Landstar System, Inc.

Good morning and welcome to Landstar System, Inc.'s second 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. Gattoni. Sir, you may begin.

Thank you, Missy. 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. Statement made during this conference call that are not based on historical facts or 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 is by nature subject to uncertainties and risks, including 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 that differ materially from historical results or those anticipated. 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. Near the end of Landstar's first quarter, the COVID-19 pandemic began to have a significant adverse impact on the U.S. economy. The rapid decline in industrial output that began in mid-March accelerated into April and carried through most of the second quarter. Although conditions in the industrial markets Landstar serves improved somewhat in June, The 2020 second quarter experienced the most significant and rapid reduction of U.S. industrial output in decades. The company's truckload volume began to experience the adverse economic impact caused by the pandemic in late March, when state and local governments began to issue shelter-in-place mandates and manufacturing facilities started to close. Several weeks later, as truck capacity began to loosen due to the severe reduction in demand, revenue per load on loads told via truck began to rapidly deteriorate. These conditions persisted through April and most of May, followed by relative volume and pricing improvement in June that has continued into the first few weeks of July. At the beginning of the crisis, the response to the pandemic generated high demand for perishable consumer goods and must-needed medical supplies, while the U.S. manufacturing sector began closing facilities and furloughing workers. The speed at which the freight environment deteriorated at the end of the first quarter was like nothing experienced in the history of the company. In the second week of April, Landstar's dispatch truck load volume reached a peak decrease of almost 27% below the same week of 2019, yet only four weeks prior was actually 1% above the comparable prior year week. A few weeks later, the downturn in revenue per load on load-solving a truck peaked at almost 13% below the same week of 2019. The peak decrease in volume in the second week of April reflected the extensive closure of automotive plants and suppliers throughout the United States. To provide some additional context, automotive sector loadings, which typically contribute approximately 8% of total Landstar revenue, experienced a decrease in dispatch volume of over 83% in the second week of April compared to the same week of the prior year. Other large declines in load volume during that week were seen in our other top commodity sectors, with building products, machinery, metals, and consumer doorables down 28%, 36%, 40%, and 20% respectively. Those five commodity groups in general contributed 56% of loadings in the 2020 week compared to 63% of the company's loadings in the 2019 week. Since the peak decrease in truckload volume in the second week of April, both the number of loads and revenue per load on loads sold via truck have shown significant improvement. In June, the number of loads hauled via truck was 9% below June 2019, and revenue per load on loads hauled via truck was 6% below prior year June. Thankfully, LandSquare's variable cost business model is highly resilient to rapid expansion and contractions in demand for freight transportation services. In the 2020 first quarter earnings release, we described the impact on earnings under a scenario where revenue was assumed to decrease from 20% to 30% compared to the 2019 second quarter. Under that hypothetical scenario, we said we would anticipate diluted earnings per share to be in the range of $0.70 to $0.85. That diluted earnings per share estimate did not reflect several expenses that took place in the second quarter. First and foremost, we implemented a pandemic relief incentive program for Landstar VCOs and agents. As we discussed during our first quarter earnings conference call on April 23, 2020, under this program, for every load delivered by a VCO in April, Landstar would pay $0.50 Thank you for joining us. We received tremendous positive feedback on the importance of this program in fortifying our network and ultimately extended the relief effort through the month of May. Overall, the cost of this program was $12.6 million, or 25 cents per diluted share, in the 2020 second quarter. Second, the scenario we described did not account for asset impairment charges related to the company's Mexico operation of $2.6 million, or 5 cents per diluted share. This impairment charge primarily related to intangible assets associated with our intra-Mexico business, that were acquired as part of a small acquisition we did in Mexico several years ago. Third, we did not anticipate insurance premiums would increase beginning in May at a rate of approximately $1.1 million per month, or $0.05 per dilution in the 2020 second quarter. As you may be aware, recent annual premium increases to ensure commercial auto liability for trucking companies have exceeded 200% in some cases. LASTA renews its insurance policies each year on May 1. For the policy period May 1, 2020 to April 30, 2021, lands for aggregate premium expense payable to third-party insurance companies for commercial auto liability coverage increased over 175% compared to the premiums we paid for the May 1, 2019 to April 30, 2020 policy period. This increase in our premiums will continue to be an additional headwind to us throughout the rest of the year. Overall, after taking into account these three items, 2020 second quarter earnings aligned with what we anticipated under a scenario that involved a 20% to 30% reduction in revenue. Beyond the financial impact, the COVID-19 pandemic has had tremendous operational impact on our business. The health and well-being of the members of our network, the company's over 1,200 employees, 10,000 BCOs, 1,200 agents and their staffs, and over 25,000 customers and 54,000 other third-party capacity buyers have always been part of our safety first culture and will remain priority during these complex times. During March, it became clear that Lancaster needed to address potentially unprecedented operational challenges that could result from the pandemic. As essential business, we took actions to ensure freight continued to be delivered safely and on time while we maintain appropriate measures and protocols consistent with applicable guidelines provided by health authorities and various government agencies as well as customers. As it relates to the health and safety of our employees and business continuity, We successfully transitioned almost 1,000 of our more than 1,200 employees to work at home. We continue to operate with over 80% of our employees working remotely. The transition to remote work was and continues to be highly successful, even though remote work was new to almost the entire Landstar employee base. As it pertains to the company's transportation network, we expected that the sudden decrease in demand in late March caused by industry closures and shelter-at-home orders would result in the disruption in the daily routines of many of our company's BCOs and agents. We implemented the Pandemic Relief Incentive Program I already spoke about to help our BCOs and agents. We also emphasized open and ongoing communication with our BCOs and agents to keep everyone informed and working together throughout the downturn. We believe our support efforts through the crisis greatly contributed to the maintaining the health of the Lancelor network. In the midst of the pandemic, BCO utilization in April and May were at the lowest April and May utilization rates in over 10 years. Even during that challenging operating environment, BCO turnover during April and May was slightly better than historical trends. In June, continuing into July, BCO utilization significantly improved but remained somewhat below historical levels. Nevertheless, BCO truck count grew by 187 trucks during the second quarter from 10,112 at the end of March to 10,299 at the end of June. On the agent front, the majority of the agents within our network also operate variable cost business models that help protect them from the sudden significant shifts in market conditions. Agent turnover within our existing agent base continues to be very low. Recruiting of productive agents, however, has become increasingly difficult in this environment due to the inability to personally interact with prospects and the sharp down in freight demand. During the 2020 second quarter, we did not purchase any shares of the company's common stock. Consistent with what I said during our 2021 Go to Earnings topic call, we believe it is prudent to conserve cash until the duration and depth of the crisis becomes clear. Although the level of industrial output has stabilized in the back half of June and the first weeks of July, any adverse government or industry action to the increased spread of coronavirus could disrupt the recent market improvements. Until we have sustained stability in freight demand and economic performance, we will continue to be prudent in our usage of cash. You will note, though, that we announced in our earnings release that our board increased Landstar's regularly courted dividends by 0.025 cents per share, or 13.5% over the amount of the company's regularly quarterly dividend declared following each of the prior four quarters. There is no question that we remain in a highly uncertain environment due to the coronavirus pandemic and the possibility that economic conditions could again rapidly deteriorate due to the spiking number of cases, government actions, and business closures and bankruptcies. Nevertheless, based on the current trends, our 2020 third quarter revenue guidance assumes that the industrial output will remain stable and truck capacity tightening on a sequential basis, but more readily available throughout the quarter as compared to the prior year quarter. Considering with recent trends in truck rate and volume, we expect the number of load stalls and revenue per load on load stall via truck to each be below the 2019 third quarter in a mid-single-digit percentage range. As such, we expect revenue in the 2020 third quarter to be in a range of $885 million to $935 million. Our earnings guidance also assumes third quarter gross profit margin will be in a range of 15.2% to 15.4%, similar to the gross profit margin of the 2020 second quarter prior to giving effect to the $12.6 million pandemic incentive we paid in the aggregate in April and May. A third quarter guidance reflects, as well, insurance and claims costs at 4.8% of estimated VCO revenue for the quarter. Over the past several quarters, we have seen the cost of insurance and claims increase as a percent of VCO revenue due to the increased cost of settling individual claims. As I previously discussed, Lansdor experienced an increase of over 175% in its annual commercial liability premiums beginning in May. This increase to the fixed cost component of our insurance and claims costs on an annual basis It is approximately 80 basis points to the 4% historical average we previously used to estimate insurance and claims costs as a percent of BCR revenue. Based on these assumptions, our estimate of 2020 third quarter dilution rates per share would be in a range of $1.11 to $1.17. When we take a longer term view of the possible impact of Lansdor on the economic downturn associated with COVID-19 pandemic, We believe the resilience of our light asset-based, right-of-cost business model will continue to generate outstanding returns over time relative to the overall environment. The significant percentage of our costs tied directly to revenue somewhat insulates the Landstar business model from significant downturns in freight and typically generates positive cash flow throughout most business cycles. We continue to believe Landstar is well-positioned with a strong balance sheet and expect positive cash flow generation throughout this cycle. In the past 20 years, the Landstar model has generated positive cash flow every year but Thank you, Jim.

Jim has covered certain information on our 2020 second quarter, so I will cover various other second quarter financial information included in the press release. Gross profit, defined as revenue less the cost of purchase participation and commissions to agents, was $113.1 million and represented 13.7% of revenue in the 2020 second quarter, compared to $158 million, or 15.1% of revenue, in 2019. Included in the 2020 second quarter is the impact of approximately $12.6 million paid to BCOs and agents in April and May under the company's previously disclosed Pandemic Relief Incentive Program. Excluding the effect of these payments, gross profit in the 2020 second quarter was approximately $125.7 million, or 15.3% of revenue. The cost of purchased transportation was 77.1% of revenue in the 2020 second quarter versus 76.5% in 2019. Excluding the cost of deep payments under the Pandemic Relief Incentive Program to BCOs, the cost of purchased transportation was 76.4% of revenue in the 2020 quarter. The PT rate paid to truck brokerage carriers in the 2020 second quarter was 37 basis points lower than the rate paid in the 2019 second quarter. Commissions to agents as a percentage of revenue were 9.1% in the 2020 second quarter compared to 8.4% in the 2019 second quarter. Excluding the cost of payments under the Pandemic Relief Incentive Program to agents, commissions to agents as a percentage of revenue was also 8.4% in the 2020 second quarter. Other operating costs were $7.4 million in the 2020 second quarter compared to $9.9 million in 2019. Visit decrease was primarily due to decreased trailing equipment rental costs, decreased BCO recruiting costs, decreased contractor bad debt, and increased gains on sales of trailing equipment. Insurance and claims costs were $19.8 million in the 2020 second quarter compared to $16.3 million in 2019. Total insurance and claims costs for the 2020 quarter were 5.2% of BCO revenue compared to 3.4% in 2019. The increase in insurance and claims expense compared to the prior year was primarily due to increased insurance premiums incurred in 2020 for commercial trucking liability coverage following the company's May 1, 2020 insurance renewal, increased net unfavorable development of prior year's claims, and increased severity of current year claims in the 2020 period, partially offset by reduced frequency and BCO miles in the 2020 period. The impact of the May 1 insurance renewal will add approximately $3.4 million to the fixed portion of insurance expense in both the company's third and fourth quarters. Selling general and administrative costs were $40.6 million in the 2020 second quarter, compared to $41.3 million in 2019. The decrease in selling general and administrative costs compared to prior year was attributable to decreased agent convention costs and decreased stock-based compensation expense, partially offset by an increased provision for incentive compensation, an increased provision for customer bad debt, and increased costs related to the company's technology initiatives. Stock compensation expense was $570,000 and $1.4 million in the 2020 and 2019 second quarters respectively. The provision for incentive compensation was $2 million in the 2020 second quarter compared to $873,000 in the 2019 second quarter. Quarterly SG&A expense as a percent of gross profit increased from 26.1% in the prior year to 35.9% in 2020. Depreciation and amortization was $11.5 million in the 2020 second quarter compared to $11 million in 2019. This increase was primarily due to increased IT-related depreciation. The impairment of intangible and other assets charge of $2,582,000 during the 2020 period was due to the impact of negative macroeconomic trends in Mexico on customer-related intangible assets acquired in September of 2017, resulting in current financial projections relating to these intangible assets to be substantially below those originally anticipated at the acquisition date. Operating income was $32.2 million or 28.4% of gross profit in the 2020 quarter versus $80.9 million or 51.2% of gross profit in 2019. Operating income decreased 60% year-over-year. Excluding the impact of the pandemic relief incentive payments to BCOs and agents, operating income was $44.8 million, approximately 45% below the 2019 second quarter operating income. The effective income tax rate was 22.3% in the 2020 second quarter compared to 23.8% in 2019. The effective income tax rate was impacted by excess tax benefits relating to vesting of equity awards to employees in both periods and by higher than anticipated state tax refunds in the 2020 period. Looking at our balance sheet, we ended the quarter with cash and short-term investments of $282 million. Year-to-date cash flow from operations for the 2020 second quarter was $198 million. and cash capital expenditures were $20 million. There are currently 1,821,000 shares available for purchase under the company's stock purchase program. Back to you, Jim.