XPO Logistics, Inc. (NYSE:XPO) Q2 2023 Earnings Call Transcript

XPO Logistics, Inc. (NYSE:XPO) Q2 2023 Earnings Call Transcript August 4, 2023

XPO Logistics, Inc. misses on earnings expectations. Reported EPS is $0.2797 EPS, expectations were $0.61.

Operator: Welcome to the XPO Q2 2023 Earnings Conference Call and Webcast. My name is Sherry, and I will be your operator for today’s call. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session. [Operator Instructions] 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 and the use of non-GAAP financial measures. 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, as well as in its earnings release. 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. During this call, the company may also refer to certain non-GAAP financial measures, as defined under applicable SEC rules. 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. 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 XPO’s Chief Executive Officer, Mario Harik. Mr. Harik, you may begin.

Credit: XPO Logistics

Mario Harik: Good morning, everyone. Thanks for joining our call. I’m here in Greenwich with Kyle Wismans, our incoming Chief Financial Officer; Carl Anderson, our outgoing CFO; and Ali Faghri, our Chief Strategy Officer. This morning, you saw us report a solid quarter despite a soft operating environment. Company-wide, we generated revenue of $1.9 billion, and adjusted EPS of $0.71. We also delivered adjusted EBITDA of $244 million, coming in above expectations. In our North American LTL segment, adjusted EBITDA was $208 million, also above expectation. I want to focus my comments this morning on the progress we are making with the four pillars of our plan for LTL 2.0. The first pillar is to provide industry leading customer service.

Last year, we implemented multiple initiatives to elevate our customer service levels, including a new incentive compensation structure for the field. We’ve made it clear to the team that customer service is our top priority and we’re seeing the impact of that in our key service metrics. In the second quarter our claims ratio for damages was 0.7%, which is an improvement compared with 0.9% in 2022, and 1.2% at the end of 2021. And in the month of June, our damage claims per shipment came in at the best in over seven years. Another key metric is on time performance, we improved this by 10 percentage points in the quarter year-over-year. Going forward, we’re keeping up the momentum as we begin to roll out new tools for the field, including higher quality straps, airbag systems, and new storage racks in our service centers.

More recently with the acceleration in July volumes, we’ve continued to improve key service metrics. During this period of industry disruption, we’re protecting capacity for our existing customers and being disciplined in what freight we bring on into our network. While we’ve made considerable progress with service in a relatively short time, there’s a lot more we can do. Our entire organization is laser focused on providing the best LTL service in the industry. The second pillar of our plan is to invest in our network for the long term. As you know, we anticipate allocating CapEx of 8% to 12% of revenue on average over the next several years. Now that we’ve completed our two spin offs, we have more opportunities to invest in driving long term growth in LTL, a business that generates a high return on invested capital.

Most of our CapEx this year is being deployed to increase the capacity of our fleet. We’ve added more than 900 tractors which has brought down the average age of our fleet to 5.1 years from 5.9 years at the end of 2022. We’ve also produced nearly 3,100 new trailers at our manufacturing facility in Arkansas. And we’re on track to meet our targets for over 6000 new trailers this year. In addition, we expanded capacity at our service centers in Norcross, Georgia and in Salt Lake City. This aligns with our plan to add new doors and markets where more capacity can sustain more growth over time. At this point, we’ve added more than half of the 900 net new doors contemplated in our plan and we expect to open the remainder by early 2024, primarily by expanding existing terminals.

These targeted expansions will help improve network density and fluidity over the long term. Given the recent market dynamics, we’re evaluating the pace of our CapEx plan to see if we want to accelerate our investments in network capacity. There is a potential for our annual CapEx as a percent of revenue to exceed the high end of our target range in the near term. The third pillar of our plan is to accelerate yield growth. We grew yields excluding fuel by 1.4% year-over-year, in line with our outlook for the second quarter. We still had a headwind from mix as we described last quarter. However, our underlying pricing trends remained solid with contract renewal pricing up by mid-single digits. Yield is our single biggest lever for margin improvement going forward.

And we have multiple initiatives underway to leverage the gains we’re making in service quality and operating excellence. We started to see the impact of these initiatives grow in the second quarter and we expect this acceleration to continue. The fourth and final pillar of LTL 2.0 is to continue to drive cost efficiencies. The main opportunities here are in purchased transportation, our variable cost structure and overhead expense. In the second quarter, we reduced our purchased transportation costs by 35% year-over-year by utilizing two levers. First, we continue to reprice contracts with third party carriers to capitalize on favorable market conditions. At the same time, we reduced third party linehaul miles in the quarter by 400 basis points versus last year.

This aligns with our plan to achieve a 50% reduction in purchased transportation costs as a percent of revenue by 2027. Labor is another opportunity to control variable costs in our field operation. We did that effectively in the second quarter. Our headcount and labor hours were down year-over-year, while our shipment count was up. We also made significant progress in reducing our corporate overhead as we continue to rationalize our cost structure after the latest spin off. While we’re committed to becoming continuously more cost efficient, we’re also careful to set the company up for long term growth. This includes investments in new tools for the field to further improve service quality and the significant expansion of our local sales force.

Turning to Europe, our business continued to perform well in a soft operating environment, with organic revenue largely unchanged. Despite the macro uncertainty in parts of Europe, we continue to see a strong pricing environment across the segments and our sales pipeline is robust. I’ll wrap up my remarks on the quarter by summarizing the progress we’ve made to date with our LTL 2.0 plan. We’re continuing to generate some of our best service levels in years and this is enabling us to gain profitable market share. This has put the business on a path to stronger yield growth as we’re able to price based on the increasing value we’re providing customers. We’re also continuing to make strategic investments in our network to capitalize on upturns in demand.

We have a long track record of delivering high returns on investments in this business. And we’re becoming more cost efficient by reducing our use of purchased transportation, managing variable labor costs effectively, and rationalizing our cost structure at the corporate level. With our operational momentum and disciplined investments in long term growth, we remain on track to deliver on our outlook for at least 600 basis points of adjusted operating ratio improvement through 2027. In closing, I want to comment on the CFO transition we announced in July. Some of you already know Kyle, who will take over as our Chief Financial Officer next week. Kyle has been a senior finance leader with public companies for over 17 years, including a long career with General Electric.

And he’s been immersed in our business for the past four years, most recently as our Head of Revenue Management and Finance in LTL. This will be a seamless transition. I also want to thank Carl, our outgoing CFO for his leadership of our finance team. Carl is rejoining a former colleague in an industry where he worked for over a decade, where I’m confident he’ll have continued success. Now I’m going to hand the call over to Kyle to discuss the second quarter results. Kyle, over to you.

Kyle Wismans: Thank you, Mario, and good morning, everyone. I’m excited to step into the CFO role. We have a significant opportunity ahead of us to create even more shareholder value with a clear line of sight to our goals. And I’m looking forward to building on our momentum as we continue to execute on the LTL 2.0 plan. Now turning to the second quarter. Revenue for the total company was $1.9 billion, down 6% year-over-year, and up 1% sequentially from the first quarter. In our LTL segment, revenue was down 8% year-over-year and up 1% sequentially. Almost all of the decline was related to fuel surcharge revenue. Excluding fuel, revenue was down just 1% year-over-year, and up 4% sequentially. LTL salaries, wages and benefits in total were 4.6% higher than a year ago, primarily due to wage increases.

As Mario noted, we did a good job of managing our field labor costs in the quarter. We handled more shipments per day, with lower headcount and fewer hours than in the second quarter a year ago. Purchased transportation expense was down year-over-year by 35% or $47 million, as we insourced more linehaul miles to reduce our use of third-party carriers. We ended the quarter at 20.7% of linehaul miles outsourced, which was a 400 basis point improvement from the same quarter last year. We also paid significantly lower contract rates in the quarter as our renegotiated contracts cycled in with the carriers. Depreciation expense in the quarter increased by 24% or $12 million, driven by our investments in the LTL network. Our CapEx spend was primarily related to bringing in new tractors from the OEMs and manufacturing more trailers in-house.

Next, I’ll add some detail to adjusted EBITDA, starting with the company as a whole. We generated adjusted EBITDA of $244 million in the quarter, down 16% year-over-year. We reduced corporate expenses by 71% for savings of $24 million, which we achieved by rationalizing our corporate cost structure following the RXO spinoff. Our adjusted EBITDA margin was 12.7%, representing a year-over-year deterioration of 140 basis points. Looking at just the LTL segment, adjusted EBITDA was $208 million, down 24% from a year ago. Our gains and cost efficiency were offset by the aggregate impact of the current operating environment. Namely, lower fuel surcharge revenue, tonnage, wage inflation, and lower pension income. In our European Transportation segment, adjusted EBITDA was $46 million, down $3 million year-over-year.

Company-wide, we reported net income from continuing operations of $31 million in the quarter, representing diluted earnings per share of $0.27. This compares to income of $96 million and earnings of $0.83 per diluted share a year ago. The year-over-year decline in income from continuing operations was partially due to higher transaction and integration costs and restructuring charges. We had $17 million of transaction and integration costs related to the RXO spin-off and another $10 million of restructuring charges across the segments. We expect that costs in both categories will step down materially by the end of this year. On an adjusted basis, our EPS for the quarter was $0.71, which is down 38% from a year ago. And lastly, we generated $131 million of cash flow from continuing operations and deployed $126 million of net CapEx. Reinvesting in the business remains our top priority for capital allocation.

Moving to the balance sheet, we ended the quarter with $290 million of cash on hand. Combined, with available capacity under committed borrowing facilities, this gave us $802 million of liquidity at quarter end. We had no borrowings outstanding under our ABL facility at quarter end and our net debt leverage was 2.3 times trailing 12 months adjusted EBITDA. In May, we completed the refinancing of our $2 billion term loan. This doubled our weighted average maturity timeline to approximately six years, while our interest expense is effectively unchanged this year. And notably, we received upgrades on our secured debt from Moody’s and S&P. We also now have two investment-grade ratings on our secured debt. Our capital structure gives us the financial flexibility to execute on the significant opportunities we have at XPO.

Now, I’ll turn it over to Ali, who will cover our operating results.

Ali Faghri: Thank you, Kyle. I’ll start with the review of the second quarter operating results for our LTL segment. During the quarter, demand for LTL stayed below historical levels. This drove a 4.7% decline in our weight per shipment in the quarter. We offset some of this with a 1.9% increase in shipment count, led by 15% growth in our local sales channel. These share gains are a direct reflection of the service improvements we’re making in the network. As a result, we were able to limit the decline in tonnage per day to 2.8%. On a monthly basis, April tonnage per day was down 2% year-over-year, May was down 2.3%, and June was down 4%. Looking just at shipments per day, April was up 3.1% year-over-year, May was up 1.8%, and June was up 0.9%.

On a two-year stack basis, monthly tonnage improved each month throughout the second quarter. In July, we moved even more freight through the network with tonnage up 4.2% year-over-year and shipment count up 8.8%. On a sequential basis from June, July tonnage was up 2.6% and shipment count was up 3.2%. Looking at yield, on an ex-fuel basis, increased by 1.4% versus last year, in line with our outlook. On a sequential basis, we increased yield ex-fuel quarter-over-quarter, outperforming typical seasonality. While mix has continued to be a headwind to yield, our underlying trends remain solid, with contract renewal pricing up 5% in the quarter versus last year. Also, our yield initiatives are continuing to gain traction and resulted in stronger yield growth as the quarter progressed, into July.

As we look ahead, we are excited about the trends we see in yield and our outlook for the third quarter, as well as the long term. We expect our year-over-year yield growth, ex-fuel, to further accelerate in the third quarter versus Q2. Turning to margin performance, our second quarter adjusted operating ratio was 87.6%, which is unfavorable by 440 basis points compared with second quarter a year ago. As part of our LTL 2.0 strategy, we have been increasing our capital investments to drive long-term growth. In the near term, there is a headwind to our margins from higher depreciation as these investments ramp. If we exclude the impacts of depreciation as well as fuel, our adjusted operating ratio in the quarter would have improved on a year-over-year basis.

On a sequential basis, we improved adjusted OR by 200 basis points compared with the first quarter. This outperformed our expectations. Moving to our European business, we delivered another solid financial quarter with organic revenue down slightly despite a soft macro backdrop. This was supported by a mix of new customer wins and contract renewals. Two of our key markets, the UK and Central Europe, outperformed the European segment as a whole. And our pricing in Europe was higher than the same period last year, outpacing inflation. Before we go to Q&A, I want to highlight our significant progress we’re making toward becoming a world-class LTL provider. We’ve meaningfully improved service and are rolling out new initiatives to drive further improvements.

As we take on more volume, like we did in July, we’re maintaining strong service levels and being disciplined about the freight we accept into our network. We’re also building yield growth and expect an acceleration in the second half of this year as our initiatives continue to ramp up. And importantly, we are carefully managing variable costs, while continuing to make strategic investments in the network. For all these reasons, we’re excited about our trajectory and our momentum towards achieving our long-term targets. With that, we’ll take your questions. Operator, please open the line for Q&A.

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Q&A Session

Operator: Thank you. [Operator Instructions] Our first question is from Ken Hoexter with Bank of America. Please proceed.

Ken Hoexter: Great. Good morning. Mario, maybe talk about the ramp in July post-Yellow. It seems like you were a little bit more guarded on adding freight in the discussion, but yet you’re also targeting to accelerate. So should we see maybe an above-industry average yield growth as you are selective on the freight you’re adding? Is it that the freight moved really quickly and now it’s realigning itself over time? And then contrast that with your comments on CapEx and how we think about how fast you want to grow to maybe absorb some more of those volumes? Thanks.

Mario Harik: Good morning, Ken, and thanks for the question. Well, first starting with the July tonnage, so when you look at our tonnage, it was up 4.2% year-on-year in the month of July and shipment count was up 8.8% in the month of July. Now when you compare that to typical seasonality, usually June to July, we see shipment count be down 2.8%, but for us, this July we went up 3.2%, so call it a 6% swing above typical seasonality. And same thing on the tonnage side, we usually see seasonality June to July go down 4.1%, while this July we saw it go up 2.6%, so that also 6% to 7% higher. Now, when you look at the beginning of the month versus the end of the month, we already had seen positive tonnage and shipments at the beginning of July, and we saw that accelerate — the shipment count accelerated in the high-single-digit range from the beginning of the month till the end of the month.

Now, it’s tough to tell what the rest of the quarter is going to do. It is a very fluid situation at this point and we’ll see how these numbers obviously shakeout here for August and beyond. On the capital side, so we have been investing more capital into our business as part of our LTL 2.0 plan to add more capacity. And with this much capacity coming out of the industry, we’re looking to accelerate these capacity adds. And this would be in doors, in tractors, and trailers. And just to give you an example, at our Searcy facility we have the ability to produce 7,500 trailers per year. And initially, we have planned to produce slightly north of 6,000 trailers for the year, but we could expand that production here to 7,500 trailers for the year, given what we’re seeing.

Our long term guide is 8% to 12% of the CapEx as a percent of revenue. And we’d expect to be at the high-end of the range or above the high-end of the range in the near-term as we add more capacity.

Operator: Our next question is from Tom Wadewitz with UBS. Please proceed.

Tom Wadewitz: Yes, good morning. Wanted to see if you could put it in like shipment count terms for us in terms of maybe like how many shipments per day, you’re seeing at the present time. And what that would have been in, I don’t know, two weeks ago, something like that, just to give a little additional perspective. I think you talked maybe in percentage terms. And then, I guess related to that, how well do you handle those shipments in terms of you get pretty strong incremental margins on those? Or is it something where you have to stretch to handle a big step-up. So that the kind of margin impact, maybe not — I don’t know. How do we think about the margin impact on that? Thank you.

Ali Faghri: Good morning, Tom. This is Ali. So as Mario noted, we did see positive tonnage and shipment counts on a year-over-year basis in the early part of July, but we did see that accelerate towards the end of the month. At the end of July, we saw roughly about a high single digit increase in our shipment count versus the beginning of the month. So, call it, somewhere in that 3,000 shipments per day increase. I’ll pass to Mario.

Mario Harik: In terms of the flow-through. So when we think about it, we have been adding quite a bit of capacity over the last year and a half. So we’ve added, first on the rolling stock perspective, we’ve added more than 1,900 tractors, more than 8,000 trailers over the last year and a half. We’ve also added more doors in markets where we needed more capacity. Last year we opened up six new service centers, this year so-far we expanded two service centers. So on the rolling stock and actual physical capacity, we’re feeling good about where we are. And on the people side, we have had headroom on the headcount side, but at the same time, in some locations where we’re seeing higher demand, we’re going be adding more headcount and potentially lean into more purchased transportation if it makes sense as well.

The flow-through –these additions of additional capacity do have a shorter-term cost impact associated with them, but at the same time we do expect good flow-through on the additional business we’re adding, so being very selective.

Operator: Our next question is from Scott Group with Wolfe Research. Please proceed.