Excuse me, everyone, we now have our speakers in conference. [Operator Instructions] I would now like to turn the call over to Richard Cribbs. Please begin. .

All right. Thank you, Victoria. Good morning. Welcome to our second quarter conference call. Joining me on the call this morning are David Parker and Joey Hogan. As a reminder, this conference call will contain forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995.

Forward-looking statements are subject to risks and uncertainties that could cause actual results to differ materially from those contemplated by the forward-looking statements. Please review our disclosures and filings with the SEC, including, without limitation, the Risk Factors section in our most recent Form 10-K.

We undertake no obligation to update or revise any forward-looking statements to reflect subsequent events or circumstances..

A copy of our prepared comments and additional financial information is available on our website, at covenanttransport.com, under the Investors tab. Our prepared comments will be brief, and then we will open up the call for questions..

our truck load division's revenue, excluding fuel, increased 12.5% to $145 million, due primarily to a 14.2% increase in average freight revenue per tractor, partially offset by a $3.3 million year-over-year reduction in intermodal revenues.

Versus the year ago period, average freight revenue per total mile was up $0.239 per mile or 14.7%, and our average miles per tractor were down 0.4%.

Versus the prior year quarter, freight revenue per tractor at our Covenant Transport subsidiary experienced an increase of 13.1%, our SRT subsidiary, experienced an increase of 18.3% and our Star Transportation subsidiary experienced an increase of 10%.

The truck load division's operating cost per mile net of surcharge revenue were up approximately $0.076 per mile compared to the year ago period. This was mainly attributable to higher employee wages, casualty insurance claims cost and acquisition related expense.

These increases were partially offset by lower net fuel cost and net depreciation expense as we recognized a small gain on disposal of equipment totaling $400,000 in the second quarter of 2018 versus a loss of $2.1 million in the second quarter of 2017..

The truckload operating ratio was 91.9% in the second quarter of 2018 compared with 98.2% in the second quarter of 2017.

Our managed freight division increased revenue by 53.4% versus the year ago quarter, purchased transportation increased as a percentage of revenue, while other operating expenses decreased as a percentage of revenue, resulting in an OR contraction to 90.9% from 90.5% in the year ago quarter.

With the revenue growth, the result was an increase of operating income contribution to $2.3 million in the current year quarter from $1.6 million in the prior year quarter..

Our minority investment in Transport Enterprise Leasing contributed $1.8 million to pretax earnings or $0.07 per share. The average age of our tractor fleet continues to be young at 2.1 years as of the end of the quarter, slightly improved from 2.2 years a year ago..

Between December 31, 2017, and June 30, 2018, total indebtedness net of cash, and including the present value of off-balance sheet lease obligations, decreased by $56.2 million to $163.9 million. This subsequently increased to approximately $269 million pro forma for the acquisition of Landair and its subsidiaries announced July 5, 2018..

significant improvement in the operating profitability at our covenant and SRT truck load subsidiaries; two, a 14.2% increase in average freight revenue per truck versus the same quarter of 2017; three, generating an additional $31.3 million of cash to deploy towards the Landair acquisition as well as utilizing previously unencumbered revenue equipment to fund the balance, resulting in low-cost financing and increasing our future earnings, cash flow and potential revolver availability on a post-transaction basis; four, improved year-over-year earnings from our investment in Transport Enterprise Leasing; and five, our tangible book value per basic share increased 31.8% to $17.09 from $12.97 a year ago..

The main negative in the quarter was the increased truckload operating cost on a per-mile basis, including unfavorable employee wages and casualty insurance claims cost as well as Landair acquisition-related expenses, partially offset by lower net fuel cost and improved net depreciation expense..

Our fleet experienced an increase to 2,632 trucks by the end of June, a 56 truck increase from our reported fleet size of 2,576 trucks at the end of March. A large portion of this growth was a 27 truck or 10.8% increase of independent contractor trucks to 276 trucks by the end of June from 249 trucks at the end of March.

Our fleet of team driven trucks averaged 878 teams in the second quarter of 2018, almost a 2% decrease from 894 average teams in the first quarter of 2018..

We expect the overall balance of business conditions to remain favorable through the second half of 2018 and into 2019. Freight demand has been and remains exceptionally strong across our business units, and indications from our holiday peak season customers indicate robust expectations for the fourth quarter.

From a capacity perspective, attracting and retaining highly qualified over-the-road professional truck drivers remains our largest challenge. Low unemployment, alternative careers and an aging driver population are creating an increasingly competitive environment.

The market for used tractors and trailers is expected to generate moderate gains on our dispositions of equipment over the remainder of the year.

In this environment, we continue to work actively with our customers to improve driver compensation, efficiency and working conditions, while providing a high level of service and generating acceptable financial returns.

We intend to continue to allocate our assets where the returns are justified and use our managed freight units to supplement our internal capacity..

Our acquisition of Landair was aligned with our stated 2018 strategic initiative of becoming closer to our customers. Along with the acquisition, we have increased our capital allocation to organically grow our dedicated truckload, 3PL and other managed freight solutions.

Immediately subsequent to the Landair transaction in early July, the percentage of our truckload fleet operating under dedicated contract was approximately 1,400 trucks, representing 46% of our fleet. This compares to a year ago when only approximately 650 of our trucks or 25% of our fleet operated under dedicated contracts.

We believe the dedicated contract fleet provides a stronger partnership with our customers as we integrate deeper into their supply chains, offers more consistent and seasonally manageable freight volume, reduces earnings volatility of the cyclical freight economy and provides a drivers' experience -- a favorable drivers' experience for professional drivers who desire greater consistency..

From an earnings perspective, we expect our consolidated OR for the third quarter to be similar to our consolidated OR for the second quarter, but with the addition of revenue from Landair's operations.

For the fourth quarter, we expect to remain a major participant in the holiday peak season and anticipate our consolidated OR and consolidated earnings per diluted share to improve compared with the fourth quarter of 2017.

However, due to changes in team versus solo-driver mix, dedicated versus irregular route capacity availability and managed freight capacity as well as the need to complete purchase accounting entries related to the Landair transaction, we are not offering more specific earnings guidance.

In addition, our prior comments about expectations for the second half of 2018, including percentage rate improvements versus prior periods are superseded..

Thank you for your time. And we'll now open up the call for any questions. .

[Operator Instructions] Our first question comes from Scott Group with Wolfe Research. .

It's Rob on for Scott. Could you give us a sense what you guys are planning with regard to fleet growth in the second half of the year? And kind of which I would imagine you're going to continue to allocate them to the dedicated arena. But would love to get a little bit more color in terms of your plans in the fleet. .

Hey Rob. This is Joey. It's -- I would say it's going to be the same type of [ fleet ] as you've seen in the first half. The total might grow a little bit in the third quarter, but I don't want to say, again excluding Landair, I mean the fleet consolidated [indiscernible] might go up but just say existing businesses.

Looks like there might be a little growth, but it's going to continue to be -- you're going to see dedicated grow faster and coming out of the one-way side as you saw it in the first half. So I wouldn't say it's going to be large -- it could be 50 trucks or so, maybe 100 depending on the owner-operator growth that we've been experiencing. .

And previously, you'd been expecting a deceleration in the pricing improvement in the second half.

I realize there's a lot of changes going on with mix, but if you're just looking at your broader market expectations, could you lay out a framework of how you guys are thinking of the second half this year as well as kind of early expectations for 2019 at this point?.

It's David, Rob. To make sure I'm answering your question correctly. If you were to look at the base of our customers, there is no doubt that the first half of the year, as we all know, mostly in the second quarter is when we get a lot of our large national accounts that we negotiate every year. So it's always a big improvement there.

And we will not be going back to those customers in the second half of the year of course, until next year. I would say there's probably about 20% that we do on a yearly basis. So that will be in 2019. So I expect that the second half of the year, we only have probably about 15% of our customers that are due for a yearly increase.

So that said, you're not going to be as high on those accounts because you just don't have enough of them compared to the first half of the year.

And then the, peak season starts in, and I do think that as we're sitting here today is that I think the pricing in the peak season is going to be a very strong fourth quarter because remember, in September, we got the hurricane. We got the hurricane event. And unless there's another hurricane, that's going to be a headwind from a rate standpoint.

So that said, there's going to be improvement. That's not going to be dramatic, unless I can sit here and say that the hurricane increases the fourth quarter peak offsets the hurricane increases. And that's probably what will happen, but it's not going to be anything up and above that.

So it won't be dramatic on a sequential basis year-over-year on a yield basis, on a revenue per trucks basis, we're still looking at double-digit kind of numbers. .

And should we be thinking about any sort of impact on the rate with regard to mix from the Landair acquisition?.

Yes. We're still going through those numbers. And until we get through all the entries related to opening balance sheet and complete our pro formas, we really don't have a good guidance on that. .

[indiscernible] I was going to answer that 2019, if that -- whatever you want Rob. .

Yes, no. I'd love to get a little bit of perspective in terms of your early expectations for 2019 and that's my final question here. I'll hop back in queue. .

Okay. I really think that 2019 from a rate environment is going to be a solid year. Is it going to be 14% increases like we got this year? Probably not. I'm not expecting that. But I do think that you're going to be in that 7% to 8% kind of number.

I think that that's a very possible number that we ought to be able to work on in 2019 and then, some market is stronger to allow us to do a little bit more, but I think that 7% to 8% is kind of a number. .

Especially, if peak is as tight as we think it's going to be. .

Our next question is comes from Kevin Sterling with Seaport Global Securities. .

Let me -- if you can help frame something for me. Kind of what we're seeing today in the current environment, compare this to 2003, 2006 and maybe even 1992 to 1994, which are 2 of the last multiyear freight cycles.

If you could kind of touch on some of the similarities and differences? And if anything makes -- potentially makes this cycle different than the previous cycles or similarities? I'd love to hear that because seems like there's some peak-cycle fears out there in the market.

But would just love to get your perspective since you guys have been doing this longer than I have. Kind of this cycle today compared to previous cycles, if you don't mind. .

there is no -- nobody's got a driver, drivers are still very difficult to go. Us that are raising driver pay, if you raise it a little bit more than the next one you're going to steal from somebody. So therefore, I get 56 trucks running. And then secondly, the economy is going to be strong, in my opinion, for the next couple of years.

And I think it sets up for what we're seeing today to continue. .

Kevin, I think one thing I might add is that if you look at all these periods you mentioned here, 1994, '03, '06, I don't think you mentioned '14, but let's throw '14 in there, if you look at the relative length of those, other than that '92 to '94 period of time, which was kind of in that birth of the industry, incredible economic period, you can see a period of time -- let's call it 2-ish years in that period of time.

As you look at '14 and '18, you've got 2 periods within 4 years of each other all of a sudden. And so I think the question comes is what's causing that and '14 when the economy wasn't good, '18 the economy's really good. So there's 2 things that I think, and David kind of touched on them.

There's 2 things that go to your question, is [indiscernible] economy, which, who knows? We all agree here that it's in good shape and it's going to continue at least through '19 only because it seems like a long period of time historically speaking. Could it go longer? It could. It could.

But then second, I'll call it the freight market -- not freight market but the industry, meaning the drivers' side.

And if we can -- I don't want to say solve, but if we can continue to address how do we attract more people to the industry, or is it going to continue to be significant headwinds in the industry, we continue to feel there's going to be -- continue to be significant headwinds in the industry.

And so all those drivers kind of moving around from to carrier to carrier, from group to group. And so we think that over the foreseeable future, which could be a couple of years, the industry pricing wise because it has to. It has to. Pricing wise is continuing to be good because it has to.

And can technology disrupt that with a lot of things that are swirling around out there whether it's on the equipment side? Possibly. But I think it's got a ways away yet before we see the fruits of that investment. And I think they're pretty neat and they're coming, but I think it's a while before we see any kind of measurable results to that.

So I think the economy is good. Whatever everybody's view on the economy is going to be plus everybody's view or your view on the driving market. Are we able to grow driving opportunities or attract driving opportunities from other industries and the low unemployment when all those wages are going up too. It's a challenge.

And so we think there's going to be restricted capacity for a while in total. So -- which means, if your view on the economy is good, I think speak well from the pricing side, which allow us to pay our drivers more, which we've got to. Long term, we've got to. .

I really appreciate your insight. Let me kind of ask it maybe a little bit different way too because it talks about -- you talked about the shippers and your customers.

And obviously, you've seen this tremendous growth in dedicated, it seems like to me from the shipper community they're nervous too for the next couple of years and they're looking like how can I lock in capacity, which is why you're seeing this growth in dedicated.

So as you have these conversations with your customers and the shipper community, are they kind of realizing like oh my -- oh my gosh, it's going to be tight for the next couple of years, and you see them move to more dedicated.

What are your customers saying too about this environment?.

one, that it's happening as we speak, nothing except ELDs. And that is -- that 500, 550 miles to 750-mile length of haul is the biggest problem that the customers have out there. They were used to getting that freight handled overnight in a 1-day service environment.

And today it's either expedited or it's a 2-day service environment and every meeting I go to, they're extremely concerned about the "tweener" side of their business. And so there's a big hole created by ELDs that's there.

The second thing in discussions that we're having ongoing with all of our customers is that they are very fearful and very concerned about peak season. And I am, too. I am, too. I don't know the peak season is going to be difficult. We are a virtually at 100% capacity as we stand out there today.

And to think that how do we gear up to take 120% or 125% of capacity. We got -- it's going to be a very difficult job this year and we'll figure it out and we'll get by, just don't know what the price is going to be to get that by. And so we're having deep conversations with all of our customers. But it's not us -- I mean, they've been coming here.

It's not us running down to say, "What are we going to do?" These customers are extremely concerned, and they are living it each and every day right now as we speak. .

I think one thing I'd add to that, Kevin, is if you think about peak particularly, just in -- and a microscope on that, with this growth, you started your question on the dedicated side. What that's doing is it's taking available capacity out exponentially that's available for peak. So shippers lock up that capacity across all of the carriers.

They're asking for that capacity so then the shippers that are there that are needing peak capacity in a tight freight market, in a good economy, it's exponentially less. And so it's going to be -- and the trucks are less than what the non-dedicated side are moving very, very good.

So it's setting up for a concerning peak from a capacity standpoint because you've got to [ rate ] year-round 52-week -- 52-week customers that are depending on you for service, your dedicated capacity is gone. That runs -- and so that's out. You don't have any options with that.

So what's left and I keep using that word exponentially less because of this capacity growth. Now we do some company-specific things to generate some capacity, which we will but we just know our available capacity for peak is much less than it was last year. .

Okay. Great. And last question here. As the quarter progressed sequentially, how did it look? I assume May was better than April and June better than May.

How is July shaping up for you guys?.

Right. Yes. I'm going to tell you, I haven't looked at the numbers since we started the company, so I can't answer like in my mind, like 1994. But July may go down as the best July from a freight environment standpoint that we've ever had. I mean, it's been extremely strong. And you're right.

April, May, June -- I said May and June are very, very similar in those 2 months. They just built off of April. And April was a good month. So I'm just very pleased. But July, I mean, there's no doubt I mean, we have a July 4. If we didn't have a July 4 I'd say it's just like June. But we had a July 4 and I can't get away that July 4 was on a Wednesday.

And not from a freight environment, we couldn't pick up the freight. I'll tell you one thing that's happening and I don't blame our drivers. I don't blame them. But one of things that's happening is that out here in the country used to drivers would go home on Thanksgiving and Christmas. That's when we had to get our professional drivers home.

But let me tell you, today -- and I don't blame them a bit, they want to be home when me and you are at home.

They want to be home for Mother's Day, they want to be home for Father's Day, they want to be home for July 4, and that is something to the industry is really having to get its hands around because not only does a holiday hurt, it takes you -- they get here 24, 48 hours before the holiday and it's 2 or 3 days after the holiday before they're able to get back out on the road, and us truckers are having to figure out what we're going to do about it and so that's a difficulty but I'm very pleased.

I didn't mean to get on that, Kevin. I'm very pleased with the month of July. .

I got you. It makes sense. It's good to see it strengthen because usually July is seasonally slow for the calendar year so it's really good to hear that. I will tell you if I'm not home for Mother's Day either I'm in trouble. .

I guarantee you. And it's funny, we're finally acting like these drivers have a life besides driving a truck. .

But that's a good thing. .

That's a good thing. .

Our next question comes from Brad Delco with Stephens. .

It's actually Scott Schoenhaus on for Brad. David, Joey, Richard, you noted in your release that the solo driver refrigerated segment posted its best OR since second quarter 2012.

Can you guys give more color on how much more room there is to go on this improvement with SRT and the cadence of improvement? What it could look like in the next few quarters, especially post-ELDs?.

Yes. Thanks, Scott. There is still some improvement left. We've kind of targeted a minimum -- it's another couple hundred basis points opportunity there. They were in the low-90s in the second quarter. Let's call it, I think there's at least another couple of points there. I think it's a combination of several things.

Still working through the tailwinds of equipment kind of refresh as well as well as carrying too much equipment that will be out pretty much done by the end of the third quarter. There's some efficiency improvements we're really working on, on the tech side, to help them with the refrig product itself.

This guy who's carrying a little extra overhead to get us through some day-to-day blocking and tackling that -- this will help us come on the way on the technology side. I think that also, there's still a little bit more capacity we've already talked about it left in the one-way side that we targeted for some dedicated opportunities.

So as we shift that we're in the tail end of kind of making those decisions throughout the third quarter, so that will push some additional profitability as we're able to move that capacity over there. So I would say it is a minimum of another couple of points, and we've got a target of mid- to high-80s that we're trying to get to it.

The management team's doing a good job by pushing us towards that. It's just a process and so I think that's what we're looking for. Will it all happen by the end of the third quarter? No, but I think it's definitely on its way there. .

And I'll tell you another thing, Scott, if I add to Joey's answer there. That we have really see on the refrigerated side, and we felt like it would happen. But on these ELDs, as we look at those bad receivers and that grocery stores, grocery warehouses are the #1 bad receivers. That when you look at that, those guys are on paper logs.

They're absolutely cheating when they got to a grocery store or warehouse they were logging 1 hour, that are now logging 5 hours. I mean it is truly done a big turnaround in that area in terms of detention and -- from a -- what you can bill. But we would rather have the miles. It's taking a lot of miles out of the network on that refrigerated side. .

That's very helpful. Not to keep rehashing about peak season but it seems like you've got -- the mix is going to change between dedicated and your peak capacity.

If there's any sense you can give about what your expectations on what the percentage breakdown of this mix would be at this point? And then I guess, how are you allocating that final peak capacity? Are you waiting longer in the year in the process to allocate that? Are you locking in rates later in as part of the discussions? Any more color on that peak season capacity would be great.

.

Yes. That's great. Capacity asked for is going to be very similar to the numbers last year.

And keep in mind, as you know, we go to our Solutions group to help us get outside capacity, which the scenario Joey and you were talking about on the dedicated side tells you in theory that you're going to need more capacity than you had last year because that capacity is not there anymore internally because of the dedicated.

So that said, we know right now, probably 70% of what our customers are asking for from a capacity standpoint, we still got one more or so to go. But that said, we know kind of where we are on the truck side.

And if they are available with outside capacity, it will bigger than it was last year, but that is a very unknown because the thing that we don't know is what the pricing is going to be for outside capacity.

And we've had very frank talks with all of our customers, and we're doing one of a couple of things as we have been very upfront saying we're never going to allow what happened to us in the fourth quarter last year when this entire company works 24 hours, 7 days a week during peak season and outside capacity costs us 2 more million dollars than what we billed our customers.

That's never going to happen here again. And we've got it in some of the contracts that allow us to go even up into the month of November into the middle of November before we agree upon -- or that pricing can change, excuse me, that pricing can change. So we have that on about half of it.

The other half that we're working on as we speak, is that they know how many trucks they want.

So we've already agreed to the amount of trucks, and we're coming out with a range of what we think pricing will be from a -- from a minimum to a maximum and we just will not firm that number up, unless it's a batch number, we're not going to firm it up until we get closer to knowing what reality is.

So those are the discussions that we're having with our customers that so far they're going good. I mean, they're very concerned as well as we're concerned. So hopefully, that helped you a little bit. .

Our next question comes from Jason Seidl with Cowen. .

I wanted to focus a little bit on 2019, and you talked a little bit about expectations on pricing. I wanted to drill down.

What percent of the pricing is already booked from stuff that you've signed here around midyear? So I think some people kind of fail to understand that a lot of the pricing in the next year are actually already locked in place to a certain extent. .

Yes. As well as second -- me and Joe's second quarter kind of deal. Yes. Wow, that's a great question. I would say that because I'm thinking about all the companies right now, Jason, I would say that we will be -- 40% customers and probably more than that 50% of revenue, we will not be able to touch until second quarter's quarter -- next year. So yes.

Without a doubt, rates are up 14% because some of those customers that we just increased a month ago, no doubt about it, and we won't be able to touch them until the second quarter next year. So yes.

So that's one of the reasons why we -- when I look at 7% or 8% that for next year, that's one of the reasons why it's causing a drag on that 7% to 8% because I'm expecting some of those customers are going to be more than that but you're not going to touch them until the second half -- until May of next year. .

Well, if you've got half of them booked and it's at 14%, you're already at 7% averaging, right? So to get below 7%, the rest of that 50% book of business would have to come down in terms of the pricing increase of less than half of what you got this year. So okay. I just wanted to kind of ballpark it in for modeling purposes.

And I guess the other question I have and you kind of touched on it a little bit.

You're probably one of the harder companies now to model on a quarterly basis because the cadence of your earnings growth is changing so much as you're sort of deemphasizing that peak season compared to let's say to last couple of years and then, you add the acquisition of Landair into this.

How should we think about that cadence on a quarterly basis without giving like any firm numbers just talking percentage ranges, for let's say, 2019?.

Well, I think, just part, this is Richard, part of the strategy there is to take some of the seasonality out of the model. And what we expect to see is still a nice improvement in the fourth quarter over the other 3 quarters.

But I think we won't see as much of a decrease going into first quarter as we have this more stable dedicated freight environment, more stable profitability. And so I think what you're going to see is still see a nice boost in fourth quarter. But as you move forward, first, second and third quarter are going to be more similar in profitability. .

I'm not trying to pin you down here, Richard.

Can you give us a number range for '19 where you think the percentage of whatever you might earn will be?.

No. And again, until we get though -- until we really get through Landair pro forma and where we are on opening balance sheet entries and all those type things, I really don't feel comfortable giving that. .

Okay.

So I guess it's safe to say then it's going to be lower than it has been in the past but definitely a boost?.

What's going to be lower?.

The percentage of 4Q as for the full year in terms of earnings? So lower than in the past but still see a boost compared to the other quarters?.

Yes. I think that's true. And it's more especially true as we move into '19 and future years. .

Your next question comes from Scott Group with Wolfe Research. .

With regard to the OR guidance looking out to the third quarter, what are we basing that comparable OR off of in 2Q? Are you excluding some of the acquisition costs or including that in the consolidated OR?.

Yes. That would be excluding the acquisition cost. .

Okay. Got it. And then how should we be thinking about tax rate in the back half of this year. Q2 is a little bit higher than we were anticipating.

So just curious if that should be -- average around 26% for the year, be a little higher, be a little lower?.

Yes. I think 26% is still a good number. I think for the full year, we were looking at 25% to 27.5%. And so 26% is kind of midpoint there. Low 26s. .

Okay. Great.

And then I guess as we think about CapEx in light of the fleet growth and the acquisition, what are you guys planning for the back-half of the year? And do you have any preliminary thoughts for 2019?.

I think that what we'll see is net CapEx of between $20 million and $30 million in the back-half of the year. And then for '19, I'd say that right now, we would estimate that CapEx would be similar to depreciation expense. .

I'm showing there's no further questions. Thank you. .

All right. Well, we'll end the call. Thank you, everyone, for checking in with us this quarter, and we'll talk to you again next quarter. Thank you. .

Thank you. This concludes today's teleconference. You may now disconnect..