Werner Enterprises, Inc. (NASDAQ:WERN) Q2 2023 Earnings Call Transcript

Werner Enterprises, Inc. (NASDAQ:WERN) Q2 2023 Earnings Call Transcript August 4, 2023

Operator: Good afternoon, and welcome to the Werner Enterprises Second Quarter 2023 Earnings Conference Call. All participants will be in a listen-only mode. [Operator Instructions] Please note, this event is being recorded. I’ll now turn the call over to Chris Neil, Senior Vice President of Pricing and Strategic Planning. Please go ahead.

Chris Neil: Good afternoon, everyone. Earlier today, we issued our earnings release with our second quarter results. The release and a supplemental presentation are available in the Investors section of our website at werner.com. Today’s webcast is being recorded and will be available for replay later today. Please see the disclosure statement on Slide 2 of the presentation as well as the disclaimers in our earnings release related to forward-looking statements. Today’s remarks contain forward-looking statements that may involve risks, uncertainties and other factors that could cause actual results to differ materially. The company reports results using non-GAAP measures, which we believe provide additional information for investors to help facilitate the comparison of past and present performance.

A reconciliation to the most directly comparable GAAP measures is included in the tables attached to the earnings release and in the appendix of the slide presentation. On today’s call with me are Derek Leathers, Chairman, President and CEO; and Chris Wikoff, Executive Vice President, Treasurer and CFO. Derek will begin with a high-level overview of our performance during the second quarter and an update on execution against our DRIVE strategy, specifically with a focus on innovation. Chris will then provide a deeper dive into our results. We will then open it up for questions followed by closing thoughts from Derek. Now, I’ll turn the call over to Derek.

Derek Leathers: Thank you, Chris, and good afternoon. Before we get into an overview of our second quarter results, I’d like to thank the 14,000-plus talented Werner team members for staying true to our core values, safely providing superior service to our customers and delivering on our unrelenting DRIVE strategy. We are proud to be the carrier of choice among our deep portfolio of valued customers who are allowing us to solve and service their most complex freight challenges every day. With that, let’s turn to our second quarter results on Slide 6. On our previous two earnings calls, we shared our expectation that freight conditions in the first half of 2023 would be challenging and competitive as retail inventory destocking runs its course, the Fed continues with monetary tightening and excess capacity dissipates.

Following a moderating freight environment in February and March, freight was progressively weaker in April and May. However, there was a slight improvement in mid-June, which we’ve seen continue throughout July. In the second quarter, revenues decreased 3% year-over-year to $811 million. Net of fuel surcharges, our second quarter revenue grew by 2%. Adjusted EPS was $0.52. Adjusted operating income was $51 million or an operating margin of 6.3%. Adjusted TTS operating margin was 9.7%. Despite the challenging operating environment, our TTS segment achieved an adjusted operating margin of 12.9% on a trailing 12-month basis, within our long-term guidance range of 12% to 17%. Our primary focus is on operational execution by leaning into the strength of our dedicated fleet, which has performed as expected through superior customer service and fleet efficiency.

This focus continues to result in strong customer retention and year-over-year growth in revenue and revenue per truck per week. As anticipated, One-Way Truckload was challenged by overall market conditions with less freight available, elevated spot exposure and significant pricing pressure. We remain focused on utilization of One-Way assets and optimizing the fleet while maintaining long-term pricing discipline. Within Logistics, Q2 volume and revenue remained strong, delivering double-digit growth year-over-year. We continue to execute on our cost savings program and have seen sequential and year-over-year progress in multiple expense categories. That said, we continue to experience macro headwinds with lower equipment gains, higher interest expense and inflationary factors amid a softer freight environment, which collectively contributed to sequentially lower earnings.

The second quarter was certainly challenging, but our results continue to reflect a business model that is durable and diversified and resilient. Even in a lower for longer freight environment, which combined with our elevated rigor on cost-saving initiatives puts us in a compelling position to excel as market conditions improve. Let’s move on to Slide 7. In our TTS segment, revenue per truck per week net of fuel has grown year-over-year, 18 of the last 22 quarters. And while down year-over-year in Q2 for the first time in 14 quarters, this compares to industry benchmarks showing significantly larger declines. Our Dedicated segment continues to perform and grow revenue per truck, reflective of our reliable, highly integrated and premium offering for large enterprise customers who look to us to service complex and hard-to-serve networks not easily replicated.

Dedicated has steadily grown over the last 10 years across all economic conditions with a customer annual retention rate of over 95%. Our ability to engineer and optimize fleets over time has resulted in dedicated revenue per truck increasing eight of the last nine years. Within our One-Way Truckload business, revenue per truck net of fuel is also outperforming industry benchmarks despite being down mid-single digits in the first half 2023. This durability is the result of our investments and deliberate effort to build a business model consisting largely of cross-border Mexico, engineered and team expedited freight. Let’s move on to Slide 8. Beginning with our 5Ts strategy, which we launched in 2016, and continuing through today with our DRIVE strategy.

Innovation is at the forefront of transforming the way we do business. Our Cloud First, Cloud Now imperative launched in 2020 represents a robust multiyear investment plan to leverage technology and innovation towards growth and operational effectiveness. We launched the Werner EDGE TMS in 2021, a blend of best-of-breed third-party market solutions with proprietary talent and innovation. In 2022, we successfully migrated our entire organic truckload brokerage business to Werner EDGE TMS and are currently transitioning other business units, including Intermodal. Reed, one of our recent acquisitions, is scheduled for full integration by end of this year. We plan to initiate the migration of our TTS segment in 2024. In July, we were excited and proud to unveil Werner Bridge.

Our latest tech-driven feature-rich logistics solution designed specifically for shippers and carriers. For our shippers, the Werner Bridge makes it easy to get instant quotes, book shipments and manage orders smoothly from start to finish with full visibility of their network. And of course, our representatives will continue to be available and engage at any time. For our carriers, Werner Bridge streamlines the process of finding and booking freight instantly, automating freight matching, providing routing guides and interactive maps for ease and visibility and a recommended reload feature designed to enhance recurring revenue for the carrier while also further establishing Werner as a recurring and reliable partner. Werner Bridge is a clear demonstration of our commitment to provide innovative and advanced solutions, streamlining operations and delivering top-notch service to carriers and shippers.

When we combine tech-enabled customer-facing solutions such as Werner Bridge with our large network of qualified carriers and our deep industry expertise, we have a compelling position to organically grow our brokerage business to significant scale with large, medium and small customers alike. I want to extend heartfelt congratulations to all the Werner associates who poured their energy, time and talent into launching this exciting next-gen technology. Before I turn the presentation over to Chris Wikoff, our CFO, I’d like to take a moment to comment that in his first three months with Werner, Chris has hit the ground running, bringing fresh eyes, experience, perspective and a new and positive presence to our leadership team. And we’re just getting started.

And with that, let me turn it over to Chris.

Chris Wikoff: Thank you, Derek, and hello, everyone. It’s great to speak with you all today, and I’m thrilled to be here. With 100 days in at Werner, I’ve had a tremendous opportunity to engage broadly with the business and operations, seeing firsthand our operational expertise and momentum for innovation and growth. This is a unique environment with the passion for excellence in winning, and I look forward to the work that we can accomplish together here at Werner. Let’s continue on Slide 10. Second quarter total revenue was $811 million, which was down 3% versus prior year. Net of fuel surcharges, Q2 revenues grew by over 2%. TTS revenues net of fuel were nearly flat despite a softer freight market, while Logistics revenue grew for the 11th straight quarter, reporting double-digit growth.

Adjusted operating income was $51 million, and adjusted operating margin was 6.3%, a decrease of 34% and 300 basis points, respectively, versus prior year. Adjusted EPS of $0.52 was down $0.35 year-over-year due to the macro environment, lower equipment gains, higher interest expense and ongoing inflationary headwinds. Turning to Slide 11 and our Truckload Transportation Services results. As a reminder, we report our TTS adjusted operating results net of fuel. TTS total revenue for the second quarter was $570 million and down 7%, yet demonstrated resiliency and durability with revenues net of fuel surcharges nearly flat at $493 million. Given the macro environment, we are pleased with the top-line performance in TTS. Second quarter TTS adjusted operating income was $48 million, and adjusted operating margin was 9.7%, a year-over-year decrease of 28% and 370 basis points, respectively, due in part to lower equipment gains against a strong prior year comp.

In the second quarter, gains on sale of revenue equipment totaled $11.4 million, a decline of $7.3 million or 39% versus prior year. While we sold over twice as many tractors and nearly three times more trailers compared to prior year period, average price and gains were significantly lower. Our strategy coming into 2023 was to weight equipment sales more heavily in the first half, which is paying off as equipment values are expected to decline further the rest of the year. Year-to-date, we have achieved $30 million of equipment gains compared to our full year guidance of $30 million to $50 million. TTS adjusted operating expenses net of fuel surcharges and equipment gains were up only 2% compared to our TTS rate per mile, which decreased 1.7%.

We saw modest improvements in the quarter in various expense categories. TTS insurance and claims were down 13% versus the prior year. We continue to focus on safety and maintaining our 10-year record low for DOT preventable accidents. The rise in cost per claim, record verdicts and settlements remains an industry headwind, but we are encouraged by modest year-over-year improvement. Driver pay and benefits continues to moderate and was flat year-over-year and down sequentially. Supplies and maintenance expense was up 2% over prior year, much lower than the 19% increase experienced in the first quarter compared to the same period in 2022. We are seeing an improvement in the monthly trend as we are starting to recognize the benefits of shifting more of our repair and maintenance capabilities in-house, therefore, reducing our reliance on third parties.

We’ve done a lot of work in this area, and we are encouraged by the early results. We are committed to controlling costs and performing within our annual TTS operating margin range of 12% to 17%, which we continue to achieve on a trailing 12-month basis. Turning now to Slide 12. TTS trucks averaged 8,351 during the quarter or up nearly 1% versus prior year. We ended the quarter with the TTS fleet down 2.2% sequentially and down 1.4% year-over-year. Within TTS, Dedicated revenue was $310 million and up 3%. Dedicated represented 63% of segment revenue net of fuel compared to 61% prior year. Dedicated freight demand in the second quarter was generally steady and in line with our expectations. The Dedicated average truck count during the quarter grew 2% to 5,276 trucks.

At quarter end, Dedicated represented 63% of the TTS fleet. Dedicated revenue per truck per week increased 1.5% year-over-year and 3% year-to-date. Overall, Dedicated is performing well and remains solid. Our pipeline of opportunities remains healthy given our unique scale, reliability and strong relationships across our portfolio of large enterprise customers. As customers continue to monitor the macro environment, we are seeing some delays in expanding existing dedicated fleet, although the dialogue with our customers about future opportunities remains positive. One-Way trucking revenue for second quarter was $177 million, a decrease of 6% versus prior year. One-Way average truck count during the quarter was down 1% to 3,075. One-Way revenue per truck per week is down 5.2% year-over-year.

We have been diligent in maintaining price discipline with over 80% of the bid season behind us. As such, we experienced an uptick in our spot mix, reaching mid-teens in Q2 within One-Way. One-Way second quarter total miles per truck per week were slightly positive year-over-year, reversing a multi-quarter trend due to more teams, improved terminal velocity, further engineering of our fleet and less downtime. Turning now to our growing Logistics segment on Slide 13. In second quarter, Logistics segment revenue was up 10% year-over-year at $225 million and now represents 28% of total Werner revenues. Truckload Brokerage revenues drove the largest portion of the year-over-year growth, increasing over 30% driven by the Reed acquisition and strong performance from our organic business.

We completed our second full quarter with Reed as part of the Werner portfolio, and we are very pleased with the performance as Reed is seeing double-digit volume growth compared to its pre-acquisition levels. Excluding Reed, volumes in Truckload Logistics increased 4% sequentially and decreased 3% year-over-year, nearly replacing all of the surge and project volume, which peaked in the prior year quarter. We continue to grow our domestic and Mexico cross-border Power Only solution as both our customers and alliance carriers see tremendous value in the Werner network and growing trailer pool. Power Only represented a growing portion of the Truckload Logistics revenue during the quarter. Final Mile revenues increased 15%, and the business continues to show strong growth, reporting numerous record volume weeks during the quarter.

As expected, Intermodal revenues, which make up approximately 11% of segment revenue, declined year-over-year from both a volume decline and lower revenue per load. Second quarter Logistics adjusted operating income was $5.5 million, and adjusted operating margin was 2.4%, down 400 basis points year-over-year, driven by rate and gross margin compression combined with higher operating expenses. We are seeing multipronged benefits from our Logistics and asset-light businesses as they provide diversification, are less capital intensive and enable broader solution selling that aligns with the needs of our customers. On Slide 14, we provide an update and more color on our cost savings program. As we have previously discussed, we are embedding discipline and rigor around expense management across the enterprise.

Our cost-saving program is process oriented and gears towards collaborative identification, execution and trackability of numerous initiatives to reduce costs and improve margin. In the current environment of pricing pressure plus inflationary headwinds, our cost-saving program is serving to mitigate some of the impact on operating margins. Through the end of the second quarter, we have now identified in-year run rate savings of over $40 million. The program includes four primary categories of savings. First is driver and non-driver salaries and other wage-related initiatives. Second is recruitment and training savings from lower driver turnover and maintaining a strong driver pool. Third is fuel efficiency savings through investments in updating the fleet, supplier and equipment innovations that improve efficiency such as auxiliary power units and other fuel efficiency initiatives.

And finally is supplies and maintenance and other savings from growing our in-house maintenance capabilities throughout our terminal network in lieu of third-party repairs. This is in addition to negotiating reduced cost on supplies and parts, lowering facility expenses and the benefits from technology-driven savings. Although there is more work to do, we are pleased with the progress to date. And as of the end of the second quarter, we have realized over 40% of the targeted savings. We’ll continue to emphasize a lean culture, operational innovation and organizational discipline to contain cost, mitigate inflationary pressure and improve margins while also strategically investing for future growth. Let’s look now at our cash flow, liquidity and capital metrics on Slide 15 and Slide 16.

We ended June with $47 million in cash and cash equivalents. Operating cash flow was steady at $115 million for the quarter or 14% of Q2 total revenue, up 71 basis points compared to prior year. Year-to-date operating cash flow was $282 million or a margin of 17%. Net CapEx in the second quarter was $151 million or 19% of Q2 total revenue, reflecting lower year-over-year gains and greater pace of reinvestment in the business. We are catching up the fleet after not receiving all of the equipment we ordered in the last two years. With the increased investment, we are seeing a lower average age of our trucks and trailers benefiting maintenance expense while also preparing for future emission changes. Having the most modern and safest equipment benefits our drivers, customers and will position us well as the market strengthens.

Free cash flow was a negative $36.5 million for the second quarter. Year-to-date free cash flow was positive $27.6 million or 2% of total revenues due to net CapEx for the first half of the year being elevated. We expect net CapEx for the second half of the year to be lower than the first half. Our total liquidity at quarter end was strong at $511 million, including cash and availability on our revolver. On Slide 16, we ended the quarter with $640 million in debt, down from $691 million at the end of the first quarter. Our debt structure is primarily long term and provides ample credit capacity for growth and accretive investments with over 90% of our outstanding debt not maturing until the second half of 2027. In July, we increased our fixed rate debt to 58% from 35% at the end of the first quarter.

This was accomplished by entering into additional interest rate swaps and therefore achieving our objective of mitigating rate volatility for the majority of our debt portfolio. At quarter end, our net leverage was 1.1 times compared to one times entering 2023. We remain pleased with our long-term and low-cost access to capital and our overall capital structure. Moving on to Slide 17 to review our capital allocation priorities. We will continue to prioritize strategic and reinvestment in the business for fueling growth and competitive advantage, including modernizing the fleet while also investing in safety, technology and innovation. In addition, we’ll maintain our long-standing commitment to return value to shareholders through our quarterly dividend, which grew 8% in the second quarter, and through periodic evaluation of share repurchases.

Our opportunities to grow organically remain clear and compelling, particularly within Dedicated and our asset-light businesses. Accretive acquisitions also remain an avenue for growth where opportunities of relevant size and synergies align with our culture and prioritize competitive advantages. We’re continuing to integrate the four acquisitions that we have executed to date, and progress is in line with our expectations. And lastly, we are committed to preserving a strong and flexible financial position with access to liquidity while maintaining low and modest net leverage. I’ll turn it back to Derek for an update on our market outlook for the second half of the year and modeling assumptions on Slide 18.

Derek Leathers: Thank you, Chris. The freight market has been challenging in the first half of 2023. During July, we have seen modest signs of improvement in truckload. Dedicated demand remains steady, and we anticipate a pipeline of opportunities that we can capitalize on. One-Way pricing will remain disciplined as spot mix gradually moderates, particularly as we flex into more dedicated growth. Despite a very competitive marketplace, we expect continued solid volume in logistics with continued margin pressure given a prolonged competitive rate environment. As we look to the second half of the year, the collective voice of our larger retail customers continues to reflect that destocking is largely complete. And reports indicate that inventories have returned to pre-COVID levels on an inflation-adjusted basis.

We remain cautious about consumer behavior given mixed data points and themes impacting spending, particularly for goods versus services. Headwinds remain in terms of further Fed tightening with inflation still well north of the Fed target and potentially ongoing restrictive lending. Further, we expect there will be an accelerated pace of freight capacity exiting the market. Relative freight capacity, FMCSA carrier data reports DOT net truck deactivations for 44 consecutive weeks and now exceeds 110,000 net deactivations over that period. At this point, we believe smaller carriers have been supported by cash reserves generated from the peak 2022 freight market, federal stimulus and lower fuel costs. Accelerated truck capacity attrition seems more imminent as cash reserves reach a point of depletion.

And we believe even in a gradually improving freight environment that it is unlikely for those carriers to reenter the market given much higher financing costs and other factors. We are well positioned to benefit from the reduced supply, more normalized demand and upward momentum to lock in more contractual freight at improving rates. For the used truck market, we expect continued declining demand with moderating pricing and equipment gains as the year progresses. We reached $30 million in equipment gains for the first half of 2023, and we are tightening our expected range for the full year to $40 million to $50 million. We expect net interest expense this year will be $20 million to $25 million higher than last year as a result of the continued pace of Fed tightening.

As Chris mentioned earlier, we have adjusted our fixed versus floating rate debt to reflect the 58% as effectively fixed. With that background, let’s turn to Slide 19 and review our second quarter performance compared to our guidance and our updated guidance metrics. During the second quarter, our truck fleet declined 190 trucks, resulting in year-to-date decline of 4% as we adapted our fleet size to adjust to the challenging freight conditions. As a result, we are lowering our truck growth guidance range for the full year 2023 to down 4% to down 2% from down 2% to up 1% previously. We are increasing our net CapEx guidance for the year from $350 million to $400 million to $400 million to $450 million as a result of a greater pace of refreshing the fleet, as Chris mentioned.

We anticipate that this will be at the upper end of our long-term net CapEx range of 11% to 13% of revenue. Dedicated revenue per truck per week increased 3% year-to-date. This is at the upper end of our full year guidance range, which remains unchanged. One-Way Truckload revenue per total mile for second quarter decreased 5.2% and is down 4.2% year-to-date, within our first half guidance range. Our guidance range for the third quarter is down 7% to down 4%. Our tax rate in the second quarter was 25.2%, and we are maintaining the full year range of 24% to 25%. The average age of truck and trailer fleet in the second quarter was 2.1 and 5.1, respectively. Turning to Slide 20. We have a powerful business model with a large and durable Dedicated fleet, a diversified One-Way Truckload fleet and a growing Logistics segment.

Our approach has created clear competitive advantages that will continue to fuel our growth, durability and earnings. We have significant scale as a top five public truckload carrier with nearly 8,300 trucks, 14,000-plus associates and thousands of qualified carriers within Brokerage. We are uniquely positioned to service the most complex freight needs of large enterprise customers, including over half of the largest U.S. retailers, in addition to growing in other verticals with customers who are winning in their space. We have the benefit of broad solution selling to large enterprises across our highly integrated dedicated offering, our branded nationwide Final Mile solution plus cross-border and Logistics while also growing share with small and medium-sized customers within Brokerage.

Our comprehensive footprint in terminal network across the country puts Werner within 150-mile reach of 90% of the U.S. population. And as nearshoring increases, we have the largest Mexico cross-border franchise in truckload and deep experience operating in this complex market. We have a long history of leading in innovation, and we are primed to benefit from more recent investments in technology aimed at greater operational effectiveness and enhancing the experience of both our customers and associates. We continue to attract and retain top talent, including highly qualified drivers that embrace and carry out our commitment to superior safety and award-winning service, which in turn allows us to retain our strong portfolio of winning customers.

I’m extremely proud of our team. We were recently recognized by Inbound Logistics magazine annual Excellence Survey as a top 10 3PL provider, coming in at number six. This is the seventh consecutive year of being recognized and a testimony to our commitment in providing a best-in-class experience for our customers. At this point, I’ll turn the call back over to our operator to begin Q&A.

See also 12 High-Dividend Stocks to Buy Under $10 and 15 Most Imported Cheeses in America.

Q&A Session

Operator: [Operator Instructions] Our first question is from Ravi Shanker with Morgan Stanley. Please go ahead.

Ravi Shanker: Thanks. Good afternoon gentlemen. Thanks for the color here. Would love your views on what your customers are telling you. You kind of hinted about inventory levels kind of coming back to normal here. Kind of how do you think the cycle plays out over the back half of the year and going into 2024, please?

Derek Leathers: Yes, Ravi, thank you for the question. I guess I’ll start with, obviously, it’s a bit like the weather. It’s localized in nature, meaning each customer is in a little bit of a different setting. But the majority of our customers, as we’ve recently had significant dialogue with them on the subject, have indicated that destocking is largely behind them. So that’s encouraging. They’re also encouraged from some of the macro backdrop data that we all see. Labor is holding up well. Jobs reports are arguably better than what was originally expected. Inflation seems to be waning a little. And if nothing else, we’re starting to enter at least easier comps as it relates to that, and people are normalizing their perception of it.

We work a lot with winning customers in sort of discount retail space. Those folks seem to be faring better than most. So as we put all that together and think about the back half, I’d say we’re cautiously optimistic, as are they. But clearly, you’ve still got that tightening ahead of us. You’ve got some pretty stringent kind of lending backdrop. So it’s difficult to say, but it appears to me that we’re seeing the early innings of what could set up more like a normalized Q4 with some difficult headwinds still ahead of us in Q3.

Ravi Shanker: Got it. That’s super helpful. And maybe kind of switching gears for a follow-up to the cost side. Obviously, you had a few challenges this time last year, which gives you a little bit of an easier comp. And you guys have made some good progress there. Can you talk about kind of some of the line items you’re looking at, particularly insurance? I think there have been some significant changes in the insurance market in recent months. How do we think about cost inflation as a potential offset to any pickup in the cycle?

Chris Wikoff: Yes, Ravi, thanks for the question. This is Chris. In terms – specifically on the insurance and claims, we did see some year-over-year benefit there and flat quarter-over-quarter, although admittedly, Q2 of prior year was a peak for insurance and claims. So that’s somewhat contributing just in terms of the comp of some of the moderation year-over-year in the quarter. But this is still an expense category that just continues to be challenging for the industry. Our frequency of claims is down, remains down. Our safety metrics continue to be positive. And unfortunately, the insurance and claims just broadly for the industry can be difficult given the cost per claim rise and broad issue. But we are seeing some other moderation in supplies and maintenance.

That was up 4% year-over-year, but it’s down 5% quarter-over-quarter. That’s a particular category that we’ve been very focused on. A couple of metrics there in terms of our trucks that are over 400,000 miles, we’ve continued to see that drop dramatically. It peaked last September. It was still elevated coming into this year. By the time we hit March, it was lower than any month last year. And then we hit June and hit a low point, almost a two-year low point in terms of our trucks that are over 400,000 miles and out of warranty. So that has a knock-on impact to the supplies and maintenance. The other thing that we are seeing some benefit from is getting some traction and seeing the benefit from an extended period here of building in-house capability for our repairs and maintenance throughout our terminal network.

So, we’ve been spending several months in building that capability, hiring mechanics and developing the means to route trucks to those terminals for in-house repairs and maintenance. And now we’re actually seeing the fruits from that and see some encouraging trends, particularly in June. That was more significantly down. So we’re seeing some categories that are encouraging. That’s on top of our cost savings program, which we talked a little bit about that in our scripted comments. There’s still a couple of categories that are more elevated, depreciation being one that has some intangibles of the amortization from acquisitions and some impact from the newer fleet and some fuel-enhancing equipment. But we think those are good decisions long term in terms of fuel efficiency and impact on margin.