United Parcel Service, Inc.

Good morning. My name is Stephen Dye, and I will be your conference facilitator today. I would like to welcome everyone to the UPS Investor Relations First Quarter 2024 Earnings Conference Call. All lines have been placed on mute to prevent any background noise, and after the speaker's remarks, there will be a question and answer period. Any analyst that wants to ask a question, now is the time to press 1, then 0 on your telephone keypad. It is now my pleasure to turn the floor over to your host, Mr. PJ Guido, Investor Relations Officer. Sir, the floor is yours.

Good morning and welcome to the UPS first quarter 2024 earnings call. Joining me today are Carol Tomei, our CEO, Brian Newman, our CFO, and a few additional members of our executive leadership team. Before we begin, I want to remind you that some of the comments we'll make today our forward-looking statements within federal securities laws and address our expectations for the future performance or operating results of our company. These statements are subject to risks and uncertainties, which are described in our 2023 410 and other reports we file with or furnish to the Securities and Exchange Commission. These reports, when filed, are available on the UPS Investor Relations website and from the SEC. Unless stated otherwise, our discussion refers to adjusted results. For the first quarter of 2024, DAP results include a total charge of $110 million or 13 cents per diluted share, comprised of after-tax transformation and other charges of $75 million and a non-cash after-tax impairment charge of $35 million, driven by plans to consolidate certain acquired brands within our healthcare portfolio. A reconciliation to GAAP financial results is available on the UPS Investor Relations website and also available in the webcast of today's call. Following our prepared remarks, we will take questions from those joining us via the teleconference.

If you wish to ask a question, press 1 and then 0 on your phone to enter the queue. Please ask only one question so that we may allow as many as possible to participate.

You may rejoin the queue for the opportunity to ask an additional question. And now I'll turn the call over to Carol. Thank you, PJ, and good morning.

Let me begin by thanking UPSers for doing what they do better than anyone, and that's deliver industry-leading service. Through the first quarter, UPSers continued to execute our strategy by focusing on growth and efficiency and exemplified our purpose of moving our role forward by delivering what matters. Moving to our results, the first quarter turned out as we expected, starting with a decline in average daily volume. U.S. average daily volume, or ADV, declined year over year, but the rate of decline slowed as the quarter progressed, ending with March down less than 1%. And on a sequential basis, the ADV decline rate in the first quarter showed marked improvement compared to the fourth quarter of 2023. This improving performance is primarily due to the efforts of our sales team to win and pull through new volume into our network. Outside of the U.S., the ADV decline rate also improved sequentially compared to the fourth quarter of last year. and we saw pockets of export growth in certain markets and lanes. For the first quarter, consolidated revenue was $21.7 billion, a decline of 5.3% versus last year. Operating profit was $1.7 billion, down 31.5% compared to last year, due for the most part to higher labor costs associated with the first year of our Teamsters contract. Consolidated operating margin was 8%. Our operating profit performance was a bit better than we expected due to higher productivity. At our investor and analyst day last month, we shared our three-year targets and how we intend to reach them under our better and bolder approach. We are reimagining our network through network of the future, and we are leaning into the parts of the market that value our end-to-end integrated network. For example, we recently announced that UPS will become the primary air cargo provider for the United States Postal Service. Under this contract, we will move most of the USPS air cargo within the United States. The USPS air cargo business fits beautifully with our strategy to grow our B2B business. To win, we put together an innovative and differentiated solution that leverages our integrated network and existing assets. The USPS air cargo business will contribute to top line growth and be accretive to consolidated and US domestic operating margins. Brian will share more details. including what to expect during the transition period and where this will show up in our financial reporting. Moving to our strategic update, through our customer-first, people-led, innovation-driven strategy, we are investing to grow in the premium parts of the market and drive efficiency. Let me give you a few recent examples, starting with customer-first. Through our on-demand network, we are expanding our addressable market with capabilities like no box, no label returns, through happy returns, and the convenience of our more than 5,200 UPS store locations. During the first quarter, our overall returns volume in the U.S. increased 1.4%, and happy returns more than quadrupled its ADV in the first quarter. Returns are attractive to us for a couple of reasons. First, they are typically B2B movements. and as a result, drive pickup and delivery density. Second, our frictionless offering creates customer loyalty and repeat business. We are also expanding our addressable market with capabilities like big and bulky deliveries through ROTI. In the first quarter, we launched ROTI XD, which adds cross-doc capabilities to ROTI XL. Our cross-doc solution brings the digital and physical together for long zone deliveries of bulky items such as grills and furniture that do not fit in the UPS small package network. This is enabling us to unlock additional revenue opportunities in the highly fragmented $60 billion big and bulky market in the U.S. It's still early days, but this is a large opportunity for us to grow quality revenue and profit and serve the needs of our customers. As we laid out at our investor day, our long-term target is to grow our U.S. S&B volume penetration to 40%. DAP, our digital access program, is one of the tools we will use to reach this target. Recently, we enhanced our DAP pricing capabilities by launching a solution we call Fastlane. With Fastlane, we can optimize rates and target attractive volume growth. whether it be by partner, by product, or by customer segment, all of which can drive revenue per piece growth. We can even target volume growth by geography to drive density. Prior to Fastlane, rate and other adjustments in DAP could take months. Now we can make them in a matter of days or even hours. In terms of results, in the first quarter, DAP revenue grew by 3% year over year, and in 2024, we expect to generate over $3 billion in global DAP revenue. Speaking of SMBs, over the last year, we've gained traction on improving the customer experience across 16 journeys. Take pickups. We redesigned our process and deployed new driver dispatch technology. This resulted in a 74% reduction in pickup concerns and a Net Promoter Score, or NPS, of 48 for this journey. which is an all-time high for UPS. And for our international customers, our next-gen brokerage solution is making it easier for SMBs to navigate the ins and outs of exporting, as evidenced by a 40% decline in custom brokerage holds since April of 2023. Turning to healthcare, we aim to become the number one complex healthcare logistics provider in the world. Healthcare companies are innovating, and so are we. Our latest example is the opening of Labport at Whirlport, our global air hub in Louisville, Kentucky. Labport is unique. It's an end-of-the-runway, state-of-the-art facility built specifically for lab customers. By being at Whirlport, we can deliver urgent air packages to our lab customers well before the sun comes up, so they can provide diagnostic results by early morning. And in terms of healthcare revenue, In the first quarter, revenue from our healthcare portfolio reached $2.6 billion. Outside the United States, we're continuing to enhance our network to grow our premium international business. Our most recent example is the launch of next day flights between Shenzhen, China, and Sydney, Australia. The addition of these flights enables faster import and export movements between 11 Asian markets in Australia. and now exports from Australia can even reach Europe by the next business day. This enhancement further enables us to serve our customers, particularly those that are in high-tech, manufacturing, and healthcare, as they are shifting their supply chains in response to changing international trade flows. Now let's turn to innovation-driven. As we've discussed, Network of the Future includes physical and digital changes that will deliver benefits in the short term and the long term. Smart Package Smart Facility, our RFID solution, is a great digital example. We are moving from a scanning network to a sensing network. Following last year's Phase 1 deployment to our preload operations, this year we are installing RFID readers in over 40,000 U.S. package cards with the balance to be completed in 2025. Packaged car readers will enable us to further reduce our misloads, which will improve efficiency and the customer experience. The physical aspect of Network of the Future has launched, and in the quarter, we continue to close sorts and flow more volume into automated facilities. Most of the phase one major projects we outlined during our investor day have begun and are in the contracting and execution phases. Innovation Driven is also about achieving carbon neutrality by 2050. We recently published our 22nd Sustainability Report, and we are well on our way to achieving our goal. In 2023, our Scope 1, 2, and 3 CO2 emissions declined 8.1% compared to 2022. We operate more than 18,000 alternative fuel and advanced technology vehicles in our rolling laboratory. and the use of alternative fuels in our ground operations reached 28.8% last year, keeping us on track to achieve our target of 40% by 2025. Moving to our outlook, we are reaffirming our previously announced 2024 consolidated financial goals. In 2024, we expect to generate consolidated revenue ranging from approximately $92 billion to $94.5 billion and a consolidated operating margin ranging from approximately 10 to 10.6%. Versus last year, we still expect first half earnings to decline and second half earnings to grow as we lap the first year of the Teamsters contract. And we still expect to exit the year with a U.S. operating margin of 10%. As we move forward, we are staying on strategy and under our better and bolder approach, We are pursuing our declaration to become the premium small package provider and logistics partner in the world. With that, thank you for listening. And now I'll turn the call over to Brian.

Thanks, Carol, and good morning. In my comments, I'll cover four areas. First, I'll review our first quarter results, followed by our 2024 financial outlook. Then I'll provide some comments on our business with the USPS. And lastly, I'll close with a recap of our 2026 targets. While the macro environment in the first quarter showed improvement in some areas, continued soft demand pressured all three parts of our business. Through the quarter, we adjusted our integrated network to match volume levels and drove out expense while maintaining industry-leading service levels. Moving to our financial results, our overall quarterly performance was in line with our expectations. In the first quarter, consolidated revenue was $21.7 billion, down 5.3% compared to the first quarter of 2023. All three of our segments demonstrated cost agility and on a combined basis drove down expense by $414 million in the first quarter. This enabled us to deliver $1.7 billion in consolidated operating profit and consolidated operating margin was 8%. Diluted earnings per share was $1.43, down 35% from the first quarter of 2023. Now let's look at our business segments. In U.S. domestic, we remained focused on controlling what we could control to improve volume growth and drive productivity. In the first quarter, average daily volume was down 3.2% year-over-year. When looking at ADV sequentially, the growth rate showed strong improvement compared to the third and fourth quarters of 2023. B2B average daily volume was down 5.5% compared to the first quarter of last year, primarily driven by declines in the retail and manufacturing sectors. and B2B represented 41.6% of our volume. Looking at product mix and in line with recent trends, we continue to see a shift from air to ground as customers prioritize cost savings over transit times by taking advantage of our ground services. Compared to the first quarter of 2023, total air average daily volume was down 8.3%, ground declined 2.3%, and within ground, SurePost volume grew 10.8%. For the quarter, U.S. domestic generated revenue of $14.2 billion, down 5%. Revenue per piece was relatively flat year over year. Looking at the key drivers, base rates increased the revenue per piece growth rate by 240 basis points. This was offset by a couple of factors. First, changes in customer and product mix due to growth in SurePost combined with changes in package characteristics decreased the revenue per piece growth rate by 180 basis points. And second, changes in fuel prices decreased the revenue per piece growth rate by 90 basis points. Turning to cost, total expense was down 0.8%, or $104 million, in the first quarter. Union wage rates increased 13%, driven by the contractual increase that went into effect last August. Leveraging technology and the agility of our integrated network, we took several actions which more than offset the increase in compensation. We leveraged total service plan and network planning tools to reduce total operational hours by 6.6%, which was more than the decline in average daily volume. We closed 18 sorts and reduced operational resources by 4.8% compared to last year. We lowered block hours by 15.2% versus last year. We reduced management and support staff by approximately 5,400 positions year over year. In addition, we reduced purchase transportation by 17%, primarily from our continued optimization efforts. And lastly, lower fuel costs contributed to the decrease in total expense. The U.S. domestic segment delivered $839 million in operating profit, down 43.6% compared to the first quarter of 2023, and operating margin was 5.9%. Moving to our international segment, the macro environment remained challenged, primarily in Europe and Asia. However, volume growth in the Americas region showed early signs of nearshoring. In the first quarter, international total average daily volume was down 5.8% year over year. About two-thirds of the decline came from lower domestic average daily volume, which was down 8.1%, driven primarily by declines in Canada and major markets in Europe. On the export side, average daily volume declined 3.6% year over year, primarily due to weak manufacturing activity in Europe. In Asia, export average daily volume was down 4.8%, which was an improvement from the fourth quarter of 2023. Within Asia, export volume on the China-to-U.S. lane increased 12.8% and showed steady growth for the second consecutive quarter. More than offsetting the overall decline in Asia, nearshoring became evident as export average daily volume in the Americas region increased 3.8%. This was led by SMB customers in Canada and Mexico, leveraging our cross-border ground service. In the first quarter, international revenue was $4.3 billion, down 6.3% from last year, primarily due to the decline in volume. Revenue per piece increased 2% and included a number of moving parts. Strong base pricing drove a 360 basis point increase in the revenue per piece growth rate. A decline in fuel surcharge revenue combined with a stronger U.S. dollar negatively impacted the revenue per piece growth rate by 80 basis points. And finally, lower demand-related surcharge revenue decreased the revenue per piece growth rate by 80 basis points. In the first quarter, total international expense was down $163 million, a decline of 4.4%. Similar to previous quarters, we leveraged the agility of our integrated network to reduce block hours by 6.6%. Operating profit in the international segment was $682 million, down $124 million year-over-year. Operating margin in the first quarter was 16%. Now looking at supply chain solutions, in the first quarter, revenue was $3.2 billion, down 5.3% year-over-year. Looking at the key drivers, within forwarding, market rates in international air freight continue to drive down top-line revenue. On the ocean side, excess market capacity continued to pressure market rates and drove a decrease in revenue despite volume growth. And our truckload brokerage unit continued to face soft demand and market rate pressures. Logistics delivered revenue growth and increased operating profit driven by gains in health care. In the first quarter, supply chain solutions generated operating profit of $226 million, down $32 million year over year, and an operating margin of 7%. Walking through the rest of the income statement, we had $195 million of interest expense. Our other pension income was $67 million, and our effective tax rate for the first quarter was 26.8%. Now let's turn to cash and shareowner returns. In the first quarter, we generated $3.3 billion in cash from operations. Free cash flow for the period was $2.3 billion. We finished the quarter with strong liquidity and no outstanding commercial paper. Also in the first quarter, UPS rewarded shareholders with $1.3 billion in dividends. Turning to our outlook, as Carol mentioned, we are reaffirming our 2024 consolidated financial targets. For the full year 2024, on a consolidated basis, revenues are expected to range between $92 and $94.5 billion, and we expect to generate a consolidated operating margin ranging from approximately 10 to 10.6%. Looking at the shape of the year, in the first half of the year, we expect consolidated operating profit to be down between 20 and 30 percent. And in the back half of the year, we expect volume and revenue growth to accelerate as we lap the diversion we experienced as a result of our labor negotiations. Additionally, our labor cost growth rate will drop substantially. We will also see the majority of the $1 billion in savings from Fit to Serve. We still expect revenue per piece to outperform cost per piece. And lastly, in U.S. domestic, we expect to exit the year at a 10% operating margin. Looking at cash flow and capital spending, for the full year in 2024, we still expect capital expenditures to be within our target of around 5% of revenue, or $4.5 billion. We're reviewing certain aspects of our pension strategy, and so we expect free cash flow to be within a range of approximately $5.9 to $6.7 billion before reflecting any pension contributions. Now let me share more detail about servicing air cargo for the USPS. This is good business for us, and we are moving quickly to begin onboarding this cargo. We will leverage our integrated network and existing assets, and we expect the majority of the volume will fit within our current US domestic daytime flight operations. Our operators and engineers are already planning the network to support the complete transition to UPS in the third quarter. In terms of financial reporting, the revenue and expense associated with USPS Air Cargo will show up in the SCS other line in our financial reporting. Adding the USPS Air Cargo volume to our existing network will result in a higher share of the network cost being allocated to SCS, indirectly benefiting our U.S. domestic segment. We expect to see a benefit to operating margins this year at both the consolidated level and within the U.S. domestic segment. To wrap up, we are also reaffirming our three-year consolidated revenue and operating margin targets we put forth at our March Investor and Analyst Day. Specifically, we aim to grow revenue to be between $108 and $114 billion by 2026. The high end of the range includes inorganic opportunities, primarily in healthcare and international. Additionally, we expect to expand our consolidated operating margin to more than 13% by 2026, which includes expanding our domestic operating margin to at least 12%. And I'll note that the USPS volume is consistent with our better and bolder approach to grow in the parts of the market that leverage our integrated network, and it gives us a strong start toward our 2026 targets. With that, thank you, and operator, please open the lines.

Thank you. We will now conduct a question and answer session. Our first question will come from the line of Brandon Oklinski of Barclays. Please go ahead.

Hey, good morning. This is Eric Morgan. I'm for Brandon. Thanks for taking the question. I just wanted to ask about the guidance in the first half. I know you mentioned 1Q kind of coming in line with your expectations, but you did call out the 40% decline expectation at the investor day. Just wondering if anything happened late in the quarter that drove EBIT above your expectations in the first quarter, and then are there anything negative going on in 2Q that led you to maintain first half guidance rather than raise it similar to the 1Q beat? Thank you.

Morgan, good morning. It's Brian. Happy to take this one. Look, our guidance for the first half of the year remains the same, declining in profit down 20% to 30%, so that's consistent. I did call out at the tail end of the quarter expected minus 40%. I've said consistently that Q1 would be the tougher quarter in the first half of the year. There were two elements that contributed to beating that 40%. One, on the top line, we did see positive volume momentum going into the end of the quarter. In fact, the last couple of weeks were basically break-even from a volume perspective. I think the last week was about 0% thereabout. So sequentially, we were seeing improved volume. But the bigger component was just some cost trading between April and March. Things like occupancy and maintenance costs shift in terms of when they hit the P&L between March and April. So no change from a guide perspective. Still down 20 to 30. Some cost timing at the end of the quarter there, but the positive was the trajectory of volume momentum. Thanks, Morgan.

Our next question will come from the line of Amit Marotra. Please go ahead.

Thanks. Carol, Brian, can you just provide a bit more details on the contribution margins associated with USPS contract? This was a zero margin business that your direct competitor, and somewhat surprisingly, is now moving from your direct competitor to you, it kind of harkens back to kind of pre-2020 when UPS was less price disciplined. And so can you just assuage concerns that this wasn't one on price and And just talk a little bit in more detail. I know you're obviously raising some block hours to fund, to service this volume, but what other costs do you kind of expect to bring on to service this billion, billion and a half of incremental revenue? Thank you.

Well, thanks very much for your question, Amit. And we're delighted to have won the air cargo business from USPS. Our kids are together in innovative solutions using our integrated network. In contrast to traditional hub and spoke models, we don't have to run all of the air volume through our main air hub at Whirlport. Of course, we will use Whirlport, but we will also use our regional gateways. That allows for splits to occur outside of the network, so they'll be built at origin, and then we will bypass the main hub and go point to point. This is an integrated solution that's very different than I think the former provider offered. We also will use all of the assets of our integrated network and that will allow us to actually optimize block hours. Now in terms of the investments that we need to make to service this volume, we have plenty of space on our existing aircraft so we won't be purchasing any aircraft. We will be hiring some pilots but less than 200 pilots and we factored all of that in to the cost model that we built. So this will be margin accretive. It will be EBS accretive beginning in year one and through the life of the contract.

Our next question will come from the line of Tom Wadowitz of UBS. Please go ahead.

Yeah, good morning. I wanted to see, you know, Brian or Carol, if you could walk through what are the key pieces of the 2Q versus 1Q ramp in EBIT. And then, you know, I guess the same thing for second half. Obviously, you've got, you know, fit to serve as a significant cost benefit, two Q versus one Q. But I think just trying to figure out how much of the improvement sequentially is based on volume that you have visibility to and how much would be based on, you know, anticipation of improvement in the broader parcel market, you know, kind of macro improvement. Thank you.

Hey, Tom, happy to take that. So listen, from a Q1 to Q2 perspective, the shape, if we look at the US, we would expect marginal growth from a volume perspective, which relative to past trends, normally Q1 steps down to Q2 from an absolute volume level. So by maintaining, that'll be a natural accretion from an EBIT perspective. The big component though, full year on a run rate basis, the fit to serve program will generate 1.3 billion in savings, and we're ramping that up in Q2. So that'll be a big driver as well as we think about it. And then from a Q1 to the back half of the year, It's the same three components, fit to serve, it's the volume lift along with the drivers of RPP, and then it's the labor contract lapping, which is the big piece on the back end of the year.

And maybe just a few more comments on RPP since our RPP in the U.S. was flat in the first quarter. We expect to see RPP growth as we head towards the back half of the year. Why? Well, first of all, fuel prices were a drag on the RPP in the first quarter. Rejection for fuel is that it's going to increase. We are also announcing a fuel surcharge later today, so those two components of fuel will be a bonus to RPP as we head towards the back half. We also are going to have a pretty peaky peak, we anticipate, for fewer operating days this year than last, which means the demand surcharge should be pretty strong this year compared to last year. And then we brought in a lot of SurePost product into our network. We're meeting our customers where they want to go. We'll be anniversarying a lot of that in the back half of the year as well. We love SurePost, by the way, but we don't expect to see the drag on the RPP from SurePost in the back half like we did in the first quarter. Any other color you'd like to provide?

I think all those that you stated, Carol, and then the volume growth, obviously, with the comps, it's going to be a big help to us.

Our next question comes from the line of Jordan Oligar of Goldman Sachs. Please go ahead.

Hi, good morning. Sort of curious, you mentioned some actions taken in the first quarter, like closing sorts and working on peak purchase transport, et cetera, amongst other things. Can you maybe talk to some additional actions that are helping to drive the profit uplift from here? not related to the volumes and maybe the headcount reduction. Thanks.

Well, productivity is a virtuous cycle here at UPS, domestically and outside of the U.S., and I just can't say enough good things about how our team is running our business. Hours are running under. The volume declines. We see higher productivity and utilization, packages per hour. You know, we measure productivity in minutes, miles, and packages per hour, and all across the board we're seeing record levels One different call-out, because we've been talking about this for a while, is safety. Our safety stats, if you will, are the best they've been in five years. And of course, if you have run a safer business, well, you don't have as many claims for workers' comp and auto liability. So a real shout-out to our operators. And then finally, you might say, well, why is the productivity getting better? One reason is because our turnover is down. And as people stay in place, well, it's just more productive. And let me throw it over. Nando, is there anything else you'd like to add on the productivity side?

No, I'm actually quite impressed with our engineers and our operators. I think the best in the business. And we're continuing to follow our game plan that we reviewed with you at the investor conference, which is keenly focused on closing down sorts, moving volume to our automation and our automated facilities. And, in fact, when I talked about pieces per head count at our conference, we're actually up 2.7 in March. So we are pushing – all of the things that help us be more productive and less reliant on labor.

And Kate, outside the United States, in your world, talk about productivity.

Yeah, absolutely. It is a consistent value at UPS and something that all of us work very hard towards every day. So when you look at the major regions around the world, we're setting records on our cube utilization both on the ground and in the air. As our margins show, we have a very good handle on expense management, and as we're unlocking more of this segment growth, healthcare specifically, SMB around the world, it only fuels that further.

We have a question from the line of Ken Hexter of Bank of America. Please go ahead.

Hey, great. Good morning. Just international margins were a bit lower than we expected. Just maybe thoughts on increased costs. It sounded like you threw out some impacts of near sourcing. And then I guess, Brian, just a clarification. You said you're moving the U.S. Postal Service, or it will be listed in SCS and benefiting domestic. I just want to understand, are you shifting costs then out of domestic into SCS? Or maybe just clarify that comment there.

Well, first on the international margin, I think Kate did a terrific job of managing costs in an environment where demand was down. There was a one-time item that we didn't call out in our prepared remarks, but if you back out that one-time item, the international margin would be 17%. The first quarter is usually our lowest margin quarter, so we anticipate that the international business and our planning for the international business to be in the high teens, as we told you.

And then on the tonnage in terms of USPS comes in through SCS Other, but because we're using a lot of the U.S. assets, we allocate costs to that business, and that will have a positive benefit on the domestic margin.

And can you clarify what the one item was there?

It was a cleanup, really, in our Rubium data mart. We just had some accounts we wrote off.

Thanks a lot for the time. Appreciate it. We have a question from the line of David Vernon of Bernstein. Please go ahead.

Hey, good morning. I've got a couple commercial questions for you. Can you talk about how the volume outlook outside of SurePost is shaping up? I think you mentioned in a couple of pockets the second derivative is getting better. But if you could talk about whether you feel better or worse about where volumes are going to end up in the year today versus when you started the year, that would be helpful. And then the second question would be on SurePost, 10% demand. for anything in small package is a very high number. When are you going to have a chance to maybe address pricing in that product? Because it does sound like you have what looks like a relative advantage in terms of marketing against the lower end of the e-commerce small package market.

So from a volume mix perspective, if I look at the volume that's in our pipeline, I would say the volume that's in our pipeline is not short post. We've got commercial volume in our pipeline, additional enterprise volume in our pipeline. So we're going to meet our customers where they want to go, but the mix is looking very different as we look ahead than it was in the first quarter. And in terms of pricing, I don't think we're going to talk pricing on this. But we always look for opportunities to optimize our pricing.

And, you know, the headwind we saw from a mix perspective, Carol alluded to this, in the back end of the year we are anniversarying a fair amount of share posts from last peak, and so the overlaps won't drive as big of a headwind.

We have a question from the line of Scott. We have a question from the line of Scott Group of Wolf Research. Please go ahead.

Hey, thanks. Good morning. Brian, so the second quarter guide, I guess, implies EBIT down anywhere from 10 to 30%. So any more directional color there? And then on this revenue cost allocation thing with the post office, is there any way to just quantify what the benefit is to the U.S. margin as you're doing this, and is that already sort of captured in the 10% margin comment for Q4, or does this now take it up versus what you previously thought?

Well, maybe I'll talk about the school year guidance, and then you can talk specifically about the second quarter. One of the questions may be, well, why aren't you changing your guidance now that you won this air cargo business and you say it's going to be margin of freedom? We were highly confident of the range of guidance that we provided at the end of the year, and we're even more confident now. But it's just too early in the year to change the guidance. So once we get through the second quarter, we'll tell you what we think the back half of the year will be. On Q2 alone, why don't you talk about that?

Sure. Scott, we're maintaining the first half at negative 20% to 30% from a profit perspective, so you can choose the element of the range you want to point towards. I think ADV and domestic, we're expecting Q2 to be slightly positive. RPP should be consistent with what we saw flattish in the first quarter as we move out of the headwinds from a mixed perspective. And as Carol said, fuel and a PSS in the back end of the year will help us. Cost per piece will get better in Q2, I'm sorry, in Q3 when we anniversary the cost of the labor contract, but somewhat similar from a Q2 perspective in the U.S. And then from an ADV perspective internationally, Kate's looking to see that business improve as we sequentially move over the course of the year. So I guess I would steer you towards the 20% to 30%. We've been very consistent on that from a profit standpoint for the first half, and you can squeeze it.

And then any thoughts on the postal shift and the margin benefit for Q4?

So here's what I'd like to do. Let's get through the second quarter, and then we'll come back and give you more color. I'd like to get some of it into the network. We've modeled it out. I want to actually see how it performs. So we'll give you more color at the end of the second quarter.

Okay. We have a question from the line of Ravi Shankar of Morgan Stanley. Please go ahead.

Thanks. Good morning, everyone. Carol, in your opening comments, you mentioned that returns were a good business because they were B2B. I'm a little surprised to hear that because it almost seems like a C2B-type business with pretty high fragmentation in the last mile. So if we could just unpack how that works through the supply chain and the profit contribution of that, that would be great. Thank you.

So we like the return business a lot. You're right. A consumer typically walks into a UPS store to start the returns. then we consolidate the returns at the UPS store and they are returned to the shipper. And that would be a B2B return. So if you think about it, I'll use our largest customer for an example. We have returns through our UPS stores with our largest customer. We take in thousands of returns for that customer and package it into one, one consolidated return that goes back to them. So that's a good business for us. And with happy returns, Now we were able to offer the same service, which is no box, no label. Same idea. Consumer walks in. They make the return. We consolidate it and return it back. That's how we think about it being a B2B business, and the margins are very attractive to us. It's density. That's one reason why the margins are so good, because you get density.

Our next question will come from the line of Brian Asenbeck of J.P. Morgan. Please go ahead.

Hey, thanks. Good morning. I appreciate you taking the question. Maybe one for Carol, one for Brian. Carol, can you just talk about, I know you don't talk too much about pricing, but you're increasing the fuel surcharge by another 50 basis points. I think that's on top of 125 in December. So I just wanted to see your thoughts on how the market could absorb that with some excess capacity. And do you still view fuel as sort of a lever in terms of all-in pricing? And for Brian, maybe you can elaborate on the pension contribution strategy you talked about. It sounded like maybe the cash contribution was on hold until some other options were considered. So any more thoughts on that would be helpful. Thank you.

So on the fuel surcharge, as we look to the rest of the year, fuel prices are increasing. And this is not atypical for us to adjust our surcharge in the face of rising fuel costs. You also should know that that doesn't impact all of our customers, clearly. Some are exempted from this. So in terms of the ability to stick, we think it will stick. And just a comment on the capacity. At our investor earnings day, we said there was about 12 million ADV excess capacity in the market. And that equilibrium is about six. You need about six. So really, the excess capacity is around six million pieces a day. And we think that will be fully absorbed by 2025. Now, you may say, why? Well, we're part of that excess. And so we're closing sorts. We're taking capacity out of the market. And our network of the future initiative is capacity neutral. Also, with our large competitors' consolidation efforts, capacity will be leaving the market. And then another player, headquartered in Seattle, well, they're regionalizing, so capacity will be taken out of market. So we think all that capacity will be absorbed in the pricing environment. It's actually very rational.

And Brian, just on your secondary question around the pension, I had quoted free cash flow X pension of 5.9 to 6.7. We do have annual service costs in the $1.4 billion range. So from a modeling perspective, you can use that as a placeholder. But the reality is we're taking a look at strategic options on pension. A little too bit of early days to comment on that, but we'll come back later in the year and share our thinking and some of the actions and activities we're pursuing.

Our pensions are very well funded. They're over 90% funded, and it gives us an opportunity just to step back for a moment and just look at our asset liability strategy, our funding strategy. So we thought we should just pause right now, take a look at it, and then if we make any decisions, we'll share that with you.

Thank you. Our next question will come from the line of Connor Cunningham of Malleus Research. Please go ahead.

Everyone, thank you. Just curious on your expectations for, I mean, sorry, you talked a little bit about volume inflecting, you know, soon. And you just talk about your expectations in terms of volumes as you move from one first half to second half. I think previously you were talking about flat up to in the U.S. domestic market. Then you came in a little bit ahead. Just trying to understand how the back half starts to look outside of just comps being pretty easy. Thank you.

So from an ADV perspective and domestic, I think that's where you're headed. With a little bit of a slight tick up in positive volume in the second quarter, we'll likely finish low single-digit decline in the first half. Second half, we'd expect that to be low single-digit increase. And you can look at it through various different lenses. We're building momentum ever since August. Each month is basically getting sequentially better. Each quarter from Q3, Q4, Q1 improves. We'd expect to see slight positive volume trends in the second quarter. And then just from a comp standpoint, I mean, if I go back from a trend perspective, over the last 10 years, our Q3 is generally about close to 300,000 ADV, better than Q1. So even if we assume flat from a Q3 to Q1, that would be 4.5% growth. So any way you cut it, we see the back end of the year. And most important, it's the visibility on the sales pipeline that we're pulling through and the volume levels we're seeing going into Q2.

Super helpful. Thank you. Our next question will come from the line of Jonathan Chappell of Evercore ISI. Please go ahead.

Thank you. Good morning. Brian, you'd mentioned the $1 billion of productivity that you expected to see in the full year 24 guide. Can you just tell us where that stands after the first quarter and how we think about the cadence throughout the rest of the year? Is it front half loaded or is it kind of extrapolated evenly by quarter?

Yeah, the initiative is progressing slightly ahead of plan. Reductions began in March and will continue through Q2. We'd expect more than 80% of the resource reductions to be complete by Q2. We're on track to that $1 billion that I mentioned, and at a full annual run rate going into next year, we'd expect 1.3. So there will be some benefit early part of next year.

Great. Thank you.

Our next question will come from the line of Daniel Armero of Stevens Incorporated. Please go ahead.

Yep. Thanks. Good morning, guys. Thanks for your questions. Wanted to follow up on the USPS contract. Carol, the air cargo, I think, should come into your network in the fourth quarter, I think, first. Any business coming in sooner than that, just to clarify? And then looking at 4Q and the outlook, are there any minimum volume components of the agreement? I mean, obviously, that customer has moved a lot of freight out of the air network as it looks to save costs by using ground. It still looks like ground is cheaper out there. So how do you protect from more of that volume leaving the air cargo market? into maybe slower transit times, similar to the rest of your business. Thanks.

Well, clearly we want to get all the volume on board at before peak. That's in their interest and our best interest. We will onboard the volume as quickly as we can. Our teams are in Washington, D.C., working with the Postal Service hand-in-hand as we build our operating plans.

Our next question will come from the line of Bascom Majors of Susquehanna. Please go ahead.

Thanks for taking my questions. As you work on cash flow with the pension strategy stuff you've talked about that we might hear more about lately this year, can you talk a little bit about the dividend? If you look at your payout guidance, it implies roughly $13 in earnings at the dividend level that you're paying now. Is there an opportunity to start to raise it more meaningfully before the earnings power of the business gets there, or do you think we need to wait and get more increases like we saw this year until the business is supporting that more linearly? Thank you.

We have a disciplined approach when it comes to capital allocation. The first use of our cash, as you know, is to invest back into our business, and the second is to pay our dividend. We have a targeted dividend payout ratio of 50%. We are higher than that. It's our intent to earn back into a 50% payout ratio over time. We have no intent to cut the dividend to make that math work. We're going to earn back into it, and the dividend is an important part of the value proposition. So we just raised the dividend, and we look to, of course, subject to board approval, we look to raise the dividend every year. Any call you'd like to add there?

Just, Carol, this year marks the 15th consecutive year we've increased the dividend, and we're committed to a stable and growing dividend. So we will earn back into that, but certainly committed to it.

And I failed to respond to Daniel's question about minimum levels within the USPS contract. I'd like to throw that over to Matt. Matt, could you answer that question?

Yes, absolutely. So thank you, Carol. First off, yeah, we do set minimums in the contract. As we built this, we identified a win-win for both the USPS and for us. It's just imperative that, one, we not only have it on the protection for our side and our business on what we're bringing on. Excuse me. but also for the USPS, because we want to make sure, as Carol mentioned, that we're onboarded before peak season, and we're bringing this on as quickly as possible, and we're working collectively with them. Nando and the team have done a great job with their operational team, and at Carol's point, we're meeting with them every week in D.C. to continue to onboard that volume to make sure it's a smooth transition.

Thanks, Matt.

Stephanie Moore of Jefferies, please go ahead.

Hi, good morning. Thank you. I wanted to touch back on the volume commentary. If you could maybe discuss in your eyes what drove the improvement as the quarter progressed and your expectations into 2Q. How much of this was from kind of actions within your own control, and then at the same time, maybe areas where the underlying environment is improving some over kind of what we've experienced over the last year, and in that case, where you've seen that improvement in the macro. Thank you.

Well, I give a shout out to our sales team. The improving volume trends are in large part due to their hard work and efforts. You may recall at the beginning of the year, we said the growth in the market wasn't going to be very grumpy this year. So the fact that we're able to see sequential improvement in the magnitude that we're seeing is really because of our sales team. We are winning new. We are gaining additional penetration of existing customers. We are meeting customers where they want us to be. And our sales team will continue to do that around the world. And that's one reason that we're confident in the volume projections that Brian has shared.

Our next question will come from the line of Bruce Chan of Stifo. Please go ahead.

Hey, thanks, and good morning, everyone. Carol, just coming back to your DAP comment from the beginning of the call, I know that's a big part of your SMB growth efforts. He said you grew 3% in the first quarter, and I can't help but notice that that's materially lower than, you know, last year's 22% growth rate. And, yeah, reading a little bit too deeply into the department, You said that the plan was over $3 billion, and then at the investor day you said materially over $3 billion. So I just want to know if there's something happening that's driving a slower growth outlook for DAP.

Yeah, thanks for the question. And I think I got it. You broke up a bit, but it's generally about DAP. So last year, in the first quarter, our DAP revenue grew 51%, and our volume grew 61%. So we didn't expect to repeat that kind of growth in the first quarter of this year. And so we were very pleased with how the DAP portfolio performed in the first quarter because it was in line with our expectations. We had anticipated a slower growth in the first quarter because there were a couple of our partners that we were working on amending the T's and C's. So we expected the growth rate to be slower and then to pick up as we move into the second quarter and the rest of the year. The projections for the DAP around the world, and we're seeing great growth outside the United States, by the way, the projections for the DAP portfolio by the end of the year is in excess of $3 billion.

Okay, that's very helpful. Thank you.

Our next question will come from the line of Scott Schneeberger of Oppenheimer. Please go ahead.

Thanks very much. Good morning. Carol, could you give us an update on your SMB progress? I'm curious how you're trending toward the long-term target domestically. And then also, how does international compare? You've spoken in the past about making nice progress there. Just curious, how does that compare to domestic right now and what type of Aspiration, can you achieve longer term? Thanks.

So we're right now at about 29% as of the end of the first quarter. And as we look towards the end of this year, we should be over 30 in the low 30s. So we're trending nicely. And Kate, outside the United States, how's SMB performing?

Yeah, our history outside the U.S. is in SMB. So we have a 62% share of SMB, and this is now where we're implementing DAP. So we're only going further. As Carol said, our DAP program and small package around the world is resonating with our SMB shippers as they look for ease and access. So that's excellent. And then I'll just also say in our freight business, We have ADAPT-like service, which is our forwarding hub, and it's actually well ahead of plan as well. So SMBs are showing that they really need access through the digital platforms, and it's resonating very well. Steven, we have time for one more question.

Our last question will be a follow-up from the line of David Vernon of Bernstein. Please go ahead, sir.

Thanks for coming back to me. I just wanted to ask about – you mentioned the pricing environment being kind of rational – Could you elaborate on how effective the GRI has been this year? What's the stick rate there? And as you think about the underlying performance in domestic yields X, some of the mixed headwinds, could you talk a little bit about the trajectory or the rate of change through the quarter?

Yeah, Dave, we had expected about a 50% keep rate. We saw roughly 250 basis points in the first quarter, so generally in line with expectations. We'd expect that base rate to continue over the course of the year. I think Carol hit on a couple of the key points around the other elements of pricing. There's a fuel piece, there's PSS in the peak season, and then there's the mixed component that we've been talking about, the focus on commercial, on SMB, and healthcare. So all those things combined give us confidence that we'll deliver a low single digit from a RPP second half of the year.

Okay, thank you.

Thanks, Ed.

Thank you.

I will now turn the floor back over to our host, Mr. P.J. Guido. Please go ahead, sir.

Thank you, Stephen. This concludes our call. Thank you for joining, and have a good day.