Where Will UPS Be After Its Next Earnings Report?

Key Points

• Tariffs are causing issues for UPS' key small and medium-sized business market.

• At the same time, management's capital allocation policy is questionable.

• The market is now taking a pessimistic view of the company.

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United Parcel Service (NYSE: UPS) will report its third-quarter earnings on Oct. 18 , and there's a substantial risk that management won't have many good things to say. At the same time, the stock's decline and the company's long-term growth prospects make it a compelling stock to monitor.

UPS after its next earnings report

There's a good chance that UPS will disappoint with its upcoming earnings report, and the company should also consider cutting its dividend. Frankly, any blue chip stock trading on a 7.6% dividend yield is a message from the market that it sees the dividend as unsustainable.

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Management clearly doesn't see it that way. CEO Carol Tome noted on the last earnings call that "UPS is rock solid strong and so is our dividend. The UPS dividend is backed by solid free cash flow and a strong investment-grade balance sheet." The dividend will cost $5.5 billion in cash in 2025, and management spent $1 billion on share buybacks in the first half.

Armed with this knowledge, it's worth noting that the combined $6.5 billion in dividends and share buybacks isn't near being covered by the company's free cash flow (FCF) at present.

UPS Free Cash Flow data by YCharts.

Deteriorating end markets

Worse, management declined to update investors on full-year guidance, arguing that there was too much uncertainty to provide a reliable estimate. However, the company's small and medium-sized business (SMB) market volume (a key end market that UPS is aggressively pursuing) was "lower than we anticipated" in the second quarter. Tome noted that "many of our SMB customers may not" be able to assess the rising cost of tariffs.

Image source: Getty Images.

Where next for UPS?

The upcoming earnings release could lead to significant volatility. On the one hand, UPS could cut its dividend amid disappointment with guidance, at which point it would become an exciting stock to buy. Alternatively, any beating of expectations could see the stock soaring as the market is pessimistic on the company. The former looks more likely at this stage.

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Lee Samaha has no position in any of the stocks mentioned. The Motley Fool has positions in and recommends United Parcel Service. The Motley Fool has a disclosure policy.