UPS) November 17, 2015 Industrials – Air Delivery & Freight Services Stock Rating NO ACTION

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United Parcel Service, Inc. (UPS) November 17, 2015 Industrials – Air Delivery & Freight Services Stock Rating NO ACTION

Analyst Collin McNamara Current Price: $102.91 [email protected] Ryan Chapman Target Price: $113-$120 [email protected] William Silikowski [email protected] UPS Has the Ability to Deliver

Evan Ross [email protected] • Growth in E-Commerce: E-commerce, which is a Company Overview key growth driver, makes up 7.2% of all retail sales and continues to grow by 10-15% CAGR. United Parcel Service, Inc. (UPS) is the largest • Developing Markets: UPS is currently investing in logistics company, by revenue, in the United States developing growth markets such as China. and a major player in the global market. UPS provides package delivery and supply chain management across the globe. UPS’s services include distribution, • Capacity: The UPS ground fleet is incomparable and forwarding, transportation, ground, air, ocean and air allows for growth in emerging markets. freight, brokering and financing. UPS operates in three segments, U.S. Domestic Package, International • Orion: UPS’s new route efficiency software has the Package and Supply Chain & Freight. ability to cut millions in fuel cost and raise driver efficiency.

Stock Performance Highlights • Labor Negotiations: Pilot negotiations have the 52 week High $114.40 ability to ground UPS’s aircrafts if an agreement is not met 52 week Low $93.64 in the coming months. Beta Value 0.84 Average Daily Volume 3.28 M • Market Share: UPS is the U.S leader in their industry, allowing the company to focus on efficiency as Share Highlights well as growth. Market Capitalization $91.02 B Shares Outstanding 893.9 M Book Value per share $4.40 One Year Stock Performance EPS (TTM) $4.35 P/E Ratio (TTM) 23.41 Dividend Yield 2.87% Dividend Payout Ratio 81.31%

Company Performance Highlights ROA 8.71% ROE 140.5% Sales $58.23 B

Financial Ratios Current Ratio 1.37 Debt to Equity 565.44%

eventually be cut back allowing demand to catch up with Executive Summary supply.

Consumer Confidence Report We recommend NO ACTION to be taken on United While consumer confidence has dropped in October Parcel Service Inc. (UPS). Although UPS is trading from 102.6 to 97.6, this is still a positive reading of how below intrinsic value and has the fleet capacity and key the public feels about the economy. Solid consumer customer partnerships to take advantage of increased demand from the growth of e-commerce, as of now, confidence and employment growth should have a there are hurdles UPS needs to overcome before it can positive effect on the industrial sector if consumers buy take advantage of the emerging growth markets. more goods. However, these positives may be partially offset by the strength of the dollar, which is leading to weaker overseas sales for US industrial companies.

Economic Outlook

Price of Oil The price of crude oil has fallen to around $40 a barrel for the first time since 2009 due to oversupply. Increased emphases on hydraulic fracturing techniques has ramped up the supply of oil in the US, while global demand remains weak due to a soft global economy. The strength of the dollar is also pressuring oil prices as oil is sold in dollars allowing foreign producers to lower the price in dollar terms while maintaining the same revenue level in their own currencies. Moreover, despite iii this price weakness, leading oil producers such as The We see consumer confidence remaining strong in the United States, Saudi Arabia, and Russia have next couple of months staying between 95-98 as the maintained or have increased their production levels to employment picture looks strong. Over the next few secure market share.i years, as the stock market strengthens and employment remains high, we see confidence improving to 100.

ISM Manufacturing Index With the industrial sector consisting of manufacturing and construction of goods, the ISM manufacturing index is an important variable that reflects how the sector is performing. Bloomberg’s October release reported a score of 50.1, showing the manufacturing sector is still in expansion, but at its lowest rate since May of 2013. The chart below demonstrates a decline in manufacturing over the past few months due to a slowdown in the growth in the Chinese economy and the stronger dollar, which makes US goods less competitive overseas. ii The decrease in the price of oil has a positive impact for domestic logistics companies, as fuel is a large component of their cost structure. Over the next 6 months, we see the price of oil remaining around $40- $45 a barrel as oil producers continue to keep pumping to maintain market share even as demand remains weak. By 2017, we see the price of oil gradually increasing to $55-$60 a barrel as production will

iv 2 Over the next couple of months, we believe ISM will drop below 50, as the weakened global economy has impacted the US financial markets. By 2017 we believe the ISM will increase to 55 as exports rebound due to an eventual improvement in emerging economies and as US companies adjust to the strong dollar.

Capital Markets Outlook

Based on historical data over the last 10 years, the S&P 500 Industrials Index and the S&P 500 have had a correlation coefficient of .967 between their returns.v For the most part, the Industrials Index tends to outperform the S&P 500 Index when stock prices are moving up, but vi when the S&P 500 Index experiences negative returns, the Industrial Index begins to underperform the S&P 500 In addition, the industrial sector is one of the most Index. cyclical sectors. As illustrated by the chart above, it outperforms almost every other sector as the economy The Industrials sector is very cyclical, which leads us to comes out of a recession, but as the business cycle believe that the best time to invest is in the middle of a ages, growth starts to slow and the industrial sector recession. The industrial sector performs extremely performs in line with the market. Finally once a recession poorly during a recession, but as the economy recovers hits, the industrials sector significantly underperforms. and enters the early stages of the business cycle, the industrials sector tends to outperform almost every Sub-Industry sector. The air freight and logistics sub industry in the Industrials Sector includes companies providing air freight transportation, courier, and logistics services. Air freight shipping allows companies to ship their products both Industry Analysis domestically and globally in a time sensitive manner. Smaller and midsized companies have benefited from air freight services as it has enabled them to participate in vii Industry Overview international trade. According to the Global Industry Classification Standard (GICS), the industrial sector is made up of 3 industry Logistics companies can be broken down into two groups with 13 distinct industries branching off. The categories: asset and non-asset based providers. Asset three industry groups include capital goods, commercial based providers own their own their assets, such as services, and transportation. The capital goods industry trucks and aircrafts, and work directly with customers to consists of aerospace & defense, building products, move freight, while non-asset based providers do not construction & engineering, electrical equipment, own assets and instead negotiate contracts between industrial conglomerates, and machinery. The shippers and carriers.viii UPS is an example of an asset- commercial services industry includes trading based company, as they own 106,000 trucks and a large companies & distributors and commercial services & fleet of aircrafts. They have a large book of clients that supplies. The transportation industry group is made up rely on their shipments to be safe and on time. Non- of air freight & logistics, airlines, marine, road & rail, and asset based firms, commonly referred to as third party transportation infrastructure. Throughout this report we logistics companies (3PL’s), act as a middleman will be analyzing the transportation industry, explicitly the between customers and carriers. These companies have air freight & logistics industry. their employees negotiate contracts with carriers in order to move customers’ products in a timely fashion. 3PL’s are continuing to grow and asset-based providers are taking notice as they are acquiring these companies as subsidiaries.

Recent Developments and Trends Near-shoring Near-shoring is the process of a company relocating its business to locations which are cheaper and geographically closer. ix The international rail bridge

3 between Mexico and the US was finally completed after well for the air freight & logistics industry as the industry 15 years, positioning the US to increase trade with moves a significant portion of this business. Mexico, which is the United States second largest export x partner and third largest import partner. As the cost to Porters 5 Forces manufacture in China continues to grow, companies are Competitive Rivalry turning to Mexico as a cheaper option as their While small companies make up the majority of the productivity –adjusted labor cost is estimated to be 13% industry, large players like UPS and FedEx account for a lower than China’s. The Mexican government has significant portion of the market share. UPS and FedEx invested significant amounts of money in improving the are in constant competition to differentiate and find country’s railroads, seaports, roads and bridges.xi These competitive advantages. In order to gain advantage developments should support increased trade between companies need to be able to deliver on time, have a the US and Mexico that should drive increased business broad delivery network, have a diverse range of clients, for the air freight & logistics industry. and have the ability to pass on cost increases to customer to help maintain profit margin.xvi Just-in-time In order to make production operations more efficient, Threats of New Entrants cost effective, and customer responsive, logistics With the huge capital costs to acquire vehicles and other companies are adopting just-in-time (JIT) inventory xii modes of transportation and UPS and FedEx’s strong principles. The ability for a company to have the right market position, there is a low threat of large new amount of inventory available to meet the demand of a entrants. The industry requires in depth knowledge, a production process is what makes a company successful broad delivery network, and is constantly updating in employing this strategy. The ability for a company to technology to accelerate delivery time. Also, as implement this strategy gives them a competitive companies continue to grow, their expenses decrease advantage over companies who don’t implement it. This and become more efficient, making it even more difficult trend is driving growth for the air freight and logistics for new entrants. For example, UPS recently acquired industry. Coyote Logistics, a 3PL, which will benefit UPS as Coyote continues to grow, especially during the holiday While JIT has been used for inventory purposes, UPS is season. plans on using JIT labor for this upcoming holiday season. UPS plans to bring on 95,000 seasonal hires on Threat of Substitutes xii just 2 to 3 days before their services are needed. They Other avenues of transportation are possible threats to want to bring the labor on as needed in order to reduce the air freight & logistics industry. Water and rail costs while also being able to meet shipment goals, transportation are two competitive forms of which should allow them to increase revenue. transportation. Water transportation is a reliable mode of transportation but isn’t as time efficient as ground or air. E-Commerce Rail transportation is very fuel-efficient but doesn’t In 2014, US e-retail sales have grown to $300 billion for provide the same flexibility as ground transportation the first time ever and don’t seem to be slowing down. because of the lack of door-to-door service. Other Demonstrated by the chart below, e-retail sales have potential substitutes that could revolutionize the industry increased 15.4% in 2014. would be air drones and self-driving cars. Amazon is currently testing air drones while Google is testing self- driving cars. We do not see these revolutionary substitutes impacting the industry in the near future, as they will take time to develop. We believe the threat of substitutes is moderate.

Bargaining Power of Buyers Given that there are multiple modes of transportation to choose from and intense competition between UPS and FedEx, the bargaining power of buyers (shippers) is significant. Customers are looking for the most cost and time efficient way of shipping their goods, causing them to shop for the best transportation method. The major players such as UPS and FedEx are at a major advantage given they have multiple avenues of

xiv transportation, have a large global network and Currently, retail e-commerce sales make up about 7.2% customer base, and have superior technology and a of total retail sales, leaving room for plenty of growth. In competitive cost structure. While the retail company has 2015, e-commerce sales are projected to grow by the ability to choose the mode of logistics to ship their 14.1%.xv The increase in retail e-commerce sales bodes

4 products, the consumer does not as they get what the employees across the globe. Of their three segments, retailer has chosen to use. U.S. Domestic Package is the largest with 62% of the total revenue. Of that 62%, 71% comes from UPS’s Bargaining Power of Suppliers ground shipments. Labor unions and fuel suppliers are the major influences on the industry’s cost structure. Unhappy workers have the ability to go on strike, which could potentially affect Revenue UPS as they are in labor negotiations with their pilots. Strikes can lead to goods being delivered late, or U.S. Domestic potentially not at all, leading to customers choosing Package another delivery company. Suppliers of fuel to UPS and 29% FedEx have weak bargaining power because there are a 16% International number of suppliers, the cost of fuel is set in a 62% Package 71% competitive market, and the large players have 22% Supply Chain & bargaining power given their size. Therefore, we rate the Freight bargaining power of suppliers as modest to moderate. Ground

Industry Leaders and Followers It’s clear that UPS and FedEx are the industry leaders in Average revenue per piece in 2014 was $9.25 and the US as they combine to make up 27.8% percent of xvii $18.15 for Domestic and International, respectively. the industry market share. Below is a chart Most of the revenue comes from larger items such as demonstrating how these companies compare to others appliances. Revenue per piece actually declined from based on their revenue and revenue produced by each 2013-2014 due to an increase in demand for lightweight employee for 2014, including Deutsche Post AG items. (DPSGY), a German based company, which does not compete in the US with UPS. We decided to include

DPSGY to provide comparable revenue per employee for another large player. Geographical Distribution UPS reaches across the globe. 79% of their revenues Key: Deutsche Post AG(DPSGY), United Parcel Service, come from the Americas, with 9% and 10% from Asia Inc. (UPS) , Expeditors International of Washington Inc, and Europe, respectively.

(EXPD), CH Robinson Worldwide Inc. (CHRW) xviii

Company Revenue Revenue/Per Employee UPS 58.23B $133,867 FDX 45.56B $140,206 DPSGY 64.57B $15,216 EXPD 6.79B $7,0307 CHRW 13.62B $11,8436 While the companies vary in size, the overall goal is to have the highest revenue per employee as possible, which leads to higher productivity and revenue for the firm. While DPSGY produces the largest revenue, they International expansion began in 20 emerging markets also have the most employees with 424,351, giving them throughout 2015 and will continue to be a main initiative revenue per employee in the middle of the pack. UPS in the coming years. As of 2014, 87% of the revenue and FDX seems to be the most efficient companies of came from developed countries and only 10% coming the group as they have been able to produce strong from emerging markets. CEO David Abney has revenue numbers while also leading the industry in forecasted emerging markets to grow to 12% of total revenue per employee. revenue in 2015.xix

Company Analysis Financial Summary In 2014, UPS grew its revenue to $58 billion and had a net income of $3.03 billion. They have been extremely Overview and Business Operations consistent in issuing dividends for the past 15 years. UPS is an air freight and delivery company that UPS’s dividends per share was $2.68 in 2014, an 8.1% specializes in courier and home delivery services. growth from 2013. CEO David Abney has said he Headquartered in Atlanta, Georgia there are 435,000

5 expects UPS to return upwards of $30 billion to Competition shareholders in the next five years xix UPS is the U.S. leader in their sub-industry. Their competition consists of mainly FedEx and a few smaller UPS had a current ratio of 1.37 in 2014 and following a companies. With such similarity between UPS and slight decline, due to share repurchases, in 2015, we FedEx we have the ability to use news articles for FedEx expect their current ratio to grow to 1.44 in 2019. This to supplement our insight into UPS. ratio shows UPS is financially responsible and is not taking unnecessary risk. Couriers & Local Delivery Services UPS produced an 8.7% return on assets in 2014. For a working capital intensive industry such as Air Freight and Delivery, an 8.7% ROA shows the financial strength and FedEx high asset efficiency. 34% 27% UPS Key Customers 39% Other UPS picks up from 1.6 million customers and delivers to millions more. One of those 1.6 million customers is Amazon. As e-commerce continues to grow, so will

Amazon. As Amazon grows, as too will the volume of packages UPS will be asked to deliver. As UPS’s FedEx has a much larger fleet of aircraft compared to efficiency increases we believe they will be able to UPS. FedEx has used the large air fleet and partnership increase their share of shipments for Amazon and take with USPS to deliver packages to the region by air and further advantage of other e-commerce companies as xx have USPS make the final delivery. UPS has not shown well. any signs of increasing their air-market share.

Orion Orion, On-Road Integrated Optimization and Navigation, Investment Positives is a route efficiency software UPS plans to implement into its delivery vehicles to cut fuel cost and decrease emissions. UPS has not given an exact cost to the • E-commerce has been growing rapidly in the project but has been quoted saying it is a “good-sized United States. In the past year, the percentage project” of the companies $1 billon annual technology of E-commerce as a percentage of total retail budget. UPS has also devoted 500 employees to the has grown from 6.3% to 7.2%. xxi implementation and development of the software. • UPS has 106,000 vehicles in their delivery fleet During Orion’s limited testing between 2010 and 2012 which allows them to be more cost efficient than UPS saved a total of 3 million gallons of fuel. Orion will their competitors. only be active on 20% of UPS’s routes by the end of this year, therefore we expect cost cutting options to be even greater in the following years. We kept Orion in mind • Amazon has seen an increase in their “Prime” membership to 44 million as of the beginning of when we forecasted our fuel cost for the next five years rd as we expect routes to become more fuel efficient. their 3 quarter. UPS is the leading shipper for the 2-day Prime shipping option.

TNT Express An acquisition of TNT Express was blocked by the European Commission in January of 2013. The Investment Negatives commission cited a lack of viable competition to satisfy anti-trust requirements. Conditions of the acquisition agreement included a termination fee of $268 million to • The pilots for UPS have voted to authorize a be paid to TNT Express as partial compensation for their strike if their Board of Directors cannot reach an drop in stock price. This is a relatively small fee and agreement on a new labor deal. The main does not put UPS in financial harm. The lack of negotiation is for increase rest time in-between competition in the air freight and especially delivery sub- flights, but also include pay and benefits. xxii industry not only prohibited UPS from an acquisition, but it also forces UPS to rely heavily on organic growth • There is a possibility of e-commerce saturation, rather than acquisitions. as consumers remain hesitant to purchase

products, such as food, online. Though it is worth noting we do not expect e-commerce to reach a saturation point with-in the next 5 years.

6 expenses in 2014 were contributed to wages. To forecast wages, we took the historical average of the • UPS is self-insured. While this is allows UPS to control cost, it also increases the risk of a large proportion of wages to sales, 54.88%. By doing this we are assuming the revenue per employee will remain claims. Without the backing of an insurance constant for the foreseeable future. company, UPS would be on the hook for the

entire cost of a catastrophic claim. It is worth noting, we have taken into account the possibility that Orion could increase the revenue per employee. However, we did not feel comfortable using this assumption in our forecast until Orion is Valuation Analysis implemented in all delivery vehicles and results are released.

We used the DCF, EP, DDM and Relative P/E to value UPS posted an 8.6% operating margin in 2014 and a th UPS. The DCF and EP calculated an intrinsic stock 10.9% margin TTM since September 30 , 2015. FedEx’s price of $113.15. Through the DDM we calculated a operating margin is much lower at 3.9% in 2014 and 4.3% th slightly higher value of $120.70. TTM since August 30 , 2015. These numbers confirmed our beliefs that UPS is operating more efficiently than UPS trades at an above average P/E ratio than its FedEx and is making more profits for each dollar of sales. competitors. In fact, it would be considered an industry outlier in most other cases. Our calculated value of “Other expenses” makes up about 9% of UPS’s total $57.37 is skewed and therefore did not have impact our expenses. Due to the lack of information on what other investment decision. expenses includes, we were forced to use our best judgment. In an effort to minimize the risk of incorrectly forecasting other expenses, we took the average other General Assumptions expenses as a percentage of sales for the past 4 years to get 7.8%. We also believe UPS will become more Continuing Value Growth Rate efficient and minimize miscellaneous cost over the years. We forecasted our Continuing Value Growth Rate to be Therefore, we forecasted a 5% decrease in other 3.35%. Initially, we believed the CV growth rate should expenses as a percentage of sales year over year. have been closer to 4%. Upon further analysis, we discovered there are two threats that lower UPS’s CV To forecast depreciation expense, we calculated the growth rate. historical rate of depreciation to be just over 8% of the beginning net book value. In addition, while searching for UPS is the leader in an industry with relatively low depreciation schedules, management notes stated a competition outside of FedEx. We do not believe this possible increase in depreciation due to a decrease in the industry dominance and growth can last indefinitely, useful life of their fixed assets. With this information, we therefore the threat of competition lowered our initial CV decided to increase the historical depreciation rate by 1% growth rate. Additionally, the possibility of new to 9.14%. technologies taking revenue away from UPS is already in the works. Many believe a system of small unmanned Balance Sheet aircraft have the ability to deliver packages in a cost Net Property, Plant and Equipment makes up over half of efficient way. Package delivery is the major revenue UPS’s total assets. Management has stated they believe stream for UPS and future technologies is a threat we $3B will be spent on capital expenditures in 2015. For took into account. years 2016-2019, we calculated the average percentage of revenue spent on capital expenditures in a given year Revenue Decomposition to be 4%. The 4% was then applied to the forecasted UPS is segmented into three different operations. U.S. revenue in years 2016-2019. Domestic Package, International Package and Supply Chain & Freight making up 62%, 22% and 16% of UPS’s In February of 2013, the Board of Directors approved a revenue, respectively. By using the average revenue per share repurchase plan of $10 billion. As of the end of package, volume and expected inflation rates we were 2014, UPS has $4.152 billion remaining on their able to forecast revenue for the next 5 years. We believe repurchase plan. Management notes also predicted a revenue will increase 2.76% in the 2015 and average a $2.7 billion in shares to be repurchased in 2015. We then 3.3% increase CAGR in the following years. evenly distributed the remaining funds available for repurchasing among the remaining four years.

Income Statement Like in most service based companies, compensation and benefits (wages) is a major expense. 62% of UPS’s

7 Weighted Average Cost of Capital (WACC) Value of ESOP, Minority Interest and Underfunded Cost of Equity Pension. We used the Capital Asset Pricing Model (CAPM) to calculate the required rate of return of UPS equity. The After accounting for all non-operating assets and current yield for a 27-year U.S. Treasury Bond liabilities we have a value of equity for UPS of just over represents our risk free rate of 2.87%. We then $97 billion. Once our value of equity was calculated we calculated the geometric average market premium from divided by the current number of shares outstanding. 1928-2014. We chose this range to encompass a wide Once again, this gave us an intrinsic stock price of range of data. Our beta was derived from the Bloomberg $113.15. Terminal using a 5 year time period with weekly returns. Our raw beta is .841. Using these inputs, our CAPM Our Economic Profit calculation is almost identical to the calculated a cost of equity of 6.76%. DCF model. After calculating each year’s Economic Profit, we discounted all of our values and added the Cost of Debt beginning invested capital. We backed out non-operating We used the most recent 30-year bond issued by UPS assets and liabilities just like in our DCF approach. Our to calculate the cost of debt. FINRA provided us a value value of equity is $97 billion and our intrinsic stock price is of 3.902%. Moody’s rated UPS with a credit rating of $113.15 our matching values show consistency in our two Aa3. This rating signifies an investment grade bond in valuation methods. the “very low credit risk” tier. FedEx is classified as slightly riskier, with a bond rating of Baa1. Dividend Discount Model (DDM) We then multiplied 3.902% by one minus the marginal The Dividend Discount Model (DDM) is the third valuation tax rate to get the after tax cost of debt of 2.58%. model to calculate an intrinsic stock price. UPS has issued dividends consistently for the past 15+ years. We UPS does not have preferred shares outstanding as of created our model under the assumption that UPS’s November 17, 2015. dividend yield will be comparable to recent years and not grow at an unusual rate. Weight of Equity The market value of equity was calculated by multiplying Our dividends were forecasted for the next 5 years. Year the current stock price as of 11/17/15 by the number of 5’s dividends were then used to find the continuing value shares outstanding to get a MV of equity of $93 billion. of cash flows. We used cost of equity and CV growth rate We then divided this number by the MV of the entire to grow and discount to the present value. Our DDM company. The weight of equity for UPS is 88.64%. calculated an intrinsic stock price of $120.70. This is a higher value than our DCF/EP in part because of the Weight of Debt increased dividend UPS is said to be paying out in the Total debt was calculated by finding the sum of short next five years. and long-term debt as well as adding the present value of operating leases. UPS’s total debt is $11 billion. Total debt is then divided by the MV of the company. The weight of debt for UPS is 11.36%. Sensitivity Analysis

FedEx’s capital structure is 85.4% on equity and 14.6% debt. Since FedEx and UPS are similar in business operations and size, we expected to see similar weights. A sensitivity analysis shows the effect a particular variable has on the intrinsic value of the equity. While building our model we determined the variables with the DCF and Economic Profit Analysis largest impact on our intrinsic value. To better understand Our DCF and Economic Profit model was built using the the impact of our forecasting, we constructed the key assumption that UPS will not undergo any major following sensitivity analysis. acquisitions in the future. Our DCF/EP model calculated an intrinsic value of $113.15. 2015 Ground Revenue

While we are confident in next year’s ground revenue The DCF model uses FCF to represent the future cash forecast growth of 3%, being prepared for multiple flows for UPS. Our FCF value of 2015 is larger than in different possibilities is our responsibility. Our sensitivity recent years to account for the extreme variation in net analysis ranged from a decrease in revenue of 1% to an deferred tax liabilities in 2012 and 2014. All cash flows increase of 7%. Our equity value varied from $94.72 to were then discounted using the WACC. From there, our $135.05 respectively. We do not expect a decrease in model calculated the value of operating assets of $116 ground revenue especially considering the increase in billion. After adding non-operating assets, we backed out Amazon’s Prime memberships. non-operating liabilities. These including: Short/Long-

Term Debt, Present Value of Operating Leases, Present

8 Forwarding and Logistics Forwarding and Logistics is a relatively small part of UPS’s revenue stream, accounting for just 10% of total revenue. Management has been quoted saying they are prepared to invest capital into trade lanes out of Asia in an effort to increase revenues. Our sensitivity analysis has shown that an increase in revenue growth from our forecast of 2% to 5% will only increase the intrinsic stock price to $116.82. Thus, any decisions to invest capital in the Forwarding and Logistics segment should be carefully considered to ensure return on invested capital is greater than the cost of capital.

Beta UPS has a raw beta of .841. Changing beta slightly from .841 to .7 will increase the intrinsic stock price from $113.15 to $145.65, accounting for a 29% increase. Although this variation would be beneficial to UPS in theory, we have not seen much variation in the past 5 years and do not expect much in the future.

Percentage of Revenue Spent on CapEx We forecasted 4% of revenues to be spent of capital expenditures in the next 5 years. By increasing this percentage to 6%, our stock price will decrease by 7% or $8. Decreasing our capital expenditure percentage would theoretically raise our intrinsic stock price but, any decrease in CapEx would decrease our continuing value growth which would result in a steep drop in stock price.

Compensation and Benefits As UPS’s largest expense, compensation and benefits has a large impact on the intrinsic value of UPS. With the possibility of a labor strike with the airline pilots, it is important to understand what an increase in compensation and benefits expense would mean for the valuation of UPS. If the percentage of compensation and benefits as a percentage of sales increases by just over 1%, it would decrease the intrinsic stock price to $97.19. On the other hand, if the percentage of compensation and benefits decrease by 1% it will increase the intrinsic value of UPS to $125.80. Compensation and benefits will continue to be an important expense for our future valuations.

9 /us-annual-e-retail-sales-surpass-300-billion- Works Cited first-ti xv. US Retail Sales Remain Subdued in October i. Oil Prices Rally Erasing Earlier Losses http://marketrealist.com/2015/11/us-retail- http://www.wsj.com/articles/oil-prices- sales-remain-subdued-october/ higher-after-france-escalates-air-campaign- xvi. IBIS WORLD against-islamic-state-1447671197 http://clients1.ibisworld.com.proxy.lib.uiow ii. EIA Petroleum Status Report a.edu/reports/gl/industry/competitivelandsca http://www.bloomberg.com/markets/econom pe.aspx?entid=1660 ic-calendar xvii. IBIS WORLD iii. Consumer Confidence http://clients1.ibisworld.com.proxy.lib.uiow http://www.bloomberg.com/markets/econom a.edu/reports/gl/industry/majorcompanies.as ic-calendar px?entid=1660 iv. ISM Manufacturing Index xviii. Yahoo Finance http://finance.yahoo.com http://www.bloomberg.com/markets/econom xix. UPS 10K ic-calendar http://nasdaqomx.mobular.net/nasdaqomx/7/344 0/4931/ v. S&P Industrials xx. UPS Worldwide http://us.spindices.com/indices/equity/sp- https://www.ups.com/content/us/en/about/facts/ 500-industrials-sector worldwide.html vi. Fidelity Industrials xxi. Merchants Watch Online Sales Data for Shifts in https://www.fidelity.com/sector- Buying Habits investing/industrials/overview http://www.wsj.com/articles/merchants-eye- vii. What is Airfreight? online-sales-data-for-shifts-in-buying-habits- http://www.farrow.com/article-what-is-air- 1447497002?mod=ST1 freight xxii. UPS Pilots Union Votes to Authorize Strike viii. Freight Shipping Companies: What’s the http://www.wsj.com/articles/ups-pilots-union- Difference Between Asset Based and Non- votes-to-authorize-strike-1445610265 Asset Based xxiii. Factset http://www.trinitylogistics.com/blog/freight- xxiv. Bloomberg Terminal shipping-companies-whats-the-difference- between-asset-based-and-non ix. Near Shoring vs Offshoring http://www.gcpindustrial.com/blog/nearshor ing-vs-offshoring x. The Move to Mexico: The Trends and Challenges of Nearshoring http://www.nfiindustries.com/blog/move- mexico-trends-and-challenges-nearshoring/). xi. Exploring Nearshoring in Mexico http://logisticsviewpoints.com/2015/03/31/e xploring-nearshoring-in-mexico/ xii. A Just in Time Supply Chain? https://www.ups- scs.com/solutions/white_papers/wp_JIT.pdf xiii. UPS Plans to Avoid Holiday Blues http://www.wsj.com/articles/ups-reports- surprise-revenue-dip-1445947423 xiv. US Annual E-Retail Sales Surpass $300 Billion for the First Time https://www.internetretailer.com/2015/02/17

10 Important Disclaimer

This report was created by students enrolled in the Security Analysis (6F:112) class at the University of Iowa. The report was originally created to offer an internal investment recommendation for the University of Iowa Krause Fund and its advisory board. The report also provides potential employers and other interested parties an example of the students’ skills, knowledge and abilities. Members of the Krause Fund are not registered investment advisors, brokers or officially licensed financial professionals. The investment advice contained in this report does not represent an offer or solicitation to buy or sell any of the securities mentioned. Unless otherwise noted, facts and figures included in this report are from publicly available sources. This report is not a complete compilation of data, and its accuracy is not guaranteed. From time to time, the University of Iowa, its Faculty, staff, students, or the Krause Fund may hold a financial interest in the companies mentioned in this report.

11 Ticker Symbol UPS Current Share Price $102.91 Current Model Date 11/17/2015 Fiscal Year End Dec. 31

WACC 6.28% Pre-Tax Cost of Debt 3.90% Beta 0.841 Risk-Free Rate 2.87% Equity Risk Premium 4.62% CV Growth 3.35% CV ROIC 18.89% Current Dividend Yield 2.61% Marginal Tax Rate 33.8% Effective Tax Rate 34.61% Cost of Equity 6.76% Return on Investment 3.00% Cost of Equity 6.76%

4% 2% 3% 54.88%

32.77% United Parcel Service, Inc. Revenue Decomposition

Fiscal Years Ending Dec. 31 2012 2013 2014 2015E 2016E 2017E 2018E 2019E (CV) US Domestic Package Next Day Air 6,412 6,443 6,581 6,778 7,050 7,332 7,625 7,880 Deferred 3,392 3,437 3,672 3,819 3,972 4,131 4,296 4,440 Ground 23,052 24,194 25,598 26,366 27,684 28,792 29,943 30,946 Total US Domestic Package 32,856 34,074 35,851 36,963 38,705 40,254 41,864 43,266 Internation Package Domestic 2,531 2,667 2,784 2,840 2,896 2,954 3,013 3,059 Export 9,033 9,166 9,586 9,826 10,071 10,323 10,581 10,740 Cargo 560 596 618 630 643 656 669 679 Total International Package 12,124 12,429 12,988 13,296 13,611 13,933 14,264 14,478 Supply Chain & Freight Forwarding and Logistics 5,977 5,492 5,758 5,873 5,991 6,110 6,233 6,326 Freight 2,640 2,882 3,048 3,109 3,171 3,235 3,299 3,349 Other 460 561 587 599 611 623 635 645 Total Supply Chain & Freight 9,077 8,935 9,393 9,581 9,772 9,968 10,167 10,320 Total Revenue 54,057 55,438 58,232 59,840 62,089 64,155 66,295 68,064

% of Total US Domestic Package 60.78% 61.46% 61.57% 61.77% 62.34% 62.74% 63.15% 63.57% International Package 22.43% 22.42% 22.30% 22.22% 21.92% 21.72% 21.52% 21.27% Supply Chain & Freight 16.79% 16.12% 16.13% 16.01% 15.74% 15.54% 15.34% 15.16% Total 100% 100% 100% 100% 100% 100% 100% 100%

% YOY Growth US Domestic Package 3.59% 3.71% 5.22% 3.10% 4.71% 4.00% 4.00% 3.35% International Package -1.02% 2.52% 4.50% 2.37% 2.37% 2.37% 2.37% 1.50% Supply Chain & Freight -0.68% -1.56% 5.13% 2.00% 2.00% 2.00% 2.00% 1.50% Total 1.79% 2.55% 5.04% 2.76% 3.76% 3.33% 3.34% 2.67%

Daily Average Package Volume US Domestic Package 13,896 14,405 15,322 15,797 16,542 17,204 17,892 18,491 International Package 2,399 2,533 2,694 2,758 2,823 2,890 2,959 3,003

Average Revenue Per Piece US Domestic Package 9.38 9.39 9.25 9.34 9.44 9.53 9.63 9.72 International Package 19.13 18.54 18.15 18.86 19.59 20.36 21.15 21.98 United Parcel Service, Inc. Balance Sheet

Fiscal Years Ending Dec. 31 2012 2013 2014 2015E 2016E 2017E 2018E 2019E (CV) Assets Cash 7,327 4,665 2,291 774 1,592 2,039 2,410 3,077 Short Term Investments 597 580 992 1,012 1,032 1,053 1,074 1,095 Accounts Receivables, Net 6,111 6,502 6,661 6,894 7,153 7,391 7,637 7,841 Other Receivables ------Inventories 393 403 344 371 385 398 411 422 Other Current Assets 1,163 1,237 1,520 1,556 1,614 1,668 1,724 1,770 Total Current Assets 15,591 13,387 11,808 10,607 11,776 12,548 13,255 14,205

Property, Plant & Equipment - Gross 38,041 39,151 40,620 43,620 46,014 48,497 51,063 53,715 Accumulated Depreciation 20,147 21,190 22,339 24,010 25,802 27,650 29,555 31,521 Net Property, Plant & Equipment 17,894 17,961 18,281 19,610 20,211 20,848 21,508 22,194 Total Investments and Advances 842 767 1,068 1,090 1,113 1,136 1,159 1,183 Long-Term Note Receivable ------Net Goodwill 2,173 2,190 2,184 2,184 2,184 2,184 2,184 2,184 Net Other Intangibles 603 775 847 570 358 205 105 48 Deferred Charges ------Tangible Other Assets 1,076 1,022 631 631 631 631 631 631 Total Assets 38,863 36,212 34,819 34,692 36,273 37,551 38,843 40,445

Liabilities & Shareholders' Equity ST Debt & Curr. Portion LT Debt 1,781 48 923 688 713 736 759 779 Accounts Payable 2,278 2,478 2,754 2,950 3,185 3,419 3,666 3,900 Income Tax Payable 36 48 18 26 28 30 32 36 Dividends Payable ------Accrued Payroll 1,927 2,325 2,373 2,463 2,556 2,641 2,729 2,801 Miscellaneous Current Liabilities 2,368 2,232 2,571 2,325 2,325 2,325 2,325 2,325 Total Current Liabilities 8,390 7,131 8,639 8,452 8,806 9,150 9,510 9,841

Long-Term Debt 11,089 10,824 9,864 11,183 11,661 11,923 12,209 12,526 Provision for Risks & Charges (Pension & Self Insured Reserves) 13,048 9,110 13,368 12,000 12,000 12,000 12,000 12,000 Total Deferred Taxes (Liabilities -Assets) (636) 1,134 (569) 1,227 1,273 1,315 1,359 1,395 Other Liabilities 1,555 1,415 1,359 1,443 1,443 1,443 1,443 1,443 Total Liabilities 33,446 29,614 32,661 34,305 35,183 35,832 36,522 37,205

Common Stock APIC 10 9 9 57 181 258 266 274 Retained Earnings 7,997 6,925 5,726 3,768 4,347 4,900 5,494 6,405 Unrealized Gain/Loss Marketable Securities/Translation (146) (346) (396) (396) (396) (396) (396) (396) Other Appropriated Reserves (3,130) (45) (3,139) (3,000) (3,000) (3,000) (3,000) (3,000) Treasury Stock (78) (69) (59) (59) (59) (59) (59) (59) Total Shareholders' Equity 4,653 6,474 2,141 370 1,073 1,702 2,304 3,224 Accumulated Minority Interest 80 14 17 17 17 17 17 17 Total Equity 4,733 6,488 2,158 387 1,090 1,719 2,321 3,241 Total Liabilities & Shareholders' Equity 38,863 36,212 34,819 34,692 36,273 37,551 38,843 40,445 United Parcel Service, Inc. Income Statement

Fiscal Years Ending Dec. 31 2012 2013 2014 2015E 2016E 2017E 2018E 2019E (CV) Sales 54,127 55,438 58,232 59,840 62,089 64,155 66,295 68,064 COGS excluding D&A Compensation and Benfits 33,102 28,557 32,045 32,840 34,074 35,208 36,383 37,353 Repairs and Maintenance 1,228 1,240 1,371 1,412 1,465 1,514 1,565 1,606 Purchased Transportation 7,354 7,486 8,460 8,827 9,300 9,758 10,238 10,674 Fuel 4,090 4,027 3,883 3,920 3,881 4,010 4,143 3,778 Other Occupancy 902 950 1,044 1,137 1,180 1,219 1,260 1,293 Other Expenses 4,250 4,277 4,538 4,668 4,601 4,516 4,433 4,324 Depreciation 1,614 1,682 1,728 1,671 1,792 1,847 1,905 1,966 Amortization of Intangibles 244 185 195 277 212 153 100 57 EBIT (Operating Income) 1,343 7,034 4,968 5,088 5,583 5,930 6,267 7,013 Nonoperating Interest Income 100 68 60 131 86 112 127 139 Other Income (Expense) 35 84 (126) - - - - - Interest Expense 403 376 277 424 421 463 483 494 Unusual Expense - Net - - (14) - - - - - Pretax Income 1,075 6,810 4,639 4,794 5,249 5,579 5,911 6,658 Income Taxes 167 2,302 1,605 1,621 1,774 1,886 1,998 2,250 Net Income 807 4,372 3,032 3,174 3,475 3,693 3,913 4,408

EPS (recurring) 0.83 4.61 3.27 3.32 3.51 3.84 4.07 4.31 Total Shares Outstanding 953 923 905 905 906 907 908 908 Dividends per Share 2.28 2.48 2.68 2.69 2.84 3.11 3.30 3.49 United Parcel Service, Inc. Cash Flow Statement

Fiscal Years Ending Dec. 31 2012 2013 2014 Operating Activities Net Income / Starting Line 807 4,372 3,032 Depreciation, Depletion & Amortization 1,858 1,867 1,923 Depreciation and Depletion 1,614 1,682 1,728 Amortization of Intangible Assets 244 185 195 Deferred Taxes & Investment Tax Credit (1,199) (246) 385 Other Funds 5,725 1,485 98 Funds from Operations 7,191 7,478 5,438 Changes in Working Capital 25 (174) 288 Receivables (124) (515) (523) Accounts Payable (58) 218 276 Income Taxes Payable ------Other Accruals 98 416 106 Other Assets/Liabilities 109 (293) 429 Net Operating Cash Flow 7,216 7,304 5,726

Investing Activities Capital Expenditures (2,153) (2,065) (2,328) Net Assets from Acquisitions (100) (22) (88) Sale of Fixed Assets & Businesses 95 104 53 Purchase/Sale of Investments 729 48 (375) Purchase of Investments 2,357 2,948 3,525 Sale/Maturity of Investments 3,086 2,996 3,150 Other Funds 94 (179) (63) Other Uses 0 (179) (63) Other Sources 94 0 0 Net Investing Cash Flow (1,335) (2,114) (2,801)

Financing Activities Cash Dividends Paid (2,130) (2,260) (2,366) Change in Capital Stock (1,320) (3,347) (2,421) Repurchase of Common & Preferred Stk. (1,621) (3,838) (2,695) Sale of Common & Preferred Stock 301 491 274 Issuance/Reduction of Debt, Net 1,729 (1,775) (169) Change in Current Debt 0 0 0 Change in Long-Term Debt 1,729 (1,775) (169) Issuance of Long-Term Debt 1,745 100 1,525 Reduction in Long-Term Debt (16) (1,875) (1,694) Other Funds (96) (425) (205) Net Financing Cash Flow (1,817) (7,807) (5,161)

Exchange Rate Effect 229 (45) (138)

Net Change in Cash 4,293 (2,662) (2,374)

Beg. Cash 3,034 7,327 4,665 Ending Cash 7,327 4,665 2,291 United Parcel Service, Inc. Forecasted Cash Flow Statement

Fiscal Years Ending 2015E 2016E 2017E 2018E 2019E (CV) Operating Activities Net Income 3,174 3,475 3,693 3,913 4,408 Add: Depreciation 1,671 1,792 1,847 1,905 1,966 Add: Amortization 277 212 153 100 57 Changes in: Accounts Receivable Net (233) (259) (238) (247) (204) Inventories Net (27) (14) (13) (13) (11) Other Current Assets (36) (58) (54) (56) (46) Accounts Payable 196 235 234 247 234 Total Deferred Taxes (Liabilites-Assets) 1,796 46 42 44 36 Income Tax Payable 8 2 2 2 4 Accrued Payroll 90 93 85 88 73 Other Liabilities 84 - - - - Miscellaneous Current Liabilities (246) - - - - Net Operating Cash Flow 6,754 5,524 5,752 5,984 6,517

Investing Activities Short-term Investments (20) (20) (21) (21) (21) Gross Propert Plant and Equipment (3,000) (2,394) (2,484) (2,566) (2,652) Net Goodwill - - - - - Total Investments and Advances (22) (23) (23) (24) (24) Provision for Risk & Charges (1,368) - - - - Net Investing Cash Flow (4,410) (2,436) (2,527) (2,611) (2,697)

Financing Activities ST Debt & Current Portion LT Debt (235) 25 23 24 20 Cash Dividends Paid (2,432) (2,571) (2,815) (2,994) (3,172) Long-Term Debt 1,319 478 262 286 317 Long-Term Note Receivable - - - - - Minority Interest - - - - - Other Appropriate Reserves 139 - - - - Common Stock and APIC 48 124 76 8 8 Purchase of Treasury Stock (2,700) (325) (325) (325) (325) Net Financing Cash Flow (3,860) (2,269) (2,779) (3,002) (3,152)

Net Cash Flows from All Activities: (1,517) 818 446 371 667

Beg. Cash 2,291 774 1,592 2,039 2,410 Ending Cash 774 1,592 2,039 2,410 3,077 United Parcel Service, Inc. Common Size Income Statement

Fiscal Years Ending Dec. 31 2012 2013 2014 2015E 2016E 2017E 2018E 2019E (CV) Sales 100.00% 100.00% 100.00% 100.00% 100.00% 100.00% 100.00% 100.00% COGS Compensation and Benfits 61.16% 51.51% 55.03% 54.88% 54.88% 54.88% 54.88% 54.88% Repairs and Maintenance 2.27% 2.24% 2.35% 2.36% 2.36% 2.36% 2.36% 2.36% Purchased Transportation 13.59% 13.50% 14.53% 14.75% 14.98% 15.21% 15.44% 15.68% Fuel 7.56% 7.26% 6.67% 6.55% 6.25% 6.25% 6.25% 5.55% Other Occupancy 1.67% 1.71% 1.79% 1.90% 1.90% 1.90% 1.90% 1.90% Other Expenses 7.85% 7.71% 7.79% 7.80% 7.41% 7.04% 6.69% 6.35% Depreciation 2.98% 3.03% 2.97% 2.79% 2.89% 2.88% 2.87% 2.89% Historical Depreciation Rate 9.16% 9.40% 9.62% - - - - - Amortization of Intangibles 0.45% 0.33% 0.33% 0.46% 0.34% 0.24% 0.15% 0.08% EBIT (Operating Income) 2.48% 12.69% 8.53% 8.50% 8.99% 9.24% 9.45% 10.30% Nonoperating Interest Income 0.18% 0.12% 0.10% 0.22% 0.14% 0.17% 0.19% 0.20% Other Income (Expense) 0.06% 0.15% -0.22% - - - - - Interest Expense 0.74% 0.68% 0.48% 0.71% 0.68% 0.72% 0.73% 0.73% Unusual Expense - Net - - -0.02% - - - - - Pretax Income 1.99% 12.28% 7.97% 8.01% 8.45% 8.70% 8.92% 9.78% Income Taxes 0.31% 4.15% 2.76% 2.71% 2.86% 2.94% 3.01% 3.31% Net Income 1.49% 7.89% 5.21% 5.30% 5.60% 5.76% 5.90% 6.48% United Parcel Service, Inc. Common Size Balance Sheet

Fiscal Years Ending Dec. 31 2012 2013 2014 2015E 2016E 2017E 2018E 2019E (CV) Assets Cash 13.54% 8.41% 3.93% 1.29% 2.56% 3.18% 3.64% 4.52% Total Short Term Investments 1.10% 1.05% 1.70% 2% 2% 2% 2% 2% Accounts Receivables, Net 11.29% 11.73% 11.44% 11.52% 11.52% 11.52% 11.52% 11.52% Other Receivables ------Inventories 0.73% 0.73% 0.59% 0.62% 0.62% 0.62% 0.62% 0.62% Other Current Assets 2.15% 2.23% 2.61% 2.60% 2.60% 2.60% 2.60% 2.60% Total Current Assets 28.80% 24.15% 20.28% 18.03% 19.30% 19.92% 20.38% 21.26%

Property, Plant & Equipment - Gross 70.28% 70.62% 69.76% 72.89% 74.11% 75.59% 77.02% 78.92% Accumulated Depreciation 37.22% 38.22% 38.36% 40.12% 41.56% 43.10% 44.58% 46.31% Net Property, Plant & Equipment 33.06% 33.18% 33.77% 32.77% 32.55% 32.50% 32.44% 32.61% Total Investments and Advances 1.56% 1.38% 1.83% 1.82% 1.79% 1.77% 1.75% 1.74% Long-Term Note Receivable ------Net Goodwill 4.01% 3.95% 3.75% 3.65% 3.52% 3.40% 3.29% 3.21% Net Other Intangibles 1.11% 1.40% 1.45% 1.29% 1.29% 1.29% 1.29% 1.29% Deferred Charges ------Tangible Other Assets 1.99% 1.84% 1.08% 1.05% 1.02% 0.98% 0.95% 0.93% Total Assets 71.80% 65.32% 59.79% 58.62% 59.47% 59.86% 60.10% 61.03%

Liabilities & Shareholders' Equity ST Debt & Curr. Portion LT Debt 3.29% 0.09% 1.59% 1.15% 1.15% 1.15% 1.15% 1.14% Accounts Payable 4.21% 4.47% 4.73% 4.93% 5.13% 5.33% 5.53% 5.73% Income Tax Payable 0.07% 0.09% 0.03% 0.04% 0.05% 0.05% 0.05% 0.05% Dividends Payable ------Accrued Payroll 3.56% 4.19% 4.08% 4.12% 4.12% 4.12% 4.12% 4.12% Miscellaneous Current Liabilities 4.37% 4.03% 4.42% 3.89% 3.74% 3.62% 3.51% 3.42% Total Current Liabilities 15.50% 12.86% 14.84% 14.12% 14.18% 14.26% 14.35% 14.46%

Long-Term Debt 20.49% 19.52% 16.94% 18.69% 18.78% 18.59% 18.42% 18.40% Provision for Risks & Charges 24.11% 16.43% 22.96% 20.05% 19.33% 18.70% 18.10% 17.63% Total Deferred Taxes (Liabilities -Assets) -1.18% 2.05% -0.98% 2.05% 2.05% 2.05% 2.05% 2.05% Other Liabilities 2.87% 2.55% 2.33% 2.41% 2.32% 2.25% 2.18% 2.12% Total Liabilities 61.79% 53.42% 56.09% 57.33% 56.67% 55.85% 55.09% 54.66%

Common Stock APIC 0.02% 0.02% 0.02% 0.10% 0.29% 0.40% 0.40% 0.40% Retained Earnings 14.77% 12.49% 9.83% 6.30% 7.00% 7.64% 8.29% 9.41% Cumulative Translation Adjustment/Unrealized For. E -0.28% -0.62% -0.68% -0.66% -0.64% -0.62% -0.60% -0.58% Unrealized Gain/Loss Marketable Securities 0.01% 0.00% ------Other Appropriated Reserves -5.78% -0.08% -5.39% -5.01% -4.83% -4.68% -4.53% -4.41% Treasury Stock -0.14% -0.12% -0.10% -0.10% -0.10% -0.09% -0.09% -0.09% Total Shareholders' Equity 8.60% 11.68% 3.68% 0.62% 1.73% 2.65% 3.48% 4.74% Accumulated Minority Interest 0.15% 0.03% 0.03% 0.03% 0.03% 0.03% 0.03% 0.02% Total Equity 8.74% 11.70% 3.71% 0.65% 1.76% 2.68% 3.50% 4.76% Total Liabilities & Shareholders' Equity 71.80% 65.32% 59.79% 57.97% 58.42% 58.53% 58.59% 59.42% United Parcel Service, Inc. Value Driver Estimation

Fiscal Years Ending Dec. 31 2012 2013 2014 2015E 2016E 2017E 2018E 2019E (CV) NOPLAT Computation EBITA: Sales 54,127 55,438 58,232 59,840 62,089 64,155 66,295 68,064 COGS excluding D&A 50,926 46,537 51,341 52,804 54,501 56,225 58,022 59,028 Depreciation & Amortization Expense 1,858 1,867 1,923 1,948 2,004 2,000 2,005 2,023 **Beg. EBITA 1,343 7,034 4,968 5,088 5,583 5,930 6,267 7,013 Interest on PV Operating Leases 48 49 42 45 48 50 51 53 End EBITA 1,391 7,083 5,010 5,133 5,632 5,979 6,318 7,065 Less: Adjusted Taxes Provision for Income Taxes 167 2,302 1,605 1,621 1,774 1,886 1,998 2,250 Marginal Tax Rate 28.9% 35.8% 33.8% 33.8% 33.8% 33.8% 33.8% 33.8% Less: Tax on Non-Operating Interest Income 29 24 20 44 29 38 43 47 Less: Other Income (Expense) 10 30 (43) - - - - - Plus: Tax Shield on Interest Expense 116 135 94 143 142 157 163 167 Plus: Unusual Expense - Net - - (5) - - - - - Plus: Tax Shield On Lease Interest 14 18 14 15 16 17 17 18 Total Adjusted Taxes 258 2,400 1,730 1,735 1,903 2,021 2,136 2,388 Net Deferred Tax Liability (3,220) 2,344 (2,245) 1,796 46 42 44 36

NOPLAT (2,088) 7,027 1,035 5,194 3,774 4,001 4,227 4,714

Normal Cash Normal Cash Percentage of Revenue 5% 5% 5% 5% 5% 5% 5% 5% Revenue 54,127 55,438 58,232 59,840 62,089 64,155 66,295 68,064 Normal Cash (Revenue * %) 2,706 2,772 2,912 2,992 3,104 3,208 3,315 3,403 Actual Cash 7,327 4,665 2,291 774 1,592 2,039 2,410 3,077 Lower of Normal Cash or Actual Cash 2706 2772 2291 774 1592 2039 2410 3077

Invested Capital Operating Current Assets Normal Cash 2,706 2,772 2,291 774 1,592 2,039 2,410 3,077 Accounts Receivable 6,111 6,502 6,661 6,894 7,153 7,391 7,637 7,841 Other Receivables ------Inventory 393 403 344 371 385 398 411 422 Prepaid Expenses and Other Current Operating Assets 1,163 1,237 1,520 1,556 1,614 1,668 1,724 1,770 Non-Interest Bearing Current Liabilities Accounts Payable 2,278 2,478 2,754 2,950 3,185 3,419 3,666 3,900 Accrued Expenses/Payroll 1,927 2,325 2,373 2,463 2,556 2,641 2,729 2,801 Dividends Payable ------Income Taxes Payable 36 48 18 26 28 30 32 36 Miscellaneous Current Liabilities 2,368 2,232 2,571 2,325 2,325 2,325 2,325 2,325 Net Operating Working Capital 3,764 3,831 3,100 1,831 2,651 3,080 3,431 4,048 Net Property Plant and Equipment 17,894 17,961 18,281 19,610 20,211 20,848 21,508 22,194 Net Other Intangibles 603 775 847 570 358 205 105 48 Capitalized Present Value of Operating Leases 1,257 1,074 1,149 1,232 1,270 1,310 1,351 1,395 Net Other Operating Activities 1,860 1,849 1,996 1,802 1,628 1,515 1,456 1,443 Less Other Operating Liabilities 1,555 1,415 1,359 1,443 1,443 1,443 1,443 1,443 Invested Capital 21,963 22,226 22,018 21,801 23,047 24,000 24,952 26,242 NOPLAT (2,088) 7,027 1,035 5,194 3,774 4,001 4,227 4,714 Beg. Invested Capital 23,010 21,963 22,226 22,018 21,801 23,047 24,000 24,952 ROIC -9.1% 32.0% 4.7% 23.6% 17.3% 17.4% 17.6% 18.9% NOPLAT (2,088) 7,027 1,035 5,194 3,774 4,001 4,227 4,714 Capital Expenditures (1,047) 263 (209) (217) 1,247 953 952 1,289 FCF (1,040) 6,764 1,243 5,411 2,528 3,048 3,274 3,424 Beg. Invested Capital 23,010 21,963 22,226 22,018 21,801 23,047 24,000 24,952 ROIC-WACC -15.4% 25.7% -1.6% 17.3% 11.0% 11.1% 11.3% 12.6% Economic Profit (EP) (3,533) 5,648 (362) 3,811 2,405 2,553 2,719 3,146 United Parcel Service, Inc. Weighted Average Cost of Capital (WACC) Estimation

Beta 0.841 Risk Premium 4.62% Risk Free Rate 2.87% Cost of Equity 6.76% Pre-Tax Cost of Debt (2042) 3.90% Tax Rate 33.8% Cost of Preferred 0% After-Tax Cost of Debt 2.58% Debt Short Term Debt $ 923 Long Term Debt $ 9,864 PV of Operating Leases $ 1,149 Total Debt $ 11,936 Equity Stock Shares 905.00 Price Per Share $ 102.91 Market Cap $ 93,133.55 MV of the Company $ 105,069.25 MV Weight of Debt 11.36% MV Weight of Equity 88.64% MV Weight of Preferred 0% WACC 6.28% United Parcel Service, Inc. Discounted Cash Flow (DCF) and Economic Profit (EP) Valuation Models

Key Inputs: CV Growth 3.35% CV ROIC 18.89% WACC 6.28% Cost of Equity 6.76%

Fiscal Years Ending Dec. 31 2014 2015E 2016E 2017E 2018E 2019E (CV) FCF 5,411 2,528 3,048 3,274 3,424

DCF Model FCF to Discount 5,411 2,528 3,048 3,274 132,277 CV Period to Discount 1 2 3 4 4 PV (CF) 5,091 2,238 2,539 2,566 103,670

Value of Operating Assets 116,104 Plus: Excess Cash - Plus: Short-Term Investments 992 Plus: Tangible Other Assets 631 Less: Short-Term Debt 923 Less: Long-Term Debt 9,864 Less: PV of Operating Leases 1,149 Less: PV of ESOP 108 Less: Minority Interest 17 Less: Underfunded Pension 8,693 Value of Equity 96,974 Number of Shares Outstanding 905 Intrinsic Value of Stock 107.15

Fraction of Fiscal Year Elapsed 0.83 Adjusted Stock Price 113.15

EP Model WACC 6.28% EP to Discount 3,811 2,405 2,553 2,719 3,146 CV 107,325 Beginning Invested Capital 22,018 Periods to Discount 1 2 3 4 4 PV (CF) 3,586 2,129 2,127 2,131 84,114

Fraction of Fiscal Year Elapsed 0.83 Adjusted Stock Price 113.15 United Parcel Service, Inc. Dividend Discount Model (DDM) or Fundamental P/E Valuation Model

Fiscal Years Ending Dec. 31 2014 2015E 2016E 2017E 2018E 2019E (CV)

EPS 3.27 3.32 3.51 3.84 4.07 4.31

Key Assumptions CV growth 3.35% CV ROE 136.01% Cost of Equity 6.76%

Future Cash Flows P/E Multiple (CV Year) 28.64 EPS (CV Year) 4.31 Future Stock Price 113.15 Dividends Per Share 2.68 2.69 2.84 3.11 3.30 3.49 Future Cash Flows Period 0 1 2 3 4 4 Discounted Cash Flows 2.68 2.52 2.84 3.11 3.30 102.54

Intrinsic Value $ 114.30 Fraction of Fiscal Year Elapsed $ 0.83 Adjusted Stock Price $ 120.70 United Parcel Service, Inc. Relative Valuation Models EPS EPS Est. 5yr Ticker Company Price 2015E 2016E P/E 15 P/E 16 EPS gr. PEG 15 PEG 16 FDX FedEx $159.12 $10.68 $12.33 14.9 12.9 10.0 1.49 1.29 EXPD Expeditors International $49.75 $2.37 $2.55 21.0 19.5 11.0 1.91 1.77 DPSGY Deutsche Post $29.74 $1.86 $2.12 16.0 14.0 9.0 1.78 1.56 ATSG Air Transport Sevices $ 8.95 $0.57 $0.67 15.7 13.4 3.8 4.13 3.52 CHRW C.H. Robinson $ 67.02 $3.50 $3.77 19.1 17.8 10.3 1.87 1.73 Average 17.3 15.5 1.7 1.5

UPS United Parcel Service, Inc. $102.91 $3.32 $3.51 31.0 29.3 5.38% 5.8 5.5

Implied Value: Relative P/E (EPS15) $ 57.37 Relative P/E (EPS16) $ 54.29 PEG Ratio (EPS15) $ 0.31 PEG Ratio (EPS16) $ 0.29 Percentage of revenue spent on CapEx 113.1525 1% 2% 3% 4% 5% 6% 7% -1% 112.16 105.61 99.09 94.67 90.80 86.94 83.07 0% 116.78 110.15 103.56 99.00 95.09 91.18 87.28 1% 121.59 114.89 108.22 103.52 99.57 95.62 91.67 2% 126.61 119.83 113.09 108.23 104.24 100.25 96.26 2015 Revenue (Ground) 3% 131.83 124.98 118.16 113.15 109.12 105.09 101.05 4% 137.27 130.34 123.44 118.28 114.20 110.13 106.05 5% 142.93 135.92 128.93 123.62 119.50 115.38 111.26 6% 148.81 141.72 134.66 129.19 125.02 120.85 116.69 7% 154.93 147.76 140.61 134.98 130.77 126.56 122.35

Beta 113.1525 0.7 0.75 0.8 0.841 0.85 0.9 0.95 4.40% 155.70 141.58 129.58 120.99 119.24 110.24 102.33 4.50% 150.95 137.28 125.64 117.32 115.61 106.88 99.21 Risk Premium 4.62% 145.57 132.41 121.19 113.15 111.51 103.08 95.66 4.70% 142.18 129.32 118.37 110.52 108.91 100.67 93.42 4.80% 138.12 125.64 114.99 107.36 105.80 97.78 90.73

Compensation and Benefits 113.1525 50% 51% 52% 53% 54% 54.88% 56% 57% 58% 59% 60% -1% 161.25 147.15 133.07 119.01 105.99 94.67 80.25 67.37 54.50 41.62 28.75 0% 167.39 152.93 138.49 124.08 110.62 99.00 84.20 70.99 57.78 44.58 31.37 1% 173.78 158.96 144.15 129.36 115.45 103.52 88.33 74.78 61.22 47.66 34.10 2% 180.45 165.24 150.04 134.87 120.48 108.23 92.64 78.73 64.81 50.89 36.97 2015 Revenue 3% 187.39 171.78 156.19 140.61 125.73 113.15 97.14 82.85 68.55 54.26 39.96 4% 194.62 178.59 162.58 146.59 131.20 118.28 101.83 87.14 72.46 57.77 43.09 5% 202.14 185.68 169.24 152.82 136.90 123.62 106.72 91.63 76.53 61.44 46.35 6% 209.96 193.06 176.17 159.30 142.84 129.19 111.81 96.30 80.78 65.27 49.75 7% 218.09 200.73 183.38 166.04 149.02 134.98 117.11 101.16 85.21 69.26 53.31

Ground Revenue 113.1525 -1% 0% 1% 2% 3% 4% 5% 6% 7% -2% 91.62 95.95 100.47 105.19 110.11 115.23 120.58 126.14 131.93 -1% 92.33 96.66 101.18 105.90 110.82 115.95 121.29 126.85 132.64 0% 93.08 97.41 101.93 106.64 111.56 116.69 122.03 127.60 133.39 1% 93.85 98.18 102.71 107.42 112.34 117.47 122.81 128.37 134.17 F&L 2% 94.67 99.00 103.52 108.23 113.15 118.28 123.62 129.19 134.98 3% 95.51 99.84 104.36 109.08 114.00 119.13 124.47 130.03 135.82 4% 96.40 100.73 105.25 109.96 114.88 120.01 125.35 130.92 136.71 5% 97.32 101.65 106.17 110.88 115.80 120.93 126.27 131.84 137.63 6% 98.27 102.61 107.13 111.84 116.76 121.89 127.23 132.79 138.59

CV Growth Rate 113.1525 0% 1% 2% 3.35% 4% 4% 5% 6% 7% -1% 51.60 58.73 69.20 94.67 99.02 117.67 198.64 854.97 -315.53 0% 53.76 61.26 72.25 99.00 103.57 123.16 208.21 897.59 -331.85 1% 56.02 63.89 75.43 103.52 108.32 128.89 218.20 942.14 -348.93 2% 58.36 66.63 78.75 108.23 113.28 134.88 228.64 988.67 -366.77 2015 Revenue 3% 60.81 69.48 82.21 113.15 118.45 141.12 239.53 1037.25 -385.41 4% 63.35 72.46 85.81 118.28 123.83 147.62 250.89 1087.95 -404.87 5% 66.00 75.55 89.56 123.62 129.45 154.40 262.73 1140.83 -425.17 6% 68.76 78.77 93.46 129.19 135.30 161.47 275.07 1195.96 -446.35 7% 71.63 82.12 97.52 134.98 141.38 168.82 287.93 1253.42 -468.43 United Parcel Service, Inc. Key Management Ratios

Fiscal Years Ending Dec. 31 2012 2013 2014 2015E 2016E 2017E 2018E 2019E (CV)

Liquidity Ratios Current Ratio Current Assets/Current Liabilities 1.86 1.88 1.37 1.25 1.34 1.37 1.39 1.44 Quick Ratio (Current Assets-Inventories) / Current Liabilities 1.81 1.82 1.33 1.21 1.29 1.33 1.35 1.40 Net Working Capital Current Assets - Current Liabilities 7201 6256 3169 2155 2970 3397 3745 4364

Activity or Asset-Management Ratios Recievables Turnover Net Revenue / Accounts Receivable 8.76 8.79 8.85 8.83 8.84 8.82 8.82 8.79 Total Assset Turnover Total Revenue / Total Assets 1.39 1.53 1.67 1.72 1.71 1.71 1.71 1.68 Fixed Asset Turnover Total Revenue / Net PPE 3.02 3.09 3.19 3.05 3.07 3.08 3.08 3.07

Financial Leverage Ratios Debt to Equity (Short Term + Long Term Debt) / Total Equity 270.9% 153.1% 565.4% 3335.9% 1177.3% 760.5% 576.5% 24.2% Equity Ratio Total Equity / Total Assets 11.97% 17.88% 6.15% 1% 3% 5% 6% 8% Debt Ratio (Short Term + Long Term Debt) / Total Assets 33.12% 30.02% 30.98% 34% 34% 34% 33% 33% Capitalization Ratio Total Debt / (Total Debt + Total Equity) 70.44% 62.57% 82.17% 97% 92% 88% 84% 80%

Profitability Ratios Net Profit Margin Net Income / Total Revenues 1.49% 7.89% 5.21% 5.30% 5.60% 5.76% 5.90% 6.48% ROA Net Income / Total Assets 2.08% 12.07% 8.71% 9.15% 9.58% 9.83% 10.07% 10.90% ROE Net Income / Total Equity 17.05% 67.39% 140.50% 819.75% 318.69% 214.81% 168.57% 136.01% Operating Margin Operating Income / Total Revenues 2.48% 12.69% 8.53% 8.50% 8.99% 9.24% 9.45% 10.30%

Payout Policy Ratios Dividend Payout Ratio Dividend / Net Income 2.74 0.54 0.82 0.81 0.81 0.81 0.81 0.81 Total Payout (Dividends + Share Repurchases) / Net Income 465% 139% 167% 162% 83% 85% 85% 79% Present Value of Operating Lease Obligations (2014) Present Value of Operating Lease Obligations (2013) Present Value of Operating Lease Obligations (2012)

Operating Operating Operating Fiscal Years Ending Dec. 31 Leases Fiscal Years Ending 121.591741473063 Leases Fiscal Years Ending 95.620924813462 Leases 2015 323 2014 310 2013 342 2016 257 2015 239 2014 271 2017 210 2016 180 2015 203 2018 150 2017 146 2016 145 2019 90 2018 99 2017 118 Thereafter 274 Thereafter 242 Thereafter 358 Total Minimum Payments 1304 Total Minimum Payments 1216 Total Minimum Payments 1437 Less: Interest 155 Less: Interest 142 Less: Interest 180 PV of Minimum Payments 1149 PV of Minimum Payments 1074 PV of Minimum Payments 1257

Capitalization of Operating Leases Capitalization of Operating Leases Capitalization of Operating Leases

Pre-Tax Cost of Debt 3.90% Pre-Tax Cost of Debt 3.90% Pre-Tax Cost of Debt 3.90% Number Years Implied by Year 6 Payment 3.0 Number Years Implied by Year 6 Payment 2.4 Number Years Implied by Year 6 Payment 3.0

Lease PV Lease Lease PV Lease Lease PV Lease Year Commitment Payment Year Commitment Payment Year Commitment Payment 1 323 310.9 1 310 298.4 1 342 329.2 2 257 238.1 2 239 221.4 2 271 251.0 3 210 187.2 3 180 160.5 3 203 181.0 4 150 128.7 4 146 125.3 4 145 124.4 5 90 74.3 5 99 81.8 5 118 97.4 6 & beyond 90 209.5 6 & beyond 99 187.2 6 & beyond 118 273.8 PV of Minimum Payments 1148.7 PV of Minimum Payments 1074.4 PV of Minimum Payments 1256.8

Present Value of Operating Lease Obligations (2011) Present Value of Operating Lease Obligations (2010) Present Value of Operating Lease Obligations (2009)

Operating Operating Operating Fiscal Years Ending Leases #REF! Leases #REF! Leases 2012 329 2011 348 2010 364 2013 257 2012 268 2011 279 2014 192 2013 205 2012 211 2015 140 2014 150 2013 155 2016 97 2015 113 2014 113 Thereafter 393 Thereafter 431 Thereafter 468 Total Minimum Payments 1408 Total Minimum Payments 1515 Total Minimum Payments 1590 Less: Interest 187 Less: Interest 202 Less: Interest 216 PV of Minimum Payments 1221 PV of Minimum Payments 1313 PV of Minimum Payments 1374

Capitalization of Operating Leases Capitalization of Operating Leases Capitalization of Operating Leases

Pre-Tax Cost of Debt 3.90% Pre-Tax Cost of Debt 3.90% Pre-Tax Cost of Debt 3.90% Number Years Implied by Year 6 Payment 4.1 Number Years Implied by Year 6 Payment 3.8 Number Years Implied by Year 6 Payment 4.1

Lease PV Lease Lease PV Lease Lease PV Lease Year Commitment Payment Year Commitment Payment Year Commitment Payment 1 329 316.6 1 348 334.9 1 364 350.3 2 257 238.1 2 268 248.2 2 279 258.4 3 192 171.2 3 205 182.8 3 211 188.1 4 140 120.1 4 150 128.7 4 155 133.0 5 97 80.1 5 113 93.3 5 113 93.3 6 & beyond 97 294.9 6 & beyond 113 324.9 6 & beyond 113 350.6 PV of Minimum Payments 1221.0 PV of Minimum Payments 1312.8 PV of Minimum Payments 1373.8

Present Value of Operating Lease Obligations (2008) Present Value of Operating Lease Obligations (2007) Present Value of Operating Lease Obligations (2006)

Operating Operating Operating Fiscal Years Ending Leases Fiscal Years Ending Leases Fiscal Years Ending Leases 2009 344 2008 378 2007 404 2010 288 2009 325 2008 335 2011 217 2010 237 2009 243 2012 147 2011 166 2010 168 2013 109 2012 116 2011 119 Thereafter 423 Thereafter 560 Thereafter 505 Total Minimum Payments 1528 Total Minimum Payments 1782 Total Minimum Payments 1774 Less: Interest 202 Less: Interest 253 Less: Interest 238 PV of Minimum Payments 1326 PV of Minimum Payments 1529 PV of Minimum Payments 1536

Capitalization of Operating Leases Capitalization of Operating Leases Capitalization of Operating Leases

Pre-Tax Cost of Debt 3.90% Pre-Tax Cost of Debt 3.90% Pre-Tax Cost of Debt 3.90% Number Years Implied by Year 6 Payment 3.9 Number Years Implied by Year 6 Payment 4.8 Number Years Implied by Year 6 Payment 4.2

Lease PV Lease Lease PV Lease Lease PV Lease Year Commitment Payment Year Commitment Payment Year Commitment Payment 1 344 331.1 1 378 363.8 1 404 388.8 2 288 266.8 2 325 301.0 2 335 310.3 3 217 193.5 3 237 211.3 3 243 216.6 4 147 126.1 4 166 142.4 4 168 144.1 5 109 90.0 5 116 95.8 5 119 98.3 6 & beyond 109 318.4 6 & beyond 116 414.2 6 & beyond 119 377.6 PV of Minimum Payments 1325.9 PV of Minimum Payments 1528.6 PV of Minimum Payments 1535.8

Present Value of Operating Lease Obligations (2005)

Operating Fiscal Years Ending Leases 2006 403 2007 348 2008 248 2009 176 2010 126 Thereafter 544 Total Minimum Payments 1845 Less: Interest 252 PV of Minimum Payments 1593

Capitalization of Operating Leases

Pre-Tax Cost of Debt 3.90% Number Years Implied by Year 6 Payment 4.3

Lease PV Lease Year Commitment Payment 1 403 387.9 2 348 322.4 3 248 221.1 4 176 151.0 5 126 104.1 6 & beyond 126 406.2 PV of Minimum Payments 1592.6 Number of Options Outstanding (shares): 3,691 Average Time to Maturity (years): 2.85 Expected Annual Number of Options Exercised: 1,297

Current Average Strike Price: $ 75.08 Cost of Equity: 6.76% Current Stock Price: $102.91

2015E 2016E 2017E 2018E 2019E (CV) Increase in Shares Outstanding: 591 1,650 1,059 132 132 Average Strike Price: $ 81.17 $ 75.32 $ 72.05 $ 61.52 $ 61.52 Increase in Common Stock Account: 47,971 124,272 76,301 8,121 8,121

Change in Treasury Stock 2,700 325 325 325 325 Expected Price of Repurchased Shares: $102.91 $ 109.86 $ 117.28 $ 125.21 $ 133.66 Number of Shares Repurchased: 26 3 3 3 2

Shares Outstanding (beginning of the year) 905,000 905,565 907,212 908,268 908,397 Plus: Shares Issued Through ESOP 591 1,650 1,059 132 132 Less: Shares Repurchased in Treasury 26 3 3 3 2 Shares Outstanding (end of the year) 905,565 907,212 908,268 908,397 908,527 VALUATION OF OPTIONS GRANTED IN ESOP

Ticker Symbol UPS Current Stock Price $102.91 Risk Free Rate 2.87% Current Dividend Yield 2.61% Annualized St. Dev. of Stock Returns 20.50%

Average Average B-S Value Range of Number Exercise Remaining Option of Options Outstanding Options of Shares Price Life (yrs) Price Granted Range 1 264 61.52 4.85 $ 39.00 $ 10,295 Range 2 2,118 72.05 2.52 $ 31.06 $ 65,782 Range 3 1,182 81.17 2.30 $ 24.21 $ 28,617 Range 4 127 96.98 9.18 $ 22.35 $ 2,839 Total 3,691 $ 75.08 2.85 $ 35.36 $ 107,534 $ 107,534