Werner Enterprises Inc Q1 FY2023 Earnings Call

Good afternoon, and welcome to the Werner Enterprises' First Quarter 2023 Earnings Conference Call. All participants will be in listen-only mode. The speakers for today are Derek Leathers, Chairman, President and CEO; John Steele, Retiring CFO; Chris Wikoff, recently appointed CFO; and Chris Neil, SVP of Pricing and Strategic Planning. After today’s presentation, there will be an opportunity to ask questions. Please note this event is being recorded. I would now like to turn the call over to Chris Neil. Please go ahead.

Earlier today, we issued our earnings release with our first 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 this evening. 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 provides 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. Now, I would like to turn the conference over to Derek.

Thank you, Chris, and good afternoon. On our fourth quarter earnings call, we shared our expectation that freight conditions in the first half of 2023 would be challenging and competitive. We anticipated first quarter freight would be soft due to seasonality, inventory destocking and the impact of the Federal Reserve's monetary policies to control cost inflation. Freight in January was soft but better than expected. As February progressed, freight began to moderate. And in March, it took a step down in contrast to the strengthening we typically see during the month. Our primary focus entering first quarter was operational execution. We leaned into the strength of our dedicated fleet, which performed well through superior customer service and fleet efficiency, resulting in solid financial results. As anticipated, the One-way Truckload and Logistics were challenged by overall market conditions with less freight available and increased price competition. This was in contrast to the first quarter a year ago when we benefited from an unusually strong freight market with consistent project opportunities. In addition, we faced broader industry issues including higher insurance and claims, supplies and maintenance. Higher driver and non-driver pay and a moderating freight and rate market also pressured first quarter earnings. Over the last several years, we've built a business model designed to perform better in both good and less desirable freight markets. Our large and durable dedicated fleet, our diversified One-Way Truckload business, and our growing and increasingly diversified Logistics segment provide us with a more resilient portfolio of complementary services and industry verticals. Over this period, we grew our dedicated One-Way business in a very difficult operating environment, which, along with contributions from recent acquisitions, contributed to a 9% year-over-year revenue growth. I want to sincerely thank the 14,000-plus talented Werner team members for staying true to our core values and delivering on our unrelenting strategy to safely provide superior service to our customers. Now let's move to slide 3. I'm delighted to formally introduce and welcome our new CFO, Chris Wikoff. After an extensive search process over the last several months, we hired our top candidate. Chris joined Werner two weeks ago and has hit the ground running. Chris is the right CFO for Werner at this exciting time in our history. He's an accomplished and strategic financial leader with over 20 years of corporate finance and business transformation experience with large public and private companies in the technology and telecommunications industries. Chris shares our company values, and he brings to Werner our growth mindset and a deep skill set in technology, operational processes, treasury, capital markets, M&A, and Investor Relations. We expect a smooth CFO transition, as our retiring CFO, John Steele, Chris Neil, and our entire leadership team are working closely with Chris in his new role. Welcome aboard, Chris.

Thank you, Derek. Great to be here and to be part of the Werner team. Coming into the role, I was highly optimistic about the strengths of Werner, including deep management experience, significant reach, and a scale of one of the largest truckload carriers in North America. Werner has a history of operational excellence, a strong balance sheet and steady growth; results such as double-digit annual revenue and adjusted earnings growth over the last three years combined with adjusted operating margin expansion that nearly doubled in the last six years. In addition to these competitive strengths, Werner also has an outstanding and diverse culture. While that is a very compelling combination as an outsider, I have to say I'm even more excited now, after being part of this great company for two weeks. Werner is well positioned for the future and I look forward to building upon past success as a premier trucking and logistics business and partnering with Derek and the leadership team towards continued shareholder value. I also want to take the opportunity to thank John for all the work that he has done over his long and amazing tenure at Werner as CFO. It has been a very smooth transition so far, and that's a testament to the great organization that is in place. I'm enjoying working with John during this time and I appreciate his commitment and partnership in the final mile of his legendary career. Over the past two weeks of assimilating into Werner, I have been listening, learning, and meeting with associates and leadership across the organization. I'm gaining a greater understanding of the business operations, industry, and clients, as well as increasing familiarity with the financial performance, outlook of the business, and opportunities in the markets and verticals where we compete. I look forward, in the coming weeks and months, to engage with many of you in the investor community while further establishing a rapport and cadence with the Werner associates and business leaders. With that, I'll turn the presentation back to Derek to cover our first quarter financial highlights.

Thanks. Let's move to Slide 5. In the first quarter, revenues increased 9%, adjusted EPS decreased 37% to $0.60. Adjusted TTS operating margin for the quarter was 10.7%. For the last 12 months, our adjusted TTS operating margin was 13.8%. Dedicated freight demand in the first quarter was solid and steady, in line with our expectations. Sequentially, our Dedicated fleet declined by 105 trucks. A few Dedicated customers adapted to lower demand this quarter by slightly reducing fleet size within the parameters of our contract terms and implementation for a few expected new Dedicated fleets have been extended, which slowed our Dedicated fleet additions during the quarter. A year ago, freight was unusually strong for both One-Way Truckload and Logistics. At that time, we benefited from a strong pricing environment and numerous project freight opportunities that typically do not occur in the first quarter. This year, in the first quarter, freight trends were weak and pricing was more competitive. Despite spot freight rates that declined nearly 40% year-over-year, the diversification and minimal spot exposure of our One-Way Truckload fleet enabled us to limit the decline in revenue per mile to 3%, which is at the upper end of our guidance range. The experienced driver market showed signs of improvement in a historically low unemployment market, enabling us to be more selective as we hire and retain drivers. Next on Slide 7, is our revenue snapshot. We entered the quarter with 8,475 trucks down 125 sequentially and up 250 year-over-year. Revenues were $833 million with 71% in TTS and 27% in Logistics. Three quarters of our revenue base comes from retail and food and beverage, with customers winning in their verticals. We intentionally focus on growing companies that ship recurring and repeatable consumer essential products who have on-time delivery requirements. We do not plan to grow our fleet in the second quarter. We plan to grow Dedicated in the second half of the year. Turning to Slide 8, Werner is one of the four largest Dedicated providers in the US. We serve customers with extremely high service and safety requirements that are not easily replicated by our competition. Our typical Dedicated fleet consists of shorter lengths of haul freight, serving local and regional geographic markets. The superior consistency and reliability of our Dedicated on-time service product provides our customers with high predictability for their inventory, helping them avoid out-of-stock surprises. Dedicated has steadily grown over the last 13-plus years, with a customer annual retention rate of over 95%. During this period, we added over 2,200 trucks, growing our Dedicated share of total TTS trucks by 17 percentage points. Nearly two-thirds of Dedicated is retail and two-thirds of that business is with discount retailers. Discount retail performs better in recessionary economies, where shoppers have less discretionary income to spend and look to trade down for value. Conversations with customers and consumer confidence numbers indicate we are seeing a more focused approach to discretionary spending. Another 16% of Dedicated revenues are with food and beverage companies that ship consumer staples. Historically, this segment is more recession-proof than discretionary products. Because of the high service requirements and relatively consistent freight volumes, Dedicated revenue per truck has less variability. Revenue per truck has increased in eight of the last nine years. During the first quarter, Dedicated revenue per truck increased 4.6% year-over-year. Turning to slide nine for an update on our growing logistics segment. With the acquisition of ReedTMS Logistics last November, our asset-light Logistics freight revenues grew in the first quarter by $40 million to $229 million and has a combined pro forma annual revenue run rate of nearly $1 billion. ReedTMS has expertise in the food and beverage verticals. The addition of this business in our Logistics segment expanded our diversity for temperature-controlled freight and aided in growing our refrigerated Truckload Logistics business from 7% of revenues in 2022 to 21% of revenues in Q1. The integration of ReedTMS and Werner Brokerage is on track. We are making significant progress with systems integration, automation, and procurement savings, and we remain on pace to meet our synergy and savings goals that we identified prior to making the acquisition. These synergies were offset in Q1 as early integration costs were absorbed. Turning to slide 10 for a deeper dive on our first quarter results. Total revenues grew 9%, driven by 4% growth in average trucks, slightly higher revenue per truck, an $8 million increase in fuel surcharges, and Logistics revenue growth. As mentioned earlier, the soft freight market in the first quarter was a significant headwind compared to an unusually strong market in the same period a year ago. At this time, I'd like to turn the presentation over to John who will discuss our segment results.

Thank you, Derek. On slide 11 are the Truckload Transportation Services results. TTS revenues increased 5% and adjusted operating income decreased 31%. TTS adjusted operating margin declined 570 basis points year-over-year due to increased operating expenses. Our adjusted operating expenses per mile, net of fuel, increased 7.2% compared to our TTS rate per mile, net of fuel, which increased 0.4%. Inflationary pressure is having a more pronounced impact on our margins. The largest operating expense increases within TTS were in driver pay, supplies and maintenance, and insurance and claims. Driver pay per mile increases continue to moderate and were up 6% for the first quarter. Supplies and maintenance expense increased $11 million or 20%. This was caused by higher-than-expected over-the-road truck and trailer maintenance and increased tire costs. While these costs continue to be inflationary, we have actively taken steps to control our spend and we continue to see signs of cost moderation thus far in the second quarter. Insurance and claims expense increased $9 million or 33%. We continue to be encouraged by our recent quarterly low in both the number and frequency of claims and our 10-year record low last year for DOT preventable accidents. This is driven by our focus on safety, our highly trained and experienced drivers, combined with our investment in the industry's best technology and equipment. That said, we are seeing an elevated cost per claim. We are holding firm on our commitment to safety by continuing to reduce the frequency of claims and being laser-focused on claims resolution and claims cost. In the first quarter, we sold significantly more tractors and trailers at a lower average gain per unit. Gains on sales of revenue equipment were $18 million, a decline of $2 million year-over-year. With the continued decline in spot rates, the shortfall between small carrier operating costs and spot freight rates has grown to over 15%. This is leading to carrier failures in greater numbers and will result in an opportunity to focus on yield improvement. Conversely, for the used truck and trailer market, we anticipate these trends will gradually lower used truck demand pricing and equipment gains. We are committed to controlling costs and performing within our annual TTS operating margin range of 12% to 17%. We have implemented ongoing and specific company-wide cost savings initiatives. These initiatives include driver recruiting expense savings from lower driver turnover and SG&A, as well as cost-saving opportunities for fuel efficiency, equipment maintenance, and supplies. Now let's move to first quarter TTS fleet metrics for Dedicated and One-Way Truckload on Slide 12. Dedicated revenues net of fuel increased 9%, average trucks increased 4%, revenue per truck increased 5%. One-way Truckload revenues net of fuel declined 2% due to 3% lower rates in a much softer freight market. Average trucks grew 4% due to the Baylor acquisition and miles per truck declined 3%. Moving to Werner Logistics on Slide 13. In the first quarter, Logistics revenues grew 21% as growth from the November ReedTMS acquisition offset lower brokerage pricing and intermodal revenues. Truckload Logistics revenues increased 41%, driven by an increase in shipments due to the ReedTMS acquisition and growth in our organic volumes, partially offset by a decline in revenue per shipment. Despite a weak freight market in the first quarter of 2023 compared to the strong market in the first quarter of 2022, both our Werner and ReedTMS Truckload Logistics units grew shipment volume year-over-year. Intermodal revenues declined 33% due primarily to a decline in shipments. Final Mile revenues increased 12%. First quarter shipments and revenue per shipment were negatively impacted by a more challenging macro for the sale of discretionary products. In total, Logistics achieved adjusted operating income of $6.4 million with a 2.8% adjusted operating margin, down $2.8 million year-over-year. Moving to Slide 14. We ended the first quarter in a strong financial position following the closing of our new syndicated credit facility last December. We are well positioned with over $500 million of liquidity and a low net debt-to-EBITDA ratio of 0.9x. The six large commercial banks in our syndicated credit facility all have strong Tier 1 capital ratios and healthy loan-to-deposit ratios. On Slide 15 is a summary of our cash flow from operations, net capital expenditures, and free cash flow over the past five years. Expanded operating margins and less variable net CapEx resulted in ongoing robust free cash flow generation. In the first quarter, we generated $167 million of cash flow from operations and $64 million of free cash flow. Turning to Slide 16 and our capital allocation framework. Our first capital priority continues to be reinvesting in our truck and trailer fleet and enhanced technology. New truck deliveries from our OEMs are improving, which helps lower our average truck age. Reducing our average age back to two years is a priority as it reduces our trucks out of warranty and related expenses, improves our on-time service, and strengthens driver recruiting and retention. With our fourth quarter acquisitions of Baylor Trucking and ReedTMS Logistics, we are currently focused on integration and capturing revenue and cost synergies but remain open for business for the right acquisition opportunity that fits within our strategic financial and cultural criteria. We will take a balanced capital allocation strategy by maintaining low leverage, returning value to our shareholders, and providing financial flexibility to invest in growth and initiatives to expand our operating margin. Next on slide 17, we continue to execute our Drive strategy as we build on our durable, resilient, and balanced revenue portfolio. We are committed to a relentless focus on exceptional on-time service that drives long-term value for all stakeholders. Werner is a leader in the logistics industry, focusing on innovation and technology, investing in our associates, and progressing on our sustainability journey. Here are a few updates. We've deployed our new Werner EDGE TMS in Truckload Logistics, with more of our Logistics business units currently in development, and we are fine-tuning the platform to leverage real-time insights that drive operational improvements. We have also continued to invest in our new tech stack by deploying and integrating back-office CRM and API platforms that improve operations and enhance the customer experience. As evidence of our commitment to safety, in the first quarter we achieved a record low accident frequency, in addition to the 10-year low accident frequency rate we achieved last year. We also accomplished a record low work injury rate in the first quarter, with 30% improvement year-over-year. We invested in our associates by establishing the inaugural cohort of PACE, our rotational development leadership program. As we work to be good stewards of our environment, auxiliary power units were installed on half of the new tractors placed in service during the first quarter, reducing truck engine idle fuel consumption. As we search for new technologies, we received our first 15-liter renewable natural gas truck in April in connection with our partnership with Cummins. This week, we began transporting freight with two battery electric vehicles in the Southern California market. That concludes my remarks. I will now turn it back over to Derek.

Thank you, John. Next on slide 18 is a review of our first quarter performance compared to our guidance and our updated guidance metrics. During the first quarter, our truck fleet declined 1% as we adapted our fleet size to adjust to freight market conditions. As a result, we lowered our truck growth guidance for the year to negative 2% to 1%. We are maintaining our net CapEx guidance for the year at $350 million to $400 million. Dedicated revenue per truck increased 4.6% in the first quarter, slightly ahead of our full year guidance range that we are retaining. One-Way Truckload revenue per total mile for the first quarter decreased 3.2% at the upper end of our first half guidance range. Our guidance range for the first half remains down 3% to down 6%. Our tax rate in the first quarter was 24.3%, in line with our guidance range for the full year. The average age of our truck and trailer fleet in the first quarter was 2.2 and 5.1 respectively. Now, let's move to slide 19 and discuss our updated market outlook for 2023 and our modeling assumptions. The freight market and spot rates in One-Way Truckload and Logistics did not experience typical seasonal improvement in March and, in fact, declined. Freight demand in April remained challenging and consistent with March. The March freight low occurred concurrently with the timing of the banking system failures, which has resulted in tighter lending standards. On last quarter's earnings call, we expected that 2023 would have a relatively muted economic backdrop. At that time, we forecasted a better second half of the year with inventory replenishment resuming, trucking capacity exiting, and a more normal peak shipping season in the fourth quarter. Our outlook has not changed, but improvement may be delayed a few months due to the uncertainty caused by the recent banking failures. We continue to expect freight and One-Way Truckload and Logistics will remain challenging in the second and potentially third quarters as retail inventory destocking runs its course, and the Fed completes monetary tightening. We expect spot freight rates will bottom in the second quarter and then begin to improve in the second half. Smaller carriers that rely on the spot market are facing tremendous financial challenges. Given the shortfall between revenues and costs and tighter bank lending standards, with much higher interest rates, trucking company failures are increasing. FMCSA data backs this up. Starting last September, for 31 consecutive weeks, interstate truck deactivations exceeded truck activations, with net deactivations of over 80,000 trucks over the seven-month period. By the fourth quarter, we expect the freight market will begin to show improvement for the holiday shipping season. This is driven more by inventory and capacity trends than confidence in a macroeconomic acceleration. For the used truck market, we expect gradually declining demand in a difficult freight and financing market, which should moderate pricing and equipment gains as the year progresses. We continue to expect that our equipment gains for the full year will be in the range of $30 million to $50 million. Due to higher interest rates and a higher debt level, we continue to expect net interest expense this year will be $20 million higher than last year. We anticipate that OEM truck and trailer production will continue to show improvement the rest of this year. This should enable us to gradually decrease the age of our truck fleet, which in turn will help with maintenance expenses, on-time service, and driver retention. We have a powerful business model with a large and durable dedicated fleet, a diversified One-Way Truckload fleet, and a growing Logistics segment. As nearshoring expands, we have the largest Mexico cross-border franchise in truckload and deep experience operating in this complex market. We are building a Werner-branded premier Final Mile solution to service a rapidly growing customer need for high service home delivery. We continue to prioritize and invest in our Cloud-First, Cloud-Now technology strategy through Werner EDGE. We are streamlining operations and enhancing the experience of our stakeholders. Three quarters of our freight base is aligned with winning retail food and beverage customers with a focus on transporting necessity-based goods. Most importantly, we are continuously improving our superior safety record and award-winning service. Now, I would like to turn the call over to our operator to begin the Q&A.

Thank you. We will now begin the question-and-answer session. This call will end at 5 PM central time, following the company’s closing remarks. The first question will be from Jack Atkins from Stephens. Please go ahead.

Okay. Great. Good afternoon, guys. Chris, welcome to Werner, and John, congratulations on your retirement. Legendary was a great way to put it. So enjoy your retirement. So I guess, Derek, if we could maybe start with what you're seeing right now? I mean it feels like April was sort of a tale of two halves, very challenging first half. Easter was in the first half of April. And then things maybe picked up a bit in the second half of the month. Are you seeing anything in your business, in the last couple of weeks that would make you a little bit more encouraged about, whether it's the spring peak or maybe just capacity rationalizing somewhat?

Yes, Jack, thanks for the question. I might stop a little short of the tale of two halves approach but I would say this. We have definitely seen, as we had a delayed spring, especially relative to produce and other products that were impacted by weather that as that starts to work its way through, that does draw capacity both from the obvious refrigerated market but capacity in general but then find its way into that market. I think that explains part of it. We know that our customers are getting further through their inventory destocking and starting to think and prepare differently. We also know as it warms with 15% of our business in food and beverage that has positive impacts on freight flows and that part of our market as well. So yes, we are encouraged by some of what we've seen in the last couple of weeks of April. But I certainly don't want to be too optimistic at this point. I'd rather cautiously continue to observe it and see if we can continue to see this trend develop.

Okay. No. Understood. I know we have a lot of work to chop here both from a macro perspective and from a supply-demand perspective. But I appreciate that. And then I guess maybe for my follow-up question, John reiterated that the longer-term TTS margin range of 12% to 17%, I believe is the range. On last quarter, you guys said you expect to be able to stay within that range this year even despite the market challenges. We were – I know it's one quarter, but it's a seasonally soft quarter; we were below that in the first quarter. How are you thinking about what you need to do to be able to make sure you can stay within that range this year? I'm sure the entire organization is focused on that. But are there cost-out opportunities, efficiency opportunities? Like what needs to happen to make sure you can stay at the bottom end of that range?

Yes, Jack, you summarized it well. We are currently very focused on managing costs, and there is strong enthusiasm for reducing expenses, which hasn't been seen in quite some time. We are not celebrating our Q1 results, as we recognize that there is work ahead. However, we are confident in maintaining our guidance based on our outlook and what we experienced with supplies and maintenance. We are aware of the integration costs associated with our two recent acquisitions during Q4. We are also successfully managing insurance and claims, which can be unpredictable, especially with workers' comp. The key factor we can control is safety, and we are achieving new records for the last eleven years in Q1, which we will continue to improve. Additionally, our efforts within One-Way to enhance our network are starting to yield production benefits. If raising rates isn't possible, we are focused on maximizing the use of our assets. We have seen positive trends in turnover, and as the overall economic situation evolves, it enables us to present a compelling case to our drivers about why Werner is a great place to work. Combining all this with the understanding that we have significant work ahead to achieve our long-term guidance of 12% to 17%, we remain optimistic that we can deliver on this.

Okay, Derek. Thank you for the time. Really appreciate it.

And the next question will come from Scott Group from Wolfe Research. Please go ahead.

Hi, thanks. Good afternoon, guys and best of luck John and congrats, Chris. So we've talked about the resiliency of dedicated margins through the cycle. But if I look at this quarter, I get it's just one quarter, but dedicated 60% of the revenue and overall margins were down 570 basis points. Maybe it would be helpful. Can you just give some directional color on how, One-Way and Dedicated margins performed in the quarter? I just want to understand where we're seeing the margin pressure.

Yes, Scott. That’s a great question. Let me start with Dedicated. Our belief in its ongoing strong performance remains unchanged, both in favorable and challenging freight markets. It met our expectations in Q1. However, there were a couple of factors to consider, such as significant challenges related to supplies and maintenance, as well as insurance and claims, which affected both Dedicated and One-Way. We faced higher costs, but we are addressing these issues and have already made progress, particularly with supplies and maintenance. Regarding revenue per truck per week, it performed as we anticipated, showing improved efficiencies and opportunities for growth. The issues we faced were primarily cost-related. In terms of operating ratio and TTS, the decline was much more pronounced in One-Way compared to Dedicated, so we are prioritizing our efforts there to bring about a turnaround. Lastly, while synergies from acquisitions are being achieved, they are being counterbalanced by the integration costs that occurred mostly in the early stages. We had to quickly align fleet standards, maintain and upgrade equipment as necessary, and conduct significant work on the systems side to secure our networks and eliminate vulnerabilities post-integration. Some of those challenges are now behind us, and we are looking ahead to a more straightforward quarter. We are optimistic about our current outlook, though the market conditions remain tough, and we fully acknowledge that. We will adapt as necessary.

So maybe to that point, Derek, any way to just think about how much sequential margin or earnings improvement you'd expect, a trucking in the second quarter? And then the cost opportunity you talked about, is there any way to just put numbers around how much cost you potentially could take out?

Yes. So I'll start with the first question. I mean if you look historically, over a multi-year period Werner's earnings from Q1 to Q2 normally go up somewhere in the neighborhood of call it 25% to 30%. We do not believe that is the case this quarter, given the economic backdrop that we're faced with right now. So, that's not something that we think is in the cards. We don't give quarterly guidance, as you know, but I do want to frame up very clearly, the 30% improvement in Q2 is not the way we are thinking about that. We have made headways, as I've indicated already on supplies and maintenance and feel very good that some of the moves we took in the first quarter although they increased costs in that quarter, they set up for a better Q2, three and four. The insurance and claims line. Again, I will reiterate what we can do is continue to be safer and safer and safer. And at some point, we need to see some of this prior period stuff work itself through and hopefully put us behind us but that's clearly the most volatile and least predictable line in the entire P&L. And so I just want to be cautious about trying to give anything too specific there. The market itself has shown a couple of weeks and so I want to be careful with how much credence we put on that a couple of weeks of stabilizing and it appears as though spot rates have found the bottom, but they're still going to be off significantly year-over-year and down sequentially both. So if that's true and we start to see any lift from here, that certainly is a positive. On the overall cost savings initiatives, I mean we've up until now shied away from talking about specific numbers but I think we owe it to you and the investor community to say we've identified at this point and started implementation and have already started to see some of these come through cost savings in the neighborhood of about $34 million. Those are annualized numbers. And obviously, some of those have not yet started, so you only get partial year impacts, etc. We're going to continue to dig and we think there's more that we can find. But as we sit here, many of those are just being implemented as we speak. But we're going to stay aggressive in that category.

Very helpful. Thank you, guys.

And the next question is from Tom Wadewitz from UBS. Please go ahead.

Hey, this is Mike Triano on for Tom.

How are you doing, Michael?

Thank you. You are projecting a decline of 6% for revenue per mile and One-Way for the first half after a decrease of 3.2% in the first quarter. This suggests a significant range for pricing in the second quarter, potentially varying from a decline of 3% to 9%. Can you clarify what factors you anticipate will influence the lower and upper ends of your revenue per mile guidance? Thank you.

Hey Mike, this is Chris Neil. You are correct that the One-Way Trucking rate per total mile decreased by 3.2%, which was at the higher end of our guidance. The market is definitely challenging. We have built our One-Way portfolio with strong customers, and volumes were fairly stable in January and February. However, as we've noted, there was some weakness in the second half of March and into early April, but we've seen some improvement since then. We have bid rates being implemented, and while some rate renewals have been negative, we anticipate that around 30% of our One-Way trucking rates will take effect in the second quarter, slightly more than the less than 30% in the first quarter. In the third quarter, we expect about 23% exposure, with the remainder in the fourth quarter. As these negative rate renewals take effect, we expect to see increased pressure on the One-Way trucking metric. We've also slightly increased our spot exposure while maintaining our pricing discipline. Most likely, we expect our One-Way trucking rate per total mile to decline sequentially due to these negative rate renewals. Nevertheless, there are some opportunities to perform well in this area. The spot rates may have bottomed out, and we feel we are close to turning a corner. We might see some market improvement as spring produce comes in and contractual volumes increase, which would reduce our spot exposure and help improve our numbers towards the upper end of the range in the second quarter. It is a tough environment, and we will continue to do our best. As of now, the bid season is proceeding as we expected.

Right. Then the other question I have is just on the demand side; just to go back to that. Some of your biggest customers are the largest retailers out there so just curious how they're viewing demand in their businesses. Has their outlook and inventory replenishment changed at all? And how much advanced notice would you ordinarily get from those customers if there was an inflection or change in the demand forecasts? Thanks.

Hi, Mike, this is John. As it relates to our retail inventory customers, that's a big lion's share of our business. Clearly, their demand has been declining, but we are concentrated with discount retailers that are really more attractive to the value-conscious consumer. A high percentage of what they sell is consumer staples, and that's definitely seeing less pressure than what discretionary goods you're seeing. Every one of our large retailers, when they reported in late February and early March, reported that they achieved a reduction in their inventory dollars per store from November to January, all 13. Seven of the 13 had stronger growth in same-store sales than they did in inventory per store growth. We think that they're well along the way in destocking of inventory as a group and they're getting closer back to normal replenishment of inventory which would increase freight shipments compared to a destocking environment. A few of the comments are inventory levels moderated significantly after the first half of 2022. We took bold actions last summer to quickly take action to rightsize our inventory. Inventory growth is still elevated, but the pace is moderating as we expected. Units per store at a similar level to pre-pandemic periods. We've had a strong execution of inventory rebalancing. And finally, the last one is our inventory is in good shape. So overall we think we're in the latter stages of destocking. Obviously, demand is hard to predict, but we think things are getting closer to a normalization at levels that we'll see with this recessionary type economy.

Right. Thanks, John.

I would like to add that part of the challenge we face in today's market is focused on execution. It's essential to present our best efforts to customers and demonstrate our ability to outperform. There are key questions regarding sales performance and the status of the inventory cycle, as well as our market share. We have managed to maintain pricing discipline and to receive appropriate compensation for our work, which is especially challenging in providing dedicated services. This is something I take pride in, as it positions us well for future growth once conditions improve and allows us to attract new customers.

Great. Thanks a lot.

And the next question will be from Ken Hoexter from Bank of America. Please go ahead.

Hey, great. Good afternoon, and of course John best of luck in retirement and Chris welcome. I look forward to working with you going forward. Derek, Scott Group and I just boarded a plane and he said he's going to kick my chair the longer I ask a question. So let me dig into the state of the market following Jack's question. Did you say there was a spread between spot rates and I guess cost above spot right now? And maybe Derek just given your historical experience, maybe talk a bit about what you've seen in peak to trough kind of markets and how we should look at that spread indicative of what the time frame you've seen in the past?

Sure, Ken. I'll start by saying to avoid any conflicts on the plane. It's not appreciated these days, so please be courteous. Regarding the market, we strongly believe that current spot rates are significantly below carrier operating costs, by around 15 to 20 percent. Different perspectives can be applied here, such as looking at average carrier operating costs from publicly traded companies or assessing the operational costs provided by industry groups. Based on various analyses, these spot rates are simply not sustainable. Many carriers are struggling because they invested in high-cost equipment during the market peak. Facing elevated driver pay, expensive equipment, high capital costs, and increasingly costly variable loans, they are in a challenging position. We believe spot rates can't decrease indefinitely. As I mentioned previously, the remedy for low prices is low prices; they will eventually rebound. We anticipate that less efficient operators will continue to exit the market, and the ongoing trend of net deactivations highlights that some of these experienced drivers are joining company fleets. However, large fleets aren't currently expanding, so this is an opportunity to elevate the standard of quality and ensure we have the best drivers operating every truck, aiming to reduce accident and workers' compensation frequencies while enhancing service. All these factors suggest improved performance as we move forward while we wait for the market to shift. Another point is that slow markets, like the current situation, create chances to address necessary maintenance, even if it comes with some costs, such as ensuring equipment is fully operational. When drivers have more time, we find more maintenance issues to address, and we need to manage that effectively, which we are doing. As for your question about market cycles, historical data shows that once spot rates go negative, it can take about 18 months for them to recover. We're currently over 12 months into this cycle, and we believe there's not much further to decline. I anticipate that April will represent the market bottom. The concern is how long the market will remain at the bottom before showing improvement, which we believe will occur in the second half of the year. However, we expect the second quarter spot rates to be worse than in the first quarter. Our exposure to the spot market is slightly increasing but still low overall, under 7% of total miles. While that's higher than we'd prefer, maintaining discipline is key. I'd rather endure some short-term discomfort in the first quarter than take on unfavorable contractual agreements that could impact future quarters. That has been our approach, and while it poses challenges for our Q1 results, we believe it is the right strategy moving forward into 2023 and beyond.

I appreciate the helpful perspective. Derek, regarding the cost side you mentioned, what will happen to driver pay with the rate reduction in the market? John, is there potential for integration from the Baylor and ReedTMS acquisitions, or was that already considered in your cost-focused comments?

Yes. Driver pay is definitely leveling off. Over the past few years, both here and in the industry, driver pay has seen significant changes. In our sector, we offer daily home time and dedicated jobs that greatly enhance lifestyles, with initial wages often exceeding $70,000, and opportunities to earn even more over time. In some of our accounts, particularly in certain regions, wages exceed $90,000, and several surpass $100,000. However, there is a limit to how much we can raise pay to address the issue further; we need to maintain our focus on lifestyle improvements. We believe the pressure on pay is mostly behind us, especially given the economic environment that is likely to lead to a more challenging job market. We have been actively working, particularly in the first quarter, on enhancing lifestyle aspects in our One-Way fleet and expanding services like Team-expedited and cross-border operations, positioning us well for the future. I think we have already seen the peak of spot pricing, and now the main question is how long it will remain stable before prices start to rise again.

Thanks so much for the time and insight. I appreciate it. Best of luck John.

Thank you.

Thanks Ken.

And the next question will come from Chris Wetherbee from Citigroup. Please go ahead.

Hey. Good evening guys. It's Rob Salmon on for Chris. John, congrats on the upcoming retirement and Chris looking forward to working with you. I guess, to follow-up on Scott's question with regard to the cost inflation. Can you give us a sense of how much integration costs you guys incurred in the first quarter? And how you're thinking about that for the back half of the year?

I don't have a specific number to share regarding integration costs. However, I can say that these costs have significantly surpassed the synergies we've experienced so far. We believe the majority of these costs are now behind us. In today's environment, one major integration cost we've tackled aggressively is related to cybersecurity. We invest significantly to ensure that everything we manage meets our cybersecurity standards. Additionally, there are integration costs associated with maintaining and upgrading the equipment that some acquired companies had, especially considering the challenges of obtaining equipment during the pandemic. We also incur travel costs for our integration teams and their efforts. While some synergies can be realized quickly, many require a broader, longer-term approach. Looking ahead, I'm optimistic about our progress. With each acquisition, we've become better at integrating more swiftly and realizing synergies sooner, as well as improving how we assess performance with these businesses. It's worth noting that the leadership teams of the acquired companies, whom we respect greatly, are also navigating a challenging market. A key highlight for this quarter is that, unlike many competitors, our Logistics business, including our organic truckload brokerage and the acquired ReedTMS business, has seen year-over-year increases in shipments. The offerings they provide are successful in the market, and we are gaining market share. While gross margins have faced some compression, we're establishing stronger relationships with key customers that we believe will benefit us in the future. I'm excited about our progress, even if I couldn't give you a specific number regarding integration costs.

That's helpful. And just following up on the $34 million of kind of annualized cost opportunity, how much has already started? How much did you guys see in the first quarter? How much do you plan on doing in the second quarter? And then, obviously, the remainder would come in at some point in the back half of the year.

Yes. I would say the first quarter was in the mid-single digits, around three to five, as it takes some time to ramp up, identify, and initiate those items. They will begin to gain momentum as we progress, though many won't really start to pick up until the end of Q2. We are actively addressing the list every day. I’m still hopeful that with the $34 million, we will identify more opportunities and delve deeper. A cautious way to consider it might be to anticipate achieving about half of that figure within six months, as it will be challenging to accomplish a significant amount quickly in Q2, but it should build from there.

Really helpful. Thanks, guys.

And our next question will be from Jon Chappell from Evercore. Please, go ahead.

Thank you. Good afternoon. Derek, just wondering how the dedicated pipeline has changed at all in this kind of weaker environment, especially as you transition from maybe a more optimistic start to the year to a little bit more of a difficult March and April. I know you said you're not going to really grow your fleet until the second half. Is it going to be an incredibly back-end loaded kind of 4Q fleet growth as you kind of laid out the differences in the spot between a weak 2Q, 3Q and then a more optimistic 4Q?

Yes. I'm not committing to a significant growth in the second half of the year. However, I can say that the Dedicated pipeline is strong, and we will begin implementing some new dedicated business in Q2. This might be slightly counterbalanced by attrition and some strategic decisions we've made to separate or downsize certain areas. Therefore, you could see modest growth in Dedicated even in Q2, but we want to be clear that we expect more substantial growth in the second half. Currently, we do not foresee any growth in our One-Way fleet for the remainder of the year. We believe it is safer to project a stable fleet in Q2, with the possibility of growth in the latter half, primarily in Dedicated. Additionally, one area that continues to thrive, which we haven't discussed much yet, is Power Only. This segment operates alongside our one-way network and has seen significant success, improving month over month in both volume and efficiency. We are increasingly optimistic about the potential of Power Only moving forward, as it will help reduce capital intensity in our operations. While we will remain an asset player with Dedicated being a key component of our portfolio, we will also seek to optimize our operations with a less asset-intensive approach, including Power Only as part of that strategy.

Great. And my follow-up is actually going to be on Power Only. Just really quickly. I mean with the logistics margin pressure, if you didn't have the growing Power Only, was it something where it could have been closer to breakeven? Has the Power Only proven to be less cyclical and a little bit more stickier through these really weak broker environments?

Yes, I would certainly say that we view Power Only as stickier for sure. It's still going to operate predominantly inside of obviously the logistics business and in conjunction with our One-Way Truckload business. Therefore, it is part of a more secular end of the spectrum but it's stickier. It behaves and operates in drop trailer configurations that are tougher to compete with, with pure brokerage. It behaves and operates with more sophisticated customers that tend to have a longer-term view, because their expectations around service are more elevated than your typical spot load type shipper. So, I'm not trying to be evasive, but somewhere between where Dedicated sits and where your transactional One-Way market sits is kind of where Power Only resides. A little stickier, a little more resilient to a little better through the cycle. But certainly, I'm not trying to portray it to be the same as Dedicated.

Got it. Thanks a lot, Derek.

And our final question for today will come from Bert Subin from Stifel. Please go ahead.

Thank you, and good afternoon, and congratulations to John on an incredible career and welcome to Chris. Derek, you talked a lot about sort of the setup today. If we think about maybe past the current backdrop, it seems fair to think eventually imports and spot rates are going to rebound quite a bit. Are you looking at the setup as 2H '23 is going to be tough, '24 is going to be the first stage of the rebound and then potentially 2025 is going to be really good? And if that is your view, what can you do to get ahead of that so you're prepared for the upswing?

Yes, that's a great question. Let me address the second half of 2023 first. We do not anticipate a significant economic recovery in the near future, nor do we expect the banking sector to appear strong or consumer confidence to soar. What we do believe is that the changes in capacity are genuine and accelerating, with the removal of less efficient operators continuing. We are confident in our business model, execution, service, and commitment to our customers, which will help us gain market share with both current and new customers. The process of inventory destocking is nearing its end, and as it runs its course, especially with some key customers, we will start to see normal replenishment cycles. Our focus on discount retail positions us well as consumers become more careful with their discretionary spending. We believe our gains in Logistics and our ability to maintain and grow volume will prepare us well for the eventual upturn. We expect opportunities in the latter half of the year to outperform and see a return to seasonal patterns. The holiday season will still occur on December 25, and consumers will continue to buy, which will drive the movement of goods as current inventory levels are not as bloated as they were last year. Overall, that is our outlook, and it leads us to be optimistic about the second half of the year, albeit slightly delayed from our earlier expectations. Looking ahead to 2024 and 2025, we foresee a much better environment. I personally believe this economic recession will not last long, and we will see improvements, especially as the strong businesses endure. We are committed to executing our strategy to prepare for this future. While it can be challenging to make short-term decisions as a public company, we prioritize long-term strategy and vision, focusing on where we see the business in two to three years rather than on month-to-month decisions. This long-term perspective is vital to our approach, and I believe our portfolio is positioned well for when recovery occurs.

That's great. Thanks so much for the great answer there, Derek. Maybe a follow-up on maybe a brighter spot of things. Can you just give us an update on what you're seeing on your cross-border service? I imagine that's remained quite a bit stronger than other parts of the business. And is there a way to continue growing that to capture potentially some near-shoring demand?

Yes, we are very optimistic about Mexico and our cross-border operations. We have been investing in that region to enhance our capabilities. Our ability to manage both temperature-controlled and dry van cross-stocking has improved, allowing us to effectively utilize our own assets and those of others. All key components of our business are now active in the Mexican market. We conduct both power-only services and standard brokerage truckload transportation, as well as intermodal options, which is encouraging. Our customers are expressing a strong interest in near-shoring, and many have been reliable partners for over 20 years, some since I joined Werner 24 years ago. We are looking forward to the opportunities in Mexico, although there are challenges. If we rely solely on asset-based services, there are limitations to how much North-South business we can handle without disrupting our network. That's where power-only, brokerage, intermodal, and other solutions come into play. There are still disruptions affecting cross-border operations, particularly influenced by immigration issues and border closures at key international trade bridges in El Paso. We prefer to see those issues resolved for the sake of international trade, but that doesn't always happen. In the medium to long term, I feel confident about Mexico, especially considering our experienced team, partnerships with carriers who share that longevity, and strong relationships with customers. Furthermore, we are seeing new robust customers joining us. Overall, I am excited about the future of this business, as it has consistently delivered premium returns due to its complexity and faces less competition for the same reasons, which gives us confidence in our ability to thrive.

Thank you, Derek.

Thank you. I'd like to just thank everybody for joining us on our first quarter earnings call today. While we recognize Q1 certainly had its share of challenges, I remain confident in our ability to deliver as we move through the cycle. We're positioned well for strong performance with a robust dedicated pipeline to further enhance our stable and growing dedicated fleet. We've remained disciplined on price across the organization while still being able to grow volumes and logistics both organically and with our recent acquisition. Power only and truckload brokerage growth continues to add solutions for our customers while lowering the capital intensity of our business, and that's exciting. We remain committed to operational excellence and expect superior performance from our team and have an unwavering focus on sustainability as demonstrated by the meaningful progress we made achieving our ESG goals. We remain well positioned to generate superior earnings and free cash flow to weather the storm and drive long-term shareholder value. And I'd like to end by one last time thanking John Steele for again to use the word legendary career. Thank you for all that you've done and all that you've contributed. It's been an honor to work with you.

Thank you, Derek.

And with that, we conclude our call today. Thank you everyone.

The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.