Hub Group Inc (HUBG) 2013 Q4 法說會逐字稿

Hello, and welcome to the Hub Group Incorporated fourth-quarter 2013 earnings conference call. I am joined on the call by Dave Yeager, Hubs' CEO; Mark Yeager, our President and Chief Operating Officer; and Terri Pizzuto, our CFO.

(Operator Instructions)

Any forward-looking statements made during the course of the call represent our best and good-faith judgment as to what may happen in the future. Statements that are forward-looking can be identified by the use of words such as believe, expect, anticipate, and project. Actual results could differ materially from those projected in these forward-looking statements.

As a reminder, this conference is being recorded.

It is now my pleasure to turn the call over to your host, Mr. Dave Yeager. You may now begin.

Great. Thank you for the introduction, and welcome to our earnings call.

Our earnings for the fourth quarter were relatively flat year over year, despite an increase in revenue of 11%. Consolidated intermodal revenue for the quarter increased 5% on a 6% increase in volume. The peak shipping demand was somewhat softer than we had originally forecast, and pricing within the intermodal industry continues to be quite competitive.

Consolidated truck brokerage revenue for the quarter was also flat year over year. During the fourth quarter, truck capacity was at equilibrium with demand. This type of environment continues to be a challenge for brokerage margins, as well as its value proposition.

I'm pleased to say that Unyson Logistics posted outstanding performance, with a revenue increase of 72% year over year. This is a direct result of onboarding new clients. We believe that the value that customers receive from Unyson validates our commitment to the model.

And with that, I'd like to turn it over to Mark to go into more detail about performance in each business line.

Thanks, and good afternoon, everyone.

As Dave described, we had a solid quarter, despite dealing with a challenging market. Consolidated intermodal volume growth was 6%, with Hub segment growth of 4% for the quarter, and Mode intermodal growth of 12%. For the Hub segment, local west was our fastest-growing region, with volume up 8% in the quarter.

Local east volume increased 4%, while the transcon business bounced back and grew by 2%. Volume out of southern California has been essentially flat, and slower than anticipated. Mode saw 4% growth in local east, 19% growth in local west, and 2% growth in transcon. We continue to see a difficult pricing environment in intermodal, but are taking steps to improve margins.

We are currently changing processes for equipment allocation, prioritization, and substitution, including the elimination of higher cost drayage and equipment alternatives, where appropriate. We're refining cost projections for pricing and changing how we define and allocate transportation costs to existing business, in order to better evaluate network contribution.

We are aligning sales compensation to emphasize margin, rather than revenue, and this quarter we will be launching our new load planning and dispatch system. Longer term, we're looking at yield and network optimization tools to help us gain a better understanding of the overall marketplace as it relates to our network.

And, as previously announced, work is underway to deploy a satellite container tracking and monitoring platform. We piloted the devices with 50 containers, and are now in the process of installing ORBCOMM's devices in 500 additional containers. This will provide greater visibility and further improve our equipment utilization.

We closed out the year with a fleet count of just under 26,000 containers. Despite an influx of additional capacity during the quarter, some erosion in rail service and several adverse weather events, the fleet continued to perform well. Fleet utilization was 14 days in the quarter, which is the same as it was in 2012. For the full year, fleet utilization was 13.5 days in 2013, versus 13.7 days in 2012.

Moving on to Comtrak, we continue to see solid progress in driver growth. We added 96 drivers during the course of the quarter, bringing our year-end driver count to 2,791. Since the beginning of the year we have added 317 drivers, growing our driver network by 13% over 2012. In 2014, we are planning to further expand our driver recruitment efforts and add 400 drivers.

Comtrak moved 13% more Hub freight during the fourth quarter of 2013 compared to 2012, and finished the year handling 70% of Hub's intermodal freight. While this was short of our goal of 75%, it was a substantial improvement over the 66% comparable for 2012. We are investing in lightweight day cabs, and have received 130 of the 200 trackers we ordered last year. This equipment will allow us to handle heavier freight with better fuel efficiency.

We will be opening a new terminal in Salt Lake City this quarter, bringing our total to 29 terminals. Work is also underway to rebrand Comtrak as Hub Group Trucking. This change helps promote the Hub brand, and reinforces the importance of street operations to our enterprise.

We continue to enjoy success building strategic relationships with our customers. In 2013, we had 70 $10 million customers, up from 62 in 2012. We received several customer and industry awards over the course of the quarter, including the 2013 Excellence Carrier Award from LG Electronics, a Special Recognition Award from Textron, and an Alliance Award from our multimodal collaboration with Macy's. We also received C-TPAT certification, which should help us further develop cross-border business with our security conscious customers.

Challenges in the truck brokerage market continued in Q4. While we saw sequential margin improvement, spot and project work remain soft. Hub truck brokerage volume grew 5% for the quarter, and revenue increased 1%. Mode did not fare as well, with a 4% volume decline and a 1% revenue decline for the quarter.

Unyson Logistics continued to expand its client base, growing faster than any of us anticipated. Several new clients entered Unyson's top 10 account list, while we also expanded service and volume with existing customers. This led to fourth quarter revenue growth of 72%. For the year, Unyson grew 38%, putting its compound annual growth rate at 23% over the past five years. Unyson is well positioned to exceed our $500 million goal for 2014.

Mode's logistics business grew 18%. Within those two segments, consolidated LTL grew to $80 million for the quarter, a 61% increase over last year, and $280 million for the year, representing growth of 42%.

Mode Transportation produced top-line growth of 8% in the fourth quarter and 6% for the full year. During the quarter, Mode added one new IBO and four new sales agents to the network. For the year, Mode is up 7 IBOs and 17 sales agents, and we enter 2014 with a strong pipeline of potential additions to the Mode team.

Finally, we successfully relocated Hub headquarters and its nearly 500 employees to our new building in Oakbrook, Illinois. Thanks to a dedicated team and a well-planned effort, the move went off without incident. Our new building is environmentally friendly and uniquely adapted to enhance collaboration and productivity. We anticipate obtaining LEED Gold certification, making Hub Group headquarters one of the largest LEED Gold-certified commercial buildings in Illinois.

With that, I'm going to pass the call on to Terri for financial highlights.

Thanks Mark, and hello, everyone.

As usual, I'd like to highlight three points. First, logistics hit the ball out of the park with 72% revenue growth. Second, Mode delivered a 13% increase in operating income. And third, we held our own in a competitive intermodal pricing environment, and we think we are taking the right steps to improve gross margin.

Here are the key numbers for the fourth quarter. Hub Group's revenue increased 11% to $885 million. There was a $2.9 million non-cash impairment charge related to changing Comtrak's tradename to Hub Group Trucking. All numbers that we're going to report are adjusted to exclude that charge. Hub Group's earnings per share was $0.50, compared to $0.51 last year.

Now I will discuss details for the quarter, starting with the financial performance of The Hub segment. The Hub segment generated revenue of $684 million, which is an 11% increase over last year.

Let's take a closer look at Hub's business lines. Intermodal revenue increased 3%. This change includes a 4% increase in loads. Price was up, but was more than offset by the impact of lower fuel. Each of our three largest customer segments grew, loads from retail customers were up 10%; loads from consumer products customers increased 5%; and loads from durable customers were up 3%.

Truck brokerage revenue was up slightly. Truck brokerage handled 5% more loads. However, price, fuel, and mix combined were down 4%. The average length of haul for a truck brokerage shipment decreased 7% to 584 miles.

Logistics revenue increased 72%, which beat our expectations. The increase is due to growth from new customers that we onboarded earlier in the year.

Hub's gross margin increased by $661,000. Logistics' gross margin growth was partially offset by a decline in intermodal and truck brokerage gross margin. Logistics' gross margin growth is from new customers. Intermodal margin was down, as volume and modest price increases were offset by higher transportation costs and unfavorable mix. Truck brokerage gross margin was down because of unfavorable traffic mix, primarily less project work.

Hub's gross margin as a percentage of sales was 10.3%, or about 100 basis points lower than the fourth quarter of 2012. Intermodal gross margin as a percentage of sales was down 90 basis points, because of lower peak season surcharges and a change in traffic mix. Volume off the West Coast was slightly above last year, but lower than normal seasonal trends. Logistics' gross margin was down 175 basis points, due to the fee structure of our new business. Truck brokerage gross margin was down 50 basis points, due to unfavorable mix, including less high value-added services, as well as a tough pricing environment.

Hub's costs and expenses increased to $44.9 million in 2013, compared to $42.2 million in 2012. Salaries and benefits were up about $1 million. General and administrative expense increased about $2 million. Finally, operating margin for the Hub segment was 3.7%, which is 80 basis points lower than last year's 4.5% margin.

Now I will talk about results for our Mode segment. Mode had a strong quarter, with revenue of $214 million, which is up 8% over last year. The revenue breaks down as $105 million in intermodal, which was up 12%; $77 million in truck brokerage, which was down slightly; and $32 million in logistics, which was up 18%. Mode's gross margin increased $1 million year over year, due mostly to growth in intermodal gross margin. Gross margin as a percentage of sales was 11.5% this year compared to 11.9% last year. Mode's total cost and expenses increased $0.5 million compared to last year, due to an increase in agent commission. Operating margin for Mode was 2.2% compared to 2.1% last year.

Turning to headcount for Hub Group, we had 1,460 employees, excluding drivers, at the end of the year. That's up 47 people compared to the end of September. We added 41 employees because of a change in our corporate structure in Canada.

Now I will discuss what we expect for 2014. We are comfortable that our 2014 diluted earnings per share will be within the current analyst range of $2.01 to $2.15. We think we will have 37 million weighted average diluted shares outstanding.

Our goal is to improve gross margin as a percentage of sales from the 11% that we had in 2013. Headwinds include the challenging truck brokerage market and the mix impact of growth in logistics, since its our business with the lowest gross margin as a percentage of sales. Our costs and expenses will probably range between $68 million and $72 million a quarter. We will spend approximately $2.5 million to complete our strategy project, primarily in the first quarter.

Turning now to our balance sheet and how we used our cash. We ended the quarter with $69 million in cash. We spent $111 million on capital expenditures this year, including $45 million in the fourth quarter. To recap the year, we spent $59 million on containers, $26 million on the new corporate headquarters, $14 million for tractors and trailers, and the remainder for technology.

We haven't finalized our capital expenditures for 2014. Estimated capital expenditures for 2014, excluding any new container purchases, are between $60 million and $80 million. The majority of that spend is for tractors. We haven't made a decision on our new container order.

During the quarter, we paid $13 million to buy 351,313 shares of stock, completing our share buyback authorization.

And with that, I'll turn it over to Dave for closing remarks.

Great. Thank you, Terri.

In conclusion, we are pleased with this solid finish to a challenging year. Much was accomplished. Earnings per share for the year increased 5%, while revenue grew 8% in 2013 to just under $3.4 billion. We continued to grow intermodal volume, as Comtrak surpassed 2,700 drivers, while moving 70% of Hub's freight.

Truck brokerage reported minor growth in an unfavorable market, while Unyson Logistics increased managed spend to over $1.5 billion. Mode continued to grow and exceed bottom-line expectations, and we finished construction of our new corporate headquarters on time and on budget.

As we look to 2014, we expect to deliver another year of solid operating performance. Overall, our strategy is working well and we are working diligently to enhance our market position. We remain optimistic about our ability to improve intermodal margins and to continue to expand market share in all lines of business.

And with that, Terri, Mark, and I are happy to take your questions.

(Operator Instructions)

Our first question will come from the line of Ben Hartford with Baird.

Nice quarter. Maybe if you could talk, Dave or Mark or Terri, just talk a little bit conceptually about the business and where it sits. You talked about the difficulty as it relates to the pricing environment, and I know we've started to see some spot activity over the course of the past few months, and some hope that 2014 rates can be better -- rate growth can be better than 2013.

But I guess if you look at the volume growth in intermodal in the fourth quarter, Hubs volume growth lagged Mode whereas in the third quarter it was more comparable. So you do have a divergence in volume growth.

I'm just wondering, as you think of the business, now that you had Mode in your possession for several quarters now, how do you think about -- how do you think about driving intermodal volume growth in the context of still a challenging pricing environment, knowing that you have Mode, knowing that you can go through Mode, and you're still dealing with some of the cost inflationary pressures from the partner in the core business. Can you talk a little bit strategically about how you go to market in 2014 with the intermodal products?

Mark, did you want to address that?

Sure, Absolutely, Ben. We were pleased with the growth that Mode posted for the quarter, and they've really developed a lot of very positive momentum in the space. They are competing, I think, very effectively.

We hit sort of mid-single digit volume growth at Hub. I think we would have liked to have seen more volume growth then we saw. But it's important for us to strike a balance between price and volume.

And in this type of competitive environment, I think that we did a good job of making sure that we didn't get too aggressive from a price perspective. We were able to realize some positive price on the quarter and on the year, something I'm not sure a lot of our competitors did.

So while that probably cost us some volume growth, and limiting our exposure to low contribution freight also probably contribute to a lower volume growth than we would have otherwise liked, I think we did a pretty good job in the end of achieving that balance. I'd certainly like to see us grow at industry levels, or exceed industry levels. But we have to make sure that we maintain our pricing discipline because at Hub, pricing discipline is much more important than volume growth for volume growth's sake.

Also, as far as going to market for 2014, I think Mark had outlined some of the current initiatives that we have begun. And I think as our strategic engagement clarifies a few more issues that, again, we do believe that we will be able to focus on where we grow effectively that will allow us to grow profitably and continue to grow at the current pace of the industry.

So I guess as you think about implementing some of the sales compensation changes for 2014 focusing on yield within core Hub, this divergence between Mode and Hub's intermodal volume growth, we should think about there being a separation in 2014 as you do focus on yield management within core Hub? Is that right?

I think that we will be focused on yield, but there's a lot of ways to get yield and get growth at the same time. And I think that that will be our focus. As Mark had said, yield is always a bigger driver of earnings per share, but at the same time we do want to continue to grow in the markets that, in fact, we're profitable in.

We certainly would love to see Mode continue to grow double digits. We don't feel that we have to match that at Hub. If there's some divergence, that's okay too.

Okay, and I guess last point on this. When you made the comment about improving gross margins in 2014, I assume that's assuming an intermodal pricing environment that continues to be challenging, maybe doesn't worsen from current levels, but certainly doesn't inflect more positive -- growth doesn't accelerate as it relates to intermodal pricing growth in 2014? Is that the assumption? Is that right?

We are certainly hoping that it doesn't deteriorate. And yes, the assumption is that it remains a very competitive marketplace from a pricing perspective.

Okay. Then last one, just on the balance sheet. Terri, obviously you've got a nice cash situation materializing. You talked about exhausting the repurchase. Can you talk about how you think about growth for acquisitions versus stepping in more forcefully with another buyback?

Obviously you've guided to a share count for 2014 that's flat from year-end 2013. So can you tell us a little bit how you're thinking about the deployment of excess cash in 2014 and beyond?

Our first use of cash would be for an acquisition. So we're always on the hunt for a company that's best for us, one that's a good cultural fit, immediately accretive. If we don't find a good acquisition, we would then use our cash to buy back stock.

One of the topics at our February 20 Board meeting that's coming up will be to talk about share buybacks and what were going to do this year in terms of perhaps buying back some stock, and saving enough cash for an acquisition.

You've historically carried very little debt on the balance sheet. Would you think about structurally changing that?

Yes the cash flow now with the headquarter out of the way to support debt and debt service. Will you take a closer look at what the capacity of the balance sheet can be in 2014?

Yes, that's a good question. And back when we tried to buy a company in the summer, we were going to put a couple hundred million of debt on our books. So we would be happy to put on debt for the right acquisition. The tractors that Mark talked about that we ordered near the end of the year, we are putting on $25 million of debt for the tractors as well.

Okay, good. Thanks for the time.

Our next question will come from the line of Michael Weinz with JPMorgan.

Hello, good afternoon. Thanks for taking my question, and good job in the quarter. I was wondering if you could take a moment and kind of help us understand a little bit the expected profile of Unyson Logistics' revenue next year, because you had a nice acceleration here, and nice pick-up in absolute revenue in fourth quarter.

Is there further room for growth? Is this the new level that's reasonable going forward, or how should we think about that growth next year?

It probably won't continue at the level we saw this quarter, but we do expect strong growth from Logistics again in 2014. It could be anywhere between 15% and 20%. Most of that growth occurs in the first part of the year, since we have carryover growth from the new engagements that we brought on in 2013.

But most of the revenue growth that you had in fourth quarter was because of the new customers that came onboard in third quarter, right? Or were there additional customers in fourth quarter that (multiple speakers)?

It was actually the customers that came on as new customers in the first half of the year. The growth that we had was just more than we expected. So we try and guesstimate when we bring a new customer on how much business we're going to get. And it ended up, in some cases we got a lot more than we originally thought we would.

Understood. And then on utilization, Mark, I was wondering if you could talk a little bit about the ramp up in some of the technological role-outs that you have in front of you. I guess you're to be going to 500 containers. What is the next step after that, and what could that timing be for the (multiple speakers)?

With the satellite tracking program we are going from 50 containers. We had a successful beta test with the 50 containers. And we're going up to 500. Assuming that that is working well, we are targeting completion of the program, in other words having our entire fleet with the satellite tracking device on them, by the middle part of 2015. In addition, we are launching what we call One System, which is a single operational and dispatch and load planning system, which will be onboard in the first half of this year.

So two pretty big technology projects that both have equipment utilization improvement as a part of their goal. So we are pretty confident that, despite the fact that we have, I think best-in-class utilization right now, we can improve it even further with these tools.

Have you quantified the potential cost savings from these two programs?

We have, and of course for the satellite tracking -- we won't have the full benefit of that until next year, because this year it won't be fully rolled out. It could be millions of dollars in savings there.

And then in terms of One System, as Mark mentioned, we hope to roll that out sometime near the end of the first quarter and probably be completely done rolling it out by the end of the second quarter. So we will only have half a year benefit from that. And it could be between $1 million and $2 million of benefit this year.

Great.

Generally speaking, for each day of equipment utilization improvement, it's a $6 million annualized benefit to the Company. And as the fleet gets bigger, obviously then that return get larger.

For One System, we hope to reduce our empty miles, improve loaded miles. And for every one percentage point change in empty miles, we get another $2 million of profitability.

Okay, that's great color. If I could just ask one more on cross-border, since you mentioned you had this new certification. Is that going to require some additional investment or new hiring to lever up? Or how should we think about the opportunity there?

No, I don't think so. I think we are well-positioned in Mexico. We have a good size operation there. And I think that they have the ability to scale up.

Beyond, we may have to add a few incremental resources there. But between our Laredo operation and our Mexico City operation, I think were ready to bring on some more business across border.

So what exactly does this allow that you didn't have access to before, or you were unable to do before?

There are some customers with significant amounts of cross-border freight that really only want to do business with C-TPAT certified partners. And by getting this accreditation, it validates we have the operational processes and disciplines in place to ensure a secure outcome for that cross-border activity. So it's really just a way of validating that we know how to do business, and we know how to do business safely, predominantly between Mexico and the United States.

Understood. Thanks for the color, and congratulations again.

Thanks.

Our next question will come from the line of Kevin Sterling with BB&T Capital Markets.

Thank you. Good evening, Dave, Mark, and Terri. Hope you're staying warm in Chicago.

(Laughter) Easier said than done.

(Laughter) You guys spent a lot of time talking about pricing. As you think about the pricing environment, what is the biggest competitive pressure, in your opinion?

Is it the growth in the nation's 53-foot boxes? Is it another IMC, or is it the truckload market? I imagine it's probably it's a little bit of combination of both, but if you had to rank them, what would you say is the biggest competitive pressure you see right now?

Kevin, I would say that the single largest, this is Dave, issue is disciplined pricing by our competitors. We think that if in fact we saw more discipline that, in fact, we may see the opportunity for prices to increase.

And secondly, you had mentioned the disciplined pricing within the truckload market as well. And that certainly is another factor that would probably rank as number two, and certainly we haven't seen it to date.

Over the past month of January, we have seen a lot of volatility with the spot pricing market for truck. Now, is that a function of a capacity shortage or more demand, or is it more so an issue of the storms taking out capacity?

I guess that will play out a bit, because the weather has been just so horrific in much of the country. But we certainly believe that capacity within the truck market is not growing. As we begin to see that to tighten, we think price increases would spillover into intermodal as well.

Okay. Do you think on the pricing front from your competition, do you think a stronger truckload environment obviously maybe will help them find some discipline, or maybe just a general pick-up in demand, I would imagine, would help as well?

We certainly hope that's the case, Kevin. At the same time, we have seen three years of pretty good domestic demand and we still have not been able to gain the kind of pricing momentum I think that we would like to see, and that I think the market is capable of absorbing.

So we certainly hope that they become encouraged and disciplined enough to take advantage of the opportunity that's out there. Rail service has been reliable now for a number of years.

I don't think we have a significant glut of intermodal capacity, as we saw yet another year of solid growth. With the truck market hopefully firming up, this should be the right environment for price increases. But it probably won't be unless the major players within the industry believed and are determined to get some level of increase.

Right, okay. And shifting gears here. Was there any specific reason, I think you said Mode's truck brokerage volumes fell, I believe, 4% in the quarter. Do I have that right? Was there any specific reason for that volume shortfall?

No there really wasn't. That's the right number. Volumes did come off about 4%. I think a lot of that was a pretty challenging brokerage environment in general.

There were a couple of business losses with a couple of agents, but nothing significant. I think more than anything, the decline was mostly just due to the challenging value proposition that brokers face when we're in a state of equilibrium that Dave alluded to earlier.

Okay. Well, thanks for your time. And as evidence of misery loves company, it's snowing in Richmond, Virginia. (Laughter).

Our next question will come from the line of Todd Fowler with KeyBanc Capital Markets.

I feel that bad for the people in Virginia right now, I guess. I wanted to start with the CapEx comments. I guess I'm curious why you haven't finalized the container plans for 2014, and what the container growth or maybe the fact if you don't grow the container fleet, what that would be contingent on?

Well we've opted -- we have not made the decision yet because we had the option at this point. We want to defer the decision as long as possible so we can really get a feel for what the pricing dynamics are going to be like in the industry, what the demand dynamics are going be like in the industry.

We don't think there's going to be a tremendous amount of capacity ordering. So we do feel at this point -- we don't have a lot longer that we can defer this decision, but being able to postpone it as long as possible will help us make the best order possible, and that's really the thinking here.

Right now we are watching the pricing environment closely. We're watching bid activity, and trying to get a sense of where the economy is going before we lock into something.

We can still get them all before peak season starts. That won't be an issue.

But I guess to understand some of the earlier comments about balancing yield and volume growth, based on what you see in the bid season, is there the potential that this is an environment maybe where you don't want to as aggressively grow the fleet and aggressively grow the volumes? And maybe you go back to the approach that you had in the mid-2000s, where you look at the network and you focus more on the yields and make the strategic decision to sacrifice some share as a result of what the market is doing on the pricing side?

I think that what we will end up doing, Todd, is we will have somewhat of a build, and again we're just trying to figure out how large it will be. But no, we certainly are going to continue to focus on yield. But again, my earlier comments, I do believe that we can in fact increase yield while increasing overall revenue and volume at market levels.

The other variable for us, of course, which doesn't impact a traditional asset-based carrier is we need to figure out exactly what path the rails are going to go down so we know how much rail capacity we're likely to put into our mix.

Okay. And then Terri, I think that the comment that you made on gross margins for 2014 was for consolidated Hub basically to improve upon the 11%. Do you have any thoughts on the Hub segment and the Mode segment, what we should expect for gross margins within the respective margins?

Sure. Mode segment we think will be pretty consistent with where it was this year. And then for the Hub segment, we hope to improve it a bit over what it was this year.

And we're still assuming a challenging truck brokerage market in our forecasting. And forecasts growth in logistics, which naturally brings our gross margins as a percent of sales down because it's our business with the lowest gross margin as a percent of sales. Our mix of business is now a lot more logistics than it used to be.

So the expectation is that legacy Hub Group Intermodal gross margins should expanding in 2014?

That's our plan, yes. That's our goal.

Yes, okay. That's what's embedded with the plan, okay. And then just the last one I have, talking about the weather. Can you give any sort of color on the first quarter?

I know that you've talked about full-year 2014 range of analysts' expectations, but we've heard a lot of things about the weather, particularly in Chicago and the impact it's having on the network. I guess is there anything that we should be thinking about from a modeling perspective as it relates thereto, lost volume opportunity, or weather-related issues into the first quarter?

Well, I think obviously it's very, very early yet. Certainly the weather has not been very cooperative. We've had more snow and cold weather than I can remember in many, many years.

Thus far, the volume is hanging in there. It kind -- it gets kind of chunkier, if you will, or in blocks. Last week, well on Monday and Tuesday we had about 20% of our truck drivers available in Chicago. When that backs you up, and it takes a little bit more time, and so there's some customer dissatisfaction with that.

Obviously, they're also living through the weather. So I think for the most part they understand that we're trying to get everything done as quickly as possible. It hasn't really negatively impacted our volumes as of yet. But certainly the winter is young yet, and will see what it has for us.

The winter is actually very old here at this point. Thanks a lot the time. Thanks, guys.

I agree with you.

Our next question will come from the line of Cleo Zagrean with Macquarie Capital.

Good evening. My first question relates to the intermodal margin outlook. We were just hearing on the call how you're still waiting to refine your plans for capital spending there and how part of your hopes for margin improvement is the rationalization in the competitive environment.

Can you help us understand what you see as the biggest drivers of change between the 2013 performance and 2014, and your degree of confidence in each? I'm a bit puzzled as to how you can be confident about margin improvement where you're still looking to assess the market situation.

I don't think that we're really banking on significant margin improvement. I think what we had said was we don't anticipate seeing a deterioration in the pricing environment from where we are right now.

It's been a very competitive market. Many of our -- many of the folks in the industry were not able to get any price at all. We were able to get some.

But I think our belief here is that while we aren't anticipating a substantial change in the economy or anything along those lines, probably a continuation of a modest recovery, some folks in the over-the-road sector who really have little choice but to be more aggressive about price, and those two things translating on top of what's been a continued demand environment into somewhat better pricing fundamentals. So we certainly are not banking on an aggressive turnaround in the marketplace.

In terms of the dynamic with your rail partners, how do you see conversations going, and what can you share with us from the bid cycle so far?

Well, with the rail partners I'm sure that they will be looking for somewhat of an increase. So obviously job one for us is to cover, minimally cover those costs. And again, with some of the initiatives we have to reduce our costs internally coupled with our pricing strategy, we believe we will be able to accomplish that goal. I'm sorry, what was the second part of the question?

(Multiple speakers) bid cycle?

The bids, it's still really, really early. It's obviously a very -- it's a competitive bid season, once again as we start out. And we don't think it's going to be a heck of a lot different than 2013.

Appreciate that. My follow-up is related to truck brokerage. We've been getting used to hearing about the tough competitive environment being here to stay as some kind of a new normal.

And I was wondering whether you have adjusted your expectations for the long-term outlook for this market throughout the year? How you are looking at it as we sit here beginning of 2014, especially with the progress that you've achieved by turning around that business, how you find yourself competing as a restart, as a new operation with a new beginning? Thank you very much.

I think that we remain committed to truck brokerage. We still think it's a great service we are providing for our customers.

It's a logical adjacency for us. It helps us broaden our scope of services for our customers and stay in touch with the highway market.

It's certainly been competitive, and there's a lot of new entrants into that space. I think that we are in the right sector of that space, because it's really a part of the solution that we're offering to our customers, maybe more so than a traditional you-call-we-haul kind of a truck broker environment. Nothing wrong with being in that business, that just isn't what we happen to do.

So this is a very complimentary service. I think for the services we're performing at Unyson, as well as in the intermodal space. We haven't adjusted our expectations in a material way.

Certainly we still believe that this can be a growth engine. I think we have become more realistic in this type of an environment where supply and demand match each other. The value proposition isn't a strong. So in order for us to really see, I think, a substantial progress with the highway product we probably need to see a little bit more demand and a continued, or maybe tightened, capacity environment.

Maybe one more, if I could squeeze. Can you share anything in terms of the focus for M&A? If it is a truck brokerage, or if operations in intermodal, if they are agent-based, or what kind of strategic fit are you looking to complete your portfolio?

It would be something that would be asset-light. It could be in one of our current service lines, with logistics as very exciting right now.

So that could be a potential opportunity, or another intermodal marketing company. There's several privately-held IMC's that could potentially be for sale someday. And then we're always looking for a drayage, opportunities to expand our drayage network as well.

Our next question will come from the line Scott Group with Wolfe Research.

Hello. Thanks, good afternoon. So I just want to follow up on that last line of questioning, just about the Intermodal gross margin outlook for 2014. Maybe just, if there is anything specific you can point to, or any additional color on what is giving you that confidence that you'll finally be able to get that margin improvement?

Is there something new or different coming out of the strategic review? Is there maybe something that's changing with your rail contracts that's allowing the margin performance to be different? I just want to get a little bit more comfort or visibility on that.

Sure. No, I think there's some external factors that we've been talking about in terms of the truck market as well as the intermodal market.

In addition, we've got a lot of internal initiatives that we are pushing hard on to improve our efficiency on the things that we can control. So we're pushing very hard on our street operations.

We're pushing very hard on the decisions we are making from a pricing and operating perspective, how we're selling our product. Making sure that we're doing a better job of selling to our network strength.

All these types of things I think should enable us to get a better return and lower our costs at the same time. There isn't a fundamental shift in the tides here, I don't think, that we can point to but incremental improvement that's facilitated by, really by tools that we have been working on for quite some time.

One System, for example, is a project that has been in the works now for two years. When you look at what some incremental decision support can do to our bottom line and do to the profitability of our intermodal franchise, then we feel pretty confident that it's going to more than justify the investment that we've made, which has been sizable to date. Just keeping our pricing disciplines, understanding our business, marketing better, and operating better.

That sounds -- just a follow-up on that, Mark, again. Maybe talk about the last time we saw truckload pricing start to move up.

How quickly after that historically does intermodal pricing recover? And are we right in thinking about that your pricing is going to be a little bit more elastic than what you're paying to the rail?

So if intermodal pricing is getting better, that maybe is just what we need to see the margins finally start to improve again? Is that a fair way to think about it?

I think that's absolutely true, Scott. If you look back at how historically, we've always done better in a rising rate environment.

That is where we are able to get a better return and to allocate our capacity in the most efficient manner possible. So I think, unfortunately you have to go back a ways at this point, because this freight recession really began in 2006.

But I think 2007 was probably a good example of a year in which truck rates were going up and we were able to get some traction from an intermodal price perspective. 2008 was moving along quite well, and then of course the end of capitalism hit us all and set us back for several years.

So I think 2007 is probably a good comparable, and that would be our goal. If we can get some positive price momentum, our goal would be to expand margins and not just keep them flat.

Okay. And last thing for Terri. The quarterly operating expense guidance implies a nice little step-up from where we're at. Could you talk about the drivers to build up to the new quarterly guidance?

Sure. It's about $1 million a quarter in wage increases. It's about another $1 million a quarter in bonus, because this year we didn't achieve 100% of our target and we're planning on achieving 100% of our target next year.

It would be about $1 million a quarter for increase in agent commissions that result from increased gross margin at Mode. And then probably $0.5 million of additional expense related to One System amortization and implementation costs.

That's super helpful. All right. Thanks, guys. Appreciate it.

Our next question will come from the line of Justin Long with Stephens.

Thanks, and good afternoon. You gave some helpful color on some of the strategic changes that are being implemented in 2014, but is there a way to think about longer-term targets on both utilization and empty miles as these initiatives are put in place?

Well, there certainly is. We haven't really gone public with those numbers as of yet. What we do know is that there's certainly multiple points we believe on the empty mile front that we think are currently being achieved by at least one player in the industry.

So there's room there. When you think about street operations and where we're at right now, 13 to 14 days, clearly 5 days are eaten up by rail, and so the remainder is really what you have left. We have gotten down into the 12s at certain points.

And with some additional tools, there's no reason why you couldn't get down to those levels again. Now, when we achieved that, that was a unique supply/demand dynamic. That was in 2010 when things were -- when equipment was very tight.

So that was a bit of a unique dynamic. But we did not have these systems and some of the tools that we're bringing onboard here. So we definitely think that there is at least a day, and probably more, from a utilization perspective that can be squeezed out further.

Okay, great. That's helpful. And on the empty miles, where do those stand today?

We just aren't public with that. That's something that none of our competition shares, and that's something we keep internally, but we do track it.

Okay, that's fair enough. Just as a quick follow-up. So you seem more optimistic on pricing heading into 2014, but is there any way to think about the magnitude of the increase you think is possible at this point?

On a year-over-year basis, do you think pricing can be up 50 basis points, 100 basis points, or something higher than that?

We haven't broken out price separately, Justin. We definitely think that we can increase prices enough to cover our cost increases, and if the truck market gets better and truck prices go up, that will only help our intermodal prices.

And we're going to be very disciplined and look for freight that's good and beneficial for the network and price accordingly. Some of the low contribution freight that Mark referred to earlier, we will get rid of and replace it with good freight that's more beneficial for the network, and filling up those loaded miles with empty miles in addition to getting price. So it's a win/win, really.

Just to be clear, we by no means are bullish on price. We don't think we're suddenly going to see an environment in which we just see an easy path to price increases.

We think that's going to continue to be challenging. But we think we can do a better job with our mix, and we think we can do a better job operationally to take costs out of our system.

So I think it's going to continue to be a very challenging price environment. But we don't think it's going to get worse, let's put it that way, from where it's been the last couple of years.

Okay, that makes sense. I appreciate the time. I'll pass it along.

Our next question will come from the line of William Greene from Morgan Stanley.

Hi there, good evening. I wanted to ask about a comment you made earlier in the call about the rails will be seeking some pricing increases, you suspect. And that make sense, given what rails have said so publicly.

Can you remind us how the relationships with the rails work? Are they on an annual contracts, or are they longer-term contracts?

Is it more like a master contract, and then you negotiate pricing each year? How is exactly that relationship work?

We of course don't go into a lot of depth with our contracts, but certainly you can consider them to be longer-term agreements that, with price being negotiated on an annual, or close to an annual basis.

So do they typically run five years? Is that sort of thing? Because obviously you favor one rail over another in certain regions. So is that the sort of thing when it opens up that it could be a more significant change for you, or does it not really work that way?

Well, the Union Pacific, of course, is our partner in the west and Norfolk Southern is our partner in the east. Most of our partners don't really like to go to a five-year agreement. They're a little bit shorter in term than that, for the most part. I think just as a result of the some of the legacy contracts that they had in the past.

But certainly we've got very good relationships with our two railroad partners and feel as though that we can continue to all be reasonable and increase price and move forward together. Overall, our relationships are excellent with the rails.

That's helpful. Do you disclose when those contracts come up for rebid?

No, we do not.

One last question on this line. Is the fact that the comments you made about intermodal pricing being a little bit less rational than perhaps you might like, does that suggest that if you wanted to shift volumes among the railroads in more significant ways, that there really wouldn't be much point in that because of that relationship you got with UP and NS? That other IMCs have other relationships with other rails.

So you wouldn't be advantaged or disadvantaged through that moment. You'd rather stick with the relationships you have and try to maximize that to the fullest? Is that a logical conclusion?

We feel so. There's a lot of reasons that we selected the two partners we have, and certainly price is always a component.

We do believe also that the Union Pacific and Norfolk Southern are better networks and better service networks for intermodal. So we can offer our customer, we think, a lot more flexibility, ease of recovery in the case of natural disasters, those types of things. And if in fact we were to contemplate leaving, I don't know exactly how positive the economic impact would or would not be.

Okay, that makes sense. The issues we saw in Burlington Northern this past quarter with service levels, is that something you could take advantage of, or is in too short to matter so far?

It really depends on the length and severity of the service disruption. Not having a lot of visibility into just the manner of those disruptions and how significant they were, it is a little tough for us.

We haven't seen a lot of customers who are at a point where they would move away from doing business with the BN if they were existing and currently doing that. At the same time, we think we have a very good service proposition and we think it matches up extremely well with the BN.

So we do think that there are customers that prefer the Union Pacific and also there are customers that prefer to have a balanced portfolio and not have their freight on a single rail line. So generally speaking, if you look back when there were service issues, most of those have to be somewhat prolonged in nature to really cause share shift of any significant amount.

That make sense. Last question, just on Pacers being sold. Do you think this changes the competitive dynamic for you in ways we need to keep in mind as we think about modeling the forward outlook?

Overall, I think if XBO's playbook is similar in intermodal to what was it was in truck brokerage, we might see a little bit of competitive pricing. But Pacer has been around a long time.

We've competed with them for a long time. They've competed with us. We don't look for any market change in the industry dynamics there.

Okay. That's great. Thank you so much for the time. Very helpful.

Our next question will come from the line of Matt Brooklier with Longbow Research.

Thanks, good afternoon. So wanted to go back to truck brokerage. The margin compression that you guys experienced in the quarter. How much of that would you attribute to a more competitive brokerage environment, i.e., competing with other brokers for freight versus potentially some margin compression from your actual underlying transportation costs moving up in the quarter?

The majority of it was due to less high value-added services that we provide. So that would be the main reason for the decline.

We also had competitive pricing from the carriers that we are buying from, and very little load board activity. There was a lot more load board activity last year.

Load boards, you can generally get a higher margin than normal. That's really the main contributors.

Okay. So truck pricing rising maybe towards the end of the quarter and driving up purchase transportation costs, that was less of a factor in the quarter?

Correct.

Okay.

It was still a factor, I would say. We certainly saw some pockets of tightness.

Okay. And then how should we, and you've been pretty explicit in terms of the competitive environment continuing within truck brokerage, but how should we think about brokerage margins if we're in a better overall macro environment and freight picks up, but at the same time capacity's going to get squeezed and likely rate moves up? Is that type of environment, is that a good or a bad environment for truck brokerage margins at Hub?

I think generally speaking, of the three potential outcomes, equilibrium is the worst potential outcome for [Hub]. When things are very soft, you have the opportunity to buy lower. When things firm up, you have a stronger value proposition for your customer, and they are generally willing to pay a little bit more in order to secure the capacity that they need. So sort of breaking either way would be better from the margin perspective for truck brokerage.

So anything being better than what we saw all year here, okay. And then my last question, a pretty heavy potential year for CapEx.

Terri, you mentioned that a good portion of that could go towards tractor purchases. How should we think about the Comtrak fleet, or I guess I should call it, Hub Trucking in 2014?

What does it look like? And what does that imply for the percentage of intermodal moves that you guys are doing, the drayage component on?

You're right. About $50 million of that $60 million to $80 million of capital expenditures that we've estimated would be for tractors, and we're doing a couple of different things with the tractor fleet.

One, we are replacing older equipment. Two, we are replacing equipment that we lease currently that's pretty costly.

One benefit of that is it's cost take-out. So we think about $10,000 to $15,000 annually per tractor when we buy a tractor versus either leasing it or having old costly equipment that we're going to have to repair.

And this coming year we're going to add another 250 or so tractors. They're day cabs, they are light, they're efficient, fuel-efficient. We save money on fuel. We can haul heavy freight. So it's more opportunity for business. We end the fleet in 2014 at about 650 tractors.

Right. If you look at where we first acquired Comtrak, it was basically 40/60, 40% being company drivers, 60% being owner-operators.

We fully intend to continue to grow our owner-operators. There's no question about that, but we do think that having a good-sized fleet of day cabs that are Company drivers, that are fuel-efficient, that are lightweight is a good solid competitive advantage for us within -- versus our traditional competitors. You'll see us over the next few years, and again we intend to purchase these through debt and we would then turn them over every five years, as you should before the maintenance gets too excessive.

That potential 650 number of Company tractors. What does that compare to at the end of this year?

At the end of this year it was 350.

350, okay. (Multiple speakers) Sorry, go ahead.

We are leasing about 130 at the end of the year on a short-term basis.

Which is very expensive.

Okay. And then with the tractor Company-owned and also growing the owner-operator component of it, what does that imply for how much of your own drayage you can do?

Our goal is to get to 75% by the end of this coming year. So it's factored into that guidance. By the end of 2014.

That would require some addition of owner-operator capacity as well.

Exactly. Which is very important to us.

Got you. Okay, thank you for the time.

Our next question will come from the line of Anthony Gallo with Wells Fargo.

Thank you for taking my question. Roughly what percent of your intermodal growth do you think comes from truck conversions?

That's a really good question. It's very difficult for us to track that. A lot of our local east growth, which was up 4% for the quarter, comes from truck conversion freight, and some of the local west growth as well.

And how do those -- thank you. How do those opportunities typically present themselves? Are you invited into a general bid for all the freight?

Are you invited in to look at intermodal and you work your way into truck? Does the truck brokerage operation typically initiate this? I'm just curious how that opportunity typically manifests for you.

Anthony, usually it's with a customer who we're doing business with, many times intermodal business. Sometimes it will come in the way of an RFP where they will present their highway and intermodal lanes and ask us to analyze and make sure that they've got the modes allocated correctly.

Many times it's outside of an RFP, and we really urge our customers to open up their traffic flows for us, and we're happy to put some resources to determining whether they are optimally using the intermodal product. So we find our best success from a conversion process generally occurs where we have that kind of collaborative relationship with our customers.

And I would say another source would be our logistics business. Logistics is always looking to save our customers money. And that's been another opportunity for us to look at truck freight and converted it to intermodal.

Yes. Typically a part of our value proposition with a full outsource to our customers in logistics is that we will help them optimize their use of intermodal.

So in most instances, do you think you initiate it or do they initiate it?

I think in most circumstances we are probably initiating. They are -- almost every customer out there is attempting to figure out how to use intermodal more, but I would say that most of the time where they're a success, they are bringing us in as a trusted partner, but we're the ones that are looking at the specific markets.

Okay. And I was going to go back to the Virginia weather question, but I won't go there. Thank you. (Laughter).

Our final question will come from the line of Matt Young from MorningStar.

Good afternoon, guys. Thanks for squeezing me in here. Just a quick question on the brokerage front. What are you seeing from the brokerage divisions among the asset-based carriers?

Clearly many of the truckers have been trying to penetrate the space in recent years. Just wondering if they're becoming more of a factor in your experience in the bidding environment and so forth?

I don't doubt that they are more of a factor in the traditional brokerage market. I think that that's really where they're trying to compete.

Our brokerage arm is a little bit different. We're really more of a transportation manager. So we're typically actually competing more frequently with the trucking arm of those asset-based carriers as opposed to the brokerage arm of the asset-based carriers.

But I think certainly many of them are very active in bids, very active in the marketplace. That space has become definitely more competitive, but we don't tend to run into that type of a broker as frequently as others probably do.

Then you guys are more contractual than spot, correct on that front?

Yes, we're about 80% contractual.

That's all I had. Thanks.

With no further questions, I would now like to turn over for closing remarks to Dave Yeager.

Great. Well, again thank you for joining us for our fourth quarter earnings call. As always, if you have any additional questions or thoughts, Mark and Terri and I are always available. So again, thank you for joining us today.

Ladies and gentlemen, this concludes our presentation. You may now disconnect. Have a great day.