Top Stories
Top Stories

UPS set to make a boatload on its new surcharges during holiday season, Citi predicts

Key Points
  • Citi Research foresees double-digit earnings growth for UPS in 2018, citing new holiday season surcharging.
  • UPS announced the surcharges in June.
  • Citi's analysts say UPS is on pace to post 10 percent full year operating income growth.
Jodi Gralnick | CNBC

Citi Research upgraded UPS shares to buy from neutral, citing its plan to charge extra during peak shipping days this holiday season.

"The company's year-to-date growth has been better than it appears, suggesting to us that the business is in the process of accelerating" Citi analyst Christian Wetherbee wrote in Monday's note. "A key to our call beyond our expectation for better growth is UPS's move to apply peak season surcharges."

UPS announced in June that it would be applying surcharges on residential and large packages shipped in the U.S. in selected weeks in November and December. By charging additional fees around the holidays, UPS may be signaling that its role as a price-setting market leader is far from over, even in the age of Amazon domination, the analyst said.

"We've argued for years for UPS and FedEx to leverage the parcel market's consolidated nature and it looks like UPS is finally making good on this opportunity," Wetherbee said. "Our analysis shows $60-$100 million of incremental revenue and operating profit, yielding EPS accretion opportunity of about 3 to 5 percent."

Rival FedEx announced last week that it would not pursue special surcharges for the majority of parcels shipped during the peak holiday season.

Recent headwinds, including UPS' decision to deliver on Saturdays and foreign exchange hedges have hampered growth this year. But controlling for these obstacles, Citi believes that UPS is on pace to post 10 percent full year operating income growth.

"Given recent performance, parcel trends and easy comps, we expect an 8 percent EBIT growth rate in 2018," Wetherbee wrote. "Comparing this to the last five years, it would mark only the second year over 4 percent growth."

Wetherbee raised his 12-month price target on UPS to $128 from $115, representing 14 percent upside from Monday's close. The shares are down 2 percent for the year through Monday.

Accord to Citi research, another driver of core earnings growth for UPS is the strong uptrend in parcel volume, especially in e-commerce.

"Business to consumer parcel growth driven by e-commerce has been an underpinning of this growth and we believe will likely drive further growth above typical freight trends," he wrote.

The research notes that peak execution remains an important question mark for UPS, but that recent logistical software and technologies are continuing to improve delivery efficiency.