Adam W. Miller - Knight Transportation, Inc. David A. Jackson - Knight Transportation, Inc..

Chris Wetherbee - Citigroup Global Markets, Inc. Brandon Oglenski - Barclays Capital, Inc. Brad Delco - Stephens, Inc. Thomas Wadewitz - UBS Securities LLC Allison M. Landry - Credit Suisse Securities (USA) LLC Ken Hoexter - Bank of America Merrill Lynch (US) Amit Mehrotra - Deutsche Bank Securities, Inc. Scott H.

Group - Wolfe Research LLC John Griffith Larkin - Stifel, Nicolaus & Co., Inc. Donald Broughton - Broughton Capital.

Good afternoon. My name is Jesse and I will be your conference operator today. At this time, I would like to welcome everyone to the Knight Transportation Second Quarter 2017 Earnings Call. All lines have been placed on mute to prevent any background noise. After the speakers' remarks, there will be a question-and-answer session. Thank you.

The speakers for today's call will be Dave Jackson, President & CEO; and Adam Miller, CFO. Mr. Miller, the meeting is now yours..

Thank you, Jesse, and good afternoon, everyone. And thanks to – for all those who joined the call. We have slides to accompany this call posted on our website at investor.knighttrans.com/events. Our call is scheduled to go for an hour, until 5:30 p.m. Eastern Time. Following our commentary, we hope to answer as many questions as time will allow.

If we are not able to get to your question due to time restrictions, you may call 602-606-6315 following the call and we will return your call as soon as possible. During the call, we plan to cover topics and any questions specific to the results of the second quarter, as well as our future outlook on the market.

The rules for the questions remain the same as in the past, one question per participant. If we don't clearly answer the question, a follow-up question may be asked. But, again, it's only if we have not clearly answered the original question. All right. I'll direct you to slide 2, and I will first – and to begin, I'll begin to read the disclosure.

This conference call and presentation may contain forward-looking statements made by the company that involve risks, assumptions, and uncertainties that are difficult to predict.

Investors are directed to the information contained in item 1A Risk Factors or part one of the company's annual report on Form 10-K filed with the United States SEC for a discussion of the risks that may affect the company's future operating results. Actual results may differ.

Now, I'll begin by covering some of the numbers in detail, including a brief recap of the second quarter results starting with slide 3. For the second quarter 2017, total revenue decreased 1.1% year-over-year to $273 million, while revenue, excluding trucking fuel surcharge, decreased 2.7%, to $247 million.

For the quarter, we have provided adjusted financial information that excludes expenses related to the pending merger with Swift. We believe the comparability of our results are improved by excluding these infrequent expenses that are unrelated to our core operations.

So, adjusted operating income decreased 14.4% year-over-year to approximately $33 million, adjusted net income decreased 17.4% to approximately $21 million, and adjusted earnings per diluted share were $0.25 compared to $0.31 in the same quarter last year. Now, on to slide 4. Knight has always valued and maintained a strong balance sheet.

During years of strength, we utilize our cash to invest in organic growth. During challenging environments, we slow the asset base growth, but continue our growth initiatives in Logistics.

This results in meaningful free cash flow that we would ideally use for acquisitions, and if we can't find a target, we pay down our debt and return to shareholders through dividends and buybacks.

Over the last several quarters, we extended the trade cycle of our tractors, therefore increasing our average tractor age as a response to rising new equipment prices and a weak used equipment market.

Our average age is now 2.6 years; however, we expect to begin to refresh the fleet in the back half of the year, which should result in a lower average age. As of the end of the second quarter, we are debt-free. We have generated $95 million of free cash flow year-to-date and have built up cash and cash equivalent balance of $89 million.

Now on to slide 5. Our consolidated revenue, excluding trucking fuel surcharge, was down 2.7% year-over-year as a result of 2% fewer tractors, as well as the lower revenue per tractor when compared to the same quarter last year. This was partially offset by a 6.1% increase in revenue from our Logistics business.

We remain focused on improving the productivity of our assets in our Trucking segment and expanding load volumes and margins in our Logistics segment. Revenue per loaded mile turned positive year-over-year for the first time since the third quarter of 2015. However, this was offset by fewer miles per tractor.

Revenue and load count in our Brokerage business increased 12.1% and 12.4% respectively in the second quarter of 2017 when compared to the same quarter last year.

The market exhibited tightness in the second quarter and we believe capacity will become more constrained as demand for used equipment remains weak while additional regulatory burdens phase in over the coming quarters.

With that being said, we remain focused on increasing the productivity of our tractors, improving our yield, managing the size of our fleet based on market conditions, and investing in the long-term growth of our Logistics capabilities. Now, on to slide 6. During the second quarter, we continued to face several factors that impacted earnings.

We are challenged by cost winds that include increased driver-related expenses, less gain on sale of used equipments, and lower other income. As mentioned in the previous slide, our revenue per tractor was down on a year-over-year basis, which also impacted our earnings.

Although we experienced improved results in the second quarter as compared to the first quarter of this year, our leadership team remains highly focused on continuing to manage through the challenges we face in the current environment.

We also continue to make investments in areas of our business that we believe will lead to double-digit returns on invested capital. I'll now turn it over to Dave Jackson for additional comments on the second quarter..

Thanks, Adam, and good afternoon and good evening, everyone. Now to slide 7. In the second quarter, our asset-based Trucking businesses operated at an 84.6% operating ratio, which includes our dry van businesses, refrigerated businesses, our drayage business, and our dedicated business.

The 190 basis point OR increase year-over-year resulted from several factors, revenue per tractor, excluding fuel surcharge declined 2.9% as the 0.3% increase in average revenue per loaded mile was not enough to overcome a 3% decrease in average miles per tractor.

The OR was negatively impacted from increased driver wages, maintenance expense, and driver recruiting expenses. Similar to recent quarters, gain on sale of used equipment continues to be weak and a negative impact. Gain on sale was $800,000 for the quarter, compared with $2.7 million for the second quarter of last year.

Revenue, excluding trucking fuel surcharge, was down 4.8%. As expected, we saw improvement in the freight demand and rate environment in the second quarter. The strength appeared to be more than just seasonal strength. July has continued to show strength beyond seasonality.

Our non-asset based Logistics segment produced an OR of 95%, with brokerage yielding double-digit revenue growth. Now, on to slide 8. This graph provides insight into each of our second quarters since 2013 for our Trucking segment.

Some quarters, like the second quarter of 2015, benefited from strong contract rates following the freight market tightness experienced in 2014. In this year's second quarter, we experienced stronger than seasonal strength during the beverage and produce season.

In most years, we see a meaningful step-down in the market as we move from the second quarter to the third quarter. That may still happen this year, but so far, the July demand environment has been stronger than a year ago.

Based on what we experienced in the second quarter, we expect to see in the fourth quarter this year freight demand that exceeds the normal seasonal demand.

Such improved market demand has come about with industry reductions in supply as a result of the continued weakness in the used equipment market, limited capital investment in equipment additions, challenges with hiring drivers, and will soon be affected by the implementation of electronic logging devices, or ELDs, which we expect will further reduce supply.

Next to slide 9. This graph is similar to the previous, but shows the Logistics segment. Overall Logistics revenues increased 6.1% when compared to the second quarter of 2016. Brokerage revenue increased 12.1%, and given the tightness in capacity, our gross margin compressed from 16.8% last year to 14.3% for the second quarter of this year.

Because of our efficient model, we were still able to achieve a 95% operating ratio in this business. In strengthening environments, believe we will see meaningful growth, as historically has been demonstrated, as we are successful at finding capacity for our customers with positive gross margins for our business. Now, on to slide 10.

This cycle has seen a precipitous decline in rates as the market seemed even more efficient in finding the absolute bottom.

This process was enabled by non-asset brokers who, in many cases, leveraged load boards to find every bit of capacity in the network, and bid down pricing on both the transactional level and, in the cases of the larger brokers, in making commitments in formal shipper bids at rate reductions not in tune with the inflationary reality of the current cost inputs.

For example, driver wages and equipment costs. This results in a temporary dip in market rates that is not sustainable and unintentionally often leads to further reductions in supplier capacity.

This happens through businesses that fail, fleets that shrink, and the thousands of potential new drivers that choose a better paying vocational job while driver wage increases are on hold during the rate contraction period. This cycle is unique in a few regards. It's arguably been the longest consecutive period of declining rates.

We are seeing retiring Baby Boomers outpacing new entrants. The very difficult used equipment market has been materially impacted – or has materially impacted the borrowing collateral of small carriers, which will likely delay prospects for growth. The opposite was true when we saw record used equipment prices in the 2014 cycle.

And conversations from the major ELD providers indicate that they have an uphill battle selling ELDs, as many small carriers are waiting until the very end. This graph illustrates the decline in rates from the second quarter of 2015 through the second quarter of 2017.

In previous cycles, we have seen rates promptly catch up from previous year's cumulative inflation. There continues to be pent up unrecovered inflation over the last two years, which has negatively affected operating income in recent periods.

We believe rates have inflected and will begin a positive trajectory, gaining more ground in the seasonal strong periods and creating a positive contractual pricing environment in 2018. And now on to slide 11. We're actively working with Swift on the transition plan.

As mentioned at the time of the announcement, we'll operate each business independently, and we expect significant synergies as a result of helping one another improve while leveraging economies of scale that are not disruptive to the operations, our driving associates, and our customers.

We talked about this transaction in the press release and conference call on April 10, 2017, and we'll not have more to add in this call from those comments already made. We would refer you to that call, the press release, and the slides for answers to your questions.

As for the timing of the close, we expect to finalize the S4 with the SEC within the next week or two weeks, with the estimated closing being late August or early September. As we talk more about our execution strategy, experience, visibility to data, and new technologies continue to aid our efforts in improving our safety.

In addition to the technology that we have included in the specs of our trucks for some time now that improve safety, we are deploying additional technologies that have been proven to be effective in the coaching and training of driving associates, sometimes in the exoneration of false allegations, and proved to be helpful in the settlement of claims.

Reducing cost continues to be the most obvious item within our control, that will have the most impact on earnings in the current term. We've made some improvement in our cost per mile in comparisons to the first quarter; however, we continue to have areas that we're focused on to manage the inflationary pressures we continue to feel.

Improving the driving job remains a priority. We are investing in technology to help in this effort. We continue our vigilance in understanding the freight market trends to best position our company.

Based on the pending merger with Swift and some uncertainty around the exact timing of the close and the impacts of purchase accounting, we will not be providing earnings guidance at this time. So this will conclude our prepared remarks, and we will now entertain questions..

Your first question comes from Chris Wetherbee with Citigroup. Your line is open..

Hey, thanks, good afternoon, guys. Thanks for taking the call..

Hi, Chris..

You know, I wanted to start out on sort of the rate environment and some of the improvement that we've seen as we've moved through the second quarter. You (15:09) noted that rates were up on a year-over-year basis.

I guess, if you think about sort of the next 12 months, because that's what you are signing contracts for now, if you could give us a sense of maybe sort of what types of rates on a year-over-year basis you are able to get.

I'm just trying to get a sense of maybe how much of the pricing environment that's beginning to improve now will impact what we see sort of beyond the second half and into the first half of that – of next year? If that makes sense..

Yeah. Yeah. Well, we are – we are largely through the brunt of the typical bid season that begins in November and largely finishes towards the start of the second quarter. Now, sometimes those can linger and delay, and by the time they are implemented, it's not until the third quarter, but we've often been working on those for months.

So, I will tell you that we're inclined to price things different today than we were at the beginning of the year.

I would say that – I would characterize the bid season through the first – kind of that first half of the year as we were working really hard to keep rates, in the end, what seemed like flat contractually, something we've seen, now that we've been awarded many of the lanes from those bids.

What we've seen is a lot of turnover in the lanes, but – but then we win a lot of new lanes at the same time, which sometimes can make us nervous, because you want to make sure that you price things in a way that you think you have, and so, of course, we feel like – we feel like that will all even out to be about flat.

The challenge is, it creates some dislocation in the network, at least temporarily. It creates – can create and does create, I guess, a lot of disruption for our driving associates, as we adjust and move lanes around. And so, we've been wrestling with quite a bit of that, in many cases running to stand still through the bid season.

We are starting to see things a little bit differently here late – now that we're in the late summer, where – and so maybe some unusual bid behavior, I would say, where perhaps there's some shippers trying to secure rates that would have maybe been likely in the January, February, March timeframe.

Others are trying to secure rates for a period of less than – less than 12 months. But I think, maybe to circle back and kind of provide a more specific answer in terms of what bids we're seeing and how we're pricing now, we just are not pricing a whole lot of business at the moment, because that's just – that time has largely passed.

I think we'll start to see a lot of bids come around in that late October, November timeframe, and I think there will be a different approach to those bids versus what it's looked like over the last two years – the last two bid seasons.

So, when we look at rates or how we ended up with 0.3% positive loaded rate per mile for the second quarter, that was largely a result of the strong rates and the non-contract environment that helped to lift that.

So, I would say that third quarter is going to look and feel somewhat similar in terms of a rate per miles, where we probably are looking in the second quarter, but then again, we'll probably see opportunity for more non-contract rate growth in that fourth quarter timeframe.

But that – that lift will largely come from non-contract and not from contractual. We'll have to wait until we're a few more quarters away for that to happen..

Okay. Okay. That's a very helpful answer. I appreciate it. I'll leave it there at one. Thank you..

Thanks..

Your next question comes from Brandon Oglenski with Barclays. Your line is open..

Hey, everyone, good afternoon. And thanks for taking my question. So, I know you guys don't want to give guidance here, but I want to talk towards expectation, at least from the investor community because it looks like a lot of people are forecasting your earnings to be up around 20%, 25% next year.

And I'm not asking you to go out there and at least talk to that number, Dave, but can you talk about if we see acceleration in pricing, are there going to be some offsets? Because we talked about how drivers haven't gotten significant wage increases in the past couple years.

So, what are the risks and the opportunities as we all think about where freight rates and earnings could be next year?.

Yeah, well, I think – I think that this year is playing out very similar to, like 2013, where you see signs of strength, you can tell that things are going to be different. We've hit an inflection point.

There's tightness in the market, and during the seasonal times, like we saw in the fourth quarter of 2013, for example, that was a strong rate environment, which led into a very positive contractual rate environment in 2014. And then, of course, 2014 continued to have very strong seasonal strength.

And then, of course, you saw earnings numbers from us in excess of the number you just talked about. So, I'm not drawing that full parallel that saying that 2018 is going to be 2014.

2014 was a very special year, but I think this dynamic that we're experiencing in 2013 here, where the reality is you have these – the non-asset broker and 3PL companies are in retreat and they are not offering discounts and making large, sweeping commitments. In fact, they are doing the opposite.

And they are retreating and they are trying to move away from the committed market and be in that spot for non-contract environment as much as they possibly can without losing their customers along the way.

And so, that sets us up in a 2018 bid season to where there arguably will be quite a bit of freight that's looking for committed capacity that it's not going to find in the players that largely filled that role over the last two years.

If you look at the large asset base companies, you'd be hard pressed to find one that has more irregular route capacity today than what they had two years ago.

And so, some of them, you know, you can look at their fleet count and it might be positive a little bit, but you look at how many of those trucks are committed on dedicated multi-year business as opposed to a regular route.

And so, of course, when large brokers are committing capacity, that's not dedicated capacity, that's irregular route capacity that they are going out and finding in the market and exploiting opportunities to buy that transportation for cheaper.

So, that whole dynamic has all changed in a very short amount of time and that, I think, is similar to what we saw in 2013. And so, that can have a significant impact.

And as we said a minute ago in our – explaining some of the slides, the way rates seem to work, at least the last couple of cycles in this industry, is we see this pent up rate pressure that comes swinging back that more than makes up for the driver pay, wage increases that need to happen, and the rising cost of equipment and other inflationary items.

And so, not only did we experience that, but most all of the publicly traded guys, carriers, experienced that in 2014 and 2015 earnings. And so, there's going to be a little bit of buildup here, as we work through those and those factors take effect, but I think it positions us well for meaningful rate increases in 2018..

I appreciate that..

Thanks..

Your next question comes from Brad Delco with Stephens. Your line is open..

Good afternoon, Dave, Adam, how are you?.

Hi, Brad..

Dave, I kind of want to ask just the question I think that's on everyone's mind, and maybe it's not fair to Knight, but we've seen stronger than expected results from some of your peers and there's been a lot of talk of freight throughout the second quarter developing more strongly than the expectations that might have been had in April.

And so, I think there was a little bit of an expectation, because Knight typically has the most exposure to spot, to maybe put up a little bit stronger numbers.

So, when we go back to kind of Adam's comments in April about how things should play out in the second quarter, keeping in mind that second quarter was stronger than expected, what went well for you guys and where did you think you kind of missed some opportunities in the market? And maybe I'm not being fair asking the question, but I do think it's on top of everyone's mind..

Brad, I think it's a very fair and a question that we should answer. I think when you talk about our results, our operating ratio, if you looked at the asset-based operating ratio of an 84.6%, compared really well to our competitors.

And when you look at the way our business – the way we're structured, our strategy and how we work, we are at kind of the peak stress point, if you will, in the cycle. So what that leaves us vulnerable to is where we might suffer through some poor utilization or miles per truck, which we saw, of course, with utilization down 3% in the quarter.

But to perhaps help you appreciate that, our cost per mile continued to be significantly lower than our peers. And so, some of our peers will show better miles at this stage of the cycle, due to a couple of factors, in particular.

One being the level of dedicated capacity, and in today's competitive market, if you're going to win a dedicated operation, it's going to be optimized and you're going to run a lot of miles on those trucks.

And the problem is you might run a lot of miles, but depending on whether you are using your trailers and how many of them or you are using the shipper's trailers, you may not get to that double-digit return. And the challenge is those are multi-year deals.

Sometimes three years, sometimes five years, and what we know is driver wages will be very volatile here as they were the last time we saw pricing improvement. And so, oftentimes what might be profitable and look good today might quickly change when your largest expense becomes double-digit inflationary.

And so, you have the dedicated piece which still represents a very, very small percentage of what we do, and then second of all, we are one of the few left that hires the vast majority of our drivers with experience instead of hiring half or even majority as trainees. And so, part of what happens there is we have solo drivers.

So, we have one driver in the truck. And if we were in a situation where we had a driver – a trainer and a trainee, you would – you would run more miles. Oftentimes those – it's initially is like a driver and a half, and when the driver becomes more proficient, they can actually be closer equivalent of two drivers in one truck.

And so, you put good miles per truck up, however, you don't have as good of OR at the end of the day. And we have fleets out there that average in the quarter 250 miles, some even maybe a little more than that, per truck per week, more than what we did, but yet it didn't have the OR, and it has to do with the cost per mile.

When you have two drivers in that one truck, you've got a lot of driver wages in there. And so, at this stage of the game, we have worked hard to hold on to yield the best that we can, and so part of what happens is we usually concede a little bit in length of haul as we go to where we can get the yield. So, you saw our length of haul down 3.4%.

Well, in a competitive environment where we have about the same number of loads but they're 3.4% less length of haul, you are going to run less miles.

And rather than go and try and discount rates in an effort to bring in more loads on a temporary short-term basis, we've chosen to scramble and be as flexible as we possibly could to kind of navigate our way through this. So, it sets us up to be in a position here in the back half of the year, where we can move with the market a little bit more.

We are a little more exposed to spot market today than – more than we have been in the last two years. And so, as a result of that, and our competency in understanding markets, I think, you'll see us have a chance to move with that market in a positive way, and then we'll be in a position to reward drivers.

And so, when we look at recruiting drivers was a challenge, continues to be a challenge for us. I think it is for everybody, but we've chosen to wait a bit for the rate before we are able to pay the drivers more. We paid some more, but not as much as we feel like we – the market probably needs.

And when we look at – we look at our miles per truck, for example, when I quote that 3%, we take all of our trucks in service, whether they are seated with a driver or not, and divide that by the total miles. So, we did carry more open trucks, if you will, without drivers seated this quarter than we have in several quarters.

So, you're seeing Knight results still with the mid-80%s OR, but at kind of – at a moment of stress, if you will, but yet we have – we are uninhibited to move as this market improves. So, Brad, I hope I was clear in making that point..

No, that was a great answer, Dave. Thank you so much.

And I think everyone just remembers fourth quarter of 2013 and first quarter of 2014 how, because of your greater exposure to the spot market, saw a more meaningful inflection in Knight's results versus peers and I just wanted to make sure that there's nothing different in the organization today versus what existed back then.

And I think you answered that..

Yeah, well, hopefully I did. And hopefully it sounded like reasons and not excuses. And I don't want to push the needle too far. But, there – one other point that I think is worthy of mention is, we do have a meaningful exposure to the west.

And the west has not played out as strong in the first half of the year as the southeast and the northeast and Midwest have. And so, we have a fair amount of – more than average exposure to the west.

And so, that probably weighs on us – or I know that weighs on us when we're trying to compare to those maybe that are a little bit more Midwest or eastern centered..

Okay. Well, thanks for the time, guys..

Okay thanks, Brad..

You next question comes from Tom Wadewitz with UBS. Your line is open..

Hi, Tom..

Yeah, hey Dave.

Hey, Adam, how are you guys doing?.

Good. Doing good..

Let's see, this is probably kind of variation on the topic at hand on the cycle and so forth, but what would you – how would you characterize things in terms of the degree of pressure, to what extent are routing guides breaking down, and just kind of, I guess, the level of conviction on the kind of quick turn up in contract pricing? And then maybe kind of within that, do you think as new entrants, let's say, textbook entrants (32:34) in brokerage that might be not – I don't want to say irrational, but just focused on building share, is that potentially a drag on how well the rates go up? Or is that kind of irrelevant, given that they probably aren't much of a presence yet?.

Okay. Yeah. Let me – and Adam can jump in. But let me try to answer those three questions, Tom..

Three wrapped into one..

Yeah. We'll answer that burrito of questions. So, the break – when you talk about breakdown of route guides, I wouldn't see – I wouldn't probably use the term that there's a breakdown of route guides or anything like that. I think we just saw the seasonal strength hit.

So when you had a little bit more than just the average day's freight moving because of produce and beverage and all that moves with the change of seasons, you had markets, certainly some more than others, but you had markets that just had too few trucks chasing too many loads.

And so, last year second quarter, we felt some of that as well, but it wasn't to the point to where there was a willingness to pay for deadhead or pay to relocate trucks to pay to track down capacity by the – by our customers. And so this year, you saw that same kind of seasonal strength, but then to another level.

And I think you saw some shippers that experienced some disruption as a result of that, and they were quick to resolve that by paying a little bit more for capacity.

I think, our understanding is, those that – that most, and if not all brokerages, experienced some significant margin compression in the month of June, and I think one way to look at this might be that, if you don't own any assets, but you go and make commitments for the year at a certain locked-in price, you're betting that you're going to be able to buy better than that price with the margin that you want, that you seek, more often than not.

And it would be maybe akin to shorting a stock. So, they are short the market. Well, we've had more than two years without a single short squeeze. And I think what we just experienced in the second quarter was a short squeeze. And the ability to buy – to short the market, if you will, seems to have changed.

And that is a big, big change, and so it's in the numbers. It's in these third-party indices, virtually every indice was tracking this. They were tracking the imbalance on loads to trucks posted on the load boards, or if you saw the rates, those independent rate providers, they – or aggregators. They all documented that rates were going up.

And so, what that will do is, it changes behaviors. First changes behaviors in the brokers. It changes behaviors in the trucking companies, the asset base folks, and then last typically to change is the shipping community begins to change, and then we find ourselves in a new market. So, all of that's kind of underway.

And in the fourth quarter, there could – we could – I would expect that we'll see more acute tightness, and things might get a little bit more dire in some of the routing guides. We're seeing some shippers that are expressing concern and have taken steps to secure capacity in the fourth quarter.

And I think that we'll probably see that continue to grow. We don't see a catalyst to bring more supply in. In fact, we think it's been leaking out for the last two years, and this positive inflection we've seen has been nice.

And, like I said, I think it can change behavior, but we don't think that it is so fundamentally strong and overwhelming that it's all of a sudden going to serve as a catalyst for more capacity to come in. In fact, it may be too little too late for many.

When we look at the tech players, I'm not sure that it ever makes sense to try and go get gain share in a space this fragmented, in a market this efficient when you are dealing with two – it's a B2b, a capital B to a lowercase b, but those who desire to go get market share in this space, the time not to do it would be in an environment just like now, where the shipping community is a little slower to recognize the improvement in the market, meanwhile the actual underlying purchase trends (37:27) has already reacted, hence the compressed gross margins.

And so, they've already reacted. I mean, that would be a bad time to try and go out and be competitive for business to lock in. So, there's – perhaps it's a little late in the cycle for the tech start-ups to try and go and do that, but, hey, we'll – we won't underestimate anybody..

Right. Okay. Well, thank you for deftly handling the burrito..

Yeah. Thanks, Tom..

All right. Have a good afternoon..

You too..

Your next question comes from Allison Landry with Credit Suisse. Your line is open..

Thanks for taking my question..

You bet..

You know, in terms of the seasonality from June to July, we've heard not only from you guys, but from other carriers and brokers that it's sort of the normal drop-off has been less pronounced.

I was just curious if you think that some combination of Prime day and the brake inspections in the second week of July contributed in any meaningful way to the better than normal seasonality that you've seen..

You know, we would have expected, Allison, to see things stay strong through the first two weeks of July. That's kind of the typical. You have obviously, right up to the fourth week, and then, particularly this year the way the fourth week fell, it's kind of like the whole country took four days off.

And so, there was this whole catch-up that had to happen because we consumed, as a country, pretty heavily, I think over those three days or four days. I did. In terms of hot dogs and hamburgers, but there's this – there's this catch-up that seems to happen the next week.

So, you can almost take it to the bank that you're going to see first two weeks of July be strong.

And so, I think, those two things you talked about might have – they would have just been part of what was already going on, but the reality is we sit here today, July 26 and this late in to be able to say that July is feeling seasonally or stronger than the seasonal expectation year-over-year, would suggest that it's – there's something a little bit bigger going on..

Okay.

And like – do you have any sense of where the demand is coming from? Obviously, in second quarter produce, beverage helped, what's driving the strength in July, if you have a sense of that?.

Gosh, it's – I – that's tough to pinpoint. I will tell you something that might be a causal factor to that is the refrigerator market continues to be pretty good. And so, it feels as though the reefer trucks are hauling reefer freights.

And when refrigerated trucks are busy, then that takes whatever percentage of the trailing equipment that finds itself hauling dry goods in a reefer trailer, it takes that away and then you're left with just dry van.

And so, I think that – I think that that's a factor of what's – to what's going on, and certainly there is some seasonality to what happens with refrigerated capacity, but it wouldn't be a surprise if the reefer capacity has – if reefer capacity, in general, has suffered the largest supply losses, because you typically have smaller, more fragmented players.

A reefer trailer costs twice as much as the dry van trailer, maybe more than twice as much these days. And so, you've got additional regulations in California to deal with. And so, if the refrigerated market can stay strong, that usually bodes well for the rest. Now, I'll tell you there are some regions stronger than others.

The eastern part of the country, both top to bottom, have had better strength here in July than what we've seen out west. But, all in all, comparing like for like in regions, it's still a bit stronger. So, that's encouraging. And maybe even something – I was bracing myself that once we got to the middle of July, it was just going to totally fall off.

And so, it hasn't done that. So....

Okay. Thank you..

Thanks..

Your next question comes from Ken Hoexter with Merrill Lynch. Your line is open..

Great. Good afternoon. So, you guys aged the fleet a bit. You talked about bringing the age down.

Can you talk a bit about your experience on that in terms of cost? Have you seen an increase in your maintenance costs as you have done this? And why the reversal now when you talked before about the money you put into the fleet that it can last longer for you? What's different about the environment now? Thanks..

Well, so Ken, this is Adam. So, as we've aged the fleet over the last several quarters, we have, probably early on, did a good job of kind of maintaining the cost pressures that you would feel from an aging fleet. I'd say in the last two quarters we saw some inflection and some inflation costs on the maintenance side.

So, it's probably a penny or so per mile for this year, for this quarter that we felt. Now, it's up to 2.6 years, which wasn't necessarily our intention to get it that high. I think part of it falls on just the timing of when the CapEx comes in.

And so, the first half of the year we typically don't bring on as many trucks, and so the back half of the year, if you just look at what our CapEx has been, it's been relatively light. So, we have more trucks to in to refresh the trucks that are scheduled to come out.

So, it's more just a timing issue rather than strategically how we are trying to adjust the age..

And then the cost experience within that, has there been any shift in your cost, given the aged fleet?.

Right. So, yes. So, in the last two quarters, the first quarter and the second quarter, we have seen an increase in our maintenance costs. So, as I mentioned, the second quarter was probably a penny per mile increase in our maintenance cost because of the older fleet..

Okay. Great. Thanks for the insight..

Thanks, Ken..

Your next question comes from Amit Mehrotra with Deutsche Bank. Your line is open..

Hey, thanks for taking my question. Appreciate it. I wanted to ask about the company's ability, or your ability to reduce costs further.

You already have best in class-type cost per mile, but you do also have a good amount of terminals, and I think the company runs pretty decentralized in terms of those terminals having decent costs associated with them and managing freight at maybe more localized levels.

I'm just wondering if that's where you see the most opportunity to reduce costs or is that really – that framework is kind of how you like to run the business and so maybe it's not a focus or a source of cost reduction going forward? Thanks..

Yeah. Thanks for the question. We would not see changes to the facilities as a way of savings cost. It's a – it is a very important way in which we run this business that suffers from massive diseconomies of scale that come with size. And so, by running a decentralized operation, that's critical to our ability to operate the way that we do.

So – and to have a kind of accountability and the kind of financial performance that we're able to achieve. I would say that there are a number of areas, in fact, every cost item, the 10 or 11 main groupings on the P&L, there are a multitude of things we can be doing better all the way through.

You think about things that are very fundamental to the business where we can improve our execution, things like trailers and utilization of trailers. We talk about the average hours driven per day per driver. We could talk about our fuel efficiency. We can talk about continuing to improve our safety and our safety costs.

And so, there are a number of things, and we're fortunate that we have a culture where the people that have responsibility for those areas, and there's many that overlap, that they are tirelessly and relentlessly trying to find ways to become more efficient, trying to find ways to introduce technology in ways that can help us manage more effectively and with greater magnitude.

And so, yeah, there's a whole bunch of – I could bore you with – but there's so many areas for us to improve. And so, that's where we're focused..

Okay. All right. Thanks for taking my question. Appreciate it..

You bet. Thank you..

Your next question comes from Scott Group with Wolfe Research. Your line is open..

Hey, thanks. Afternoon guys..

Hey, Scott..

So, when we talk about the environment being better than normal, I guess what I'm wondering is, is it strong enough where we can see better earnings in of the third quarter than the second quarter, which I guess you typically don't see? And then maybe longer term, is it – is this a strong enough inflection where we can – where the timing or magnitude of the Swift synergies change at all?.

Well, let me try and speak to Knight first. It's an important inflection point, but it was 0.3%, and so in terms of driving to the bottom line, it's not big enough that we can begin to raise driver wages, but it's an important shift directionally and the behaviors have already changed that we believe will continue to fuel that progress.

Now, when you look at a second quarter to a third quarter, the third quarter has – just seasonally is a snoozer. I mean, there just is not a lot seasonally that goes on. And you don't have contractual changes in rates that will take place between the second quarter and third quarter very often.

And so, I would be very cautious looking at meaningful sequential improvement in earnings from a second quarter to a third quarter. Some years we see – we can see a significant decline, certainly 2013 saw that, but I'm not drawing that as an exact parallel. But for it only to be more than reversed by the fourth quarter.

So, I would say that our ability to continue to produce earnings similar in the third quarter as we did in the second quarter, I would consider that to be an appropriate and valiant effort in this kind of an environment. We are optimistic about where it goes from there.

Now, when we talk about Swift and synergies, boy, we still stand behind what we presented, what those slides showed. We're pleased with where we are in the transition teams. We are excited about the people that are there.

It – based on their financial results that they released, they're staying focused when this is a time where there could be a lot of distraction, and so, we appreciate their people that continue to be focused, and we look forward to continuing to help one another as these two independent businesses continue to move forward.

Now, the conviction that we had back in April, I don't think is much different than the conviction we have today on where the market is headed. And of course, we feel like that – that will bode very well for the many synergies that we're working to leverage and take – and to make a reality as we work on that business.

So, theoretically, we've got more evidence to base our optimism for future environments, specifically fourth quarter and into next year and beyond, but we were – we expected to see an inflection in the second quarter, which it came, so we would have been more surprised to not have seen it, so..

Okay, very helpful.

And can I just clarify, is the timing of the deal changing at all, or is it on track? So, the $31 million synergies for 2017 is still the right number to be thinking about?.

Yeah, we're going to need to be going 55 miles an hour out of the driveway, because it's a little later than we would have liked to get started, but we're not coming out with an amendment here anytime soon to that number..

Okay. Thank you, guys..

Yeah, thanks, Scott..

Your next question comes from John Larkin with Stifel, Nicolaus. Your line is open..

Good afternoon, gentlemen. Thanks for squeezing me in here..

You bet, Mr. Larkin. Thanks for joining..

Yeah. Maybe just a quick one on the timing and the revelation of what the combination may look like beyond the slides once it actually happens.

Do you envision an analyst day or do you plan to lay some of this out on the third quarter earnings release call, which I guess will be a combined call? Could you give us a little color around how any incremental information might be disseminated?.

Yeah, well, obviously, the third quarter call will be a new experience for all of us. And so, we will do our best to provide visibility into both of the companies with still an idea of where we are and how the synergy and how it's coming together. So, we would envision that as part of our third quarter release and our third quarter call.

We are – we're anxious, we're anxious to not have some of the regulatory and legal Chinese walls, if you will, that exist today in our transition. And so, when we're able to have the full close behind us, we're going to need a little bit of time on our hands, and it's also, we're going to find ourselves in the busy season of the year.

So, we're going to have our hands full. My guess is, we would – it will be next year, in 2018, that we would look to do some type of maybe increased visibility. I'm not – I wouldn't say an analyst day at this stage of the game.

We've had discussions about how we might do that, but we – obviously, we think it's in our best interest, and we feel responsibility to keep the market up to speed with kind of where we are with a transaction of this size. So, we'll work out what we think is the most appropriate way to do that.

We anticipate continuing to do the conference calls, the quarterly conference calls, and provide insight that way as well. And if we feel like an analyst day would be needed and required and a worthy investment of time, then we'll do that. So – but, that's on – it's on the table..

Very good. Thanks a lot. That's my one..

Okay. Thanks for sticking to one, John..

Thank you. Your final question comes from Donald Broughton with Broughton Capital. Your line is open..

Thanks for taking the question..

You bet, Don, good to hear from you..

Good to be heard from. Looking through the operating stats, both reported by Swift, obviously, on Monday night and then yourself, revenue per truck is continuing to decline, margin per truck, margin per dollar has continued to decline.

And certainly, because of what's happening with pricing between spot and contract, we've seen margin in both your all's Logistics businesses see the pinch as well.

Can you give us a couple of tangible examples of things you can do to turn the tide and see those – both revenue and margins improve? What are these fundamental things you can do? Are you really just dependent upon the overall market to get tighter in order to be able to turn that battleship?.

Yeah, well, I mean, certainly a rising tide lifts all boats, but if you look back to previous cycles, when we see even the least bit of lift, at least at Knight, we've had good success with outpacing the average carrier's lift, if you will, in that kind of a market.

And so, certainly the end of 2013, 2014 would be – and 2015 – would be examples of that. Swift historically, over that same time period, made very meaningful progress, maybe not quite to the same on an earnings percentage – on an earnings growth or on a rate per mile growth perspective, not at the same pace as Knight did.

And so, hopefully those are – hopefully, particularly on the earnings growth side, that's something that we'll be able to improve under common ownership together. So, we're – there are definitely things, Don, that are within our control that we can do better. We were – we're disappointed with the – with our utilization.

Last year we raised – we increased it all four quarters straight, and this year, we've given much of that back in the first two quarters, but we've been able to hold on to rate fairly well and leave ourselves, not over committed, if you will, going into what we think will be a rising environment where we hopefully will be able to out-pace that, and consequently put us in a position to raise driver pay faster and maybe even sooner and to a higher level, or at least on a faster pace, than some of our peers.

And so, that would give us some very specific advantages there. So, there are definitely opportunities to improve in the due diligence we've done with Swift. We think there's a lot of opportunities for them similar to us, just in some of the execution and how we go about doing things, the levels of efficiency that we have in the business.

So, if you look at our cost per mile, Don, for example, in the first quarter versus the second quarter, you're going to see we made some meaningful improvement in the second quarter. And that wasn't in any – that cost side didn't have to do with an improving market.

And so, there are other things that we have in motion that we think can help us, but it's not one or two things. It's just a – it's small improvement in a multitude of areas that require just a lot of unselfish teamwork here behind the scenes. And so, it's been a great opportunity for people development.

These tough bottom parts of the cycle are always great for people development, and we've had more than our fair share. So, that's kind of where we find ourselves now, Don..

All right. Well thank you very much and good luck..

Yeah, and congrats on your research business there..

Thank you..

Jesse, that concludes our call, and for all of you who have listened and participated, we appreciate your interest and your support. Have a great evening..

This concludes today's conference call. You may now disconnect..