Covenant executives talk rate negotiations on earnings conference call



Covenant Transportation Group (NASDAQ: CVTI) posted adjusted earnings per share (EPS) of $0.27 for the first quarter of 2019, beating analyst estimates of $0.22 and edging past the expectations the company itself announced earlier this quarter.

Last month, Covenant released a statement warning analysts that economic headwinds could depress its first quarter earnings. In that statement, the company said it expected to report adjusted EPS of $0.18 to $0.27.

Prior to Covenant’s warning, analysts were estimating earnings of $0.36 per share.

The first quarter’s $0.27 adjusted EPS came in $0.03 higher than the company’s $0.24 adjusted EPS for the first quarter of 2018.

“Our adjusted earnings per share for the first quarter were above the range of our March guidance and higher than the 2018 quarter despite a significantly weaker freight environment,” Covenant Chairman and CEO David Parker said in the earnings release. “The Landair acquisition in July 2018, the growth of our other dedicated and brokerage business and improved profitability from our factoring business and our minority investment in Transport Enterprise Leasing more than offset the impact of lower revenue per tractor and higher operating costs.”

Parker said the company has been pleasantly surprised by the rate increases they have seen when negotiating contracts with existing customers, noting that many are coming in between 4 and 5 percent.

Covenant posted an adjusted net income of $5 million, higher than 2018’s $4.4 million and slightly higher than the company's expected $3.4 million to $4.9 million. The company’s adjusted operating income came in at $6.2 million, a drop from $6.4 million during the same quarter of 2018.

The company’s operating ratio (OR) took a hit during the first quarter of 2019. Covenant posted an OR of 96.9 percent, higher than last year’s 95.7 percent.

The company reported total revenue of $219.2 million, an increase of 26.3 percent compared with the first quarter of 2018. Freight revenue came in at $195.8 million, excluding revenue from fuel surcharges, an increase of 30.1 percent compared to the same quarter last year.

"The freight environment deteriorated compared with the environment in the 2018 period due to both supply and demand factors. We attribute the softer demand to factors such as lower economic activity, overstocking of inventories, the partial government shutdown's impact on early first quarter consumer and governmental spending and extended periods of inclement weather,” Parker said. “From the supply side, growth in industry-wide truckload capacity was small but made an impact when combined with lower volumes. The April freight environment has improved sequentially from the first quarter, but remains well below the level we experienced in 2018.”

Wolfe Research Senior Analyst Scott Group asked Parker to expand on the improved activity Covenant has seen in April, as it is somewhat different from what analyst have heard on other calls this quarter.

Parker attributed the improvement to improving weather conditions, noting that inclement weather is “probably 95 percent over” for the season. This gives trucks that were parked due to bad weather conditions more freedom to move.

When Group asked how April 2019 market conditions compare to a “normal April,” Parker said, excluding 2018, he would consider the month equal to down.

Truckload operations

Total revenue in the truckload segment increased to $172.7 million during the first quarter, an increase of $18.1 million compared with the first quarter of 2018. The increase included $18 million higher freight revenue and $0.1 million higher fuel surcharge revenue.

Parker attributed the increase in freight revenue to an increase of 560 trucks on average, or 21.9 percent, partially offset by a 6.7 percent decrease in average freight revenue per truck in the 2019 period as compared to the 2018 period.

Of the 560 increased average trucks, 435 average trucks were contributed by the 2018 Landair acquisition, according to Parker. Landair contributed $20 million of freight revenues to consolidated truckload operations in the first quarter of 2019.

Average freight revenue per tractor per week decreased to $3,724 during the 2019 quarter from $3,993 during the 2018 quarter, but average freight revenue per total mile increased by 11.6 cents per mile, or 6.6 percent, year-over-year. Average miles per tractor decreased by 12.5 percent.

Chart: Covenant

Chart: Covenant

“Contributing to the higher rates were rate increases negotiated with customers since the first quarter of 2018, as well as the impact of the Landair acquisition,” Parker said. “The main factors impacting the decreased utilization was the impact of Landair operations on the combined truckload division including an approximate 710 basis point decrease in the percentage of our total fleet comprised of team-driven trucks, partially offset by a lower average seated truck percentage. Landair's shorter average length of haul and dedicated contract, solo-driven truck operations generally produce higher revenue per total mile and fewer miles per tractor than our other truckload business units.”

The company’s team-driven trucks decreased to an average of 863 teams, or 27.7 percent of the total fleet, in the first quarter of 2019 compared to an average of 894 teams, or 34.9 percent of the total fleet, last year.

Covenant reported an improvement in average seated truck percentage, with 5.4 percent of its fleet lacking drivers compared to 6.2 percent in the same quarter last year.

“Salaries, wages and related expenses increased 8.4 cents per total mile due primarily to the impact of the Landair acquisition and employee pay adjustments since the first quarter of 2018,” Parker said. “These unfavorable impacts were partially offset by fewer miles from team-driven trucks, which carry the cost of two drivers.”

While some of the company’s shippers plan to take advantage of the spot market as rates fall, others are more cautious after 2018’s rate surges.

“As a whole, our relationship customers that are negotiating rate increases realize it is not 2018,” Parker said on the earnings call. “They aren’t expecting rates to go up like 2018, but they do believe there is another 2018 down the road, and they don’t need to be short-sighted with that. They’re being fair with us.”

Non-asset based managed freight segment

Covenant’s non-asset based managed freight segment includes freight brokerage, warehousing and other transportation logistics services. This segment of the business brought in $46.4 million in freight revenue during the first quarter of 2019, a 143.7 percent, $19 million, jump from the same quarter in 2018.

This segment’s operating income was $4.2 million, and its OR came in at 91.1 percent, a significant improvement over last year’s operating income of $1.1 million and OR of 94.4 percent.

“Of the $27.4 million of increased freight revenue, Landair contributed $20.2 million of freight revenue to combined managed freight operations in the first quarter of 2019,” Parker said. “In addition, our 49 percent equity investment in Transport Enterprise Leasing contributed $3.0 million of pre-tax income in the quarter compared with $1.5 million in the first quarter of 2018.”


Covenant Executive Vice President and Chief Financial Officer Richard Cribbs commented briefly on the company’s outlook.

Cribbs said the company plans to continue executing its strategic plan to become “increasingly embedded” in its customers’ supply chains by continuing to grow its managed freight segment and the portions of its truckload segment that allow for more predictable contracts.

“Based on the current freight market and normal seasonal patterns, we expect second quarter 2019 adjusted earnings per diluted share to be fairly consistent with the prior year quarter, based on the favorable impact of earnings contribution from Landair’s service offerings, partially offset by the unfavorable impact of the slower freight market in general,” Cribbs said.

Seaport Global Senior Research Analyst Kevin Sterling asked Parker if the company is seeing more merger and acquisition (M&A) opportunities come around as the freight environment becomes more balanced and smaller trucking company’s look to sale.

“Since we did the Landair acquisition in July 2018, our goal has been to successfully integrate that,” Parker said. “We’re definitely seeing carriers that have an interest in selling, but we will not entertain those until we feel comfortable on the Landair side. At that point, we are much more interested in a Laindair-type acquisition than someone with over-the-road trucks.”

The company’s stock was down 3.88 percent at market close Thursday, April 25. The company reported earnings after market close.