Covenant Transportation Group, Inc. — Q3 2018 Form 10-Q
Reporting period: Three and nine months ended September 30, 2018. The filing is for Covenant Transportation Group, Inc. (the company identified in the request as Covenant Logistics Group, Inc.). Financial amounts below are in U.S. dollars; unless stated otherwise, figures are in millions.
Business context and results
The company operates Truckload and Managed Freight segments. Results include Landair Holdings from its July 3, 2018 acquisition, so year-over-year growth reflects both the acquisition and operating changes. The company reported that it adopted the new revenue-recognition standard in 2018; its effect on reported results was small.
| Metric | Q3 2018 | Q3 2017 | Nine months 2018 | Nine months 2017 |
|---|---|---|---|---|
| Total revenue | $243.3 | $178.6 | $613.2 | $501.7 |
| Operating income | $16.2 | $9.0 | $36.7 | $13.3 |
| Net income, per financial statements | $11.6 | $4.6 | $26.0 | $6.1 |
| Diluted EPS | $0.63 | $0.25 | $1.41 | $0.33 |
| GAAP operating ratio | 93.3% | 94.9% | 94.0% | 97.3% |
| Adjusted operating ratio | 92.1% | 94.3% | 93.0% | 97.0% |
Freight revenue, excluding fuel surcharges, rose 34.6% in Q3 and 20.3% for the nine-month period. Q3 operating income improved in both segments: Truckload reported $12.0 million versus $6.6 million, and Managed Freight $4.2 million versus $2.5 million. Managed Freight revenue rose 80.9% in Q3, substantially reflecting Landair and growth initiatives. For the nine months, Truckload operating income was $29.1 million versus $7.8 million, while Managed Freight reported $7.6 million versus $5.5 million.
Cash flow, balance sheet and liquidity
- Nine-month operating cash flow was $101.6 million, up from $62.8 million. Investing cash outflow was $102.8 million, including $106.1 million for the Landair acquisition; financing cash inflow was $5.4 million. Cash increased to $19.6 million from $15.4 million at year-end 2017.
- At September 30, cash was $19.6 million, current assets $191.5 million and current liabilities $127.4 million, for working capital of $64.1 million, compared with $81.1 million at December 31, 2017.
- Reported debt was $196.7 million, and capital lease obligations were $39.0 million, for total debt and capital leases of $235.6 million. The $95 million revolving facility had $6.2 million drawn, $35.1 million in undrawn letters of credit and $59.9 million of available capacity. Management said it did not expect to test the fixed-charge coverage covenant in the foreseeable future.
- Management reported aggregate lease-adjusted indebtedness, net of cash, of $242.4 million, up $22.2 million since year-end 2017. The company stated it expected liquidity to be adequate for projected needs.
Material changes, outlook and risks
- Landair acquisition: The company paid $106.7 million in cash, including repayment of Landair debt. Landair contributed $41.5 million of revenue and $2.0 million of net income from acquisition through September 30. Purchase-price allocations were preliminary. Management cited expected cost synergies and cross-selling opportunities.
- Operating trends: Management cited strong freight demand, higher average freight revenue per tractor and improved operating profitability across Truckload fleets. Dedicated-contract tractors increased to 1,535, or 50% of the fleet, from about 827, or 32%, a year earlier. Driver recruitment and retention remained a key constraint.
- Costs and exposures: Q3 insurance and claims expense rose to $12.7 million from $7.7 million; claims costs per mile increased, reflecting third-party injury accidents and adverse development on prior claims. Wage pressure, tight third-party capacity and fuel-price movements may also affect margins. Net fuel expense as a share of freight revenue improved to 3.8% from 5.6% in Q3 2017.
- Guidance: The company expected favorable business conditions to continue through Q4 2018 and into 2019. For Q4, it expected consolidated adjusted operating ratio and adjusted diluted EPS to improve versus Q4 2017, but provided no specific earnings guidance. It estimated a 26% effective tax rate for 2018.
- Legal matters: Following an appellate ruling against its SRT subsidiary in a 2008 cargo-claim case, the company said it would likely pay approximately $6.8 million, including interest and legal fees, within six months while considering a further appeal. A separate California wage-and-hour suit sought class-action status; management said pending matters, considering reserves, were not reasonably expected to materially adversely affect the company.
- Other items: The company had not completed its accounting for all effects of the 2017 tax law. It was evaluating the impact of the lease-accounting standard effective in 2019. Management said Landair would be excluded from the 2018 internal-control assessment under the SEC’s acquired-business guidance.
Important facts for investors to verify
- The MD&A executive overview states Q3 net income was $16.2 million, or $0.63 per diluted share; the income statement and EPS disclosures report net income of $11.6 million and diluted EPS of $0.63. Verify the apparent net-income inconsistency against the filed financial statements and any subsequent correction.
- Separate acquisition-driven revenue growth from organic growth, and review Landair’s final purchase-price allocation, integration costs and realized synergies.
- Track insurance and claims development, the potential $6.8 million cargo-claim payment and the status and potential exposure of the California wage-and-hour litigation.
- Monitor driver availability and compensation, third-party capacity costs, fuel surcharge recovery and fuel-hedge exposure, as well as debt, capital leases and revolving-facility availability.
- Consider seasonality and note that adjusted operating ratio is a non-GAAP measure defined by the company and is not directly comparable in all cases with other carriers’ measures.