Covenant Logistics Group Inc
NASDAQ:CVLG
Earnings Call Analysis
Summary
Q3-2023
Despite a challenging quarter with a 5% decrease in consolidated freight revenue primarily due to reduced tractor count in the Dedicated segment and a decline in overflow freight in the Managed Freight segment, the company maintains optimism. Adjusted net income fell by 32%, and adjusted earnings per share dropped by 26%. The decline in shares outstanding reflects an aggressive share repurchase program. Looking ahead, the company plans to grow the Lew Thompson business each year and is working on a 5-year strategy that could dynamically adapt to changing conditions. While the company acknowledges the industry is in one of its toughest phases, potentially worse than the 2008-2009 crisis, leadership remains confident in the company's future prospects, expecting a strong recovery. Management has indicated that Expedited and Dedicated rates may remain flat or slightly decrease but are hopeful for better opportunities as the year progresses.
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Welcome to today's Covenant Logistics Group third quarter earnings release conference call. Our host for today's call is Tripp Grant. [Operator Instructions]I would now like to turn the call over to your host. Tripp, you may begin.
Thanks, Ross. Good morning, everyone, and welcome to the Covenant Logistics Group Third Quarter 2023 Conference Call.As a reminder, this call will contain forward-looking statements under the Private Securities Litigation Reform Act, which are subject to risks and uncertainties that could cause actual results to differ materially. Please review our SEC filings and most recent risk factors. We undertake no obligation to publicly update or revise any forward-looking statements. A copy of the proposed comments and additional financial information is available on our website at www.covenantlogistics.com/investors.I'm joined on the call today by David Parker and Paul Bunn. We are pleased with our third quarter's results which benefited from the full quarter effect of the Lew Thompson and Son Trucking acquisition in the second quarter reflected in our Dedicated segment.In addition, our Expedited segment benefited incrementally from the increase in demand for team-driver freight as a result of the closure of Yellow. However, more broadly, the overall freight environment remains challenging with few signs of immediate macroeconomic improvement. Compared to a year ago, consolidated freight revenue was down 5%.The decline is primarily attributable to the combination of little to no overflow freight handled by our Managed Freight segment and a lower tractor count in our Dedicated segment. The reduction of tractors assigned to Dedicated resulted from exiting underperforming legacy contracts, partially offset by acquiring Lew Thompson and Son. The result was higher earnings on fewer trucks.Adjusted operating income declined approximately $4.6 million or 20% compared to the prior year quarter, primarily as a result of our Managed Freight segment, which declined by approximately $4.7 million. Adjusted net income decreased 32% to $15.3 million, and adjusted earnings per share decreased 26% to $1.13 per share compared to the year ago quarter. Weighted average diluted shares decreased as a result of our share repurchase program.Key highlights include freight revenue for the quarter was the highest for any quarter of the year, surpassing second quarter by 4%. The Lew Thompson and Sun Trucking operation continued to perform well with our first new poultry-related customer start-up in late September and a strong pipeline of additional bids.The average age of our fleet at September 30 improved to 23 months compared to 29 months in the prior year and 26 months at June 30, 2023. Within our combined truckload segment compared to the prior year, operations and maintenance-related expenses declined by $0.06 or 21% and fixed equipment costs, including leased revenue equipment, expenses, depreciation and gains on sale, remained flat on a total cents per mile basis.Gain on sale of revenue equipment was $0.6 million in the quarter compared to $0.2 million in the prior year. Our TEL leasing company investment produced $0.28 per diluted share compared to $0.38 per diluted share versus a year ago period.Our net indebtedness as of September 30 was $183.4 million, yielding a leverage ratio of approximately 1.7x and a debt-to-equity ratio of 31.8%. On an adjusted basis, return on invested capital was 10.6% for the current quarter versus 17.5% in the prior year.And now Paul will provide a little more color on the items affecting the individual business segments.
Thanks, Tripp. The performance of Expedited during the third quarter provided for a 90.7% adjusted OR in the midst of a historically weak freight environment. We believe this says a lot about the work we have done to deploy assets with the right customers to lower our cost per mile, improve our utilization and focus on what we can control.In the context of an 8% decline in revenue per mile, we believe a 12% improvement in utilization and a lower cost per mile are significant accomplishments. The improvement in utilization was principally attributable to newer equipment in the fleet and reduced downtime, which we will look to continue as year-over-year freight revenue per total mile compressions are expected to continue and be challenging for the remainder of '23 and into '24.Dedicated reflected another success story centered around our disciplined approach to capital allocation. Dedicated improved its adjusted operating ratio to approximately 93.6% by effectively weeding and feeding. We reduced the overall size of the fleet by 170 trucks, while nearly doubling adjusted operating income.Trading out approximately 400 legacy contract units for Lew Thompson and Son aligns with our strategy of exiting unprofitable or underperforming business and replacing it when opportunities arise that meet our profitability and return requirements. We are pleased with the year-over-year improvement to adjusted margin and expect this to continue to improve upon both this segment size and profitability over the long term.Managed Freight experienced an 11% reduction in total freight revenue and a 57% reduction of consolidated adjusted operating profit. The significant reduction in revenue and operating profit was primarily the product of little to no high-margin overflow freight from our asset-based truckload segments in the 2023 quarter.The brokerage environment remains highly competitive with numerous brokers aggressively competing for volumes at the expense of profit or margin. We anticipate continued margin pressure in this environment. Our Warehouse segment saw a 15% increase in revenue and an 82% increase in adjusted operating profit compared to the prior year. The topline growth is a result of new customer start-ups over the last 12 months and the operating profit improvement was a result of the combination of new customer business and improved rates for existing customers.Although we are pleased with the improved profitability within this segment, we will continue to focus on improving profitability more through improved labor utilization and rate increases with existing customers.Our minority investment in TEL contributed pre-tax net income of $5.3 million for the quarter compared to $7.4 million in the prior year period. The decline was largely a result of reduced gains on sale of used equipment compared to a year ago. TEL's revenue in the quarter declined 8% and pretax net income decreased by 28% versus the third quarter of 2022. TEL increased its truck fleet in the quarter versus a year ago by 42 trucks to 2,195 and grew its trailer fleet by 153 to 7,013.Due to its business model, gains and losses on the sale of equipment are the normal part of business for TEL and can cause earnings to fluctuate from quarter-to-quarter. Our investment in TEL, included in other assets in our consolidated balance sheet has grown to $61.6 million as of September 30, 2023, from $4.9 million back in 2011.In 2022, we received $14.7 million in cash dividends from TEL. And year-to-date, we have received $9.8 million in dividends in the third quarter of 2023. For the fourth quarter, we expect our revenue and earnings to experience a modest decline sequentially due to cyber-attacks on a major customer and the ongoing United Auto Workers strike, which has temporarily depressed load volumes and revenue per truck in our Expedited and Dedicated divisions.More broadly, however, we are optimistic that the trough of the freight cycle is behind us, but remain cautious about the rate at which we'll see improvements. For 2024, we believe that the first half of the year may continue to be challenging and expect our capacity -- and expect capacity to continue exiting the market. Although we are eager for the freight environment to improve, our primary focus remains on the long term by continuing to invest in areas that provide opportunities for us to make forward progress on our strategic plan by exiting underperforming capital tied to underperforming customers and investing capital in business units and customers to provide adequate returns, improving our safety culture and investing in our people.Thank you for your time, and we will now open up the call for questions.
[Operator Instructions] Our first question comes from Jason Seidl from TD Collin.
Can you talk a little bit about the experience with Lew Thompson? It seems to be going pretty well. I know initially when you guys bought them, sort of the theory was that you could really start helping them grow. Maybe sort of how should we expect that into '24 and beyond? And then maybe can you expand upon sort of uses of cash going forward? You've done a pretty good job of dispersing it between timely acquisitions and also the buyback.
Yes, Jason, this is Tripp. I'll be happy to talk about Lew Thompson first. When we first got Lew Thompson in April of this year, they were about a -- just call it, 225 truck fleet because some of those trucks are shuttle trucks, but had a really, really good business. Liked it, good culture, good fit, fit with exactly what we were looking for in our strategic plan.And one of the silver linings behind that, which is one of the silver linings that we look for with any acquisition, is the opportunity to grow. And if you look back at Lew Tompson and how they've operated in the past, they've really been confined to one smaller region in kind of, call it, Northwest Arkansas. And one of the things that we've brought to them in terms of growth potential is something they've never had before.Certainly, the family had the capital to grow, but getting outside of that wheelhouse of their region is something that they have not done before, and that's something that we've experienced, starting to experiment with and see success with, evidence being in the September of this year, our first startup in Tennessee with a 20-truck fleet. I could see more substantial growth outside of the Northwest Arkansas or Tennessee wheelhouse step up in the next year. But because of the -- there's a couple of nuances with Lew Thompson that we've got to make sure that we're not -- as we grow this business that don't suffer. And one, it's service, and we have to maintain that gold level of service that Lew Thompson maintains. And so we're very careful about the growth and making sure that we're not sacrificing legacy business or a new business by just trying to grow for the sake of growth.Two is capital and making sure that we can acquire the capital that we can grow with because they do -- one of the reasons why we like them is because of their unique capital requirements, whether they're differently spec trucks or different spec trailers. It sets us apart a little bit. So capital is a big hurdle. But I do think that there is lots of opportunity.I'd be hesitant to kind of give numbers right now because we've got a lot of things in the pipeline, but that is a big, kind of just call it, feather in our cap next year with just the opportunities that I believe that we have with Lew Thomson and over the next, call it, 15 months and beyond.
Jason, to add on -- this is Paul -- to add on to what Tripp said is there is an intentional plan to grew Lew Thompson each and every year for the foreseeable future. The exact pace of that growth, I agree with Tripp, it's getting the right equipment and we're in the process on some customer contracts right now and there's a lot of stuff in the pipeline. So we'll stay balanced, but I think you'll see that business grow year-over-year for the foreseeable future.
And going back to your original questions on the use of cash, here's what I can say that if we can grow Lew Thompson, there will be some opportunities for some growth CapEx involved next year. And I can't really comment on future capital allocation plans or decisions that have been made. But what I can do is kind of talk about just in strategy, but giving you a glimpse of what we've done since January 1, 2022. We've repurchased $110 million of stock, paid $10 million of dividends, had 3 very accretive acquisitions for $156 million. So paid out a total of $275 million that are moving the business forward and moving the valuation forward.In turn, we've had to sell capital. We've had to sell underperforming capital, 2 terminals for $56 million that weren't producing a return on investment. And certainly, you guys have seen the truck counts come down over the previous quarters. We're selling off underperforming capital to help finance these things that are producing above-market returns on invested capital. And so, without getting -- the secret sauce is doing more of what we've done in the past, but without getting into any more specifics about our specific plans about the next 12 months.
That makes sense. And one question -- one more question, I'll turn it over to some other people here. So we hear a lot on the drive-end side about sort of where we are with sort of the destocking. It seems like that's largely over. When do you think the sort of restocking will take place? What are your customers telling you about sort of what to expect in the coming quarters?
Jason, I agree. I think the destocking is behind us and I think we're probably -- hopefully, in the next 6 months, we would believe we have to get in some sort of more normalized restocking pattern. If fuel prices stay high, hopefully capacity continues to exit the market. And maybe in the next 6 to 9 months, when can get this thing back in balance a little bit.
And our next question comes from Scott Group from Wolfe Research. It looks like Scott actually went out of the queue. So, our next question comes from Jack Atkins from Stephens. So, Jack, are you on mute?
I'm here. Sorry about that. Can you hear me now, guys?
Yes, sir.
Okay. Sorry about that. So I guess maybe just a couple of follow-up questions here. I'd love to maybe go back, Paul, to your comments in the prepared remarks about the trough of the cycle is behind us. And I know you may be touched on it a bit in that last answer to Jason's question. But I mean, what's kind of driving that confidence? Is it maybe just seeing capacity exit? Is it a function of maybe the comments around inventory destocking being behind us? What's giving you confidence of we're beyond the trough of the cycle or maybe we've seen the trough?
Yes. I think we're probably in it to have seen it, Jack. And I think some of it is the inventory destocking. I mean, a lot of the -- you're seeing a lot of these brokers bid stuff at these crazy low rates and then 2 weeks later, a month later, you turn around and the same freight is back on the market because they can't get carriers to service it. And you're starting to see -- in addition to small fleets be challenged and the capacity exiting there, you're starting to see some capacity exit in the broker space where this whole notion of buying business and just trying to grow revenue for the sake of growing and taking losses on it, that I think people are seeing that model didn't work.And so I do believe that over time, and again, over the next 6 to 9 months, all of that will continue to shake out. I mean, you're coming up on people having to buy tags and pay for their annual insurance and with all the geopolitical things, the fuel goes up, we're going to get to a breaking point here for all. Folks can't run stuff and lose cash in perpetuity.
No, that makes sense. I just wanted to kind of get you to flush that out a bit. So just a couple of other questions for me and I'll hand it over. When you about the fourth quarter and some of the shorter term impacts related to either the auto strikes or the cyber-attack at a customer, is there anyway to maybe frame up the impact that that's having to your fourth quarter result? I mean, absent those, would you have expected maybe the results to be flat or maybe improve sequentially from an earnings perspective?
Jack, I would tell you absent those, we probably would have been around flattish quarter-over-quarter. There's less workdays in Q4 with all the holidays and there's really -- we don't play much in the peak anymore. There's not much peak out there. And so I would have told you we would have probably been flattish. And like we said, I think we'll be down sequentially, but I still think it'll be a nice fourth quarter. The bottom is not going to fall out from under or anything. And so, it will be...
Right. I mean, you said modest, it's just a modest decline, right?
Yes.
Yes. Okay. That makes sense, Paul. I guess maybe kind of shifting gears to one other topic and that's the underlying Dedicated operations. Margins have improved a good bit there with the addition of Lew Thompson. But could you maybe -- I know it's been sort of a longer term strategic focus to improve the profitability of core Dedicated business. You've got the auto strikes going on there. So I know that kind of crowds it a bit. But could you maybe talk about the progress you're making there in terms of the organic Dedicated operations?
Yes. We talked a little bit, and to go back to Lew Thompson, and so I think you'll see that truck grow next year. I think we're probably 90% through the lead and fleet plan. And so Dedicated has been hard to grow in this environment with the one-way truckload market being as low as it is. I would say our pipeline is really robust, but folks are reluctant to pull the trigger because they can save a little bit of money by running 3 months more or 6 months more or whatever in the one-way world.But I think you'll see a lot of that capacity come back into Dedicated. When rates start heading north, I think you'll see a lot of Dedicated contracts start getting signed. And so again, just to summarize that, I think we're through the majority of the weed and feed. There's only, I would say, 10% of the business we're probably still not happy with. I think you're going to Lew Thompson grow and we've got a strong pipeline of, call it, the non-poultry dedicated. It's just going to be a focus of when one-way truckload rates start moving in the other direction, you're going to see some folks, I think, start locking in on some of this pipeline work we've been working on for the last year.
And our next question comes from Michael Vermut from Newland Capital.
Got to say it's been an amazing turn of the company to be putting up these kinds of numbers at a trough environment. Two quick things. When you're looking on the acquisition front and if there are what your pipeline looks right now, are there more central sellers coming to the market and the verticals that you're focusing on?
Yes, a couple of things. We continue to look at the market, Mike, for niche above-average return acquisitions that we think we can grow. That's the answer to your first question. As far as -- there are some of those in the market right now. And so we just continue to look and see what might be a fit. And that kind of answers the second part of your question. We really look for something we can integrate with within one of the verticals of the company, be it Expedited or Dedicated or Managed Trans or Warehousing.And so we're just going to -- as Tripp said it early on, we're going to continue down that path to capital deployment that if investing in growth CapEx is the best return, that's what we're going to do. If it's buying shares back, that's what we'll do. If the right acquisition with the right profile comes along, that's what we'll do. And so I think Tripp laid it out really good earlier. We're just going to kind of keep working down that path because that has -- it has really turned around the way we operate the business and the results, and you can see those evident from where we were to where we're at. So we're probably just keep doing more of the same.
Yes. And I think, Mike, the key to that is being really disciplined with our approach. I mean we get a lot of [ Syndex ] come our way, and open them and turn them down within 5 minutes of opening them. And then of those, maybe 2% of them, we look at them for a day and talk about them and then turn them down. And we've been real fortunate lately I guess with the last 3 that have just come up.And I think that we've talked about it internally when folks publicly know what we're after and what we're looking for and what we're interested in, we're getting to see more volumes of those. And so, we're going to continue to be disciplined in our allocation approach -- capital allocation approach as it comes to M&A. But it seems like the uptick has been really helpful or has really picked up, a lot of which is because we've been public about what we're trying to do.
Got it. Next question, I guess maybe it's for David or I don't know. You've done such a phenomenal job of changing the company and reducing the volatility, and our valuation is pretty much where it was 5 years beyond, right? We're trading under 10x, 9x, the group's trade closer to 20x. So there's nothing really comparable to us since no one has performed like we have through this cycle. Is there a point where you think about taking the company private or doing something internally if the market is not going to reward us?
Mike, this is David. Number one, I got your same sentiments. I don't disagree with anything you just said there. Of course, we can't talk about going private or anything like that. But that's why we got a Board. We got a Board to talk about all the issues that are there, and we're busting our butts. And as I said 2 or 3 years ago when we started down this road of where we should be at in the market, somebody is going to love us. Wall Street can love us. We're going to love ourselves. We brought back 25% of the company and we're doing a great job. This team is doing unbelievable. I could not be any more excited about what the group is doing and just -- they're doing great.And I think that Wall Street will reward us. I think one day that it will wake up and say they are doing well, and we will get rewarded. But again, we bought back 25% of the company, somebody is going to love us. So we're going to have to determine who's going to love us.
Excellent. And then one other thing. When we look at, let's say we're near the trough year and we're doing $400 million to $450 million of trough earnings. When you look at what was added in here, layered in the acquisition, what's on the table here, is there any reason to think we won't be getting back up to the $550 million to $650 million as we approach another peak? Is the earnings power stronger at the company now than it was...
Without a doubt. We're working on a 5-year strategy. And of course, 5-year strategy, as we all know, is -- I love our strategic planning and looking out the next 5 years because we've been doing this for about a solid 3 years there at this time that you've seen us do what we have achieved. It has been a great strategic plan. And we got the 5-year plans. And again, those can change in a year depending upon the conditions out there.But, hey, at the end of those, I couldn't be any more happier. The numbers -- we are going to get back when things turn around. We're going to shoot off very nicely. There's no doubt in my mind that we've got the company positioned to have an outstanding future. Again, I couldn't be more proud of where we're at. This is probably the most difficult environment. I mean we can compare to '08, '09, and we all could say that it may even be worse than '08 or '09 because to be honest with you, never forget October of '08, ISM was a 38. And by June, July next -- the following year, about 8 months later, we were showing extremely nice positive internal numbers on utilization and revenue, and those kind of things. And none of us in the industry have seen that in this environment today, and we're all sitting there saying, is it going to happen now, is it going to happen in March, is it going to happen in next June, and nobody knows that. And performing the way we are performing, I'd say hallelujah.
That's right. There's no company that I can find right now in this environment that's performing as well as we are. So you said it 5 years ago and the company is a completely different company now. So a great job, guys.
And our next question comes from Scott Group from Wolfe Research.
Sorry about that earlier. I was just wondering, as you -- as we get to 2024 bid season, how are you thinking about Expedited rates, Dedicated rates? Do you think rates can start moving up next year? Do they -- do you think there is some further downside risk to rates at -- what's your approach early on to bid season?
Scott, this is Paul. Here's what I think. As you know, a lot of the bids come out early in the year. And so I'll tell you what we're thinking. Expedited is probably flattish to maybe down 1% or 2%. And Dedicated, we think, is probably flattish because all of that gets done early in the year. I think on the Managed Trans side, a lot of that is more in the spot market. So I think they'll get the benefit of things as the year goes along next year.And so I think there will be some right opportunity by this time next year. But I think there won't be in the early part of the year. So we're -- you could kind of say we're kind of in the flattish world because a lot of the folks we talk to, I mean it's -- costs keep going up, small guys keep going out of business, I mean this thing will -- it's getting to a point where folks aren't going to do this for practice. Whether it's small carriers that are keeping rates depressed through brokerages or large carriers, most people are kind of at the place where they are where they are.
Makes sense. And so in an environment where rates are flat to maybe down slightly, you said we saw some cost inflation. Are we confident about the ability to sort of grow earnings from this low $4 level next year?
Yes. I think -- we think we can incrementally grow earnings next year. I mean I think there's a few key things, what is our maintenance cost do, what does our insurance costs do, what -- how does this -- some of this pipeline that we were talking about a minute ago, when does that come on board, and how quick does it get to the kind of model profitability level. But yes, we think that we can have some incremental earnings growth in '24 off '23.Nothing significant next year. But as soon as we're talking about [indiscernible] as soon as things pop, I think it's going to -- you'll see a more material amount of earnings growth. And so that's kind of the way we're modeling it out right now.
And at this time, there are no further questions. I'd like to turn the call back over to Tripp for closing remarks.
Yes, we'd just like to thank everybody for your participation today, and I wish everybody a good rest of the week and a good weekend, and we'll talk to you next quarter. Thank you very much.
This concludes today's conference call. Thank you for attending.