Knight-Swift Transportation Holdings Inc (KNX) 2022 Q2 法說會逐字稿

Good afternoon. My name is Sylvie, and I will be your conference operator today. At this time, I would like to welcome everyone to the Knight-Swift Transportation Second Quarter 2022 Earnings Call. (Operator Instructions) Speakers from today's call will be Dave Jackson, President and CEO; and Adam Miller, CFO. Mr. Miller, the meeting is now yours.

Thank you, Sylvie, and good afternoon, everyone, and thank you for joining our second quarter 2022 earnings call. Today, we plan to discuss topics related to the results of the second quarter, provide an update on current market conditions and update our full year 2020 (sic) [2022] guidance. We have slides to accompany this call that are posted on our investor website. Our call is scheduled to go until 5:30 p.m. Eastern Time.

Following our commentary, we will answer as many questions as possible. We will get to 1 question per participant. And if we are not -- unable to answer a question during our call, we will -- you can call us at 602-606-6349, and again, it's 1 question per participant.

To begin, we'll move you to Slide 2, where I'll read the disclosure. This conference call and presentation may contain forward-looking statements made by the company that involve risks, assumptions and uncertainties that are difficult to predict. Investors are directed to the information contained in Item 1A Risk Factors or Part 1 of the company's annual report on Form 10-K filed with the United States SEC for a discussion of the risks that may affect the company's future operating results. Actual results may differ.

Now on to Slide 3. The charts on Slide 3 compare our consolidated second quarter revenue and earnings results on a year-over-year basis. We continue to generate meaningful revenue and income growth, both organically and through acquisitions and demonstrate the operating leverage of our business. Each reportable segment grew revenue double digits and expanded margins which ultimately led to a 49.1% increase in revenue and a 66.1% increase in adjusted operating income on a consolidated basis. GAAP earnings per diluted share for the first -- for the second quarter of 2022 were $1.35, which represents a 46.7% improvement from the prior year.

Our adjusted earnings per share came in at $1.41. Both GAAP and adjusted earnings per share include a $33.8 million pretax loss in other income or expense from an unrealized mark-to-market adjustment in our investments related to Embark Technology. The loss reduced both the GAAP earnings per diluted share and the adjusted earnings per share by $0.16.

Now on to the next slide. Slide 4 illustrates the revenue and margin contributions for the second quarter and year-to-date periods for each of our segments. The chart on the right highlights the percentage of revenue during the second quarter of 2022 from each of our 4 segments as well as the percentage of revenue from our other services, which include our rapidly growing insurance, equipment and maintenance, equipment leasing and warehouse services. We are encouraged by the significant contributions from each of our segments. Our truckload business continues to run with an operating ratio in the 70s, our LTL business showed great improvement and ran in the 70s for the first time. Our Logistics business was in the low 80s, and our Intermodal business achieved double-digit margins.

Across all of our brands, we have a tremendous team of drivers, shop technicians and office personnel. Our team continues to act with agility and move with the market. We anticipate changes in the environment and pivot our strategies accordingly. We have invested in technology that allows us to efficiently leverage our assets throughout multiple segments, including truckload, logistics and LTL. Technology has been a meaningful factor and how we've been able to not only significantly grow our logistics business but do so while expanding margins. We are also leveraging technology to connect our AAA Cooper and MME LTL networks as well as build a connection to our truckload network to leverage revenue opportunities across segments.

Certainly, we have more technology to develop, but between our ability to connect our systems across brands, our enhanced visibility and utilization of trailers and the actionable insights our reporting capabilities provide our team, we are leveraging tech to successfully navigate the market, execute on our strategies and deliver on our relentless efforts to be the most productive and had the lowest operating costs in the industry.

Our strategy continues to focus on diversifying our business while improving both margin and revenue in each segment. During the second quarter of 2022, our truckload segment grew revenue 11.2% year-over-year, but as a percentage of total revenue moved from 72% in the second quarter of 2021 to 57% in 2022. This is a result of our continued focus on growing our logistics and intermodal services, our progress towards building a nationwide LTL network and the development of new revenue streams that provides expanded services to third parties.

The next few slides will discuss each segment's operating performance starting with truckload on Slide 5. On a year-over-year basis, our truckload revenue, excluding fuel surcharge, grew 11%, while our operating income grew over 22%. Our adjusted operating ratio of 78.9% was a 200 basis point improvement over the prior year and was the fourth consecutive quarter in the 70s. During the quarter, revenue per tractor grew 11.1%, driven by a 21.2% increase in revenue per loaded mile and a 6.6% decrease in miles per tractor. Our miles per tractor continue to be negatively impacted by our intentional shift to a shorter length of haul and a higher unseated truck count year-over-year. Recruiting and retaining drivers continues to be a challenge, but we are seeing improvement sequentially in our ability to recruit drivers. This has allowed us to make progress towards reducing the number of unseated trucks and slow the reduction in productivity year-over-year.

Freight demand followed normal seasonal trends, but was generally strong throughout the quarter. As we make more commitments, we are seeing higher tender acceptance levels and fewer noncontract opportunities. As spot rates have declined, we have increased commitment levels with our customers and have reduced our exposure to the spot market. We are seeing strong demand from our customers to secure trailer pool capacity through our truckload and logistics segments. We continue to invest in our already industry-leading trailer network, which grew sequentially by 1,700 trailers to just over 73,000 trailers.

We believe our scale in trailers is a competitive advantage and provides our customers capabilities that are extremely difficult to replicate. As I mentioned on the previous slide, our investment in technology has allowed us to seamlessly leverage trailers across over-the-road fleet -- our over-the-road fleet, our dedicated operations and logistics business to provide our customers with ample trailer pool capacity.

Now on to Slide 6. Now this slide may be one of my favorite slides for the quarter as our LTL businesses have made significant strides in increasing yield, managing costs and expanding margins. For the quarter, revenue excluding fuel surcharge was $224 million and the adjusted operating income was $47.8 million. When AAA Cooper joined the KNX family last year, one of our stated goals was to improve the OR performance from the high 80s to the mid-80s over a 3-year period. To achieve a 78.7% OR just 1 year after the acquisition, while also adding MME to the business is remarkable in our opinion. We have been extremely impressed with the leadership of both AAA Cooper and MME on how open minded the teams have been in working with the KNX leadership as well as with each other in developing the strategy to leverage the now enhanced scale of the network. The teams have been aggressive at capturing both revenue and cost synergies and are rapidly moving towards harmonizing the network through AAA Cooper's footprint in the Southeast and MME's footprint in the mid and northwest portions of the U.S.

We continue to maintain separate brands while working towards connecting these networks, which we believe will create additional revenue opportunities and improve margins. And we believe this approach is very welcoming to other LTL companies who may choose to join the network. We are very encouraged by the LTL results and our conviction for synergy achievement continues to grow. We have identified several locations to develop or expand our LTL footprint. Through the rest of the year on an organic growth side, we expect to add 300 additional doors at 9 new or existing facilities. Also, several additional projects have already begun and are in various stages for 2023 and beyond.

Now on to Slide 7. Our logistics segment continues to grow at a rapid pace while expanding margins. Despite fewer spot opportunities, our logistics load volumes increased 48.2% year-over-year with our power-only service offering growing 96.7%. Gross margin also expanded to 24.4% in the quarter compared to 15.7% last year, leading to an 82.2% adjusted operating ratio. This revenue growth, combined with improvements in gross margin, led to $44 million in operating income, which is more than a 200% improvement for the quarter. Demand for our power-only service offering remains strong and provides a strategic advantage compared to traditional brokers. Our expansive trailer network allows our customers the ability to optimize their own warehouse space and labor costs.

Third-party carriers preferred power-only business because it saves them hours at each load and unload location, lowers their capital investment and risk, reduces their operating costs and gives them access to freight that historically wouldn't be able to participate in. We continue to be excited about this business and have several projects ongoing that will improve the experience for our third-party carriers as well as provide more seamless information internally and to our customers that will lead to more opportunities to utilize our equipment.

The Intermodal results are included on Slide 8. Operating income increased by 143.8% as the operating ratio improved from 95% to 89.3%. While rail service remains a challenge, we did see meaningful improvements in street and rail velocity in many corridors. Volumes in the beginning of the quarter were negatively impacted by longer container and chassis dwell times as well as inconsistent rail network speeds. These factors contributed to a 39.2% increase in revenue per load, partially offset by a 17.2% decrease in load count. Labor challenges within the rail network appear to be softening, leading to improved notification times and more consistency for our customers.

We have made meaningful progress in expanding margins as we monetize our underutilized containers while we were transitioning rail partners. We have pulled some of these containers back into our operations and will continue to do so in 2023. We expect load volume to increase and margins to remain double digits in the back half of the year. We have used the recent bid season to develop a freight network that better aligns with the Union Pacific network with much of that volume coming on throughout the third quarter. Additionally, we continue to make investments in the growth of this business and added 450 containers in the second quarter and plan to add an additional 1,500 throughout the rest of the year. I'll now turn it over to Dave.

Thank you, Adam, and good afternoon, everybody. Slide 9 illustrates the strong growth in our businesses that are included in the non-reportable segment. This non-reportable segment hasn't been a great focus of analysts or investors over the years, but it is now building as one of our fastest-growing segments. For the quarter, we had a 91.8% increase in revenue and a 615% increase in operating income. These increases in revenue and earnings is from our overall strategy to develop essential services for third-party carriers.

We have 3 primary objectives in these carrier services. First is to introduce new profitable revenue streams with lots of growth runway that further diversify our company. Two is to leverage existing expertise in areas where we've proven industry-leading results, such as risk management, maintaining equipment and purchasing. Many of these services are branded under our brand of iron truck services. And number three, to provide these services in a way that benefits the relationship that we have with small carriers is we build a much, much larger network using their power with our trailers and freight network.

We have found tremendous interest in our offerings from third-party carriers that are interested in purchasing insurance and maintaining their equipment in our nationwide shop network or leasing equipment and leveraging our buying power to purchase fuel. These new and expanded services along with warehousing and equipment leasing have nearly quadrupled revenue and is on pace to generate $500 million of revenue this year with projected operating income of over $40 million compared to a loss of $68 million in 2019. We expect these services to continue to grow and provide us with income streams that are less prone to volatility through economic cycles. As these businesses grow and develop, we will evaluate whether it makes sense to aggregate some of these businesses as a separate reportable segment. We remain encouraged with the growth and diversification and contribution from the businesses that make up our non-reportable segment.

On Slide 10, we illustrate the progress of the intentional changing of the composition of our overall company into an industrial growth company. The chart on the left shows the percentage of adjusted operating income from each of our segments and our other non-reportable services since the Knight and Swift merger in 2017 through second quarter of 2022. We're pleased to report meaningful contributions in earnings from each area as noted on the graph. These diversification efforts make us a less volatile company and we expect will help us mitigate the downside through truckload freight cycles.

Our truckload earnings now represent only 61% of earnings, which represents a meaningful shift from where we were in 2017, as noted in the graph when we did the Knight and Swift merger. Please keep in mind that this reduction in our truckload earnings percentage of the total has changed, while at the same time, we have more than doubled, almost tripled our truckload earnings from a 2017 full year combined pro forma Knight and Swift earnings of $319 million to $870 million for the second quarter trailing 12 months in 2022. The chart on the right shows our rolling 4 quarters adjusted earnings per share since the Knight and Swift merger. During this time, the EPS has moved from $2.16 per share to $5.67 per share for the trailing 12 months.

Next to Slide 11. Strong earnings have driven increases in our free cash flow, which was $1.1 billion through the second quarter over the trailing 12 months. Year-to-date, we have used cash to increase our dividend to shareholders by 20%, repurchased $300 million worth of shares and paid down $86 million in long-term debt and leases. Since the 2017 Swift merger, we have invested $1.6 billion in acquisitions, making acquisitions remains a high priority for us. Our balance sheet is strong, and we are well positioned to invest in organic growth, pursue acquisitions, purchase more shares, increase dividends and/or pay down debt. We are constantly evaluating market conditions to maximize our use of cash to create value for our shareholders.

Slide 12 illustrates the trend of return on net tangible assets. Our Q2 trailing 12-month return is 24.8%, which is a substantial improvement from the 17% return we achieved during the peak of the last freight cycle. These results reflect our focus on: one, growing our less asset-intensive businesses; two, acquiring and improving businesses; and three, expanding margins in existing operations. On the truckload side, we have focused for the last 4 years on growing our less asset-intensive and variable cost-based lines of business. We've expanded our traditional logistics brokerage, created a power-only service offering, created brand new revenue streams, as have been mentioned with iron truck services and expanded our warehousing services. We are seeing significant improvements in revenue and income growth in each of these areas.

Over the years, we've demonstrated our ability to effectively acquire and improve truckload businesses. More recently, we have demonstrated our ability to improve our logistics business and tap into synergies between truckload and LTL. Now we are supporting mutually -- our mutual acquired LTL companies as they connect their networks while preserving brand, culture and relationships. We could not be more encouraged with the progress of the 2 LTL organizations, AAA Cooper and MME and the opportunities ahead in building a connected national LTL offering.

In addition to the strategic acquisitions, we continue to improve our core truckload business and our existing assets to generate additional revenue. For example, we now have over 6,000 trailers in our leasing program. We believe our focus in these 3 key areas leverages our core competencies in areas of opportunities that are unique to us and will allow us to continue to generate significant returns to our shareholders.

Now on Slide 13, we have our second half of 2022 outlook. We expect that demand may moderate as the consumer digests and deals with higher inflation and uncertainty in the economy. We expect continued decline in noncontract truckload opportunities. We acknowledge that we have less visibility on peak season surge as compared to the previous 2 years. Customers continue -- we expect that customers will continue to secure trailer pools as they maximize efficiencies in their supply chains. Capacity is clearly under pressure. We expect contraction in supply and have already seen it. And expect that to continue as the year proceeds as carriers deal with depressed spot rates, combined with high energy fuel prices, higher maintenance and equipment costs and rising interest rates, which not only makes it difficult for those that are highly leveraged, but also disincentivizes new entrants to the market.

We also expect LTL demand to remain strong with increases in revenue per hundred rate remaining in the double digits on a year-over-year basis. We anticipate that sourcing and retaining drivers will continue as it has been -- continue to improve as we have seen thus far as it has been particularly challenging for small carriers and we are seeing signs of drivers looking for new opportunities.

We also expect inflationary pressure on driver-related costs, equipment costs, cost to maintain equipment, labor, and several other items. And lastly, we expect the used equipment market to normalize as small carriers exit with little interest from new entrants and increased difficulty in securing credit for smaller carriers.

I will now hand it to Adam to finish up with our guidance.

Thanks, Dave. So our last slide of our prepared remarks, Slide 16 outlines our guidance for the full year 2022. We now expect full year 2022 adjusted EPS to be within the range of $5.30 to $5.45, which is an increase from our previous quarter's guidance of $5.20 to $5.40. We expect the moderating spot market to provide less noncontract opportunities during the second half of the year. This may result in rates turning negative year-over-year late in the third quarter and continuing into the fourth quarter. This is a result of a more difficult comparison rather than rates meaningfully declining sequentially. So it's just a difficult comp from a year ago.

We expect tractor count to remain stable throughout the year with maybe a modest sequential improvement in the miles per tractor as we improve our ceded truck count. LTL is expected to grow revenue through yield management and shipment growth while improving margins year-over-year. Logistics revenue per load will moderate sequentially but will be more than offset with increased load volumes and most likely operate with an operating ratio in the mid- to high 80s. Intermodal margins will remain double digits, and we expect to see volumes begin to improve on a year-over-year basis in the third quarter. We expect other revenue and income to grow when compared to prior years, as outlined on Slide 9 of this presentation.

As Dave mentioned, we expect to feel inflationary pressures from driver expenses, maintenance, equipment and non-driving labor that will continue. We expect total gains on sale from equipment to be in the range of $20 million to $25 million for the back half of 2022, as the used equipment market continues to moderate. And just to clarify, we're saying $20 million to $25 million -- we're not saying $20 million to $25 million per quarter. The $20 million to $25 million is the total for the back half of the year. I just want to clarify that.

Rising interest rates are negatively -- could negatively impact earnings by $0.05 to $0.07 per share during the second half as compared to our previous forecast, the previous guidance that we had. And our net cash CapEx for the full year is expected to be in the range of $550 million to $600 million, which is unchanged from the previous quarter. And again, our tax rate is expected to be around 25% for the full year. These estimates represent management's best estimates based on current information available. Actual results may differ materially from these estimates. We would refer you to the Risk Factors' section of the company's annual report for a discussion of the risks that may affect results.

Now this concludes our prepared remarks. We would like to remind you that this call will end at 5:30 Eastern Time. We will answer as many questions as time allows. Please again, keep it to 1 question. And if we're not able to get to your question due to time constraints, please call (602) 606-6349, and we will do our best to follow up promptly. Sylvie, we will now entertain questions.

(Operator Instructions) And your first question will be from Jack Atkins at Stephens.

So I guess my question really centers around your power-only and logistics offering. I think that the growth in power-only loads this quarter really, I think, will help hopefully dispel some concerns that investors might have about that business in a more challenging freight market. But I guess, as you sort of think about where you are in terms of penetrating customer demand for that particular service for drop trailers. Where do you think you are there? Maybe talk a little bit about what it provides your customers in terms of efficiency gains.

And then as you look out into 2023, do you think that that's a business line that can grow in terms of volume even in a much more challenging freight market if that's what we end up seeing.

Okay. Thanks for that question, Jack. So we'll try and do our best to answer that. I think your first part of that question was acknowledging what are the benefits to the customer? Just to make sure that when we refer to power-only that, that's understood, what we're talking about is us leveraging the 73,000 trailers we have available within -- for our customers to fill with truckload freight, we're talking about using those trailers where we can have a bank of trailers and stage them where we would bring a loaded in and give a customer the benefit of days, maybe a couple of days to unload that trailer as opposed to a couple of hours.

The industry norm since electronic logs were mandated and enforcement began in early part of 2018, the industry standard is that you get 2 hours. The customer included in the freight rate is 2 hours to unload that trailer. After that, then there's a detention charge. And the going rate is $60 an hour. The reality with freight rates going up with driver wages going up, that number should have gone up, but it hasn't yet. But even at $60 an hour after 2 hours, one of the unique things about what its impact on rates are, is in freight rates, you have head haul and backhaul markets. So we might have a rate that in a backhaul market that's half the rate of what it is that's Phoenix to L.A. versus L.A. to Phoenix, which would be nearly twice the rate.

Well, detention charges, they don't care. There is no head haul, backhaul. It's the same. And so if you have a detention charge on a backhaul lane, you have a very, very low base on the price to add $60 for every hour over 2 hours to be unloaded. And so very quickly with 2 extra hours to unload a trailer, you can find yourself with a 30% to 40% increase on many backhaul lane moves. Well, that's completely unacceptable and would never work within supply chains. And so -- because it's so punitive and prior to the electronic log mandate just a few years ago, it was not enforced, and carriers just absorb that. Small carriers absorb that. The larger carriers, we have been moving towards traded pools for many years because it makes us more efficient.

In today's world, the traded pool not only can make us more efficient, but it can create massive efficiencies for the customer, not only to avoid those detention charges, but also it enables a supply chain to manage the yard differently with more efficiency. They can bring our full truckload of 1 product, bring that to the dock in exactly the moment that they want to move that trailer or those goods, those pallets on to store deliveries and they only have to touch the freight 1 time. There isn't warehousing in between. And so there's all kinds of cost savings. So as a result of that, today, in the Knight and Swift world, 9 out of every 10 loads that we haul involves a trailer pool on at least 1 side, if not both.

And so that type of business clearly requires a significant capital investment. You have to have meaningful scale of trailers, and you have to have them scattered all over the country like we do. And so I think that, that has led to us -- that's led us to have some more consistency and been a little bit more durable through even the 2019 negative cycle. So now what we've done is we've tried to address the area where we do have a finite limit of capacity, which is we only have so many trucks and drivers. And we have untapped leverage within the trailer pools and the whole trailer fleet that we have. And so what you've seen happen now for several quarters consecutively and again, here powerfully in the second quarter is we've been able to bring third-party carriers in to move these loads that are more -- it's more efficient for the carrier.

It's more efficient for the supply chain. We're able to manage that whole transaction. And what you're noticing is we're able to do it in a very high return way on our income statement. And we're able to do it not to the detriment of our asset-based business that performed again with an operating ratio in the 70s.

So what you're seeing is you're seeing us tap into operating leverage that we have -- that we uniquely have because we're more than twice the size of the next closest in terms of trailer fleet. And you've seen us do that with a good return. You saw the gross margin of better than 24% in our logistics segment. And so I think as you talk about the second part of your question of what happens in 2023, we get a glimpse into that and the fact that the spot market has shrunk rather significantly in the first half of this year. And we've been able to continue to have very, very strong volumes there. And so we're transitioning in that space from also similar to the customer paying a big premium and spot, we're transitioning from paying very large premiums to bring power-only capacity into our network to paying what -- where the market rate is and relying on the efficiencies to attract. And clearly, it's been attractive to both parties on both sides, meaning customer and small carriers.

So we'll continue to make these adaptations to the new market as we move throughout this year and as we prepare for whatever 2023 might hold. But the [guiding] principle behind all of this, Jack, is what is most efficient? What's the most efficient way to help a small carrier reduce their empty miles in a $5-plus diesel fuel environment and what's the best way to save the supply chains, our customers save them money on paying detention or having to hire extra labor to be at the ready to stop and unload any truck that might roll in within 2 hours. So that's a little bit of color there. Adam, anything?

Yes. I think, Jack, I'd also add, I think you alluded to this notion that power-only is really spot -- only spot business. There's many ways that we approach power-only with our customers. Spot would certainly be one of them, but we react to all sorts of different customer needs. I think power-only plays a big role when customers come to us with projects that they need help on in a very short time window. And we still see some of that today even when supply is a little bit looser. We have committed volumes that run through power-only just with contracted rates similar to how we would run most of our business on our truckload on the asset side.

We do over for a backup where we contract with a customer where any type of freight that falls out just flows to our power-only business, and we're able to support them there. And then really leveraging dedicated surge and leveraging power-only to help our dedicated business when we have customers who surge beyond the capacity, we've committed to them in many ways as opposed to pulling a tractor out of the line haul business. We're able to support them through third-party capacity, leveraging trailers in our network. And so as any of those markets change, we can shift focus to another one of those areas to support our customers and continue to grow our power-only capabilities.

Next question will be from Thomas Wadewitz at UBS.

Dave and Adam, you guys have seen a lot of freight cycles. You have a lot of great perspective not to mention all the information you see from your businesses. What's your best sense of how this evolves? Do you think that we're kind of setting up for a fairly sharp falloff in freight? Or do you think that it's more likely that you kind of have a moderation and we kind of get through this without seeing a big cyclical downturn? And I don't know if you have prior cycles, you say, what does this feel like 2018? Or does it feel like 2015? Or just some more perspective to kind of think about the cycle.

Yes. Thanks, Tom. Well, when you think about the kind of freight that's moving on trucks, it's by far the most economical way to move with -- still with fast transit times certainly compared to LTL, airfreight or expedited. It doesn't cost very much more to move it on a truck than it does intermodal. And so the nature of the freight we haul tends to end up in a grocery store, tends to end up in a place that's somewhat resilient through cycles. I would say what has made our industry more choppy and more cyclical has been the fact that we grossly oversupply when it's good, and then it takes a little time for that to work off in part because when the economy starts to sputter just a little bit, you see wind at the back of a small carrier to absorb the difficult times by having low energy prices, typically used equipment prices bottom out and so they can save themselves from a lot of maintenance costs by getting into another truck.

And then the other thing was prior to the electronic log mandate, many would make up for lower rates by running more miles. And that simply isn't an option that's available. And of course, when you run more miles, you create even more supply at a time where it was already oversupplied, and that's where the non-asset-based broker would come in and aggregate, if you will, all of these small carriers and try and bundle that as a discount in rate, and they would further drive rate down. Well, virtually, every one of those factors is not the same and it's different this go around. So for example, you've got the electronic logs. Well, we saw 2018 be an unbelievable year when demand really didn't change much of any between '17 and even to '19, but we had this huge surge in '18 and this huge drop off in '19, all self-induced because of supply -- oversupplying into '18 and then '19 became difficult.

Now it wasn't nearly as difficult for the big guys because electronic logs was one of the big reasons why there was the surge in '18 because people could run less miles, and you couldn't double down and run even more miles in an oversupplied environment. So we have that going on as a backdrop that is different than any cycle prior to 2018. The other -- so the other thing, as I alluded to, was normally, when you have a softer economy, you would see really cheap fuel. In 2020 -- summer of 2020, we saw some of the cheapest fuel we've seen and certainly in oil prices may be an ever or in the modern era. And so small trucking companies, it was a huge boon to them, even though a lot of the country was shut down due to COVID, they had this huge lifeline that kept them along. Well, right now, high energy prices is a huge hurdle for small carriers, and it doesn't appear to be changing meaningfully anytime soon.

One thing we do know that has been consistent from 1 cycle to the next is when credit dries up, that brings religion to small carriers in terms of what they do to grow or refresh. And that process is well underway already. And so -- and that has been effective in every single cycle since 1980. So that would constrain supply. We obviously have seen what's happened with used equipment here, where we saw these unbelievable prices more than double what we were normally used to, maybe up 125% for a typical used truck at the peak, and that has come off -- probably off 25% or even maybe a little bit more. So still well above where normally we were, but there has been a huge falloff in buyers and people willing to do that. And now, of course, the challenge will be securing enough credit to do so.

So what that -- what I'm leading to in all of this, Tom, is different than any other cycle, we have never seen supply come out so early and appear to be coming out at the same pace, if not maybe even faster than demand seems to be waning. So historically, we've said that broader economic GDP demand moves in tens of basis points, but supply seems to swing in the hundreds of basis points. And so in our industry, it's -- we're much more sensitive to supply than we actually even are demand. And so all indicators are that supply is contracting already as we speak. And so that's just -- and we didn't go into this one with a huge oversupply like we did in '18 to '19 or like we did in '06 to '07 or like we did in really, I guess those would be some of the biggest ones we've seen in recent history. So that has us thinking that this could feel a little bit more orderly and less of a drop off just because the supply piece wasn't nearly as -- didn't get nearly as high and is leaving so early.

Yes. I'd add that even looking at new equipment, Tom, that still is pressured and trailers really haven't changed in terms of the ability of OEMs to deliver new trailers and most likely that will lead to an allocation of orders for next year. Tractors, very similar. I think there are some OEMs doing a little bit better than others, but still very pressured on being able to deliver on orders. And again, most likely we'll have an allocation. So new trucks aren't coming on. We're seeing, as they mentioned, the used equipment markets cooling because small carriers can't afford the prices and can't find credit. So capacity has -- is still going to be constrained just getting your hands on it, not to speak about just the economics of how it works for a small carrier. So I think all of those go to maybe in an environment where supply keeps pace, maybe outpaces the changes in demand.

Your next question will be from Todd Fowler at KeyBanc Capital Markets.

So I wanted to ask on the guidance commentary around the rate assumptions for the back half of the year. And Adam, I understand your comment that it's mostly difficult comparisons, and it sounds like maybe even an expectation that rates will be somewhat stable sequentially. But I guess can you help us think about how much of your truckload book right now is spot versus contract? And what -- that would have been like a year ago? And then also not looking for guidance, but any thoughts on how contract rates will progress into '23, just given where the spot market is right now?

Yes, sure. So just our spot exposure, I think today, we're probably down closer to the mid- to low teens in terms of our exposure to the spot market. If I would compare that to last year this time, we'd probably be 20% to 25%. So I think we've made some shifts there very strategically through the bids and we like the position that we're in there. And when I think about rate sequentially, I think the 1 wildcard is what does the fourth quarter look like. And I think we have probably less visibility to the projects or type of surge opportunities we may have in the fourth quarter than we typically do this time. And it's really because our customers are still uncertain. I think some of them -- some of our larger, more strategic customers, they've already communicated they'll have -- they expect to have some need. They don't know what it is yet. So I think that will obviously impact the year-over-year change. But I think sequentially, we'd expect rates to be stable.

I mean we've essentially gone through the bid cycle. There really isn't much that we haven't hit from our larger customers. And so the next time we address rates would probably be late fourth quarter as you really start the new bid cycle. And really how the fourth quarter plays out will play a big role in setting the stage for what those changes could look like going forward. So right now, I don't think we have a great read on 2023. So I'd hate to make a comment on that without maybe having a little bit more time to understand how fourth quarter really starts to shape up.

So, Adam, just to clarify, though, it doesn't sound like you've got a lot built in for a lot of transactional opportunity into the fourth quarter. I understand there's a lot of variability. But right now in the current guidance, it doesn't sound like you've guided a big fourth quarter plan right now.

Yes, I think we're a little more cautious on the fourth quarter just because of just the uncertainty of what type of projects may be there. And hey, as we get more clarity around that, the next time we release third quarter, we'll obviously make an adjustment based on what we know then.

Next question will be from Ravi Shanker at Morgan Stanley.

Dave, you spent the majority of your comments kind of laying out why you believe that Knight is a very different company going into this downturn than it was in the past downturn. And on the last call, you said that in a trough scenario, it was difficult to envision EPS below $4, and I'm sort of paraphrasing here. Would you care to kind of update that view here? Do you kind of feel more confident in that $4 floor in earnings? Do you feel like it's higher than $4 given the traction you've made with LTL and logistics and the other revenue segment? Kind of any helpful on where that floor is would be helpful.

Okay. Thanks, Ravi. Yes, I would tell you that every quarter that goes by that we continue to see improvement in margins, improvement in revenue. It gives us more conviction for a higher and higher trough. And so when you look at the fact that the full truckload piece is, first, we saw it shrink in terms of the overall revenue. Now we've seen it shrink in terms of the earnings, not because the earnings are inferior. In fact, the earnings are phenomenal there. It's because we have other businesses that have different exposure to -- or different risk exposure to cycles.

And in fact, they have lower risk than the full truck loaded regular route business has. And so as a result of that, when you look at the progress made in LTL, for example, I mean, we're well ahead of schedule there. And we've very much enjoyed working with our partners, the businesses there, and they're doing a phenomenal job. And every quarter that goes by that, they get bigger and that (inaudible) gets better, and it's a larger percentage of the earnings our business gets de-risked because of the consistency of LTL earnings over time. They've proven that out.

If you look at the other key components to our business, we have a variable cost in there. Whether the cost is the third-party carrier, whether the cost is the rail. And so every quarter that goes by between now and whenever the bottom of the cycle is, yes, we feel better and better about the trough that, that floor continues to rise. I would also point out that I think maybe it's unfair that we've been painted with a broad stroke that all were truckload, and we've got on to great lengths to try and point out the differences that we have. These aren't superficial. These are legitimate earnings streams. I mean if you looked at our operating income, there's -- that's an operating income number that rivals the biggest market caps of anybody -- of companies moving full truckloads, whether that's over the rail or whether that's over the road in our transportation space.

And so we -- when you look at even the truckload portion, we do truckload with multiple brands we have in that segment includes a bunch of dedicated business. Each of the brands has its own unique competitive advantages, whether that's based on the region or doing more expedited or in some cases, a little longer haul. We have built in there a very robust port business that operates differently. We have many fewer competitors in that space as well. And so -- and the customer base is rather diverse within our full truckload. And that's all before we get to the dead horse that we keep beating that is trailers matter, trailers make a difference. It is not the same to have 1 truck and 1 driver show up that have to be unloaded immediately versus somebody who could stage hundreds of trailers at a customer facility and give them all kinds of efficiencies. And so within our truckload, we have taken a multitude of steps for that business to be de-risked and to endure well the cycles on top of all the extemporaneous income stream. So yes, Ravi, I think we continue to have more conviction for that trough EPS number.

And your next question will be from Bert Subin at Stifel.

2Q is an excellent quarter for LTL. I imagine at least partially as a result of fuel and then clearly, you had super strong yields there. Do you foresee a long-term ability for that segment's OR to ultimately rival your LTL segment and to sort of be the driver of your earnings power expansion as we think about future cycles? Or should we think about that as being perhaps a sub-85 OR in a good year, it's been perhaps higher 80s in a bad year?

Well, we said our goal initially was in 3 years, we wanted to be to an 85%. And a lot of that had to do with the fact that the LTL network is so sophisticated, takes so much upfront to set up and has so much stability once it is set up, but to carve OR points there feels more difficult than it is in an irregular route, full truckload world. And so that being said, I would say that we've been pleasantly surprised at the magnitude of the synergies that are available in both large TL that has a few advantages going for it with -- working with LTL and 2 LTL partners in different parts of the country beginning to work together.

We think that there are -- there's a whole another level of synergies that can come as we can corner the entire country and a nationwide operating network behind the scenes with still the individual brands on the front end running the businesses. And so I would say that LTL has got ways to go. We haven't quite got to $1 billion. We're on our way to $1 billion a year run rate for that to be the big driver of the earnings for the business. But we very much like the business. It's -- we very much like a 78.7% operating ratio. And yes, there's some fuel surcharge benefit, but you noted the fact that there was meaningful double-digit yield improvement. And that is meaningful. That gets us very excited. I mean a lot of these LTL statistics are public. You can look at our rate per hundred weight at $14.20 excluding fuel and compare that to some of the industry leaders. And what you'll find is there's some -- there's much bigger rates out there than already what we've achieved.

Now there's nationwide networks. It's a different length of hauls. It's not an apples-to-apples comparison. I get that. I appreciate that. But we're excited about the runway that we have there. And -- but the good news for us is we're not in an either or. It's not, okay, we're going to put our heart and soul into LTL and we're going to forget about full truckload. We love doing irregular route full truckload. It's been largely abandoned by the industry because it's not -- I mean it's a bit chaotic and to do it right, it takes a lot of work, but boy oh boy, that's where we add the most value to our customers. That's where the most value is created in the supply chain. And so we see huge growth opportunities there with what we're doing and partnering with power-only and continuing to execute the way that we have already done with that business. And so we're fortunate with over $1 billion of free cash flow over the last 12 months that we have opportunities to go in both directions, and we can (inaudible) advance, so to speak, at the same time and see both of these continue to grow and flourish.

Yes. I'd even add that although there's some benefit from fuel in second quarter, we still have yet to realize the full benefit of connecting the networks between AAA and MME that's going to lead to additional revenue margin opportunities. And when you think about LTL, I think it does provide growth, but also stability through truckload cycles. And I think that's why we like this as a nice complement to our core business.

Next question will be from Chris Wetherbee at Citi.

Yes. I guess the takeaway, I guess, I'm getting to some extent, it feels like maybe this -- I guess, every cycle is different. And certainly, Dave, you made a good point about why this might be different than previous cycles. And then we talk a lot about sort of trough earnings and what we think we can do. And clearly, the non-truck load pieces of the business are performing. So I guess, should we think about the truckload piece as a normal sort of down cycle, which I think we would view sort of contract rates may be declining as much as what we've seen from spot? Or is that not the right way to think about it at this time? And maybe there's a reason to think contract rates could kind of bottom out at a much more shallower decline. I guess I want to get your sense of how you think that sort of retracement on the contract side could look relative to previous cycles given everything that you said so far.

Okay. Chris, we're going to answer this in record time because we're down to -- we're about out of time right now. So Chris, what we -- I think what we would -- what we would say is based on 2019 is our most recent example of a down cycle, we saw contract rates hold in there significantly better than broader rates, right? The broader rates look like peak to trough, we're down 50% where contract during that same peak to trough were down 5%. And a case could be made with the -- kind of the mismatched inventories in many cases that are out there, the lack of warehouse space, the tremendous need for trailers that going into this cycle, there's probably even more value on the nationwide trailer network.

So we're of the belief that there's definitely going to be resilience like there was in 2019 in contract -- in the kind of contract business that we're able to do given size and scale versus what maybe the broader would see. And I think a classic example to that would be just look at the first half of this year? Look at how our business is performed relative to kind of what it's been like for the smaller carriers in the broader irregular route market, particularly those that were overly reliant on spot business. So hopefully, that answers your question, Chris. And for those that are in the queue that we haven't been able to get to your question, feel free to follow up with us. We appreciate everybody's time today and your interest in our company. Sylvie, we'll turn it back to you to conclude.

Thank you, sir. Ladies and gentlemen, this does indeed conclude today's conference. Once again, thank you for participating, and then we ask that you please disconnect your lines.