The 3 Keys to UPS's Returns

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Despite constant attempts by analysts and the media to complicate the basics of investing, there are really only three ways a stock can create value for its shareholders:

  1. Dividends.
  2. Earnings growth.
  3. Changes in valuation multiples.

In this series, we drill down on one company's returns to see how each of those three has played a role over the past decade. Step on up, UPS (NYS: UPS) .

UPS shares returned 68% over the past decade. How'd they get there?

Dividends provided about half of the gain. Without dividends, shares returned 35% over the past 10 years.

Earnings growth was decent. UPS' normalized earnings per share grew by an average of 5.2% per year from 2001 until today. That's about what you should expect from an established large-cap company: earnings growth that chugs along at a rate a few percentage points above inflation.

And have a look at UPS' earnings multiple:

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Source: S&P Capital IQ.

UPS' P/E ratio has indeed declined over the past decade, but not by nearly as much as other large-cap stocks. The same has been true for rival FedEx (NYS: FDX) ; valuation multiples have been relatively steady over the past decade. That's helped both companies produce market-beating returns. Many companies that were overvalued 10 years ago spent most of the last decade watching valuation multiples come back to Earth, which washed out shareholder returns even as earnings grew. Since UPS shares were reasonably valued 10 years ago, valuation multiples stayed fairly tame, and more of the company's earnings growth turned into tangible shareholder returns.

Why is this stuff worth paying attention to? It's important to know not only how much a stock has returned, but where those returns came from. Sometimes earnings grow, but the market isn't willing to pay as much for those earnings. Sometimes earnings fall, but the market bids shares higher anyway. Sometimes both earnings and earnings multiples stay flat, but a company generates returns through dividends. Sometimes everything works together, and returns surge. Sometimes nothing works and they crash. All tell a different story about the state of a company. Not knowing why something happened can be just as dangerous as not knowing that something happened at all.

At the time this article was published Fool contributorMorgan Houseldoesn't own shares in any of the companies mentioned in this article. Follow him on Twitter @TMFHousel.The Motley Fool owns shares of FedEx and United Parcel Service. Motley Fool newsletter services have recommended buying shares of FedEx. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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