United Parcel Service (UPS): Get Paid 6.2% While the Turnaround Takes Hold
United Parcel Service (UPS) has spent the past few years working through a difficult post-pandemic slowdown. The stock has suffered along the way, but we think the current price offers an interesting combination of high dividend income and turnaround potential.
The biggest attraction right now is the dividend. UPS yields approximately 6.2%, a level that naturally raises questions about whether the payout is sustainable.
There is some reason for concern. UPS pays $6.56 per share in annual dividends, while adjusted earnings are expected to come in around $7.22 per share this year. That puts the forward payout ratio near 91%, which is considerably higher than we’d typically like to see.
But there are also good reasons to believe the pressure on the dividend could ease as the company’s turnaround progresses.
UPS recently ended its 16-year streak of annual dividend increases by keeping the payout unchanged. Importantly, management hasn’t indicated that a cut is coming. On the company’s latest earnings call, CFO Brian Dykes reiterated plans to maintain the current payout.
That gives investors an opportunity to collect a substantial 6.2% yield while waiting for the underlying business to improve.
And there are signs that improvement is already underway.
One important part of UPS’s strategy is reducing its exposure to lower-margin Amazon deliveries and focusing more heavily on higher-margin business customers. That shift is beginning to help profitability, and the company’s latest quarterly results came in ahead of expectations.
The longer-term earnings outlook is also encouraging. Current analyst forecasts call for UPS earnings to grow at an average annual rate of roughly 7% between now and 2029. If earnings move higher while the dividend remains at its current level, the payout ratio should gradually improve, making the dividend easier to support.
There’s also potential upside from a recovery in the stock’s valuation.
UPS trades at approximately 14.5 times forward earnings. FedEx, by comparison, trades around 16 times forward earnings.
That gives us two potential drivers for the stock over the next few years. First, earnings are expected to grow roughly 7% annually through 2029. Second, if the turnaround continues to gain traction, investors could eventually become willing to value UPS closer to FedEx’s 16-times forward multiple.
If both of those things happen, shares could potentially trade above $140 within three years.
To be clear, $140 isn’t an analyst price target. It’s a reasonable valuation scenario based on current earnings forecasts and the possibility that UPS eventually closes some of the valuation gap with FedEx.
A move to $140 would represent about 33% share-price appreciation. And that doesn’t include the substantial dividend income investors could collect along the way if UPS maintains its current payout.
We think that’s what makes UPS particularly interesting at the current price. Investors aren’t being asked to wait for a turnaround without compensation. The stock’s 6.2% yield provides substantial income while management works to improve the underlying business.
The dividend isn’t without risk, and the 91% forward payout ratio deserves attention. But management has reiterated its intention to maintain the payout, earnings are expected to grow around 7% annually through 2029, and the company’s shift toward higher-margin business customers is already helping the bottom line.
With shares trading at a discount to FedEx, a 6.2% dividend yield and a credible path toward stronger earnings and a higher valuation over the next three years, we believe UPS offers an attractive combination of current income and recovery potential for patient investors.
