COVENANT LOGISTICS GROUP, INC. quarterly report, Q1 FY2015

Covenant Transportation Group, Inc. — Q1 2015 Form 10-Q

Reporting period: Three months ended March 31, 2015; unaudited. The filing identifies the registrant as Covenant Transportation Group, Inc. Results are seasonal, and management cautions that the quarter is not necessarily indicative of full-year performance. Dollar amounts below are in millions unless noted.

Financial performance and liquidity

Metric	Q1 2015	Q1 2014
Total revenue	$167.2	$161.0
Freight revenue, excluding fuel surcharges	$143.3	$126.2
Operating income	$10.0	$0.4
Net income (loss)	$10.2	$(1.4)
Diluted earnings (loss) per share	$0.56	$(0.09)
Cash provided by operating activities	$34.8	$11.2

Freight revenue rose 13.5%, while total revenue increased 3.9%; lower fuel surcharge revenue partially offset freight growth.
Overall operating ratio was 93.0%, versus 99.7% a year earlier; the asset-based operation’s ratio improved to 92.7% from 100.2%. Operating margin on total revenue was approximately 6.0%, compared with 0.2%.
Q1 net income included a one-time federal tax credit of approximately $4.7 million, or $0.26 per diluted share, which management does not expect to recur at a similar level.
Net fuel expense was $10.0 million, or 7.0% of freight revenue, compared with $11.3 million, or 8.9%, in Q1 2014. Insurance and claims expense increased to $10.8 million from $6.1 million.
Cash and equivalents were $16.3 million at March 31, down from $21.3 million at year-end. Working capital was $36.3 million, versus $52.7 million at December 31, 2014.
Debt was $154.6 million and capital lease obligations were $15.9 million. The company reported no Credit Facility borrowings, $43.8 million of available borrowing capacity, and $37.0 million of undrawn letters of credit. Management reported lease-adjusted indebtedness, net of cash, of $154.1 million, down $72.6 million since year-end.
Investing cash flow was a net use of $7.2 million, including $18.3 million of property and equipment purchases and $11.0 million of disposition proceeds. Financing cash flow was a net use of $32.6 million, primarily reflecting debt repayments.

Changes versus the prior comparable period

Freight revenue per total mile and miles per tractor each increased 5.9%; average freight revenue per tractor per week rose 12.1%. Average tractor fleet size increased 2.1%.
Truckload operating income increased to $14.1 million from $0.5 million. The improvement reflected stronger rates and utilization and lower net fuel and maintenance costs, partly offset by higher employee and casualty insurance costs.
Fuel expense fell 26.1%, helped by lower fuel prices and improved fuel efficiency. Fuel surcharge revenue declined $10.8 million as fuel prices fell.
Equity-method income from Transport Enterprise Leasing (TEL) increased to $1.4 million from $0.8 million. Solutions revenue decreased to $10.0 million from $10.7 million, and its operating income declined to $0.3 million from $0.5 million.
Interest expense was lower following debt and lease repayments funded in part by the November 2014 stock offering. Total liabilities declined to $348.0 million from $384.8 million at year-end.

Outlook, risks, and unusual items

Management described its 2015 outlook as positive: freight yields and utilization in the first weeks of Q2 remained above prior-year levels, although utilization was below Q1. It expects average fleet size to be 3%–5% above 2014.
Management cautioned that meaningful year-over-year EPS improvement in the second half may be difficult, partly because weighted-average diluted shares are expected to increase approximately 21% in Q3 and 11% in Q4, largely due to the November 2014 offering. Peak-season customer activity and pricing are important factors.
Expected 2015 capital expenditures were approximately $55 million–$65 million. Management expects greater use of equipment purchases and capital leases relative to operating leases.
Driver availability remains a key industry constraint. Management cited recruiting, driver compensation, wage inflation, and healthcare costs as potential expense pressures. Q1 driver headcount and fleet capacity improved.
Insurance and claims expense rose sharply, primarily due to greater accident severity and higher loss-development factors. Effective April 2015, a new three-year auto liability policy expanded excess coverage to $75 million and was expected to reduce fixed premium costs. However, the company commuted two older policies and could be responsible for claims from April 2013–September 2014 up to $20 million per occurrence.
A subsidiary is appealing an adverse judgment concerning a 2008 cargo claim: approximately $5.9 million plus interest and costs. The company had increased its reserve to approximately $8.1 million in 2014; the appeal was pending.
Fuel hedges covered approximately 22.9% of remaining 2015 requirements, 21.9% of 2016 requirements, and 13.7% of 2017 requirements. The derivative liability’s fair value was approximately $21.8 million; management expected to reclassify about $8.3 million, net of tax, of hedge losses to earnings over the next 12 months. Hedging limits the benefit of falling fuel prices and exposes results to price and hedge-effectiveness variability.
Management said liquidity should be adequate for at least 12 months and expected no fixed-charge covenant testing in the foreseeable future based on borrowing availability. Credit Facility defaults could accelerate obligations and trigger cross-defaults on other debt.
The company has an option, exercisable through May 31, 2016, to acquire the remaining 51% of TEL; management said exercising it could materially change reported results and balance-sheet presentation. No decision to exercise was disclosed.

Important facts for investors to verify

Whether operating improvement persists without the approximately $4.7 million one-time tax credit, and how earnings compare after adjusting for that item.
Subsequent developments in the cargo-claim appeal, insurance claims severity, and the financial impact of the policy commutations and new coverage.
Actual fuel prices, surcharge recovery, hedge settlements, and the timing and amount of hedge losses recognized in earnings.
Progress toward fleet growth, driver staffing, the stated capital expenditure range, and management’s second-half and peak-season expectations.
Debt repayment and liquidity trends, including borrowing-base availability, lease obligations, and compliance with facility covenants and cross-default provisions.
TEL’s performance and any decision to exercise the acquisition option.