Landstar System - Q3 2020
October 22, 2020
Transcript
Operator (participant)
Good morning, and welcome to Landstar System Incorporated's third quarter 2020 earnings release conference call. All lines will be in a listen-only mode until the formal question and answer session. Today's call is being recorded. If you have any objections, you may disconnect at this time. Joining us today from Landstar are Jim Gattoni, President and CEO, Kevin Stout, Vice President and CFO, Rob Brasher, Vice President and Chief Commercial Officer, Joe Beacom, Vice President and Chief Safety and Operations Officer. Now, I would like to turn the call over to Mr. Jim Gattoni. Sir, you may begin.
James B. Gattoni (President and CEO)
Thank you, Missy. Good morning, and welcome to Landstar's 2023 third quarter earnings conference call. Before we begin, let me read the following statement. The following is a safe harbor statement under the Private Securities Litigation Reform Act of 1995. Statements made during this conference call that are not based on historical facts are forward-looking statements. During this conference call, we may make statements that contain forward-looking information that relates to Landstar's business objectives, plans, strategies, and expectations. Such information by nature is subject to uncertainties and risks included, but not limited to, the operational, financial, and legal risks detailed in Landstar's Form 10-K for the 2019 fiscal year, described in the section Risk Factors and other SEC filings from time to time. These risks and uncertainties could cause actual results or events to differ materially from historical results or those anticipated.
Bascome Majors (Senior Equity Research Analyst)
Investors should not place undue reliance on such forward-looking information, and Landstar undertakes no obligation to publicly update or revise any forward-looking information. Landstar entered the 2023 third quarter facing one of the most unpredictable and challenging freight environments in the company's history. The dramatic swing in demand from the sudden significant decrease in mid-March, to the bottoming out in April and May, to the gradual sequential improvements we experienced through the summer months and continuing through the end of September, was unlike any other period in the history of the company. Although we all recognize the impact of the COVID-19 pandemic on the economy is far from over, the company's variable cost business model, highly diversified customer base, and geographically dispersed network of independent agents and third-party truck capacity provided resiliency and flexibility to Landstar as we managed through this unprecedented time.
Landstar's third quarter financial results far exceeded the third quarter financial guidance that we first presented in our 2022 second quarter earnings release on July 22. Our initial guidance anticipated 2023 third quarter revenue to be in a range of $885 million-$935 million, and diluted earnings per share to be in a range of $1.11-$1.17. On September 9, we updated that guidance in a Form 8-K filed with the SEC. Our updated guidance anticipated revenue in a range of $1.02 billion-$1.06 billion, and diluted earnings per share to be in a range of $1.40-$1.46.
Revenue and diluted earnings per share also exceeded our updated guidance, primarily due to further sequential improvements we experienced in the number of loads and revenue per load on loads hauled via truck from September ninth through the end of September. Actual revenue in the 2023 third quarter is $1.086 billion, and diluted earnings per share was $1.61. Our initial third quarter guidance, provided on July twenty-second, was based on rate and volume trends of our truck services through the first few weeks of July, and expectations that industry fundamentals of soft demand and readily available capacity would continue through most of the quarter. This initial third quarter guidance reflected our expectation that both revenue per load and the number of loads hauled via truck would be below the 2019 third quarter in a mid-single-digit % range.
As business continued to improve from July 22 through September 9, our updated guidance anticipated both revenue per load and the number of loads hauled via truck would exceed the 2019 third quarter in a low single-digit % range. July closed with truck revenue per load 2% below July 2019, and the number of loads hauled via truck only 1% below that of July 2019. In early August, truck rates and volume turned positive compared to the corresponding prior year period. August and September revenue per load on loads hauled via truck increased 5% and 10% over August and September 2019, respectively. The number of loads hauled via truck in August and September increased 2% and 7%, respectively, compared to the same months of 2019.
Overall, revenue per load on loads hauled via truck in the 2023 third quarter exceeded the 2019 third quarter by 5%, and the number of loads hauled via truck exceeded the 2019 third quarter by 3%. Along with the huge overall swings in demand for truck services we experienced during the 2022 second and third quarters, Landstar experienced a tremendous overall increase in demand for services provided via van equipment during the 2023 third quarter. On the flip side, in the 2023 third quarter compared to the 2019 third quarter, demand for services provided by unsided equipment remained soft, although improving sequentially as we moved through the third quarter. As such, overall demand for transportation services provided via van equipment outpaced demand for services provided on unsided equipment during the 2023 third quarter.
More specifically, the number of loads hauled via van equipment in July 2020 was about equal to July 2019. While August and September were 6% and 9% above August and September of 2019. Revenue per load on loads hauled via van equipment in July, August, and September increased 3%, 8%, and 17% over July, August, and September 2019, respectively. In contrast, the number of loads hauled via unsided equipment in July, August, and September 2020 was 5%, 4%, and 2% below July, August, and September of 2019, respectively. Revenue per load on loads hauled via unsided equipment in July 2020 was 9% below July 2019, while August and September exceeded prior year by 1% and 2%, respectively.
In comparing the 2022 second quarter to the 2023 third quarter, demand for our services fluctuated significantly by industry sector. The growth in revenue was driven by strength in consumer durables, automotive parts, building products, and Substitute Line Haul services, which is how Landstar refers to truckload services provided to large parcel and small package transportation companies. Demand for Substitute Line Haul was driven by growth in e-commerce that increased the company's third quarter revenue from that sector, both sequentially and over prior year third quarter. The boom in home improvement and renovations helped growth in the building product sector, while new business awards outside the big three automotive manufacturers helped drive automotive parts performance. Growth in new and existing accounts resulted in increased revenue in the consumer durable sector.
In an environment during the 2023 third quarter, where U.S. manufacturing production continued to be below prior year levels, the company's agent network executed extremely well on obtaining new business and sourcing capacity for businesses that continue to experience volume surge and supply chain disruption. More specifically, revenue from the consumer durable sector increased 11% in the 2023 third quarter over the 2019 third quarter, recovering from a decrease of 22% in the 2022 second quarter compared to the 2019 second quarter. Similar trends occurred in other sectors. Automotive parts were up 17% in the 2023 third quarter, compared to down 53% in the 2022 second quarter. Building products were plus 15% in the 2023 third quarter, compared to down 21% in the 2022 second quarter.
Substitute Line Haul services, which contributed approximately 5% of total revenue in the 2023 third quarter, were +125% in the 2023 third quarter, compared to +21% in the 2022 quarter. Machinery and metals, both of which are typically serviced using unsided equipment, continued to lag prior year, but at improved levels compared to what we experienced in the 2022 quarter. Revenue from the machinery sector in the 2023 third quarter was 12% below the 2019 third quarter, significantly improved from the 30% decrease in the 2022 quarter. Likewise, revenue from the metals sector was 12% below the 2019 third quarter, compared to a decrease of 35% in the 2022 quarter.
While certain sectors of the U.S. economy appeared strong and others lagged, the efforts of our agents to expand their business with new and existing customers across a broad array of sectors was critical in driving the company's strong third quarter performance. As to truck capacity, we continue to attract qualified owner-operators to the model. We ended the third quarter with 10,571 trucks, 272 more than at the end of the 2022 quarter. BCO truck count continued to grow through the first few weeks of October, and now sits at an all-time record number of trucks provided by BCOs. BCO utilization, or loads per BCO per week, was at a 10-year low in April and May, increased but remained below historical levels in June, and improved significantly in July, August, and September.
As a result, as a result of the improvement that began in July, BCO utilization in the 2023 third quarter increased approximately 6% compared to the 2019 third quarter. Record BCO truck count and the increased BCO utilization led to a record number of quarterly loadings hauled by BCO capacity in the 2023 third quarter. Also, as demand increased, we saw an increased number of third-party carriers haul loads for Landstar. Active truck broker count, defined as carriers who have hauled a load, a Landstar load in the past 180 days, increased from 37,600 in the 2022 second quarter to an all-time record of over 41,000 in the 2023 third quarter. Approved and active third carrier count is continuing at an all-time high.
As it relates to third-party carriers, the inflection in demand that began in August resulted in a sudden tightening truck capacity that drove an increase in the rate of purchased transportation paid to third-party truck carriers. In the 2023 third quarter, revenue per load increased 7%, but gross profit per load decreased 2% on truckloads hauled by third-party carriers as compared to the 2019 third quarter. The strong rate and volume trends in our truck services had continued into the first several weeks of October. We expect that demand level of demand for our service to continue through the fourth quarter. Assuming that level of demand continues, we expect 2024 fourth quarter revenue to look similar to, and potentially exceed, our record 2018 fourth quarter revenue.
We expect truck revenue per load in the 2020 fourth quarter to be similar to the record fourth quarter revenue per load we reported in the two thousand and eighteen fourth quarter. We also currently expect the number of loads hauled via truck in the twenty twenty-fourth quarter to be equal to or slightly exceed the record fourth quarter truckload volume reported in the two thousand and eighteen fourth quarter. As such, I expect fourth quarter revenue to be in a range of $1.15 billion-$1.2 billion. As it relates to the twenty twenty-fourth quarter earnings estimates, the company recently announced an initiative to further enhance its owner-operator recruiting and retention efforts via its regional operation centers located in the United States and Canada in support of its BCO network.
In connection with this initiative to further enhance our BCO recruiting and retention efforts, the company anticipates a buyout of certain legacy incentive commission arrangements that paid a commission to several agents for their BCO recruiting and retention services. Payments under those arrangements, reported as agent commissions in the company's annual statement, have a current annual run rate of approximately $10 million. Included in the 2024 fourth quarter estimate is a one-time pre-tax charge of $15 million, or $0.29 per diluted share, for the anticipated buyouts of these agent incentive arrangements. Including this one-time charge, 2024 fourth quarter diluted earnings per share guidance is $1.32-$1.42. Excluding the impact of this one-time charge, diluted earnings per share guidance would be in a range of $1.61-$1.71, the high end-...
of the range being above the record fourth quarter diluted earnings per share of $1.68, reported in the 2018 fourth quarter. Leverage our business model, with access to a substantial number of truck capacity providers, including both our BCO owner-operators and third-party carriers, combined with the expertise and experience of the agent family, and the geographic distribution of our over 1,200 agents throughout the U.S. and Canada, drives exceptional performance in most environments. The 2023 third quarter was no different. Given the ongoing impact of COVID-19 pandemic and the softness in U.S. manufacturing, the speed and strength of the recovery of the domestic spot market was highly unusual. With the current strength and demand and capacity tightness, any additional improvement in U.S. manufacturing the quarter, would further tighten capacity within the transportation and logistics marketplace.
Truck capacity in the dry van and spot markets already tight, heading into the traditional period of peak seasonal demand for dry van services during the fourth quarter. Nevertheless, long-term outlook of the U.S. economic environment remains highly unpredictable. Regardless of the economic environment, however, Landstar's network of small and large business owners provide the expertise to satisfy shipper demand in almost every sector and every geographic region in North America, sourcing capacity of varying equipment types, while Landstar provides the tools and financial support to empower their success. Our technology initiatives continue as we roll out new and improved tools. Most recently, we launched Landstar Clarity, a new and improved rate visibility tool available to all Landstar agents to support their customers.
With our ongoing efforts to invest in and empower our network of small and large business owners, along with our healthy balance sheet, we're confident in our position within the highly competitive, technology-driven transportation and logistics marketplace. With that, I pass to Kevin for his commentary on the 2023 third quarter financials. Kevin?
Kevin Stout (CFO)
Thanks, Jim. Jim has covered certain information on our 2023 third quarter, so I will cover various other third quarter financial information included in the press release. Gross profit, defined as revenue less the cost of purchased transportation and commissions to agents, was $160.9 million and represented 14.8% of revenue in the 2023 third quarter, compared to $152.6 million, or 15.1% of revenue in 2019. The cost of purchased transportation was 77.3% of revenue in the 2023 third quarter versus 76.6% in 2019. The increase in the PT rate was primarily due to an increased rate of purchased transportation on truck brokerage carrier revenue, which was 187 basis points higher than the rate paid in the 2019 third quarter.
Bascome Majors (Senior Equity Research Analyst)
Commissions to agents as a percentage of revenue were 7.9% in the 2023 third quarter, compared to 8.4% in the 2019 third quarter. The decrease in commissions to agents as a percentage of revenue as compared to 2019, was due to a decreased net revenue margin, revenue less the cost of purchased transportation divided by revenue on loads hauled by truck brokerage carriers. Other operating costs were $7.4 million in the 2023 third quarter, compared to $10.4 million in 2019. This decrease was primarily due to decreased trailer equipment rental costs, decreased contractor bad debt, decreased costs related to the annual BCO event canceled due to the COVID pandemic, and increased gains on sales of trailer equipment.
Insurance and claims costs were $21.9 million in the 2020 third quarter, compared to $24 million in 2019. Total insurance and claims costs for the 2020 quarter were 4.4% of BCO revenue, compared to 5.1% in 2019. The decrease in insurance and claims expense compared to the prior year, was primarily due to decreased net unfavorable development of prior years' claims and decreased severity of current year claims in the 2020 period, partially offset by increased insurance premiums incurred in 2020 for commercial trucking liability coverage, following the company's May 1, 2020 insurance renewal. The impact of the May 1 insurance renewal will add approximately $3.4 million to the fixed portion of insurance expense in the company's fourth quarter.
Selling, general and administrative costs were $38.9 million in the 2020 third quarter, compared to $38.2 million in 2019. The increase in selling, general and administrative costs compared to prior year, was attributable to an increased provision for incentive compensation, increased costs related to the company's technology initiatives, and increased stock-based compensation expense, partially offset by a decreased provision for customer bad debt and decreased travel and entertainment expense related to the impact of the COVID pandemic. Stock compensation expense was $1.5 million and $1.1 million in the 2020 and 2019 third quarters, respectively. The provision for incentive compensation was an expense of $2.1 million in the 2020 third quarter, compared to a benefit of $233,000 in the 2019 third quarter.
Quarterly SG&A expense as a percent of gross profit decreased from 25% in the prior year to 24.1% in 2020. Depreciation and amortization was $11.2 million in the 2020 third quarter, compared to $10.7 million in 2019. This increase was entirely due to increased IT-related depreciation.... Operating income was $82.4 million, or 51.2% of gross profit in the 2020 third quarter, versus $70.6 million, or 46.3% of gross profit in the 2019 third quarter. Operating income increased 17% year-over-year. During the 2020 third quarter, 140% of the increase in gross profit from the 2019 third quarter was passed through to operating income.
The effective income tax rate was 23.9% in the 2023 third quarter, compared to 23.8% in 2019. The effective income tax rate was impacted by excess tax benefits related to stock-based compensation arrangements with employees in both periods. Looking at our balance sheet, we ended the quarter with cash and short-term investments of $258 million. Year-to-date cash flow from operations for the 2023 third quarter was $186 million, and cash capital expenditures were $25 million. There are currently 1,821,000 shares available for purchase under the company's stock purchase program. Back to you, Jim.
James B. Gattoni (President and CEO)
Thanks, Kevin. With that, Missy, we will open to questions.
Operator (participant)
Certainly, sir. We will now begin the question and answer session. If you would like to ask a question, please press star followed by the number one on your touchtone phone. Once again, that is star one to ask a question. To cancel your request, please press star followed by the number two. We do have several questions in queue, and the first one is from Jack Atkins of Stephens. Your line is now open.
Jack Atkins (Managing Director and Senior Research Analyst)
Hey, guys. Good morning, and congratulations on a great quarter!
James B. Gattoni (President and CEO)
Thanks, Jack.
Jack Atkins (Managing Director and Senior Research Analyst)
So Jim, let me start first, and I, if you could maybe pull out your economic crystal ball. You know, I know it's, it's so tough to, you know, kind of think about and triangulate sort of where we're going from here, given all the uncertainty out there with the election and the pandemic and everything else. But you know, when I think about the different items that are really impacting your business over the next 12 months, you know, the industrial economy feels like it's, it's improving from here. Construction activity is looking strong next year. You know, automakers can't produce enough cars. You know, I know energy remains a challenge. You know, can you maybe kind of help us think through how you're looking at your end markets as we head into 2021?
Bascome Majors (Senior Equity Research Analyst)
Because it certainly feels like, you know, if you think about maybe additional stimulus and an infrastructure bill, there are a lot more pluses than negatives, when we kind of think about where we're trending into the next, next calendar year.
James B. Gattoni (President and CEO)
Yeah, and as you know, we always speak to how we're pretty tied to the industrial sector. And when you have industrial production or manufacturing production in the U.S., which is negative, still a little bit shy of where it was last year, you'd expect our model to not produce the kind of performance that it just came out of. But I think, you know, some of my emphasis and my points within my prepared remarks is really to speak to the agent family and how they penetrate into new markets, or they penetrate into existing customers who may experience a surge or some kind of supply chain disruption. So I think what we're looking at now is just the ability of the network to expand in an environment where industrial production still remains soft.
Bascome Majors (Senior Equity Research Analyst)
That, to me, really just provides a positive into the future, because I don't think anybody anticipates that industrial production is going to stay negative throughout the rest of the 12 or rema- you know, the forward-looking 12 to 18 months. Any strength there is just going to add to what we've already done, what, where the agents have penetrated into some consumer durables, as you know, is, is, was a great quarter for us. Substitute Line Haul with the e-commerce demand coming through those parcel carriers. You know, I would say that if you were to ask me, my expectation is we, you know, going into next year, I think that Substitute Line Haul would probably be the one area I'd watched it would soften, but I see no reason why any of the other stuff would soften.
You know, even last hour here, we're talking about what % of our employee base can remain at home indefinitely, right? Even after COVID clears out, which means you've got, you know, saving money on travel and stuff like that and continue to spend into the economy. So you've got the consumer durables and all that stuff. I see a lot of that continuing. So if we can get the manufacturing start picking up, and other than substitute line haul, like I said, which is probably kind of more of a surge right now, and we're providing some surge capacity there, probably for the next maybe 3-6 months. That one I could see softening, but everything else I see pretty strong through, you know, throughout the next 12-18 months. I see no reason to pull back-
Jack Atkins (Managing Director and Senior Research Analyst)
Okay.
James B. Gattoni (President and CEO)
- on the, on the environment.
Jack Atkins (Managing Director and Senior Research Analyst)
Okay, that's very, very encouraging. Maybe for my follow-up question, just kind of going to the insurance point for a moment. If I go back to the second quarter call, you know, you guys talked about some potential actions on the insurance front that, you know, I think the idea was to maybe improve your cost recovery there. So I guess either for Kevin or for Jim, could you maybe talk about, you know, maybe provide, I guess, if you could, some more details around some steps you could take there to maybe impact your net insurance expense as we go into 2021? Because I would imagine the insurance markets aren't gonna turn into a tailwind next year.
James B. Gattoni (President and CEO)
No, I would expect you're right there. I don't see that our premium, the amount we pay in premiums for insurance coverage, especially in the commercial trucking line, I don't see that pulling back over the next 6 or 8 months. As you know, we renew every year on May 1. You know, and our anticipation right now is that the premiums will stay elevated through that renewal period, but hopefully not. There are actions we can take. We have a significant amount of coverage, probably highest, at one of the higher coverage in the industry when you talk about the layers and how high up the coverage is. You know, we could look to think about maybe reducing that a little bit without exposing the organization on a per occurrence basis.
Bascome Majors (Senior Equity Research Analyst)
You might get a little savings there. We're looking at other programs on the insurance side, where we might be able to reduce some of the, you know, potential equipment, maybe we could influence our BCOs, maybe put in a truck to help influence maybe some of the specific accidents we had, which is unmeasurable. You don't—it's, you know, you could put equipment in the truck, but you don't—if an accident doesn't happen, you don't know it. So it's a lot of things we're looking into, and clearly, the move we just made to improve our recruiting efforts and retention efforts to eliminate the agent incentive commissions was a big offset, and that's a tailwind going into next year, right?
So you've already picked up, as I said in the opening remarks, there's about, not that it was intended to offset the insurance, but it was a decision that was made to improve our recruiting efforts internally and to improve our field locations in recruiting and retaining BCOs. But it turns out that we have about a $10 million spend every year within the commissions line that won't go forward. So it was a $14 million increase of premiums year-over-year. So we've, you know, we think we'll cover that with various programs by the time we jump into January one or sometime through the year.
Jack Atkins (Managing Director and Senior Research Analyst)
Okay. That's great. Thanks again for the time.
Operator (participant)
Thank you so much. Our next question is from Todd Fowler of KeyBanc. Your line is now open.
Todd Fowler (Managing Director and Equity Research Analyst)
Great, thanks, and good morning. I guess I wanted to start with, it looks like you had some, some continued success in attracting both BCOs and then also third-party carriers to the network. You know, Jim, or maybe Joe, can, can you talk a little bit, I mean, we've heard a lot about the, the challenges in the driver market right now. It seems like you're doing a good job in moving the BCO count up. Can you talk a little bit about why you think maybe you're having some success in doing that and then the ability to continue to do that as you move into, into 2021?
Joseph J. Beacom (VP and Chief Safety and Operations Officer)
Yeah, sure, Todd, this is Joe. I think, yeah, to the extent that the demand environment changed, and that the pricing environment changed to a, it moved in a positive direction, those are two excellent catalysts that drive BCO growth historically. And so to the extent that, you know, we continue to be solid on both of those fronts, I think our BCO count hopefully can remain, grow through the balance of this year. And then I would anticipate, you know, not really having a crystal ball into next year, but if it remains pretty solid, hopefully we'll be able to maintain our count and grow it, a little bit more in 2021.
Bascome Majors (Senior Equity Research Analyst)
But I think, you know, just the model itself, you know, how we compensate on percentage pay versus mileage, and the tools that we have that allow people to come in and take advantage of this strong demand environment and make good decisions for their business, I think it's. I think that's really the foundation behind it. I think if you're in the company driver market, I think it's a little bit more difficult because you're trying to get people to come back to a position that maybe they just lost, where in the owner-operator, small carrier environment, you know, this is their career decision. They've made their decision. It's just a matter of where they want to align themselves.
And I think we've got a very good platform from which they're to align themselves with us and be successful. And I... You know, as Jim pointed out, our centers that we're initiating in 2021, I mean, that's just one more step that we'll take to try to improve recruiting and retention. Most of our growth, Todd, has been not so much on the recruiting side. We did recruit a little bit better quarter over prior year quarter, but it's really been on the retention side, where we saw about a 30-some% reduction in the number of terminations.
Once we get them here, get them acclimated, get them in a position to make good money, make agent relationships, and our agents do a great job of taking care of capacity, whether it's BCOs or carriers, we like our chances in a good freight environment.
James B. Gattoni (President and CEO)
Yeah, the other thing-
Todd Fowler (Managing Director and Equity Research Analyst)
Okay, no, that makes... Go ahead. Go ahead, Jim, sorry.
James B. Gattoni (President and CEO)
Todd, the other thing there is, and I think Joe mentioned the tools, right? You know, you know our business model. We've had an app out there forever to simplify it to,
Todd Fowler (Managing Director and Equity Research Analyst)
Yeah
James B. Gattoni (President and CEO)
... you know, make it easy for the BCO to identify the opportunities. And you know, we have those 8-10,000 loads on the board at any given point in time. So the network and the ability for us to just automate that whole process and some of the things we've done over the last 2 or 3 years to improve that, the app and be able to, their sort functions and stuff like that in there, I think that helps improve and would attract more drivers into the system also, as we make things easier on them and the communications become more automated.
Todd Fowler (Managing Director and Equity Research Analyst)
Yeah, all of that makes sense. And to me, it sounds like maybe that one of the big differences is that you're not as dependent on the new drivers and the driver schools than maybe some of the large, you know, company driver fleets might be. And then, of course, the strong freight market and the technology helps. So that helps kind of square that away.
Bascome Majors (Senior Equity Research Analyst)
Just for my follow-up, Kevin, can you share with us what you think, based on your guidance, where total incentive comp will be for all of 2020, as well as stock-based compensation, so kind of the full year number, and then what you would expect it to be into 2021, just based on, you know, kind of the normal target or the normal run rate, that you have going into next year?
Kevin Stout (CFO)
Yeah, Todd, as far as incentive comp goes, it's, we're pegging the number to a one-time payout for 2020, which would be about $8 million. So we're putting up $2 million a quarter.
Todd Fowler (Managing Director and Equity Research Analyst)
Okay, sure, yeah.
Kevin Stout (CFO)
Assuming we hit exactly on our target for 2021, it'd be the same number,
Todd Fowler (Managing Director and Equity Research Analyst)
Yep
Kevin Stout (CFO)
... about $8 million annually. On stock comp, we're about between $3 million-$4 million this year, right at $4 million. I would expect the same thing for next year.
Todd Fowler (Managing Director and Equity Research Analyst)
Okay, good. That helps. And I, and I agree with you. Great quarter, and I know it's been quite a volatile environment, so nice job.
Kevin Stout (CFO)
Thanks.
James B. Gattoni (President and CEO)
Thank you.
Operator (participant)
Thank you so much. Our next question is from Scott Group of Wolfe Research. Your line is now open.
Scott Group (Managing Director and Senior Analyst)
Hey, thanks. Morning. So I want to ask just about some of the guidance pieces for the fourth quarter. Have you seen the flatbed volume and price inflect positive yet with van or not yet? And then I think I read that you're assuming the rates sort of stay flat from here. Is there a reason why you don't think they take another step up in at the end of the quarter, as we typically see around peak season?
James B. Gattoni (President and CEO)
No, I think I wouldn't—we—I don't think we're anticipating that they remain flat. I think seasonally, sequentially, we're expecting them to be normal. Typically, what you see from September to December is you do see some increase in rates, and I think we built that into the model. We are expecting, you know, I think on average, you see it from September, by the time you close out December, you're up maybe $80-$100 on a per load basis, and I think we did it, we did, we did, we did build that into the guidance. As to flatbed, you've seen the improvement sequentially, July, August, September. I don't believe we've seen it inflect positive yet, but it's still, you know, it's still soft as compared to where the van side is.
Bascome Majors (Senior Equity Research Analyst)
I don't think we expect that to pick up and stay relatively, you know, flat throughout the remainder of the year.
Scott Group (Managing Director and Senior Analyst)
Okay. The back above 50% net operating margins, do you guys think that's sustainable going forward, as long as the trends remain positive, or is there anything unusual from a cost standpoint that means that the margin should go back below 50?
James B. Gattoni (President and CEO)
No, I think Kevin explained some of the big variables we got, right? Which, you know, our bonus program is highly variable, right? But I think what he had said, that those should be consistent year-over-year into 2021. You talk about the incentive comp, no pressure there, right? That's not a tailwind or headwind. Those are relatively flat, so you're not feeling pressure on the margins there. Insurance clearly is a margin pressure with the $14 million more of premiums. That only started May 1, 2020, so you got some pressure there, but we feel like we've got enough ideas in our heads to kind of offset that, maybe not on the insurance line, but on various other lines within the P&L.
Bascome Majors (Senior Equity Research Analyst)
So I think if our gross profit stays elevated and stays, you know, we continue down the path that we're going with the growth and the performance we put through, yes, I think that 50% margin is achievable. Not maybe, I don't want to talk about quarterly, because the first quarter clearly is a softer quarter, and the infrastructure cost might push that below 40%-50%, I'm sorry. But on an annual basis, over a longer period of time, yes, I think that 50% is achievable and realistic.
Scott Group (Managing Director and Senior Analyst)
Okay, and then just last question, just on the sustainability of, of the cycle. You've, you've been a straight shooter over time, and I, I get your points about maybe the industrial demand hopefully getting better next year. What about on the supply side? Do you think that... Are you seeing signs of supply coming back as quickly, as it's come in prior cycles, or are there reasons why it's going to come back faster this time, slower this time? How, how do you think about the supply side of the equation?
Joseph J. Beacom (VP and Chief Safety and Operations Officer)
Scott, this is Joe. I think there's been supply that's been sitting on the sidelines, especially when you think about owner-operators and small carriers, which are the bulk of our capacity at this point. I think they've been around. I just think they've been a little bit sidelined or dormant or waiting for things to change, whether that's their-
Bascome Majors (Senior Equity Research Analyst)
... their ability to feel comfortable about operating in a COVID environment, or whether it's the feeling that the markets and the pricing and those kind of things have bounced back to the point that it's worth their while. I think a lot of them look at it as a cost-benefit type decision. As we've seen the demand improve and pricing improve pretty dramatically, I think you've seen a lot of carriers or owner-operators that were sidelined come back into the market. How much of that is left to go? It's hard for me to say that. It doesn't look, at this point in time, like there's going to be a lot of new truck production. From what little I've seen, it's going to be more about replacement levels in 2021.
So if that's the case, I think capacity remains tight, because I... but I, but it's not really clear as to how much is still out there that's, not coming back, and operating in this environment. I, I would think it's, it's not that much.
Scott Group (Managing Director and Senior Analyst)
Okay. Thank you.
Joseph J. Beacom (VP and Chief Safety and Operations Officer)
Yeah.
Operator (participant)
Thank you so much. Our next question is from Michael DiMattia of Wells Fargo. Your line is now open.
Michael DiMattia (Equity Research Analyst)
Hi, yes, good morning. You mentioned some of the declines in the industrial markets throughout the quarter, but it sounds like there is indeed a brighter picture shaping up for 2021. Could you sort of bucket the new growth opportunities and customer potential wins in terms of how to think about those businesses as we head into 2021?
James B. Gattoni (President and CEO)
Yeah, it's very difficult for us to get down to a customer level because we're highly diversified. If you think of our agent model with 1,200 agents all around the country, they're in all different customers. When we look at things, we kind of look at more of a broad array of sectors. We look at the sector level. We don't look necessarily down at the customer level because clearly, no customer is more than 3% of our revenue. I haven't looked recently, but generally, I know there's nothing 5%. And so when we look at it, it's really a sector thing. So you talk about end markets more.
Bascome Majors (Senior Equity Research Analyst)
We speak to more, what's going on in manufacturing, and especially on the machinery and metal side, you know, steel production and stuff like that. That's how we look at it. It's hard to drill into customers. Now, on the Substitute Line Haul, that's really customer driven. There's four or five heavy customers there, and like I said, to that sector is where, you know, we could experience softness there if things ease up on e-commerce, coming into next year. But it's really difficult for us to pull apart what our projections are at a customer level, because one single customer does not drive the business. It's really more, industry side and sector side.
Michael DiMattia (Equity Research Analyst)
Sure. Thank you. And just one follow-up, thinking about the supply side again. I think your BCO count inflected positive by 1% for the first time in five quarters, which still seems moderate... What sort of trajectory should we think about as we head into 2021, as the market continues to remain tight?
Joseph J. Beacom (VP and Chief Safety and Operations Officer)
Yeah, this is Joe again. I think we anticipate a little bit of growth still in Q4. In October, our net growth is about 100 trucks in October so far. So I don't think we'll continue at that pace for the rest of the quarter. I think it'll slow down. And then next year, I think the growth will be a little bit more modest, you know, maybe in that net growth, 100-200, somewhere in that range would be kind of where we sit now and what it looks like now, that'd be more of a achievable.
Bascome Majors (Senior Equity Research Analyst)
I think just given, given that I think things are going to stabilize, pricing is going to stabilize, volumes, will be what volumes will be once we understand how next year shapes up.
Michael DiMattia (Equity Research Analyst)
That sounds great. Thank you.
Joseph J. Beacom (VP and Chief Safety and Operations Officer)
Yep.
Operator (participant)
Thank you so much. Our next question is from Bascome Majors of Susquehanna. Your line is now open.
Bascome Majors (Senior Equity Research Analyst)
Yeah, thanks for taking my question today. I wanted to follow up on some of the cost items. Can you share with us the SG&A levels anticipated in the guidance? And maybe on a go-forward basis, is there any SG&A or operating costs you're taking on to... That is a partial offset to some of the commission savings from the buyout you're doing in 4Q?
Kevin Stout (CFO)
Yeah, Bascome, this is Kevin. I think in the fourth quarter, our SG&A line is going to be somewhere between $40 million-$42 million. That should be a pretty consistent number. If you look back over time, our numbers have been ranging probably $38 million-$42 million over time. I don't anticipate any significant increases. We might add a headcount here or there for the recruiting, but nothing significant going forward.
Bascome Majors (Senior Equity Research Analyst)
All right. So just like history, incentive comp will be the big variable to move that up if it.
Kevin Stout (CFO)
On the-
Bascome Majors (Senior Equity Research Analyst)
- if it needs to go up.
Kevin Stout (CFO)
On the SG&A line, yes.
Bascome Majors (Senior Equity Research Analyst)
Okay, um-
James B. Gattoni (President and CEO)
Hey, Bas, there's a couple of small things we got to think about as Joe starts to implement his plan over the centers, the operation centers. You know, there's probably a little. I mean, we're talking, you know, operating costs may be driving up $500-$1 million next year, right? It's small stuff, though. So, you know, the other thing that happened this year, if you're doing a comp year-over-year, if you're looking at 2020 compared to 2021, there are some expenses we didn't incur this year that will maybe roll back next year, right? We had an agent convention that we canceled, which is a couple million dollars that, you know, we did have some penalties we had to pay there, but you have that.
Bascome Majors (Senior Equity Research Analyst)
You also have, we have a BCO All-Star event that, you know, is $1 million over the summer that we had to, we canceled that one, too. And again, some penalties there we had to pay, but, you know, there's another $1 million-dollar, I would call it headwind. There's some nickel and diming into the P&L that will roll in next year. Travel, clearly, I don't think there's a company in the country that hasn't reduced their travel and entertainment expenses over the last, you know, since March. So we're going to have a little headwind there. And if you add all that up, in my head, you know, there's going to be some costs coming back in and the extent of, if I did it real quick in my head, $4 million-$5 million.
So but it's spread throughout each individual line item. And we'll try and manage to that. You know, we're not through our budget process, and we'll figure out whether we can, you know, reduce that. Well, yeah, it's a year-over-year thing, it's not a spending issue. And we'll see if there's other spots where we can kind of offset some of that. But right now, in my head, there's due to the pandemic, there's some year-over-year comps that are a little bit different than you would get in a normal year. But again, on the other side, you know, we did pay $12.6 million of BCO pandemic relief, where we paid the $50 to the agents of BCOs, we had that.
And then this year, clearly in the fourth quarter, we'll have another $15 million one-time charge for the buyouts of the commission incentive. So we've got a little bit of noise coming into next year, but I think I'd rather just kind of walk through what we know of as being the noise.
Kevin Stout (CFO)
I would add medical benefits to that, too.
James B. Gattoni (President and CEO)
Yeah.
Kevin Stout (CFO)
Because people stopped going to the doctor.
James B. Gattoni (President and CEO)
Yeah, yeah. It's incredible. Medical benefits dropped off during a COVID pandemic, but, you know, we had a favorable experience on, I guess, people just, but basically, if you just had a cold, you weren't going to the doctor, so we had that drop off. So there's some pieces in there, but I would still say it's maybe $4-$5 million of expense. And then we had about $30 million of one-time charge going the other way.
Bascome Majors (Senior Equity Research Analyst)
Yeah, thanks for walking through all that. That, that's helpful as we think about next year. Maybe moving up to the gross profit side of the P&L. I mean, on a per load basis, it looks like you passed the $300 mark again this quarter, which is, you know, quite a pickup from where the first half was. And you haven't really been there other than a very good year, which was 2008, where I think you were above that in each quarter and got as high as, you know, 313, 315 in your best quarters. I mean, from your other commentary, it sounds like you've seen more market positives than negatives in the next year. I just...
As we think about gross profit per load as a really key financial performance indicator for your business, you know, do you have any sense of where you think that can go and how high it needs to be before it feels like it's typically unsustainable?
James B. Gattoni (President and CEO)
Well, we know how high it can go because there's if you think about our business model, right, we're a mix of BCO and we're a mix of brokerage. And on a gross profit per load, the BCO gross profit per load is higher than the brokerage. And there's reasons for that, right? We have insurance costs, we have recruiting costs, we have a lot of things related to the BCO below the gross profit line that we don't have on the third-party truck side. There's you know, pretty significant cost to maintain an independent contractor network within this organization. So one of it is mix, right? So if you have more BCO than you have broker, you're going to have that consolidated gross profit per load going to elevate if there's more BCO than there is brokerage.
Bascome Majors (Senior Equity Research Analyst)
So that's a piece of it historically. So if you went back to when we were 60% BCO and 40% broker, you would have probably seen a higher gross profit per load. Let's just make believe that's all equal every year. So what drives it, since the BCO gross profit per load from a dollar perspective is really based on rate, you have to hit a certain rate, right? If it's $2,000 a load, we're going to be up around $2,000-$2,300 per load on a BCO side. You know, that's going to help lift that gross profit per load. But at the same time, rates coming up, we're feeling pressure on the broker side, and that gross profit per load is probably shrinking, right, a little bit.
So, and I think it's what we saw this quarter. We did, we did see it. We saw gross profit per load shrink on the broker side, yet we saw it expand on the BCO side. So it's a combination of those two things. I wouldn't say we're at a, we're at a very good number right now. I don't want to claim it's the top. There's clearly a, I mean, if you go to, if you're going to tell me we're doing $5,000 a load, yeah, we're going to, we're going to exceed the $300 by, by a lot. I wouldn't say there's a peak. I would say that we're pretty healthy right now on that number.
Into the fourth quarter, we could maintain or grow it a little bit, but let's just go with it's healthy now, and I don't know how high it could go or how high it will go. It's hard to project that out.
All right. So it sounds like, you know, the volume might be a bigger variable going forward than necessarily the unit gross profitability.
James B. Gattoni (President and CEO)
Yeah, because it, on the... Like I said, the BCO gross profit per load really varies with the revenue per load, and then the brokerage really is the either the expansion or compression of margins.
Bascome Majors (Senior Equity Research Analyst)
Thank you very much.
Operator (participant)
Thank you so much. Our next question is from Stephanie Benjamin of Truist. Your line is now open.
Stephanie Benjamin (Director Equity Research)
Hi, good morning.
James B. Gattoni (President and CEO)
Morning.
Stephanie Benjamin (Director Equity Research)
I apologize if I missed this, but did you provide your gross margin kind of expectations for the fourth quarter and what's embedded in the guidance and given the current environment?
Kevin Stout (CFO)
Hey, Stephanie, it's Kevin. My range is 14.5-14.8. We're showing a little bit more, going back to what Jim just talked about on the mix, a little bit more brokerage. Obviously, some tightening on the, in the capacity, so there's going to be a higher, brokerage PT rate in Q4, but the best range I came up with is 14.5-14.8 for Q4.
Stephanie Benjamin (Director Equity Research)
Got it. Thank you so much. And then just, just switching kind of to expectations for peak season, I think any, any company tied to e-commerce is expecting a pretty big year. But could you maybe, tell us a little bit about what other customers are saying, you know, as they look at fourth quarter and then also as they continue into the first quarter, just kind of expectations from a demand standpoint? Thanks.
Robert Brasher (VP and Chief Commercial Officer)
Sure, Stephanie, this is Rob. From the e-commerce and from the peak side of things, things continue to from a customer standpoint, they continue to be strong through the fourth quarter. Consumer spending continues to be high. Consumer based spending continues to be high. They don't feel that the traditional peak has even started yet, that we're kind of running at peak levels right now, and then they fully expect peak to start early and to continue on through the season. As it goes into the first part of the year, the customers that we deal with feel it's going to be strong. But again, it kind of depends on what happens within our economy, kind of the workforce, if people go back to work, things of that nature.
Bascome Majors (Senior Equity Research Analyst)
So there, there's kind of some unknowns going into the first of the year, but, but still continue to believe it's going to be strong.
Stephanie Benjamin (Director Equity Research)
Great. Thank you so much.
Operator (participant)
Thank you so much. Our last question in queue is from Scott Schneeberger of Oppenheimer. Your line is now open.
Scott Schneeberger (Managing Director)
Thanks. Good morning, everyone. Just curious on free cash flow, what type of expectation you talked a lot about the P&L this year going into next year. Curious what you're looking at as we move towards next year, some considerations for CapEx, needs for investments, perhaps technology investments? Thanks.
Kevin Stout (CFO)
Yeah, Scott, this is Kevin. Last 2019, free cash flow was $288 million. This year, our operating cash is in the $186 million year to date, so I'm expecting that to be just north of $200 million this year. As far as next year, I would say $200 million-$250 million would be a good guess as to operating cash flow for next, for 2021.
Scott Schneeberger (Managing Director)
Thanks, appreciate that. And then just curious, it's been touched upon in the last few quarters, but you had a write-down for cross-border Mexico in the second quarter, and just curious if you're seeing any pickup there, and then longer term, with the consideration of nearshoring going forward, what might we think about for that business down there? Thanks.
James B. Gattoni (President and CEO)
Yeah, it wasn't the write-down wasn't cross-border. Actually, the cross-border cross-border Mexico, we have a Laredo facility and six or seven cross-border locations along the north-south border of U.S. to Mexico. The write-down was actually for our Mexico entity that is really just intra-Mexico. It's a small business that does about $20 million, $15-$20 million of revenue. And so there was an impairment there, and it really had to do with intra-Mexico business at that Mexican entity. As it relates to the cross-border business, I think what we are experiencing is that southbound freight was kind of soft and northbound freight was picking up. Joe might be able to provide a little more depth into that, but, you know, it's, and that continues.
Bascome Majors (Senior Equity Research Analyst)
There's a little bit of imbalance with capacity, as you know. If southbound is soft and northbound is picking up, you just get truck imbalance, and Joe's team works through that, so Joe might have better commentary.
Joseph J. Beacom (VP and Chief Safety and Operations Officer)
Yeah, Scott, absolutely true what Jim stated. There's an imbalance. There was also quite a bit of congestion at the border in the early stages of COVID, in through, probably through June. We've started to, just because Mexico, I think, was a little bit hit a little bit harder in certain areas, and it's been a little bit slower to recover. So you had a lot of congestion of trailers at the border, customers or vendors not open, and that kind of thing. A lot of that is starting to come apart, and we're getting things delivered and getting back a little bit more normalized.
Bascome Majors (Senior Equity Research Analyst)
And then we've seen the volumes down there, when you look at northbound and southbound combined, continue to get better from, flat in July, 6% in August, and 8% in September growth. So, starting to loosen up and, improve as you would expect. And as things continue to, get a little bit more parity with what's going on in Mexico from an operational perspective relative to the COVID, I think you'll see it get even more normalized.
Scott Schneeberger (Managing Director)
Great, thanks. Appreciate all the color, guys.
James B. Gattoni (President and CEO)
Yep.
Operator (participant)
Thank you so much. We have one more question from Jack Atkins of Stephens. Your line is now open.
Jack Atkins (Managing Director and Senior Research Analyst)
Okay, great. Thanks for the follow-up, guys. Just a couple of additional questions here. You know, I guess when we think about capital allocation from here, Jim, I mean, I would just be curious to get your sense for, you know, how you and the board are thinking about, you know, buybacks versus dividends. I mean, there's some potential tax policy changes that could be on the horizon, depending on how the election shakes out. You know, you guys are in a great position with a net cash balance. How are you sort of weighing all that? I know you did a special dividend that was paid in January. Any thought to maybe doing another special dividend this year, or is it just too hard to tell at this point?
James B. Gattoni (President and CEO)
Yeah, Jack, those discussions actually happen December. You know, we'll have those discussions with the board. I would, I would anticipate we're not going to change our philosophy of where we stand. I do think, even, even though we're coming out of a very strong environment right now, and we anticipate that strong environment to continue, let's be serious, that the, the environment has been... is, is three months old right now. So I, I think there's still a little unpredictability. So, we prefer the share buyback program, clearly. But, you know, if we end up at the end of the year with excess cash on the balance sheet, you know, we're going to do what we've done historically, you look at is it dividends or buybacks? And so that's what we'll have our discussion about in December.
Bascome Majors (Senior Equity Research Analyst)
You know, we'll look at market conditions and where we think 2021's playing out. And we'll consider any tax implications also. I think if you look back when, when there was going to be a proposed increase in the taxes on dividends back, I think it was end of 2012, we actually cut a pretty big dividend check. So we'll be watching the election and what we think is going to happen with tax rates. Also, look at what our cash flow looks like for next year and what market conditions look like.
Jack Atkins (Managing Director and Senior Research Analyst)
Okay. Okay, yeah, that, that's great. And then I guess maybe a last question also. There's a capital allocation bent to it. But, you know, just curious how you guys are thinking about your trailer pool. You know, I think given the freight backdrop, you know, we continue to hear about just a pretty significant shortage on the trailer front. You know, do you feel like your trailer pool gives you a pretty strong competitive advantage relative to other asset-light players? And is there any thought to maybe investing incremental capital there, just, you know, given the demand outlook, perhaps over the next 6-12 months?
Joseph J. Beacom (VP and Chief Safety and Operations Officer)
Yeah, Jack, this is Joe. Yeah, so in the third quarter, just to kind of make your point a little bit, about 35% of our total truck volume was on a Landstar trailer. And about 70% of our BCO revenue is on a Landstar trailer. So clearly, an important part of the model. We think we are in very good shape as it relates to the number of trailers that we need to support our business. And we've continued to operate on the philosophy that for every BCO that is pulling a company trailer that enters the fleet, we provide two trailers, right? And I think that's the philosophy that we'll continue to utilize. Our trailers are very new. They show very well.
Bascome Majors (Senior Equity Research Analyst)
We've got a great tracking technology, and it helps us keep our maintenance in line. So, I think that's... We feel pretty comfortable as we see the BCO fleet grow. We've been pretty effective at getting new equipment built and delivered in time for peak, and those kind of things. So, I think we'll continue to operate on that basis.
Jack Atkins (Managing Director and Senior Research Analyst)
Okay, that's great. Thanks again.
James B. Gattoni (President and CEO)
And Jack, and the other thing, too, is, you know, we kind of roll out our trailers every seven years, so it's a replacement cycle. The two things we look at as to spending on trailers is, we try to anticipate what our BCO count's going to look like three months out and add trailers based on that. And then, you know, replacement cycle is about seven years.
Jack Atkins (Managing Director and Senior Research Analyst)
Okay, great. Thanks, Jim.
James B. Gattoni (President and CEO)
Yeah.
Operator (participant)
Thank you so much. At this time, I show no further questions. I would like to turn the call back over to you, sir, for your closing remarks.
James B. Gattoni (President and CEO)
Yes, thank you, and I look forward to speaking with you again on our 2020 year-end earnings conference call, currently scheduled for January 28th. Have a good day.
Operator (participant)
Thank you so much for joining the conference call today. Have a good morning. Please disconnect your lines at this time.