GXO Logistics, Inc. Q3 FY2021 Earnings Call

Welcome to the GXO Q3 2021 earnings conference call and webcast. At this time, all participants are in a listen-only mode. Later, we will conduct a question and answer session. If you have a question, please dial star, one on your telephone keypad. Please note that this conference is being recorded. Before the call begins, let me read a brief statement on behalf of the company regarding forward-looking statements, the use of non-GAAP financial measures, and company guidance. During this call, the company will be making certain forward-looking statements within the meaning of applicable securities laws, which by their nature involve a number of risks, uncertainties and other factors that could cause actual results to differ materially from those projected in the forward-looking statements. A discussion of factors that could cause actual results to differ materially is contained in the company’s SEC filings. The forward-looking statements in the company’s earnings release or made on this call are made only as of today, and the company has no obligation to update any of these forward-looking statements except to the extent required by law. The company also may refer to certain non-GAAP financial measures as defined under the applicable SEC rules during this call. Reconciliations of such non-GAAP financial measures to the most comparable GAAP measures are contained in the company’s earnings release and the related financial tables or on its website. Unless otherwise stated, all results reported on this call are reported in United States dollars. The company will also remind you that its guidance incorporates business trends to date and what it believes today to be appropriate assumptions. The company’s results are inherently unpredictable and may be materially affected by many factors, including fluctuations in foreign exchange rates, changes in global economic conditions and consumer demand and spending, labor market and global supply chain constraints, inflationary pressures, and the various factors detailed in its filings with the SEC. This guidance also reflects the company’s estimates to date regarding the impact of the COVID-19 pandemic on its operations. It is not possible for the company to actually predict demand for services and therefore its actual results could differ materially from the guidance. You can find a copy of the company’s earnings release, which contains additional important information regarding forward-looking statements and non-GAAP financial measures in the Investors section on the company’s website. I will now turn the call over to Malcolm Wilson. Mr. Wilson, you may begin.

Thank you, Operator. Good morning and welcome to GXO’s third quarter earnings call. With me today are Baris Oran, our Chief Financial Officer, and Mark Manduca, our Chief Investment Officer. This is our first quarterly update following our successful spinoff in early August. In accordance with our can-do culture, GXO’s listing was completed in only eight months. This was thanks to the collective hard work and dedication of our 95,000 exceptional team members, the support of our loyal customers, and our shareholders. We are extremely excited for the journey ahead as we pursue our secular growth opportunities. In the third quarter, our operations delivered the highest quarterly revenue and adjusted EBITDA in their history. Not only did we beat market expectations, we surpassed a stellar second quarter. This was the third consecutive quarter of double-digit organic revenue growth. As a result, we are raising the midpoint of our full-year revenue guidance to $7.7 billion and raising our midpoint of our pro forma adjusted EBITDA guidance to $622 million. In the third quarter, we won contracts with an aggregate lifetime value of over $1 billion, taking the value of our total wins year-to-date to $4.3 billion. Wins in this quarter included global blue-chip customers such as Raytheon, a global aerospace manufacturer, Ross Stores, a large chain of department stores here in the U.S., Zalando, one of Europe’s largest ecommerce companies, and Zara, a global omnichannel fashion retailer. We also won business with a leading U.S. semiconductor company. These contracts have an average duration of five years. We also implemented solutions in the quarter with Abercrombie & Fitch, Apple, and Currys, formerly Dixons Carphone, and we expect new customer wins to have a $700 million uplift to our 2022 revenue, underpinning our growth for next year. Today, approximately 50% of our revenue now comes from customer relationships that span more than one country. The massive tailwinds of automation, ecommerce and outsourcing remain unabated, and our blue-chip customers rely upon us for our best-in-class solutions and to stand up technology proficient warehouses with speed, reliability and at scale on a global basis. Our land-and-expand strategy underpinned by our global scale and technology leadership is a key differentiator, as evidenced with customers like ASOS, Disney, and H&M. Year-to-date, we’ve expanded our operations with 16 of our top 20 customers across 22 new locations. On average, we now operate in three countries for each of our top 20 customers. As we navigate global supply chain disruptions and a tight labor market, we believe that being an employer of choice is critical. We continually hire throughout the year, not just for peak but to meet our growth needs, and we strive to ensure our employee value proposition is compelling. As a company, we pride ourselves on creating a workplace where safety is paramount, diversity and inclusion are valued, and competitive compensation and benefits programs are offered. Against this backdrop, we are working hard to meet our warehouse recruiting needs. At the same time, we are increasing the deployment of automation, implementing our best-in-class software and leveraging our ecommerce and warehouse solutions know-how. We have found that the use of technology boosts productivity, improves safety, and enhances our employee experience overall. After spending a few weeks visiting our teams and distribution centers across the U.S., I’ve seen firsthand that the good balance of GXO team members and technology makes for a winning combination. I’m also pleased to note that the quarter saw numerous awards granted to GXO, highlighting our leadership in technology and diversity. The Institute of Innovation and Knowledge Exchange recognized GXO for two decades of innovation with Virgin Media, and we were also recognized by the Human Rights Campaign on the Corporate Equality Index for LGBTQ+ inclusion. I would also like to take this opportunity to welcome our new Vice President of Diversity, Inclusion and Belonging, Letitia James. Diversity and inclusion are at the core of GXO values. Earlier this year, we jointly held a diversity and inclusion strategy workshop with one of our largest omnichannel retail customers to find ways to make our distribution centers more inclusive, recruit from a diverse talent pool, and serve the community as a strong corporate citizen. We launched a joint diversity and inclusion advisory board that tracks and measures progress on our diversity goals. All of this enables us to be an employer of choice and a great place to work as our partnership expands. Finally, it gives me great pleasure to announce that we have been awarded a double-A ESG rating from MSCI, placing GXO as the highest ranked among its largest industry peers. This rating recognizes the importance that our company places on environmental, social and governance. It also acknowledges the clear targets that we have presented in recent months, including our firm goal to be carbon neutral by 2040. As a business, we want to set the benchmark for ESG across the supply chain and we are already making good progress on our targets set out at our investor day. We feel confident about our future as a newly formed entity. We are excited to deliver on our vast growth potential as the largest global pure play contract logistics company. I will now pass you over to Baris to take you through our financial performance. Baris, over to you.

Thank you Malcolm, and good morning everyone. Today I’d like to walk you through our third quarter financials as well as our upgraded guidance for 2021. In the third quarter, we generated revenue of $2 billion, net income of $72 million including $42 million of one-time tax items, and adjusted EBITDA of $163 million. This revenue represents a year-over-year increase of 24.6% and is up 12% on an organic basis, with FX contributing 2% and M&A contributing 10%. The 12% organic growth is notable in the context of 8% to 12% organic growth rate for next year that we are reconfirming today. Year to date, revenues from top 20 customers have grown approximately 37%, demonstrating the success of our land-and-expand strategy. Quite simply, we view ourselves as the scaled third-party logistics partner of choice for global brands. One of the great benefits of our model is its visibility, and as we stand here in early November, we have a strong view on the revenue trends of our business heading into 2022 and even 2023. Moreover, looking back we would like to note that from 2016 through the end of the third quarter, we have delivered an organic revenue growth CAGR of 7.3%, reflecting the high growth nature of our business even through a pandemic. Moving to earnings, the growth in our adjusted EBITDA reflects the robust revenue growth we have delivered via a combination of new customer wins and existing customer expansion, as well as efficiency gains. We had particularly strong open book contract wins. Our contracts are structured to provide resiliency with pass-through cost mechanisms, and in an inflationary environment our third-quarter results reflect this. We recorded a positive tax adjustment of approximately $42 million in the third quarter. This is a one-time P&L item resulting from the spinoff. Separately in the fourth quarter, we expect a negative impact of less than $20 million in cash tax effects related to spin. Our cash flow from operations in the third quarter was $105 million. We spent $55 million in capex, specifically we spent approximately 50% of our total capex bill on automation, technology and software. We invested for our high growth future with an associated increase in working capital due to new starts and our recent acquisition. Overall, we generated free cash flow of $50 million, which represents over 30% of our adjusted EBITDA. Turning to the balance sheet, we had a net debt of $757 million at quarter end, which included roughly $800 million of notes and about $180 million of finance fees. Our leverage ratio is 1.3 times trailing 12 months reported adjusted EBITDA. This is well within the previously discussed net leverage range of 1 to 1.5 times. We also have an available $800 million revolving credit facility at our disposal and are committed to our investment-grade credit rating. I’ll now turn the call over to Mark.

Thank you Baris. As Malcolm and Baris highlighted, this is a rare breed of company, one that combines high growth with resiliency and dependability. I’m going to expand on the secular themes that Malcolm and Baris highlighted. Our position as the largest global pure play contract logistics company puts us at the forefront of the growing demand for technology-driven logistics solutions. This is due to three secular mega-trends that Malcolm mentioned: automation, ecommerce, and outsourcing. These three tailwinds continue to drive our double-digit revenue and adjusted EBITDA growth. Firstly, automation and technology are key differentiators for GXO in the marketplace, helping boost efficiency and productivity of our solutions and resulting in revenue and margin uplift for our customers. In the third quarter, we increased our technological leadership by the deployment of more than 1,000 new units of technology implemented across our solutions. Total technology and automated systems across our warehouse footprint grew 139% year-over-year in the third quarter, and within that total goods to person systems grew 135% year-over-year. We’re also currently testing over 100 new technologies in our sites. Some of this technology has the ability to transform our solutions, bringing further benefit to existing and new customers and inevitably speeding up the cadence of outsourcing. There are multiple technologies across our network that generate value for our team members, customers, and also GXO. For example, we recently trialed and will be implementing a new autonomous collaborative robot capable of transporting heavy weights. It improves safety, reduces manual tasks, and increases picking efficiency by 70%. This technology brings a cash payback of significantly less than three years and offers a very high return on invested capital. Secondly on ecommerce, we continued to benefit in the quarter from strong secular and persistent growth. Our outbound ecommerce omnichannel retail and technology aggregated revenue increased by 22% year-over-year in the third quarter and our reverse logistics revenue increased by 21% year-over-year. Looking forward, we expect our customers will increasingly use ecommerce channels to get their products into consumers’ hands as fast as possible. Finally on outsourcing, the runway remains significant with a massive potential addressable market of $430 billion, of which $300 billion is still yet to be outsourced. Year-to-date, our wins have come roughly 40% from new outsource contracts, 31% from existing customers who are expanding their scope, and 29% won from competitors. Our record sales pipeline indicates continued growth opportunities from never before outsourced contracts. As Malcolm mentioned, we secured contracts with almost $700 million of brand-new revenue uplift for 2022. This is the equivalent to a gross revenue growth rate of 9%, even before we consider the opportunity from further wins from our strong pipeline in the fourth quarter and in 2022. In conjunction with our gross win announcement, I would note that our 12-month trailing revenue retention rate has also improved since our investor day and our pipeline at the moment as of the third quarter is valued at approximately $2.3 billion. Given our leadership in this vertical, it won’t come as a surprise to know that more than 50% of our wins year-to-date are from that very same ecommerce omnichannel retail and technology vertical. I’ll now hand the call back to Baris to discuss the outlook.

Thank you Mark. At our investor day in July, we highlighted that the majority of our revenue growth comes from net customer wins, and our strong performance year-to-date gives us confidence for the fourth quarter of 2021 and into fiscal 2022. As a business, we have good visibility given our long duration contracts with blue-chip customers. We look forward to a fourth quarter with strong growth and to 2022 being another year of double-digit revenue growth at the midpoint of our range in this high return on investment capital business. We continue to monitor supply chain disruptions closely and remain focused on mitigating the impact of any deterioration in the macro environment, including input shortages of components and labor. We upgraded our full-year 2021 guidance in light of our strong third quarter results and the visibility we have. We are seeing an increased demand for solutions that tackle direct-to-consumer ecommerce fulfillments, energy optimization, fastest speed to market, and ability to reuse returned products. We are delivering tremendous value to our customers at this challenging time. We now expect that we will generate $7.6 billion to $7.8 billion of revenue in 2021 and $607 million to $637 million of pro forma adjusted EBITDA. Meanwhile, our expected tax rate has been lowered to 25% to 27%. We also updated our capex guidance to $225 million to $250 million. Our 2022 financial targets are unchanged. These are 8% to 12% organic revenue growth alongside $705 million to $740 million of adjusted EBITDA. In the present tough supply chain environment, we are increasingly pleased with our progress and remain vigilant. We demonstrated strong growth while maintaining our high return on investment capital, grew our sales pipeline to a record level, and built a world-class team and enviable platform set to deliver long-term, sustainable shareholder value. We’ll now open the call up to Q&A.

Our first question comes from Scott Schneeberger with Oppenheimer. Please go ahead with your question.

Thanks very much and good morning everyone. I’m curious about the ramp-up timing of announcing a new win and when we might see it in results, and also the margin profile of initial new wins and how long those margins take to ramp to optimal margins. Thanks.

Thanks Scott, it’s Malcolm Wilson here. I’ll cover the first part of that question and then I’ll hand over to Baris to talk about the margin profile. New contracts - I mean, they come in all shapes and all sizes. Typically today, because we implement a lot of automation in our facilities, a normal start-up period can range between three months and nine months, depending on the level of automation that’s going into the facility. Due to our scale, clearly we’re seeing a relatively good availability of warehouse stock. We’re working with all of the large industrial landlords, so we’re not hampered in anything other than just working with our customer, the detailed planning, the work together in terms of the connection of our IT software to optimize the flow of goods through the warehouse, so three to nine months is normal. It could be a little longer if we’re doing a very detailed design and build facility, where we’re actually starting with a blank canvas and it’s going to be a very, very highly automated warehouse. In those circumstances, typically the building is physically designed to suit the level of automation. I hope that gives you a flavor of the situation. Regarding the margins, Baris, maybe you can add?

Sure Malcolm. Hi Scott. When we start the operation, depending on the size, the scale and technology involvement, it takes roughly six months to a year for us to ramp it up to a full scale and to have the margins at a certain level. Remember, the more technology we employ in a facility, this is increasing these days, a lot of automation and technology is being employed, the margins tend to be higher. On average, we see 200 basis points to 400 basis points higher margins in higher technology employed facilities that we operate.

And Scott, as you know, adding to Baris’ point about our business, this is a contractual business model and not a transactional business model. We have great visibility when we write those contracts that Baris and Malcolm talked about, and with all our contracts at the moment, we aspire to be profitable on day one, aspire to have cash paybacks of less than three years on any capex and working capital deployed, and project level returns of more than 33%.

Great, thanks all, appreciate that. Then as a follow-up, a bit of a current event question, but just curious - Baris, you touched on it briefly, but if we can go a little bit more in depth, how are you doing with regard to labor availability, and then if you could speak to how wage inflation may be covered in your contracts from a total company perspective. Thank you.

Yes Scott, it’s Malcolm here. Let me cover that, and I’m in an ideal place - I’ve literally just come back from traveling around our U.S. business for the past month, and I visited a huge number of locations. What we’re seeing is it’s key that we provide competitive compensation and benefits solutions, and the way we do that is we analyze on the ground, right down to the zip code level. We have our HR organization very heavily involved in that, and we work hand-in-hand with our customers to figure out what is the best solution for each specific location. Customers actually come to us checking to make sure that we’re aligned with the market, because everybody realizes that such a valuable resource is in fact our GXO team members. It’s super important to keep those team members in place, and clearly in the current environment of tight labor, it’s imperative that we make sure that we’re abreast of all of the latest compensation and benefits needs, and we’re doing that. As an overview, the last thing I’ve got to mention is we do work hard to make GXO a great place for people to work. The combination of lots of technology, we’re really encouraging people to come into the business, and they like to be a part of an organization that’s working with a lot of technology, so those factors combined give us the good solution. And of course, the robust boilerplate environment that we have in terms of our contracting with customers ensures that costs go fully back to our customers. It’s a pretty seamless environment, works very, very well, and it’s really put us in good stead, as you’ve just seen in our Q3 earnings.

Great, thanks. I’ll turn it over. Congratulations on a good start.

Thank you.

Our next question comes from the line of Brian Ossenbeck with JP Morgan. Please proceed with your question.

Hey guys, good morning. Thanks for taking the question. Just wanted to ask you about 2022. You talked about these large amounts of new contract wins, especially ones that are going to roll forward into next year, which as Mark mentioned, I think these are gross wins rather, so it looks like you’ve got about almost 10% of revenue growth already underpinned. Maybe you can talk a little bit more about that. Why not raise the guide at this point, especially when it sounds like you’ve got some revenue retention rates that are also increasing throughout the year?

Good stuff, Brian. Thanks for the question. It’s Mark here. A couple of good points that you’ve raised. First of all, the $700 million that, as you know, we’ve won year-to-date and as of the end of last year, if you cumulate that up and you put that into next year’s revenue growth, you will see, as you mentioned, 9% gross wins coming from growth next year, so that’s the first point. The other thing to combine with that is obviously to go from gross to net, you clearly need the revenue retention rate, and you’ll be pleased to know that since the investor day, that revenue retention rate has improved. The second part of the growth algorithm for the 8% to 12%, as you know, already you’re in the scoring zone with that 9% gross rate, but you need to think about not just new customer wins but also existing customer growth, and there’s good stuff going on there as well. Two things to think about - we talked about 3% to 4%, if you remember, for existing customer wins. Well, we’re running at or slightly above that run rate at the moment as of the third quarter, given what’s going on in regards to our price escalators in an inflationary environment, as Malcolm talked about, so we’ve got good confidence going into next year for our 8% to 12%. I’ll hand over to Baris to talk about the inputs of the guidance.

Thank you Mark. Remember, we are writing our contracts with an expectation of three-year cash-on-cash returns 33% return on invested capital. We can clearly grow faster, but we are careful to grow with the right vertical, the right customer with the right credit rating, and also right potential. We want to grow with the customers where we make a difference, our solutions can make a difference, and we get good return on an invested capital basis.

All right, thanks guys. I think the other one I wanted to ask on was just the incremental margins here in the quarter and then out to next year, specifically for 3Q. It didn’t look like we got a tremendous amount of drop-down into profitability from the top line, so maybe it was some of the start-up costs that you mentioned earlier, but if you can clarify that and how it’s trending into the fourth quarter, that’d be helpful, along with just the building blocks for 2022 because even if the guidance is unchanged right now, underpinned by the growth you just talked about, we are still looking at a pretty decent pick-up in margin expansion into next year.

Thank you, so margin expansion organically in Q3, and our guidance at the midpoint also shows margin expansion on an organic basis. Q3 is generally overall a lower margin compared to the prior quarter. It’s a fulfillment business. Generally Q4 is the peak period, where we have Black Friday and where we have Christmas, therefore we generally have lower margins compared to Q3 but on a year-over-year basis, our margins are up both for Q3 and Q4 on an organic basis. Looking into 2022, clearly we have a lot of confidence in our growth, in our pipeline, in our model overall, and our guidance is reflecting that with a margin expansion.

And just to add to Baris’ excellent point, Brian, if you look that midpoint of the range for the full year, so implicitly we’re taking $7.7 billion at the midpoint for revenue and $622 million at the midpoint for EBITDA to help you with this math, I’ll give you some numbers so you can get a sense: 8% organic growth is what’s that’s implying for Q4, so clearly underwriting to a certain degree what we’re talking about for next year, and then for Q4 EBITDA, if you take that $622 million at the full year, the implied Q4 midpoint would be $1.55 million. As Baris said, the business had Q3 margins up organically, so ex-acquisitions margins were up in the third quarter. The same is true for the fourth quarter at the midpoint of the range, so we’re confident.

All right, guys, thanks for your time.

Our next question comes from the line of Stephanie Moore with Truist. Please proceed with your question.

Hi, good morning. I was hoping you could discuss maybe your current new customer demand environment, as well as how you balance profitable growth, and really just on the latter, how the returns of your maybe recently won contracts compare to your current return profile and where you think that can go over time, just given the investments that are being made.

Sure. We are writing contracts on average around 33% return, and that is still continuing and we start with a growing company. What we’ve seen recently is there’s a lot more technology involved, automation involved as we are helping our customers resolve challenges that they currently have in their supply chain processes, so we see margin expansion especially in high tech solutions that we provide. The more automation we provide, the higher margin we get, and as I mentioned earlier, that’s often 200 basis points to about 400 basis points higher compared to a manual solution. Overall, return on investment capital we see on the contracts we’re writing is roughly 33% at the project level.

In response to Baris, Steph, technology is currently at the forefront of our focus. Every contract we are considering or have signed this quarter includes some aspect of automation or technology. As Baris mentioned, this positively impacts our business returns and margins. We are witnessing a flywheel effect in the industry, characterized by four main trends: contracts are increasingly favoring larger players, those with a global presence, companies with strong balance sheets, and advancements in technology. These four factors clearly define GXO.

Great, thank you, then more on the near term, we’re seeing a lot of headlines and commentary from other large companies about how supply chain disruptions, whether it’s production issues or lack of supply, they’re impacting production availability. How does that impact your business, even just in the near term if simply goods are just taking longer to get to their end destination, and certainly your warehouse?

Steph, this is Malcolm. Let me provide some insight on that. You've just heard the Q3 results, which were strong, and the outlook for Q4 is very encouraging. We are experiencing global manufacturing disruptions. In North America, this has led to issues with ports and congestion. However, much of that cargo is now moving into our warehouses, and that's where GXO can make a significant impact for our customers. Over the past few months, we have been collaborating with our clients to prioritize essential goods, ensuring they are processed efficiently and delivered to consumers quickly. As Mark mentioned, we have been implementing additional technology within our operations, including more robotics, and we have been hiring not just for the peak season but also for the business that's expected to grow in 2022. This positions us well for the future. The underlying fundamentals remain unchanged. We believe the current issues are temporary and are likely to persist into Q1, possibly into Q2, but they will eventually resolve. It's important to note that we are incurring extra costs to address these challenges for our clients, but our contracts allow us to pass these costs on effectively to our partners, who are working closely with us to ensure a successful peak season.

Great, thank you so much.

Thank you.

Our next question comes from the line of Amit Mehrotra with Deutsche Bank. Please proceed with your question.

Thank you, everyone. Baris, I wanted to revisit the margin question from a different perspective. Regarding your guidance for this year, you've increased revenue by $100 million but only raised EBITDA by $2 million. Can you explain this, as it suggests minimal drop-through? Since this is a new standalone company, I am trying to understand if this could be related to start-up costs, which might be a positive sign given your impressive growth. I know you base your contracts on ROIC, but your benchmarks focus on EBITDA. It would be helpful to get more clarity on the differences between revenue and EBITDA in this year's guidance and discuss any short-term challenges affecting that drop-through.

We have experienced organic margin expansion in Q3 and are expecting further margin expansion in Q4 compared to the same period last year. However, it's important to note that Q4 margins should not be directly compared to Q3 margins due to specific factors occurring in Q4 that typically do not happen in Q3. These factors are related to peak seasonality, our scaling strategies, and overall performance. While we are encountering many start-ups, which is true, we are still projecting additional margin expansion in Q4 compared to last year, and we are optimistic about margin growth in 2022 as well.

Yes, I understand. However, the margin for this year, for all of 2021, is lower than it was two days ago because you increased revenue by $100 million and raised EBITDA guidance by $2 million. So my question is, what has changed? Is it just that you're growing so quickly and incurring start-up costs, or what specifically led to the implicit reduction in margin for this year? Does that make sense?

Yes, we have significant growth opportunities ahead. As we mentioned earlier, the early stages of a start-up are typically less profitable compared to a more established phase. There is definitely some impact from that, and the integration of acquisitions is taking longer than expected. We are making good progress, but it’s currently not enhancing our margins; in fact, it’s putting pressure on them. If we exclude the acquisitions and K+N, our margins are better than last year.

Got it, okay. That’s very helpful. Then just a quick follow-up, Malcolm, you made this comment in the release about remaining vigilant given the tough environment. I wanted to see if you could provide a little bit more insight on that. What specifically are you referring to? Is this a general comment about how GXO acts as the solution provider in this context, or does this vigilant stance regarding the tough environment suggest that there might be more risk to the 2022 guidance than you had considered six months ago? If you could just give us a little more information on that.

Yes, Amit. What I'm referring to is that we are having to challenge the norm this year due to significant supply chain disruptions, which have created an unusual situation. In the past, we would typically review wage levels and incentive plans every six months, but this year, it's essential to do it every other month in some locations. There is high demand for people, lead times for equipment are extending, and we need to leverage all of our buying power and scale at GXO. This means we must be more vigilant than ever on these key issues to avoid being caught off guard. In local markets where wages are not meeting expectations, we have not been quick enough to adapt, leading to the loss of some valuable resources. As a result, we have had to implement new ways of working locally. Our customers have been very supportive during this time; it's unprecedented to see such solidarity between customers and GXO in facing the common challenges of labor availability. This is what we mean by vigilance—it's essential to be highly watchful and focused, which is reflected in the results we are delivering today and in our outlook for Q4 and beyond.

But does it make it harder to achieve your guidance in that context or does it make it easier, or does it have no effect because of the way your contracts are structured?

In terms of the way our contracts are structured, it has no effect. Our contracts, we’ve mentioned on a number of occasions, we’ve really got a very robust environment. What I would say is it makes it easier in a way. It’s much easier to have a discussion with people to recognize these inflationary pressures when they’re so visible and so well reported, but at the same time we’re having to work in slightly different ways just to ensure that we keep that laser focus attention on these key metrics. So contractually, we’re working with customers, no real difference, but in terms of internally how we’re working, we are having to be even more focused than maybe last year on certain areas of the business and metrics. But I think the results demonstrate we’re doing a pretty good job of that.

And Amit, it’s Mark. Referring back to what I mentioned earlier with Brian regarding the midpoint of the range, if you consider the upper end of the range we updated today for full-year revenue and apply that to Q4, we're effectively projecting at the top end, which suggests a 14% organic growth rate in revenue. I should point out that the comparisons have become considerably more challenging between Q2, Q3, and Q4 across those three quarters. So we remain vigilant and cautiously optimistic; we’re actively engaged on the ground, but we’ve also provided guidance today that reflects a confident step in the right direction. Additionally, regarding the pipeline, we have a $2.3 billion pipeline. This business has remarkable visibility.

Yes, congrats guys.

As a reminder, ladies and gentlemen, it is star, one to ask a question. Our next question comes from the line of Hamzah Mazari with Jefferies. Please proceed with your question.

Hey, good morning, thank you. I think you had mentioned retention rates improved since the investor day. Maybe just a little more color as to what they are trending, do you have a target around retention, and as part of that, I know you mentioned 29% of wins from competitors, maybe just talk about the other side a little. You mentioned contracts are going to scale players and tech leaders. In what instances do you sort of lose to competitors?

I’ll take the first portion of that question. You remember what we said at the investor day, Hamzah, in regards to our 93%. What we’ve said since then is that revenue retention rates have improved modestly - that is, all the tenants obviously have a health business, as I mentioned, in terms of that flywheel effect. In terms of your point in regards to the mix of business, we’ve talked specifically about the fact that within our year-to-date contract wins, new outsourced contracts accumulate to around 40%, so that’s obviously extremely healthy first-time business coming to market, choosing to come to us. Expansion of scope, so an existing customer increasing their warehouse footprint, that same store sales footprint going up is around 31%, and wins from competitors, as you rightly say, is 29%. What I would echo is to the point earlier, in that these contracts are gravitating towards scale players, customers, to Stephanie’s question, that have an ecommerce backbone, i.e. can get direct to the consumer, not having to go via brick and mortar which takes an extra two to six weeks, getting that consumer product into the hands of the consumers quickly, having an ecommerce backbone as we do in this 3PL is a big, big advantage, and that’s why we’re winning that very healthy mix of business that we’re talking about. Malcolm, is there anything that you’d want to say in terms of customer mix?

Just to really round off the answer, because I think there was a question of, well, when we do miss out on a new piece of business, what’s the real reason? Well, most of the customers that we work with are big global organizations. Some of the statistics that we saw on the call about the expansion that we’ve had with our top customers, the number of countries that we’re working with, they’re really pleasing for us because that’s really our drive. But of course, in every country where we work, there’s always going to be some lower-cost operator, some local type of company, and as Baris mentioned, we are picky, we’re picky and we’re choosy. We can be in that situation because we’re in a very strong place as an organization, so we want to contract deals that really give those very high levels of return. We’re not going to follow a price down, and that’s typically the environment where we might find eventually we choose not to progress, but those kinds of customers tend to be more local type of customers. The big international brands, which is really the bedrock of our business, they really prefer, as Mark mentioned, to work with big scale players where they can be satisfied on all of the metrics. The ESG rating that we announced, that’s really important. Big international companies - phew, they love to work with companies that have the same values that they have, and coming out of the gate with that highest rating from MSCI amongst all of our largest industrial players after less than 100 days of being a public company, wow, that is just amazing for us, and we were so pleased to receive that. It tends to be very local environment when we ultimately don’t move forward with a customer.

Got it, and just my follow-up question and I’ll turn it over, any thoughts on how to think about free cash flow conversion going forward as you think about next year, and then just any comments on the M&A pipeline that you have today. Thank you.

Yes, on the free cash flow conversion, we have provided over 30% conversion from EBITDA to free cash flow in the third quarter. On a year-to-date basis, excluding $50 million of one-off items related to spin, our free cash flow conversion rate was also 30%. Looking into the fourth quarter, there are two one-off items that we should be all mindful of. There are local country taxes related to spin which will be paid in Q4, amounting to about $20 million. The payment deferred via U.S. CARES Act, which is about another $20 million, will be paid in Q4. Those should be taken into account when we are looking forward to our free cash flow in the fourth quarter of 2021, and for 2022 you can use the benchmark or rule of thumb we have provided, 30% EBITDA to free cash flow conversion rate, that’s going to come on top of a very high rate of organic growth, funding our organic growth and delivering free cash flow on top of that.

Got it, thank you.

Our next question comes from the line of Bascome Majors with Susquehanna. Please proceed with your question.

Yes, good morning, and thanks for taking my questions. We’ve spent a lot of time on ’22. I wanted to talk a little bit about the pipeline and what it looks like for implementations in ’23 and beyond. What type of RFPs are you bidding on today that would start to drive organic growth beyond ’22? Any problems you’re being asked to solve and how are they different than what you’re doing this year as far as new business? Thank you.

Let me jump in on that - it’s Malcolm. As we’ve mentioned, pipeline is incredibly strong. It’s populated with a whole range of different opportunities across the broad spectrum of the different verticals that GXO is working in. A lot of that is e-fulfillment related - that represents around 50% of our overall business, so no surprise on that, and a lot of that, an increasing amount of that is encompassing a high level of automation, and I think that’s just a response to, relatively recently, the tightness of the labor market who want automation in their facilities, but it’s also a response to generally automation becoming much more available and more usable in a direct application. Mark mentioned earlier about a new goods to person robot that’s capable of carrying very heavy weights. That might not seem a lot, but actually that’s a real innovation for us, and it opens the door for use in a lot of different customers. Typically, the projects that we are signing today are being implemented in the first half of 2022, but some of those projects go longer and some even into 2023, and that’s the kind of normal profile that we see. I think the longest project at the moment we’ve got visibility on even stretches towards the end of ’23, and that’s why, as Baris mentioned, we have this very long visibility, long runway of visibility on what’s happening in terms of the top line and how that will crystallize and cascade down through our numbers. Overall, we’re in a very good position - very strong pipeline, as Mark’s already mentioned. Where is that pipeline forming from in terms of the mix, I think we’re in a very enviable position.

One thing I would like to add to that, Malcolm, if you go through contract by contract, I see a lot of examples of our global brands switching to direct to consumer, therefore our capabilities of serving them on the ecommerce side and the returns management side, reverse logistics side is becoming more and more enhanced, and I see a lot of proposals and contracts coming in with high automation and large facilities across the world - I mean, in Europe, in the U.S., elsewhere. That’s the trend that we’re seeing.

Yes, and listen, just to finish the point - it’s Malcolm here again, I’m glad Baris came in on that, and the fact he’s explaining what he’s seeing, I just want to make the point, this is a business that has incredibly strong governance. All of these deals that we set up with customers, they go through a rigorous vetting process, and that’s why we talk about being ultra-focused in terms of our financial returns. Everything ultimately is signed off by our finance organization, Baris at the lead. Everything comes to myself also, so it’s a very rigorous process that we have. We’re not making very good levels of financial results by accident. It’s a very detailed effort that goes into this. Thank you.

To naturally bridge that, I don’t know if you want to comment, but how do we assess the long-term revenue and EBITDA trajectory as we move beyond the exceptional conditions we've experienced in 2021 and 2022?

As far as the growth is concerned, ecommerce is only 30% penetrated, it’s sometimes lower, so there’s a lot of room for growth on that side. Automation, our industry is only 5% automated. Outsourcing is only 30% currently out of a $430 billion total addressable market, so all these three drivers are driving us forward and we see phenomenal growth opportunities moving forward, and as mentioned earlier, we’ve seen more and more technology being used, a lot more automation being used. Even if we review our existing contracts, we have to put more automation, more technology, so you should see a margin expansion as we embed more technology software and hardware into our facilities.

And you’ll know, obviously Bascome - it’s Mark here, over the last 20 years, this business has roughly done a revenue CAGR of around 16%, and if you were to look back into the sands of time and compare that against the 8% to 12% organic growth that we’re talking for next year, logically I think one could conclude, it wouldn’t be crazy to conclude that the 8% to 12% just based on history alone is what one could describe as a normal year for this business.

Thank you everyone.

Thank you.

Our next question comes from the line of Ravi Shanker with Morgan Stanley. Please proceed with your question.

Thanks, good morning everyone. Just a couple of follow-ups here, maybe a short term one to kick it off. You guys have elaborated quite a bit on how you are fighting on the ground to make the best of the current environment, but what about your customers? Do you see risk to volumes if your customers are struggling to manufacture or procure products? Obviously Apple has made it very clear that they’re struggling with semiconductors, and they are a customer of yours. How do you see that as a potential risk for the next couple of quarters and also your own ability to automate and procure robots? Are you seeing any of that being impacted because of the semiconductor shortage?

Hi Ravi, it’s Malcolm here. In the first part of your question, no, we’re not seeing any significant risks in regard to our own operating model, so we’ve seen some of our customers are very busy, almost unaffected by the current supply chain difficulties. Some we can see clearly they have been waiting for product. I would describe it that this year’s peak is feeling like it’s going to be a longer peak season, and probably in the end more condensed from probably middle of November through to the end of the year. I say that because what we are seeing now is some alleviation of the port congestion - I mean, it’s going to go on for months, but we’re definitely seeing some alleviation of that. We’re seeing lots of container traffic coming into our facilities, and that’s why I mentioned it’s really important now that we’re working so closely with our customers to identify those priority goods and get them out to the consumers, so in that regard, I think we’re in good shape and, as I mentioned, the incremental costs that we might incur in that, our contractual model pushes that back into the customer.

And Ravi, in regards to the good shape that Malcolm talked about, remember we’d given guidance last night, reiterating it because we believe it, we’re confident, and the question, which is a very timely question, by the way, it sounds very much like a typical RFP process when you ask it. You provide us with a problem and GXO offers you a solution - that’s why customers come to us. They want to have their problem solved.

The other part of your question was about the availability of materials. I want to emphasize that we are the largest outsourced contract logistics company in the world, which gives us significant buying power. We rank among the top ten warehouse real estate renters, so we have strong influence with industrial landlords. This has allowed us to establish over 60 new warehouses just this year, with another 15 planned before the year ends. We collaborate closely with all major automation organizations and are not dependent on any single company. Our strong relationships with them position us as a significant partner, ensuring that we are prioritized when it comes to obtaining the necessary materials to set up our facilities promptly. This capability enhances our reliability, which entices more customers to work with GXO.

Got it, Mark. You mentioned earlier that the new business wins have significant visibility, which is a key aspect of the business. As we move into 2022, is there a possibility of receiving longer-term guidance from you, considering the visibility you have?

For a business such as ours, the capability of being able to give long term guidance is definitely there. In terms of your question in regards to ability to see out into the looking glass, we’re already got around 98% visibility this year and roughly 80% to 85% revenue visibility for next year, to give you a sense, Ravi.

Great, thank you.

Ladies and gentlemen, that is all the time we have for questions today. I’d like to hand the call back to management for closing remarks.

Thank you Operator. Well, I just want to reconfirm, a very strong third quarter for our business. We’re a very successful spinoff company. It’s been achieved in a relatively record time and we’ve done it very well. This is a strong organization that’s set for a very good future. We’re going to benefit from all of those strong secular trends that we’re talking about, more and more organizations outsourcing, more of our customers and many customers moving their business more to an e-fulfillment model, and of course automation is becoming a huge play in the environment that we’re in. We’ve reported in this quarter 12% of organic, 14% growth on our EBITDA, and margins in core business all expanding year-over-year very strongly, so we’re very satisfied with the results. We’re very pleased that you were able to join us on this call today, and I’d just like to thank you for all of your support. Thank you very much.

Ladies and gentlemen, this does conclude today’s teleconference. Thank you for your participation. You may disconnect your lines at this time and have a wonderful day.