Consultant’s Insight: Another disappointing quarter for UPS

A shift to economy services and costs associated with the Teamsters contract resulted in a disappointing quarter for UPS and overshadowed one of the better acquisitions that UPS has made in recent years: Mexico-based last-mile provider Estafeta . [caption id="attachment_76185" align="alignright" width="298"] Cathy Roberson, Cargo Facts Consulting senior consultant and Air Cargo Next columnist[/caption] On the company’s July 23 earnings call , UPS Chief Financial Officer Brian Dykes noted a shift from air to Ground and from Ground to SurePost. As a result, total air average daily volumes (ADV) declined by 7.8%, while ground ADV increased by 2.3%. Within Ground, SurePost, a hybrid solution in which the U.S. Postal Service (USPS) handles the final-mile delivery, ADV grew 25%. The ADV gained within the Ground division came at a cost, as UPS Chief Executive Carol Tome noted that two new e-commerce customers entered the UPS network during the quarter, and she described the volume as "quite explosive." The "explosive" volumes resulted in a 3.3% decline in Ground's average rate per piece. UPS and FedEx consider the average rate per piece (ARPP) sacred, with both carriers noting in previous earnings calls that they would protect ARPP by implementing higher rates and surcharges . Volume boom Something happened during the second quarter that caused UPS to accept volume from two e-commerce providers, rumored to be Temu and Shein , that are known in the market for utilizing lower-cost transportation service such as UPS' SurePost. My guess is that UPS deviated from its “better not bigger” strategy, which was first introduced in 2020 and shifted to "better and bolder" in 2022. Instead, the express provider went after the volume because its biggest division, U.S. Domestic, had suffered through nine quarters of volume decline within its Ground group. UPS needed to show the market that volumes had recovered since last year's Teamsters contract negotiations, when ADV Ground volumes declined 8.6% year over year during Q2 2023 and 10.7% YoY in Q3 2023. When asked about this possible shift, Tome told analysts, "We're not chasing volume. We had new customers coming into our networks [and] volume blew up." UPS should not have been surprised by the volume surge. Over the years, it has beefed up its forecasting and visibility tools to monitor volumes. And Temu and Shein are supply chain companies. They knew how much volume they were sending UPS. Also, this volume was residential, a service level that UPS is trying to shift away from due to its lower or, in some cases, lack of profitability. Cutting costs Meanwhile, costs attributed to last year's hefty Teamsters contract agreement also weighed on Q2 operating profits. Besides technology investments to help reduce some of these costs, UPS is also optimizing its network as part of its Network of the Future strategy. While a smart strategy, it has drawbacks, including longer delivery times for some customers due to the closure of older facilities and a reduction in operating schedules in other locations. In addition, its newly implemented automated driver dispatch process reduced staffing by 26%, according to this week’s earnings report. As we head into the second half of the year, UPS assured analysts that the costs attributed to the Teamsters contract will subside as we pass the contract’s one-year anniversary in August and that the company will experience growth, albeit at a lower rate than originally anticipated, as it lowered its outlook for the rest of the year. With so much uncertainty in the market, retailers are also cutting costs, and many new entrants are in the last-mile market. UPS will likely continue to struggle if it continues its path toward “better and bolder.” Estafeta acquisition Overshadowed by a disappointing Q2 earnings announcement, the Estafeta acquisition deserves praise. If integrated correctly, UPS should benefit from perceived nearshoring trends and a growing Mexican pharmaceutical and health care market. "As we see the shift in nearshoring continue to take hold, our announced acquisition of Estafeta will further enhance our end-to-end services in Mexico," Dykes told analysts. Estafeta has 145 facilities, moves an average of 300,000 pieces per day and can reach 95% of the Mexican population, according to a release this week from UPS. With six aircraft in its fleet, Estafeta also offers a cross-border solution and has many e-commerce and retail customers. UPS and Estafeta have long been partners, even before their formal partnership agreement in 2020. But now, as anecdotal evidence suggests an increase in nearshoring, UPS has an opportunity to extend its Mexico cross-border solution to include last-mile deliveries to Mexican consumers and businesses. As a result, UPS will be able to stand out from an increasing field of Mexico cross-border solutions by offering a true end-to-end solution. In addition, Mexico is a growing clinical trial market. UPS has at least four health care locations in Mexico, some via its Marken acquisition in 2016, that address this market. Estafeta's aircraft and express services will be beneficial to UPS as it expands its health care capabilities across the country. The acquisition of Estafeta will perhaps serve as a launchpad to further strengthen UPS’ reach in the Latin America region. Besides clinical trials, Mexico is also a growing pharmaceutical manufacturer. Mexico exports more than 50 pharmaceutical goods today that it didn't make 10 years ago, according to nonpartisan research group Wilson Center . In 2023, Mexico exported 165 of the 350 pharmaceuticals and active pharmaceutical ingredients designated as critical by the International Trade Administration to the U.S. While health care is still a small market compared to Mexico’s automotive, consumer goods and high-tech markets, clinical trials and pharmaceuticals offer logistics providers perhaps more profitable opportunities in managing such high-value goods. In conclusion, UPS faces several challenges, including an uncertain environment and increased competition. However, UPS will need to prove to the market that it can successfully overcome its costs and regain volumes in the second half of the year. Otherwise, the market will severely punish it.

Consultant’s Insight: Another disappointing quarter for UPS

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