Hub Group Inc (HUBG) 2007 Q2 法說會逐字稿

Good afternoon and welcome to the Hub Group 2007 second-quarter conference call. We will begin with a discussion of the financial results led by Terri Pizzuto, Executive Vice President, Chief Financial Officer and Treasurer, followed by an overall business discussion to be conducted by Dave Yeager, our Vice Chairman and CEO. The Company will make its prepared presentation followed by a question and answer session.

At this time, all participants are in a listen-only mode. Comments made by Hub Group employees during this conference call may contain forward-looking statements. Actual results could differ materially from those projected in these forward-looking statements. Our SEC filings contain additional information about factors that could cause actual results to differ materially from those projected in these forward-looking statements. Copies of these SEC filings may be obtained by contacting the Company or the SEC.

Now, I would like to introduce Terri Pizzuto, the Chief Financial Officer of Hub Group. Please proceed.

I would like to begin by covering three things. First, we had a record quarter. Second, gross margin as a percentage of sales was higher than last year and the same as in the first quarter of 2007. Third, we had rock solid volume growth in Intermodal. Here are the key numbers.

All the amounts that I will discuss relate to continuing operations. Hub's second-quarter diluted earnings per share is up 21% from 2006. The second-quarter operating margin was 5.5% compared to 5% last year. At the end of June, we had $52 million in cash and no debt.

Now, I will discuss details for the quarter, starting with revenue. Intermodal revenue was up 5%. This growth came from a 5% volume increase. The accomplishment here is that we took share in an Intermodal market that's down. Truck brokerage revenue was down 6% due mainly to lower volume. But, gross margin as a percentage of sales in Truck brokerage did increase as compared to the second quarter of 2006. Logistics revenue was 12% lower than last year. The decrease in revenue is due entirely to the fact that we started recording revenue for one of our larger customers on a net basis beginning in April. Excluding the decline in revenue for this one customer, Logistics revenue was up 12%.

Gross margin dollars grew by $2.3 million or about 4%. This growth comes primarily from drayage and Intermodal volume growth. Hub's gross margin as a percent of sales increased to 14.4% compared to 14% last year. The two main reasons for this increase in our gross margin percentage were one, drayage operations were more efficient, and two, we realized some of the benefits of the margin improvement programs for Intermodal.

Total costs and expenses were $35.6 million in the quarter compared with $35.7 million in 2006. We do expect that quarterly costs and expenses will be in the range of between 36 and $38 million. These expenses don't include any performance units.

We had 1,096 employees at the end of June excluding our drivers. That's a decrease of ten people compared to the end of March. Those ten people all came out of Truck brokerage and drayage administration.

The key metric that we use at Hub to benchmark against our competitors is gross operating margin. Hub's second-quarter gross operating margin was 5.5% as compared to 5% last year. This is the highest operating margin in Hub's entire 36-year history. The effective income tax for the quarter was about 40%.

Now, let's turn to our balance sheet and how we used our cash. Free cash flow in the second quarter was about $17 million. During the quarter, we spent $5.4 million on capital expenditures. We spent about $3.5 million on tractors for Comtrak and another $0.5 million for computers that go in tractors. For the full year, we still think that capital expenditures will be in the $10 to $11 million range.

We received about 600 new 53-foot containers for our fleet during this quarter. We will get another 1400 containers before peak season starts. These purchases were financed with operating leases that have about a six-year term.

We are continuing to look for strategic acquisitions. Each acquisition candidate must meet three key objectives. Those objectives are a good cultural fit, a healthy business that's not a fixer-upper, and results that are accretive to Hub Group. While we are always looking for good acquisitions, we will also use our cash to buy back stock. Back in October, the Board authorized the purchase of up to $75 million of our common stock. That authorization expires on June 30, 2008. We purchased about $12.5 million in stock so far this year and that was all in the first quarter. This means that we can purchase up to $62.5 million of stock under the current authorization.

Now I'm going to discuss full-year 2007 earnings guidance. At the end of the quarter, we compare our full-year EPS forecast to the publicly available analyst range. For 2007, we expect that our earnings from continuing operations will be within the current analyst range of between $1.36 and $1.46 per diluted share. The weighted average diluted shares are estimated at about $40 million for 2007. These shares don't assume any more repurchases under our share buyback program.

To wrap it up, we feel good about our strong performance this quarter. We posted our highest quarterly Intermodal volume growth in over two years and our operating margin was a new record.

And with that, I will turn it over to Dave Yeager, our CEO.

Great. Thanks, Terry. We're very pleased with the strong results for the second quarter. Our asset-light business model and our continued focus on margin enhancement has resulted in a record second quarter in what continues to be a soft freight market with capacity outstripping demand.

Our Intermodal business helped to deliver another record quarter. We grew Intermodal revenue and volume by more than 5%. We achieved this growth despite a soft freight economy in which overall domestic Intermodal loadings were down. Three key components contributed to our Intermodal volume growth. First, we continue to add new customers and volume in our wholesale business. Our wholesale business involves marketing our fleet to other IMCs who want access to the BN network. Second, we've won some new business in recent bids. As we said last quarter, there was a significant increase in bid activity in the first half of this year. When bidding, we've been most aggressive on corridors that best fit Hub's network and for the most part we've been pleased with the bid results.

And finally, we continue to grow our domestic reload business. This is the niche business that we have intently focused on for the last year. While this product is targeted only to customers that ship dense products, we do believe that the growth potential is significant.

As a normal business practice, we continued in the second quarter to be very focused on margins and margin enhancement. We remain disciplined in pricing our new business and continue to look for improvements in our purchasing from our rail and drayage vendors. We've also kept a very tight rein on our costs. As a result of these practices and our scalable model, we've been able to achieve the highest operating margin in Hub's history.

Partially due to our investments in technology and systems, we were able to grow our Intermodal business and keep our Intermodal employee headcount flat. Over the last few quarters, we've continued to make enhancements to our operating system to improve customer service and employee productivity.

During the second quarter, we continued to see improvements in rail service. Service improved across all major rail providers with some rails showing double-digit improvements in on-time performance. The investments made by the railroads coupled with lower freight levels have enabled the railroads to keep their networks more fluid and predictable. We remain optimistic that the rails will continue to make improvements in their service levels.

Between our own fleet and the neutral rail fleets, there was generally ample capacity available during the second quarter. We did see a typical seasonal surge at the end of the quarter, but we were able to meet the needs of our customers.

As we discussed in our last call, we have been converting our remaining QS operations over to Comtrak. During the second quarter, we converted our largest QS operation, which is located in Chicago, and plan to convert our remaining two QS operations in California over to Comtrak after peak. We continue to be very upbeat about the Comtrak acquisition. Comtrak's great management skills, their disciplines coupled with their technology continues to help our drayage operations become more efficient and more profitable.

One of our consistently growing businesses, that of Truck brokerage skipped a beat in the second quarter as revenue declined by 6%. Even though we had a revenue decline, our ongoing focus on margin enhancement did result in brokerage gross margin percentage increasing slightly.

In this slow truck market, we continue to maintain our pricing discipline and remain cautiously optimistic for the remainder of the year. Through the end of the second quarter of 2007, we responded to about twice as many bids as is normal. To date, we still don't have definitive awards on over half of the bids in which we participated.

As Terri said, our Logistics revenue was down due to the net reporting that started in April for one of our largest Logistics customers. We have, however, maintained all of our Logistics customers and, in fact, we landed two new accounts during the quarter that will generate annualized revenue of over $30 million. Our Logistics pipeline remained strong with over $100 million of potential business and we feel confident that a third of this business ultimately will materialize.

In conclusion, we had an excellent quarter. We generated impressive earnings growth in a softer freight market. thanks to our disciplined approach to margin enhancement, pricing, and controlling our costs. We continue to be in a strong financial position with $52 million of cash in the bank and a very healthy cash flow. We look forward to a great second half of the year and at this point in time, we will open up the line to any questions you may have.

(OPERATOR INSTRUCTIONS). Ed Wolfe, Bear Stearns.

Good afternoon. Can you take us, Terri, through the cost side a little bit? Obviously, phenomenal job -- $35.6 million flat with a year ago. Is there anything in here that's not sustainable? Is there anything onetime that we should think about that? Or why should these go up to 36 to $38 million if the volumes stay weak?

There are some small one-timers. There's $300,000 of costs that we had for Interdom because the deal terminated. The other thing that we have that is nonrecurring which is also pretty small is we moved our location in California and as a result, we got an incentive of $600,000 that reduced our costs.

Is that ongoing or not?

No. That's a one-timer that was just in --

So the 300,000 was a one-timer that worked against you. The 600,000 was a benefit, so you benefited by 300,000 give or take?

You are exactly right.

Okay. And for Interdom, is there any more costs going forward that we should look for or is the 300,000 the total amount?

The 300,000 is the total amount.

And what line items were these two things in?

Those are in our general and administrative expense.

Both of them -- also the moving location?

Correct. The moving income basically reduced the G&A expense.

Sure. On the Intermodal side, Dave, can you break out the volumes, pricing and mix -- how you get to your revenue growth?

It's actually pretty much 5%. It was all volume growth. There really wasn't much pricing from an increase perspective this particular quarter.

One of your competitors released pricing down quite a bit. You are saying your pricing wasn't down?

No. We were pretty flat.

And --

I'm sorry, Ed, so basically the 5% was all volume.

Okay. If I look at that 5% volume and the negative Truck brokerage volume, can you take us through the quarter, taking seasonality out of it -- just April over April, May over May, June over June and what you are seeing so far in July -- have those volumes stayed steady, picked up, decelerated? How do we look at that over time?

Well, we, of course, we don't really break down by month and we don't discuss the current quarter from a volume perspective.

But -- and you may recall -- when we had announced the Interdom acquisition, we had stated that Truck brokerage would be down double-digit, we felt, for the quarter. It obviously ended up being down 6%, so we did, obviously, see some improvement in June.

Okay. So directionally, that's the Truck side. Should we assume Intermodal is similar or different?

Intermodal, the overall growth through the quarter was pretty consistent. It wasn't like there was any big spikes or anything. We did see some increase, which is traditional in the last half of June, but that's just a normal seasonal peak.

Okay. Terri, you talked about when performance units occurred. I wasn't quite sure what you said. And were there some performance-based incentives in this quarter or in the quarter a year ago?

Yes, I had said that our guidance with respect to costs, the quarterly costs in the future were between 36 and $38 million, and that those numbers do not include any performance units. And so, it's not in our guidance and we have not included any performance units.

Were there performance units in the second half of '06 in either of the comp quarters?

No.

Okay, and was there any in second quarter of '07?

No.

Okay. The two contracts that you talked about totaling 30 million, when do those start kicking in and are there startup costs around those Logistics contracts?

The one just started to kick in, I believe it was last Friday. The other one is due to start this week, I believe. Startup costs are minimal. Again, this is mostly using our technology to better optimize their transportation network, so the startup costs are minimal.

Okay, and then just last question. When we look at why you didn't purchase stock versus you purchased a lot last quarter. Should we think that you were thinking about the Interdom acquisition and that if we don't see an acquisition soon, you will be purchasing stock or how do we think about that?

We didn't purchase stock. We knew of the Interdom acquisition. We didn't feel as though we could go into the market and purchase until that information was public. By the time it was public information, we had -- we were outside of our window.

Okay.

So we were just basically we were precluded from purchasing stock last quarter.

Two separate questions. Are there any acquisitions on the horizon? And should we think about share repurchases this quarter as we -- assuming you're not in a window?

Yes to both.

Okay. Thanks a lot for the time. I appreciate it.

Alex Brand, Stephens.

Thanks. Good afternoon. I guess, Dave, as far as discussing an outlook, I'm going to ask you to do it a little bit. Just, if you would just talk a little bit about what your customers are telling you about transloading and how you feel that you're positioned to maybe capture some of those opportunities.

Okay. We do expect for the transloading volumes to increase this year directly as a result of some of the large increases that the steamship lines have seen with the rails. That being said, if, in fact, and we are getting a better handle on this at this point in time, Alex. We're not 100% there as far as our understanding. If the peak is lengthened, we will definitely benefit. If peak is over a six-week period and it's just a frenzied demand, there really is going to be -- it's going to be a little of economic benefit to us this year.

Most of our customers we are thinking are going to be stretching it out a bit, so that is our hope and desire at this point, but we really haven't -- don't have that as a definitive answer as of yet.

Okay. So you think you will have some capacity available? Are the additional 2,000 containers enough to help you get some of that business or handle it?

It will certainly help us. It's also -- the timing of it, all of these remaining 1400 boxes are being delivered to Los Angeles, and so that will definitely help us. As far as capacity perspective, our fleet will be at its largest size ever this peak shipping period with the new acquisitions and we haven't turned in any of the 48s that actually we could terminate at this point in time because their lease is up. So, we will have a large fleet during this peak season.

And what will your fleet be for this peak season?

The boxes that we own or --

Right. That you own.

That we own and lease; there are about 7400 for peak.

That we will own, right. And the remainder of the leased boxes puts us up close to about 15,000 boxes, I believe?

Right.

All right. And Dave, in mentioning volume growth, you said two main drivers you thought there were, that you've been able to be somewhat aggressive in getting the business aggressive but disciplined, I think you said, in the business you wanted. But you also said the wholesale business on BN, which I don't remember you talking much about before. Is that something that you are focused on that you think is a real growth opportunity?

It's got some growth opportunity. It's primarily restricted to there's some customers that for a variety of reasons, want to be predominantly on the Burlington Northern. It could be service; it could be consistency. They perceive certain corridors are better on the BN. And so, instead of going directly after some of the IMCs, we're working with them, with their clients that have that requirement to move on the BN. It was our largest growth -- it was a large growth area for us, but I -- it does have some potential growth, but I don't think it's an infinite well we can go to.

Is that business sort of -- is the profitability acceptable there? Is it comparable to the rest of your business?

Yes.

Okay. And my final question for you, on the truckload business, I think what you've said before is that you don't have the flexibility of a CH that you kind of -- you ebb and flow with your customers' volumes. But it sounds like you feel like you are attacking the market a little bit better and going after more bids. Is your outlook changing on your ability to grow that more consistently in spite of the sort of broader environment?

Well, we do have -- it is a different model than CH. We are less transactionally focused. A lot of our growth is dependent on our pipeline of what we have of project work as well as new customers on boarding. So the bids can actually -- it, of course, it puts a fair amount of risk in play because some of your business is out in these bids, but it also has given us some opportunity to try and gain share of some of the customers we may not be dealing with.

As I'd said, it was as a double versus what it was the prior year. We've only received feedback on about a quarter of them. And so, there's still an awful lot that could be forthcoming from the bids; we just don't know at this point.

Okay. Fair enough. Thanks a lot.

John Barnes, BB&T Capital Markets.

Good afternoon, guys. Dave, I just -- going back to Ed's question for a minute. Now that the Interdom transaction is done, once you get past this window, surrounding your earnings announcement, are we to take it that it?s your intention and you believe without another acquisition like Interdom on the horizon, that your best use of cash is share repurchase?

Yes, but we do have some other acquisitions we're working on as well.

Okay. All right. So, okay. All right. I was trying to get a feel did you mean you were going to be back in the market pretty quickly? It sounds like you've got some other things in the works then?

We've got some things in the works, but certainly the share repurchase is a good use of our capital, we believe, as well.

Okay. All right. Very good. The next question is just, longer-term, looking at your fleet size, you've got one competitor in the market that owns, that outright owns probably four times the number of containers you do. I'm just kind of curious, where do you think that 7400 number goes to? Do you end up being a much more container intensive business? And you've handled 7400 pretty well. Does it really change the dynamics of your business that much to be a bigger owner and operator of containers longer-term?

Well, the 7,400, of course, is, in fact, what we own through operating leases that are our red box, our [HGIU?s]. We do also utilize about 7,000 rail-owned, which we are renting on a regular basis, if you will, that are assigned to a hub and that we continue to use for our customers' benefit.

We -- one of our studies we did about a year and a half ago, and then a most recent survey we did as well, is that being at about 60% of using our fleet boxes and 40% the neutral rail fleet is about optimal for us. That way, we're not trying to build the church for Easter Sunday, but we still have a lot of flexibility. So I think you'll see us either through rail, assigned fleets or through our actual ownership with the operating leases, continue to be in the 14,000 range for fleet size and as we grow our volumes, we will grow our fleet.

Okay. And of the containers that are on lease, can you give us kind of an idea of the average duration of those leases? Is it short-term? So if the market rolled over on you, you could get out of them pretty quick? Or are you trying to tie up capacity and kind of protect yourself along those lines?

Well, the 7400 is coterminous with our contract with the Burlington Northern.

Those are the ones that I mentioned that are -- those are six-year on average right now. The new ones we are getting are six-year.

And with the railroad assigned fleet that we manage, those we can in fact, those are relatively short-term contracts we could get out very easily. But even -- I don't foresee us at any point wanting to cut back on the fleet significant from the 14 or 15,000 level, just because our daily needs are about 24,000 containers. So, if we would drop down and our daily needs are only 14,000, we've got a lot of serious issues in that case, John.

No doubt. Okay. All right. Very good. All right, guys, nice quarter. Thanks for your time.

(OPERATOR INSTRUCTIONS). Jon Langenfeld, Robert W. Baird.

Good afternoon. On the volume side, is there anything that you are seeing from the railroads that would lead you to believe that they are going to switch back and emphasize the international again once that gets going as opposed to, it certainly seems from the numbers we've seen thus far from them that the domestic has been the path of least resistance in terms of growth here over the first six months of the year.

We do believe that they are going to look to grow both sides of the business. Of course, the international loadings I think are probably flat at best for the second quarter and very likely will be so for the second half of the year. So, I think they are going to put equal weight. I don't think any one railroad wants to become just a domestic railroad or that any one railroad wants to become just a 40-foot can railroad either.

But do you think it's been more -- I mean it certainly seems like the last couple of years, they very much overemphasize the international -- maybe at times at the expense of domestic. Do you feel as though them having seen this environment, maybe they've realized, hey, we do need to pay attention to domestic a little bit more closely than we have?

I think that's probably a pretty fair assessment. They did focus a lot on international because it was growing at double-digit paces. And so they did -- require an awful lot of focus from the rails. But no, I do believe that they are watching the domestic very, very closely and looking to grow that aggressively this year.

Okay. And then if you look at your growth across your various regions, is it relatively balanced or are you seeing more of the growth out East?

The top three places that we grew out of, the origins were Nor-Cal, Southern California, and the Northeast.

In that order?

No. But those are the top three that grew the most.

So if you balance that altogether, would your -- it sounds like your West may be even growing a little bit faster than your East.

Right.

Yes, those are some of our target markets.

Okay. And is there any reason to believe that your volume growth trends can't be sustained here in the near-term?

Jon, I got in trouble several years ago by predicting some growth. We are very, very focused on continuing to grow our volume. As I said in the prepared text, we've got a very stable, very scalable platform and so throwing on more volume certainly helps us and it's something we can easily absorb. So we're going to stay focused on it. At the same point in time, we're going to stay focused on margins and our margin enhancement effort. So it's somewhat of a mixed bag there.

Fair enough, and on the margin side, now that you have grown volumes for a couple quarters, the ability to manage your costs, and we don't see the details of the costs relative to just Intermodal, but your ability to manage the costs in that business, is it a different game now that you are actually growing the volumes?

You're talking the costs and expenses, Jon rather --?

Yes. Relative to the Intermodal, what's supporting Intermodal?

Well, we grew 5% in Intermodal and we did not add any headcount in Intermodal. It was flat. So it was pretty scalable.

So you didn't feel -- I mean the first half of this year hasn't felt any different on the cost management side under a growth trajectory versus the previous several years where you are actually contracting volumes?

We have some new technology enhancements that Dave mentioned a little in his prepared remarks too, that have helped us to be more efficient. And Dave still approves every single new person that we hire, which helps us to control our costs.

Absolutely. And do you still feel as I think in the past, that you all said that we're probably somewhere in the mid innings of the game in terms of margin expansion. Do you still feel that way today?

We do feel that way, but we do think it's going to be challenging to maintain that 14.4% gross margin for the rest of the year. Some of the challenges the second half of the year will be passing along cost increases in a soft freight environment. Some of our new business is at lower margins, and we could have less favorable mix. But we are always going to focus on margin enhancement and we grew our margin by $2.3 million, which was over 4%.

Yes. Okay. All right. I think that's all I had. Thank you.

Todd Fowler, KeyBanc Capital Markets.

Dave, could you go through kind of the metrics on how much dray is in-house? I think in the past you said that's been about 30%. Has that -- I'm assuming it's gone up now here in the current quarter. And then, can you talk a little bit about where that should be in the near-term and kind of what the throttles are in moving it up quicker or moving it up at a slower pace?

That's a very good question. It's still about 30% in that area. It has not grown. It's something that we do want to continue to focus on, continue to increase. The real throttle on it, the driver on that is the drivers, and attracting them and making sure that they fit our quality criteria. We constantly have an issue with that because we have very high standards.

But we also, and one thing that's going to make it possibly more difficult for us to get -- raise the percentage of Hub [Group] business participation is we do also want to handle other people's business as well as ours, because we feel as though the more velocity you can build and you can choose from, the more efficient you can become. I would like to see Comtrak get up to the mid 30s by the end of this year. Realistically, that -- it's going to be -- it will be difficult, but we are focusing on driving the percentages up of their participation in the business.

And then longer-term, you are still looking at roughly doing half of your own dray in-house?

That would be a good number to get too, yes. And that will be over a period of years.

Okay. And then, Terri, I think you touched on this a little bit in answering Jon's question, but with the gross margins at 14.4 for the second straight quarter, if I remember correctly in the first quarter, you were pretty cautious on having us extrapolate that going forward for the back half of the year and for the remainder of the year at that point. Can you talk a little bit about how we should think about gross margins for the third and fourth quarter? It sounds like there could be some mix issues and the issues of passing on the higher costs, but seeing the margins at these levels, I guess how sustainable is that is my real question here.

Yes, last quarter we said too, Todd, that our goal was for our gross margin to be higher than the 13.6 that we had for all of last year and we did well this quarter. The two big drivers of our gross margin percentage change were our drayage operations being more efficient, and the Intermodal margin improvement programs were also helpful. So, as we think about it going forward, we don't give guidance on the margin line.

Yes, I think -- we are always cautiously optimistic. It's a challenge for us to increase or maintain it at the 14.4, certainly in a softer freight market, in particular. We are going to have some rate increases we know in the upcoming quarters. In the past, we have been quite successful in passing on those increases to our customers. We, again, feel as though we can do that and we're right now we are working out the scenarios that we're going to have to be moving forward on price increases come the third quarter. So it's always a challenge to increase your margins, but it's one that particularly I think in a soft freight market, but it's one we're really aggressively working on at this point.

Okay. And then just one last one here, Dave. On the 5% volume growth here in the quarter, you talked about kind of three different buckets. The wholesale piece, the new business, and the reload. Can you give us some direction of maybe what was the largest component of the 5% volume growth? And then, can you also talk a little bit about the profitability or maybe like a revenue per load for those different areas?

Yes, we really don't break out the profitability for each of those segments for those areas. But wholesale was the single largest grower. It's worked out quite well. Both of our bimodal competitors do, in fact, offer a similar product on the Burlington Northern because the IMCs, of course, are not able to move on the Burlington since they can't bring equipment. And so our fleet comes into play with that. And I think the IMCs would prefer to play with us versus the bimodals, because number one, we are an IMC. We understand their needs, their requirements, and I think the product we offer them is very much in tune to what they need.

So that's an area that we will continue to grow. We're not in direct competition with Pacer or something. It's just a product that in fact, since IMCs don't have access to Burlington, that's something we can offer them. So that, we think, will continue to grow, not at maybe as dramatic a pace, but it should continue to grow.

As far as the domestic reload, that was the third fastest-growing area that we had. That's an area we've been focused on over the last year, very, very aggressively. We believe that our operations people have figured out the environment. We are moving 70,000 40-foot reposition cans per year, so we are, by far and away, we believe, the largest user of those domestic 40-foot containers. And that is a market that, again, it's very price focused. It's focused on clients that ship dense commodities, and so you do get more commodity type shippers versus finished goods. And we think it's got a lot of upside. The amount of imports into this country are not going to be going down in the near future.

Okay. And then just, I guess one follow-up. When would you start anniversarying some of the growth on the wholesale side of the business? Did that really start to take off here this year? Or will you see a more difficult comparison maybe in the third or fourth quarter of '07?

It's up year-over-year about double, so I think that the remainder of this year is a pretty easy comparable. It's been steadily growing. So the second half of the year is a pretty easy comp.

Okay, good. Thanks a lot for the color.

And at this time, there are no more questions in queue. On behalf of Hub Group, thank you for attending today's conference. This concludes the presentation. You may now disconnect and have a great day.