Item 2. Management’s Discussion and Analysis
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations
Overview
We continue to execute our Customer First, People Led, Innovation Driven strategy by investing to improve the customer experience and drive growth in our targeted customer segments, including small- and medium-sized businesses ("SMBs") and healthcare. We seek to provide industry-leading service to our customers by combining our digital capabilities with our global integrated network.
During the quarter, we continued the expansion of our Digital Access Program and other technology-driven initiatives to make it faster and easier for SMBs to do business with us. We expanded our global footprint of dedicated healthcare facilities, accelerated deployment of our smart package-smart facility technology and continued to pursue initiatives to drive further productivity improvements and better serve our customers.
Macroeconomic headwinds, including global inflation and a decline in U.S. manufacturing production, led to a challenging operating environment in the first quarter of 2023. In the U.S., consumer spending continued to shift towards services and discretionary spending slowed. Internationally, exports out of Asia remained weak and inflationary pressures persisted in Europe. These factors negatively impacted demand for our services, resulting in volume declines in our global small package operations. We anticipate these factors will continue to impact us throughout the remainder of 2023. We may also be negatively impacted by the ongoing negotiation of our labor contract with the Teamsters. For additional information on the status of these negotiations, see note 7 to the accompanying unaudited financial statements.
Notwithstanding the challenging macroeconomic environment in the first quarter, we managed our network with agility, focused on productivity, controlled cost and generated operating profit that was in line with our expectations. Additionally, we returned cash to shareowners through dividends and share repurchases, and continued to make long-term investments to support our strategy.
We have two reportable segments: U.S. Domestic Package and International Package, which are together referred to as our global small package operations. Our remaining businesses are reported as Supply Chain Solutions.
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Highlights of our consolidated results, which are discussed in more detail below, include:
Three Months Ended
March 31, Change
2023 2022 $ %
Revenue (in millions) $ 22,925 $ 24,378 $ (1,453) (6.0) %
Operating Expenses (in millions) 20,384 21,127 (743) (3.5) %
Operating Profit (in millions) $ 2,541 $ 3,251 $ (710) (21.8) %
Operating Margin 11.1 % 13.3 %
Net Income (in millions) $ 1,895 $ 2,662 $ (767) (28.8) %
Basic Earnings Per Share $ 2.20 $ 3.05 $ (0.85) (27.9) %
Diluted Earnings Per Share $ 2.19 $ 3.03 $ (0.84) (27.7) %
Operating Days 64 64
Average Daily Package Volume (in thousands) 21,989 23,278 (5.5) %
Average Revenue Per Piece $ 13.74 $ 13.26 $ 0.48 3.6 %
• Average daily package volume and revenue in our global small package operations decreased, with declines in both commercial and residential shipments, primarily as a result of the macroeconomic conditions described herein.
• Operating expenses decreased, driven by a reduction in purchased transportation in Supply Chain Solutions.
• Operating profit and operating margin decreased, as revenue declines were greater than operating expense reductions.
• We reported net income of $1.9 billion and diluted earnings per share of $2.19. Adjusted diluted earnings per share was $2.20, which includes the after-tax impacts of transformation strategy costs and goodwill impairment charges of $9 million, or $0.01 per diluted share.
In the U.S. Domestic Package segment, revenue declines were driven by lower volume. These were somewhat offset by revenue per piece growth due to improvements in revenue quality and customer mix, together with higher fuel revenue as a result of increases in price per gallon and pricing initiatives. Expenses increased primarily due to higher wages and benefits costs for our union employees, partially offset by lower management compensation expense, increased productivity and declines in purchased transportation costs.
In our International Package segment, revenue declines were driven by lower volume, unfavorable fluctuations in foreign currency exchange rates and declines in demand-related surcharges. These declines were partially offset by the impact of revenue quality initiatives and increased fuel revenue. Expense decreases were primarily driven by favorable currency impacts and the impact of volume declines, partially offset by higher fuel prices.
In Supply Chain Solutions, revenue decreases were driven by volume and market rate declines in Forwarding that were slightly offset by growth in Logistics, including the impact of the Bomi Group acquisition that occurred in the fourth quarter of 2022. Expenses decreased, driven by lower transportation costs in Forwarding. These were partially offset by increases in transportation and other costs within Logistics.
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Supplemental Information - Items Affecting Comparability
We supplement the reporting of our financial information determined under generally accepted accounting principles in the United States ("GAAP") with certain non-GAAP financial measures.
Adjusted financial measures should be considered in addition to, and not as an alternative for, our reported results prepared in accordance with GAAP. Our adjusted financial measures do not represent a comprehensive basis of accounting and therefore may not be comparable to similarly titled measures reported by other companies.
Adjusted amounts reflect the following (in millions):
Three Months Ended
March 31,
Non-GAAP Adjustments 2023 2022
Operating Expenses:
Transformation Strategy Costs $ 3 $ 55
Goodwill and Asset Impairments, and Divestiture Charges 8 —
Total Adjustments to Operating Expenses $ 11 $ 55
Other Income and (Expense):
Defined Benefit Plan (Gains) Losses $ — $ (33)
Total Adjustments to Other Income and (Expense) $ — $ (33)
Total Adjustments to Income Before Income Taxes $ 11 $ 22
Income Tax (Benefit) Expense:
Transformation Strategy Costs $ — $ (12)
Goodwill and Asset Impairments, and Divestiture Charges (2) —
Defined Benefit Plan (Gains) Losses — 9
Total Adjustments to Income Tax (Benefit) Expense $ (2) $ (3)
Total Adjustments to Net Income $ 9 $ 19
Transformation Charges, and Goodwill, Asset Impairment and Divestiture Charges
We supplement the presentation of our operating profit, operating margin, income before income taxes, net income and earnings per share with non-GAAP measures that exclude the impact of charges related to transformation activities, and goodwill, asset impairment and divestiture charges. We believe excluding the impact of these charges better enables users of our financial statements to view and evaluate underlying business performance from the perspective of management. We do not consider these costs when evaluating the operating performance of our business units, making decisions to allocate resources or in determining incentive compensation awards. For more information regarding transformation activities, see note 17 to the unaudited, consolidated financial statements. For more information regarding goodwill impairment charges, see note 8 to our unaudited, consolidated financial statements.
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Foreign Currency Exchange Rate Changes and Hedging Activities
We supplement the reporting of revenue, revenue per piece and operating profit with adjusted measures that exclude the period over period impact of foreign currency exchange rate changes and hedging activities. We believe currency-neutral revenue, revenue per piece and operating profit information allows users of our financial statements to understand growth trends in our products and results. We evaluate the performance of International Package and Supply Chain Solutions on this currency-neutral basis.
Currency-neutral revenue, revenue per piece and operating profit are calculated by dividing current period reported U.S. Dollar revenue, revenue per piece and operating profit by the current period average exchange rates to derive current period local currency revenue, revenue per piece and operating profit. The derived amounts are then multiplied by the average foreign currency exchange rates used to translate the comparable results for each month in the prior year period (including the period over period impact of foreign currency hedging activities). The difference between the current period reported U.S. Dollar revenue, revenue per piece and operating profit and the derived current period U.S. Dollar revenue, revenue per piece and operating profit is the period over period impact of currency fluctuations.
Defined Benefit Plan Gains and Losses
We incur certain employment-related expenses associated with pension and postretirement medical benefits. These pension and postretirement medical benefits costs for company-sponsored defined benefit plans are calculated using various actuarial assumptions and methodologies, including discount rates, expected returns on plan assets, healthcare cost trend rates, inflation, compensation increase rates, mortality rates and coordination of benefits with plans not sponsored by UPS. Actuarial assumptions are reviewed on an annual basis, unless circumstances require an interim remeasurement of any of our plans.
We recognize changes in the fair value of plan assets and net actuarial gains and losses in excess of a 10% corridor (defined as 10% of the greater of the fair value of plan assets or the plan's projected benefit obligation), as well as gains and losses resulting from plan curtailments and settlements, for our pension and postretirement defined benefit plans immediately as part of Investment income and other in the statements of consolidated income. We supplement the presentation of our income before income taxes, net income and earnings per share with adjusted measures that exclude the impact of these gains and losses and the related income tax effects. We believe excluding these defined benefit plan gains and losses provides important supplemental information by removing the volatility associated with plan amendments and short-term changes in market interest rates, equity values and similar factors.
During the first quarter of 2022, we amended the UPS Canada Ltd. Retirement Plan to cease future benefit accruals effective December 31, 2023. As a result, we remeasured the plan's assets and benefit obligation resulting in a curtailment gain of $33 million ($24 million after-tax) in the three months ended March 31, 2022.
For additional information, refer to note 7 to the unaudited, consolidated financial statements.
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Results of Operations - Segment Review
The results and discussions that follow are reflective of how management monitors and evaluates the performance of our segments as defined in note 13 to the unaudited, consolidated financial statements.
Certain operating expenses are allocated between our reporting segments using activity-based costing methods. These activity-based costing methods require us to make estimates that impact the amount of each expense category that is attributed to each segment. Changes in these estimates directly impact the amount of expense allocated to each segment and therefore the operating profit of each reporting segment. Our allocation methodologies are refined periodically, as necessary, to reflect changes in our businesses. There were no significant changes to our allocation methodologies in the first quarter of 2023.
We test goodwill and other indefinite-lived intangible assets for impairment annually at July 1st and between annual tests if an event occurs or circumstances change that would indicate that it is more likely than not that the carrying amount may be impaired.
Testing goodwill and other indefinite-lived intangible assets for impairment requires that we make a number of significant assumptions, including assumptions related to future revenues, costs, capital expenditures, working capital and our cost of capital. We are also required to make assumptions relating to our overall business and operating strategy, and the regulatory and market environment.
Our 2022 annual impairment testing of goodwill indicated that the fair value of our Roadie reporting unit remained greater than its carrying value, although this excess was less than 10 percent. The carrying value of goodwill associated with our Roadie reporting unit is $241 million. There were no events or changes in circumstances during the first quarter of 2023 that would indicate the carrying value of Roadie goodwill may be impaired as of the date of this report.
Future actual results, transactions or other events, or changes in estimates or assumptions, whether due to unexpected impacts on our business, our transformation activities, or the continuing evaluation of our business portfolio, could result in an impairment charge in one or more of our reporting units or to our indefinite-lived intangible assets in a future period.
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U.S. Domestic Package
Three Months Ended March 31, Change
2023 2022 $ %
Average Daily Package Volume (in thousands):
Next Day Air 1,737 1,945 (10.7) %
Deferred 1,139 1,509 (24.5) %
Ground 15,796 16,287 (3.0) %
Total Average Daily Package Volume 18,672 19,741 (5.4) %
Average Revenue Per Piece:
Next Day Air $ 22.14 $ 20.84 $ 1.30 6.2 %
Deferred 16.38 14.70 1.68 11.4 %
Ground 11.21 10.66 0.55 5.2 %
Total Average Revenue Per Piece $ 12.54 $ 11.97 $ 0.57 4.8 %
Operating Days in Period 64 64
Revenue (in millions):
Next Day Air $ 2,461 $ 2,594 $ (133) (5.1) %
Deferred 1,194 1,420 (226) (15.9) %
Ground 11,332 11,110 222 2.0 %
Total Revenue $ 14,987 $ 15,124 $ (137) (0.9) %
Operating Expenses (in millions):
Operating Expenses $ 13,521 $ 13,462 $ 59 0.4 %
Transformation Strategy Costs (22) (43) 21 (48.8) %
Adjusted Operating Expense $ 13,499 $ 13,419 $ 80 0.6 %
Operating Profit (in millions) and Operating Margin:
Operating Profit $ 1,466 $ 1,662 $ (196) (11.8) %
Adjusted Operating Profit $ 1,488 $ 1,705 $ (217) (12.7) %
Operating Margin 9.8 % 11.0 %
Adjusted Operating Margin 9.9 % 11.3 %
Revenue
The change in revenue was due to the following factors:
Volume Rates /
Product Mix Fuel
Surcharge Total Revenue
Change
Revenue Change Drivers:
First quarter 2023 vs. 2022 (5.4) % 3.1 % 1.4 % (0.9) %
Volume
Average daily volume decreased, with reductions in both residential and commercial shipments as a result of challenging macroeconomic conditions, including high inflation, declines in U.S. manufacturing production and changes in consumer spending. We anticipate a continued decline in average daily volume throughout the remainder of the year.
Business-to-consumer shipments declined 5.5% in the first quarter, driven by the continued shift in consumer spending towards services and a reduction in discretionary spending. We experienced smaller declines in residential volume from SMBs than from our large customers, which was partially due to additional volume generated through our Digital Access Program. Volume from our largest customer declined as we continued to execute within agreed-upon contract terms.
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Business-to-business shipments declined 5.4%, primarily as a result of declines across multiple industry sectors that are sensitive to the macroeconomic factors discussed above. We experienced an increase in returns volume in the first quarter.
Within our Air products, average daily volume decreased across all customer segments. These decreases were driven by customers making cost trade offs and taking advantage of enhanced speed in our ground network. Additionally, continued execution of the agreed-upon contract terms with our largest customer also contributed to the overall decline in air volume.
Ground residential and Ground commercial average daily volume decreases of 2.1% and 4.2%, respectively, were primarily attributable to declines from a number of our large customers due to the economic factors discussed above. Within Ground residential, we experienced growth from SMBs. SurePost volume from our larger customers increased as a result of the shift in volume from our Air products discussed above.
Rates and Product Mix
Revenue per piece in our Air and Ground products increased in the quarter, resulting from base rate increases and additional pricing actions, as well as favorable changes in customer mix. These increases were partially offset by the shift in product mix discussed above. Rates for Air and Ground products increased an average of 6.9% in December 2022. In our Next Day Air and Deferred products, revenue per piece growth was negatively impacted by a reduction in average billable weight per piece.
We anticipate moderate revenue per piece growth in 2023 which is expected to somewhat offset the expected decline in volume as we continue to focus on revenue quality.
Fuel Surcharges
We apply a fuel surcharge on our domestic air and ground services that adjusts weekly. Our air fuel surcharge is based on the U.S. Department of Energy's ("DOE") Gulf Coast spot price for a gallon of kerosene-type fuel, and our ground fuel surcharge is based on the DOE's On-Highway Diesel Fuel price.
Fuel surcharge revenue increased $206 million, driven by increases in price per gallon and increases in fuel surcharges as part of our pricing initiatives, partially offset by the impact of lower volume. We expect a reduction in fuel surcharge through the remainder of 2023 based on the current commodity market outlook and as we wrap fuel pricing initiatives that were introduced last year.
Operating Expenses
Operating expenses and adjusted operating expenses increased. Our pickup and delivery costs and other indirect operating costs increased $39 and $115 million, respectively. These increases were partially offset by cost reductions of $50 million in our integrated air and ground network and a $24 million decrease in package sorting costs in the first quarter of 2023. The overall increase in operating expenses was primarily due to:
• Higher employee benefits expense for our union workforce, due to contractual rate increases for contributions to multiemployer benefit plans, as well as increases in workers' compensation and auto liability expenses that were driven by claims experience. Service costs for our company-sponsored pension and postretirement plans decreased, primarily attributable to higher discount rates used to measure the projected benefit obligations of these plans.
• Additional facilities coming into service, coupled with inflationary pressures, contributed to cost increases in repairs and maintenance and facility operating costs.
These increases were partially offset by:
• Lower compensation expense, primarily resulting from incentive compensation program design changes. Contractual rate increases and cost of living adjustments for our union workforce were somewhat offset by a reduction in direct union labor hours.
• Lower purchased transportation costs, primarily due to a reduction in ground volume handled by third-party carriers, and the impact of continued productivity initiatives as we executed within our strategy.
Fuel expense remained relatively flat, as the impact of lower volume for the quarter mostly offset increases in jet fuel, diesel and gasoline prices. We expect fuel expense to continue to decline throughout the remainder of 2023.
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Total cost per piece increased 6.1%, and adjusted cost per piece increased 6.4% in the quarter, for the reasons described above. We anticipate that the cost per piece growth rate will decline through the remainder of 2023 as we manage our costs, adjust our operating network, and as efficiency initiatives are realized.
Operating Profit and Margin
As a result of the factors described above, operating profit decreased $196 million in the first quarter, with operating margin decreasing 120 basis points to 9.8%. Adjusted operating profit decreased $217 million, with adjusted operating margin decreasing 140 basis points to 9.9%.
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International Package
Three Months Ended
March 31, Change
2023 2022 $ %
Average Daily Package Volume (in thousands):
Domestic 1,635 1,806 (9.5) %
Export 1,682 1,731 (2.8) %
Total Average Daily Package Volume 3,317 3,537 (6.2) %
Average Revenue Per Piece:
Domestic $ 7.59 $ 7.36 $ 0.23 3.1 %
Export 33.00 34.10 (1.10) (3.2) %
Total Average Revenue Per Piece $ 20.47 $ 20.45 $ 0.02 0.1 %
Operating Days in Period 64 64
Revenue (in millions):
Domestic $ 794 $ 851 $ (57) (6.7) %
Export 3,552 3,778 (226) (6.0) %
Cargo and Other 197 247 (50) (20.2) %
Total Revenue $ 4,543 $ 4,876 $ (333) (6.8) %
Operating Expenses (in millions):
Operating Expenses $ 3,715 $ 3,760 $ (45) (1.2) %
Transformation Strategy Costs 22 (4) 26 N/A
Adjusted Operating Expenses $ 3,737 $ 3,756 $ (19) (0.5) %
Operating Profit (in millions) and Operating Margin:
Operating Profit $ 828 $ 1,116 $ (288) (25.8) %
Adjusted Operating Profit $ 806 $ 1,120 $ (314) (28.0) %
Operating Margin 18.2 % 22.9 %
Adjusted Operating Margin 17.7 % 23.0 %
Currency Benefit / (Cost) – (in millions)*:
Revenue $ (161)
Operating Expenses 110
Operating Profit $ (51)
* Net of currency hedging; amount represents the change in currency translation compared to the prior year.
Revenue
The change in revenue was due to the following:
Volume Rates /
Product Mix Fuel
Surcharge Currency Total Revenue
Change
Revenue Change Drivers:
First quarter 2023 vs. 2022 (6.2) % 1.5 % 1.2 % (3.3) % (6.8) %
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Volume
Average daily volume decreased in both domestic and export products. Volume from both large customers and SMBs declined, primarily in the retail and technology sectors. Business-to-consumer volume decreased 7.7% as challenging global economic conditions, including rising interest rates, high inflation and geopolitical uncertainty, impacted consumer demand. These factors also impacted business-to-business volume, which decreased 5.6%. We anticipate declines in average daily volume will moderate, but will persist into the second half of 2023.
Export volume decreased in the quarter, driven by declines in intra-Europe, Asia and U.S. trade lanes. Declines on the intra-Europe and U.S. export trade lanes were due to lower consumer spending as a result of the challenging macroeconomic conditions. Asia volume declines were highest on the Asia to U.S. trade lane as a result of rising inventory levels and softening U.S. consumer demand.
Our premium products saw volume decline 6.7%, primarily in our Worldwide Express Saver product. Volume in our non-premium products decreased 1.1%, driven by declines in Transborder Standard and Worldwide Expedited. The decline in our Worldwide products was largely attributable to softening import demand from U.S. consumers, while the decline in our Transborder products was driven by the economic factors outlined above.
Domestic volume also declined in the first quarter, primarily within Europe and Canada, as a result of economic conditions discussed above.
Rates and Product Mix
In December 2022, we implemented an average 6.9% net increase in base and accessorial rates for international shipments originating in the United States. Rate changes for shipments originating outside the U.S. are made throughout the year and vary by geographic market.
Total revenue per piece increased slightly for the quarter, primarily due to favorable shifts in customer and product mix, fuel surcharges and base rate increases. These increases were mostly offset by unfavorable currency movements and declines in demand-related surcharges. Excluding the impact of currency, revenue per piece increased 3.8%. For the remainder of the year, we expect overall revenue per piece to decrease relative to prior year periods as trends in fuel and demand-related surcharges are expected to continue to be unfavorable.
Export revenue per piece decreased 3.2%, driven by declines in our Worldwide products and unfavorable currency movements. Excluding the impact of currency, export revenue per piece decreased 0.4%.
Domestic revenue per piece increased 3.1%, primarily due to rate increases and favorable shifts in customer mix. This was partially offset by unfavorable currency movements. Excluding the impact of currency, domestic revenue per piece increased 10.2%.
Fuel Surcharges
The fuel surcharge we apply to international air services originating inside or outside the U.S. is largely indexed to the DOE's Gulf Coast spot price for a gallon of kerosene-type jet fuel. The fuel surcharges for ground services originating outside the U.S. are indexed to fuel prices in the region or country where the shipment originates.
Total international fuel surcharge revenue increased $28 million in the quarter, primarily due to increases in price per gallon. These increases were slightly offset by unfavorable currency movements and volume declines. Based on the current commodity market outlook, we expect fuel surcharge revenue will decline during the remainder of the year.
Operating Expenses
Operating expenses, and adjusted operating expenses, decreased in the first quarter. The principal drivers were:
• Pickup and delivery costs decreased $21 million and other indirect costs decreased $22 million as inflationary pressures were more than offset by favorable currency movements and the impact of volume declines.
• The costs of operating our integrated international air and ground network increased $26 million, primarily due to higher fuel prices, which we expect to decline through the remainder of the year.
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Operating Profit and Margin
As a result of the factors described above, operating profit decreased $288 million for the first quarter, with operating margin decreasing 470 basis points to 18.2%. Adjusted operating profit decreased $314 million in the quarter, while adjusted operating margin decreased 530 basis points to 17.7%.
Substantially all of our operations in Russia and Belarus were suspended in March 2022 and, during the first quarter of 2023, we commenced liquidation of our Small Package and Forwarding and Logistics subsidiaries. Substantially all of our operations in Ukraine remain indefinitely suspended. These actions have not had, and are not expected to have, a material impact on us.
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Supply Chain Solutions
Three Months Ended
March 31, Change
2023 2022 $ %
Revenue (in millions):
Forwarding $ 1,514 $ 2,589 $ (1,075) (41.5) %
Logistics 1,410 1,251 159 12.7 %
Other 471 538 (67) (12.5) %
Total Revenue $ 3,395 $ 4,378 $ (983) (22.5) %
Operating Expenses (in millions):
Operating Expenses $ 3,148 $ 3,905 $ (757) (19.4) %
Transformation Strategy Costs (3) (8) 5 (62.5) %
Goodwill and Asset Impairments, and Divestiture Charges (8) — (8) N/A
Adjusted Operating Expenses: $ 3,137 $ 3,897 $ (760) (19.5) %
Operating Profit (in millions) and Operating Margin:
Operating Profit $ 247 $ 473 $ (226) (47.8) %
Adjusted Operating Profit $ 258 $ 481 $ (223) (46.4) %
Operating Margin 7.3 % 10.8 %
Adjusted Operating Margin 7.6 % 11.0 %
Currency Benefit / (Cost) – (in millions)*:
Revenue $ (50)
Operating Expenses 55
Operating Profit $ 5
* Amount represents the change in currency translation compared to the prior year.
Three Months Ended
March 31, Change
2023 2022 $ %
Adjustments to Operating Expenses (in millions):
Transformation Strategy Costs
Forwarding $ 1 $ 6 $ (5) (83.3) %
Logistics 2 1 1 100.0 %
Other — 1 (1) (100.0) %
Total Transformation Strategy Costs $ 3 $ 8 $ (5) (62.5) %
Goodwill and Asset Impairments, and Divestiture Charges
Forwarding $ 8 $ — $ 8 N/A
Logistics — — — N/A
Other — — — N/A
Total Goodwill and Asset Impairments, and Divestitures Charges $ 8 $ — $ 8 N/A
Total Adjustments to Operating Expenses $ 11 $ 8 $ 3 37.5 %
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Revenue
Total revenue in Supply Chain Solutions decreased in the first quarter. This was driven by declines in our Forwarding business as challenging economic conditions drove declines in customer activity, while increased capacity led to lower market rates.
• International airfreight revenue decreased approximately $415 million as customer demand declined, particularly on Asia export lanes. This volume decline also resulted in a reduction in the rates we charge for services. We anticipate that lower demand, coupled with higher market capacity, will continue to pressure rates throughout the remainder of the year.
• Revenue in our truckload brokerage business decreased $403 million due to lower volume and a continued decline in market rates. We remained focused on our revenue quality initiatives and experienced volume growth from SMBs during the quarter, which partially offset the decline.
• The remaining reduction in revenue was attributable to ocean freight forwarding. Market rates and volume declined, particularly on the Asia to U.S. lane, due to lower demand, an increase in inventory levels and additional capacity entering the market. We expect revenue to remain challenged in the rest of 2023 as capacity increases are expected to outweigh demand.
Within our Logistics businesses, healthcare logistics revenue increased $98 million in the first quarter, primarily driven by the impact of the 2022 acquisition of Bomi Group with additional growth from our clinical trials business. Revenue in mail services increased $55 million as a result of volume from new customers, rate increases, and a favorable shift in product characteristics.
Revenue from the other businesses within Supply Chain Solutions decreased in the quarter, driven by a reduction of $85 million in transition services provided to the acquirer of UPS Freight as we begin to wind down these arrangements. This was partially offset by year-over-year revenue increases from our digital businesses, driven by business growth.
Operating Expenses
Total operating expenses and total adjusted operating expenses for Supply Chain Solutions decreased in the quarter.
Forwarding operating expenses decreased $881 million. This primarily resulted from a reduction of approximately $845 million in purchased transportation expense due to lower volumes and market rates in truckload brokerage, international airfreight and ocean freight forwarding. We expect these conditions to persist as we move through the year, which will reduce our purchased transportation costs.
Logistics operating expenses increased $155 million in the first quarter, driven by the impact of the acquisition of Bomi Group and higher purchased transportation costs for mail services due to rate increases and shifts in product characteristics.
Expenses in the other businesses within Supply Chain Solutions decreased in the quarter, largely driven by a reduction in costs incurred to procure transportation for, and provide transition services to, the acquirer of UPS Freight. This was partially offset by increased transportation costs, as well as higher compensation and benefits, incurred by our digital businesses.
Operating Profit and Margin
As a result of the factors described above, total operating profit decreased $226 million, with operating margin decreasing 350 basis points to 7.3%. On an adjusted basis, operating profit decreased $223 million, with operating margin decreasing 340 basis points to 7.6%.
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Consolidated Operating Expenses
Three Months Ended
March 31, Change
2023 2022 $ %
Operating Expenses (in millions):
Compensation and benefits $ 11,462 $ 11,601 $ (139) (1.2) %
Transformation Strategy Costs 12 (33) 45 N/A
Adjusted Compensation and benefits $ 11,474 $ 11,568 $ (94) (0.8) %
Repairs and maintenance $ 725 $ 701 $ 24 3.4 %
Depreciation and amortization 834 764 70 9.2 %
Purchased transportation 3,543 4,607 (1,064) (23.1) %
Fuel 1,271 1,220 51 4.2 %
Other occupancy 551 501 50 10.0 %
Other expenses 1,998 1,733 265 15.3 %
Total Other expenses 8,922 9,526 (604) (6.3) %
Transformation Strategy Costs (15) (22) 7 (31.8) %
Goodwill and Asset Impairments, and Divestiture Charges (8) — (8) N/A
Adjusted Total Other expenses $ 8,899 $ 9,504 $ (605) (6.4) %
Total Operating Expenses $ 20,384 $ 21,127 $ (743) (3.5) %
Adjusted Total Operating Expenses $ 20,373 $ 21,072 $ (699) (3.3) %
Currency (Benefit) / Cost - (in millions)* $ (165)
* Amount represents the change in currency translation compared to the prior year.
Three Months Ended
March 31, Change
2023 2022 $ %
Adjustments to Operating Expenses (in millions):
Transformation Strategy Costs
Compensation $ 5 $ 16 $ (11) (68.8) %
Benefits (17) 17 (34) N/A
Other expenses 15 22 (7) (31.8) %
Total Transformation Strategy Costs $ 3 $ 55 $ (52) (94.5) %
Goodwill and Asset Impairments, and Divestiture Charges
Other expenses $ 8 $ — $ 8 N/A
Total Adjustments to Operating Expenses $ 11 $ 55 $ (44) (80.0) %
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Compensation and Benefits
Total compensation and benefits and adjusted total compensation and benefits decreased in the first quarter of 2023 compared to the 2022 period. Compensation costs decreased $178 million, and decreased $168 million on an adjusted basis. The principal factors impacting the change were:
• Management compensation decreased $206 million, driven by fourth quarter 2022 design changes to our incentive compensation programs and lower incentive compensation accruals.
• U.S. Domestic direct labor costs increased $57 million due to contractual rate increases for our union workforce that occurred in August 2022, as well as cost of living adjustments driven by inflation and other market factors. These increases were largely offset by a reduction in labor hours, primarily due to volume declines.
• The November 2022 acquisition of Bomi Group increased compensation cost by $15 million.
Benefits costs increased $39 million and increased $74 million on an adjusted basis, primarily as a result of:
• Health and welfare costs increased $89 million for the quarter, driven by increased contributions to multiemployer plans as a result of contractually-mandated rate increases, partially offset by a reduction in eligible headcount.
• Workers' compensation expense increased $23 million, driven by an increase in current year claims, partially offset by a decrease in overall hours worked and favorable developments in reserves for prior years' claims.
• Pension and other postretirement benefits costs decreased $48 million for the quarter:
◦ The cost of company-sponsored defined benefit plans decreased $110 million, driven by a reduction in service cost due to higher discount rates. The cessation of accruals for future service in the UPS Retirement Plan was offset by the cost of replacement contributions to the UPS 401(k) Savings Plan.
◦ An increase in expense for the UPS 401(k) Savings Plan of $22 million resulted from demographic changes.
◦ Contributions to multiemployer plans increased $39 million as the impact of contractually-mandated contribution increases was partially offset by a reduction in eligible headcount.
Repairs and Maintenance
The increase in repairs and maintenance expense during the quarter was primarily due to increases in the cost of materials and supplies, increased vehicle maintenance and an increase in routine repairs to buildings and facilities. We expect these increases will persist for the remainder of 2023.
Depreciation and Amortization
We incurred higher depreciation and amortization expense as a result of additional facilities coming into service, growth in the size of our vehicle and aircraft fleets and the reduction in estimated residual value of our MD-11 aircraft.
Purchased Transportation
Third-party transportation expense charged to us by air, ocean and ground carriers decreased for the quarter. The changes were primarily driven by:
• Supply Chain Solutions expense decreased by $890 million for the quarter, driven by volume declines and lower market rates paid for services in our Forwarding businesses. This was partially offset by increases in our logistics operations due to business growth, third-party rate increases in our mail services business and the acquisition of Bomi Group, which was not present in the comparative period.
• U.S. Domestic expense decreased $99 million for the quarter, driven by a reduction in ground volume handled by third-party carriers as a result of our network optimization initiatives.
• International Package expense decreased $75 million for the quarter, as market rate and fuel surcharge increases were more than offset by the impact of lower volumes and favorable currency movements.
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Fuel
The increase in fuel expense for the quarter was primarily driven by higher prices for jet fuel, diesel and gasoline, partially offset by the impact of lower volume. Market prices and the manner in which we purchase fuel influence our costs. The majority of our fuel purchases utilize index-based pricing formulas plus or minus a fixed locational/supplier differential. While many of the indices are correlated, each index may respond differently to changes in underlying prices, which in turn can drive variability in our costs.
Other Occupancy
Other occupancy expense increased for the quarter as a result of additional operating facilities coming into service, higher utilities costs and increases in rental rates. We expect inflation may continue to adversely impact these costs for the remainder of the year.
Other Expenses
Other expenses and adjusted other expenses increased for the quarter, primarily as a result of:
• Outsourcing and professional fees increased $60 million due to increased utilization of third-party services to support our strategic initiatives.
• An increase of $39 million in commissions paid for certain online shipments.
• Favorable changes in reserves for legal and tax contingencies in 2022 drove a year-over-year increase in expense of $29 million.
• Hosted software application fees and other technology costs increased $28 million in support of ongoing investments in our digital transformation.
Other increases for the quarter included employee-related expenses, advertising costs, facility security and self-insured automobile liability expense. These increases were partially offset by a reduction of costs incurred under transitional service agreements to the acquirer of UPS Freight.
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Other Income and (Expense)
The following table sets forth investment income and other and interest expense for the three months ended March 31, 2023 and 2022 (in millions):
Three Months Ended
March 31, Change
2023 2022 $ %
Investment Income and Other $ 169 $ 315 $ (146) (46.3) %
Defined Benefit Plan (Gains) Losses — (33) 33 (100.0) %
Adjusted Investment Income and Other $ 169 $ 282 $ (113) (40.1) %
Interest Expense (188) (174) (14) 8.0 %
Total Other Income and (Expense) $ (19) $ 141 $ (160) (113.5) %
Adjusted Other Income and (Expense) $ (19) $ 108 $ (127) (117.6) %
Investment Income and Other
Investment income and other decreased $146 million. We recognized a $33 million defined benefit plan curtailment gain in the first quarter of 2022. Excluding the impact of this defined benefit plan gain, adjusted investment income and other decreased $113 million, with decreases in other pension income partially offset by higher yields on invested balances and year-over-year changes in the fair value of certain non-current investments.
Other pension income decreased $232 million due to:
• Lower expected returns on pension assets as a result of a smaller asset base due to losses in 2022, partially offset by an increase in our rate of return assumption.
• Higher pension interest cost due to higher discount rates and changes in demographic assumptions.
Interest expense increased due to the impact of higher effective interest rates on floating rate debt, as well as higher debt balances due to debt issuances in the first quarter of 2023, partially offset by higher capitalized interest.
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Income Tax Expense
The following table sets forth our income tax expense and effective tax rate for the three months ended March 31, 2023 and 2022 (in millions):
Three Months Ended
March 31, Change
2023 2022 $ %
Income Tax Expense $ 627 $ 730 $ (103) (14.1) %
Income Tax Impact of:
Transformation Strategy Costs — 12 (12) (100.0) %
Goodwill and Asset Impairments, and Divestiture Charges 2 — 2 N/A
Defined Benefit Plan (Gains) Losses — (9) 9 (100.0) %
Adjusted Income Tax Expense $ 629 $ 733 $ (104) (14.2) %
Effective Tax Rate 24.9 % 21.5 %
Adjusted Effective Tax Rate 24.8 % 21.5 %
For additional information on our income tax expense and effective tax rate, see note 16 to the unaudited, consolidated financial statements.
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Liquidity and Capital Resources
We deploy a disciplined and balanced approach to capital allocation, including returns to shareowners through dividends and share repurchases. As of March 31, 2023, we had $9.4 billion in cash, cash equivalents and marketable securities. We believe that these positions, expected cash from operations, access to commercial paper programs and capital markets and other available liquidity options will be adequate to fund our material short- and long-term cash requirements, including our business operations, planned capital expenditures and pension contributions, transformation strategy costs, debt obligations and planned shareowner returns. We regularly evaluate opportunities to optimize our capital structure, including through issuances of debt to refinance existing debt and to fund operations.
Cash Flows From Operating Activities
The following is a summary of the significant sources (uses) of cash from operating activities (in millions):
Three Months Ended March 31,
2023 2022
Net income $ 1,895 $ 2,662
Non-cash operating activities (a)
1,226 1,559
Pension and postretirement medical benefit plan contributions (company-sponsored plans) (1,277) (45)
Hedge margin receivables and payables (159) (9)
Income tax receivables and payables 426 379
Changes in working capital and other non-current assets and liabilities 278 (49)
Other operating activities (32) (17)
Net cash from operating activities $ 2,357 $ 4,480
___________________
(a) Represents depreciation and amortization, gains and losses on derivative transactions and foreign currency exchange, deferred income taxes, allowances for expected credit losses, amortization of operating lease assets, pension and postretirement medical benefit plan (income) expense, stock compensation expense, changes in casualty self-insurance reserves, goodwill and other asset impairment charges and other non-cash items.
Net cash from operating activities decreased $2.1 billion in the first quarter, impacted by:
• The timing of contributions to our company-sponsored, defined benefit pension and postretirement medical plans that included $1.2 billion in discretionary contributions to our qualified U.S. pension plans. There were no discretionary contributions to these plans in the first quarter of 2022.
• A decrease in our net hedge margin collateral position due to changes in the fair value of derivative contracts used in our currency hedging programs.
• Our working capital primarily benefited from an improvement in collections partially offset by an increase in vendor payments. Working capital was also impacted by the timing of payroll and other compensation-related payments. Additionally, in the first quarter of 2023, we paid the remaining $323 million of employer payroll taxes that were deferred under the Coronavirus Aid, Recovery and Economic Security (CARES) Act in 2020.
As of March 31, 2023, approximately $2.5 billion of our total worldwide holdings of cash, cash equivalents and marketable securities were held by foreign subsidiaries. The amount of cash, cash equivalents and marketable securities held by our U.S. and foreign subsidiaries fluctuates throughout the year due to a variety of factors, including the timing of cash receipts and disbursements in the normal course of business. Cash provided by operating activities in the U.S. continues to be our primary source of funds to finance domestic operating needs, capital expenditures, share repurchases, pension contributions and dividend payments to shareowners. All cash, cash equivalents and marketable securities held by foreign subsidiaries are generally available for distribution to the U.S. without any U.S. federal income taxes. Any such distributions may be subject to foreign withholding and U.S. state taxes. When amounts earned by foreign subsidiaries are expected to be indefinitely reinvested, no accrual for taxes is provided. We did not have any restricted cash as of March 31, 2023 or 2022 .
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Cash Flows From Investing Activities
Our primary sources (uses) of cash from investing activities were as follows (in millions):
Three Months Ended March 31,
2023 2022
Net cash used in investing activities $ (1,813) $ (572)
Capital Expenditures:
Buildings, facilities and plant equipment $ (368) $ (169)
Aircraft and parts (71) (206)
Vehicles (13) (10)
Information technology (157) (163)
Total Capital Expenditures (1)
$ (609) $ (548)
Capital Expenditures as a % of revenue 2.7 % 2.2 %
Other Investing Activities:
Proceeds from disposal of businesses, property, plant and equipment $ 5 $ —
Net (purchases)/sales and maturities of marketable securities $ (1,192) $ (8)
Acquisitions, net of cash acquired $ (34) $ 1
Other investing activities $ 17 $ (17)
(1) In addition to capital expenditures of $609 and $548 million for the three months ended March 31, 2023 and 2022, respectively, there were principal repayments of finance lease obligations of $48 and $18 million, respectively. These are included in cash flows from financing activities.
We have commitments for the purchase of aircraft, vehicles, equipment and real estate to provide for the replacement of existing capacity and anticipated future growth. Future capital spending for anticipated growth and replacement assets will depend on a variety of factors, including economic and industry conditions. Our current investment program anticipates investments in technology initiatives and enhanced network capabilities, including over $1.0 billion of projects to support our environmental sustainability goals. It also provides for the maintenance of buildings, facilities and equipment and replacement of certain aircraft within our fleet. We currently expect that our capital expenditures will total approximately $5.3 billion in 2023, of which approximately 50 percent will be allocated to strategic expansion projects.
Total capital expenditures increased in the first quarter of 2023 compared to the 2022 period, primarily due to increased spending on buildings, facilities and plant equipment for facility maintenance and capacity expansion projects. This was partially offset by a decrease in expenditures associated with the delivery of aircraft.
Net purchases of marketable securities increased due to a continued shift to longer duration investments.
Cash paid for acquisitions in the first quarter of 2023 was related to the purchase of development areas for The UPS Store. Other investing activities were impacted by changes in our non-current investments, purchase contract deposits and various other immaterial items.
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Cash Flows From Financing Activities
Our primary sources (uses) of cash from financing activities were as follows (amounts in millions, except per share data):
Three Months Ended March 31,
2023 2022
Net cash from/(used in) financing activities $ 4 $ (1,970)
Share Repurchases:
Cash paid to repurchase shares (751) (254)
Number of shares repurchased (4.1) (1.2)
Shares outstanding at period end 859 874
Dividends:
Dividends declared per share $ 1.62 $ 1.52
Cash paid for dividends $ (1,348) $ (1,284)
Borrowings:
Net borrowings (repayments) of debt principal $ 2,438 $ (18)
Other Financing Activities:
Cash received for common stock issuances $ 49 $ 67
Other financing activities $ (384) $ (481)
Capitalization:
Total debt outstanding at period end $ 22,188 $ 21,881
Total shareowners’ equity at period end 20,053 15,434
Total capitalization $ 42,241 $ 37,315
We repurchased 4.1 and 1.2 million shares of class B common stock for $750 million and $260 million under our stock repurchase program during the three months ended March 31, 2023 and 2022, respectively ($751 and $254 million in repurchases for 2023 and 2022, respectively, are reported on the statements of consolidated cash flows due to the timing of settlements). We anticipate our share repurchases will total approximately $3.0 billion in 2023. For additional information on our share repurchase activities, see note 12 to the unaudited, consolidated financial statements.
The declaration of dividends is subject to the discretion of the Board and depends on various factors, including our net income, financial condition, cash requirements, future prospects and other relevant factors. In the first quarter of 2023, we increased our quarterly cash dividend from $1.52 to $1.62 per share.
Issuances of debt during the three months ended March 31, 2023 consisted of fixed and floating rate senior notes of varying maturities totaling $2.5 billion. We expect to use substantially all of the proceeds from these debt issuances to repay outstanding debt at maturity in 2023. There were no issuances of debt in the first quarter of 2022.
Repayments of debt in the first quarter of 2023 included scheduled principal payments on our finance lease obligations and payment of amounts assumed in the Bomi Group acquisition. In the first quarter of 2022, we made scheduled principal payments on our finance lease obligations.
As of March 31, 2023, we had $2.3 billion of fixed- and floating-rate senior notes outstanding that mature in 2023. We repaid $1.5 billion of these senior notes in April 2023. We consider the overall fixed and floating interest rate mix of our portfolio and the related overall cost of borrowing when planning for future issuances and non-scheduled repayments of debt.
The variation in cash received from common stock issuances resulted from activity within the UPS 401(k) Savings Plan and our employee stock purchase plan in both the current and comparative period.
Other financing activities includes cash used to repurchase shares to satisfy tax withholding obligations on vested employee stock awards. Cash outflows for this purpose were $363 and $479 million for the three months ended March 31, 2023 and 2022, respectively. The decrease was driven by changes in required repurchase amounts.
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RESULTS OF OPERATIONS
Except as disclosed in our Annual Report on Form 10-K for the year ended December 31, 2022, we do not have guarantees or other off-balance sheet financing arrangements, including variable interest entities, which we believe could have a material impact on our financial condition or liquidity.
Sources of Credit
See note 9 to the unaudited, consolidated financial statements for a discussion of our available credit and the financial covenants that we are subject to as part of our credit agreements.
Contractual Commitments
There have been no material changes to the contractual commitments described in Part II, Item 7 of our Annual Report on Form 10-K for the year ended December 31, 2022.
For additional information on the first quarter 2023 debt issuances, see note 9 to the unaudited, consolidated financial statements.
Legal Proceedings and Contingencies
See note 7 and note 11 to the unaudited, consolidated financial statements for a discussion of judicial proceedings and other matters arising from the conduct of our business activities, and note 16 for a discussion of income tax related matters.
Collective Bargaining Agreements
Status of Collective Bargaining Agreements
See note 7 to the unaudited, consolidated financial statements for a discussion of the status of our collective bargaining agreements.
Multiemployer Benefit Plans
See note 7 to the unaudited, consolidated financial statements for a discussion of our participation in multiemployer benefit plans.
Recent Accounting Pronouncements
Adoption of New Accounting Standards
See note 2 to the unaudited, consolidated financial statements for a discussion of recently adopted accounting standards.
Accounting Standards Issued But Not Yet Effective
See note 2 to the unaudited, consolidated financial statements for a discussion of accounting standards issued, but not yet effective.
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Text extracted from the filing as submitted to EDGAR. Formatting, tables and exhibits are simplified for reading; the original document is authoritative for anything you rely on.