Earnings Call Transcript - ULH Q3 2021

Operator, Operator

Hello! And welcome to Universal Logistics Holdings, Third Quarter 2021 Earnings Conference Call. At this time all participants are in a listen-only mode. A brief question-and-answer session will follow the formal presentation. During the course of this call management may make forward-looking statements based on the best view of the business as seen today. Statements that are forward-looking relate to Universal’s business objectives, our expectations, and can be identified by the use of the words such as believe, expect, anticipate, and project. Such statements are subject to risks and uncertainties, and actual results could differ materially from those expectations. As a reminder this conference is being recorded. It is now my pleasure to introduce your host Mr. Tim Phillips, Chief Executive Officer; Mr. Jude Beres, Chief Financial Officer; and Mr. Steven Fitzpatrick, Vice President of Finance and Investor Relations. Thank you. Mr. Phillips, you may begin.

Tim Phillips, Chief Executive Officer

Thank you, Benjamin. Good morning and thank you for joining Universal Logistics Holdings' third quarter earnings call. Before we get to the quarter, I would like to thank all our Universal associates for their continued efforts in supplying crucial services to our customers who have come to depend on it. Our team continues to adapt to a supply chain environment that can change daily. We continue to collaborate with our valued customers to customize supply chain solutions that allow them to optimize and execute their business strategies in a very challenging environment. We worked tremendously hard to navigate a tight labor market and staff our new business wins. Attracting and retaining talented employees will remain a priority. With all the great work that has been done, there is still much to do to further shape each of our service lines so they meet their operating goals. Now for the quarter. In yesterday’s release, Universal reported third quarter earnings at $0.38 per share and total operating revenue of $445.6 million. As detailed in the release, third quarter earnings included $0.36 per share of litigation-related charges and operational losses incurred at a recent contract logistics launch here in Detroit. Third quarter operating revenues reflect Universal’s highest quarterly revenue ever; however, we fell well short of our earnings expectations. Now, for some color on each of our service lines. In our contract logistics service line, we experienced headwinds highlighted by production downtime due to shift and part shortages at several of our key value-added operations. We continue to remain bullish on auto and Class 8 truck demand in 2022, but there is no end in sight to the current headwinds the industry is facing. These macro headwinds are exacerbated by the operating challenges with our recent launch as mentioned in quarter two. Here, the contract logistics group saw another $7.1 million of losses associated with the operation for the quarter and now totaling $13.9 million for the year. We’ve also experienced a tremendous amount of wage inflation while staffing these operations in conjunction with continued production schedule challenges. We are working with our customers to review the impact of wages in all our major operations. Ship supplies continue to hamper steady-state production, which we expect to carry through the fourth quarter and well into 2022. We are pleased with the recent launch of business serving major manufacturers in the Midwest, and we expect to operate at full pace in short order. Our contract logistics pipeline remains healthy and we continue to review and position for intelligent growth. We continue to see many opportunities in our dedicated transportation space, which has allowed us to optimize our assets, but further growth in the new markets is predicated on the delivery of new equipment, which has remained a challenge. For intermodal, we’ve experienced operational friction due to congestion, equipment availability, and stagnant driver numbers. Intermodal’s segment result had additional drag on earnings due to recent litigation charges incurred in the third quarter. Intermodal’s segment revenue includes $23.3 million in other asset-related charges such as rail and port emergence as well as per diem, which has historically operated low to no margin, further impacting the segment's profitability. The intermodal group did realize a 28% year-over-year revenue increase and a 13.5% improvement sequentially, but this was not enough to achieve the results we expect out of this group. We worked very diligently with our customers evaluating our pricing to combat wage inflation, and it fits with our ability to recruit additional drivers. In addition to drivers and contractor supply, we are also adding additional chassis to our fleet as quickly as equipment becomes available. We expect to see additional benefits from recent rate increases moving through the fourth quarter, which will present ample load opportunities at higher prices. In our truckload segment, revenue growth was strong due to increased volumes and strong pricing. We experienced both top and bottom line growth, highlighted by rate increases and better utilization. Revenue was up over 29%, which resulted from moving 12.4% additional loads, an average of 13.6% higher revenue per load. We were very pleased to see our wind business pick back up in the quarter and expect to see tailwinds in this sector to finish 2021. We anticipate the same tightness in the truckload market with favorable pricing for the remainder of the year as capacity will remain tight, with customer spending and favorable spot with plenty of inventory to restock. Our agent group has positioned themselves well by taking advantage of the entrepreneurial spirit. Our company-managed brokerage operation continued to evaluate and reprice their book of business in the third quarter, while successfully managing the balance between spot and contractual business. Capacity has remained tight throughout most of the third quarter and we foresee it remaining that way for the rest of the year. Tight capacity has continued to support premium pricing in the spot market, while the average operating revenue per load was up 18.9% year-over-year, the number of loads being handled decreased by 17.4%. As mentioned in quarter two, we continue to focus on rationalizing our lanes to ensure acceptable levels of profitability. We were pleased with our gross margin of 12.1% in quarter three and aim to keep within that range to finish the year. We've experienced many customers going to mini-biz as the year has progressed and expect to reprice roughly 40% of our business in quarter four. Finally, the human asset will remain at the forefront of all our internal conversations going forward. We are committed to providing a work environment that allows new and existing associates to excel and take their careers and the company to new heights. People are job one in a very demanding environment. Thanks again to all our hard-working associates at Universal. I'd like to now turn the call over to Jude. Jude?

Jude Beres, Chief Financial Officer

Thanks, Tim. Good morning everyone. Universal Logistics Holdings reported consolidated net income of $10.3 million or $0.38 per share on total operating revenues of $445.6 million in the third quarter of 2021. This compares to net income of $13.6 million or $0.50 per share on total operating revenues of $365 million in the third quarter of 2020. Included in the third quarter of 2021 operating results were pretax charges of $4 million for our previously disclosed legal matter and an additional $1.8 million charge for an unrelated legal settlement. Additionally, the third quarter of 2021’s operating results included $7.1 million of operating losses incurred for a recently launched contract logistics program. These items adversely impacted our operating ratio by nearly 300 basis points and were a drag on our earnings of approximately $0.36 per share. Consolidated income from operations was $16.7 million for the quarter compared to $22.1 million one year earlier. EBITDA decreased $5.4 million to $33.1 million, which compares to $38.5 million during the same period last year. Our operating margin and EBITDA margin for the third quarter of 2021 are 3.8% and 7.4% of operating revenues. These metrics compare to 6% and 10.5% respectively in the third quarter of 2020. Looking at our segment performance for the third quarter of 2021, in our contract logistics segment, which includes our value-added and dedicated transportation businesses, income from operations decreased $5.6 million to $6 million on $156.9 million of total operating revenues. This compares to operating income of $11.6 million on $127.7 million of total operating revenue in the third quarter of 2020. Operating margins for the quarter were 3.8% versus 9.1% last year. Our contract logistics business incurred a $7.1 million loss in the third quarter at one of our launches supporting an automotive OEM here in Detroit. Based on that program's current operating performance, we expect a similar loss in the fourth quarter. Year-to-date, this operation has generated a loss of $13.9 million impacting segment margins by 3%. In our intermodal segment, operating revenues increased 28% to $121 million compared to $94.5 million in the same period last year, while income from operations decreased $6.9 million to $1.9 million. This compares to operating income of $8.8 million in the third quarter of 2020. Our intermodal business incurred $5.8 million of legal charges and settlements in the quarter. These charges adversely impacted our intermodal segment operating margin by 480 basis points. Including these charges, operating margin for the quarter fell to 1.6% in the third quarter of 2021, compared to 9.4% during the same period last year. Both driver and equipment shortages, as well as the lack of important rail fluidity, continued to hamper the results of this segment. In our trucking segment, which includes both our agent-based and company-managed trucking operations, operating revenues for the quarter increased 29.2% to $107.2 million compared to $82.9 million in the same quarter last year, and income from operations increased 43.1% to $6.8 million. This compares to operating income of $4.8 million in the third quarter of 2020. In our company-managed brokerage segment, operating revenues for the quarter declined six-tenths of 1% to $59.2 million compared to $59.6 million in the same quarter last year, and income from operations increased $5 million to $1.8 million. This compares to an operating loss of $3.2 million in the third quarter of 2020. Operating margins for the quarter were 3% versus a loss of 5.4% last year. On our balance sheet, we held cash and cash equivalents totaling $13 million and $7.8 million of marketable securities. Outstanding interest-bearing debt net of $1.2 million of debt issuance costs totaled $443.6 million at the end of the period. Excluding lease liabilities related to ASC 842, our net interest-bearing debt to reported TTM EBITDA was 2.4x. Universal’s target total leverage ratio is between 2x and 2.5x EBITDA. Capital expenditures for the quarter totaled $9.3 million due to the limited availability of new equipment. We are expecting capital expenditures to now be in the $30 million to $35 million range. Interest expense for the year is expected to come in between $12 million and $14 million. Based on the current operating environment for the fourth quarter of 2021, we're expecting top-line revenues between $400 million and $425 million and operating margins in the 4% to 6% range. For 2022, we are expecting total operating revenues between $1.8 billion and $1.9 billion and operating margins in the 7% to 9% range. Capital expenditures for ‘22 are expected to come in at approximately $95 million and interest expense in the $15 million to $18 million range. We anticipate our capital expenditures in 2022 to be somewhat higher than normal due to the limited availability of new equipment for most of 2021. Finally, yesterday our Board of Directors declared Universal’s $10.05 per share regular quarterly dividend. This quarter’s dividend is payable to shareholders of record at the close of business on December 6, 2021, and is expected to be paid on January 4, 2022. With that, Benjamin, we are ready to take some questions.

Operator, Operator

Thank you. Your first question comes from the line of Chris Wetherbee from Citi.

Chris Wetherbee, Analyst

Hey, thanks! Good morning guys. I wanted to touch base on contract logistics and make sure I understood sort of the dynamic going on. There is obviously the one contract that's being somewhat challenging. Can you maybe unpack the loss from that specific contract and give us a sense of how much maybe due to labor and then maybe what are the other factors that are kind of coming in there and impacting the profitability of that? I guess it's been maybe two quarters, but doesn't look like it's necessarily going to get better next quarter or year.

Jude Beres, Chief Financial Officer

Yeah, correct Chris. This is Jude. So, the labor component was about five; it was a combination. The plant is not running at full production, so we have a revenue shortfall in that operation because the plant is only running at about 60% of what their build rate should be. So we have a combination of a deficit of revenue and we are at full run rate for labor. So we're paying a full run rate of labor with a plant that’s operating 40% less than it should, and that’s about $5 million of the loss in the quarter. $2 million of a loss in the quarter was due to charges that were pushed down on us for downtime associated with the launch. So we have $7 million altogether; $5 million is a combination of labor and the plant not running at capacity, and then $2 million for what we call debit or COVs related to various errors that our operation made from launch to the end of quarter three.

Tim Phillips, Chief Executive Officer

Let me…

Chris Wetherbee, Analyst

Go ahead.

Tim Phillips, Chief Executive Officer

This is Tim, Chris. Let me piggyback on that. Labor was and remains an issue, but we're pretty optimistic and happy with where we have the labor pool there. It works at a point now where we've identified and you can imagine, we went from 0 to 100 miles an hour in a matter of a couple of months. We staffed almost 1000 people inside those walls and in the trucks, but we were really happy with that. With that and in combination with this current environment, wage inflation really took a grip. So we had to do, we had to do to successfully launch it. We're in the process of metering back what we need exactly for labor to make sure we're right on spot, and we’re also in continued conversation with the customer on a component of wage inflation and how we approached that mutually to get us up to where we need to be, as well as any potential scope changes, because the best-laid plans move as you're launching not only a new warehouse that we’re operating but a new plant that our customers are operating. So we are in continued conversations with them and we're optimistic that through our partnership and collaboration we will put this thing on the right course. The only thing we can’t get a full beat on, and I don't know if anybody can right now, is the flow of parts and chips and how, as Jude mentioned, it affects the production rate, because it's hard to get a good grasp on that one. But we know it will continue to affect us in quarter four and into the beginning of 2022 with the availability of chips and how that affects production.

Chris Wetherbee, Analyst

Okay, and so it's still an issue in ’22 but maybe not negative seven. Is that the right way to think about it? I just want to make sure I understand.

Tim Phillips, Chief Executive Officer

Yeah, that is the right way to think about it.

Chris Wetherbee, Analyst

Okay, okay, that's helpful. And I'm guessing there's not really a signi – maybe taking a step back for a second and thinking about broadly your auto and sort of heavy equipment manufacturing end market business, can you give us a sense of roughly how much of the portfolio within contract logistics is running at or close to full production versus how much there might be running kind of below full production because of the various supply chain shortages and chip issues?

Tim Phillips, Chief Executive Officer

Yeah, I don't – this is Tim. I don't think we have a gauge on the percentage, but I will tell you this. The launch isn’t the only plant that's been affected. Of course, any – you can read the news and any of the major production facilities have had some course of slowdown or even some downtime as a result of chip and part shortages. The one thing and I think we talked about this in the last quarter – the one thing that we do have going for us from an automotive space is that we just so happened to supply good labor to the plants that are the – you know have the vehicles that are in the most demand. So from that standpoint we are somewhat confident that those plants get the preferential service when it comes to parts hitting the United States and getting divvied up between the plants. But I can assure you that the other automotive operations had some disruption, as well as some of the Class 8 productions; there were some disruptions. I just don't have a set percentage for you.

Chris Wetherbee, Analyst

Okay, no that's helpful. And then last question just on intermodal one to get a sense of maybe how you guys think about fluidity in the fourth quarter, you know box turns, those kinds of things and you know – and then maybe commensurate rate to help kind of offset some of the pressures that we're seeing there. I guess I’m just kind of getting a sense. Is that something – you understand the contract logistics issues? Do we think that intermodal profit can accelerate as we move forward or there are still some challenges that we need to face for Q1 here.

Tim Phillips, Chief Executive Officer

Yeah, I think that intermodal is faced with some Q4 challenges as you read in the news. I don't know if some of the congestion alleviates itself before the end of the year. I’m going to say no, but this is the way we're approaching it. We understand that the turn times per truck, some of the efficiencies that we’re used to seeing, have deteriorated, both on the port and rail side, but also on the customer side with throughput. Now people are – customers are importing a great deal of commodity, so they are filling up the warehouse, the drop lots are full and you can listen to a ton of others talk about this. The turn time on equipment has risen significantly. So for us to be efficient, we have to be able to use that iron and that chassis to go back in and get the next load and if we don't have that chassis and the rotation, so equipment fluidity has really created some inefficient actions within the group. And then of course when you have port congestion, you have containers sitting at customer lots for extended periods of time. Now we become exposed to per diem and the merge that we have to handle with our customers, sometimes on behalf of them with the ports, the rails, and also dealing with the per diem, which is the amount of time the containers are out. So there's a lot more for the operational people to keep their eye on, other than just turning a truck in and out of the port and rail to customer and back. So we think that those situations will continue. I think what we've done or will continue to do is reprice our book of business, so we are rating it to meet some of those congestions. We align it pricing-wise with what we were able to do from an efficiency standpoint with our customers, and we'll continue to look at that on a week-by-week basis. We need to get our arms around some of those asset soils to make sure that we are in proper position, either A) to accommodate the request from the customer; or B) to push back and look for another solution besides just trying to carry some of the burden of these large accounts. That’s one thing I will tell you on the intermodal side. We worked really hard to position ourselves and found some great customers. But with great customers comes great volume, and when these things hit the shores in large numbers, it’s just not easy to get in there and pick them up at the pace that you need to, to get them out before some of these assets or real charges start to add up.

Chris Wetherbee, Analyst

Okay. Yeah, no that’s super helpful. I guess one – if I could squeeze one last quick one in here, just about margins as we think about next year. So 7% to 9% I think is the guidance for next year. Presumably you're going to start maybe with some continued pressure lingering in a couple of the segments because of what's going on in the market, so it implies a pretty solid back half or at least maybe the last three quarters of next year. I guess I just want to make sure I understand sort of the confidence you have in getting that and what kind of line of sight you have in that or do you need a few things to kind of break your way to kind of get into that full year 7% to 9%. Just want to make sure I understand sort of the dynamics, the puts, and takes within that. Thank you.

Tim Phillips, Chief Executive Officer

Yeah, I mean the two real headwinds are just the intermodal business and then getting past this loss that we have at the contract logistics business launch. I mean once we get that past us, which should be by Q1, you know Q2 and Q3 are historically Universal’s strongest quarters. So we feel real confident that by March of next year most of this stuff should be behind us, and that we have a pretty clear runway, all things being equal, to really hit our stride and get those margins in house. But, you know as you mentioned and as Tim just mentioned in his comments, you know the contract logistics headwind is one location. All the rest of our locations are operating very, very well, and the intermodal is really specific to Southern California and Chicago. If there's a little bit of relief from the pressure there, we should perform very, very well in that segment as well.

Chris Wetherbee, Analyst

Okay, that's great color. Thanks for the time this morning guys. I appreciate it.

Tim Phillips, Chief Executive Officer

Thanks Chris.

Operator, Operator

Your next question comes from the line of Bruce Chan from Stifel.

Bruce Chan, Analyst

Hey, thanks and good morning guys. Tim, you mentioned the pricing alignment on soils and intermodal, and I'm just kind of wondering where you are right now in terms of recruitment – excuse me, recoupment. Are you at compensatory levels now given the current congestion or do you still have a lot more work that you need to do as we look at next quarter and next year?

Tim Phillips, Chief Executive Officer

Yeah, I think there is still some work to be done in the nuts and bolts out on the field. I don't think that – you know what has happened in the phenomenon is that as I explained before. There is such a push or a rush coming in of imports, and some of the customers that we service have just huge chunks of business coming in. So what we're doing is we're stepping back and talking one by one about how we can rationalize and support them while they help support us on how we get these things out of a port system that’s backed up. How we get the container to work with, the container out of the customer's facility coming back in to alleviate some of that per diem time. So I would say, we didn't just start this exercise. This exercise has been ongoing. We're just taking a more acute look at it in the fourth quarter, and if we have to push back on some of the services that we offer to the store, then we’re going to ask our customers to please help us out with this until we can get – it’s almost like it’s an act of God with some of this, that it’s just lingered since last year and the congestion that continues to play. So we're asking for their help and collaboration as we service some of these large accounts.

Bruce Chan, Analyst

Okay, that’s very helpful. And you know just speaking about the act of God and you know the costs that you have to bear that maybe aren't your fault or necessarily your responsibility on that contract logistics facility, you know obviously that's been a pretty meaningful impact in terms of the production shortfall. So just, you know maybe you want to get your thoughts on the potential to exit that contractor, the penalties for doing that or you know if you have enough line of sight into you know once things normalize next year, maybe you're comfortable sticking with it and maybe leaving that out for another quarter or two before it normalizes.

Tim Phillips, Chief Executive Officer

Yeah, great question because it is the biggest impact to the corporation right now, and I would say this: that conversations are ongoing about how we approach this business. We're so crucial to this particular customer’s plant that we have had open discussions about what we both need to be successful. But I will tell you this, if we were to halt the transition, we’ve had that conversation, but I feel at this particular point in time that there are ongoing conversations between us and the customer about how we both work our way out of this. As I said earlier, we spent a tremendous amount of time putting just under 1000 people inside these four walls and in the trucks that provide the shuttle services to the plant. So we've done that heavy lifting. We just have to come to some agreements on the wage inflation, which is real, and the scope change, which is real, and I think we can get there. But I will say this; we won't let this particular opportunity weigh the organization down for an extended period of time. We want to get this done expeditiously, and if we can't, then we need to figure out a way that we can both, as partners, find a transition strategy for the business.

Bruce Chan, Analyst

Okay, that sounds great. And then, you know really just my final question here on brokerage. You know you've done a lot of good work there in terms of rationalizing the business. You know we had another kind of 17.4% low volume calling this quarter. Assuming that the stock market continues to stabilize here, and albeit at a high level, when do we sort of expect that low volume count to inflect?

Tim Phillips, Chief Executive Officer

That’s a good question. The low volume count right now is you know we're measuring in and we’re rationalizing everything. All indications I would say right now indicate that there's going to be a continued heaviness in the spot market through the fourth quarter. We are – as we’ve rationalized our lanes and percentage between spot and contract, we also know that there will be a reset point within the industry. The spot market will become something that everybody eats off. You have to have some contracted business that pushes you forward. So we kept a real open line of communication with our customers to make sure that we're in front of them, and we’ll be looking ahead to ensure as the market starts to shift that we continue or maybe even increase our contractual content of the business. But at this point, we still try to stay pretty healthy in a split of contract and spot market freight. But we do know the day will come that contract business will start to swing, and we want to make sure that we’re in the ring to enjoy that when it happens.

Bruce Chan, Analyst

Great! And then I don’t know if I missed this, but did you give that contract to spot split earlier in the call?

Tim Phillips, Chief Executive Officer

What was that Bruce?

Bruce Chan, Analyst

Just wondering if you have that split handy between contract and spot right now.

Tim Phillips, Chief Executive Officer

The majority of the time we're operating about a 50/50 split. We've seen it swing as high as 60/40 over the period, over the quarter, so 60% spot versus 40% contract. We're back down to probably closer to a 50/50 split right now.

Bruce Chan, Analyst

Okay, awesome! Thanks for the time.

Jude Beres, Chief Financial Officer

Thanks, Bruce.

Tim Phillips, Chief Executive Officer

Thank you.

Operator, Operator

And I'm showing no further questions at this time. I would now like to turn the conference back to Mr. Phillips.

Tim Phillips, Chief Executive Officer

Thank you, Benjamin, and thank you all for dialing in. I look forward to our next call and to highlight our progress that we've made throughout the fourth quarter. Thanks again.

Operator, Operator

This concludes today's conference call. Thank you for participating. You may now disconnect.