Hub Group Inc (HUBG) 2021 Q3 法說會逐字稿

Hello, and welcome to the Hub Group Third Quarter 2021 Earnings Conference Call. David Yeager, our CEO; Phil Yeager, Hub's President and Chief Operating Officer; and Geoff DeMartino, Hub's CFO; are joining me on the call. (Operator Instructions) Any forward-looking statements made during the course of the call or contained in the release represent the company's best 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, and variations of these words. Please review the cautionary statements in the release. In addition, you should refer to the disclosures in the company's Form 10-K and other SEC filings regarding factors that could cause actual results to differ materially from these 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, Dave Yeager. You may now begin.

Good afternoon, and thank you for participating in Hub Group's third quarter earnings call. Joining me today is Phil Yeager, Hub's President and Chief Operating Officer; and Geoff DeMartino, Hub's Chief Financial Officer. We had a solid third quarter as pricing continues to outpace rapidly accelerating costs, thereby creating record quarterly revenue and gross margin. And to kick off the fourth quarter, we've just closed on Choptank, a large truck brokerage operation specializing in refrigerated product. This is an acquisition that Phil has worked on for several years with Choptank's owner, Geoff Turner. We share a common vision and culture, and we welcome the Choptank team to the Hub family and look forward to growing our collective business.

Strong demand continues as inventory to sales ratios are near all-time lows, while intense restocking of shelves persists. On the second quarter call, we related that we believe that this strong demand and tight capacity market may extend through the second quarter of 2022. Nothing has really changed since that last report, and we believe that this imbalance will continue through most of the first half of 2022 and very likely throughout most of the year. Today, there are many issues negatively impacting customer supply chains. Among the issues are labor shortages and port congestion, resulting in network imbalances. Hub's focus continues to be on supplying reliable capacity to our clients in order for them to deliver their products efficiently.

And with that, I'll turn the call over to Phil to discuss the performance of our business lines.

Thank you, Dave. We are very pleased with these results and the efforts of our team to support our customers during this dynamic environment. We delivered strong results in intermodal with a 17% increase in revenue and 530 basis point improvement in gross margin percentage year-over-year, which was offset by an 8% decline in volume after an 11% increase in the third quarter last year.

For the quarter, transcon volumes declined 1%, local east was down 7%, and local west was down 10%. Although the intermodal network is more congested, and we are seeing slower rail transit, extended customer unloading times, and more limited available drayage capacity, our team has done a great job offsetting those challenges with improved on-time performance to our customers, stronger pricing, a better balanced network and improved cost recovery efforts. Demand continues even in all of our newbuild containers this year, which will help us capitalize on that opportunity. We anticipate another strong bid season and improving network fluidity into 2022, given the strong demand backdrop and the need for shippers to lock in capacity.

Logistics performed well with 17% revenue growth and a 100 basis point improvement in gross margin percentage year-over-year. We continue to have strong revenue growth from our consolidation and final mile service lines, which was offset by lower revenue but improved yields in our outsourced transportation management offering. We've had many strong new wins across all of our solutions, including exceeding our cross-selling synergy targets in final mile. We see continued opportunities for growth ahead as we provide our clients creative solutions to reduce costs and enhance service.

Brokerage posted strong results again with 28% revenue growth on 3% lower volumes and a flat gross margin percentage year-over-year. We continue to see strength in the spot market and are bringing on new clients through our growing sales force, while maintaining strong efficiency. We also are very excited about the addition of Choptank to our brokerage. We have shared values and believe that along with their aggressive sales culture, they will bring an improved technology platform, a new specialized service offering and a large cross-selling opportunity. This acquisition will push us to over $1 billion in brokerage revenue, and we believe enable long-term sustainable growth.

Dedicated revenue declined 7% with a 450 basis point decline in gross margin percentage year-over-year. This decline was driven by increased insurance costs, M&R expense and outside capacity costs. We are executing on customer renewals, onboarding new and more profitable wins, and continuing to enhance our systems and processes to help offset these challenges. Looking ahead, we believe we will see a strong demand environment and that Hub Group is in a great position to provide solutions to our clients and drive profitable growth.

With that, I will hand it over to Geoff to discuss our financial performance.

Thank you, Phil. Q3 featured all-time record revenue and profitability levels with total revenue growth of 16%. Gross margin was $158 million or 14.7% of revenue, which is an improvement of 300 basis points as compared to last year and 240 basis points higher than Q2. Gross margin performance and our focus on operating efficiency led to operating income of $60 million or 5.6% of revenue. Salaries and benefits increased primarily due to higher incentive compensation and commission expense as compared to last year. General and administrative expenses increased compared to last year due to legal settlements and expenses related to the acquisition of Choptank, partially offset by higher gains on the sale of transportation equipment.

Our diluted earnings per share for the quarter was $1.28, which is 73% higher than the prior year. We generated $92 million of EBITDA in the quarter and had over $230 million of cash on hand at quarter end. In October, we invested approximately $130 million cash to purchase Choptank. We continue to have a conservative capital structure with net leverage of approximately 0.5x EBITDA, which provides us with ample flexibility to continue to invest in the business through capital expenditures and additional strategic acquisitions. We are raising our 2021 EPS expectation to $3.90 to $4 per share, up from $3.50 to $3.70 that we announced in July.

For 2021, we expect revenue will grow in the high-teens percentage range with intermodal volumes approximately flat. We forecast gross margin as a percent of revenue of 13.3% to 13.7% for the year, growing as a result of rate increases, partially offset by higher costs for rail transportation, third-party drayage and driver wages. We continue to see strong consumer demand and low retail inventory levels, which is driving the need for our customers to restock.

For the year, we expect costs and expenses of $365 million to $375 million, which reflects incremental operating costs for Choptank. We expect our tax rate to be approximately 24% compared to our prior guidance as 150 of the tractors that we ordered this year will be delivered in early 2022. We expect to receive our full order of 3,000 containers this year. Last quarter, we introduced our long-term revenue and margin targets. The acquisition of Choptank is a great step towards achieving these targets and is indicative of the type of strategic investment we will make in the business, adding scale while also introducing a new service offering with significant cross-sell potential.

Dave, back to you for closing remarks.

Great. Thank you, Geoff. Demand continues to be strong in all of our business lines as our customers continue to need cost-efficient solutions that offer consistent levels of service. The fourth quarter is off to a solid start, and we believe that the momentum will carry through much of 2022.

And with that, we'll open up the call to any questions.

(Operator Instructions) And our first question comes from Justin Long from Stephens.

Congrats on the quarter. So Geoff, I wanted to start on the cost and expenses in the third quarter. There was a pretty substantial step-up on a sequential basis. It sounds like there were some moving pieces with legal costs and acquisition expenses. So anything that you would consider one-time that won't be ongoing? And then, maybe could you help us think through the contribution from Choptank you're assuming in the fourth quarter from both the revenue and OpEx perspective as we think about your guidance?

Sure. Yes. In Q3, we did have some kind of one-time cost, legal settlements, not really recurring as well as obviously the acquisition expense. Those 2 pretty much awash with our gain on sale for the quarter. So the real big -- so those kind of 2 or 3 items net out. The real driver of the increase sequentially from Q2 has a lot to do with the compensation expense and commission expense. So as we earn more throughout the year, we've been booking more of those expenses, and that was kind of encompassing our guide throughout the year. Going forward, you can do the math on the guidance, but you can expect the Q4 number to be basically equal to the Q3 number, plus the incremental for Choptank, which is about $8 million on the OpEx line. For revenue, it's approximately $80 million of incremental revenue for the last few months of the year.

Okay. That's really helpful. And maybe looking at the fourth quarter guidance, could you talk about what you're baking in for the truck brokerage segment from a revenue and margin perspective sequentially if you exclude Choptank? And then, last one for me is just on thoughts around intermodal pricing in the 2022 bid season.

Sure. The brokerage in Q4 ex Choptank is going to be largely consistent with the Q3 level. And then, Choptank, obviously, is the delta.

Yes. And this is Phil. We continue to see strong demand on the brokerage side, great cross-selling opportunities there, and we're taking full advantage of the spot market as well. So feeling very good about the results there. As we look ahead with intermodal pricing, we're feeling very good about the early stages of bid season as we've kind of entered that now. Some of that pricing was on the lower end, given how we've seen rates continue to go up throughout 2021. So those renewals will be consistent with what we've seen in the past, and those will have effective dates early next year. So early good season indications are very strong and a continuation of the current trend. And we're anticipating a strong good season. Shippers need to lock in capacity. And we've really stepped up, I think, for a lot of our clients to -- and we'll be able to take advantage of that next year. So feeling very good about our opportunity looking ahead.

And our next question comes from Scott Group of Wolfe Research.

This is Jake on for Scott. Can you break out how much of the pricing growth was driven by higher accessorial fees compared to how much was driven by higher base rates?

Yes. This is Phil. Appreciate the question. We've seen a very strong base pricing and that's going to continue. From an accessorial schedule change, obviously, our preference is to be moving more volume, get more fluidity back into the network. And so, that's really our focus, is working with our clients there. It is not a huge determinant of our margin enhancement, obviously, somewhat beneficial, but not anything that would outweigh the benefits that we see from moving more volume and continuing to get more price.

Got it. And then, how much visibility do you have on rail cost inflation next year? Do you expect more than this year? And if the market remains as is, do you expect gross margins will continue to increase from here as rates move higher?

Yes, yes. So we -- I would start with, yes, we do have very good visibility into our rail cost increases next year. And we do believe that we're going to be able to attain rate increases in excess of our cost inflation.

Our next question comes from Todd Fowler from KeyBanc.

On the step-up in gross margins here, both in the third quarter and for the guidance, can you talk a little bit about the driver behind that? And then, can you also talk about the sustainability of gross margins at these levels, which we really haven't seen for a while as we get into 2022?

Sure. Absolutely. This is Geoff. So the biggest driver of gross margin is going to be our rates and the surcharges we have in place. We do have incremental transportation costs that are going up sequentially and year-over-year. Rail costs and certainly drayage costs, both internal and third party, but the price is a big driver of margin for us, and that was the driver of the increase.

Yes. And I would just highlight, I think, in our Logistics segment, we're seeing strong performance there, nice improvements in our transportation management margins and a nice sequential improvement in CaseStack as well. Our final mile business is, I think, they see some sequential margin improvement and pleased with what we're doing there. I think with brokerage, you have Choptank as an addition that's going to be a nice driver of incremental gross margins, and we're seeing a lot of opportunity on the cross-sell as well. But to Geoff's point, intermodal is going to continue to obviously be a large driver of that. We think that the margins are going to be sustainable, and we just need to stay focused on great operational discipline and continuing to enhance our pricing.

So Phil, if I put together the comments that you made to Justin about intermodal contract renewals being positive and think about prices being a big driver for the gross margins that would suggest that going into 2022, as long as you're able to see that positive pricing that you can run somewhat at these levels, obviously, with some seasonality and some other kind of factors moving through the numbers.

Correct. Yes. And we would also believe that we're going to see improved volumes in next year's fluidity. One, we get our containers fully onboarded; and two, we see some improved fluidity. We're starting to see some sequential improvements in fluidity and turn time. We didn't see that from Q2 to Q3, but here in Q4, we're seeing some of that sequential improvement. And if that continues and we maintain strong pricing, it could really create a nice benefit in -- for 2022.

Great. And then, just for my follow-up on the operating expense question. Geoff, it was helpful for the fourth quarter, and we kind of get a sense for the run rate. As we move into next year, what are some of the moving pieces? I would think, incentive comp would be one, the -- a full run rate for Choptank. But what are the other things we need to think about on the expense line for 2022?

Sure. Those are going to be the big drivers. Obviously, we've got the personnel cost is a big chunk of overall OpEx. We are putting together our budget for next year where we're certainly going to be growing. I think, from an earnings perspective, the expansion -- and our profitability is probably going to come more from price than from volume. And so, the -- meaning, not a lot of incremental headcount adds. Kind of -- we'll have more to say on that when we announce our Q4 earnings, Todd.

And our next question comes from Tom Wadewitz from UBS.

Yes. Congratulations on the strong results. What -- you sound pretty optimistic on the transition to volume growth, and it's interesting you're seeing some recent improvement. What else do you think that you can do -- any sense you can do mid-single digits growth? Can you do higher than that as you look to next year? It seems like with the container additions, you'd be positioned for that. I guess what we're hearing from the railroad seems kind of cautious, and I'd refer to Norfolk Southern's comments about they want to hire more people, but they're -- you're just seeing higher attrition. So maybe, I guess, some more detail on your views on capacity and how that might explain what you do next year on volume.

Yes. Obviously, if our rail partners aren't able to add that could be a constraint on our capacity. I know that there have been adjustments to wages made, but I also know there's been a great deal of investment in chassis, which has been one of the larger bottlenecks that we've seen this year. And that will really help from a terminal fluidity perspective and not having trains really stack up. So we think that's going to be a big benefit. Hopefully, the actions that are being taken will lead to additional staffing. I think, we've done a nice job of really stemming driver losses on our end and successfully adding third-party capacity. And so that could be a big upside factor for us next year if we're able to continue that trend of driver adds. That will really help us in maintaining fluidity and control of the service product. Our goal is going to be to grow next year. We don't have any hard numbers yet. But yes, with fluidity and us continuing to add drivers and the investments that are being made in chassis, we think we're going to be in a good position to do that. So it has been a bit of a challenging year from fluidity, but we're seeing those -- some improvements actually in the start of Q4, which is great.

And Tom, I would add that the macro conditions continue to look very favorable, both from the demand side, and we see truckload continuing to be constrained, which is a great setup for us going into next year, being able to deliver value and service to our customers.

How do you -- I guess, as a follow-up question. How does the -- I mean, there's obviously tremendous media coverage and increased heightened focus on the West Coast issue and logistics issues in general. How do you think about the kind of West Coast issues and the improvement in fluidity? How is -- I guess, how does that affect your outlook? Is that -- I guess, is that something that you assume gets better? Or you think that even if there's still challenges at the ports in West Coast warehousing that you still can see a transition to nice volume growth?

Tom, this is Dave. I would suggest to you that the West Coast port situation is not going to be resolved quickly or easily, that we're going to continue to see congestion at least through the end of the year, and I would suggest to you beyond. So there just is not enough warehouse capacity. The 24/7 is really not going to work. I mean, you still need skilled labor to be able to load and unload those vessels. So you are seeing some diversion to some of the East Coast ports, and people are trying to Port of Portland and other ports on the west, but the congestion is there for a while. And it's -- this is not -- there's no light switch to turn it off and on.

Is -- are you tightly coupled to that? Or is that something that kind of domestic can flow well even if international intermodal is not?

It actually -- for domestic intermodal, actually closed quite well because there's only a limited amount of capacity, both a dray container as well as rail ramp capacity. So actually, this almost metering in of product actually is probably beneficial and allows us to supply more capacity to our clients because it's kind of stretched out.

I would just add, I think that tightness from international box capacity is going to continue to drive more transloading into domestic. And I don't see that trend really changing anytime soon. I think that's going to continue to be a driver of more growth for domestic intermodal off the West Coast. And there's going to continue to be a high level of demand for imports there. But even as we look at other locations, we still think there's a lot of growth opportunity for us. You look at Port of Savannah, that's been a big growth opportunity for us this year, and I think that will continue as well.

Yes. Certainly it seems like there must be a lot of pent-up demand out there.

And our next question comes from Bruce Chan from Stifel.

Gents, you mentioned the shipper need to lock in capacity a couple of times. And just thinking about that in the context of dedicated, obviously, higher costs there and issues with driver availability, is there more business to exit in subsequent quarters? And at what point do we expect net growth there, especially as you start to convert that new business pipeline?

Yes. No, I think it's a great question. Yes. And I would start with -- I'm very pleased that we're generating an improved return in the dedicated business, and that's been our primary focus. What I would highlight, I think, with dedicated is that we were not fast enough to get wage increases in with our customers to be able to go out and recruit and see trucks. And that led to some of the revenue loss that we saw. We've exited the majority of the business that we think is in non-compensatory contracts, and we're trying to make sure that with our clients we're adjusting language where it might not fit with a standard dedicated contract with fixed and variable sort of charges.

So I think we've done a nice job with that. We're through the vast majority of those changes. We're still always going to be trying to make sure that we're working with our clients to set up a mutually beneficial agreement, but we certainly see opportunity and demand out there. For us, it's about making sure we're going after the right contracts with the right customers and the right set of charges. So feeling good about our disciplines there and ability to maintain a better return going forward as we bring on new business.

Okay. Great. That's super helpful. And then, just for my follow-up, you talked about strong residual demand for e-commerce. And I'm wondering how that translates for last mile and some of these big ticket goods as maybe some of these stimulus dollars start to wane.

Yes. So with our big and bulky kind of final mile home delivery, we have seen significant growth this year. I think even if there is a slowdown with some of those clients, we have been able to diversify the customer base quite a bit with our more traditional retail and e-commerce customers. So we're feeling very good about the growth opportunity ahead, regardless of if there's a little bit of a slowdown in demand. We actually have some -- a little bit of a backlog in onboardings, and going in -- that will move into Q1 of next year. That will really be a nice ramp for us as we look ahead into 2022.

And our next question comes from Charles Yukevich from Evercore ISI.

Congrats on the quarter, guys. Focusing on truck brokerage, when we think about the changes in volume and revenue per load this quarter, how does this break out between contractual and spot?

Sure. So this quarter, we were around 49 -- just under 50%. I'm sorry, just over 50% contractual. So did move down from about 51% last year Q3.

Okay. I guess I was more focused on how contractual volumes grew this quarter. If there's any sort of color that you could give on that.

Sure. I would say spot continues to be strong. We are doing our best to convert where there's opportunities to convert spot into contract. That's kind of where we played historically, closer to 70%. We think we'll get back there over time.

Okay. Great. And then, I guess as my follow-up, could you tell me what the split is between contractual and spot for Choptank?

Sure. Choptank is around -- in this market, it's around 65% to 70% transactional. Historically, they've been closer to 50-50.

(Operator Instructions) And our next question comes from David Zazula from Barclays.

I guess for David or Phil, whoever wants to take it. I mean, you talked on the last call with Choptank about the good cultural fit that it made with your existing businesses. I guess I was curious, did you look at any kind of measurable metrics or how did you measure that beyond kind of a personality fit on how the business would fit in?

Yes. I would say we always really focus on culture and alignment, and you can see through the tenure of their team, the commitment that they have for that business and to the community that they're in, and how long they've been at this, right. They didn't just start up a few years ago, they've been at this for 20 years and growing this business methodically and have a strategy and a way that they interact with their customers.

And most of their customers stick with them for the long term, right. And that is different than a lot of brokerages. So there's typically a high level of customer turnover, a high level of team member turnover. That's something that Hub Group really values, is our folks and our clients. And from that sort of long-term relationship with both stakeholders, we thought, along with all the qualitative aspects of the diligence process, that, that was really indicative of great alignment with our organization.

And then following up, I mean, obviously, you haven't been integrating for a long time. I know you mentioned a cross-sell opportunity. But do you feel like you've made any progress since the announcement as far as moving the product onto existing customers?

Yes. Yes, we're very excited. I know their sales team is very excited, our customers have been very excited. We've already got wins on the Board, actually, and we're seeing a tremendous amount of opportunity to cross-sell. So yes, very excited about even the progress through a week. It's been great.

And our next question comes from Brian Ossenbeck from JPMorgan.

This is Kellen Curry on for Brian. Both transcon and local west volume was down. So number one, just what's been the sequential trend into the fourth quarter? And then, what's your expectations for the utilization level for the upcoming containers given that congestion is still expected to last into the New Year and rail service still needs to improve?

Yes. So month -- quarter-to-date really for the month of October, we are down around 9% year-over-year. Last year, Q4 was a very strong quarter for us. We are encouraged that we've seen sequential improvement as the month has gone on and we had our highest volume week this past week, all year, and really going back to January. So we're encouraged by that. We do have new containers coming in we expect we'll receive all of them by the end of the calendar year. And we are forecasting an improvement in our container turn times sequentially from Q3 into Q4.

Okay. And then just last question for the follow-up. In terms of the vaccine mandate, based on your reading and understanding of the mandate, does it apply to you? If not, are -- will you be impacted by the mandate in any indirect way that could impact operations in any way?

This is Dave. Certainly, the government contractors, we don't believe that, that's going to have a direct impact for us right now. We are not a government contractor. If they do -- if OSHA does come out with a mandate and forces truck drivers, it will have an impact. We're still working through it, but it will have an impact on the entire economy, in my view. Because there will be a certain number of truck drivers that just feel strongly from a personal perspective that they don't want to take it. I'm not an anti-vaxxer, I'm vaccinated. I encourage people to. But if you try to mandate that too what can be a very independent group, I mean, it's -- I hope the common sense prevails, and it's understood that realistically, the truck drivers throughout this pandemic have been out there and getting product to store shelves. And I hope that's taken into account, and they do get an -- we get an exemption.

And our next question comes from David Zazula from Barclays.

Sorry if I missed it, if somebody asked it earlier, but did you guys put out the employee year-over-year change?

We didn't, but we can do that. So we ended the year -- ended the quarter at just under 2000. We had around 30 or 40 more last year adjusted for non-staff. So we are down slightly year-over-year.

And that concludes the question-and-answer session. I'll turn the call back over to Dave Yeager for final remarks.

Well, again, thank you for joining us this evening. As always, Geoff, and Phil and I are available if, in fact, you come up with different questions or additional questions. So thank you again for joining us.

Ladies and gentlemen, this concludes today's conference call. Thank you for participating. You may now disconnect.