inc. (UPS) is an express carrier, package delivery company and a global provider of specialized transportation and logistics services.

Company's primary business is the time-definite delivery of packages and documents throughout the United States and in over 200 other countries.

ManagementManagement

12 member management committee Corporate culture that stresses teamwork over individuality CEO: Michael Eskew, An industrial engineer by training Firm’s top strategist. Daily Ops: Thomas Weidemeyer, a lawyer honed operational skills

by launching UPS Latin America. Also built UPS’s global air network and still serves as its president. Senior VP: Joseph Pyne, started as Parcel sorter (1969), main

architect of UPS worldwide marketing strategy (1990’s) Currently oversees non-package units, UPS Logistics Group and UPS

capital.

OperationsOperations

Started Ops in 1907 (foot & Bicycle) Today unified air and ground network delivers 14M daily

to 200 + countries. Precision oriented Firm (pinky key) Domestic delivery “Cash Cow” produce ~ 80% UPS’s rev. Op margins fell during recession to 15% Intl Ops ~ 14% UPS’s rev. Op margins have fallen sharply to barely 2%. Profitable in Europe and expanding throughout Asia.

Change on the MarginChange on the Margin

Most flexible Domestic op margin in industry. 1/3 of 370K workers part-timers. Union contract clause: slow=option send home Technology innovations helps to improve margins. UPS

employs 4K tech workers and invest $1B+ yearly on InfoTech (almost as much Aircraft).

VC division holds stake in 12+ Firms developing potentially lucrative technologies.

E.g.: Rf package labels (easier tracking than bar codes)

Strategic InitiativesStrategic Initiatives

Parcel delivery service ($60B)Logistics market ($75B, $130B in 5yrs)UPS Logistics rev (3%) ~ $1.4B ($3B-$4B

5yrs)Grow biz thru acquisitions (20 since IPO)

Growth VehiclesGrowth Vehicles

Fritz Companies(2001, CA) premier int’l freight Forwarder (expertise customs clearance)

UPS Logistics more valuable to customers.Deliveries, stocking inventories, filling

orders, & transporting goods.Microsoft of Parcel deliveries?

Financial ServicesFinancial Services

UPS financial Services in early stages.AAA credit rating and FCF ~$2B this yr. Loans Safety Net: loans collateralized by

A/R or Inventories. First Int’l Bancorp (2001, CT) extends

loans backed by SBA & Export-Import Bank.

Competition: Competition: HOME DELIVERYHOME DELIVERY

U.S. Postal Service: lower price, lower quality

FedEx: invented overnight air delivery. UPS seized nearly 1/3 air biz. FedEx seized only 1/10th home-delivery biz (hasn’t posted profit yet on it).

UPS higher profit margins. Better at costs control and managing revenue mix.

Int’l Delivery Markets & Global Int’l Delivery Markets & Global Logistics MarketLogistics Market

INT’L DHL Worldwide Express dominant player.

LOGISTICS MARKET FedEx (not interested?) Deutsche Post (DHL partner) pushing into U.S. Exel (Britain’s) TNT Post Group (Netherlands’)

Social ResponsibilitySocial Responsibility

UPS domestic trucks uses compressed Natural Gas.

Canada & Mexico trucks fueled by Propane.

UPS foundation donated $40M last year.

UpsideUpside

Economy recovery boosts UPS’s bottom line.

Logistics Firms Counter cyclical?Smoother revs thru diversification.

DownsideDownside

Biggest risk is prolonged recession.Union Contract expires July 2002.Int’l Brotherhood Teamsters 15 day strike

(1997)Contracts renegotiated every 5 yrs

UPS StockUPS StockPrice & VolumePrice & Volume

Recent Price $ 60 52 Week High

$61.55 52 Week Low $

46.15 Avg Daily Vol

(Mil)1.57 Beta 0.66

2-stage FCFE Discount Model 2-stage FCFE Discount Model Analysis on UPS: InputsAnalysis on UPS: Inputs

Current EPS: $2.2 Current Dividend/share: $0.76 Current Capex/share: $1.9 Current Deprec/share: $1.0 Current Revenue/share: $27.0 Forward Beta: 0.89 ROC: 21.3% D/E: 30.6%

2-stage FCFE Discount Model 2-stage FCFE Discount Model Analysis on UPS: OutputsAnalysis on UPS: Outputs

Cost of Equity: 8.9%Current EPS: $2.2EPS Growth rate (rapid phase): 16.7%*Working Capital as % of Revenue: 15.6%Fair Value of Stock: $91.5 (currently at

$60.8) *same growth rate in capex, deprec & revenues

Fair ValuationFair Valuation

Recent price $60. 25X 2002 estimate of $2.24 Analysts Expects 15% in 2003. UPS trading premium to FedEx & S&P. UPS higher ROE, profits, and FCF. FCFE model $70/share Change on margin Higher margin logistics & financing contributes more to

future rev. Hold 3-5 yrs easily outperform market.

ConclusionConclusion

Change of margin Multiple Growth areasStabilityInfrastructure in place UPS Airlines (9th

largest U.S./11th Worldwide)

Other firms ConsideredOther firms Considered

We also looked at these firms, but after a thorough analysis decided it wasn’t in our best interest to recommend.

C.H. Robinson Worldwide C.H. Robinson Worldwide (CHRW)(CHRW)

C.H. Robinson Worldwide, Inc. is global provider of  multi-modal transportation services and logistics solutions  through a network of 139 offices in 40 states and  internationally.

CHRW ManagementCHRW Management

Verdoorn, D.R. Chairman of the Board. Expected to Retire in 2002.

Wiehoff, John P. President, Chief Executive Officer. Expected to replace Mr. Verdoorn.

Butzow Barry W. Senior Vice President, Office of the President and Director.

CHRW StockCHRW StockPrice & VolumePrice & Volume

Recent Price $ 34.45 52 Week High $35.15 52 Week Low $ 24.05 Avg Daily Vol (Mil) 0.33 Beta 0.29

Expeditors International of WA Expeditors International of WA (EXPD)(EXPD)

EXPD is engaged in the business of global logistics  management, including international freight forwarding and  consolidation, for both air and ocean freight.

EXPD - ManagementEXPD - Management

Peter Rose, Chairman/CEOGlen M. Arger, PresidentR. Jordan Gates, Sr. VP/CFO/Treas.David Lincoln, Sr. VP/CIOJeffrey King, Sr. VP/Counsel/Secy.Charles Lynch, VP/Contr.

EXPD StockEXPD StockPrice & VolumePrice & Volume

Recent Price $ 58.57 52 Week High $65.92 52 Week Low $ 41.95 Avg Daily Vol (Mil) 0.34 Beta 1.43

Atlantic Coast Airlines Atlantic Coast Airlines Holdings, Inc. (ACAI)Holdings, Inc. (ACAI)

Atlantic Coast Airlines Holdings, Inc. is the  holding company of Atlantic Coast Airlines, a regional  airline serving 53 destinations in 24 states in the Eastern  and Midwestern United States.

ACAI - ManagementACAI - Management

K. Skeen, Chairman/CEO

T. Moore, President/COO

R. Surratt, CFO/Exec. VP/Treas.

R. Kennedy, VP/Counsel/Secy.

ACAI StockACAI StockPrice & VolumePrice & Volume

Recent Price $ 24.05 52 Week High $ 30.23 52 Week Low $ 8.04 Avg Daily Vol (Mil) 0.50 Beta 1.39