avatar Fedex Corporation Transportation, Communications, Electric, Gas, And Sanitary Services
  • Location: Tennessee 
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    AT THE CENTER OF IT ALL


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    FedEx delivers the certainty the w orld needs today.


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    FedEx Corporation connects the FedEx Services supports the global global economy w ith the w idest FedEx brand w ith consolidated sales, range of transportation, information marketing, information technology and supply chain services. and supply chain services. FedEx Express is the FedEx Ground is North FedEx Freight is the FedEx Custom Critical FedEx Trade Netw orks w orld’s largest express America’s second- largest U.S. regional is the “24/7” option facilitates international transportation company, largest ground carrier less-than-truckload for urgent shipments, trade as the largest- providing fast, reliable for small-package freight company, pro- providing nonstop, volume customs filer delivery to 214 coun- business shipments, viding next-day and door-to-door delivery in the United States and tries, including every including business-to- second-day delivery in the contiguous a one-stop source for address in the United residential service of heavyw eight freight United States, Canada freight forw arding, States. through FedEx Home w ithin the United and Europe. advisory services and Delivery. States and from key trade technology. international markets.


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    3 Dear Fellow Shareow ners: FedEx continues to help shape and accelerate today’s fast- and Asia and opened a new hub in Toronto that w ill improve moving w orld of business. We’re at the heart of deep changes connections betw een Canada, the United States and other in global commerce, and w e are creating new w ays to serve key markets. our customers and expand opportunities for grow th. A major additional grow th opportunity rests in potential syner- FedEx transportation services provide the single most impor- gies betw een our operating companies – part of our “ operate tant element that every shipper needs – certainty. We deliver independently, compete collectively” business model. By oper- both shipments and the related information about them exactly ating our major transportation netw orks independently, w e as customers need, virtually anyw here in the w orld. We provide can flexibly expand or contract each business as customer a broad portfolio of service options. And all of this is becoming demands dictate. At the same time, w e can create unique, cus- crucial to businesses striving to transform complex supply tomized supply chain solutions for customers, using our various chains into more efficient engines of grow th and profitability. operating companies. This deep-seated transformation of commerce – and FedEx’s For example, FedEx Freight began offering less-than-container- expanding role in it – is having a positive effect on FedEx, con- load ocean service to and from Europe through a sister company, tributing to a 9-percent increase in consolidated revenues for FedEx Trade Netw orks. The tw o teamed up again, along w ith fiscal 2003 to $22.5 billion. And despite extremely difficult FedEx Ground, to offer service from Asia to the United States via economic conditions, w e increased net income 17 percent to our new Ocean-Ground Distribution service. Customers benefit $830 million and achieved record earnings of $2.74 per diluted from faster transit times and reduced shipment handling that share. The price of FedEx common stock also reached an all- translate into increased efficiency and low er operating costs. time high during a period in w hich the S& P 500 Index fell nearly 10 percent. As these examples illustrate, w e are keenly focused on the “ compete collectively” part of our strategy. In the same vein, Capitalizing on Grow th Opportunities our sales team is taking full advantage of the pow er of our port- We are pleased – but not surprised – by these results. Based on folio by selling express services in ground-intensive industries. our new strategy outlined more than three years ago, FedEx has Our aw ard-w inning Web site – the first to offer online shipping pursued grow th opportunities domestically, internationally and and tracking – w as relaunched this year to make it easier for w ith cross-company solutions, w hile w orking to better manage customers to access the complete range of FedEx services. costs and optimize our various transport netw orks. M aintaining Cost Control In FY03, double-digit volume gains at FedEx Ground paced our W hile w e are dedicated to grow ing, w e know that w e also domestic grow th, w ith our reliable, low -cost service gaining must keep a w atchful eye on costs and expenses to reach our market share. We gave our customers even more this year financial goal of increasing net income at a pace that exceeds our by expanding our FedEx Home Delivery netw ork, w hich serves top-line revenue grow th and generates solid positive cash flow. the business-to-consumer market, to reach virtually 100 per- cent of the United States. This innovative residential delivery To these ends, at FedEx Express, w e took several measures service doubled its number of customers in a year and became this year to reduc e our c ost struc ture. By c arefully manag- profitable in the second quarter, w ell ahead of schedule. ing airc raft c apac ity, c onsolidating fac ilities and improving produc tivity, w e reduc ed FedEx Express c apital expendi- Internationally, our unsurpassed w orldw ide FedEx Express net- tures by 15 perc ent. W e rec ently offered voluntary early w ork continued to lead the market w ith FedEx International retirement and severanc e inc entives to c ertain U.S.-based Priority volume up 9 percent year-over-year. Based on regional salaried staff at FedEx Express. The incentives are expected grow th prospects, w e doubled our capacity betw een Europe to save about $150 million to $190 million a year in FY05 and


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    4 beyond. In addition, to stem esc alating pension c osts, w e • People: Our diverse and talented employees around the w orld introduc ed a Portable Pension Account that w ill result in long- are united in their absolutely, positively, w hatever-it-takes term savings. spirit. No matter w hich operating company they w ork for, their teamw ork and their commitment run purple. Overall, FedEx Corporation continued to reduce capital spending • Innovation: We w ill continue to invest in new technologies in FY03, even as w e invest in high-return projects. For example, such as a real-time w ireless pocket PC that gives our FedEx one of our largest capital commitments over the next six years Express couriers fast w ireless access to the FedEx netw ork. w ill be to nearly double our daily capacity at FedEx Ground, • Value: As w e add more value to our customers’ businesses, based on antic ipated c ontinued grow th. This $1.8-billion w e believe w e can also create more value for our shareow ners. expansion plan includes the addition, relocation or expansion of more than 330 operating facilities. As a final note, I w ould like to w elcome tw o new members to the FedEx Board of Directors – August A. Busch IV, president of We also have initiatives underw ay to grow revenue w ithout Anheuser-Busch, Inc., and John A. Edw ardson, chairman and adding assets. That’s exactly w hat w e did w ith our U.S. Postal chief executive officer of CDW Corporation. In addition, I w ould Service contract. This agreement, w hich helped boost our U.S. like to express our sincere appreciation to Ralph D. DeNunzio Express freight revenues, uses existing aircraft that w ould and F. Sheridan Garrison, w ho are retiring from the Board, for otherw ise be idle during the day. their service to FedEx. Their w ise counsel and hard w ork have All of these initiatives are part of our commitment to achieving benefited our company greatly. our stated financial goals – grow ing EPS by 10 to 15 percent, W ith a strong leadership team, a clear vision for the future and improving financial returns and generating strong cash flow. great people c ommitted to delivering superior c ustomer Delivering Certainty in Uncertain Times service, w e believe w e have the components for continued We look to the future w ith confidence and energy. We have a success. We look forw ard to a good FY04 for our customers, our solid strategy, a strong franchise in the FedEx brand – one of teammates and our shareow ners. the w orld’s most admired – and the potential for grow th and improved results as the economy improves. Sincerely, FedEx is dedicated to delivering certainty, even in uncertain times. As w e move forw ard, w e w ill focus on five critical themes, w hich w e illustrate in the stories of FedEx employees, Frederick W. Smith customers and strategic alliances beginning on the follow ing Chairman, President and Chief Executive Officer pages of this report: • Vision: It’s the foundation of any successful business, and it starts w ith the management team. Our core strategy is clear and reinforced throughout the organization through effective communications. • Service: We must continue to streamline all our internal processes that touch the customer to deliver a flaw less expe- rience every time. We are delighted at being ranked highest in the J.D. Pow er and Associates 2002 Small Package Delivery Servic e Business Customer Satisfac tion Study SM for air, ground and international delivery services, and w e look for- w ard to raising the service bar even higher.


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    Financial Highlights In millions, except earnings per share 2003 2002 Percent Change Operating Results Revenues $22,487 $20,607 + 9 Operating income 1,471 1,321 +11 Operating margin 6.5% 6.4% Net income 830 710 +17 Diluted earnings per common share $ 2.74 $ 2.34 +17 Average common and common equivalent shares 303 303 – Capital expenditures $ 1,511 $ 1,615 - 6 Financial Position Total assets $15,385 $13,812 +11 Long-term debt, including current portion 2,017 1,806 +12 Common stockholders’ investment 7,288 6,545 +11 1999 2000 2001 2002 2003 1999 2000 2001 2002 2003 1999 2000 2001 2002 2003 $2.74 $22.5 $2.32 $2.34 $19.6 $20.6 $2.10 $1.99 14.6% 14.6% $16.8 $18.3 10.9% 11.4% 12.0% REVENUE (IN BILLIONS) DILUTED EARNINGS PER COMMON SHARE RETURN ON AVERAGE EQUITY 1999 2000 2001 2002 2003 1999 2000 2001 2002 2003 1999 2000 2001 2002 2003 27.1% 26.4% $63.98 10.6% 22.8% 21.6% 21.7% $54.81 $53.95 8.9% 9.6% 7.8% 6.7% $40.00 $35.50 CAPITAL EXPENDITURES (% OF REVENUE) DEBT TO TOTAL CAPITALIZATION STOCK PRICE (MAY 31 CLOSE)


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    7 FedEx is as vital to the global supply chain as currency is to commerce. We move more types of packages to more places – in more w ays – than you might imagine. All w ith the information our customers need. That’s been both our business model and competitive advan- tage from Day One. We call it “delivering certainty.” Certainty is w hat you expect w hen you choose FedEx delivery services, and as you w ill see, it is w hat defines, differentiates and unifies us.


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    W e’ve alw ays been able to see w hat makes tomorrow w ork.


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    10 “FROM DAY ONE, FRED SM ITH HAD A VISION FOR THIS COM PANY – A VISION OF CONNECTING THE W ORLD IN WAYS THAT W E DIDN’T KNOW W ERE POSSIBLE 30 YEARS AGO.” Don Eaves, FedEx Express employee 234 FedEx is constantly evolving to meet tomorrow ’s business needs. Few people know that better than Don Eaves, a man- ager in our aircraft structural shop. Eaves has been w ith FedEx since January 2, 1973 – a full three months before the company officially took off into history by delivering 186 packages to just 25 U.S. cities using 14 small Falcon jets. At the time, the former crop duster never dreamed that FedEx Express could grow to a fleet of 643 aircraft, part of a family of companies that deliver more than 5.3 million packages a day. “ Not everyone believed in Fred’s vision, but w e did,” Eaves said. “ It’s the one thing here that never changes.”


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    11 M AKE TOM ORROW W ORK


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    The most important thing w e deliver is peace of mind.


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    14 “LAST YEAR’S PORT SHUTDOW N COULD HAVE CRUSHED OUR HOLIDAY BUSINESS. FEDEX TRADE NETW ORKS FIGURED OUT AN INGENIOUS WAY TO GET OUR PRODUCTS TO M ARKET.” Leo Vershoor, The Timberland Company, senior director of global transportation During the West Coast port shutdow n, 630,000 pairs of Timberland shoes and boots w ere stranded in Hong Kong aw aiting shipment to the United States for peak holiday sales. FedEx Trade Netw orks custom-designed a transportation solution that shipped the shoes by barge to M acau, China, transported the footw ear on nine chartered aircraft to Vancouver, Canada, and finally trucked the merchandise into the United States, clearing customs at the border. The coordinated solution helped “ save Christmas” for Timberland – a company that relies on FedEx Express and FedEx Ground to deliver its merchandise to retail stores year-round.


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    15 “YESTERDAY, I HAD KIDS STOP M E ON THE STREET AND SAY, ‘W HERE’S M Y BOOK? W HERE’S M Y BOOK?’” Iris Ferreira, FedEx Home Delivery PEACE OF M IN D How do you deliver more than 400,000 Harry Potter books in a single Saturday? Amazon.com and Barnes & Noble.com turned to FedEx Express and FedEx Home Delivery to accomplish the magical feat w hen Harry Potter and the Order of the Phoenix w as released on June 21. In just three years since its launch, FedEx Home Delivery has grow n to serve virtually 100 percent of the U.S. population – a good thing for the thousands of children anxiously aw aiting the latest Harry Potter installment. “ I love this job,” said Ferreira, a native of Brazil w ho now manages three FedEx Home Delivery routes in San Francisco. “ On a day like today, I get to make 100 kids and their parents very happy.”


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    16 “THANKS TO THE TIM ELINESS AND CONSISTENCY OF FEDEX FREIGHT, W E’VE BEEN ABLE TO M OVE PRODUCT FROM DELIVERY TRUCK TO SELLING FLOOR IN LESS THAN 12 HOURS.” Fred Boehler, Borders Group, director of supply chain management Books ring up at the cash register one at a time. But, w ith the help of FedEx Freight, they arrive at the loading docks of Borders stores by the ton – an average of nearly 2,500 pounds of books per shipment, several times a w eek. It’s all part of a w ide-ranging effort to streamline the Borders Group supply chain, speeding merchandise to the sales floor of its Borders and Waldenbooks stores. According to Boehler: “ The FedEx Freight track record has been outstanding, w ith an on-time delivery record better than 99 percent.”


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    17 “FEDEX IS A VITAL LINK IN OUR SUPPLY CHAIN IN CHINA AND ACROSS THE W ORLD. W E RELY ON ITS GLOBAL NETW ORK TO M AKE ON-TIM E DELIVERIES TO CUSTOM ERS W HO DEPEND ON OUR PRODUCTS.” Ou Liangsheng, Fairchild Semiconductor, general manager PEACE OF M IN D W hen Fairchild Semiconductor opened a new 800,000-square-foot assembly plant in Suzhou, China, it needed a strong supply chain alliance to connect the high-tech facility to customers throughout the fast-grow ing region and around the w orld. FedEx – the first company to provide express delivery service in China – w as the logical choice. Last April, to the sound of champagne toasts and exploding firew orks, Fairchild celebrated the launch of its new Suzhou facility. Employees from both companies cheered as the first carton of export products w as ceremoniously placed on a FedEx Express van.


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    No tw o w ords describe us better than “absolutely” and “positively.”


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    20 “IT’S LITERALLY A JUNGLE OUT THERE W ITH W ILD BIRDS, CROCODILES AND SCREECHING M ONKEYS JUST OUTSIDE YOUR VEHICLE. I TOLD M YSELF TO STAY CALM AND RELY ON M Y COURIER INSTINCTS.” Oscar Bernal, FedEx Express A customer in a remote area of M exico desperately needed an important package. But treacherous roads w ere making it tough for any deliveries to get through. Even on his day off, Oscar Bernal, manager of the FedEx Express station in Cancun, took it upon himself to get the job done, driving over tw o hours, across unpaved roads, on the beach w here necessary, into the dense jungle. Bernal reached his destina- tion on time to personally deliver the package – a passport the customer needed to make a trip the next day. “ I never thought tw ice,” he said. “ At FedEx, w e do w hatever it takes.”


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    21 ABSOLUTELY, POSITIVELY


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    22 “W E’RE JUST ONE CAM PAIGN IN ONE AREA. M ULTIPLY THAT BY W HAT FEDEX IS DOING AROUND THE W ORLD, AND IT M AKES YOU REALIZE THAT W E REALLY CAN M AKE A DIFFERENCE.” Debi Carrubba, FedEx Express Few honors are as prestigious as the Spirit of America Aw ard from United Way of America. This year, FedEx earned the recognition both nationally and locally. Accepting the aw ard from the Bay Area United Way, Debi Carrubba symbolized the extraordinary philanthropic efforts of FedEx and its employees around the w orld. Carrubba’s w inning campaign contributed to a cause particularly close to her heart – Camp Okizu for children w ith cancer. Her cousin, Gina, w ent to the camp at age nine after being diagnosed w ith the disease. M oney raised by FedEx helped build tw o new care-giving cabins. “ Everybody starts w ith a personal reason to get involved,” Carrubba said. “ But, being part of the FedEx family, you quickly realize that w hat you do fits into the bigger picture.”


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    23 “TO M OST PEOPLE, IT W OULD SEEM LIKE ONE PACKAGE, BUT ITS DELIVERY HELPED US W IN A $2 M ILLION ACCOUNT.” Alan Kee, Smith & Nephew Orthopaedics, engineering project manager ABSOLUTELY, POSITIVELY Alan Kee had a big problem. A physician – and potential new customer – needed one of Smith & Nephew ’s products for surgery the next day. But instead of the overnight service he requested, the package had been sent via three-day service by mistake. Smith & Nephew ’s customer contact, Ronita Pickard, called FedEx and spoke w ith Bill Davis, customer service advocate, w ho w orked w ith Kee around the clock to track the package and expedite its delivery by 7:00 that night. “ Bill not only got us w hat w e needed, he called me from his home that evening to make sure it arrived,” Kee said. FedEx’s fast response also helped deliver something else Smith & Nephew hoped to obtain – a valuable new account.


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    25 ‘’W HEN I SAW THE BURNING CAR, I JUST REACTED. I THOUGHT TO M YSELF, ‘THERE’S NO WAY I’M GOING TO LET THESE PEOPLE DIE LIKE THAT.’” Charles Ingram, FedEx Ground FedEx employees perform extraordinary feats for customers every day. But last October, Charles Ingram w as a true life- saver w hen he rescued tw o people trapped in a burning vehicle w hile on his route in metro Atlanta. Risking his ow n life, Ingram grabbed a hammer from his truck, broke the rear w indow of the fiery w reck and pulled the passenger to safety. Then he broke the front w indow to rescue the unconscious driver, w hose foot w as still pressed on the gas pedal. Thanks to Ingram’s selfless action, both victims survived the accident, as an emergency medical team quickly arrived on the scene. ABSOLUTELY, POSITIVELY


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    27 Our innovations change the marketplace.


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    28 “FEDEX REPRESENTS THE IDEAL GLOBAL BUSINESS M ODEL FOR THE FUTURE. IT’S ALWAYS BEEN A COM PANY THAT DELIVERS THE SERVICE AND INFORM ATION CUSTOM ERS NEED TO INCREASE PRODUCTIVITY AND DRIVE RESULTS.” John Chambers, Cisco Systems, CEO FedEx and Cisco are mutual customers w ith a shared vision – leveraging the pow er of netw orks to connect today’s global marketplace. Our physical netw ork enables companies to move parts and products more efficiently through intricate supply chains. Cisco’s technology pow ers virtual netw orks that provide the real-time information needed to keep those supply chains moving smoothly. “ FedEx has implemented Internet-based netw orking applications that continue to drive productivity not just for themselves, but also for their customers,” Chambers said. “ This impacts w hat’s most important for businesses large and small – the results they deliver to shareholders.”


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    29 “M ORE DATA M EANS M ORE EFFICIENT DELIVERIES. OUR GOAL IS TO PUT M ORE INFORM ATION AT OUR EM PLOYEES’ FINGERTIPS THAN ANY OTHER COM PANY CAN PROVIDE.” M ark Thomas, FedEx Services, manager of scanning technology CHANGE THE M ARKETPLACE FedEx companies scan barcodes over 62.4 million times a day to keep packages and information moving across tow n or around the globe. But the barcode is changing, from a traditional version that captures only 32 numbers to a 2D barcode that w ill carry up to 500 characters of critical tracking data. To read those new barcodes, FedEx Express w ill introduce a w ireless, handheld computer called FedEx Pow erPad. “ We’ll be able to upload data faster, plan our routes better and even allow customers to put special instructions right in the barcode,” Thomas explained. Already in use by FedEx Ground, the new data-rich 2D barcode system w ill be rolled out to FedEx Express later this year.


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    30 “THE FEDEX TRUCK IS AN AM ERICAN ICON OF THE 21ST CENTURY. ITS NEW HYBRID VEHICLES SYM BOLIZE EVEN M ORE – A COM PANY THAT IS W ILLING TO PUT ITS VALUES INTO ACTION TO M OVE US TOWARD CLEANER AIR AND A HEALTHIER PLANET.” Fred Krupp, Environmental Defense, president FedEx loves a challenge. Especially w hen it can improve both our business and our w orld. So w hen Environmental Defense, a promi- nent organization dedicated to protecting the environment, asked FedEx Express to w ork w ith its team to develop a cleaner, more efficient delivery vehicle, w e enthusiastically accepted. The result w ill be a brand new fleet of hybrid electric vehicles that w ill increase fuel efficiency by 50 percent and reduce emissions. Built by Eaton Corporation, the first 20 hybrid vehicles w ill be placed in four key cities starting at the end of the year.


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    31 CHANGE THE M ARKETPLACE


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    W e believe in the value of certainty.


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    34 “BY M ANAGING OUR BUSINESS AS A PORTFOLIO, FEDEX PROVIDES INVESTORS W ITH A UNIQUE COM BINATION OF VALUE AND GROW TH – A COM PANY ABLE TO INCREASE REVENUES AND INCOM E IN BOTH UP AND DOW N ECONOM IC CYCLES.” Gene Huang, FedEx Corporation, chief economist For more than 30 years, FedEx has invested in certainty – building a hub-and-spoke global netw ork, adding the information intensity that today’s businesses demand and diversifying the services that w e provide to customers. These investments are clearly paying off. Our flexible portfolio enables us to align w ith the fastest-grow ing economic segments to outpace economic grow th, w hile providing steady returns for our shareholders. ” We are both a grow th and a value company, so no matter w hat phase the market is in, w e’re positioned w ell,” said Huang, w ho w as honored as BusinessWeek’s most accurate economic fore- caster for 2002. “ Our portfolio is a buffer against economic shocks, helping us w eather business cycles better.”


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    35 RETURN ON CERTAIN TY


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    36 M essage from the CFO: If you don’t typically read through our financial results, I urge you to make an exception. In FY03, w e demonstrated the pow er of our diversified portfolio of services w ith great success, and it’s clearly illustrated on the follow ing pages. W hen you look through our consolidated results, you’ll see a pow erful yet flexible transportation company that has learned to capitalize on the strengths of its individual subsidiaries. W hile our domestic businesses continued to be pressured by a sluggish economy, total revenue grew 9 percent on the strength of FedEx Ground, our FedEx Express international business and higher yields at FedEx Freight. On the expense side, w e came into the year know ing w e’d incur certain unavoidable costs – including an $80 million increase in pension expense, higher fuel prices and rising healthcare costs. How ever, w e still managed to grow operating income, net income and earnings per share at double- digit rates. Once again, w e reduced capital expenditures w hile investing in several important projects at our fastest-grow ing business segments. Despite the more than $1 billion contribution to our pension plans, FedEx w as cash-flow positive for the second con- secutive year. This helped us fund our dividend and stock repurchase programs. Cash levels increased by $207 million and total common stockholders’ investment improved by $743 million during the year. W hen you read the results from our major operating companies, you’ll see three companies w ith very different business environ- ments but very similar business goals. Our FedEx Express unit remained hardest hit by the current environment. Domestic volume increased just 1 percent overall, but the rebound in international express volumes and the transportation agreement w ith the U.S. Postal Service helped FedEx Express grow revenue by 7 percent. How ever, since FedEx Express incurred the bulk of the previously mentioned cost increases, operating income fell 3 percent. FedEx Express continues to align its cost structure w ith current demand levels to improve productivity. The recently announced voluntary early retirement and severance programs are important steps in that process. At FedEx Ground, volume and yield show ed continued strength, leading to a 47 percent increase in operating income and a 14.5 percent operating margin. FedEx Ground is focused on sustaining its grow th and productivity, as it continues its six-year plan to double netw ork capacity. FedEx Freight finished the year w ith solid yield grow th, increasing revenue by 8 percent and operating income by 6 percent. Yield management and service enhancement w ill continue to be important focus items w hile FedEx Freight positions itself to take full advantage w hen the economic recovery gains momentum. One last, and very important, point: as you read our results, you can have complete confidence in our financial reporting. Our Internal Audit department examines the effectiveness of our controls and processes across the corporation on an ongoing basis to ensure consistent, accurate financial reporting. Our Audit Committee, along w ith our external auditors, is very involved in the review of our disclosures. FedEx has a long history of providing high-quality, transparent financial disclosures, and w e’ve w orked hard to make our disclosures even more transparent and easier to understand. You can read a detailed explanation of the critical accounting policies and judgments w e make in the M anagement’s Discussion and Analysis section of this report. Thank you for your continued support as a FedEx shareholder. After reading the follow ing report, I hope you w ill share my enthu- siasm for the quality of this year’s financial results, my confidence in our portfolio of services and my faith in our ability to deliver improved returns across all of our businesses. Alan B. Graf, Jr. Executive Vice President and Chief Financial Officer


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    MANAGEMENT’S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND FINANCIAL CONDITION 37 GENERAL RESULTS OF OPERATIONS The following management’s discussion and analysis describes Consolidated Results the principal factors affecting the results of operations, liquidity The following table compares revenues, operating income, oper- and capital resources, as well as the critical accounting policies, ating margin, net income and diluted earnings per share (dollars of FedEx Corporation (also referred to as “FedEx”). This discus- in millions, except per share amounts) for the years ended May 31: sion should be read in conjunction with the accompanying Percent Change audited financial statements, which include additional informa- 2003/ 2002/ 2003 2002 2001(1) 2002 2001 tion about our significant accounting policies, practices and the transactions that underlie our financial results. Revenues $ 22,487 $20,607 $19,629 + 9 + 5 Operating income $ 1,471 $ 1,321 $ 1,071 +11 +23 FedEx is one of the largest transportation companies in the Operating margin 6.5% 6.4% 5.5% world. Our business strategy is to offer a portfolio of transporta- Net income $ 830 $ 710 (2) $ 584 +17 +22 tion services through our independently operated business units. Diluted earnings These business units are primarily represented by our reportable per share $ 2.74 $ 2.34 $ 1.99 +17 +18 operating segments: FedEx Express, the world’s largest express (1) Results for 2001 include noncash charges of $102 million for impairment of certain transportation company; FedEx Ground, North America’s second assets related to aircraft programs at FedEx Express and a $22 million reorganization largest provider of small-package ground delivery service; and charge at FedEx Supply Chain Services. These charges were $78 million after tax or $0.27 FedEx Freight, the largest U.S. provider of regional less-than- per diluted share. See Notes 19 and 21 to the accompanying audited financial statements. (2) Results for 2002 reflect our adoption of SFAS 142, “Goodwill and Other Intangible truckload (“LTL”) freight services. Our diversified portfolio of Assets.” We recognized an adjustment of $25 million ($15 million or $0.05 per share, net of services has allowed FedEx to continue to generate revenue and tax) to reduce the carrying value of certain goodwill to its implied fair value. See Note 4 earnings growth during challenging economic times. to the accompanying audited financial statements. The key factors that affect our operating results are the volumes Revenue growth during 2003 was attributable to the continued of shipments transported through our networks, as measured by substantial growth of our FedEx Ground business, increased our average daily volume; the mix of services purchased by our international volumes at FedEx Express and higher revenues at customers; the prices we obtain for our services, as measured FedEx Freight. Increased U.S. freight volumes at FedEx Express by average price per shipment (yield); our ability to manage our also contributed to consolidated revenue growth, as we benefited cost structure for capital expenditures and operating expenses from a full twelve months of revenue under the transportation such as salaries, wages and benefits, fuel and maintenance; and agreement with the U.S. Postal Service (“USPS”), which com- our ability to match operating costs to shifting volume levels. menced in late August 2001. During 2002, revenue growth Except as otherwise specified, references to years indicate our reflected a 21% increase at FedEx Ground and increased U.S. fiscal year ended May 31, 2003 or ended May 31 of the year freight volumes from the USPS agreement. In 2002, volume levels referenced and comparisons are to the prior year. in our FedEx Express U.S. domestic and international package services declined as a result of weakness in the U.S. and global economies (particularly in the manufacturing and wholesale sectors) and the impact of the September 11, 2001 terrorist attacks. Operating income increased 11% in 2003 as FedEx Ground improved its operating margin to 14.5%, which more than offset a decline in the operating margin at FedEx Express. The sluggish economy, combined with significant increases in pension and healthcare costs and higher maintenance expenses, reduced profitability at FedEx Express in 2003 despite continued cost control efforts. Variable compensation declined in 2003 based on below-plan performance at FedEx Express. During 2002, operating income increased 23%, largely due to the contributions of FedEx Ground and FedEx Freight, and the fact that 2001 included approximately $124 million in noncash charges (discussed below). Discretionary spending (such as professional fees and travel-related expenses) stayed relatively flat in 2003, as cost control remained a focus. During 2002, discretionary spending was approximately $108 million lower.


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    FEDEX CORPORATION 38 Pension costs were approximately $80 million higher in 2003 on The performance of FedEx Ground and revenue growth from top of a $90 million increase in 2002, due principally to lower FedEx Freight East (which was acquired in the third quarter of discount rates and decreased returns on pension plan assets. 2001) contributed to improved net income for 2003 and 2002, but Although not required, we made additional contributions exceed- was mitigated by continued softness in U.S. domestic package ing $1 billion to our qualified U.S. domestic pension plans during volumes at FedEx Express over the last two fiscal years. Results 2003 to ensure that our pension plan assets exceeded the related for 2002 also reflect the cessation of $36 million of goodwill amor- accumulated benefit obligations at our February 28, 2003 plan tization, as required under the new accounting rules for goodwill measurement date. adopted June 1, 2001, that would have been recorded in operating expenses. Goodwill amortization expense was $26 million for 2001. During 2002, we implemented new indices for calculating fuel surcharges at FedEx Express and FedEx Ground, which more Other Income and Expense and Income Taxes closely link the surcharges to prevailing market prices for jet and Net interest expense was 15% lower in 2003 due to reduced bor- diesel fuel. Higher net fuel costs negatively affected operating rowings. In 2002, net interest expense was slightly lower, as we income during 2003, as fuel surcharge revenue increases did not utilized available cash to reduce debt balances during the year keep pace with rising fuel prices. Although still negative for the (see “Financial Condition”). In 2002, other nonoperating expenses year, the net impact of higher fuel prices on 2003 earnings was included losses of approximately $17 million from the early mitigated during the fourth quarter as fuel prices declined faster retirement of debt assumed in the FedEx Freight East acquisition than the decrease in fuel surcharge revenue. Lower fuel prices and the refinancing of certain capital lease obligations. during 2002 had a positive impact on operating expenses; how- ever, declines in fuel surcharge revenue more than offset Our effective tax rate was 38.0% in 2003, 37.5% in 2002 and 37.0% the impact of lower fuel prices on operating income. We effec- in 2001. The 38.0% effective tax rate in 2003 was higher due to tively closed jet fuel hedging contracts at the end of 2001 by lower state taxes in 2002. The 37.5% effective tax rate in 2002 entering into offsetting contracts. The maturity of these contracts was higher than the 2001 effective rate, primarily due to the uti- increased 2002 fuel costs by approximately $15 million. lization of excess foreign tax credits in 2001. The 2002 rate was favorably impacted by the cessation of goodwill amortization and During 2001, as a result of lower U.S. domestic volumes at FedEx by several other factors, none of which were individually signifi- Express and lower capacity growth forecasts, we committed to cant. The effective tax rate exceeds the statutory U.S. federal tax eliminate certain excess aircraft capacity related to our MD10 rate primarily because of state income taxes. For 2004, we expect program (which upgrades and modifies our older DC10 aircraft to the effective tax rate to be approximately 38.0%. The actual rate, make them more compatible with our newer MD11 aircraft). By however, will depend on a number of factors, including the curtailing the MD10 program, we eliminated significant future amount and source of operating income. capital expenditures through 2008. During 2001, we also took actions to reorganize our FedEx Supply Chain Services subsidiary Airline Stabilization Compensation to eliminate certain unprofitable, non-strategic logistics business Operations in 2002 were significantly affected by the terrorist and reduce its overhead. In addition, due to the bankruptcy of attacks on September 11, 2001. During 2002, we recognized a Ayres Corporation, we wrote off deposits and related items in total of $119 million of compensation under the Air Transportation 2001 in connection with the Ayres ALM200 aircraft program. Safety and System Stabilization Act (the “Act”), of which $101 Following is a summary of these pretax charges (in millions): million has been received as of May 31, 2003. The amounts rec- ognized were for our estimate of losses we incurred as a result Impairment of certain assets of the mandatory grounding of our aircraft and for incremental related to the MD10 aircraft program $ 93 losses incurred through December 31, 2001. All amounts recog- Strategic realignment of logistics subsidiary 22 nized were reflected as reduction of operating expense under Ayres program write-off 9 the caption “Airline stabilization compensation.” Total $124 Results for 2002 were favorably affected by approximately $12 million, related to the charges above, based on actual outcomes as compared to the original estimates. No material amounts remained on our balance sheet for these items at the end of 2002.


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    MANAGEMENT’S DISCUSSION AND ANALYSIS 39 In the fourth quarter of 2003, the Department of Transportation Outlook (“DOT”) asserted that we were overpaid by $31.6 million and has During 2004, we expect the U.S. economy to remain sluggish at demanded repayment. We have filed requests for administrative least through our first quarter, with year-over-year economic and judicial review of this determination. We believe that we improvement expected to be evident in our second half results. have complied with all aspects of the Act, that it is probable we We believe the fundamentals for domestic economic accelera- will ultimately collect the remaining $18 million receivable and tion in the U.S. economy are in place, including supportive that we will not be required to pay any portion of the DOT’s conditions in the overall financial markets, the recently approved $31.6 million demand. We cannot be assured of the ultimate out- tax stimulus package, continued accommodative monetary policy come; however, it is reasonably possible that a material reduction and improved consumer confidence. Our management teams to the $119 million of compensation we have previously recognized are focusing on sizing our network for current economic condi- under the Act could occur. tions, improving our service offerings, enhancing the customer experience and positioning FedEx to take full advantage of an Cost Savings Initiatives economic recovery. We continue to believe we are well posi- On June 2, 2003, FedEx Express announced it will offer voluntary tioned for long-term growth when the economy, particularly the early retirement and severance programs during 2004 to continue manufacturing and wholesale sectors, recovers and experiences resizing the FedEx Express U.S. organization and improving prof- sustained growth. itability. The first program will offer voluntary early retirement For 2004, we anticipate revenue and volume growth in all seg- incentives, with enhanced pension and postretirement healthcare ments if our expectations of a sustained economic recovery benefits, to certain groups of employees who are age 50 or older. during the second half of 2004 are realized. Our revenue growth The second program will offer voluntary severance incentives to strategies will leverage our “compete collectively” philosophy. eligible employees. Both programs are limited to eligible U.S. FedEx Ground will continue its six-year expansion plan and salaried staff employees and managers at FedEx Express. FedEx Freight will continue to enhance its portfolio of services. Depending on employee acceptance rates, the pretax charge for Increasing pension and healthcare expenses, as well as the net these programs is estimated to be $230 million to $290 million in costs of our voluntary early retirement and severance programs, 2004, with most of the charge to be incurred in the first half of the will negatively impact operating margins during 2004. We expect year. Approximately one-third of the pretax charge will be cash. our net pension cost for 2004 will increase by approximately $115 The remainder of the costs relate primarily to pension and million based on a continued decline in interest rates, negative postretirement healthcare liabilities. The cost of these programs asset returns and a decrease in the expected long-term rate of will be reflected as a separate component of operating expenses. return on pension plan assets from 10.10% to 9.10%. Despite The estimated savings from these programs are expected to be these increases in employee retirement costs, our retirement $100 million to $130 million in 2004, primarily in the second half programs continue to be adequately funded with assets more of the year. Thus, the net cost of these programs in 2004 is than sufficient to meet our current obligations. See further dis- expected to be $130 million to $160 million. In 2005 and beyond, cussion in “Critical Accounting Policies and Estimates.” the estimated annual savings from these programs are expected to be $150 million to $190 million. The savings from these pro- During 2003, we announced to our employees that the FedEx grams will be reflected primarily in lower ongoing salaries, Corporation Employees’ Pension Plan would be amended to add wages and benefit costs. a cash balance feature, which we call the Portable Pension Account. Eligible employees as of May 31, 2003 may make a one- Over the past few years, we have taken many steps to bring our time election to accrue future pension benefits under either the expense growth in line with revenue growth, particularly at new cash balance formula or the traditional pension benefit for- FedEx Express, while maintaining our industry-leading service mula. This election is entirely optional. In either case, employees levels. We have significantly decreased capital expenditures by will retain all benefits previously accrued under the traditional reducing aircraft orders, consolidating facilities and discon- pension benefit formula and will continue to receive the benefit tinuing low-value programs. The voluntary early retirement and of future salary increases on benefits accrued as of May 31, severance programs are another step in this ongoing process of 2003. Eligible employees hired after May 31, 2003 will participate reducing our cost structure in order to increase our competitive- in the Portable Pension Account. While this new program will ness, meet the future needs of our employees and provide the provide employees greater flexibility and reduce our long-term expected financial returns for our shareholders. pension costs, it will not have a material effect on 2004 results.


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    FEDEX CORPORATION 40 We believe our long-term growth strategy will provide improved Seasonal fluctuations affect tonnage, revenues and earnings. profits from increases in shipping by high-tech and high-value- Normally, the fall of each year is the busiest shipping period for added businesses and the globalization of the economy. Our FedEx Ground and FedEx Custom Critical, while the latter part of long-term corporate financial objectives are to increase cash December, January, June and July of each year are the slowest flow and financial returns by improving our operating margin, periods. For FedEx Freight, the spring and fall of each year are principally at FedEx Express, and through continued growth at our the busiest shipping periods and the latter part of December, FedEx Ground and FedEx Freight segments. We plan to accom- January and February of each year are the slowest periods. plish this goal by increasing volumes and by matching our cost Shipment levels, operating costs and earnings for each of structure and capital expenditures to expected business levels. our operating companies can also be adversely affected by At FedEx Express, we expect operating margin improvement will inclement weather. require a return to consistent growth in those sectors of the U.S. economy that most use domestic express air transportation. New Accounting Pronouncements Margin growth will also depend on increasing volumes of heavier A number of new accounting pronouncements were enacted packages at higher yields and a rational pricing environment. during 2003, mostly in connection with attempts to improve the transparency of financial reporting. None of these new Future results will depend upon a number of factors, including the pronouncements had a material effect on our financial position timing, speed and magnitude of the U.S. domestic economic or results of operations during 2003. See Note 2 to the accompa- recovery, the extent to which eligible employees participate in our nying audited financial statements for discussion of these recent voluntary early retirement and severance programs, the impact accounting pronouncements. from any terrorist activities or international conflicts, our ability to match our cost structure and capacity with shifting volume levels Reportable Segments and our ability to effectively leverage our new service and growth Our reportable operating segments are FedEx Express, FedEx initiatives. In addition, adjustments to our fuel surcharges lag Ground and FedEx Freight, each of which operates in a single line changes in actual jet and diesel fuel prices paid. Therefore, our of business. Included within “Other” are the operations of FedEx operating income could be materially affected should the spot Custom Critical, FedEx Trade Networks and FedEx Services. price of fuel suddenly change by a significant amount or should “Other” also includes certain unallocated corporate items and we be unable to further increase our fuel surcharge in response eliminations. Management evaluates segment financial perfor- to rising fuel prices due to competitive pressures. mance based on operating income. FedEx Services provides the Although increased security requirements for air cargo carriers customer-facing sales, marketing and information technology have been put in place and further measures may be forthcoming, functions, primarily for our FedEx Express and FedEx Ground as of yet we have no estimate of what impact any such measures reportable segments. The costs for these activities are allocated may ultimately have on our results of operations. See “Forward- based on metrics such as relative revenues and estimated ser- Looking Statements” for a more complete discussion of potential vices provided. These allocations materially approximate the risks and uncertainties that could materially affect our future cost of providing these functions. The line item “Intercompany performance. charges” on the accompanying financial summaries of our reportable segments includes the allocations from FedEx Services Seasonality of Business to FedEx Express, FedEx Ground and FedEx Freight, and certain Our express package and freight businesses are seasonal in other costs such as corporate management fees. In addition, nature. Historically, the U.S. express package business experi- “Intercompany charges” also includes allocated charges to our ences an increase in volumes in late November and December. operating companies for management fees related to services International business, particularly in the Asia to U.S. market, received for general corporate oversight, executive officers and peaks in October and November due to U.S. holiday sales. Our certain legal and finance functions. We believe the total amounts first and third fiscal quarters, because they are summer vacation allocated reasonably reflect the cost of providing such services. and post winter-holiday seasons, have historically exhibited See Note 13 to the accompanying audited financial statements lower volumes relative to other periods. for further discussion of our reportable segments. The transportation and logistics industry is affected directly by the state of the overall domestic and international economies.


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    MANAGEMENT’S DISCUSSION AND ANALYSIS 41 FedEx Express The following table compares revenues, operating expenses and operating income and margin (dollars in millions) and selected statistics (in thousands, except yield amounts) for the years ended May 31: Percent Change Percent Change 2003/ 2002/ 2003/ 2002/ 2003 2002 2001 2002 2001 2003 2002 2001 2002 2001 Revenues: Package statistics: Package: Average daily package volume (ADV): U.S. overnight box $ 5,432 $ 5,338 $ 5,830 + 2 - 8 U.S. overnight box 1,176 1,170 1,264 + 1 - 7 U.S. overnight envelope 1,715 1,755 1,871 - 2 - 6 U.S. overnight envelope 679 699 757 - 3 - 8 U.S. deferred 2,510 2,383 2,492 + 5 - 4 U.S. deferred 897 868 899 + 3 - 3 Total U.S. domestic 9,657 9,476 10,193 + 2 - 7 Total U.S. domestic 2,752 2,737 2,920 + 1 - 6 International Priority (IP) 4,367 3,834 3,940 +14 - 3 IP 369 340 346 + 9 - 2 Total package revenue 14,024 13,310 14,133 + 5 - 6 Total ADV 3,121 3,077 3,266 + 1 - 6 Freight: Revenue per package (yield): U.S. 1,564 1,273 651 +23 +96 U.S. overnight box $18.18 $17.90 $18.09 +2 -1 International 400 384 424 + 4 - 9 U.S. overnight envelope 9.95 9.84 9.69 + 1 +2 Total freight revenue 1,964 1,657 1,075 +19 +54 U.S. deferred 11.02 10.77 10.87 +2 -1 Other 363 360 326 + 1 +10 U.S. domestic Total revenues 16,351 15,327 15,534 + 7 - 1 composite 13.82 13.58 13.69 +2 -1 Operating expenses: IP 46.59 44.16 44.70 +6 -1 Salaries and employee Composite yield 17.69 16.96 16.97 +4 – benefits 6,855 6,467 6,301 + 6 + 3 Freight statistics: Purchased transportation 608 562 584 + 8 - 4 Average daily freight pounds: Rentals and landing fees 1,548 1,524 1,419 + 2 + 7 U.S. 8,969 7,736 4,337 +16 +78 Depreciation and International 2,174 2,082 2,208 +4 - 6 amortization 801 806 797 - 1 + 1 Total average daily Fuel 1,231 1,009 1,063 +22 - 5 freight pounds 11,143 9,818 6,545 +13 +50 Maintenance and repairs 1,084 980 968 +11 + 1 Revenue per pound (yield): Airline stabilization U.S. $ .69 $ .65 $ .59 + 6 +10 compensation – (119) – n/a n/a International .72 .72 .75 – - 4 Intercompany charges 1,347 1,332 1,317 + 1 + 1 Composite yield .69 .66 .64 +5 + 3 Other (1) 2,091 1,955 2,238 + 7 - 13 Total operating (1) 2001 includes a $93 million charge for impairment of the MD10 aircraft program and a $9 million charge for the Ayres program write-off. expenses 15,565 14,516 14,687 + 7 - 1 Operating income $ 786 $ 811 $ 847 - 3 - 4 Operating margin 4.8% 5.3% 5.5%


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    FEDEX CORPORATION 42 FedEx Express Revenues Total freight revenue for 2003 and 2002 increased significantly FedEx Express total revenues increased 7% in 2003, largely due due to higher U.S. freight volume and yield, reflecting the impact to increased IP and U.S. freight revenues. Year-over-year revenue of the USPS transportation agreement, which began in August comparisons reflect the impact in 2002 of the terrorist attacks on 2001 and runs through August 2008. During 2003, FedEx Express September 11, 2001, which adversely affected both U.S. outbound entered into a third addendum to the transportation agreement international shipments and U.S. domestic shipments, and the with the USPS, allowing FedEx Express to continue carrying economic decline that began in calendar 2001. Higher U.S. freight incremental pounds of mail through May 29, 2004 at higher com- revenues from increased average daily pounds during 2003 also mitted volumes than required under the original agreement. affected year-over-year revenue comparisons, as we benefited from a full twelve months of operations and higher shipping levels FedEx Express Operating Income under our transportation contract with the USPS. During 2003, the 3% decrease in operating income and the decline in operating margin at FedEx Express was attributable to During 2003, total package revenue increased 5%, due to in- increased employee benefit costs, higher maintenance expenses creases in IP volumes and yield. IP volume growth occurred and, to a lesser extent, the net impact of higher fuel costs in an predominantly in Asia and Europe, which experienced average economic environment of sluggish U.S. domestic average daily daily volume growth rates of 21% and 11%, respectively, during package volumes. The decrease in operating income was also 2003. In the United States, package revenue increased 2% in somewhat attributable to one fewer operating day during the year. 2003 due to higher yield and volumes in the U.S. deferred and Operating results during 2003 were impacted by unusually inclement U.S. overnight box categories. Total average daily package vol- weather during the winter and spring, which decreased business umes for 2003 were at levels experienced in 1998. Average daily shipping, reduced operational efficiency and increased certain volumes decreased during 2002 in virtually all package cate- operating costs, such as for snow removal and de-icing. gories, resulting in a 6% decrease in total package revenue. While IP volumes decreased 2% in 2002, principally due to a In 2002, operating income at FedEx Express decreased 4% as decline in U.S. outbound shipments, the European and Asian package volume declines on a largely fixed cost structure markets positively impacted IP volumes. For 2002, FedEx Express more than offset continued cost management actions. Excluding experienced IP average daily volume growth rates of 15% and $102 million of asset impairment charges taken in 2001, operat- 5% in the European and Asian markets, respectively. ing income was down 15% in 2002. In 2001, operating income decreases reflected charges related to the impairment of aircraft Yields at FedEx Express increased in 2003 in nearly all service in the fourth quarter (see “Consolidated Results”). categories and composite average weight per package was flat. The increase in U.S. domestic package yield during 2003 was due Salaries, wages and benefits were higher during 2003 and 2002 to higher fuel surcharge revenue and average list price increases. due to wage rate increases and higher pension and healthcare For U.S. domestic shipments and U.S. outbound international costs. Also, the increase was partially the result of cost increases shipments, an average list price increase of 3.5% became effec- related to the USPS contract. Incentive compensation provisions tive January 6, 2003. IP yield improvements during 2003 were due declined in 2003 and 2002 based on below-plan performance. to favorable exchange rate differences, increased fuel surcharge Fuel consumption was higher in 2003 and 2002, primarily due to an revenue and growth in higher-yielding lanes. Package yields in increase in aircraft usage as a result of incremental U.S. freight 2002 were slightly lower in virtually all service categories due to pounds transported under the USPS agreement and IP vol- a decrease in average weight per package and a decline in fuel ume growth. During 2003, fuel costs were higher, due to a 16% surcharge revenue. increase in the average price per gallon of aircraft fuel. Higher net Fuel surcharge revenue was higher in 2003 due to higher jet fuel costs at FedEx Express negatively affected operating income fuel prices and the introduction of a dynamic international fuel during 2003 by $24 million, as fuel surcharge revenue increases surcharge in September 2002. Our fuel surcharge is based on the were not sufficient to offset higher jet fuel prices. Fuel costs were spot price for jet fuel. During 2002, fuel surcharge revenue was down during 2002, due to a 12% decrease in the average price per lower compared to 2001 because our dynamic index for deter- gallon of aircraft fuel. During 2002, lower fuel surcharge revenue, mining our U.S. domestic fuel surcharge was not implemented net of the impact of lower fuel prices, negatively impacted oper- until the second quarter of 2002. Using this index, the U.S. domes- ating income by $32 million. During 2001, higher jet fuel prices tic fuel surcharge ranged between 2.0% and 5.5% during 2003 negatively affected operating income by approximately $150 mil- and between 0% and 3% from November 2001 through May 2002. lion, including the results of jet fuel hedging contracts. The fuel surcharge during all of 2001 was 4%. International fuel Maintenance expenses were higher during 2003, primarily due to surcharges were as high as 6% during 2003. the timing of scheduled maintenance events. Depreciation and


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    MANAGEMENT’S DISCUSSION AND ANALYSIS 43 amortization expense declined during 2003 reflecting a trend of FedEx Ground decreasing levels of capital spending, as well as changes in The following table compares revenues, operating expenses and estimated useful lives and salvage values. operating income and margin (dollars in millions) and selected package statistics (in thousands, except yield amounts) for the During 2002, rentals and landing fees were higher primarily due years ended May 31: to an increase in aircraft usage as a result of incremental U.S. Percent Change freight volume. Operating income for 2002 also reflects the 2003/ 2002/ 2003 2002 2001 2002 2001 adoption of new rules from the Financial Accounting Standards Board for the treatment of goodwill and other intangible assets. Revenues $3,413 $ 2,711 $ 2,237 +26 +21 For FedEx Express, adoption of these new rules resulted in the Operating expenses: cessation of $12 million in goodwill amortization that would have Salaries and employee been recorded in operating expenses during 2002 (this amorti- benefits 637 532 450 +20 +18 zation amount was comparable to 2001). Purchased transportation 1,294 1,032 881 +25 +17 Rentals 79 71 67 +11 + 6 During 2003, other operating expenses also increased at FedEx Depreciation and Express. In the prior year, reimbursements from the USPS for amortization 153 132 111 +16 +19 network expansion costs were reflected as credits to other oper- Fuel 11 4 8 +175 - 50 ating expenses. These reimbursements, however, had no effect Maintenance and repairs 86 73 63 +18 +16 on operating income, as they represented the recovery of incre- Intercompany charges 329 238 215 +38 +11 mental costs incurred. Partially offsetting operating costs during Other 329 292 267 +13 + 9 2003 was a gain from the insurance settlement on an aircraft Total operating destroyed in an accident in July 2002 that resulted in a net $8 expenses 2,918 2,374 2,062 +23 +15 million favorable impact on operating income. During 2002, other Operating income $ 495 $ 337 $ 175 +47 +93 operating expenses included $27 million from the favorable reso- Operating margin 14.5% 12.4% 7.8% lution of certain state tax matters. Average daily package volume 2,168 1,755 1,520 +24 +15 FedEx Express Outlook Revenue per package (yield) $ 6.25 $ 6.11 $ 5.79 + 2 + 6 We expect revenue to increase at FedEx Express during 2004, in both the domestic and international markets. During 2004, we FedEx Ground Revenues expect the U.S. economy to remain sluggish at least through our FedEx Ground realized double-digit revenue growth in both 2003 first fiscal quarter, with year-over-year improvement expected to and 2002 due to increased volumes in our business-to-business be evident in our second half results. We believe the fundamen- shipments and continued growth of our home delivery service. tals for domestic economic acceleration in the U.S. economy are During 2003, FedEx Home Delivery added facilities to reach nearly in place and, as a result, we expect to see improvements in 100% coverage of the U.S. population. both yields and volumes. Pension, healthcare and maintenance expenses are expected to continue to increase at a faster rate Yield at FedEx Ground increased in 2003, due to an average list than revenue growth. price increase of 3.9%, which became effective January 6, 2003. Partially offsetting the effect of the price increase were higher On June 2, 2003, we announced that FedEx Express will offer levels of discounts and lower average weight per package. voluntary early retirement and severance programs during 2004 In 2002, year-over-year yield increases were due primarily to to continue resizing the FedEx Express U.S. organization and general rate increases, ongoing yield management and a slight improving profitability. See “Cost Savings Initiatives” for further increase in the mix of higher yielding packages. discussion of these programs. In the third quarter of 2002, FedEx Ground implemented a dynamic While the net cost of these programs is expected to negatively fuel surcharge, based on the spot price for on-highway diesel fuel. impact operating margin in 2004, we expect margins at FedEx This surcharge ranged between 0.75% and 2.00% during 2003 and Express will begin to increase in 2005 due to these and other between 0.50% and 0.75% from February through May 2002. efforts. Our expectation of improved performance is based upon continued aggressive cost management actions and a return to FedEx Ground Operating Income solid growth in our U.S. overnight box volumes related to anticipated FedEx Ground experienced revenue and earnings growth during improvements in the economy. These cost management actions and 2003 and 2002. Operating margins improved in 2003 in spite of improved volumes, along with a sharp focus on productivity, are increased intercompany charges for sales, marketing, customer expected to produce improved operational efficiency as volume support and information technology costs. Operating expenses growth is absorbed with minimal increases in operating costs.


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    FEDEX CORPORATION 44 in most categories increased at a lower rate than the growth in FedEx Freight revenues during 2003. In addition, FedEx Ground realized substan- The following table shows revenues, operating expenses and tial improvements in pickup and delivery and linehaul productivity. operating income and margins (dollars in millions) and selected statistics for the years ended May 31: During 2003, salaries and employee benefits increased due to Percent higher pension costs and increases in staffing to support volume Change 2003 2002 2001(1) 2003/2002 growth. Operating results during 2003 were also impacted by inclement weather during the winter and spring, which was more Revenues $2,120 $1,960 $ 835 + 8 severe than in previous years. Operating expenses: Salaries and The increase in operating income in 2002 was primarily attributable employee benefits 1,255 1,170 489 + 7 to package volume growth, higher yields, productivity improvements Purchased transportation 68 57 23 +19 in both employee and contractor labor and effective cost manage- Rentals 65 64 27 + 2 ment. Facility openings and expansions, as well as increased Depreciation and investments in information systems, resulted in increased depreci- amortization 83 86 44 - 3 ation, rental and other property-related expenses during 2002. Fuel 89 72 41 +24 Salaries, wages and benefits also were higher in 2002 due to addi- Maintenance and repairs 113 90 39 +26 tional full-time equivalents and higher pension and healthcare Intercompany charges 13 8 1 +63 costs. Costs for variable and other incentive compensation plans Other 256 245 116 + 4 were significantly higher during 2002, reflecting FedEx Ground’s Total operating outstanding financial performance. expenses 1,942 1,792 780 + 8 The increase in operating income in both 2003 and 2002 was Operating income $ 178 $ 168 $ 55 + 6 also attributable to improved home delivery service results. In Operating margin 8.4% 8.6% 6.6% September 2002, FedEx Home Delivery completed the build-out of Average daily shipments its national network, enabling it to reach nearly 100% of U.S. resi- (in thousands) (2) 56 56 56 – dences, with evening, weekend and day- and time-specific delivery Weight per shipment (lbs) (2) 1,114 1,114 1,132 – options, all backed by a money-back guarantee. Our home delivery Yield (revenue per service became profitable during 2003. This service had an operat- hundredweight) (2) $13.40 $12.41 $11.83 + 8 ing loss of $32 million during 2002 and $52 million during 2001. (1) Results for 2001 include the financial results of FedEx Freight West from December 1, 2000 and of FedEx Freight East from January 1, 2001 (the date of acquisition for financial FedEx Ground’s 2001 results also reflect rebranding and reorgani- reporting purposes). Therefore, 2001 results are not comparable to 2002. zation expenses of $15 million, which were expensed as incurred (2) Statistics for 2001 are based on the portion of the year including both FedEx Freight West and FedEx Freight East (January through May). and consisted of incremental external costs for rebranding vans, trailers and signage. FedEx Freight Revenues Revenues at FedEx Freight increased during 2003, despite the FedEx Ground Outlook continued impact of a slow economy, severe winter weather and We expect revenue at FedEx Ground will continue to grow in 2004, one fewer operating day during the year. The increase in revenue although at a slower rate than in 2003 and 2002. We will continue was attributable to improved yields during 2003. Average daily to pursue revenue growth in all services, led by increased home shipments and weight per shipment were flat, while yield delivery and overnight ground package volumes. Overall yield increased 8%. Contributing to the increase in yield during 2003 improvement will be a primary focus as we continue to expect a were the impact of a 5.9% general rate increase in July 2002, very competitive pricing environment. FedEx Ground will also favorable contractual renewals, higher fuel surcharge revenue continue to place emphasis on improving on-time delivery, and additional volumes related to EZ Flyer, our premium-priced, productivity and safety. interregional freight service. During 2004, we expect capital spending will grow significantly In 2002, revenues were higher due primarily to the inclusion of a at FedEx Ground as we continue to focus on network capacity full year of operations for FedEx Freight East. However, revenues expansion. We also expect higher pension costs, higher facility were impacted by the economic slowdown and by a decrease in expenses due to expansion and increases in intercompany allo- our fuel surcharge during 2002. In 2002, average daily shipments cations for sales, marketing, customer support and information were comparable to the prior year, weight per shipment was technology costs. We expect the 2004 operating margin will be down 2% and yield was up 5%. comparable to 2003.


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    MANAGEMENT’S DISCUSSION AND ANALYSIS 45 FedEx Freight Operating Income chain services contracts, partially offset by increased revenues The increase in operating income at FedEx Freight during 2003 at FedEx Custom Critical. Revenues at FedEx Custom Critical was attributable to revenue growth and cost management. were 12% higher in 2003, due to increased yields, and 24% lower Lower depreciation and amortization during 2003 reflects in- in 2002, largely due to the economic downturn. The demand for creased gains from the sale of operating assets in the ordinary services provided by this operating subsidiary (critical ship- course of business. ments) is highly elastic and tied to key economic indicators, principally in the automotive industry, where volumes have been Operating margins in 2003 reflect higher maintenance and depressed since calendar 2001. A significant portion of the repairs expenses, which include $14 million of expenses associ- decrease in revenues from other operations during 2002 reflects ated with rebranding FedEx Freight East and FedEx Freight West the fact that 2002 results for this category no longer include under the name “FedEx Freight.” The rebranding project began FedEx Freight West’s revenues (see “FedEx Freight”). in the fourth quarter of 2002 and is expected to be complete in 2005, with total rebranding costs of approximately $40 million to Operating income from other operations was $12 million in 2003 $45 million. These costs, which are being expensed as incurred, compared to $5 million in 2002 and an operating loss of $6 million consist primarily of incremental external costs for rebranding in 2001. The improvement in operating income in 2003 was primarily tractors and trailers. attributable to FedEx Trade Networks. In 2002, the improvement over 2001 reflects reduced operating costs at FedEx Supply During 2002, operating margins reflect the elimination of goodwill Chain Services. amortization, partially offset by $6 million of rebranding expenses. The increase in operating income during 2002 also reflects the On March 1, 2002, a subsidiary of FedEx Trade Networks acquired inclusion of a full year of operations as well as the cessation certain assets of Fritz Companies, Inc., which provide essential of $15 million of goodwill amortization that would have been customs clearance services exclusively for FedEx Express in recorded in operating expenses prior to the adoption of new three U.S. locations, at a cost of $36.5 million. accounting rules (as discussed in “Consolidated Results”). FINANCIAL CONDITION FedEx Freight Outlook Liquidity We expect revenue to continue to grow in 2004, largely due Cash and cash equivalents totaled $538 million at May 31, 2003, to yield improvements and continued growth of higher yield- compared to $331 million at May 31, 2002. The following table ing interregional and international services. In April 2003, we provides a summary of our cash flows for the years ended announced that we are offering ocean and ground service from May 31 (in millions): Asia to virtually every continental U.S. ZIP code. This service helps 2003 2002 2001 reduce inventory cycle time with fast overall transit times and fewer processes than traditional ocean service from Asia. On Net cash provided by June 17, 2003, we announced a general rate increase of 5.9% to operating activities $ 1,871 $ 2,228 $ 2,044 be effective June 30, 2003. Volume growth, yield management, Cash used in investing activities: enhanced productivity and cost-control measures continue to be Capital investments and other (1,490) (1,577) (1,636) major focus areas for FedEx Freight in order to minimize the effects Business acquisitions – (35) (477) of a soft economy in a highly competitive pricing environment. 381 616 (69) Cash (used in) provided by Other Operations financing activities: Other operations include FedEx Custom Critical, a critical- Principal payments on debt (10) (320) (650) shipment carrier; FedEx Trade Networks, whose subsidiaries form Proceeds from debt issuances – – 744 a global trade services company; FedEx Services, a provider of Purchases of treasury stock (186) (177) – sales, marketing and IT support, primarily for FedEx Express Dividends paid (60) – – and FedEx Ground, and a provider of supply chain management Other financing activities 82 91 28 services; and intercompany revenue eliminations, which are not Net increase in cash $ 207 $ 210 $ 53 material. Also included in this category are the operating results of FedEx Freight West prior to December 1, 2000. The $357 million decrease in cash flow provided by operating activities in 2003 reflected increased funding to our qualified Revenues from other operations were $603 million in 2003 (down pension plans, partially offset by improved earnings and lower 1%) compared to $609 million in 2002 (down 40%) and $1.0 billion levels of estimated federal income tax payments. Although not in 2001. In 2003, the slight decrease in revenues from our other required, we made cash contributions to our qualified U.S. operations reflects the termination of certain unprofitable supply domestic pension plans of $1.1 billion during 2003 (compared


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    FEDEX CORPORATION 46 to $150 million in 2002 and $88 million in 2001). (See further During 2002, we filed a $1.0 billion shelf registration statement discussion concerning our pension plan contributions in “Critical with the SEC to provide flexibility and efficiency when obtaining Accounting Policies.”) financing. Under this shelf registration statement we may issue, in one or more offerings, either unsecured debt securities, In 2002, the increase in cash flows from operating activities common stock or a combination of such instruments. The entire reflected increases in earnings (which included FedEx Freight for $1 billion is available for future financings. an entire year) and aggressive working capital management. Cash Used for Share Repurchases Cash Used for Capital Investments During 2002 and 2004, our Board of Directors authorized us to buy Capital expenditures were lower in 2003 due to management’s cost back a total of 15.0 million shares of common stock. During 2003, reduction actions in 2001 and 2002, despite deliveries of aircraft we repurchased 3.3 million shares at an average price of $56.66 during 2003 that were scheduled and committed to well before the per share and this decreased cash flows by $186 million. We economic slowdown. In 2002, capital expenditures were lower in repurchased approximately 3.3 million shares of our common spite of capital spending related to the 2001 addition of FedEx stock in 2002, at a cost of approximately $177 million or an aver- Freight East. See “Capital Resources” for further discussion. age of $52.70 per share. There were no stock repurchases during 2001. A total of 8.0 million shares remain under existing share Cash Used for Business Acquisitions repurchase authorizations. During 2002, a subsidiary of FedEx Trade Networks acquired cer- tain assets of Fritz Companies, Inc. at a cost of $36.5 million. Dividends During 2001, we acquired FedEx Freight East for approximately Our Board of Directors declared our first-ever cash dividend on $980 million with a combination of cash and FedEx common May 31, 2002. Total dividends paid in 2003 were $60 million. On stock. See Note 3 of the accompanying audited financial state- June 2, 2003, our Board declared a dividend of $0.05 per share of ments for further discussion of these acquisitions. common stock, which we paid on July 1, 2003 to stockholders of record as of the close of business on June 12, 2003. We expect Debt Financing Activities to continue quarterly dividend payments, although each subse- From time to time, we finance certain operating and investing quent dividend payment is subject to review and approval by our activities through the issuance of commercial paper. Our com- Board of Directors. mercial paper program is backed by unused commitments under two revolving credit agreements, totaling $1 billion, and reduces Other Liquidity Information the amount available under these agreements. During the third We have taken actions (discussed in “Results of Operations”), quarter of 2003, commercial paper borrowings of $200 million including the new Portable Pension Account option for eligible were necessary to finance part of the cash contribution to our FedEx employees and resizing efforts at FedEx Express, which qualified pension plans. All of the commercial paper borrowings are expected to reduce our long-term costs and cash outflows. were repaid by April 11, 2003. At May 31, 2003, no commercial We will remain focused on cost containment and capital expen- paper was outstanding and the entire $1 billion under the revolv- diture discipline so we may continue to manage our cash flow in ing credit agreements was available for future borrowings. There the future. We believe that cash flow from operations, our com- were no commercial paper borrowings outstanding at May 31, mercial paper program and revolving bank credit facilities will 2002. For more information regarding these credit facilities, see adequately meet our working capital and capital expenditure Note 6 of the accompanying audited financial statements. needs for the foreseeable future. During the fourth quarter of 2002, certain existing debt at FedEx Express matured, principally $175 million of 9.875% Senior Notes. Capital Resources Also, in the fourth quarter of 2002, we prepaid the remaining We have invested aggressively to build our global network and $101 million of debt that was assumed in connection with the information systems. In recent years, we invested in the strategic purchase of FedEx Freight East. acquisitions that have become FedEx Ground, FedEx Freight, FedEx Custom Critical and FedEx Trade Networks. The sustained In the third quarter of 2001, we issued $750 million of senior unse- need for capital investments and strategic acquisitions through- cured notes. Net proceeds from the borrowings were used to out those years meant that we were not able to generate a repay indebtedness, principally borrowings under our commer- positive cash flow after investing activities until 2002. cial paper program, and for general corporate purposes. These notes are guaranteed by all of our subsidiaries that are not Despite the recent decrease in capital spending, our operations considered minor under Securities and Exchange Commission remain capital intensive, characterized by significant invest- (“SEC”) regulations. ments in aircraft, vehicles, computer hardware and software and telecommunications equipment, package-handling facilities and


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    MANAGEMENT’S DISCUSSION AND ANALYSIS 47 sort equipment. The amount and timing of capital additions disclosed as future obligations under accounting principles depend on various factors, including preexisting contrac- generally accepted in the United States. tual commitments, anticipated volume growth, domestic and Payments Due by Fiscal Year international economic conditions, new or enhanced services, There- geographical expansion of services, competition, availability (In millions) 2004 2005 2006 2007 2008 after Total of satisfactory financing and actions of regulatory authorities. Amounts reflected in balance sheet: The following table compares capital expenditures for the years Long-term debt (1) $ 275 $ 6 $ 257 $ 226 $ – $ 831 $ 1,595 ended May 31 (in millions): Capital lease 2003 2002 2001 obligations (2) 44 125 102 11 11 238 531 Aircraft and related equipment $ 762 $ 730 $ 756 Other cash obligations not reflected in balance sheet: Facilities and sort equipment 254 292 353 Operating Information and technology leases 1,368 1,285 1,192 1,155 1,045 8,342 14,387 investments 273 288 406 Unconditional Vehicles and other equipment 222 305 378 purchase Total capital expenditures $1,511 $1,615 $1,893 obligations (3) 446 275 227 268 231 1,993 3,440 (See Note 13 to the accompanying audited financial statements for a breakdown of Total cash capital expenditures by segment.) obligations $ 2,133 $1,691 $1,778 $1,660 $1,287 $ 11,404 $19,953 (1) Represents principal maturities, excluding interest. See Note 6 to the accompanying Capital expenditures were 6% lower during 2003 and 15% lower in audited financial statements. 2002. The majority of this decrease was primarily at FedEx Express, (2) Includes related interest. See Note 7 to the accompanying audited financial statements. (3) See Note 17 to the accompanying audited financial statements. where capital expenditures were 15% and 14% lower in 2003 and 2002, respectively. During both years, we continued to make invest- We have certain contingent liabilities that are not accrued in our ments in FedEx Ground’s infrastructure and information technology balance sheet in accordance with accounting principles generally and we also made capital investments to expand FedEx Freight. accepted in the United States. These contingent liabilities are not We took various actions in 2002 and 2001 in order to reduce future included in the table above. capital expenditures, including those related to the curtailment of our MD10 program (discussed in “Consolidated Results”) and the Amounts Reflected in Balance Sheet cancellation of certain contractual obligations to purchase 19 We have other commercial commitments, not reflected in the MD11 aircraft. These actions resulted in the elimination of table above, that were incurred in the normal course of business approximately $2.1 billion in future capital expenditures. to support our operations, including surety bonds and standby letters of credit. These instruments are generally required under Our capital expenditures will be approximately $1.7 billion in 2004, certain U.S. domestic self-insurance programs and are used in with much of the year-over-year increase coming from the multi- the normal course of international operations. While the notional year capacity expansion of the FedEx Ground network. We amounts of these instruments are material, there are no addi- expect that internally generated cash, as well as financing tional contingent liabilities associated with them because the available through leasing transactions or borrowings, will be underlying liabilities are already reflected in our balance sheet. adequate to meet our future capital requirements. During the fourth quarter of 2003, FedEx Express amended four Because of substantial lead times associated with the manufac- leases for MD11 aircraft, which now commits FedEx Express to ture or modification of aircraft, we must generally plan our firm purchase obligations for two of these aircraft during both aircraft orders or modifications three to eight years in advance. 2005 and 2006. As a result, the amended leases were accounted Therefore, we must make commitments regarding our airlift for as capital leases, which added $221 million to both long-term requirements many years before aircraft are actually needed. assets and long-term liabilities. We are closely managing our capital spending based on current and anticipated volume levels and will defer or limit capital addi- We have other long-term liabilities reflected in our balance tions where economically feasible, while continuing to invest sheet, including deferred income taxes, pension and post- strategically in growing business segments. retirement healthcare liabilities and self-insurance accruals. The payment obligations associated with these liabilities are not Contractual Cash Obligations reflected in the table above due to the absence of scheduled The following table sets forth a summary of our contractual cash maturities. Therefore, the timing of these payments cannot be obligations as of May 31, 2003. Certain of these contractual determined, except for amounts estimated to be payable in 2004 obligations are reflected in our balance sheet, while others are that are included in current liabilities.


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    FEDEX CORPORATION 48 Other Cash Obligations Not Reflected in Balance Sheet economic factors. We believe the capital resources available The amounts reflected in the table above for operating leases to us provide flexibility to access the most efficient markets represent future minimum lease payments under noncancelable for financing capital acquisitions, including aircraft, and are operating leases (principally aircraft and facilities) with an initial adequate for our future capital needs. or remaining term in excess of one year at May 31, 2003. In the past, we financed a significant portion of our aircraft needs (and CRITICAL ACCOUNTING POLICIES AND ESTIMATES certain other equipment needs) using operating leases (a type of The preparation of financial statements in accordance with “off-balance sheet financing”). At the time that the decision to accounting principles generally accepted in the United States lease was made, we determined that these operating leases requires management to adopt accounting policies and make would provide economic benefits favorable to ownership with significant judgments and estimates to develop amounts respect to market values, liquidity and after-tax cash flows. reflected and disclosed in the financial statements. In many In accordance with accounting principles generally accepted in cases, there are alternative policies or estimation techniques the United States, our operating leases are not recorded in our that could be used. We maintain a thorough process to review balance sheet; however, the minimum lease payments related to the application of our accounting policies and to evaluate the these leases are disclosed in Note 7 to the accompanying appropriateness of the many estimates that are required to audited financial statements, as well as in the table above. Credit prepare the financial statements of a large, global corporation. rating agencies routinely use this information concerning However, even under optimal circumstances, estimates rou- minimum lease payments required for our operating leases to tinely require adjustment based on changing circumstances calculate our debt capacity. Furthermore, our debt covenants and the receipt of new or better information. would not be adversely affected by the capitalization of some or The policies and estimates discussed below include the financial all of our operating leases. statement elements that are either the most judgmental or involve We have guarantees under certain operating leases, amounting the selection or application of alternative accounting policies to $134 million as of May 31, 2003, for the residual values of and are material to our financial statements. Management has aircraft, vehicles and facilities at the end of the respective oper- discussed the development and selection of these critical ating lease periods. Based upon our expectation that none of accounting policies and estimates with the Audit Committee of these leased assets will have a residual value at the end of the our Board of Directors and with our independent auditors. lease term that is less than the value specified in the related operating lease agreement, we do not believe it is probable that Pension Cost we will be required to fund any amounts under the terms of these We sponsor defined benefit pension plans covering a majority of guarantee arrangements. Accordingly, no accruals have been our employees. The accounting for pension benefits is deter- recognized for these guarantees. See Note 15 to the accompa- mined by standardized accounting and actuarial methods that nying audited financial statements for further discussion of our include numerous estimates, including: discount rates; expected guarantees and indemnifications. long-term investment returns on plan assets; future salary increases; and employee turnover, mortality and retirement ages. Certain of these operating leases were arranged using variable We consider the most critical of these estimates to be our dis- interest entities under terms that are considered customary in the count rate, the expected long-term rate of return on plan assets airline industry. As discussed in Note 16 to the accompanying (and the method for determining the value of plan assets to audited financial statements, we expect to consolidate one of which the expected long-term rate of return is applied) and the these entities in the second quarter of 2004 in accordance with expected rate of future increases in salaries. Financial Accounting Standards Board Interpretation No. 46. We expect this consolidation to increase our long-term assets and For FedEx, the determination of a year’s pension cost is highly long-term liabilities by approximately $140 million at September 1, sensitive to changes in these estimates because we have a large 2003. Consolidation will not materially affect our results of opera- workforce that is relatively young and we have a significant tions and our debt covenants will not be adversely affected. amount of assets in the pension plans. For example, only 5% of the participants covered under our principal pension plan are In the future, other forms of secured financing and direct pur- retired and currently receiving benefits and the average remain- chases may be used to obtain capital assets if we determine that ing service life of our employees approximates 14 years (normal they best suit our needs. We have been successful in obtaining retirement is at age 60). Therefore, the payout of pension benefits investment capital, both domestic and international, for long-term will occur over a long period in the future. This long-time period leases on acceptable terms, although the marketplace for increases the sensitivity of our annual pension cost to changes such capital can become restricted depending on a variety of

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