A Few Years From Now, You'll Wish You Had Bought This Undervalued Stock

United Parcel Service (NYSE: UPS), which usually just goes by its ticker symbol, has been a wild investment over the past few years. Right now, however, investors are deeply negative on the stock, highlighted by an over 60% drop from the high-water mark achieved in early 2022. The pendulum may have swung too far, given the backstory here.

What happened to UPS during the pandemic?

During the coronavirus pandemic, people were asked to stay at home to slow the spread of the illness. Businesses, including retailers, were shut down by the government. In fact, only businesses deemed "essential" were allowed to remain open. But consumers like to shop, so they just shifted their buying from physical stores to online retailers. That resulted in a spike in demand for shipping, which is what UPS does. The company's stock took off like a rocket ship.

Image source: Getty Images.

Wall Street, as it so often does, extrapolated the demand spike well into the future even though it ended up being temporary. When demand for shipping returned to more normal levels, UPS's stock crashed back down to earth. In other words, the emotional pendulum has swung from overly exuberant to despondent. In fact, the price of UPS's stock is now below where it was prior to the pandemic. There's a reason for that, but investors may be missing the long-term opportunity here.

What's going on with UPS' business?

After the demand spike ebbed, UPS took a hard look at its business and decided it needed to make changes. The goal is to make capital investments to improve the company's efficiency while, at the same time, slimming down the business by closing (and selling) facilities and trimming the workforce. Meanwhile, the company is also working to focus on its most profitable customers. That has included pre-emptively pulling back from low-margin business, including with Amazon (NASDAQ: AMZN), UPS's largest customer.

Think about that for a second. UPS is willingly spending more and bringing in less revenue. The company's earnings are pretty ugly right now, but the end goal is to be a more profitable business. However, getting to that point could take a few years. UPS is a turnaround story and one that seems highly likely to succeed. That's because creating a package delivery service is expensive, hard, and time-consuming. It would be difficult, if not impossible, to recreate what UPS has set up. And delivering packages is vital to the world economy, so demand is likely to remain solid over the long term. In fact, the growth of online shopping hints that demand will actually grow.

So, from a long-term perspective, UPS is a good business and is working to become an even better company. With the stock down so much and Wall Street so negative on the shares, you could be missing out on buying UPS while it looks dirt cheap. Notably, the stock's price-to-sales, price-to-earnings, and price-to-book-value ratios are all well below their five-year averages, backing up that view with traditional valuation metrics.

There's just one small wrinkle in the story. UPS currently has a huge 7.6% dividend yield and a payout ratio hovering dangerously close to 100%. It is probably not a good idea to view UPS as a dividend stock, given the large business overhaul taking place. It isn't shocking to see a board of directors trim a company's payout in such situations. If the dividend holds through the turnaround, it is icing on the cake. The turnaround, however, is the big investment story.

UPS will be a better company in a few years' time

UPS isn't trying to reinvent the wheel; it is merely attempting to fine-tune its business. Given the long history the company has in the package delivery space, it seems highly likely it will, eventually, achieve its turnaround goals. And, in a few years, you might regret that you didn't buy it while Wall Street's emotional pendulum was so shockingly negative on the shares.

Reuben Gregg Brewer has no position in any of the stocks mentioned. The Motley Fool has positions in and recommends Amazon and United Parcel Service. The Motley Fool has a disclosure policy.