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Rating Action:

MOODY'S INVESTORS SERVICE CONFIRMED FEDEX'S SENIOR UNSECURED RATINGS AT Baa2 AND DOWNGRADED SELECTED E/ETC RATINGS.

12 Feb 2004
MOODY'S INVESTORS SERVICE CONFIRMED FEDEX'S SENIOR UNSECURED RATINGS AT Baa2 AND DOWNGRADED SELECTED E/ETC RATINGS.

Approximately $9.2 Billion of Debt Securities Affected.

New York, February 12, 2004 -- Moody's Investors Service confirmed FedEx Corporation and Federal Express, Inc. (together "FedEx"), Senior Unsecured Ratings at Baa2 and Commercial Paper rating at P-2. Selected Equipment Trust Certificate ("ETC") and Enhanced Equipment Trust Certificate ("EETC") transactions were downgraded. The Outlook is Negative. The ratings actions complete a review for possible downgrade that was initiated in December 2003 as a result of the company's announced intention to purchase Kinko's Inc.

The ratings confirmations were based on FedEx's recent strong cash flow and the anticipation that near term expected free cash flow will be used to rapidly repay a meaningful portion of the debt incurred in the acquisition of Kinko's. The Negative outlook reflects Moody's view that the purchase price for Kinko's is relatively high in relation to its cash flow and will result in a weakening of overall FedEx debt coverage metrics, particularly if anticipated improvement in core FedEx cash flow does not materialize. The outlook also reflects uncertainties surrounding both the integration of Kinko's into FedEx and the magnitude of the benefits the acquisition will bring to the combined entity. The downgrade of selected ETC and EETC transactions reflects an assessment that collateral values have declined more rapidly than the amortization of the debt leading to higher loan to value calculations which is unrelated to the Kinko's acquisition.

The ratings reflect the recent and continued expectation of positive free cash flow generation at FedEx that will allow the company to reduce its lease adjusted debt burden, post acquisition, in a relatively short period of time. Net cash from operations was $1.3 billion in the first six months of FY 2004 (the company's fiscal year ends in May) offset by $600 million in capital spending. Kinko's is expected to be cash flow positive, but Moody's considers the primary source of cash flow support for debt to be provided by FedEx.

Combined lease adjusted debt will increase substantially. FedEx is expected to fund the purchase with $400 million in cash on hand and $2 billion in short term borrowings. A short term bank line for $2 billion has been arranged as well as an increase in the company's commercial paper program (now $3 billion). Although the acquisition will initially be funded with short term debt, the ratings anticipate that the company will quickly arrange longer term financing for a portion of the funding. Although FedEx is not assuming any of Kinko's existing debt, the Kinko's leases, primarily for its retail locations and vehicles will add to the effective debt burden of the combined entity. Post acquisition combined cash flow coverage metrics are expected to deteriorate in the near term to levels FedEx experienced in the mid 1990's.

FedEx's near term cash flow is expected to benefit from a number of factors. The company generally experiences better results in a strong economic environment. The international portion of its business is growing rapidly and is increasingly profitable. Profitability in the company's core express package business is expected to benefit from cost cutting measures recently completed including reductions in staffing. While the company will be investing in infrastructure to expand it domestic US ground operations, the high levels of capital spending seen in the middle 1990's to build a global express network are completed. Moody's expects total capital spending to remain approximately $1.6 billion for the next several years. This level exceeds depreciation and amortization ($1.3 billion) and represents a slight increase from FY 2003. Excluding debt related to the acquisition, debt maturities are limited in the next 18 months and the company's pension plans are fully funded.

Kinko's business model has evolved over the past several years from one highly focused on the individual consumer and store location to one that incorporates a greater emphasis on a network distribution model to serve the corporate and small to medium sized businesses. The network model utilizes electronic distribution to shift production to the location, among Kinko's approximately 1200 sites, that maximizes both the use of the company's physical infrastructure and places the location of production in close proximity to the end user. Kinko's growth, in Moody's opinion, is more closely tied to this distributed production model and the benefits it provides large corporate and small and medium sized business than to the retail consumer. FedEx has stated that it sees the small to medium size business as one of its key drivers of growth and profitability.

Moody's expects Kinko's to benefit from FedEx's strong brand image, access to FedEx's existing business base of large corporate customers and the capacity to move printed product from Kinko's production locations to the end user. FedEx is expected to benefit from a broader network of physical package drop off locations as well as the opportunity to distribute Kinko's production. In Moody's opinion, both companies could also see benefits from their respective understanding of and skills in managing networked organizations. The basis of profitability in both business models includes the ability to manage large relatively fixed cost infrastructures and highly fragmented and variable revenue streams.

The ratings acknowledge the differences in the two company's businesses and the potential difficulties in capitalizing on the benefits of an acquisition that is not directly related to the transportation industry. FedEx has had success in integrating past transportation related acquisitions and the Kinko's acquisition does include some mutual transportation related benefits to both Kinko's and FedEx. However, the integration process is not expected to be without challenges as the two companies work to maximize the use of their sales staff and operational platforms and seek additional avenues for revenue generation. Kinko's corporate strategy, in Moody's view it's primary source of growth, has been successful to date but is a relatively new initiative. The ratings anticipate that the full financial impact of Kinko's growth strategy and opportunities it presents for the application of the skills of the two companies will take some time to develop.

Stronger cash flow for the combined entity and a rapid reduction of lease adjusted debt would provide positive support for the current ratings and a possible change in outlook while a decline in free cash flow or a delay in a meaningful reduction in debt would have negative implications. . Moody's anticipates that FedEx's debt metrics will, in the next 18 to 24 months, return to levels seen in the late 1990's. Moody's also notes that until refinancing of a meaningful portion of the acquisition debt is accomplished, FedEx will have a heavy reliance on short term debt with associated refinancing risks.

The ratings of the company's aircraft backed debt, ETC's and EETC's have been downgraded as a result of continued concerns with regard to aircraft values, particularly older aircraft. Values for the aircraft flown by FedEx and supporting these transactions, primarily A300 and MD11 freighters, have declined faster than the amortization of the debt. Moody's also notes, as has always been the case, that these aircraft types, while valuable equipment for FedEx, are utilized by a relatively few air freight companies. In liquidation, should it be necessary, FedEx's large fleet of these aircraft types would place substantial pressure on secondary market values.

Ratings affected by the action include:

FedEx Corporation

Senior Unsecured Ratings, Confirmed at Baa2

Commercial Paper, Confirmed at P-2

Bank Line of Credit, Confirmed at Baa2

Industrial Revenue Bonds supported by loan or lease agreements, Confirmed at Baa2

Federal Express Corporation

Senior Unsecured Debt including the company's MTN program, Confirmed at Baa2

Industrial Revenue Bonds supported by loan or lease agreements, Confirmed at Baa2

Secured Loan Certificates, downgraded to Baa2 from Baa1

All Equipment Trust Certificates, Downgraded to Baa1 from A3

Enhanced Equipment Trust Certificates

Series 1997-1

Class A, downgraded to A1 from Aa3

Class B, downgraded to A3 from A1

Class C, downgraded to Baa2 from Baa1

Series 1998-1

Class A, downgraded to A1 from Aa2

Class B, downgraded to A3 from A1

Class C, downgraded to Baa2 from Baa1

Series 1999-1

Class A, downgraded to Aa3 from Aa2

Class B, downgraded to A3 from A1

Class C, downgraded to Baa2 from Baa1

Secured Shelf, confirmed at (P)A3/(P)Baa2

Caliber Systems, Inc. (guaranteed by FedEx), Baa2

FedEx Corporation and its primary operating subsidiary, Federal Express Corporation, are headquartered in Memphis, Tennessee.

New York
Michael J. Mulvaney
Managing Director
Corporate Finance Group
Moody's Investors Service
JOURNALISTS: 212-553-0376
SUBSCRIBERS: 212-553-1653

New York
Richard Bittenbender
VP - Senior Credit Officer
Corporate Finance Group
Moody's Investors Service
JOURNALISTS: 212-553-0376
SUBSCRIBERS: 212-553-1653

No Related Data.
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