UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(Mark One)
   
þ QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE QUARTERLY PERIOD ENDED AUGUST 31, 20062007 OR
   
o TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE TRANSITION PERIOD
FROM                    TO                    
Commission File Number: 1-15829
FEDEX CORPORATION
(Exact name of registrant as specified in its charter)
   
Delaware
(State or other jurisdiction of incorporation or organization)		 62-1721435
(I.R.S. Employer Identification No.)
   
942 South Shady Grove Road
Memphis, Tennessee
(Address of principal executive offices)		 
38120
(ZIP Code)
(901) 818-7500
(Registrant’s telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.
Yesþ    No¨o
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer. See definition of “accelerated filer and large accelerated filer” in Rule 12b-2 of the Exchange Act. (Check one):
Large accelerated filerþ     Accelerated filer¨o    Non-accelerated filer¨o
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).
Yes¨o    Noþ
Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.
   
Common Stock
Common Stock, par value $0.10 per share		 Outstanding Shares at September 18, 200617, 2007
306,633,491309,265,298
 
 

 

 

 

FEDEX CORPORATION
INDEX
PART I. FINANCIAL INFORMATION
     
  PAGE
PART I. FINANCIAL INFORMATION
 
ITEM 1. Financial Statements    
     
Condensed Consolidated Balance Sheets
August 31, 20062007 and May 31, 20062007
  3-4 
     
Condensed Consolidated Statements of Income
Three Months Ended August 31, 20062007 and 20052006
  5 
     
Condensed Consolidated Statements of Cash Flows
Three Months Ended August 31, 20062007 and 20052006
  6 
     
Notes to Condensed Consolidated Financial Statements
  7-227 
     
Report of Independent Registered Public Accounting Firm
22
ITEM 2. Management’s Discussion and Analysis of Results of Operations and Financial Condition
  23 
     
ITEM 2. Management’s Discussion3. Quantitative and Analysis of Results of Operations and Financial ConditionQualitative Disclosures About Market Risk
  24-4244 
     
ITEM 3. Quantitative and Qualitative Disclosures About Market Risk43
ITEM 4. Controls and Procedures
  4344 
     
PART II. OTHER INFORMATION
     
ITEM 1. Legal Proceedings
44
ITEM 1A. Risk Factors44
ITEM 4. Submission of Matters to a Vote of Security Holders44
ITEM 6. Exhibits  45 
     
ITEM 1A. Risk Factors
45
  
ITEM 6. Exhibits
45
Signature
  46 
     
Exhibit Index
  E-1 
Exhibit 3.1
Exhibit 3.2
 Exhibit 10.1
Exhibit 10.2
 Exhibit 12.1
 Exhibit 15.1
 Exhibit 31.1
 Exhibit 31.2
 Exhibit 32.1
 Exhibit 32.2

 

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FEDEX CORPORATION
CONDENSED CONSOLIDATED BALANCE SHEETS
(IN MILLIONS)
ASSETS
        
         August 31,   
 August 31,    2007 May 31, 
 2006 May 31,  (Unaudited) 2007 
 (Unaudited) 2006  
CURRENT ASSETS  
Cash and cash equivalents $2,690 $1,937  $1,112 $1,569 
Receivables, less allowances of $138 and $144 3,624 3,516 
Spare parts, supplies and fuel, less allowances of $152 and $150 320 308 
Receivables, less allowances of $142 and $136 3,959 3,942 
Spare parts, supplies and fuel, less allowances of $158 and $156 342 338 
Deferred income taxes 536 539  533 536 
Prepaid expenses and other 172 164  282 244 
          
 
Total current assets 7,342 6,464  6,228 6,629 
 
PROPERTY AND EQUIPMENT, AT COST 24,724 24,074  27,700 27,090 
Less accumulated depreciation and amortization 13,609 13,304  14,757 14,454 
          
 
Net property and equipment 11,115 10,770  12,943 12,636 
 
OTHER LONG-TERM ASSETS  
Goodwill 2,825 2,825  3,502 3,497 
Prepaid pension cost 1,351 1,349 
Intangible and other assets 1,245 1,282  1,233 1,238 
     
      
Total other long-term assets 5,421 5,456  4,735 4,735 
          
 $23,878 $22,690  
      $23,906 $24,000 
     
The accompanying notes are an integral part of these condensed consolidated financial statements.

 

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FEDEX CORPORATION
CONDENSED CONSOLIDATED BALANCE SHEETS
(IN MILLIONS, EXCEPT SHARE DATA)
LIABILITIES AND STOCKHOLDERS’ INVESTMENT
        
         August 31,   
 August 31,    2007 May 31, 
 2006 May 31,  (Unaudited) 2007 
 (Unaudited) 2006  
CURRENT LIABILITIES  
Current portion of long-term debt $1,130 $850  $134 $639 
Accrued salaries and employee benefits 1,025 1,325  959 1,354 
Accounts payable 1,875 1,908  2,018 2,016 
Accrued expenses 1,593 1,390  1,584 1,419 
          
 
Total current liabilities 5,623 5,473  4,695 5,428 
 
LONG-TERM DEBT, LESS CURRENT PORTION 2,090 1,592  2,007 2,007 
 
OTHER LONG-TERM LIABILITIES  
Deferred income taxes 1,369 1,367  918 897 
Pension, postretirement healthcare and other benefit obligations 953 944  1,119 1,164 
Self-insurance accruals 715 692  788 759 
Deferred lease obligations 660 658  656 655 
Deferred gains, principally related to aircraft transactions 365 373  336 343 
Other liabilities 82 80  166 91 
          
 
Total other long-term liabilities 4,144 4,114  3,983 3,909 
 
COMMITMENTS AND CONTINGENCIES  
 
COMMON STOCKHOLDERS’ INVESTMENT  
Common stock, $0.10 par value; 800 million shares authorized; 307 million shares issued as of August 31, 2006 and 306 million shares issued as of May 31, 2006 31 31 
Common stock, $0.10 par value; 800 million shares authorized; 309 million shares issued as of August 31, 2007 and 308 million shares issued as of May 31, 2007 31 31 
Additional paid-in capital 1,500 1,438  1,761 1,689 
Retained earnings 10,516 10,068  12,433 11,970 
Accumulated other comprehensive loss  (24)  (24)  (1,000)  (1,030)
Treasury stock, at cost  (2)  (2)  (4)  (4)
          
 
Total common stockholders’ investment 12,021 11,511  13,221 12,656 
          
 $23,878 $22,690  
      $23,906 $24,000 
     
The accompanying notes are an integral part of these condensed consolidated financial statements.

 

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FEDEX CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF INCOME
(UNAUDITED)
(IN MILLIONS, EXCEPT PER SHARE AMOUNTS)
        
         Three Months Ended 
 Three Months Ended  August 31, 
 August 31,  2007 2006 
 2006 2005  
REVENUES $8,545 $7,707  $9,199 $8,545 
 
OPERATING EXPENSES:  
Salaries and employee benefits 3,285 3,062  3,483 3,285 
Purchased transportation 896 771  1,025 896 
Rentals and landing fees 570 665  593 570 
Depreciation and amortization 399 370  473 399 
Fuel 941 728  964 941 
Maintenance and repairs 515 468  544 515 
Other 1,155 1,059  1,303 1,155 
          
 7,761 7,123  8,385 7,761 
          
 
OPERATING INCOME 784 584  814 784 
 
OTHER INCOME (EXPENSE):  
Interest, net  (9)  (24)  (25)  (9)
Other, net  (5)  (11)  (2)  (5)
          
  (14)  (35)  (27)  (14)
          
 
INCOME BEFORE INCOME TAXES 770 549  787 770 
 
PROVISION FOR INCOME TAXES 295 210  293 295 
          
 
NET INCOME $475 $339  $494 $475 
     
      
EARNINGS PER COMMON SHARE:  
Basic $1.55 $1.12  $1.60 $1.55 
          
 
Diluted $1.53 $1.10  $1.58 $1.53 
     
      
DIVIDENDS DECLARED PER COMMON SHARE $0.09 $0.08  $0.10 $0.09 
          
The accompanying notes are an integral part of these condensed consolidated financial statements.

 

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FEDEX CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
(IN MILLIONS)
        
         Three Months Ended 
 Three Months Ended  August 31, 
 August 31,  2007 2006 
 2006 2005  
Operating Activities:  
Net income $475 $339  $494 $475 
Adjustments to reconcile net income to cash provided by operating activities:  
Depreciation and amortization 399 368  473 399 
Provision for uncollectible accounts 29 29  33 29 
Lease accounting charge — 79 
Stock-based compensation 29 31 
Deferred income taxes and other noncash items 13  (31) 32  (12)
Changes in operating assets and liabilities:  
Receivables  (138)  (3)  (35)  (138)
Other current assets  (13) 7   (32)  (13)
Accounts payable and other operating liabilities  (85)  (82)  (166)  (85)
Other, net  (15) 77   (25)  (21)
          
Net cash provided by operating activities 665 783 
 
Cash provided by operating activities 803 665 
 
Investing Activities:  
Capital expenditures  (699)  (671)  (766)  (699)
Proceeds from asset dispositions 5 1 
Proceeds from asset dispositions and other  (5) 5 
          
Net cash used in investing activities  (694)  (670)
 
Cash used in investing activities  (771)  (694)
 
Financing Activities:  
Principal payments on debt  (507)  (221)
Proceeds from debt issuance 999 —  — 999 
Principal payments on debt  (221)  (95)
Proceeds from stock issuances 30 18  40 30 
Excess tax benefit on the exercise of stock options 6 —  9 6 
Dividends paid  (28)  (24)  (31)  (28)
Other, net  (4) —  —  (4)
          
Net cash provided by (used in) financing activities 782  (101)
      
Net increase in cash and cash equivalents 753 12 
Cash (used in) provided by financing activities  (489) 782 
     
 
Net (decrease) increase in cash and cash equivalents  (457) 753 
Cash and cash equivalents at beginning of period 1,937 1,039  1,569 1,937 
     
      
Cash and cash equivalents at end of period $2,690 $1,051  $1,112 $2,690 
          
The accompanying notes are an integral part of these condensed consolidated financial statements.

 

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FEDEX CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
(1)General
SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES.These interim financial statements of FedEx Corporation (“FedEx”) have been prepared in accordance with accounting principles generally accepted in the United States for interim financial information, the instructions to Quarterly Report on Form 10-Q and Rule 10-01 of Regulation S-X, and should be read in conjunction with our Annual Report on Form 10-K as amended, for the year ended May 31, 20062007 (“Annual Report”). Accordingly, significant accounting policies and other disclosures normally provided have been omitted since such items are disclosed therein.
In the opinion of management, the accompanying unaudited condensed consolidated financial statements reflect all adjustments (including normal recurring adjustments) necessary to present fairly our financial position as of August 31, 20062007 and the results of our operations and cash flows for the three-month periods ended August 31, 20062007 and 2005.2006. Operating results for the three-month period ended August 31, 20062007 are not necessarily indicative of the results that may be expected for the year ending May 31, 2007.2008.
Except as otherwise specified, references to years indicate our fiscal year ending May 31, 20072008 or ended May 31 of the year referenced and comparisons are to the corresponding period of the prior year.
Certain prior period amounts have been reclassified to conform to the current period’s presentation.
EMPLOYEES UNDER COLLECTIVE BARGAINING ARRANGEMENTS.NEW ACCOUNTING PRONOUNCEMENTS.New accounting rules and disclosure requirements can significantly impact the comparability of our financial statements. We believe the following new accounting pronouncement is relevant to the readers of our financial statements.
On June 1, 2007, we adopted Financial Accounting Standards Board (“FASB”) Interpretation No. (“FIN”) 48, “Accounting for Uncertainty in Income Taxes.” This interpretation establishes new standards for the financial statement recognition, measurement and disclosure of uncertain tax positions taken or expected to be taken in income tax returns.
The pilotscumulative effect of FedEx Express, which represent a small number of FedEx Express total employees, are employedadopting FIN 48 was immaterial. Upon adoption, our liability for income taxes under a collective bargaining agreement that became amendable on May 31, 2004. In August 2006, FedEx ExpressFIN 48 was $72 million, and the pilots’ union reachedbalance of accrued interest and penalties was $26 million. The liability recorded includes $57 million associated with positions that if favorably resolved would provide a tentative agreement onbenefit to our effective tax rate. We classify interest related to income tax liabilities as interest expense, and if applicable, penalties are recognized as a new labor contract. The proposed new contract includes signing bonusescomponent of income tax expense. These income tax liabilities and other compensation that would result in a chargeaccrued interest and penalties are presented as noncurrent liabilities because payment of cash is not anticipated within one year of the balance sheet date. These noncurrent income tax liabilities are recorded in the periodcaption “Other liabilities” in our condensed consolidated balance sheets.
We file income tax returns in the U.S. and various foreign jurisdictions. We are no longer subject to U.S. federal income tax examination for years through 2003 except for specific U.S. federal income tax positions that are in various stages of ratificationappeal. No resolution date can be reasonably estimated at this time for these appeals.
It is difficult to predict the ultimate outcome or the timing of approximately $145 million. Contract ratificationresolution for tax positions under FIN 48. Changes may result from the conclusion of ongoing audits or appeals in state, local, federal and foreign tax jurisdictions, or from the resolution of various competent authority proceedings between the U.S. and foreign tax authorities. Our liability for tax positions under FIN 48 includes no matters that are individually material to us. It is expected duringreasonably possible that the second quarteramount of 2007the benefit with respect to certain of our unrecognized tax positions will increase or decrease within the next 12 months, but an estimate of the range of the reasonably possible outcomes cannot be assured. If ratified,made. However, we do not expect that the new four-year contractresolution of any of our tax positions under FIN 48 will become amendable in 2010.be material.

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DIVIDENDS DECLARED PER COMMON SHARE.On August 18, 2006,17, 2007, our Board of Directors declared a dividend of $0.09$0.10 per share of common stock. The dividend will be paid on October 2, 20061, 2007 to stockholders of record as of the close of business on September 11, 2006.10, 2007. Each quarterly dividend payment is subject to review and approval by our Board of Directors, and we evaluate our dividend payment amount on an annual basis at the end of each fiscal year.
BUSINESS ACQUISITIONS.On September 3, 2006, we acquired the less-than-truckload (“LTL”) operations(2)Stock-Based Compensation
We have two types of Watkins Motor Lines (“Watkins”), a privately held company,equity-based compensation: stock options and certain affiliates for approximately $780 million in cash. Watkins is a leading provider of long-haul LTL services. Watkins is being rebranded as FedEx National LTL and will be included in the FedEx Freight segment commencing in the second quarter of 2007.
On January 24, 2006, FedEx Express entered into an agreement with Tianjin Datian W. Group Co., Ltd. (“DTW Group”) to acquire DTW Group’s 50% sharerestricted stock. The key terms of the FedEx-DTW International Priority express joint venture (“FedEx-DTW”) and DTW Group’s domestic express network in China for approximately $400 million in cash. This acquisition will convert our joint venture with DTW Group, formed in 1999 and currently accounted for under the equity method, into a wholly-owned subsidiary and increase our presence in China in the international and domestic express businesses. The acquisition is expected to be completed

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during 2007, subject to customary closing conditions. The financial results of this transaction will be included in the FedEx Express segment from the date of acquisition.
LEASE ADJUSTMENT.Our results for the first quarter of 2006 included a noncash charge of $79 million ($49 million after tax or $0.16 per diluted share), which represented the impact on prior years to adjust the accounting for certain facility leases, predominantly at FedEx Express. The charge related primarily to rent escalations in on-airport facility leases that were not being recognized appropriately.
NEW ACCOUNTING PRONOUNCEMENTS. The Financial Accounting Standards Board (“FASB”) issued FASB Interpretation No. (“FIN”) 48, “Accounting for Uncertainty in Income Taxes,” in July 2006. The new rules will be effective for FedEx in 2008. We are evaluating this interpretation, but do not presently anticipate its adoption will have a material impact on our financial statements.
(2)Stock Compensation
On June 1, 2006 we adopted the provisions of Statement of Financial Accounting Standards (“SFAS”) 123R, “Share-Based Payment,” which requires recognition of compensation expense for stock-based awards using a fair value method. SFAS 123R is a revision of SFAS 123, “Accounting for Stock-Based Compensation” and supersedes Accounting Principles Board Opinion No. (“APB”) 25, “Accounting for Stock Issued to Employees.” Prior to the adoption of SFAS 123R, we applied APB 25 and its related interpretations to measure compensation expense for stock-based compensation plans. As a result, no compensation expense was recorded for stock options, as the exercise price was equal to the market price of our common stock at the date of grant.
We adopted SFAS 123R using the modified prospective method, which resulted in prospective recognition of compensation expense for all outstanding unvested share-based payments to employees based on the fair value on the original grant date. Under this method of adoption, our financial statement amounts for the prior period presented have not been restated.
Our total share-based compensation expense was $31 million for the three months ended August 31, 2006. The impact of adopting SFAS 123R was approximately $22 million ($16 million, net of tax) or $0.05 per basic and diluted share, which is not material to earnings or cash flows for the quarter. A comparable amount would have been recognized in the first quarter of 2006 had these accounting rules been applied.

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For the three months ended August 31, 2005, stock option compensation expense, pro forma net income and basic and diluted earnings per common share, if determinedrestricted stock awards granted under SFAS 123 at fair value using the Black-Scholes method, would have been as follows (in millions, except for per share amounts):
     
Net income, as reported $339 
Add: Stock compensation included in reported net income, net of tax  (1)
Deduct: Total stock-based employee compensation expense determined under fair value based method for all awards, net of tax benefit  11 
    
Pro forma net income $327 
    
Earnings per common share:    
Basic — as reported $1.12 
    
Basic — pro forma $1.08 
    
Diluted — as reported $1.10 
    
Diluted — pro forma $1.06 
    
our incentive stock plans are set forth in our Annual Report.
We use the Black-Scholes option pricing model to calculate the fair value of stock options. The value of restricted stock awards is based on the price of the stock on the grant date. We recognize stock-based compensation expense on a straight-line basis over the requisite service period of the award in the “Salaries and employee benefits” caption of our condensed consolidated income statement. The intrinsic value
Our total stock-based compensation expense was $29 million for the three months ended August 31, 2007 and $31 million for the three months ended August 31, 2006.
During the first quarter of 2008 we made stock option grants of 2.4 million shares, primarily in connection with our principal annual stock option grant. We granted options exercisedto purchase 1.6 million shares during the first quarter of 2007 was $33 million.2007.
For unvested stock options and restricted stock awards granted prior to June 1, 2006, the terms of these awards provide for continued vesting subsequent to the employee’s retirement. Compensation expense associated with these awards is recognized on a straight-line basis over the shorter of the remaining service or vesting period. This provision was removed from all stock option awards granted subsequent to May 31, 2006.
As of August 31, 2006, there was $192 million of total unrecognized compensation cost, net of estimated forfeitures, related to unvested share-based compensation arrangements. This compensation expense is expected to be recognized on a straight-line basis over the remaining weighted-average vesting period of approximately four years.
The key terms of the stock options and restricted stock granted under our incentive stock plans are set forth in our Annual Report. At August 31, 2006, there were 6,408,749 shares available for future grants under these plans.

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Following is a table of the key weighted-average assumptions used in the valuation calculations under both SFAS 123R and SFAS 123 for the options granted during the periods presented. See our Annual Report for a discussion of our methodology for developing each of the assumptions used in the valuation model:
         
  Three Months Ended 
  August 31, 
  2006  2005 
Expected lives 5 years 5 years
Expected volatility  22%  25%
Risk-free interest rate  4.99%  3.68%
Dividend yield  0.299%  0.323%
Forfeiture rate  8%  8%
model. The following table summarizes information about stock option and restricted stock activity for the three months ended August 31, 2006:
                     
  Stock Options Outstanding  Restricted Stock 
      Weighted-           
      average           
  Shares  exercise price  Fair Value  Shares  Fair Value 
Outstanding at June 1, 2006  17,099,526  $60.82  $307,436,781   583,106  $44,941,947 
Granted  1,644,965   110.33   52,775,290   161,857   17,843,307 
Exercised  (565,074)  53.57   (9,174,511)  (241,266)  (16,631,329)
Forfeited  (57,080)  76.97   (1,242,232)  (1,099)  (95,294)
                 
Outstanding at August 31, 2006  18,122,337   65.53  $349,795,328   502,598  $46,058,631 
                 
The options granted in the three months ended August 31, 2006 are primarily related to our principal annual stock option grant in June 2006. The weighted-average Black-Scholes value of these grants under the assumptions indicated above was $32.08 per option.
The following table summarizes information about vested and nonvested stock options as of June 1, 2006 and August 31, 2006:
                 
  June 1, 2006  August 31, 2006 
  Shares  Fair Value  Shares  Fair Value 
Vested  9,665,894  $144,823,786   11,778,653  $189,087,443 
Nonvested  7,433,632   162,612,995   6,343,684   160,707,885 
             
Total  17,099,526  $307,436,781   18,122,337  $349,795,328 
             
During the three months ended August 31, 2006, 2,677,833 stock options vested with a fair value of $53 million.
Total equity compensation shares outstanding or available for grant at August 31, 2006 represented 7.8%our stock option grants, as determined by the Black-Scholes valuation model, was $31.21 during the first quarter of 2008 and $32.08 during the total outstanding common and equity compensation shares and equity compensation shares available for grant.first quarter of 2007, using the following assumptions:
         
  Three Months Ended 
  August 31, 
  2007  2006 
 
Expected lives 5 years 5 years
Expected volatility  19%  22%
Risk-free interest rate  5.03%  4.99%
Dividend yield  0.322%  0.299%

 

-10--8-

The following table summarizes information regarding stock options outstanding as of August 31, 2006:
                             
  Options Outstanding  Options Exercisable 
      Weighted-  Weighted-          Weighted-    
      Average  Average  Aggregate      Average  Aggregate 
Range of Number  Remaining  Exercise  Intrinsic  Number  Exercise  Intrinsic 
Exercise Prices Outstanding  Contractual Life  Price  Value  Exercisable  Price  Value 
$15.34  -   22.16  62,874  1.7 years $16.85       62,874  $16.85     
23.81  - -   35.69  1,632,761  1.5 years  30.17       1,632,761   30.17     
35.89  - -   53.77  5,181,650  4.9 years  44.69       5,172,150   44.68     
55.94  - -   83.73  6,212,200  6.6 years  66.68       4,123,294   64.80     
84.57  - - 117.59  5,032,852  9.1 years  97.62       787,674   90.07     
                           
$15.34  - 117.59  18,122,337  6.3 years $65.53  $636,184,069   11,778,753  $52.60  $565,755,727 
                           
(3)Comprehensive Income
The following table provides a reconciliation of net income reported in our financial statements to comprehensive income (in millions):
       
         Three Months Ended 
 Three Months Ended August 31,  August 31, 
 2006 2005  2007 2006 
Net income $475 $339  $494 $475 
Other comprehensive income:  
Foreign currency translation adjustments, net of deferred taxes of $1 in 2005 — 5 
Foreign currency translation adjustment, net of deferred taxes of $1 in 2007 16 — 
Amortization of unrealized pension actuarial gains/losses, net of deferred taxes of $8 in 2007 14 — 
          
Comprehensive income $475 $344  $524 $475 
          
(4)Financing Arrangements
We have a shelf registration statement filed with the Securities and Exchange Commission (“SEC”) that allows us to sell, in one or more future offerings, any combination of our unsecured debt securities and common stock. In August 2006, we issued $1 billion of senior unsecured debt under our shelf registration statement, comprised of floating-rate notes totaling $500 million and fixed-rate notes totaling $500 million. The $500 million in floating-rate notes were repaid in August 2007. The fixed-rate notes bear interest at an annual rate of 5.5%, payable semi-annually, and are due in August 2009. The net proceeds were used for working capital and general corporate purposes, including the funding of several acquisitions during 2007.
From time to time, we finance certain operating and investing activities, including acquisitions, through borrowings under our $1.0 billion revolving credit facility or the issuance of commercial paper. The revolving credit agreement contains certain covenants and restrictions, none of which are expected to significantly affect our operations or ability to pay dividends. Our commercial paper program is backed by unused commitments under the revolving credit facility and borrowings under the program reduce the amount available under the credit facility. At August 31, 2006,2007, no commercial paper borrowings were outstanding and the entire amount under the credit facility was available.
On August 2, 2006, we filed an updated shelf registration statement with the SEC. The new registration statement does not limit the amount of any future offering. By using this shelf registration statement, we may sell, in one or more future offerings, any combination of our unsecured debt securities and common stock.
On August 8, 2006, under the new shelf registration statement, we issued $1 billion of senior unsecured debt, comprised of floating rate notes totaling $500 million due in August 2007 and fixed rate notes totaling $500 million due in August 2009. The floating rate notes bear interest at the three-month London Interbank Offered Rate (“LIBOR”) plus 0.08%, reset on a quarterly basis. At August 31, 2006, the floating interest rate was 5.58%. The fixed rate notes bear interest at an annual rate of 5.5%, payable semi-annually. We are using the net proceeds for working capital and general corporate purposes, including the funding of acquisitions.

 

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(5)Computation of Earnings Per Share
The calculation of basic and diluted earnings per common share for the three-month periods ended August 31 was as follows (in millions, except per share amounts):
        
         2007 2006 
 2006 2005  
Net income $475 $339  $494 $475 
          
Weighted-average shares of common stock outstanding 306 303  308 306 
Common equivalent shares:  
Assumed exercise of outstanding dilutive options 17 17  16 17 
Less shares repurchased from proceeds of assumed exercise of options  (13)  (12)  (12)  (13)
          
Weighted-average common and common equivalent shares outstanding 310 308  312 310 
          
Basic earnings per common share $1.55 $1.12  $1.60 $1.55 
          
Diluted earnings per common share $1.53 $1.10  $1.58 $1.53 
          
We have excluded from the calculation of diluted earnings per share approximately 2.7 million antidilutive options for the three months ended August 31, 2007, and approximately 1.7 million antidilutive options for the three months ended August 31, 2006, and approximately 3.2 million antidilutive options for the three months ended August 31, 2005, as the exercise price of these options was greater than the average market price of common stock for the period.
(6)Employee BenefitRetirement Plans
We sponsor programs that provide retirement benefits to most of our employees. These programs include defined benefit pension plans, covering a majoritydefined contribution plans and retiree healthcare plans. Key terms of our employees. The largest plan covers certain U.S. employees age 21 and over, with at least one year of service. Certain ofretirement plans are provided in our subsidiaries also offer medical, dental and vision coverage to eligible U.S. retirees and their eligible dependents. Annual Report. Our retirement plans costs for the three-month periods ended August 31 were as follows (in millions):
         
  2007  2006 
         
U.S. domestic and international pension plans $85  $114 
U.S. domestic and international defined contribution plans  38   40 
Retiree healthcare plans  16   14 
       
  $139  $168 
       

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Net periodic benefit cost of the pension and postretirement healthcare plans for the three-month periods ended August 31 was as followscomposed of the following (in millions):
                                
 Postretirement  Postretirement 
 Pension Plans Healthcare Plans  Pension Plans Healthcare Plans 
 2006 2005 2006 2005  2007 2006 2007 2006 
Service cost $132 $119 $8 $10  $129 $132 $9 $8 
Interest cost 177 161 7 8  180 177 8 7 
Expected return on plan assets  (232)  (203) — —   (246)  (232) — — 
Recognized actuarial losses/(gains) 34 26  (1) — 
Amortization of prior service cost 3 3 — — 
Amortization of prior service cost and other 22 37  (1)  (1)
                  
 $114 $106 $14 $18  $85 $114 $16 $14 
                  
We made tax-deductible voluntary contributions to our qualified U.S. domestic pension plans of $110 million during the first quarter of 2008 and $100 million during the first quarter of 2007, and made no contributions during the first quarter of 2006. On September 1, 2006, we made additional2007. We expect to make tax-deductible voluntary contributions to our qualified U.S. domestic pension plans for the remainder of $382 million. On September 1, 2005, we made tax-deductible voluntary contributions totaling $456 million to our qualified U.S. domestic pension plans.2008 at levels consistent with 2007.

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(7)Business Segment Information
We provide a broad portfolio of transportation, e-commerce and business services through companies competing collectively, operating independently competing collectively and managed collaboratively under the respected FedEx brand. Our operations are primarily represented bymajor service lines include Federal Express Corporation (“FedEx Express”), the world’s largest express transportation company; FedEx Ground Package System, Inc. (“FedEx Ground”), a leading provider of small-package ground delivery services; and FedEx Freight Corporation, (“FedEx Freight”), a leading U.S. provider of LTL freight services;services. FedEx Services provides customer-facing sales, marketing and information technology support, as well as retail access for customers through FedEx Kinko’s, primarily for the benefit of FedEx Express and FedEx Kinko’s Office and Print Services, Inc. (“FedEx Kinko’s”), a leading provider of document solutions and business services.Ground. These businesses form the core of our reportable segments. Management evaluates
Our reportable segments include the following businesses:
FedEx Express Segment
FedEx Express (express transportation)
FedEx Trade Networks (global trade services)
FedEx Ground Segment
FedEx Ground (small-package ground delivery)
FedEx SmartPost (small-parcel consolidator)
FedEx Freight Segment
FedEx Freight LTL Group:
     FedEx Freight (regional LTL freight transportation)
     FedEx National (long-haul LTL freight transportation)
FedEx Custom Critical (time-critical transportation)
Caribbean Transportation Services (airfreight forwarding)
FedEx Services Segment
FedEx Services (sales, marketing and information technology functions)
FedEx Kinko's (document and business services and package acceptance)
FedEx Customer Information Services ("FCIS") (customer service, billing and collections)
FedEx Global Supply Chain Services (logistics services)

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The FedEx Services segment financial performance based on operating income.
includes FedEx Corporate Services, Inc. (“FedEx Services”) provides customer-facingwhich is responsible for our sales, marketing and information technology support, primarilyfunctions, FCIS, which is responsible for customer service, billings and collections for FedEx Express and FedEx Ground. Ground, and FedEx Global Supply Chain Services, which provides a range of logistics services to our customers.
During the first quarter of 2008, we revised our reportable segments as a result of an internal reorganization of FedEx Kinko’s. As a result, FedEx Kinko’s is now a part of the FedEx Services segment. FedEx Services and FedEx Kinko’s have missions that are uniquely aligned. FedEx Kinko’s provides retail access to our customers for our package transportation businesses and an array of document and business services. FedEx Services provides access to customers, through digital channels such as fedex.com. Under FedEx Services, FedEx Kinko’s will benefit from the full range of resources and expertise of FedEx Services to continue to enhance the customer experience, provide greater, more convenient access to the portfolio of services at FedEx and increase revenues through our retail network. As part of this reorganization, we will be pursuing synergies in sales, marketing, information technology and administrative areas. Also we are re-evaluating priorities for FedEx Kinko’s, including the rate of expansion for new locations. With this reorganization, the FedEx Services segment is now a reportable segment. Prior year amounts have been revised to conform to the current year segment presentation.
FedEx Kinko’s will continue to be treated as a reporting unit for purposes of goodwill and tradename impairment testing. A material change in our strategy for FedEx Kinko’s could trigger the need to perform an impairment test on these assets in advance of our regularly scheduled annual tests in the fourth quarter.
The costs for theseof providing the sales, marketing and information technology functions of FedEx Services and the customer service functions of FCIS, together with the net operating costs of FedEx Global Supply Chain Services and FedEx Kinko’s, are allocated primarily to the FedEx Express and FedEx Ground segments based on metrics such as relative revenues or estimated services provided. We believe these allocations approximate the net cost of providing these functions.
The operating expenses line item “Intercompany charges” on the accompanying unaudited financial summaries of our transportation segments includes the allocations from the FedEx Services segment to the respective transportation segments. The “Intercompany charges” caption also allocate costsincludes allocations for administrative functionsservices provided between operating companies and certain other costs such as costs associated withcorporate management fees related to services received for general corporate oversight, including executive officers and certain legal and finance functions. We believe these allocations approximate the cost of providing these functions.Management evaluates segment financial performance based on operating income.
Effective June 1, 2006, we moved the credit, collections and customer service functions with responsibility for FedEx Express and FedEx Ground customer information from FedEx Express into a newly formed subsidiary of FedEx Services named FedEx Customer Information Services, Inc. (“FCIS”). Also, effective June 1, 2006, we moved FedEx Supply Chain Services, Inc., the results of which were previously reported in the FedEx Ground segment, into a new subsidiary of FedEx Services named FedEx Global Supply Chain Services, Inc. The costs of providing these customer service functions and the net operating costs of FedEx Global Supply Chain Services are allocated back to the FedEx Express and FedEx Ground segments. Prior year amounts have not been reclassified to conform to the current year segment presentation as the financial results of all segments are materially comparable.
In addition, certainCertain FedEx operating companies provide transportation and related services for other FedEx companies outside their reportable segment. Billings for such services are based on negotiated rates, which we believe approximate fair value, and are reflected as revenues of the billing segment. FedEx Kinko’s segment revenues include package acceptance revenue, which represents the fee received by FedEx Kinko’sThese rates are adjusted from FedEx Express and FedEx Ground for accepting and handling packages at FedEx Kinko’s locationstime to time based on behalf of these operating companies. Package acceptance revenue does not include the external revenue associated with the actual shipments. All shipment revenues are reflected in the segment performing the transportation services. Intersegmentmarket conditions. Such intersegment revenues and expenses are eliminated in the consolidated results butand are not separately identified in the following segment information, as the amounts are not material.

 

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AsThe following table provides a reconciliation of reportable segment revenues, depreciation and amortization, and operating income to our condensed consolidated statements of income totals for the three months ended August 31 (in millions). The table also provides a reconciliation of segment assets to our condensed consolidated balance sheets totals as of August 31, 2006, our reportable segments included the following businesses:2007 and May 31, 2007 (in millions).
                         
  FedEx  FedEx  FedEx  FedEx       
  Express  Ground  Freight  Services  Other and  Consolidated 
  Segment  Segment  Segment(1)  Segment(2)  Eliminations  Total 
Revenues                        
2007 $5,889  $1,618  $1,233  $525  $(66) $9,199 
2006  5,640   1,417   1,013   527   (52)  8,545 
Depreciation and amortization                        
2007 $230  $73  $57  $112  $1  $473 
2006  205   61   31   102   —   399 
Operating income                        
2007 $519  $190  $105  $—  $—  $814 
2006  475   159   150   —   —   784 
Segment assets                        
August 31, 2007 $16,276  $4,114  $3,192  $5,294  $(4,970) $23,906 
May 31, 2007  15,650   3,937   3,150   5,384   (4,121)  24,000 
(1) Includes the operations of FedEx National LTL, which was acquired in the second quarter of 2007.
 
FedEx Express Segment
(2)		 The FedEx Express (express transportation)
FedEx Trade Networks (global trade services)
FedEx Ground Segment
FedEx Ground (small-package ground delivery)
FedEx SmartPost (small-parcel consolidator)
FedEx Freight Segment
FedEx Freight (regional LTL freight transportation)
FedEx Custom Critical (time-critical transportation)
Caribbean Transportation Services (airfreight forwarding)
segment was formed during the first quarter of 2008 and includes the operations of FedEx Kinko’s Segment
and FedEx Kinko’s (document solutions and business services)Global Supply Chain Services. Net operating costs have been allocated to our transportation segments as described above.
The following table provides a reconciliation of reportable segment revenues and operating incomecapital expenditures to our consolidated financial statement totals for the three months ended August 31 (in millions):
         
  Three Months Ended 
  August 31, 
  2006  2005 
Revenue        
FedEx Express segment $5,640  $5,122 
FedEx Ground segment  1,417   1,219 
FedEx Freight segment  1,013   892 
FedEx Kinko’s segment  504   517 
Other and eliminations  (29)  (43)
       
  $8,545  $7,707 
       
Operating Income        
FedEx Express segment(1)
 $467  $285 
FedEx Ground segment  157   148 
FedEx Freight segment  150   135 
FedEx Kinko’s segment  10   16 
Other and eliminations  —   — 
       
  $784  $584 
       
                         
  FedEx  FedEx  FedEx  FedEx        
  Express  Ground  Freight  Services      Consolidated 
  Segment  Segment  Segment  Segment  Other  Total 
2007 $448  $132  $74  $112  $—  $766 
2006  394   134   86   85   —   699 

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The following table presents revenue by service type and geographic information for the three months ended August 31 (in millions):
REVENUE BY SERVICE TYPE
         
  2007  2006 
FedEx Express segment:        
Package:        
U.S. overnight box $1,615  $1,654 
U.S. overnight envelope  512   511 
U.S. deferred  711   705 
       
Total U.S. domestic package revenue  2,838   2,870 
International Priority (IP)  1,820   1,665 
International domestic(1)
  156   52 
       
Total package revenue  4,814   4,587 
         
Freight:        
U.S.  593   607 
International priority freight  292   248 
International airfreight  94   104 
       
Total freight revenue  979   959 
Other(2)
  96   94 
       
Total FedEx Express segment  5,889   5,640 
         
FedEx Ground segment  1,618   1,417 
FedEx Freight segment(3)
  1,233   1,013 
FedEx Services segment  525   527 
Other and Eliminations  (66)  (52)
       
  $9,199  $8,545 
       
         
GEOGRAPHICAL INFORMATION(4)
        
Revenues:        
U.S. $6,693  $6,346 
International  2,506   2,199 
       
  $9,199  $8,545 
       
         
The following table presents noncurrent assets as of August 31, 2007 and May 31, 2007 (in millions):
         
  August 31,
2007		  May 31,
2007		 
Noncurrent assets:        
U.S. $14,572  $14,191 
International  3,106   3,180 
       
  $17,678  $17,371 
       
(1) International domestic revenues includes our international domestic express operations in the United Kingdom, Canada, India and China.
(2)Other revenues includes FedEx Express segmentTrade Networks.
(3)Includes the results forof FedEx National LTL, which was acquired in the three months ended August 31, 2005second quarter of 2007.
(4)International revenue includes shipments that either originate in or are destined to locations outside the United States. Noncurrent assets include a $75 million noncash charge to adjust the accounting for certain facility leases.property and equipment, goodwill and other long-term assets. Flight equipment is allocated between geographic areas based on usage.

 

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(8)Commitments
As of August 31, 2006,2007, our purchase commitments for the remainder of 20072008 and annually thereafter under various contracts were as follows (in millions):
                                
 Aircraft-      Aircraft-     
 Aircraft Related(1) Other(2) Total  Aircraft Related(1) Other(2) Total 
2007 (remainder) $149 $101 $753 $1,003 
2008 431 113 217 761 
 
2008 (remainder) $325 $122 $572 $1,019 
2009 480 61 159 700  810 143 201 1,154 
2010 659 67 104 830  907 135 104 1,146 
2011 460 66 70 596  665 11 62 738 
2012 30 — 57 87 
Thereafter 157 8 218 383  — — 164 164 
(1) Primarily aircraft modifications.
 
(2) Primarily vehicles, facilities, computers, printing and other equipment and advertising and promotions contracts.
The amounts reflected in the table above for purchase commitments represent non-cancelable agreements to purchase goods or services. Commitments to purchase aircraft in passenger configuration do not include the attendant costs to modify these aircraft for cargo transport unless we have entered into non-cancelable commitments to modify such aircraft. Open purchase orders that are cancelable are not considered unconditional purchase obligations for financial reporting purposes and are not included in the table above.
FedEx Express is committed to purchase certain aircraft. Deposits and progress payments of $63$95 million have been made toward theseaircraft purchases, options to purchase additional aircraft and other planned aircraft-related transactions. In addition, we have committed to modify our DC10 aircraft for passenger-to-freighter and two-man cockpit configurations. Future payments related to these activities are included in the table above. Aircraft and aircraft-related contracts are subject to price escalations. The following table is a summary of ourthe number and type of aircraft we are committed to purchase commitments as of August 31, 20062007, with the year of expected delivery by type:delivery:
                            
 A300 A380 Total  A300 B757 B777F Total 
2007 (remainder) 4 — 4 
2008 9 — 9 
 
2008 (remainder) 6 7 — 13 
2009 4 2 6  3 14 — 17 
2010 — 4 4  — 4 6 10 
2011 — 3 3  — 5 9 14 
Thereafter — 1 1 
2012 — 3 — 3 
                
Total 17 10 27  9 33 15 57 
                

 

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A summary of future minimum lease payments under capital leases at August 31, 20062007 is as follows (in millions):
        
2007 (remainder) $17 
2008 100 
2008 (remainder) $97 
2009 12  13 
2010 97  97 
2011 8  8 
2012 8 
Thereafter 144  137 
      
 378  360 
Less amount representing interest 70  53 
      
Present value of net minimum lease payments $308  $307 
      
A summary of future minimum lease payments under non-cancelable operating leases with an initial or remaining term in excess of one year at August 31, 20062007 is as follows (in millions):
                        
 Aircraft and Related Facilities and    Aircraft and
Related		 Facilities and   
 Equipment Other Total  Equipment Other Total 
2007 (remainder) $495 $802 $1,297 
2008 586 935 1,521 
2008 (remainder) $471 $856 $1,327 
2009 555 775 1,330  555 991 1,546 
2010 544 606 1,150  544 813 1,357 
2011 526 486 1,012  526 664 1,190 
2012 504 554 1,058 
Thereafter 3,934 2,962 6,896  3,430 3,472 6,902 
              
 $6,640 $6,566 $13,206  $6,030 $7,350 $13,380 
              
While certain of our lease agreements contain covenants governing the use of the leased assets or require us to maintain certain levels of insurance, none of our lease agreements include material financial covenants or limitations.
FedEx Express makes payments under certain leveraged operating leases that are sufficient to pay principal and interest on certain pass-through certificates. The pass-through certificates are not direct obligations of, or guaranteed by, FedEx or FedEx Express.
(9)Contingencies
Wage-and-Hour.We are a defendant in a number of lawsuits filed in federal or California state courts containing various class-action allegations under federal or Californiaof wage-and-hour laws.violations. The plaintiffs in these lawsuits are employees of FedEx operating companies who allege, among other things, that they were forced to work “off the clock” andclock,” were not paid overtime or were not provided work breaks or other benefits. The plaintiffs generally seek unspecified monetary damages, injunctive relief, or both.
To date, In August 2007, we won summary judgment regarding one of these wage-and-hour cases,Foster v.such lawsuit against FedEx Express, has been certified as a class action. The plaintiffs inFosterrepresent a class of hourlyKinko’s. In September 2007, we tentatively agreed to settle two such lawsuits against FedEx Express employees in California from October 14, 1998 to present. The plaintiffs allege that hourly employees are routinely required to work “off the clock” and are not paidGround for this additional work. The court issued a ruling in December 2004 granting class certification on all issues. In February 2006, the parties reached a settlement that received final approval from the court on September 18, 2006. FedEx Express denies liability in this matter, but entered into the settlement to avoid the cost and uncertainty of further litigation. The amount of the settlement was fully accrued at the end of the third quarter of 2006 and is not material to FedEx.

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With respect to the other wage-and-hour cases, wean immaterial amount. We have denied any liability and intend to vigorously defend ourselves.ourselves in the other wage-and-hour lawsuits. Given the nature and preliminary status of the claims in these other wage-and-hour claims,lawsuits, we cannot yet determine the amount or a reasonable range of potential loss, in these other matters, if any.
Race Discrimination.On September 28, 2005, a California federal district court granted class certification inSatchellIndependent Contractor. Estrada v. FedEx ExpressGround,is a lawsuit alleging discrimination byclass action involving single work area contractors in California. In August 2007, the California appellate court affirmed the trial court’s ruling inEstradathat a limited number of California single work area contractors (most of whom have not contracted with FedEx Express inGround since 2001) should be reimbursed as employees for some of their operating expenses. The appellate court remanded the Western regioncase to the trial court for reconsideration of the United States against certain current and former minority employees in pay and promotion. The district court’s ruling on class certification is notamount of such reimbursable expenses. We will petition the California supreme court for a decision on the meritsreview of the plaintiffs’ claim and doesappellate court decision. We do not address whether we will be held liable. Trial is currently scheduled for February 2007. We have denied any liability and intendexpect to vigorously defend ourselves in this case. Given the nature and preliminary status of the claim, we cannot yet determine the amount or a reasonable range of potential loss in this matter, if any. It is reasonably possible, however, that we could incur a material loss as this case develops.
On May 24, 2006, a jury ruled against FedEx Ground inIssa & Rizkallah v. FedEx Ground, a California state court lawsuit brought in July 2001 by two independent contractors who allege, among other things, that a FedEx Ground manager harassed and discriminated against them based upon their national origin. The jury awarded the two plaintiffs a total of $60 million (which includes $50 million of punitive damages), plus attorney’s fees and other litigation expenses. On September 5, 2006, the trial court reduced the total damage award to approximately $12 million (which includes over $10 million of punitive damages), plus attorney’s fees and other litigation expenses in an amount to be determined later. If the plaintiffs do not consent to the reduction of damages by October 5, 2006, FedEx Ground will be entitled to a new trial on the issue of damages. Based on the court’s ruling, we no longer believe that it is reasonably possible we could incur a material loss on this Estradamatter.

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Independent Contractor.
FedEx Ground is involved in numerous other purported class-action lawsuits and otheradministrative proceedings that claim that the company’s owner-operators should be treated as employees, rather than independent contractors. These matters includeEstrada v. FedEx Ground, a class action involving single work area contractors that was filed in California state court. Although the trial court has granted someMost of the plaintiffs’ claimspurported class actions have been consolidated for relief in Estrada ($18 million, inclusiveadministration of attorney’s fees, plus equitable relief),the pre-trial proceedings by a single federal court, the U.S. District Court for the Northern District of Indiana. With the exception of recently filed cases that have been or will be transferred to the multi-district litigation, discovery and class certification briefing are now complete, and we expect to prevail on appeal.are awaiting a hearing date from the court. Adverse determinations in these matters could, among other things, entitle certain of our contractors to the reimbursement of certain expenses and to the benefit of wage-and-hour laws and result in employment and withholding tax liability for FedEx Ground. On August 10, 2005, the Judicial Panel on Multi-District Litigation granted our motion to transfer and consolidate the majority of the class-action lawsuits for administration of the pre-trial proceedings by a single federal court — the U.S. District Court for the Northern District of Indiana. We strongly believe that FedEx Ground’s owner-operators are properly classified as independent contractors and that we will prevail in these proceedings. Given the nature and preliminary status of thesethe claims, we cannot yet determine the amount or a reasonable range of potential loss, if any, in these matters, if any.matters.
Antitrust — FedEx Ground is also involvedFreight Fuel Surcharge.In late July 2007, a purported antitrust class action lawsuit was filed in California federal court, naming FedEx Corporation (particularly FedEx Freight Corporation and its LTL freight subsidiaries) and several lawsuits, including two purported class actions, that claimother major LTL freight carriers as defendants. The lawsuit alleges that the driversdefendants conspired to fix fuel surcharge rates in violation of federal antitrust laws and seeks injunctive relief, treble damages and attorneys’ fees. Since the filing of the company’s independent contractors were jointly employed byoriginal case, similar cases have been filed against us and other LTL freight carriers, each with the contractor and FedEx Ground.same allegation of conspiracy to fix fuel surcharge rates. We strongly believe that FedEx Ground is not an employer of these driversthis allegation has no merit and that we will prevail in these proceedings.intend to vigorously defend ourselves. Given the nature and preliminary status of thesethe claims, we cannot yet determine the amount or a reasonable range of potential loss, if any, in these matters, if any.matters.
Other.FedEx and its subsidiaries are subject to other legal proceedings that arise in the ordinary course of their business. In the opinion of management, the aggregate liability, if any, with respect to these other actions will not materially adversely affect our financial position, results of operations or cash flows.

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(10)Supplemental Cash Flow Information
                
 Three Months Ended  Three Months Ended 
 August 31,  August 31, 
 2006 2005  2007 2006 
 (In millions)  (In millions) 
Cash payments for:  
Interest (net of capitalized interest) $37 $44  $51 $35 
Income taxes 125 27  91 125 
(11)Condensed Consolidating Financial Statements
On August 2, 2006, we released certain subsidiary guarantors from their respective guarantees of our public debt. As a result, weWe are required to present condensed consolidating financial information in order for the subsidiary guarantors (other than FedEx Express) of our public debt to continue to be exempt from reporting under the Securities Exchange Act of 1934.
The guarantor subsidiaries, which are wholly-ownedwholly owned by FedEx, guarantee approximately $2.2$1.2 billion of our debt. The guarantees are full and unconditional and joint and several. Our guarantor subsidiaries were not determined using geographic, service line or other similar criteria, and as a result, the “Guarantor” and “Non-Guarantor” columns each include portions of our domestic and international operations. Accordingly, this basis of presentation is not intended to present our financial condition, results of operations or cash flows for any purpose other than to comply with the specific requirements for subsidiary guarantor reporting.

 

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Condensed consolidating financial statements for our guarantor subsidiaries and non-guarantor subsidiaries are presented in the following tables (in millions):
CONDENSED CONSOLIDATING BALANCE SHEETS
August 31, 20062007
                                        
 Guarantor Non-guarantor      Guarantor Non-guarantor     
 Parent Subsidiaries Subsidiaries Eliminations Consolidated  Parent Subsidiaries Subsidiaries Eliminations Consolidated 
ASSETS  
CURRENT ASSETS  
Cash and cash equivalents $2,360 $150 $180 $— $2,690  $762 $141 $209 $— $1,112 
Receivables, less allowances — 2,945 700  (21) 3,624  2 3,083 922  (48) 3,959 
Spare parts, fuel, supplies, prepaid expenses and other, less allowances 6 436 50 — 492  6 538 80 — 624 
Deferred income taxes — 519 17 — 536  — 502 31 — 533 
                      
Total current assets 2,366 4,050 947  (21) 7,342  770 4,264 1,242  (48) 6,228 
 
PROPERTY AND EQUIPMENT, AT COST 22 23,047 1,655 — 24,724  22 25,225 2,453 — 27,700 
Less accumulated depreciation and amortization 12 12,689 908 — 13,609  14 13,666 1,077 — 14,757 
                      
Net property and equipment 10 10,358 747 — 11,115  8 11,559 1,376 — 12,943 
 
INTERCOMPANY RECEIVABLE — 454 1,497  (1,951) —  — 864 689  (1,553) — 
GOODWILL — 2,675 150 — 2,825  — 2,667 835 — 3,502 
PREPAID PENSION COST 1,313 19 19 — 1,351 
INVESTMENT IN SUBSIDIARIES 12,775 2,148 —  (14,923) —  15,099 3,339 —  (18,438) — 
OTHER ASSETS 78 516 684  (33) 1,245  668 456 746  (637) 1,233 
           
 
            $16,545 $23,149 $4,888 $(20,676) $23,906 
 $16,542 $20,220 $4,044 $(16,928) $23,878            
            
LIABILITIES AND STOCKHOLDERS’ INVESTMENT  
CURRENT LIABILITIES  
Current portion of long-term debt $1,000 $130 $— $— $1,130  $46 $85 $3 $— $134 
Accrued salaries and employee benefits 26 872 127 — 1,025  35 772 152 — 959 
Accounts payable 35 1,564 297  (21) 1,875  36 1,563 462  (43) 2,018 
Accrued expenses 40 1,424 129 — 1,593  20 1,383 186  (5) 1,584 
                      
Total current liabilities 1,101 3,990 553  (21) 5,623  137 3,803 803  (48) 4,695 
 
LONG-TERM DEBT, LESS CURRENT PORTION 1,248 842 — — 2,090  1,248 757 2 — 2,007 
INTERCOMPANY PAYABLE 1,951 — —  (1,951) —  1,553 — —  (1,553) — 
OTHER LIABILITIES  
Deferred income taxes — 1,144 258  (33) 1,369  — 1,271 284  (637) 918 
Other liabilities 228 2,471 76 — 2,775  390 2,557 118 — 3,065 
                      
Total other long-term liabilities 228 3,615 334  (33) 4,144  390 3,828 402  (637) 3,983 
 
STOCKHOLDERS’ INVESTMENT 12,014 11,773 3,157  (14,923) 12,021  13,217 14,761 3,681  (18,438) 13,221 
                      
 $16,542 $20,220 $4,044 $(16,928) $23,878  
            $16,545 $23,149 $4,888 $(20,676) $23,906 
           

 

-19--18-

CONDENSED CONSOLIDATING BALANCE SHEETS
May 31, 20062007
                                        
 Guarantor Non-guarantor      Guarantor Non-Guarantor     
 Parent Subsidiaries Subsidiaries Eliminations Consolidated  Parent Subsidiaries Subsidiaries Eliminations Consolidated 
ASSETS  
CURRENT ASSETS  
Cash and cash equivalents $1,679 $114 $144 $— $1,937  $1,212 $124 $233 $— $1,569 
Receivables, less allowances — 2,864 681  (29) 3,516  — 3,083 894  (35) 3,942 
Spare parts, fuel, supplies, prepaid expenses and other, less allowances 7 423 42 — 472  7 500 75 — 582 
Deferred income taxes — 522 17 — 539  — 505 31 — 536 
                      
Total current assets 1,686 3,923 884  (29) 6,464  1,219 4,212 1,233  (35) 6,629 
 
PROPERTY AND EQUIPMENT, AT COST 22 22,430 1,622 — 24,074  22 24,681 2,387 — 27,090 
Less accumulated depreciation and amortization 12 12,410 882 — 13,304  14 13,422 1,018 — 14,454 
                      
Net property and equipment 10 10,020 740 — 10,770  8 11,259 1,369 — 12,636 
 
INTERCOMPANY RECEIVABLE — 680 1,399  (2,079) —  — 870 593  (1,463) — 
GOODWILL — 2,675 150 — 2,825  — 2,667 830 — 3,497 
PREPAID PENSION COST 1,310 18 21 — 1,349 
INVESTMENT IN SUBSIDIARIES 12,301 2,093 —  (14,394) —  14,588 3,340 —  (17,928) — 
OTHER ASSETS 69 571 675  (33) 1,282  670 457 755  (644) 1,238 
           
            $16,485 $22,805 $4,780 $(20,070) $24,000 
 $15,376 $19,980 $3,869 $(16,535) $22,690            
            
LIABILITIES AND STOCKHOLDERS’ INVESTMENT  
CURRENT LIABILITIES  
Current portion of long-term debt $700 $150 $— $— $850  $551 $85 $3 $— $639 
Accrued salaries and employee benefits 50 1,107 168 — 1,325  60 1,079 215 — 1,354 
Accounts payable 33 1,594 310  (29) 1,908  37 1,563 448  (32) 2,016 
Accrued expenses 37 1,221 132 — 1,390  36 1,197 189  (3) 1,419 
                      
Total current liabilities 820 4,072 610  (29) 5,473  684 3,924 855  (35) 5,428 
 
LONG-TERM DEBT, LESS CURRENT PORTION 749 843 — — 1,592  1,248 757 2 — 2,007 
INTERCOMPANY PAYABLE 2,079 — —  (2,079) —  1,463 — —  (1,463) — 
OTHER LIABILITIES              
Deferred income taxes — 1,143 257  (33) 1,367  — 1,262 279  (644) 897 
Other liabilities 226 2,447 74 — 2,747  451 2,445 116 — 3,012 
                      
Total other long-term liabilities 226 3,590 331  (33) 4,114  451 3,707 395  (644) 3,909 
 
STOCKHOLDERS’ INVESTMENT 11,502 11,475 2,928  (14,394) 11,511  12,639 14,417 3,528  (17,928) 12,656 
                      
 $15,376 $19,980 $3,869 $(16,535) $22,690  $16,485 $22,805 $4,780 $(20,070) $24,000 
                      

 

-20--19-

CONDENSED CONSOLIDATING STATEMENTS OF INCOME
Three Months Ended August 31, 20062007
                    
                     Guarantor Non-guarantor     
 Guarantor Non-guarantor      Parent Subsidiaries Subsidiaries Eliminations Consolidated 
 Parent Subsidiaries Subsidiaries Eliminations Consolidated  
REVENUES $— $7,468 $1,162 $(85) $8,545  $— $7,646 $1,649 $(96) $9,199 
 
OPERATING EXPENSES:  
Salaries and employee benefits 27 2,870 388 — 3,285  33 2,856 594 — 3,483 
Purchased transportation — 729 174  (7) 896  — 746 298  (19) 1,025 
Rentals and landing fees — 514 56 — 570  1 519 74  (1) 593 
Depreciation and amortization — 362 37 — 399  — 399 74 — 473 
Fuel — 904 37 — 941  — 896 68 — 964 
Maintenance and repairs — 497 18 — 515  — 506 38 — 544 
Intercompany charges, net  (50)  (31) 81 — —   (53)  (18) 71 — — 
Other 23 1,037 173  (78) 1,155  19 1,100 260  (76) 1,303 
                      
 — 6,882 964  (85) 7,761  — 7,004 1,477  (96) 8,385 
                      
 
OPERATING INCOME — 586 198 — 784  — 642 172 — 814 
 
OTHER INCOME (EXPENSE):  
Equity in earnings of subsidiaries 475 125 —  (600) —  494 74 —  (568) — 
Interest, net 1  (10) — —  (9)  (9)  (13)  (3) —  (25)
Intercompany charges, net 1  (9) 8 — —  12  (13) 1 — — 
Other, net  (2)  (1)  (2) —  (5)  (3) 1 — —  (2)
                      
 
INCOME BEFORE INCOME TAXES 475 691 204  (600) 770  494 691 170  (568) 787 
 
Provision for income taxes — 237 58 — 295  — 245 48 — 293 
           
            
NET INCOME $475 $454 $146 $(600) $475  $494 $446 $122 $(568) $494 
                      
CONDENSED CONSOLIDATING STATEMENTS OF INCOME
Three Months Ended August 31, 20052006
                    
                     Guarantor Non-guarantor     
 Guarantor Non-guarantor      Parent Subsidiaries Subsidiaries Eliminations Consolidated 
 Parent Subsidiaries Subsidiaries Eliminations Consolidated  
REVENUES $— $6,773 $1,014 $(80) $7,707  $— $7,468 $1,162 $(85) $8,545 
 
OPERATING EXPENSES:  
Salaries and employee benefits 17 2,701 344 — 3,062  27 2,870 388 — 3,285 
Purchased transportation — 625 150  (4) 771  — 729 174  (7) 896 
Rentals and landing fees 1 610 54 — 665  — 514 56 — 570 
Depreciation and amortization 1 333 36 — 370  — 362 37 — 399 
Fuel — 700 28 — 728  — 904 37 — 941 
Maintenance and repairs — 452 16 — 468  — 497 18 — 515 
Intercompany charges, net  (36)  (32) 68 — —   (50)  (31) 81 — — 
Other 17 953 165  (76) 1,059  23 1,037 173  (78) 1,155 
                      
 — 6,342 861  (80) 7,123  — 6,882  964  (85) 7,761 
                      
 
OPERATING INCOME — 431 153 — 584  — 586 198 — 784 
 
OTHER INCOME (EXPENSE):  
Equity in earnings of subsidiaries 339 80 —  (419) —  475 114 —  (589) — 
Interest, net  (16)  (8) — —  (24) 1  (10) — —  (9)
Intercompany charges, net 20  (23) 3 — —  1  (9) 8 — — 
Other, net  (4)  (3)  (4) —  (11)  (2)  (1)  (2) —  (5)
                      
 
INCOME BEFORE INCOME TAXES 339 477 152  (419) 549  475 680 204  (589) 770 
 
Provision for income taxes — 168 42 — 210  — 237 58 — 295 
           
            
NET INCOME $339 $309 $110 $(419) $339  $475 $443 $146 $(589) $475 
                      

 

-21--20-

CONDENSED CONSOLIDATING STATEMENTS OF CASH FLOWS
Three Months Ended August 31, 20062007
                    
                     Guarantor Non-guarantor     
 Guarantor Non-guarantor    �� Parent Subsidiaries Subsidiaries Eliminations Consolidated 
 Parent Subsidiaries Subsidiaries Eliminations Consolidated  
CASH PROVIDED BY OPERATING ACTIVITIES $123 $474 $68 $— $665  $123 $637 $43 $— $803 
 
INVESTING ACTIVITIES  
Capital expenditures —  (655)  (44) —  (699) —  (699)  (67) —  (766)
Proceeds from asset dispositions — 1 4 — 5 
Proceeds from asset dispositions and other —  (7) 2 —  (5)
           
            
CASH USED IN INVESTING ACTIVITIES —  (654)  (40) —  (694) —  (706)  (65) —  (771)
 
FINANCING ACTIVITIES  
Net transfers (to) from Parent  (245) 237 8 — —   (86) 87  (1) — — 
Proceeds from debt issuance 999 — — — 999 
Principal payments on debt  (200)  (21) — —  (221)  (505)  (1)  (1) —  (507)
Proceeds from stock issuances 30 — — — 30  40 — — — 40 
Excess tax benefit on the exercise of stock options 6 — — — 6  9 — — — 9 
Dividends paid  (28) — — —  (28)  (31) — — —  (31)
Other, net  (4) — — —  (4)
                      
CASH PROVIDED BY FINANCING ACTIVITIES 558 216 8 — 782 
 
CASH (USED IN) PROVIDED BY FINANCING ACTIVITIES  (573) 86  (2) —  (489)
           
            
CASH AND CASH EQUIVALENTS  
Net increase in cash and cash equivalents 681 36 36 — 753 
Net (decrease) increase in cash and cash equivalents  (450) 17  (24) —  (457)
Cash and cash equivalents at beginning of period 1,679 114 144 — 1,937  1,212 124 233 — 1,569 
           
            
Cash and cash equivalents at end of period $2,360 $150 $180 $— $2,690  $762 $141 $209 $— $1,112 
                      
CONDENSED CONSOLIDATING STATEMENTS OF CASH FLOWS
Three Months Ended August 31, 20052006
                    
                     Guarantor Non-guarantor     
 Guarantor Non-guarantor      Parent Subsidiaries Subsidiaries Eliminations Consolidated 
 Parent Subsidiaries Subsidiaries Eliminations Consolidated  
CASH PROVIDED BY OPERATING ACTIVITIES $241 $493 $49 $— $783  $123 $474 $68 $— $665 
 
INVESTING ACTIVITIES  
Capital expenditures  (2)  (619)  (50) —  (671) —  (655)  (44) —  (699)
Proceeds from asset dispositions — 1 — — 1 
Proceeds from asset dispositions and other — 1 4 — 5 
           
            
CASH USED IN INVESTING ACTIVITIES  (2)  (618)  (50) —  (670) —  (654)  (40) —  (694)
 
FINANCING ACTIVITIES  
Net transfers (to) from Parent  (183) 201  (18) — —   (245) 237 8 — — 
Proceeds from debt issuance 999 — — — 999 
Principal payments on debt —  (95) — —  (95)  (200)  (21) — —  (221)
Proceeds from stock issuances 18 — — — 18  30 — — — 30 
Excess tax benefit on the exercise of stock options 6 — — — 6 
Dividends paid  (24) — — —  (24)  (28) — — —  (28)
Other, net  (4) — — —  (4)
                      
CASH (USED IN) PROVIDED BY FINANCING ACTIVITIES  (189) 106  (18) —  (101)
 
CASH PROVIDED BY FINANCING ACTIVITIES 558 216 8 — 782 
           
            
CASH AND CASH EQUIVALENTS  
Net (decrease) increase in cash and cash equivalents 50  (19)  (19) — 12 
Net increase in cash and cash equivalents 681 36 36 — 753 
Cash and cash equivalents at beginning of period 742 151 146 — 1,039  1,679 114 144 — 1,937 
           
            
Cash and cash equivalents at end of period $792 $132 $127 $— $1,051  $2,360 $150 $180 $— $2,690 
                      

 

-22--21-

REPORT OF INDEPENDENT REGISTERED
PUBLIC ACCOUNTING FIRM
The Board of Directors and Stockholders
FedEx Corporation
We have reviewed the condensed consolidated balance sheet of FedEx Corporation as of August 31, 2006,2007, and the related condensed consolidated statements of income and cash flows for the three-month periods ended August 31, 20062007 and 2005.2006. These financial statements are the responsibility of the Company’s management.
We conducted our review in accordance with the standards of the Public Company Accounting Oversight Board (United States). A review of interim financial information consists principally of applying analytical procedures and making inquiries of persons responsible for financial and accounting matters. It is substantially less in scope than an audit conducted in accordance with the standards of the Public Company Accounting Oversight Board, the objective of which is the expression of an opinion regarding the financial statements taken as a whole. Accordingly, we do not express such an opinion.
Based on our review, we are not aware of any material modifications that should be made to the condensed consolidated financial statements referred to above for them to be in conformity with U.S. generally accepted accounting principles.
We have previously audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the consolidated balance sheet of FedEx Corporation as of May 31, 2006,2007, and the related consolidated statements of income, changes in stockholders’ investment and comprehensive income, and cash flows for the year then ended not presented herein, and in our report dated July 11, 2006 (except Note 22, as to which the date is August 2, 2006),9, 2007, we expressed an unqualified opinion on those consolidated financial statements. In our opinion, the information set forth in the accompanying condensed consolidated balance sheet as of May 31, 2006,2007, is fairly stated, in all material respects, in relation to the consolidated balance sheet from which it has been derived.
/s/ Ernst & Young LLP
Memphis, Tennessee
September 20, 200619, 2007

 

-23--22-

Item 2. Management’s Discussion and Analysis of Results of Operations and Financial Condition
GENERAL
The following Management’s Discussion and Analysis of Results of Operations and Financial Condition describes the principal factors affecting the results of operations, liquidity, capital resources, contractual cash obligations and critical accounting estimates of FedEx. This discussion should be read in conjunction with the accompanying quarterly unaudited condensed consolidated financial statements and our Annual Report on Form 10-K for the year ended May 31, 2006.2007 (“Annual Report”). Our Annual Report includes additional information about our significant accounting policies, practices and the transactions that underlie our financial results, as well as our detailed discussion of the most significant risks and uncertainties to whichassociated with our financial and operating results are subject.
results.
FedEx providesWe provide a broad portfolio of transportation, e-commerce and business services through companies competing collectively, operating independently competing collectively and managed collaboratively under the respected FedEx brand. These operating companies are primarily represented by Our major service lines include Federal Express Corporation (“FedEx Express,Express”), the world’s largest express transportation company; FedEx Ground Package System, Inc. (“FedEx Ground”), a leading provider of small-package ground delivery services; and FedEx Freight Corporation, a leading U.S. provider of less than truckloadless-than-truckload (“LTL”) freight services;services. The FedEx Services segment provides customer-facing sales, marketing and information technology support, as well as retail access for customers through FedEx Kinko’s Office and Print Services, Inc. (“FedEx Kinko’s”), primarily for the benefit of FedEx Express and FedEx Kinko’s, a leading provider of document solutions and business services.Ground. These companies form the core of our reportable segments. See “Reportable Segments” for further discussion.
The key indicators necessary to understand our operating results include:
the overall customer demand for our various services;
the volumes of transportation and business services provided through our networks, primarily measured by our average daily volume and shipment weight;
the mix of services purchased by our customers;
the prices we obtain for our services, primarily measured by yield (average price per shipment or pound or average price per shipment (yield)hundredweight for FedEx Freight LTL Group shipments);
our ability to manage our cost structure for capital expenditures and operating expenses and to match our cost structure to shifting volume levels; and
the timing and amount of fluctuations in fuel prices and our ability to recover incremental fuel costs through our fuel surcharges.
Except as otherwise specified, references to years indicate our fiscal year ending May 31, 20072008 or ended May 31 of the year referenced and comparisons are to the corresponding period of the prior year. References to our transportation segments mean,include, collectively, our FedEx Express, FedEx Ground and FedEx Freight segments.

 

-24--23-

RESULTS OF OPERATIONS
CONSOLIDATED RESULTS
The following table compares revenues, operating income, operating margin, net income and diluted earnings per share (dollars in millions, except per share amounts) for the three months ended August 31:
                        
 Percent  Percent 
 2006 2005(1) Change  2007 2006 Change 
Revenues $8,545 $7,707 11  $9,199 $8,545 8 
 
Operating income 784 584 34  814 784 4 
 
Operating margin  9.2%  7.6% 160bp  8.8%  9.2% (40) bp
 
Net income $475 $339 40  $494 $475 4 
       
        
Diluted earnings per share $1.53 $1.10 39  $1.58 $1.53 3 
              
(1)Operating expenses for the three months ended August 31, 2005 include a $79 million ($49 million, net of tax, or $0.16 per diluted share) charge to adjust the accounting for certain facility leases, predominantly at FedEx Express, which reduced operating margin by 103 basis points.
The following table shows changes in revenues and operating income by reportable segment for the three months ended August 31, 20062007 compared to 20052006 (in millions):
                 
  Revenues  Operating Income 
  Dollar  Percent  Dollar  Percent 
  Change  Change  Change  Change 
FedEx Express segment(1)
 $518   10  $182   64 
FedEx Ground segment  198   16   9   6 
FedEx Freight segment  121   14   15   11 
FedEx Kinko’s segment  (13)  (3)  (6)  (38)
Other and Eliminations  14  NM   —  NM 
               
  $838   11  $200   34 
               
                 
  Revenues  Operating Income 
  Dollar  Percent  Dollar  Percent 
  Change  Change  Change  Change 
                 
FedEx Express segment $249   4  $44   9 
FedEx Ground segment  201   14   31   19 
FedEx Freight segment (1)
  220   22   (45)  (30)
FedEx Services segment  (2) NM   —   — 
Other and Eliminations  (14) NM   —  NM 
               
                 
  $654   8  $30   4 
               
(1) FedEx Express operating expensesFreight segment results for 2008 include the three months ended August 31, 2005 include a $75 million charge to adjustresults of FedEx National LTL, which was acquired in the accounting for certain facility leases.second quarter of 2007.

-24-

The following graphs for FedEx Express, FedEx Ground and the FedEx Freight LTL Group show selected volume statistics (in thousands) for the five most recent quarters:
(LINE GRAPHS)
The following graphs for FedEx Express, FedEx Ground and the FedEx Freight LTL Group show selected yield statistics for the five most recent quarters:
(LINE GRAPHS)
(1)Package statistics do not include the operations of FedEx SmartPost.

 

-25-

The following table shows selected operating statistics (in thousands, except yield amounts)Overall results for the three months ended August 31:
             
          Percent 
  2006  2005  Change 
Average daily package volume (ADV):            
FedEx Express  3,194   3,233   (1)
FedEx Ground  2,926   2,586   13 
           
Total ADV  6,120   5,819   5 
           
Average daily LTL shipments:            
FedEx Freight  70   65   8 
Revenue per package (yield):            
FedEx Express $23.04  $20.80   11 
FedEx Ground  7.13   6.92   3 
LTL yield (revenue per hundredweight):            
FedEx Freight $17.90  $16.55   8 
first quarter of 2008 were restrained by the continued softening economic environment in the U.S., which is limiting the demand for our U.S. domestic package and LTL freight services, and reduced profitability at the FedEx Freight segment due to operating losses at FedEx National LTL. Strong growth at FedEx Ground, partially offset by higher legal costs, and growth in international shipments at FedEx Express favorably impacted our quarterly results. Lower variable incentive compensation and reduced retirement plans costs partially mitigated the impact of the softening U.S. economy on overall results.
Revenue growth for the first quarter of 20072008 was primarily attributable to yield improvement across all of our transportation segments,strong volume growth at FedEx Ground and FedEx Freight and package volumecontinued growth in ourFedEx Express International Priority (“IP”) services atvolumes. FedEx Express. Yield improvements were principallyFreight segment revenue growth was due to higher fuel surcharges and rate increases. Volume increasesthe inclusion of FedEx National LTL, which was acquired in the second quarter of 2007. Growth at FedEx Ground resulted from increasesand in both commercial businessour IP volumes offset slight declines in U.S. domestic package volumes and FedEx Home Delivery service, which helped mitigate the impact of domestic volume declines at FedEx Express. Shipmentweaker volumes grew 8% at FedEx Freightin our LTL freight businesses as a result of the soft U.S. economy.
Operating income increased marginally in the first quarter of 2007, while IP package volumes at FedEx Express grew 6% for the quarter. Revenues at FedEx Kinko’s decreased during the first quarter of 2007 primarily due to a continued competitive environment for copy services.
Operating income increased in the first quarter of 2007 primarily due to2008, as revenue growth and improved margins at FedEx Express and was slightlylargely offset by reducedplanned spending on initiatives associated with improving customer service and productivity. Lower operating income at the FedEx Kinko’s. Effective cost controls and revenue management actions contributedFreight segment due to increased operating marginlosses at FedEx Express inNational LTL from integration activities and soft volumes, and our reduction of the first quarter of 2007. FedEx Expressfuel surcharge on LTL freight shipments negatively impacted operating income in the first quarter of 2006 included a $75 million charge described below.2008. Improved operating margins at FedEx Ground and FedEx Express were more than offset by reduced profitability at FedEx Freight, causing consolidated margins to decline for the quarter.
While fuel costsexpense increased approximately 30%2% during the first quarter of 2007,2008, fuel surcharges were not sufficient to mitigate the effect of higher fuel costs on our operating results based on a static analysis of the year-over-year changes in fuel prices compared to changes in fuel surcharges. Though fluctuations in fuel surcharge rates can be significant from period to period, fuel surcharges represent one of the many individual components of our pricing structure that impact our overall revenue and yield. Additional components include the mix of services purchased, the base price and other extra service charges we obtain for these services and the level of pricing discounts offered. In order to provide information about the impact of fuel surcharges on the trend in revenue and yield growth, we have included the comparative fuel surcharge rates in effect for the first quarter of 20072008 and 20062007 in the following discussions of each of our transportation segments. During the first quarter of 2008, we announced a reduction of our LTL fuel surcharges by 25% effective July 23, 2007 to assist customers, who are facing both a challenging economy and high fuel prices.
Net interest expense increased during the first quarter of 2008 primarily due to increased legal costs, higher debt balances and decreased interest income from lower cash balances.
Our resultseffective tax rate was 37.2% for the first quarter of 2006 included a noncash charge of $79 million ($49 million after tax or $0.16 per diluted share), which represented the impact on prior years to adjust the accounting2008 and 38.3% for certain facility leases, predominantly at FedEx Express. The charge related primarily to rent escalations in on-airport facility leases that were not being recognized appropriately.
Net interest expense decreased during the first quarter of 2007. The 2008 tax rate was lower than the 2007 rate primarily due to scheduled debt paymentsa favorable tax audit adjustment and to increased interest income from higher cash balances and an increaseinternational earnings permanently reinvested in interest rates.

-26-

Our effective tax rate was 38.3% for bothour global network outside the first quarter of 2007 and 2006.United States. We expect the effective tax rate to be between 37.5% and 38.0% to 38.5% for the remainder of 2007.2008. The actual rate will depend on a number of factors, including the amount and source of operating income.
Business AcquisitionsOutlook
On September 3, 2006, we acquiredWe expect our revenue growth rates to moderate from 2007 across all segments for the LTL operationsremainder of Watkins Motor Lines (“Watkins”), a privately held company, and certain affiliates for approximately $780 million in cash. Watkins is a leading provider of long-haul LTL services. Watkins is being rebranded2008, as FedEx National LTL and will be included in the FedEx Freight segment commencing in the second quarter of 2007.
In January 2006, FedEx Express entered into an agreement with Tianjin Datian W. Group Co., Ltd. (“DTW Group”) to acquire DTW Group’s 50% sharecontinued softness of the FedEx-DTW International Priority express joint venture (“FedEx-DTW”)U.S. economy is expected to restrain demand for U.S. domestic package and DTW Group’s domestic express network in ChinaLTL freight services. Earnings growth for approximately $400 million in cash. This acquisition will convert our joint venture with DTW Group, formed in 1999 and currently accounted for under the equity method, into a wholly-owned subsidiary and increase our presence in China in the international and domestic express businesses. The acquisitionremainder of 2008 is expected to be completed during 2007, subject to customary closing conditions. The financial results of this transaction will be included in thedriven by revenue growth, primarily from IP services at FedEx Express segment fromand increased volumes at FedEx Ground, as well as cost containment initiatives. We expect that the dateLTL fuel surcharge reduction will have a negative impact on revenue and earnings for the remainder of acquisition.
Outlook
While our growth rate2008; however, this change is expected to moderatestrengthen us competitively and drive incremental volumes over the long-term. We continue to expect our earnings in comparison2008 to be below our stronglong-term goal of 10% to 15% annual earnings growth in 2006, we expect revenue and earnings improvement across all transportation segments in 2007. Our outlook is based on solid global economic growth, withdue to the softening U.S. economy growing at a moderate, sustainable rate. We anticipate revenue growthand planned investments in our high-margin services, productivity improvements and continued focus on yield management.
We anticipate growth in total U.S. domestic package volumes and yields, as well as continued growth in FedEx Express IP shipments and yields. We also anticipate year-over-year increases in volumes and yields at FedEx Freight as that segment continues to expand its LTL network and service offerings.
FedEx Kinko’s will focus on key strategies related to adding new locations, improving customer service and increasing investments in employee development and training, whichbusinesses; however, we expect to result in decreased profitability inremain optimistic about the short-term. In the first quarterlong-term prospects for all of 2007, FedEx Kinko’s announced the model for new centers, which will be approximately one-third the size of a traditional center and will include enhanced pack-and-ship stations and a doubling of the number of office products offered. FedEx Kinko’s plans to open approximately 200 new centers across the United States during 2007, which will bring the total number of domestic centers to over 1,500.our business segments.

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We expect to continue to make significant investments to expand our global networks and broaden our service offerings, in part through the integration and expansion of FedEx National LTL and our international investments. Our planned investments overseas. We anticipate that our new FedEx National LTL business will extend our leadership position in the heavy freight sectorfor 2008 are focused on support for long-term volume growth, such as additional or expanded facilities and provide new growth opportunities for our LTL operations in 2007 and beyond.
On September 25, 2006, we announced a $2.6 billion multi-year program to acquire and modify approximately 90 Boeing 757-200 aircraft to replace our narrow body fleet of Boeing 727-200 aircraft. We expect to bring the new aircraft, intoimprovements in service during the eight-year period between calendar years 2008levels, and 2016 contingent upon identificationimprovements to productivity, including updates and purchase of suitable 757 aircraft. The impactenhancements to 2007 of this program has been reflected in our expected 2007 capital expenditures of approximately $3 billion.technology capabilities.
All of our transportation businesses operate in a competitive pricing environment, exacerbated by continuing highvolatile fuel prices. WhileHistorically, our fuel surcharges have generally been sufficient to offset increasedincremental fuel prices, we cannot predict the impact on the overall economy if fuel costs significantly fluctuate from current levels. Volatilitycosts; however, volatility in fuel costs may also impact quarterly earnings because adjustments to our fuel

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surcharges lag changes in actual fuel prices paid. Therefore, the trailing impact of adjustments to FedEx Express and FedEx Groundour fuel surcharges can significantly affect our earnings in the short-term.
The pilots of FedEx Express, which represent a small number of FedEx Express total employees, are employed under a collective bargaining agreement that became amendable on May 31, 2004. In August 2006, FedEx Express and the pilots’ union reached a tentative agreement on a new labor contract. The proposed new contract includes signing bonuses and other compensation that would result in a charge in the period of ratification of approximately $145 million. Contract ratification is expected during the second quarter of 2007 but cannot be assured. If ratified, the new four-year contract will become amendable in 2010.
In July 2006, FedEx Express entered into a new seven-year transportation agreement with the United States Postal Service (“USPS”) under which FedEx Express will continue to provide domestic air transportation services to the USPS, including for its First Class, Priority and Express Mail. The agreement is expected to generate more than $8 billion in revenue for FedEx Express over its term, which begins on September 25, 2006, and ends on September 30, 2013. The agreement will replace the existing seven-year transportation agreement between FedEx Express and the USPS.
See “Forward-Looking Statements” for a discussion of potential risks and uncertainties that could materially affect our future performance.
NEW ACCOUNTING PRONOUNCEMENTS
New accounting rules and disclosure requirements can significantly impact the comparability of our financial statements. We believe the following new accounting pronouncement is relevant to the readers of our financial statements.
On June 1, 20062007, we adopted the provisions of Statement of Financial Accounting Standards Board (“SFAS”FASB”) 123R, “Share-Based Payment,” which requires recognition of compensation expense for stock-based awards using a fair value method. We adopted SFAS 123R using the modified prospective method, which resulted in prospective recognition of compensation expense for all outstanding unvested share-based payments to employees based on the fair value on the original grant date. Under this method of adoption, our financial statement amounts for the prior period presented have not been restated. The adoption of SFAS 123R reduced earnings for the first quarter of 2007 by $0.05 per diluted share. For additional information on the impact of the adoption of SFAS 123R, refer to Note 2 in the accompanying unaudited condensed consolidated financial statements.
The FASB issued FASB Interpretation No. (“FIN”) 48, “Accounting for Uncertainty in Income Taxes,Taxes.” This interpretation establishes new standards for the financial statement recognition, measurement and disclosure of uncertain tax positions taken or expected to be taken in July 2006.income tax returns. The new rules will be effective for FedEx in 2008. We are evaluating this interpretation, but do not presently anticipate itscumulative effect of adopting FIN 48 was immaterial. For additional information on the impact of adoption will have a material impact on ourof FIN 48, refer to Note 1 to the accompanying unaudited condensed consolidated financial statements.

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REPORTABLE SEGMENTS
FedEx Express, FedEx Ground and FedEx Freight represent our major service lines and, along with FedEx Kinko’sServices, form the core of our reportable segments. As of August 31, 2006, ourOur reportable segments includedinclude the following businesses:
   
FedEx Express Segment
 FedEx Express (express transportation)
FedEx Trade Networks (global trade services)
FedEx Ground Segment
 FedEx Ground (small-package ground delivery)
FedEx SmartPost (small-parcel consolidator)
FedEx Freight Segment
 FedEx Freight LTL Group:
     FedEx Freight (regional LTL freight transportation)
     FedEx National LTL (long-haul LTL freight transportation)
FedEx Custom Critical (time-critical transportation)
Caribbean Transportation Services (airfreight forwarding)
FedEx Kinko’sServices Segment
 FedEx Services (sales, marketing and information technology functions)
FedEx Kinko’s (document solutions and business services and package acceptance)
FedEx Customer Information Services (“FCIS”) (customer service, billing and collections)
FedEx Global Supply Chain Services (logistics services)

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FEDEX SERVICES SEGMENT

The FedEx Services provides customer-facingsegment includes FedEx Services, which is responsible for our sales, marketing and information technology support, primarilyfunctions, FCIS, which is responsible for customer service, billings and collections for FedEx Express and FedEx Ground. Ground, and FedEx Global Supply Chain Services, which provides a range of logistics services to our customers.
During the first quarter of 2008, we revised our reportable segments as a result of an internal reorganization of FedEx Kinko’s. As a result, FedEx Kinko’s is now part of the FedEx Services segment. FedEx Services and FedEx Kinko’s have missions that are uniquely aligned. FedEx Kinko’s provides retail access to our customers for our package transportation businesses and an array of document and business services. FedEx Services provides access to customers, through digital channels such as fedex.com. Under FedEx Services, FedEx Kinko’s will benefit from the full range of resources and expertise of FedEx Services to continue to enhance the customer experience, provide greater, more convenient access to the portfolio of services at FedEx, and increase revenues through our retail network. As part of this reorganization, we will be pursuing synergies in sales, marketing, information technology and administrative areas. Also, we are re-evaluating priorities for FedEx Kinko’s, including the rate of expansion for new locations. With this reorganization, the FedEx Services segment is now a reportable segment. Prior year amounts have been revised to conform to the current year segment presentation.
FedEx Kinko’s will continue to be treated as a reporting unit for purposes of goodwill and tradename impairment testing. A material change in our strategy for FedEx Kinko’s could trigger the need to perform an impairment test on these assets in advance of our regularly scheduled annual tests in the fourth quarter.
The costs for these activitiesof providing the sales, marketing, and information technology functions of FedEx Services and the customer service functions of FCIS, together with the net operating costs of FedEx Global Supply Chain Services and FedEx Kinko’s, are allocated primarily to the FedEx Express and FedEx Ground segments based on metrics such as relative revenues or estimated services provided. We believe these allocations approximate the net cost of providing these functions.

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FedEx Services segment revenues, which reflect the operations of FedEx Kinko’s and FedEx Global Supply Chain Services, were flat year over year. Copy product revenues declined at FedEx Kinko’s, more than offsetting higher package acceptance fees and revenue generated from new locations. Capital expenditures for the FedEx Services segment are primarily associated with information technology investments and store expansion activities at FedEx Kinko’s. FedEx Kinko’s continues to invest in a multi-year plan to open new locations, improve core services and enhance its integrated digital document service network, supporting the company’s objective of being the back office for local businesses and the remote office for traveling professionals. FedEx Kinko’s opened 90 new centers during the first quarter of 2008.
The operating expenses line item “Intercompany charges” on the accompanying unaudited financial summaries of our reportabletransportation segments includes the allocations from the FedEx Services segment to the respective transportation segments. The “Intercompany charges” caption also includes allocations for administrative services provided between operating companies and certain other costs such as corporate management fees related to services received for general corporate oversight, including executive officers and certain legal and finance functions. Management evaluates segment financial performance based on operating income.
Effective June 1, 2006, we moved the credit, collections and customer service functions with responsibility for FedEx Express and FedEx Ground customer information from FedEx Express into a new subsidiary of FedEx Services named FedEx Customer Information Services, Inc. (“FCIS”). Also, effective June 1, 2006, we moved FedEx Supply Chain Services, Inc., the results of which were previously reported in the FedEx Ground segment, into a new subsidiary of FedEx Services named FedEx Global Supply Chain Services, Inc. The costs of providing these customer service functions and the net operating costs of FedEx Global Supply Chain Services are allocated back to the FedEx Express and FedEx Ground segments. Prior year amounts have not been reclassified to conform to the current year segment presentation as the financial results are materially comparable.OTHER INTERSEGMENT TRANSACTIONS
In addition, certainCertain FedEx operating companies provide transportation and related services for other FedEx companies outside their reportable segment. Billings for such services are based on negotiated rates, which we believe approximate fair value, and are reflected as revenues of the billing segment. FedEx Kinko’s segment revenues include package acceptance revenue, which represents the fee received by FedEx Kinko’sThese rates are adjusted from FedEx Express and FedEx Ground for accepting and handling packages at FedEx Kinko’s locationstime to time based on behalf of these operating companies. Package acceptance revenue does not include the external revenue associated with the actual shipments. All shipment revenues are reflected in the segment performing the transportation services.market conditions. Such intersegment revenues and expenses are eliminated in the consolidated results butand are not separately identified in the following segment information, as the amounts are not material.

 

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FEDEX EXPRESS SEGMENT
The following table compares revenues, operating expenses, operating income and operating margin (dollars in millions) for the three-month periods ended August 31:
                        
 Percent  Percent 
 2006 2005 Change  2007 2006 Change 
Revenues:  
Package:  
U.S. overnight box $1,654 $1,560 6  $1,615 $1,654  (2)
U.S. overnight envelope 511 489 4  512 511 — 
U.S. deferred 705 687 3  711 705 1 
          
Total U.S. domestic package revenue 2,870 2,736 5  2,838 2,870  (1)
     
International Priority (IP) 1,914 1,634 17  1,820 1,665 9 
International domestic(1)
 156 52 NM 
          
Total package revenue 4,784 4,370 9  4,814 4,587 5 
Freight:  
U.S. 607 505 20  593 607  (2)
International 104 105  (1)
International priority freight 292 248 18 
International airfreight 94 104  (10)
          
Total freight revenue 711 610 17  979 959 2 
Other(1)
 145 142 2 
Other(2)
 96 94 2 
          
Total revenues 5,640 5,122 10  5,889 5,640 4 
Operating expenses:  
Salaries and employee benefits 2,002 1,971 2  2,060 2,002 3 
Purchased transportation 263 241 9  280 263 6 
Rentals and landing fees 398 483  (18) 411 398 3 
Depreciation and amortization 205 193 6  230 205 12 
Fuel 798 628 27  800 798 — 
Maintenance and repairs 398 361 10  402 398 1 
Intercompany charges 510 358 42  515 502 3 
Other 599 602 —  672 599 12 
          
Total operating expenses(2)
 5,173 4,837 7 
Total operating expenses 5,370 5,165 4 
          
Operating income $467 $285 64  $519 $475 9 
          
 
Operating margin  8.3%  5.6% 270bp  8.8%  8.4% 40 bp
(1) OtherInternational domestic revenues includes FedEx Trade Networks.include our international domestic express operations in the United Kingdom, Canada, India and China.
 
(2) Operating expenses for the three months ended August 31, 2005 include a $75 million charge, primarily recorded in rentals and landing fees, to adjust the accounting for certain facility leases, which reduced operating margin by 146 basis points.Other revenues includes FedEx Trade Networks.

 

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The following table compares selected statistics (in thousands, except yield amounts) for the three-month periods ended August 31:
                        
 Percent  Percent 
 2006 2005 Change  2007 2006 Change 
Package Statistics(1)
  
Average daily package volume (ADV):  
U.S. overnight box 1,166 1,180  (1) 1,139 1,166  (2)
U.S. overnight envelope 703 711  (1) 699 703  (1)
U.S. deferred 855 897  (5) 863 855 1 
          
Total U.S. domestic ADV 2,724 2,788  (2) 2,701 2,724  (1)
     
IP 470 445 6  496 466 6 
International domestic(2)
 279 44 NM 
          
Total ADV 3,194 3,233  (1) 3,476 3,234 7 
     
      
Revenue per package (yield):  
U.S. overnight box $21.83 $20.34 7  $21.83 $21.83 — 
U.S. overnight envelope 11.19 10.57 6  11.26 11.19 1 
U.S. deferred 12.69 11.78 8  12.67 12.69 — 
U.S. domestic composite 16.21 15.10 7  16.17 16.21 — 
IP 62.58 56.54 11  56.42 54.97 3 
International domestic(2)
 8.59 18.33 NM 
Composite package yield 23.04 20.80 11  21.31 21.83  (2)
 
Freight Statistics(1)
  
Average daily freight pounds:  
U.S. 9,374 8,885 6  8,843 9,374  (6)
International 1,899 2,039  (7)
International priority freight 2,025 1,775 14 
International airfreight 1,752 1,899  (8)
          
Total average daily freight pounds 11,273 10,924 3  12,620 13,048  (3)
          
 
Revenue per pound (yield):  
U.S. $1.00 $0.88 14  $1.03 $1.00 3 
International 0.84 0.79 6 
International priority freight 2.22 2.16 3 
International airfreight 0.83 0.84  (1)
Composite freight yield 0.97 0.86 13  1.19 1.13 5 
(1) Package and freight statistics include only the operations of FedEx Express.
(2)International domestic statistics include our international domestic express operations in the United Kingdom, Canada, India and China.
FedEx Express Segment Revenues
FedEx Express segment revenues increased 4% in the first quarter of 2007, principally2008 primarily due to highersolid growth in IP revenues (particularlyrevenue, partially offset by decreases in U.S. outbound, Asia and Europe) and higher U.S. domestic package and freight revenues. During the first quarter of 2007, IP revenues grew 17% on yield growth of 11% and a 6% increase in volume. U.S. domestic package revenues driven by the continued softening U.S. economic environment. IP revenues grew 5%9%, on volume growth of 6% and yield improvement of 3%, with continued growth in Asia, U.S. outbound and Europe. Significant increases in international domestic revenues were driven by companies acquired in the first quartersecond half of 2007 due to a yield increase of 7%, partially offset by a 2% decrease(primarily in volume.the United Kingdom). Freight revenues grew 2% in the first quarter based principally on stronger international priority freight volumes.
IP volume growth during the first quarter of 2008 was primarily due to increased demand in Asia, resulting from continued expansion of our services in Asian markets, as well as increases in the U.S. outbound and European markets. U.S. domestic yield and volumes.package volumes decreased 1% during the first quarter of 2008 primarily due to the impact of the continued soft U.S. economy.
IP yield increased during the first quarter of 20072008 primarily due to higher fuel surcharges,favorable exchange rates, increases in international average weight per package higher rate per pound and favorable exchange rate impacts. U.S.changes in region mix, which were partially offset by lower fuel surcharges. International domestic composite yield increases weredecreased during the first quarter of 2008 primarily as a result of lower-yielding services at the companies acquired in the second half of 2007. Freight yield increased 5% due to higher fuel surchargeschanges in service mix and an increase in the average rate per pound. We continue to manage our U.S. domestic revenue to improve the profitability of these services. U.S. freight yield increased due to higher fuel surcharges and an increase in the average rate per pound.
Asia experienced solid average daily volume growth during the first quarter of 2007, while outbound shipments from the United States and Europe also increased. IP and international freight capacity has increased significantly as a result of our two around-the-world flights which we added in late 2005 and early 2006. This additional capacity resulted in higher IP volume. U.S. volumes decreased primarily due to revenue management actions that began last year.

 

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Fuel surcharges increased in the first quarter of 2007 due to higher jet fuel prices. Our fuel surcharge is indexed to the spot price for jet fuel. Using this index, the U.S. domestic and outbound fuel surcharge and the international fuel surcharges ranged as follows for the three month periods ended August 31:
        
         2007 2006 
 2006 2005  
U.S. Domestic and Outbound Fuel Surcharge:  
Low  16.00%  10.50%  13.50%  16.00%
High 16.00 12.50  14.00 16.00 
Weighted-average 16.00 11.48  13.67 16.00 
 
International Fuel Surcharges:  
Low 12.50 10.00  12.00 12.50 
High 16.00 12.50  15.50 16.00 
Weighted-average 14.63 10.93  14.00 14.63 
FedEx Express Segment Operating Income
During the first quarter of 2007,2008, our operating income grewand operating margin improved as a result of revenue growth and improved operating margin.cost containment, including reduced retirement plans costs and lower variable incentive compensation. Continued volume growth in IP services contributed to solid yield improvements. increased operating income, despite the softening U.S. economy and its impact on U.S. domestic package revenues. Continued investment in domestic express services in China, however, negatively impacted results in the first quarter of 2008.
Operating margin improvementexpense growth was constrained and lower than revenue growth in most categories, as cost controls were in effect at FedEx Express and FedEx Services throughout the quarter. Purchased transportation costs increased 6% in the first quarter of 2008 primarily due to the inclusion of our 2007 acquisitions and IP volume growth, which required a higher utilization of contract pickup and delivery services and an increase in the cost of purchased transportation. These increases were partially offset by the elimination of payments for pickup and delivery services to our China joint venture due to its acquisition in the second half of 2007. Depreciation expense increased 12% in the first quarter of 2008 primarily due to aircraft purchases and our 2007 acquisitions. Other operating expenses increased 12% during the first quarter of 2007 was primarily2008 principally due to higher yields, combined with cost containmentthe inclusion of our 2007 acquisitions and the inclusion in the first quarterelimination of 2006 of a $75 million chargeprior year net profits from our China joint venture due to adjust the accounting for certain facility leases.
Fuelits acquisition. Although fuel costs were higherremained fairly constant during the first quarter of 20072008, fuel surcharges did not offset the effect of fuel costs on our year-over-year operating results due to an increase in the average price per gallon of jettiming lag that exists between when we purchase fuel while gallons consumed increased slightly. However,and when our fuel surcharges substantially mitigatedare adjusted, based on a static analysis of the impact of higher jetyear-over-year changes in fuel prices. The decreaseprices compared to changes in rentals and landing fees is primarily attributable to the one-time adjustment for leases in 2006 described above. Intercompany charges increased primarily due to allocations as a result of moving the FCIS organization from FedEx Express to FedEx Services in 2007. The costs associated with the FCIS organization in 2006 were of a comparable amount but were reported in individual operating expense captions. Prior year amounts have not been reclassified to conform to the current year presentation as financial results are materially comparable.fuel surcharges.

 

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FEDEX GROUND SEGMENT
The following table compares revenues, operating expenses, operating income and operating margin (dollars in millions) and selected package statistics (in thousands, except yield amounts) for the three month periods ended August 31:
                        
 Percent  Percent 
 2006 2005 Change  2007 2006 Change 
Revenues $1,417 $1,219 16  $1,618 $1,417 14 
Operating expenses:  
Salaries and employee benefits 241 221 9  260 241 8 
Purchased transportation 553 466 19  620 553 12 
Rentals 36 31 16  43 36 19 
Depreciation and amortization 61 50 22  73 61 20 
Fuel 31 18 72  34 31 10 
Maintenance and repairs 31 29 7  34 31 10 
Intercompany charges 136 120 13  159 134 19 
Other 171 136 26  205 171 20 
          
Total operating expenses 1,260 1,071 18  1,428 1,258 14 
          
 
Operating income $157 $148 6  $190 $159 19 
          
 
Operating margin  11.1%  12.1% (100)bp  11.7%  11.2% 50 bp
Average daily package volume(1)
 2,926 2,586 13 
Revenue per package (yield)(1)
 $7.13 $6.92 3 
 
Average daily package volume 
FedEx Ground 3,211 2,926 10 
FedEx SmartPost 535 516 4 
 
Revenue per package (yield) 
FedEx Ground $7.41 $7.13 4 
FedEx SmartPost $2.01 $1.75 15 
(1)Package statistics include only the operations of FedEx Ground.
FedEx Ground Segment Revenues
Revenues increased 14% during the first quarter of 20072008 principally due to continued strong volume and yield growth. Average daily volumes at FedEx Ground rose 13%,10% due to increasedmarket share gains in our commercial business and the continued growth of our FedEx Home Delivery service. Yield improvement during the first quarter of 20072008 was primarily due to the impact of the general rate increase, increased fuel surcharges andincreases, higher extra service revenue (primarily onthrough our residential, large package and signature services).additional handling surcharges) and dimensional rating. This increase was partially offset by higher customer discounts and a lower average weight and zone per package.
FedEx SmartPost picks up and delivers shipments from customers and delivers them to various points within the United States Postal Service (“USPS”) network for final delivery. FedEx SmartPost revenue and yield represent the amount collected from customers net of postage paid to the USPS. Volumes and yields at FedEx SmartPost increased in 2008 due to increased market share.

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The FedEx Ground fuel surcharge is based on a rounded average of the national U.S. on-highway average prices for a gallon of diesel fuel, as published by the Department of Energy. Our fuel surcharge ranged as follows for the three month periods ended August 31:
        
         2007 2006 
 2006 2005  
Low  4.25%  2.50%  4.50%  4.25%
High 4.75 2.75  4.50 4.75 
Weighted-average 4.58 2.67  4.50 4.58 
FedEx Ground Segment Operating Income
FedEx Ground segment operating income increased 6%19% during the first quarter of 2007,2008, resulting principally from revenue growth, improved productivity and yield improvement. Salarieseffective cost controls. Depreciation expense increased 20% and employee benefits, as well as other operating costs,rent expense increased 19% in the first quarter of 2007 largely due to increases in staffing and facilities to support volume growth. Depreciation expense in the first quarter of 2007 increased2008 due to higher spending on material handling and scanning equipment and facilities associated with our multi-year capacity expansion. Inexpansion plan. While fuel costs increased 10% during the first quarter of 2007, purchased transportation2008, our fuel surcharge was sufficient to offset the effect of higher fuel costs on our operating results, based on a static analysis of the year-over-year changes in fuel prices compared to changes in the fuel surcharge. Intercompany charges increased 19% during the first quarter of 2008 primarily due to increased sales and marketing and customer service charges. Other operating expenses increased 20% during the first quarter of 2008, primarily due to higher legal costs.
New Independent Contractor Programs
As part of its ongoing effort to strengthen its independent contractor network, FedEx Ground is investing in a new nationwide program which provides greater incentives to certain of its 15,000 contractors who choose to grow their businesses by adding routes. Also, in response to current regulatory and legal uncertainty in California, FedEx Ground is offering special incentives to encourage California-based single-route contractors to transform their operations into multiple-route businesses or sell their routes to others. Current multiple-route business owners in California are being offered additional incentives to grow their businesses by acquiring available routes. The costs of the nationwide and California programs are not expected to be material.

 

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fuel surcharges from third-party transportation providers, including our independent contractors. Increased fuel costs in the first quarter of 2007 were mostly offset by fuel surcharges. Other operating expenses increased 26% primarily due to increased legal costs, including settlements and reserves, which also negatively impacted operating margin.
Effective June 1, 2006, we moved FedEx Supply Chain Services, Inc., the results of which were previously reported in the FedEx Ground segment, into a new subsidiary of FedEx Services named FedEx Global Supply Chain Services, Inc. The net operating costs of this entity are allocated to FedEx Express and FedEx Ground. Prior year amounts have not been reclassified to conform to the current year segment presentation as financial results are materially comparable.
FEDEX FREIGHT SEGMENT
The following table shows revenues, operating expenses, operating income and operating margin (dollars in millions) and selected statistics for the three month periods ended August 31:
                        
 Percent  Percent 
 2006 2005 Change  2007(1) 2006 Change 
Revenues $1,013 $892 14  $1,233 $1,013 22 
Operating expenses:  
Salaries and employee benefits 484 439 10  595 484 23 
Purchased transportation 83 72 15  130 83 57 
Rentals and landing fees 23 24  (4) 28 23 22 
Depreciation and amortization 31 30 3  57 31 84 
Fuel 112 82 37  130 112 16 
Maintenance and repairs 32 28 14  47 32 47 
Intercompany charges 14 9 56  21 14 50 
Other 84 73 15  120 84 43 
          
Total operating expenses 863 757 14  1,128 863 31 
          
 
Operating income $150 $135 11  $105 $150  (30)
          
 
Operating margin  14.8%  15.1% (30)bp  8.5%  14.8% (630) bp
 
Average daily LTL shipments (in thousands) 70 65 8  79 70 13 
Weight per LTL shipment (lbs) 1,130 1,132 —  1,131 1,130 — 
LTL yield (revenue per hundredweight) $17.90 $16.55 8  $19.39 $17.90 8 
(1)Includes the results of FedEx National LTL, which was acquired in the second quarter of 2007.
FedEx Freight Segment Revenues
FedEx Freight segment revenues increased 14%22% during the first quarter dueof 2008 as a result of the inclusion of the results of FedEx National LTL. The inclusion of FedEx National LTL led to growthan increase in average daily LTL shipments of 13% and contributed significantly to the LTL yield and averageincrease of 8%. Average daily shipments.LTL shipments excluding FedEx National LTL declined slightly in the first quarter of 2008, as demand for services in the entire LTL sector has been restrained by the slowing U.S. economy. LTL yield grew during the first quarter of 2008, reflecting higher yields from longer-haul FedEx National LTL shipments; however, the year-over-year growth rate was negatively impacted by the fuel surcharge reduction described below.
Effective July 23, 2007, reflecting incrementalFedEx Freight reduced its standard regional LTL fuel surcharges resulting from highersurcharge by 25% and FedEx National LTL reduced its standard LTL fuel pricessurcharge to levels commensurate with FedEx Freight. We made these changes to assist our customers, who are facing a challenging economy and higher rates. Increased customer demand for our regional and interregional LTL services contributed to the increase in average daily LTL shipments.
high fuel prices. The indexed LTL fuel surcharge is based on the average of the national U.S. on-highway average prices for a gallon of diesel fuel, as published by the Department of Energy. The indexed LTL fuel surcharge ranged as follows for the three-month periods ended August 31:
        
         2007 2006 
 2006 2005  
Low  19.5%  12.5%  14.5%  19.5%
High 21.2 16.8  19.7 21.2 
Weighted-average 20.4 14.5  17.1 20.4 

 

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FedEx Freight Segment Operating Income
FedEx Freight segment operating income increased 11% during the first quarter of 2007 primarily due to LTL revenue growth. Operating margin declined slightlydecreased 30% in the first quarter of 20072008, reflecting operating losses at FedEx National LTL and slower year-over-year growth in regional LTL yield, including the impact of the fuel surcharge reduction described above. Operating losses at FedEx National LTL continue to be driven by softening volumes due to the impactslower U.S. economy.
Along with incremental costs from FedEx National LTL (including amortization of higher purchased transportationacquired intangible assets), depreciation expense increased due to equipment purchases to support on-going replacement requirements and other operating costs. Salaries and employee benefits increased in the first quarter of 2007 from increased staffing to supportlong-term volume growth. Purchased transportation costs increased in the first quarter of 2007 primarily as a result of volume growth, as well as an increase in the cost of purchased transportation. Fuel costs increased in the first quarter of 2007 due to the inclusion of FedEx National LTL, which uses a higher fuel prices; however, our fuel surcharges more than offset the effectproportion of these services, and higher costs.
FEDEX KINKO’S SEGMENT
The following table shows revenues, operating expenses, operating incomerates paid to our third-party transportation providers. Maintenance and operating margin (dollars in millions) for the three-month periods ended August 31:
             
          Percent 
  2006  2005  Change 
Revenues $504  $517   (3)
Operating expenses:            
Salaries and employee benefits  191   186   3 
Rentals  94   102   (8)
Depreciation and amortization  34   36   (6)
Maintenance and repairs  15   18   (17)
Intercompany charges  11   4   NM 
Other operating expenses:            
Supplies, including paper and toner  65   67   (3)
Other  84   88   (5)
           
Total operating expenses  494   501   (1)
           
Operating income $10  $16   (38)
           
Operating margin  2.0%  3.1%  (110)bp
FedEx Kinko’s Segment Revenues
Revenues decreased during the first quarter of 2007 due to declines in copy product revenues. These declines more than offset the growth in package acceptance and retail office product revenues. The declines in copy product revenues are due to decreased demand and a continued competitive pricing environment. In the first quarter of 2007, FedEx Kinko’s announced the details of a multi-year network expansion plan, including the model for new centers, which will be approximately one-third the size of a traditional center and will include enhanced pack-and-ship stations and a doubling of the number of retail office products offered. This multi-year expansion of the FedEx Kinko’s network is a key strategy relating to FedEx Kinko’s future revenue growth.
FedEx Kinko’s Segment Operating Income
Operating income decreased $6 million in the first quarter of 2007 due mainly to the decrease in copy product revenues. Operating income was also negatively impacted by higher health insurance costs and increasedrepairs includes costs associated with employee training and development programs, as well as other administrative expenses associatedthe rebranding of FedEx National LTL, which is expected to be completed during 2008. Management is focused on aligning costs with enhancing service, adding 31 new centers and expansion planning activities to add a total of approximately 200 new centers during 2007. Rentals decreased due to reduced equipment rentals as a result of lower copy volumes and favorable lease renegotiations.volume levels.

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FINANCIAL CONDITION
LIQUIDITY
Cash and cash equivalents totaled $2.690$1.112 billion at August 31, 2006,2007, compared to $1.937$1.569 billion at May 31, 2006.2007. The following table provides a summary of our cash flows for the three month periods ended August 31 (in millions):
        
         2007 2006 
 2006 2005  
Operating activities:  
Net income $475 $339  $494 $475 
Noncash charges and credits 441 445  567 447 
Changes in operating assets and liabilities  (251)  (1)  (258)  (257)
          
Net cash provided by operating activities 665 783 
Cash provided by operating activities 803 665 
     
      
Investing activities:  
Capital expenditures and other investing activities  (694)  (670)  (771)  (694)
          
Net cash used in investing activities  (694)  (670)
Cash used in investing activities  (771)  (694)
     
      
Financing activities:  
Proceeds from debt issuances 999 —  — 999 
Principal payments on debt  (221)  (95)  (507)  (221)
Dividends paid  (28)  (24)  (31)  (28)
Proceeds from stock issuances 30 18  40 30 
Other 2 —  9 2 
          
Net cash provided by (used in) financing activities 782  (101)
Cash (used in) provided by financing activities  (489) 782 
          
Net increase in cash and cash equivalents $753 $12 
      
Net (decrease) increase in cash and cash equivalents $(457) $753 
     
Cash Provided by Operating Activities.CashThe $138 million increase in cash flows from operating activities decreased by $118 million in the first quarter of 2007 as increased earnings were more than offset by an increase2008 was largely attributable to year-over-year reductions in receivables due to revenue growth and contributions to our principal U.S. domestic pension plans.variable incentive compensation payments. We made tax-deductible voluntary contributions to our principal U.S. domestic pension plans of $100$110 million in the first quarter of 2008 and $100 million during the first quarter of 2007. On September 1, 2006, we made additionalWe expect to make tax-deductible voluntary contributions to our qualified U.S. domestic pension plans for the remainder of $382 million. On September 1, 2005, we made tax-deductible voluntary contributions totaling $456 million to our qualified U.S. domestic pension plans.2008 at levels consistent with 2007.

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Cash Used for Investing Activities. Capital expenditures during the first quarter of 20072008 were 4%10% higher than the prior year period largely due to planned expenditures for facility expansion at FedEx Ground’s comprehensive network expansion.Express. See “Capital Resources” below for further discussion.
Debt Financing Activities. On August 2, 2006, we filed an updatedWe have a shelf registration statement filed with the SEC. The new registration statement does not limit the amount of any future offering. By using this shelf registration statement, we maySecurities and Exchange Commission (“SEC”) that allows us to sell, in one or more future offerings, any combination of our unsecured debt securities and common stock.
On In August 8, 2006, under the new shelf registration statement, we issued $1 billion of senior unsecured debt under our shelf registration statement, comprised of floating ratefloating-rate notes totaling $500 million due in August 2007, and fixed ratefixed-rate notes totaling $500 million. The $500 million duein floating-rate notes were repaid in August 2009.2007. The floating rate notes bear interest at the three-month London Interbank Offered Rate (“LIBOR”) plus 0.08%, reset on a quarterly basis. As of August 31, 2006, the floating interest rate was 5.58%. The fixed ratefixed-rate notes bear interest at an annual rate of 5.5%, payable semi-annually. Wesemi-annually, and are using thedue in August 2009. The net proceeds were used for working capital and general corporate purposes, including the funding of acquisitions.

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During the first quarter of 2007, $200 million of senior unsecured debt and $18 million of medium term notes matured and were repaid.several acquisitions during 2007.
A $1.0 billion revolving credit agreement is available to finance our operations and other cash flow needs and to provide support for the issuance of commercial paper. Our revolving credit agreement contains a financial covenant, which requires us to maintain a leverage ratio of adjusted debt (long-term debt, including the current portion of such debt, plus six times rentals and landing fees) to capital (adjusted debt plus total common stockholders’ investment) that does not exceed 0.7 to 1.0. Our leverage ratio of adjusted debt to capital was 0.6 at August 31, 2006.2007. We are in compliance with this and all other restrictive covenants of our revolving credit agreement and do not expect the covenants to affect our operations. As of August 31, 2006,2007, no commercial paper was outstanding and the entire $1.0 billion under the revolving credit facility was available for future borrowings.
Dividends.We paid $28$31 million of dividends in the first quarter of 20072008 and $24$28 million in the first quarter of 2006.2007. On August 18, 2006,17, 2007, our Board of Directors declared a dividend of $0.09$0.10 per share of common stock. The dividend is payable on October 2, 2006,1, 2007, to stockholders of record as of the close of business on September 11, 2006.10, 2007.
Other Liquidity Information. We believe that our existing cash and cash equivalents, cash flow from operations, our commercial paper program, revolving bank credit facility and shelf registration statement will adequatelywith the SEC are adequate to meet our current and foreseeable future working capital and investing activities needs for the foreseeable future and finance our pending acquisitions.capital expenditure needs. In the future,addition, other forms of secured financing may be used to obtain capital assets if we determine that they best suit our needs.needs for the foreseeable future. We have been successful in obtaining investment capital, both domestic and international, although the marketplace for such capital can become restricted depending on a variety of economic factors. We believe the capital resources available to us provide flexibility to access the most efficient markets for financing capital acquisitions, including aircraft, and are adequate for our future capital needs.
We have a senior unsecured debt credit rating from Standard & Poor’s of BBB and a commercial paper rating of A-2. Moody’s Investors Service has assigned us a senior unsecured debt credit rating of Baa2 and a commercial paper rating of P-2. Moody’s characterizes our ratings outlook as “stable,” while Standard & Poor’s characterizes our ratings outlook as “positive.” If our credit ratings drop, our interest expense may increase. If our commercial paper ratings drop below current levels, we may have difficulty utilizing the commercial paper market. If our senior unsecured debt ratings drop below investment grade, our access to financing may become more limited.
CAPITAL RESOURCES
Our operations are capital intensive, characterized by significant investments in aircraft, vehicles, technology, package handling facilities and sort equipment. The amount and timing of capital additions depend on various factors, including pre-existing contractual commitments, anticipated volume growth, domestic and international economic conditions, new or enhanced services, geographical expansion of services, competition, availability of satisfactory financing and actions of regulatory authorities.

 

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The following table compares capital expenditures by asset category and reportable segment for the three-month periods ended August 31 (in millions):
                                
 Dollar Percent  Dollar Percent 
 2006 2005 Change Change  2007 2006 Change Change 
Aircraft and related equipment $302 $276 $26 9  $287 $302 $(15)  (5)
Facilities and sort equipment 101 92 9 10  158 101 57 56 
Information and technology investments 86 91  (5)  (5) 90 86 4 5 
Vehicles 163 176  (13)  (7) 164 163 1 1 
Other equipment 47 36 11 31  67 47 20 43 
              
 
Total capital expenditures $699 $671 $28 4  $766 $699 $67 10 
       
        
FedEx Express segment $394 $388 $6 2  $448 $394 $54 14 
FedEx Ground segment 134 116 18 16  132 134  (2)  (1)
FedEx Freight segment 86 82 4 5  74 86  (12)  (14)
FedEx Kinko’s segment 24 14 10 71 
Other, principally FedEx Services 61 71  (10)  (14)
FedEx Services segment 112 85 27 32 
       
        
Total capital expenditures $699 $671 $28 4  $766 $699 $67 10 
              
Capital expenditures during the first quarter of 20072008 were higher than the prior year period primarily due to investments in the FedEx Ground network to support volume growth. We expect capital expenditures of approximately $3.0 billion for 2007, compared to $2.5 billion in 2006. Much of the anticipated increase in 2007 is due to facility expansionsincreased spending at FedEx Express vehicle expendituresfor facility expansion and increased spending at FedEx Ground to support network expansions and replacement needs andServices associated with the addition of new locations at FedEx Kinko’s basedKinko’s. We expect capital expenditures of approximately $3.5 billion for 2008, compared to $2.9 billion in 2007; however, we are reviewing the timing of our capital expenditures which could result in lower spending for the year. Much of the anticipated increase in 2008 is on theirspending to support long-term volume growth, such as additional or expanded facilities and new center model.aircraft. We also plan to continue investingto invest in productivity-enhancing technologiesour technology capabilities to improve productivity and the multi-year capacity expansion of the FedEx Ground network.service levels.
Because of substantial lead times associated with the manufacture or modification of aircraft, we must generally plan our aircraft orders or modifications three to eight years in advance. While we also pursue market opportunities to purchase aircraft when they become available, we must make commitments regarding our airlift requirements years before aircraft are actually needed. We are closely managing our capital spending based on current and anticipated volume levels.

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CONTRACTUAL CASH OBLIGATIONS
The following table sets forth a summary of our contractual cash obligations as of August 31, 2006.2007. Certain of these contractual obligations are reflected in our balance sheet, while others are disclosed as future obligations under accounting principles generally accepted in the United States. Except for the current portion of long-term debt and capital lease obligations, this table does not include amounts already recorded on our balance sheet as current liabilities at August 31, 2006.2007. Accordingly, this table is not meant to represent a forecast of our total cash expenditures for any of the periods presented.

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                             Payments Due by Fiscal Year 
 Payments Due by Fiscal Year  (in millions) 
 (in millions)  There-   
 There-    2008(1) 2009 2010 2011 2012 after Total 
 2007(1) 2008 2009 2010 2011 after Total  
Amounts reflected in Balance Sheet:
  
Long-term debt $625 $500 $500 $499 $249 $539 $2,912  $16 $530 $499 $250 $— $539 $1,834 
Capital lease obligations(2)(3)
 17 100 12 97 8 144 378 
Capital lease obligations(2) (3)
 97 13 97 8 8 137 360 
 
Other cash obligations not reflected in Balance Sheet:
  
Unconditional purchase obligations (3)
 1,003 761 700 830 596 383 4,273  1,019 1,154 1,146 738 87 164 4,308 
Interest on long-term debt 125 118 110 79 65 1,599 2,096  77 112 79 65 47 1,553 1,933 
Operating leases(3)
 1,297 1,521 1,330 1,150 1,012 6,896 13,206  1,327 1,546 1,357 1,190 1,058 6,902 13,380 
                              
 
Total $3,067 $3,000 $2,652 $2,655 $1,930 $9,561 $22,865  $2,536 $3,355 $3,178 $2,251 $1,200 $9,295 $21,815 
                              
(1) Cash obligations for the remainder of 2007.2008.
 
(2) Capital lease obligations represent principal and interest payments.
 
(3) See Note 8 to the accompanying unaudited consolidated financial statements.
We have certain contingent liabilities that are not accrued in our balance sheet in accordance with accounting principles generally accepted in the United States. These contingent liabilities are not included in the table above.
Amounts Reflected in Balance Sheet
We have certain financial instruments representing potential commitments, not reflected in the table above, that were incurred in the normal course of business to support our operations, including surety bonds and standby letters of credit. These instruments are generally required under certain U.S. self-insurance programs and are also used in the normal course of international operations. While the notional amounts ofThe underlying liabilities insured by these instruments are material, there are no additional contingent liabilities associated with them because the underlying liabilities are already reflected in our balance sheet.sheets, where applicable. Therefore, no additional liability is reflected for the surety bonds and letters of credit themselves.
We have other long-term liabilities reflected in our balance sheet, including deferred income taxes, obligations or interest for tax positions under FIN 48 (as described in Note 1), qualified and non-qualified pension and postretirement healthcare liabilities and other self-insurance accruals. The payment obligations associated with these liabilities are not reflected in the table above due to the absence of scheduled maturities. Therefore, the timing of these payments cannot be determined, except for amounts estimated to be payable within twelve months that are included in current liabilities.
Other Cash Obligations Not Reflected in Balance Sheet
The amounts reflected in the table above for purchase commitments represent non-cancelable agreements to purchase goods or services. Such contracts include those for certain purchases of aircraft, aircraft modifications, vehicles, facilities, computers, printing and other equipment and advertising and promotions contracts. In addition, we have committed to modify our DC10 aircraft for passenger-to-freighter and two-man cockpit configurations, which is reflected in the table above. Commitments to

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purchase aircraft in passenger configuration do not include the attendant costs to modify these aircraft for cargo transport unless we have entered into a non-cancelable commitment to modify such aircraft. Open purchase orders that are cancelable are not considered unconditional purchase obligations for financial reporting purposes and are not included in the table above. Such purchase orders often represent authorizations to purchase rather than binding agreements.

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The amounts reflected in the table above for interest on long-term debt represent future interest payments due on our long-term debt, which are primarily fixed rate.
The amounts reflected in the table above for operating leases represent future minimum lease payments under non-cancelable operating leases (principally aircraft and facilities) with an initial or remaining term in excess of one year at August 31, 2006.2007. In the past, we financed a significant portion of our aircraft needs (and certain other equipment needs) using operating leases (a type of “off-balance sheet financing”). At the time that the decision to lease was made, we determined that these operating leases would provide economic benefits favorable to ownership with respect to market values, liquidity or after-tax cash flows.
In accordance with accounting principles generally accepted in the United States, our operating leases are not recorded in our balance sheet. Credit rating agencies routinely use information concerning minimum lease payments required for our operating leases to calculate our debt capacity.
CRITICAL ACCOUNTING ESTIMATES
The preparation of financial statements in accordance with accounting principles generally accepted in the United States requires management to make significant judgments and estimates to develop amounts reflected and disclosed in the financial statements. In many cases, there are alternative policies or estimation techniques that could be used. We maintain a thorough process to review the application of our accounting policies and to evaluate the appropriateness of the many estimates that are required to prepare the financial statements of a large, global corporation. However, even under optimal circumstances, estimates routinely require adjustment based on changing circumstances and new or better information.
As discussed in our Annual Report, during the first quarter of 2008, we updated our critical accounting estimates by adding “Contingencies” and removing “Revenue Recognition.” As discussed in Note 1 to the accompanying unaudited condensed consolidated financial statements and previously in this MD&A, we adopted new accounting rules for income taxes under FIN 48 in 2008. The cumulative effect of adopting FIN 48 was immaterial; however, FIN 48 substantially increases the sensitivities of the estimation process used in the accounting for and reporting of tax contingencies. In addition, as discussed in Note 9 to our unaudited condensed consolidated financial statements, we are involved in various legal proceedings that require complex and judgmental decisions regarding reserves and disclosures. Based on these factors we added the “Contingencies” category to our critical accounting estimates in the first quarter of 2008.
Information regarding our “Critical Accounting Estimates”critical accounting estimates can be found in our Annual Report. The four critical accounting policies that we believe are eitherReport, including Note 1 to the most judgmental, or involve the selection or application of alternative accounting policies, and are material to our financial statements are those relating to pension cost, self-insurance accruals, long-lived assets and revenue recognition.therein. Management has discussed the development and selection of these critical accounting policies and estimates with the Audit Committee of our Board of Directors and with our independent registered public accounting firm.
CONTINGENCIES
Tax Contingencies
We are subject to income and operating tax rules of the U.S., and its states and municipalities, and of the foreign jurisdictions in which we operate. Significant judgment is required in determining income tax provisions as well as deferred tax asset and liability balances and the evaluation of tax positions due to the complexity of these rules and their interaction with one another. We account for income taxes under SFAS 109,Accounting for Income Taxes, by recording both current taxes payable and deferred tax assets and liabilities. Our provision for income taxes is based on domestic and international statutory income tax rates in the jurisdictions in which we operate.

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We account for operating taxes based on multi-state and local taxing jurisdiction rules in those areas in which we operate. Provisions for operating taxes are estimated based upon these rules, asset acquisitions and disposals, historical spend and other variables. These provisions are consistently evaluated for reasonableness against compliance and risk factors.
Tax contingencies arise from uncertainty in the application of tax rules throughout the many jurisdictions in which we operate. These tax contingencies are impacted by several factors, including tax audits, appeals, litigation, changes in tax laws and other rules, and changes in our business, among other things, in the various federal, state, local and foreign tax jurisdictions in which we operate. We regularly assess the potential impact of these factors for the current and prior years to determine the adequacy of our tax provisions. We continually evaluate the likelihood and amount of potential adjustments and adjust our tax positions, including the current and deferred tax liabilities in the period in which the facts that give rise to a revision become known. In addition, Notemanagement considers the advice of third parties in making conclusions regarding tax consequences.
Effective June 1, 2007, we began to measure and record income tax contingency accruals in accordance with FIN 48. The cumulative effect of adopting FIN 48 was immaterial. Upon adoption, our liability for tax positions under FIN 48 was $72 million. We previously accounted for such contingencies using the financial statementsprovisions of Statement of Financial Accounting Standards No. 5, “Accounting for Contingencies” (“SFAS 5”). Under FIN 48, we recognize tax benefits only for income tax positions that are more likely than not to be sustained upon examination by tax authorities. The amount recognized is measured as the largest amount of benefit that is greater than 50 percent likely to be realized upon settlement with the taxing authority. Unrecognized tax benefits are tax benefits claimed in our Annual Report containstax returns that do not meet these recognition and/or the measurement standards. We classify interest related to income tax liabilities as interest expense and, if applicable, penalties are recognized as a summarycomponent of income tax expense.
We measure and record operating tax contingency accruals in accordance with SFAS 5. SFAS 5 requires an accrual of estimated loss from a contingency, such as a legal proceeding or claim, when it is probable that a loss will be incurred and the amount of the loss can be reasonably estimated.
Other Contingencies
Because of the complex environment in which we operate, we are subject to legal proceedings and claims that arise in the ordinary course of business. These include general business matters as well as employment-related matters. Our material pending legal contingencies are described in Note 9 to our significantunaudited condensed consolidated financial statements. In the opinion of management, the aggregate liability, if any, of individual matters or groups of matters not specifically described in Note 9 is not expected to be material to our financial position, results of operations or cash flows. We account for non-income tax contingencies in accordance with SFAS 5. SFAS 5 requires an accrual of estimated loss from a contingency, such as a legal proceeding or claim, when it is probable that a loss will be incurred and the amount of the loss can be reasonably estimated. SFAS 5 requires disclosure of a loss contingency matter when, in management’s judgment, a material loss is reasonably possible or probable of occurring.
Our legal department maintains thorough processes to identify, evaluate and monitor the status of litigation matters as they arise and develop. Management has regular litigation and contingency reviews, including updates from internal and external counsel, to assess the need for accounting policies.recognition of a loss or disclosure of these contingencies. In determining whether a loss should be accrued or a loss contingency disclosed, we evaluate, among other factors, the degree of probability of an unfavorable outcome or settlement and the ability to make a reasonable estimate of the amount of loss. Events may arise that were not anticipated and the outcome of a contingency may result in a loss to us that differs from our previously estimated liability. These factors could result in a material difference between estimated and actual operating results.

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FORWARD-LOOKING STATEMENTS
Certain statements in this report, including (but not limited to) those contained in “Outlook,” “Liquidity,” “Capital Resources” and “Contractual Cash Obligations,” are “forward-looking” statements within the meaning of the Private Securities Litigation Reform Act of 1995 with respect to our financial condition, results of operations, cash flows, plans, objectives, future performance and business. Forward-looking statements include those preceded by, followed by or that include the words “may,” “could,” “would,” “should,” “believes,” “expects,” “anticipates,” “plans,” “estimates,” “targets,” “projects,” “intends” or similar expressions. These forward-looking statements involve risks and uncertainties. Actual results may differ materially from those contemplated (expressed or implied) by such forward-looking statements, because of, among other things, potential risks and uncertainties, such as:
economic conditions in the global markets in which we operate;

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the impact of any international conflicts or terrorist activities on the United States and global economies in general, the transportation industry or us in particular, and what effects these events will have on our costs or the demand for our services;
damage to our reputation or loss of brand equity;
disruptions to the Internet or our technology infrastructure, including those impacting our computer systems and Web site;site, which can adversely affect shipment levels;
the price and availability of jet and diesel fuel;
the impact of intense competition on our ability to maintain or increase our prices (including our fuel surchargesurcharges in response to rising fuel costs) or to maintain or grow our market share;
our ability to manage our cost structure for capital expenditures and operating expenses, and match it to shifting and future customer volume levels;
our ability to effectively operate, integrate, leverage and grow acquired businesses, including FedEx Kinko’s, and to continue to support the value we allocate to these acquired businesses, including their goodwill;
any impacts on our businesses resulting from new domestic or international government regulation, including regulatory actions affecting global aviation rights, increased air cargo and other security requirements, and tax, accounting, labor or environmental rules;
changes in foreign currency exchange rates, especially in the Japanese yen, Taiwan dollar,euro, Chinese yuan, Canadian dollar, British pound and euro,Japanese yen, which can affect our sales levels and foreign currency sales prices;
our ability to defend against challenges to the status of FedEx Ground’s owner-operators as independent contractors, rather than employees;
any liability resulting from and the costs of defending against class-action litigation, such as wage-and-hour and race discrimination claims, and any other legal proceedings;
the outcome of voting by the pilots of FedEx Express to ratify the tentative four-year collective bargaining agreement reached in August 2006;
our ability to maintain good relationships with our employees and prevent attempts by labor organizations to organize groups of our employees, which could significantly increase our operating costs;

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a shortage of qualified labor and our ability to mitigate this shortage through recruiting and retention efforts and productivity gains;
increasing costs and the volatility of costs for employee benefits, especially pension and healthcare benefits;
significant changes in the volumes of shipments transported through our networks, customer demand for our various services or the prices we obtain for our services;
market acceptance of our new service and growth initiatives;

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the impact of technology developments on our operations and on demand for our services (for example, the impact that low-cost home copiers and printers are having on demand for FedEx Kinko’s copy services);services;
adverse weather conditions or natural disasters, such as earthquakes and hurricanes, which can damage our property, disrupt our operations, increase fuel costs and adversely affect shipment levels;
widespread outbreak of an illness such as avian influenza (bird flu), severe acute respiratory syndrome (SARS) or any other communicable disease, or any other public health crisis;
availability of financing on terms acceptable to us and our ability to maintain our current credit ratings, especially given the capital intensity of our operations;operations and the current volatility of credit markets; and
other risks and uncertainties you can find in our press releases and SEC filings, including the risk factors identified under the heading “Risk Factors” in “Management’s Discussion and Analysis of Results of Operations and Financial Condition” in our Annual Report, as updated by our quarterly reports on Form 10-Q.
As a result of these and other factors, no assurance can be given as to our future results and achievements. Accordingly, a forward-looking statement is neither a prediction nor a guarantee of future events or circumstances and those future events or circumstances may not occur. You should not place undue reliance on forward-looking statements, which speak only as of the date on which they are made. We undertake no obligation to update or alter any forward-looking statements, whether as a result of new information, future events or otherwise.

 

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Item 3. Quantitative and Qualitative Disclosures About Market Risk
At August 31, 2006,During the first quarter of 2008, we had approximatelyrepaid our $500 million of outstanding floating-rate senior unsecured debt, issuedas described in August 2006 for working capital and general corporate purposes, includingNote 4 to the funding of acquisitions. We have not employed interest rate hedging to mitigate the risks with respect to these borrowings. A hypothetical 10% increase in the interest rate on our outstanding floating-rate borrowings would not have a material effect on our results of operations.accompanying condensed consolidated financial statements. As of August 31, 2006,2007, there had been no other material changes in our market risk sensitive instruments and positions since the disclosure in our Annual Report. While we are a global provider of transportation, e-commerce and business services, the substantial majority of our transactions are denominated in U.S. dollars. The distribution of our foreign currency denominated transactions is such that foreign currency declines in some areas of the world are often offset by foreign currency gains in other areas of the world. The principal foreign currency exchange rate risks to which we are exposed are in the Japanese yen, Taiwan dollar,euro, Chinese yuan, Canadian dollar, British pound and euro.Japanese yen. Foreign currency fluctuations during the three-month period ended August 31, 20062007 did not have a material effect on our results of operations.
WeWhile we have market risk for changes in the price of jet and diesel fuel; however,fuel, this risk is largely mitigated by our fuel surcharges. However, our fuel surcharges have a lag that exists before they are adjusted for changes in fuel prices and fuel prices can fluctuate within certain ranges before resulting in a change in our fuel surcharges. Therefore, our operating income may be affected should the spot price of fuel suddenly change by a significant amount or change by amounts that do not result in a change in our fuel surcharges.
Item 4. Controls and Procedures
The management of FedEx, with the participation of our principal executive and financial officers, has evaluated the effectiveness of our disclosure controls and procedures in ensuring that the information required to be disclosed in our filings under the Securities Exchange Act of 1934, as amended, is recorded, processed, summarized and reported within the time periods specified in the Securities and Exchange Commission’s rules and forms, including ensuring that such information is accumulated and communicated to FedEx management as appropriate to allow timely decisions regarding required disclosure. Based on such evaluation, our principal executive and financial officers have concluded that such disclosure controls and procedures were effective as of August 31, 20062007 (the end of the period covered by this Quarterly Report on Form 10-Q).
During our fiscal quarter ended August 31, 2006,2007, no change occurred in our internal control over financial reporting that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.

 

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PART II. OTHER INFORMATION
Item 1. Legal Proceedings
For a description of all material pending legal proceedings, see Note 9 of the accompanying consolidated financial statements.
Item 1A. Risk Factors
On August 26, 2006, FedEx Express and the union that represents the pilots of FedEx Express reached a tentative agreement on a new four-year collective bargaining agreement. The new agreement is subject to ratification by the pilots. Otherwise, thereThere have been no material changes from the risk factors disclosed in our Annual Report (under the heading “Risk Factors” in “Management’s Discussion and Analysis of Results of Operations and Financial Condition”) in response to Part I, Item 1A IAof Form 10-K.
Item 4. Submission of Matters to a Vote of Security Holders
At the FedEx Corporation annual meeting of stockholders held on September 25, 2006, FedEx’s stockholders took the following actions:
The stockholders elected fourteen directors, each for a one-year term. The tabulation of votes with respect to each nominee for director was as follows:
         
Nominee For  Withheld 
Frederick W. Smith  277,393,999   5,857,411 
James L. Barksdale  254,669,693   28,581,717 
August A. Busch IV  279,289,785   3,961,625 
John A. Edwardson  279,306,801   3,944,609 
Judith L. Estrin  276,072,238   7,179,172 
J. Kenneth Glass  278,063,467   5,187,943 
Philip Greer  277,321,385   5,930,025 
J.R. Hyde, III  276,490,900  ��6,760,510 
Shirley A. Jackson  277,804,310   5,447,100 
Steven R. Loranger  280,134,422   3,116,988 
Charles T. Manatt  280,079,815   3,171,595 
Joshua I. Smith  277,439,719   5,811,691 
Paul S. Walsh  278,810,864   4,440,546 
Peter S. Willmott  250,759,295   32,492,115 
The stockholders approved the adoption of amendments to FedEx’s Amended and Restated Certificate of Incorporation, as amended, and Restated Bylaws to eliminate all supermajority voting requirements by a vote of 275,652,470 for and 1,689,235 against. There were 5,909,705 abstentions. The Board of Directors has restated FedEx’s Amended and Restated Certificate of Incorporation, as amended, and Restated Bylaws to reflect the simple majority vote amendments. The resulting Second Amended and Restated Certificate of Incorporation has been executed, acknowledged, filed and recorded in accordance with the Delaware General Corporation Law and is attached to this Report as Exhibit 3.1. The resulting Amended and Restated Bylaws are attached to this Report as Exhibit 3.2.
The Audit Committee’s designation of Ernst & Young LLP as FedEx’s independent registered public accounting firm for the fiscal year ending May 31, 2007 was ratified by the stockholders. The tabulation of votes on this matter was as follows:
•279,620,062 votes for
•1,791,986 votes against
•1,839,362 abstentions
•There were no broker non-votes for this item.
A stockholder proposal requesting that the Board of Directors report on the scientific and economic analyses relevant to FedEx’s environmental policy concerning greenhouse gases was not approved by stockholders. The tabulation of votes on this matter was as follows:
•11,866,241 votes for
•201,298,753 votes against
•36,949,949 abstentions
•33,136,467 broker non-votes
A stockholder proposal requesting that the Board of Directors take the necessary steps to amend FedEx’s governance documents to provide that each director nominee be elected by the affirmative vote of a majority of votes cast at an annual meeting of stockholders was not approved by stockholders. The tabulation of votes on this matter was as follows:
•111,420,718 votes for
•132,447,517 votes against
•6,246,708 abstentions
•33,136,467 broker non-votes

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Item 6. Exhibits
   
Exhibit  
Number Description of Exhibit
3.1Second Amended and Restated Certificate of Incorporation of FedEx Corporation.
3.2Amended and Restated Bylaws of FedEx Corporation.
   
10.1 Seventh AddendumAmendment dated June 20, 2007 and Amendment dated July 31, 2006 to2007, each amending the Transportation Agreement dated January 10, 2001, as amended, between the United States Postal Service and Federal Express Corporation. Confidential treatment has been requested for confidential commercial and financial information, pursuant to Rule 24b-2 under the Securities Exchange Act of 1934, as amended.
10.2Transportation Agreement dated July 31, 2006 between the United States Postal Service and Federal Express Corporation. Confidential treatment has been requested for confidential commercial and financial information, pursuant to Rule 24b-2 under the Securities Exchange Act of 1934, as amended.
   
12.1 Computation of Ratio of Earnings to Fixed Charges.
   
15.1 Letter re: Unaudited Interim Financial Statements.
   
31.1 Certification of Principal Executive Officer Pursuant to Rules 13a-14(a) and 15d-14(a) under the Securities Exchange Act of 1934, as Adopted Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
   
31.2 Certification of Principal Financial Officer Pursuant to Rules 13a-14(a) and 15d-14(a) under the Securities Exchange Act of 1934, as Adopted Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
   
32.1 Certification of Principal Executive Officer Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
   
32.2 Certification of Principal Financial Officer Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

 

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SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
     
 FEDEX CORPORATION
 		 
Date: September 25, 200621, 2007 /s/ JOHN L. MERINO   
 JOHN L. MERINO  
 CORPORATE VICE PRESIDENT
PRINCIPAL ACCOUNTING OFFICER 		 
 

 

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EXHIBIT INDEX
   
Exhibit  
Number Description of Exhibit
3.1Second Amended and Restated Certificate of Incorporation of FedEx Corporation.
3.2Amended and Restated Bylaws of FedEx Corporation.
   
10.1 Seventh AddendumAmendment dated June 20, 2007 and Amendment dated July 31, 2006 to2007, each amending the Transportation Agreement dated January 10, 2001, as amended, between the United States Postal Service and Federal Express Corporation. Confidential treatment has been requested for confidential commercial and financial information, pursuant to Rule 24b-2 under the Securities Exchange Act of 1934, as amended.
10.2Transportation Agreement dated July 31, 2006 between the United States Postal Service and Federal Express Corporation. Confidential treatment has been requested for confidential commercial and financial information, pursuant to Rule 24b-2 under the Securities Exchange Act of 1934, as amended.
   
12.1 Computation of Ratio of Earnings to Fixed Charges.
   
15.1 Letter re: Unaudited Interim Financial Statements.
   
31.1 Certification of Principal Executive Officer Pursuant to Rules 13a-14(a) and 15d-14(a) under the Securities Exchange Act of 1934, as Adopted Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
   
31.2 Certification of Principal Financial Officer Pursuant to Rules 13a-14(a) and 15d-14(a) under the Securities Exchange Act of 1934, as Adopted Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
   
32.1 Certification of Principal Executive Officer Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
   
32.2 Certification of Principal Financial Officer Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

 

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