Our financial instruments consist primarily of cash and cash equivalents, certificates of deposit, accounts receivable, commodity contracts, accounts payable, debt, and interest rate swaps. The carrying amount of cash and cash equivalents, certificates of deposit, accounts receivable, accounts payable, and current debt approximates their fair value because of the short-term maturity of these instruments. Included in accounts receivable is $26.9$46.2 million and $25.8$31.9 million of factoring receivables at September 30, 20172018 and December 31, 2016,2017, respectively, net of a $0.4 million and $0.2 million allowance for bad debt for each respective date. We advance approximately 85% to 95% of each receivable factored and retain the remainder as collateral for collection issues that might arise. The retained amounts are returned to the clients after the related receivable has been collected, net of accrued interest. At September 30, 20172018 and December 31, 2016,2017, the retained amounts related to factored receivables totaled $0.2$2.4 million and $0.3$0.6 million, respectively, and were included in accounts payable in the condensed consolidated balance sheets. Our clients are smaller trucking companies that factor their receivables to us for a fee to facilitate faster cash flow. We evaluate each client's customer base under predefined criteria. The carrying value of the factored receivables approximates the fair value, as the receivables are generally repaid directly to us by the client's customer within 30-40 days due to the combination of the short-term nature of the financing transaction and the underlying quality of the receivables.
Interest rates that are currently available to us for issuance of long-term debt with similar terms and remaining maturities are used to estimate the fair value of our long-term debt, which primarily consists of revenue equipment installment notes. The fair value of our revenue equipment installment notes approximated the carrying value at September 30, 2017,2018, as the weighted average interest rate on these notes approximates the market rate for similar debt. Borrowings under our revolving Credit Facility (as defined herein) approximate fair value due to the variable interest rate on that facility. Additionally, commodity contracts, which are accounted for as hedge derivatives, as discussed in NotesNote 6, and 11, are valued based on the forward rate of the specific indices upon which the contract is being settled and adjusted for counterparty credit risk using available market information and valuation methodologies. The fair value of our interest rate swap agreements is determined using the market-standard methodology of netting the discounted future fixed-cash payments and the discounted expected variable-cash receipts. The variable-cash receipts are based on an expectation of future interest rates (forward curves) derived from observable market interest rate curves. These analyses reflect the contractual terms of the swap, including the period to maturity and use observable market-based inputs, including interest rate curves and implied volatilities. The fair value calculation also includes an amount for risk of non-performance of our counterparties using "significant unobservable inputs" such as estimates of current credit spreads to evaluate the likelihood of default, which we have determined to be insignificant to the overall fair value of our interest rate swap agreements.
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Note 6. | Derivative Instruments |
We engage in activities that expose us to market risks, including the effects of changes in fuel prices and in interest rates. Financial exposures are evaluated as an integral part of our risk management program, which seeks, from time-to-time, to reduce the potentially adverse effects that the volatility of fuel markets and interest rate risk may have on operating results.
In an effort to seek to reduce the variability of the ultimate cash flows associated with fluctuations in diesel fuel prices, we periodically enter into various derivative instruments, including forward futures swap contracts. Specifically, we enter into hedging contracts (which we referwith respect to as "fuel hedge contracts"ultra-low sulfur diesel ("ULSD"). Under these contracts, we pay a fixed rate per gallon of ultra-low sulfur diesel ("ULSD")ULSD and receive the monthly average price of Gulf Coast ULSD. The retrospective and prospective regression analyses provided that changes in the prices of diesel fuel and ULSD were deemed to be highly effective based on the relevant authoritative guidance.guidance. We do not engage in speculative transactions, nor do we hold or issue financial instruments for trading purposes.
In August 2015, we entered into an interest rate swap agreement with a notional amount of $28.0 million, which was designated as a hedge against the variability in future interest payments due on the debt associated with the purchase of our corporate headquarters as described in Note 7. The terms of the swap agreement effectively convert the variable rate interest payments on this note to a fixed rate of 4.2% through maturity on August 1, 2035. In 2016 and 2017, we also entered into several interest rate swaps, which were designated to hedge against the variability in future interest rate payments associated with the purchase of certain trailers. Because the critical terms of the swaps and hedged items coincide, in accordance with the requirements of ASC 815, the changeschange in the fair value of the derivatives arederivative is expected to exactly offset changes in the expected cash flows due to fluctuations in the LIBOR rate over the term of the debt instruments,instrument, and therefore no ongoing assessmentsassessment of effectiveness areis required. The fair value of all interest rate swap agreements that were in effect at September 30, 2017,2018, of approximately $0.7$1.2 million, is included in other short and long-term assets and other short and long-term liabilities, as appropriate, based upon each swap agreement's position, in the condensed consolidated balance sheet and is included in accumulated other comprehensive loss,income, net of tax. Additionally, less than $0.1 million and $0.3 million was reclassified from accumulated other comprehensive lossincome into our results of operations as additional interest expense for the three and nine months ended September 30, 2017, respectively,2018, related to changes in interest rates during such period. Based on the amounts in accumulated other comprehensive lossincome as of September 30, 2017,2018, we expect to reclassify lossesgains of approximately $0.2$0.1 million, net of tax, on derivative instruments from accumulated other comprehensive lossincome into our results of operations during the next twelve months due to changes in interest rates. The amounts actually realized will depend on the fair values as of the date of settlement.
We recognize all derivative instruments at fair value on our condensed consolidated balance sheets. Our derivative instruments are designated as cash flow hedges, thus the effective portion of the gain or loss on the derivatives is reported as a component of accumulated other comprehensive lossincome and will be reclassified into earnings in the same period during which the hedged transaction affects earnings. The effective portion of the derivative represents the change in fair value of the hedge that offsets the change in fair value of the hedged item. To the extent the change in the fair value of the hedge does not perfectly offset the change in the fair value of the hedged item, the ineffective portion of the hedge is immediately recognized in our condensed consolidated statements of operations. Ineffectiveness is calculated using the cumulative dollar offset method as an estimate of the difference in the expected cash flows of the respective fuel hedge contracts compared to the changes in the all-in cash outflows required for the diesel fuel purchases.
At September 30, 2017,2018, we had fuel hedge contracts on approximately 3.01.9 million gallons for the remainder of 2017,2018, or approximately 25.1%17.1% of our projected remaining 2017 fuel requirements, approximately 7.6 million gallons for 2018, or approximately 15.7% of our projected 2018 fuel requirements.requirements.
The fair value of the fuel hedge contracts that were in effect at September 30, 2017,2018, of approximately $1.6$0.9 million is included in other short and long-term liabilities, as appropriate,short-term assets in the consolidated balance sheet and is included in accumulated other comprehensive loss,income, net of tax. Changes in the fair values of these instruments can vary dramatically based on changes in the underlying commodity prices. For example, during the third quarter in 2017,2018, market "spot" prices for ULSD peaked at a high of approximately $1.83$2.31 per gallon and hit a low price of approximately $1.41$2.02 per gallon. During the same 20162017 quarter, market "spot" prices ranged from a high of $1.52$1.83 per gallon to a low of $1.20$1.41 per gallon. Market price changes can be driven by factors such as supply and demand, inventory levels, weather events, refinery capacity, political agendas, the value of the U.S. dollar, geopolitical events, and general economic conditions, among other items.
Additionally, $1.0$0.6 million and $3.7$1.3 million were reclassified from accumulated other comprehensive lossincome into our results of operations as additionala reduction to fuel expense for the three and nine months ended September 30, 2017,2018, respectively, related to lossesgains on fuel hedge contracts that expired. Based on the amounts in accumulated other comprehensive lossincome as of September 30, 2017,2018, and the expected timing of the purchases of the diesel hedged, we expect to reclassify lossesgains of approximately $0.8$0.6 million, net of tax, on derivative instruments from accumulated other comprehensive lossincome into our results of operations during the next twelve months due to the actual diesel fuel purchases. The amounts actually realized will be dependent on the fair values as of the date of settlement.
We perform both a prospective and retrospective assessment of the effectiveness of our fuel hedge contracts at inception and quarterly, including assessing the possibility of counterparty default. If we determine that a derivative is no longer expected to be highly effective, we discontinue hedge accounting prospectively and recognize subsequent changes in the fair value of the hedge in earnings. As a result of our effectiveness assessment at inception and at September 30, 2017,2018, we believe our hedge contracts have been and will continue to be highly effective in offsetting changes in cash flows attributable to the hedged risk.
Outstanding financial derivative instruments expose us to credit loss in the event of nonperformance by the counterparties to the agreements. We do not expect any of the counterparties to fail to meet their obligations. Our credit exposure related to these financial instruments is represented by the fair value of contracts reported as assets. To manage credit risk, we review each counterparty's audited financial statements, credit ratings,, and obtain references as we deem necessary.
Current and long-term debt consisted of the following at September 30,
20172018 and December 31,
2016:2017:
(in thousands) | | September 30, 2017 | | | December 31, 2016 | | | September 30, 2018 | | | December 31, 2017 | |
| | Current | | | Long-Term | | | Current | | | Long-Term | | | Current | | | Long-Term | | | Current | | | Long-Term | |
Borrowings under Credit Facility | | $ | 3,678 | | | $ | - | | | $ | - | | | $ | 12,185 | | |
Revenue equipment installment notes with finance companies; weighted average interest rate of 3.6% and 3.3% at September 30, 2017 and December 31, 2016, respectively, due in monthly installments with final maturities at various dates ranging from October 2017 to July 2023, secured by related revenue equipment | | | 24,366 | | | | 140,577 | | | | 23,986 | | | | 127,840 | | |
Real estate notes; interest rate of 3.0% at September 30, 2017 due in monthly installments with a fixed maturity at August 2035 and weighted average interest rate of 2.4% at December 31, 2016 due in monthly installments with fixed maturities at December 2018 and August 2035, secured by related real estate | | | 994 | | | | 25,065 | | | | 1,224 | | | | 28,907 | | |
Borrowings under Credit Facility; interest rate of 5.8% at September 30, 2018 | | | $ | - | | | $ | 6,155 | | | $ | - | | | $ | - | |
Revenue equipment installment notes with finance companies; weighted average interest rate of 3.6% and 3.3% at September 30, 2018 and December 31, 2017, respectively, due in monthly installments with final maturities at various dates ranging from October 2018 to July 2023, secured by related revenue equipment | | | | 26,752 | | | | 139,044 | | | | 23,732 | | | | 130,946 | |
Real estate note; interest rate of 3.8% and 3.1% at September 30, 2018 and December 31, 2017, respectively, due in monthly installments with a fixed maturity at August 2035, secured by related real estate | | | | 1,037 | | | | 24,029 | | | | 1,004 | | | | 24,810 | |
Deferred loan costs | | | (263 | ) | | | (50 | ) | | | (263 | ) | | | (256 | ) | | | (146 | ) | | | (191 | ) | | | (140 | ) | | | (298 | ) |
Total debt | | | 28,775 | | | | 165,592 | | | | 24,947 | | | | 168,676 | | | | 27,643 | | | | 169,037 | | | | 24,596 | | | | 164,465 | |
Principal portion of capital lease obligations, secured by related revenue equipment | | | 2,941 | | | | 22,525 | | | | 2,441 | | | | 19,761 | | | | 5,074 | | | | 33,877 | | | | 2,962 | | | | 21,777 | |
Total debt and capital lease obligations | | $ | 31,716 | | | $ | 188,117 | | | $ | 27,388 | | | $ | 188,437 | | | $ | 32,717 | | | $ | 202,914 | | | $ | 27,558 | | | $ | 186,242 | |
We and substantially all of our subsidiaries are parties to a Third Amended and Restated Credit Facility (the "Credit Facility") with Bank of America, N.A., as agent (the "Agent") and JPMorgan Chase Bank, N.A. (together with the Agent, the "Lenders").
The Credit Facility is a $95.0 million revolving credit facility, with an uncommitted accordion feature that, so long as no event of default exists, allows us to request an increase in the revolving credit facility of up to $50.0 million subject to Lender acceptance of the additional funding commitment. The Credit Facility includes, within our $95.0 million revolving credit facility, a letter of credit sub facility in an aggregate amount of $95.0 million and a swing line sub facility in an aggregate amount equal to the greater of $10.0 million or 10% of the Lenders' aggregate commitments under the Credit Facility from time-to-time. The Credit Facility matures in September 2018.2021.
Borrowings under the Credit Facility are classified as either "base rate loans" or "LIBOR loans." Base rate loans accrue interest at a base rate equal to the greater of the Agent's prime rate, the federal funds rate plus 0.5%, or LIBOR plus 1.0%, plus an applicable margin ranging from 0.5% to 1.0%; while LIBOR loans accrue interest at LIBOR, plus an applicable margin ranging from 1.5% to 2.0%. The applicable rates are adjusted quarterly based on average pricing availability. The unused line fee is the product of 0.25% times the average daily amount by which the Lenders' aggregate revolving commitments under the Credit Facility exceed the outstanding principal amount of revolver loans and the aggregate undrawn amount of all outstanding letters of credit issued under the Credit Facility. The obligations under the Credit Facility are guaranteed by us and secured by a pledge of substantially all of our assets, with the notable exclusion of any real estate or revenue equipment pledged under other financing agreements, including revenue equipment installment notes and capital leases.
Borrowings under the Credit Facility are subject to a borrowing base limited to the lesser of (A) $95.0 million, minus the sum of the stated amount of all outstanding letters of credit; or (B) the sum of (i) 85% of eligible accounts receivable, plus (ii) the lesser of (a) 85% of the appraised net orderly liquidation value of eligible revenue equipment, (b) 95% of the net book value of eligible revenue equipment, or (c) 35% of the Lenders' aggregate revolving commitments under the Credit Facility, plus (iii) the lesser of (a) $25.0 million or (b) 65%75% of the appraised fair market value of eligible real estate. We had $3.7estate, as reduced by a periodic amortization amount. As of September 30, 2018, there were undrawn letters of credit outstanding of approximately $35.1 million, available borrowing capacity was $59.9 million, and $6.2 million in outstanding borrowings under the Credit Facility. The interest rate on outstanding borrowings under the Credit Facility as of September 30, 2017, undrawn letters of credit outstanding of approximately $32.9 million, and available borrowing capacity of $55.6 million. The interest rate2018, was 5.8% on outstanding borrowings as of September 30, 2017, was 4.8% on $0.7$6.2 million of base rate loans, and 2.8% on $3.0 million ofthere were no outstanding LIBOR loans.loans. Based on availability as of September 30, 20172018 and December 31, 2016,2017, there was no fixed charge coverage requirement.
The Credit Facility includes usual and customary events of default for a facility of this nature and provides that, upon the occurrence and continuation of an event of default, payment of all amounts payable under the Credit Facility may be accelerated, and the Lenders' commitments may be terminated. If an event of default occurs under the Credit Facility and the Lenders cause or have the ability to cause all of the outstanding debt obligations under the Credit Facility to become due and payable, this could result in a default under other debt instruments that contain acceleration or cross-default provisions. The Credit Facility contains certain restrictions and covenants relating to, among other things, debt, dividends, liens, acquisitions and dispositions outside of the ordinary course of business, and affiliate transactions. Failure to comply with the covenants and restrictions set forth in the Credit Facility could result in an event of default.
Capital lease obligations are utilized to finance a portion of our revenue equipment and are entered into with certain finance companies who are not parties to our Credit Facility. The capital leases in effect at September 30, 20172018 terminate in October 20172018 through September 2023 and contain guarantees of the residual value of the related equipment by us. As such, the residual guarantees are included in the related debt balance as a balloon payment at the end of the related term as well as included in the future minimum capital lease payments. These capital lease agreements require us to pay personal property taxes, maintenance, and operating expenses.
Pricing for the revenue equipment installment notes is quoted by the respective financial affiliates of our primary revenue equipment suppliers and other lenders at the funding of each group of equipment acquired and include fixed annual rates for new equipment under retail installment contracts. The notes included in the funding are due in monthly installments with final maturities at various dates ranging from October 20172018 to July 2023. The notes contain certain requirements regarding payment, insuring of collateral, and other matters, but do not have any financial or other material covenants or events of default, except certain notes totaling $130.0$133.0 million are cross-defaulted with the Credit Facility. Additionally, the abovementioned fuel hedge contracts totaling $1.6$0.9 million at September 30, 2017,2018, are cross-defaulted with the Credit Facility. Concurrent with entering into certain of our revenue equipment installment notes, we entered into interest rate swaps to effectively fix the interest rates. See Note 6 for further information. Additional borrowings from the financial affiliates of our primary revenue equipment suppliers and other lenders are expected to be available to fund new tractors expected to be delivered for the remainder of 2017,2018, while any other property and equipment purchases, including trailers, are expected to be funded with a combination of available cash, notes, operating leases, capital leases, and/or from the Credit Facility.
In August 2015, we financed a portion of the purchase of our corporate headquarters, a maintenance facility, and certain surrounding property in Chattanooga, Tennessee by entering into a $28.0 million variable rate note with a third party lender. Concurrently with entering into the note, we entered into an interest rate swap to effectively fix the related interest rate to 4.2%. See Note 6 for further information about the interest rate swap.
Note 8. | Stock-Based Compensation
|
Note 8. Stock-Based Compensation
Our 2006 Omnibus Incentive Plan, as amended (the "Incentive Plan") governs the issuance of equity awards and other incentive compensation to management and members of the board of directors. In February 2013, the Compensation Committee re-approved, subject to stockholder re-approval, the material terms of the performance-based goals under the Incentive Plan so that certain incentive awards granted thereunder would continue to qualify as exempt "performance-based compensation" under Internal Revenue Code Section 162(m). Our stockholders re-approved the material terms of the performance-based goals under the Incentive Plan at our 2013 Annual Meeting held on May 29, 2013.
The
Incentive Plan permits annual awards of shares of our Class A common stock to executives, other key employees, consultants, non-employee directors, and
other eligible participants under various types of options, restricted stock awards, or other equity instruments. At September 30,
2017, 179,0652018, 49,405 of the abovementioned 1,550,000 shares were available for award under the Incentive Plan. No participant in the Incentive Plan may receive awards of any type of equity instruments in any calendar-year that relates to more than 200,000 shares of our Class A common stock. No awards may be made under the Incentive Plan after March 31, 2023.
To the extent available, we have issued treasury stock to satisfy all share-based incentive plans.
Included in salaries, wages, and related expenses within the condensed consolidated statements of operations is $1.1 million and $0.3 million of stock-based compensation expense for each of the three-month periodsthree months ended September 30, 2018 and 2017, and 2016, respectively,$2.9 million and $0.6 million and $0.9 million of stock-based compensation expense for the nine months ended September 30, 20172018 and 2016,2017, respectively. All stock compensation expense recorded in 20172018 and 20162017 relates to restricted shares, given no options were granted during these periods.shares. An additional $0.3$0.4 million and $0.2$0.3 million of stock-based compensation was recorded in general supplies and expenses in the condensed consolidated statements of operations for each of the three- and nine-month periods ended September 30, 20172018 and 2016,2017, respectively, as this amount relates to the issuance of restricted stock to non-employee directors.
The Incentive Plan allows participants to pay the federal and state minimum statutory tax withholding requirements related to awards that vest or allows participants to deliver to us shares of Class A common stock having a fair market value equal to the minimum amount of such required withholding taxes. To satisfy withholding requirements for shares that vested through September 30,
2017,2018, certain participants elected to forfeit receipt of an aggregate of
12,9212,753 shares of Class A common stock at a weighted average per share price of
$19.91$29.57 based on the closing price of our Class A common stock on the dates the shares vested in
2017,2018, in lieu of the federal and state minimum statutory tax withholding requirements. We remitted
$0.3less than $0.1 million to the proper taxing authorities in satisfaction of the employees' minimum statutory withholding requirements.
Note 9. | Equity Method Investment
|
Note 9. Equity Method Investment
We own a minority investment in Transport Enterprise Leasing, LLC ("TEL"). TEL is a tractor and trailer equipment leasing company and used equipment reseller. We have not guaranteed any of TEL's debt and have no obligation to provide funding, services, or assets. In May 2016, the operating agreement with TEL was amended to, among other things, remove the previously agreed to fixed date purchase options. TEL’s majority owners are generally restricted from transferring their interests in TEL, other than to certain permitted transferees, without our consent. We sold approximately $0.1 million and $0.4 million of tractors or trailers to TEL during each of the nine-monthsnine months ended September 30, 20172018 and 2016, respectively2017, and we received $0.5$5.9 million and $1.3$4.2 million respectively, for providing various maintenance services, certain back-office functions, and for miscellaneous equipment. We recognized a net reversal of previously deferred gains totaling approximately $0.2 million for each of the nine months ended September 30, 20172018 and 2016, respectively,2017, representing 49% of the gains on units sold to TEL less any gains previously deferred and recognized when the equipment was subsequently sold to a third party. Deferred gains, totaling $0.4$0.2 million at September 30, 2017,2018, are being carried as a reduction in our investment in TEL. At September 30, 20172018 and December 31, 2016,2017, we had accounts receivable from TEL of $7.8$5.7 million and $3.7$7.8 million, respectively, related to cash disbursements made pursuant to our performance of certain back-office and maintenance functions on TEL’s behalf.
We have accounted for our investment in TEL using the equity method of accounting and thus our financial results include our proportionate share of TEL's 20172018 net income through September 30, 2017,2018, or $2.6$5.4 million. During the year-to-date period ended September 30, 2017 we received a dividend from TEL of $2.0 million reducing our investment in TEL. Our investment in TEL, totaling $19.3$25.7 million and $18.5$20.1 million at September 30, 20172018 and December 31, 2016,2017, respectively, is included in other assets in the accompanying condensed consolidated balance sheets.
See TEL’s summarized financial information below:
(in thousands) | | As of September 30, 2017 | | | As of December 31, 2016 | | | As of September 30, 2018 | | | As of December 31, 2017 | |
Current Assets | | $ | 20,852 | | | $ | 14,320 | | | $ | 23,276 | | | $ | 19,660 | |
Non-current Assets | | | 171,801 | | | | 146,081 | | | | 255,352 | | | | 183,905 | |
Current Liabilities | | | 14,216 | | | | 34,766 | | | | 15,451 | | | | 53,981 | |
Non-current Liabilities | | | 147,819 | | | | 96,140 | | | | 219,878 | | | | 117,135 | |
Total Equity | | $ | 30,618 | | | $ | 29,495 | | | $ | 43,299 | | | $ | 32,449 | |
| | For the three months ended September 30, 2017 | | | For the three months ended September 30, 2016 | | | For the nine months ended September 30, 2017 | | | For the nine months ended September 30, 2016 | | | For the three months ended September 30, 2018 | | | For the three months ended September 30, 2017 | | | For the nine months ended September 30, 2018 | | | For the nine months ended September 30, 2017 | |
Revenue | | $ | 18,299 | | | $ | 29,359 | | | $ | 64,543 | | | $ | 72,559 | | | $ | 25,437 | | | $ | 18,299 | | | $ | 74,152 | | | $ | 64,543 | |
Operating Expenses | | | 15,439 | | | | 27,096 | | | | 55,753 | | | | 64,301 | | | | 19,061 | | | | 15,439 | | | | 58,060 | | | | 55,753 | |
Operating Income | | | 2,860 | | | | 2,263 | | | | 8,790 | | | | 8,258 | | | | 6,376 | | | | 2,860 | | | | 16,092 | | | | 8,790 | |
Net Income | | $ | 1,499 | | | $ | 1,165 | | | $ | 5,188 | | | $ | 4,977 | | | $ | 4,369 | | | $ | 1,499 | | | $ | 10,850 | | | $ | 5,188 | |
Note 10. Commitments and Contingencies
From time-to-time, we are a party to ordinary, routine litigation arising in the ordinary course of business, most of which involves claims for personal injury and property damage incurred in connection with the transportation of freight.
We maintain insurance to cover liabilities arising from the transportation of freight for amounts in excess of certain self-insured retentions. In management's opinion, our potential exposure under pending legal proceedings is adequately provided for in the accompanying condensed consolidated financial statements.
On May 8, 2017, the U.S. District Court for the Southern District of Ohio issued a pre-trial decision against our Southern Refrigerated Transport, Inc. ("SRT") subsidiary relating to a cargo claim incurred in 2008. The court had previously ruled in favor of the plaintiff in 2014, and the prior decision was reversed in part by the Sixth Circuit Court of Appeals and remanded for further proceedings in 2015. As a result of this decision, we increased the reserve in respect of this case by $0.9 million in the first quarter of 2017 to $7.2 million in order to accrue additional legal fees and pre-judgment interest since the time of the previously noted appeal. We are appealingOn September 25, 2018, the District Court's descision on damagesSixth Circuit Court of Appeals ruled in favor of the plaintiff and against SRT. While considering its further appeal to the Sixth Circuit.U.S. Supreme Court, SRT will likely pay this claim, related accrued interest and legal fees totaling approximately $6.8 million within the next six months.
Our SRT subsidiary is a defendant in a lawsuit filed on December 16, 2016 in the Superior Court of San Bernardino County, California. The lawsuit was filed on behalf of David Bass (a California resident and former driver), who is seeking to have the lawsuit certified as a class action case wherein he alleges violation of multiple California wage and hour statutes over a four year period of time, including failure to pay wages for all hours worked, failure to provide meal periods and paid rest breaks, failure to pay for rest and recovery periods, failure to reimburse certain business expenses, failure to pay vested vacation, unlawful deduction of wages, failure to timely pay final wages, failure to provide accurate itemized wage statements, and unfair and unlawful competition as well as various state claims. The case was removed from state court in February, 2017 to the U.S. District Court in the Central District of California, and subsequently, SRT moved the District Court to transfer venue of the case to the U.S. District Court sitting in the Western District of Arkansas. The motion to transfer was approved by the California District Court in July, 2017, and the case will now be heard in the U.S. District court in the Western District of Arkansas.
Based on our present knowledge of the facts and, in certain cases, advice of outside counsel, management believes the resolution of open claims and pending litigation, taking into account existing reserves, is not likelyreasonably possible to have a materially adverse effect on our consolidated financial statements.
We had $32.9$35.1 million and $27.2$32.9 million of outstanding and undrawn letters of credit as of September 30, 20172018 and December 31, 2016,2017, respectively. The letters of credit are maintained primarily to support our insurance programs.
See Note 12 for a discussion of contingencies related to our acquisition of Landair Holdings, Inc.
Note 11. Other Comprehensive Incomecomprehensive income (loss) ("OCI")
OCI is comprised of net income and other adjustments, including changes in the fair value of certain derivative financial instruments qualifying as cash flow hedges.
The following table summarizes the change in the components of our OCI balance for the periods presented (in thousands; presented net of tax):
Details about OCI Components | | Amount Reclassified from OCI for the three months ended September 30, 2017 | | | Amount Reclassified from OCI for the nine months ended September 30, 2017 | | Affected Line Item in the Statement of Operations | | Amount Reclassified from OCI for the three months ended September 30, 2018 | | | Amount Reclassified from OCI for the nine months ended September 30, 2018 | | Affected Line Item in the Statement of Operations |
Losses on cash flow hedges | | | | | | | | |
Losses (gains) on cash flow hedges | | | | | | | | |
Commodity derivative contracts | | $ | 1,003 | | | $ | 3,668 | | Fuel expense | | $ | (580 | ) | | $ | (1,312 | ) | Fuel expense |
| | | (386 | ) | | | (1,412 | ) | Income tax benefit | | | 160 | | | | 361 | | Income tax expense |
| | $ | 617 | | | $ | 2,256 | | Net of tax | | $ | (420 | ) | | $ | (951 | ) | Net of tax |
| | | | | | | | | | | | | | | | | | |
Interest rate swap contract | | $ | 98 | | | $ | 347 | | Interest expense | | $ | 19 | | | $ | 114 | | Interest expense |
| | | (38 | ) | | | (134 | ) | Income tax benefit | | | (5 | ) | | | (31 | ) | Income tax benefit |
| | $ | 60 | | | $ | 213 | | Net of tax | | $ | 14 | | | $ | 83 | | Net of tax |
Note 12. Acquisition of Landair Holdings, Inc.
On July 3, 2018, we acquired 100% of the outstanding stock of Landair Holdings, Inc., a Tennessee corporation (“Landair”). The total cash paid was $106.7 million, including (i) $83.0 million in cash to Landair's former owners, (ii) $3.2 million reimbursement to Landair's former owners and $5.0 million in state taxes paid by Landair after the acquisition related to our Internal Revenue Code Section 338(h)(10) election, which is still subject to finalization, and (iii) approximately $15.5 million for the debt of Landair, which we have paid in full, but not considering approximately $0.8 million of cash balances acquired. The Stock Purchase Agreement contains customary representations, warranties, covenants, and indemnification provisions.
Landair is a leading dedicated and for-hire truckload carrier, as well as a supplier of transportation management, warehousing and logistics inventory management services. Landair’s results have been included in the condensed consolidated financial statements since the date of acquisition. Landair’s trucking operations’ results are reported within our Truckload segment, while Landair’s logistics operations’ results are reported within our Managed Freight segment.
The allocation of the preliminary purchase price detailed below is subject to change based on finalization of the valuation of long-lived and intangible assets, as well as our ongoing evaluation of Landair’s accounting principles for consistency with ours.
(in thousands) | | | |
Cash paid | | | | | $ | 106,700 | |
| | | | | | | |
Allocated to: | | | | | | | |
Historical book value of Landair’s assets and liabilities | | $ | 25,589 | | | | | |
Adjustments to recognize assets and liabilities at acquisition-date fair value: | | | | | | | | |
Property, plant, and equipment | | | (7,450 | ) | | | | |
Other assets | | | (1,094 | ) | | | | |
Liabilities | | | (829 | ) | | | | |
Fair value of tangible net assets acquired | | | | | | | 16,216 | |
Post-acquisition goodwill adjustments | | | | | | | (114 | ) |
Identifiable intangibles at acquisition-date fair value | | | | | | | 34,000 | |
Debt paid at closing | | | | | | | 15,512 | |
Excess of consideration transferred over the net amount of assets and liabilities recognized | | | | | | $ | 41,086 | |
| | | | | | | | |
Cash paid pursuant to Stock Purchase Agreement | | | $ | 106,700 | |
Cash acquired included in historical book value of Landair assets and liabilities | | | | (754 | ) |
Net purchase price | | | $ | 105,946 | |
| | | | | | | | |
Deferred income taxes arising from the acquisition are immaterial because of our 338(h)(10) election.
The following table summarizes the preliminary fair values of the assets acquired and liabilities assumed at the acquisition date.
(in thousands) | | | |
| | July 3, 2018 | |
Cash and cash equivalents | | $ | 754 | |
Accounts receivable | | | 12,610 | |
Driver advances and other receivables | | | 4,295 | |
Inventory and supplies | | | 3 | |
Prepaid expenses | | | 1,010 | |
Assets held for sale | | | 128 | |
Net property and equipment | | | 26,164 | |
Other assets, net | | | 22 | |
Other intangibles, net | | | 34,000 | |
Total identifiable assets acquired | | | 78,986 | |
| | | | |
Accounts payable | | | (5,475 | ) |
Accrued expenses | | | (5,015 | ) |
Insurance and claims accrual | | | (2,645 | ) |
Other short-term liabilities | | | (123 | ) |
Total liabilities assumed | | | (13,258 | ) |
Net identifiable assets acquired | | | 65,728 | |
Goodwill | | | 40,972 | |
Net assets acquired | | | 106,700 | |
| | | | |
The goodwill recognized is attributable primarily to expected cost synergies in the areas of insurance and claims, workers compensation, fuel, and purchases of revenue equipment. Additionally, Landair and the historical Company have limited customer overlap, and as such we expect to be able to cross-sell services between historical customers and those of Landair.
The amounts of revenue and earnings of Landair included in the Company’s consolidated results of operations from the acquisition date to the period ended September 30, 2018 are as follows:
(in thousands) | | Three months ended | |
| | September 30, 2018 | |
Total revenue | | $ | 41,490 | |
Net income | | $ | 1,956 | |
The following unaudited pro forma consolidated results of operations for the three and nine months ended September 30, 2018 and 2017 assume that the acquisition of Landair occurred as of January 1, 2017:
(in thousands) | | Three months ended September 30, | | | Nine months ended September 30, | |
| | 2018 | | | 2017 | | | 2018 | | | 2017 | |
Total revenue | | $ | 243,303 | | | $ | 208,842 | | | $ | 687,937 | | | $ | 592,333 | |
Net income | | $ | 11,614 | | | $ | 4,882 | | | $ | 28,886 | | | $ | 6,892 | |
Basic net income per share | | $ | 0.63 | | | $ | 0.27 | | | $ | 1.58 | | | $ | 0.38 | |
Diluted net income per share | | $ | 0.63 | | | $ | 0.27 | | | $ | 1.57 | | | $ | 0.38 | |
For the nine months ended September 30, 2018, the pro forma results include an immaterial amount of adjustments to conform Landair to the accounting policies of the Company related to operations and maintenance and insurance and claims. In addition, salaries, wages, and related expenses decreased by a net of $2.1 million related to sale bonuses and non-recurring compensation paid to a prior owner of Landair, partially offset by restricted shares granted to key retained employees. General supplies and expenses decreased by $3.4 million related to non-recurring acquisition-related expenses. Depreciation and amortization increased by $1.1 million due to the amortization of intangible assets as detailed in Note 13, partially offset by a net decrease resulting from the depreciation of property, plant, and equipment using useful lives consistent with those utilized by the Company. Interest expense, net increased by approximately $2.0 million as a result of the financing obtained by the Company to fund the Landair acquisition. Income tax expense was adjusted by approximately $0.1 million for the effect of each of the aforementioned adjustments. Results for the three and nine months ended September 30, 2018 exclude two days of Landair’s operations that occurred between the period ended June 30, 2018 and our acquisition on July 3, 2018, but this effect is immaterial.
For the three and nine months ended September 30, 2017, the pro forma results include an immaterial amount of adjustments to conform Landair to the accounting policies of the Company related to operations and maintenance and insurance and claims. Depreciation and amortization increased by approximately $0.6 million and $1.7 million for the quarter and nine months, respectively, due to the amortization of intangible assets as detailed in Note 13, partially offset by a net decrease resulting from the depreciation of property, plant, and equipment using useful lives consistent with those utilized by the Company. Interest expense, net increased $1.0 million and $3.0 million for the quarter and nine months, respectively, as a result of the financing obtained by the Company to fund the Landair acquisition. Income tax expense was adjusted by an immaterial amount for the effect of each of the aforementioned adjustments.
The pro forma adjustments have been made solely for informational purposes. The actual results reported by the consolidated company in periods following the acquisition may differ significantly from that reflected in the unaudited pro forma consolidated results of operations for a number of reasons, including but not limited to cost savings from operating efficiencies, synergies and the impact of the incremental costs incurred in integrating the two companies. As a result, the unaudited pro forma consolidated results of operations are not intended to represent and does not purport to be indicative of what the combined company’s results of operations would have been had the acquisition been completed on the applicable dates of this unaudited pro forma consolidated results of operations. In addition, the unaudited pro forma consolidated results of operations do not purport to project the future results of operations of the consolidated company.
Note 13. Intangible Assets
Based on the preliminary allocation of the purchase price for Landair, the following amounts have been allocated to identifiable intangible assets along with the respective amortization periods:
(in thousands) | | September 30, 2018 | | | | |
| | Gross intangible assets | | | Accumulated amortization | | | Net intangible assets | | | Life (months) | |
Trade name | | $ | 4,400 | | | $ | (73 | ) | | $ | 4,327 | | | | 180 | |
Non-Compete agreement | | | 1,400 | | | | (70 | ) | | | 1,330 | | | | 60 | |
Customer relationships | | | 28,200 | | | | (588 | ) | | | 27,612 | | | | 144 | |
Total | | $ | 34,000 | | | $ | (731 | ) | | $ | 33,269 | | | | | |
The above intangible assets have a weighted average life of 145 months. The expected amortization of these assets for the next five successive years is as follows:
| | (In thousands) | |
2018 | | $ | 731 | |
2019 | | | 2,923 | |
2020 | | | 2,923 | |
2021 | | | 2,923 | |
2022 | | | 2,923 | |
2023 | | | 2,783 | |
Thereafter | | | 18,063 | |
Note 14. Available-for-sale Securities
We have purchased certain investments to meet dual objectives of capital preservation and maintenance of sufficient resources to fund insurance losses. As such, the investments are not held for the purpose of trading. Furthermore, due to the uncertain nature of insurance losses, the investments are not held-to-maturity, and are thus classified as available-for-sale securities. Unrealized holding gains and losses on these investments are excluded from earnings and reported in other comprehensive income until realized. Unrealized holding losses below, which are comprised of ten investments in an unrealized loss position, are not considered other-than-temporary, as both the duration and amount of unrealized losses have been insignificant.
(in thousands) | | September 30, 2018 | |
| | Amortized cost basis | | | Gross unrealized losses (less than 12 months) | | | Fair value | |
US corporate securities, maturing within one to five years | | $ | 396 | | | $ | (2 | ) | | $ | 394 | |
Certificates of deposit, maturing in less than one year | | | 600 | | | | (0 | ) | | | 600 | |
Certificates of deposit, maturing within one to five years | | | 500 | | | | (1 | ) | | | 499 | |
Total available-for-sale securities | | $ | 1,496 | | | $ | (3 | ) | | $ | 1,493 | |
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The condensed consolidated financial statements include the accounts of Covenant Transportation Group, Inc., a Nevada holding company, and its wholly owned subsidiaries. References in this report to "we," "us," "our," the "Company," and similar expressions refer to Covenant Transportation Group, Inc. and its wholly owned subsidiaries. All significant intercompany balances and transactions have been eliminated in consolidation.
This report contains certain statements that may be considered forward-looking statements within the meaning of Section 21E of the Securities Exchange Act of 1934, as amended (the "Exchange Act"), and Section 27A of the Securities Act of 1933, as amended (the "Securities Act") and such statements are subject to the safe harbor created by those sections and the Private Securities Litigation Reform Act of 1995, as amended. All statements, other than statements of historical or current fact, are statements that could be deemed forward-looking statements, including without limitation: any projections of earnings, revenues, or other financial items; any statement of plans, strategies, and objectives of management for future operations; any statements concerning proposed new services or developments; any statements regarding future economic conditions or performance; and any statements of belief and any statements of assumptions underlying any of the foregoing. In this Form 10-Q, statements relating to future reclassification of
lossesgains arising from derivative instruments and the performance of counterparties to such instruments, future impact of new accounting standards, future results of SRT,
and Solutions, future third-party transportation provider expenses, future tax
rates, expenses,
and deductions, expected freight demand and volumes, potential results of a default and testing of our fixed charge covenant under the Credit Facility
or other debt agreements, expected sources of working capital and liquidity (including our mix of debt, capital leases, and operating leases as means of financing revenue equipment), expected capital expenditures,
future customer relationships, future use of dedicated contracts, future mix of team versus solo drivers, expected debt reduction,
future driver market conditions, expected cash flows,
expected operating income and earnings per share improvements, future trucking capacity, future rates and prices, future utilization,
the impact of regulations, including those related to electronic logging devices, future depreciation and amortization, future salaries, wages, and related expenses, including driver compensation and management bonuses, expected net fuel costs, strategies for managing fuel costs, the effectiveness and impact of, and cash flows relating to, our fuel hedging contracts and fuel surcharge programs, future fluctuations in operations and maintenance expenses, future fleet size
age, and management, the market value of used equipment, including equipment subject to operating or capital leases relative to our payment obligations under such operating leases (including residual value guarantees and the proceeds from the sale thereof), the anticipated impact of our investment in Transport Enterprise Leasing, LLC,
the anticipated impact of our acquisition of Landair, and anticipated levels of and fluctuations relating to insurance, claims, and litigation expenses, including with respect to the 2008 cargo claim and the California wage and hour claim, among others, are forward-looking statements. Forward-looking statements may be identified by the use of terms or phrases such as "believe," "may," "could," "expects," "estimates," "projects," "anticipates," "plans," "intends," and similar terms and phrases. Such statements are based on currently available operating, financial, and competitive information. Forward-looking statements are inherently subject to risks and uncertainties, some of which cannot be predicted or quantified, which could cause future events and actual results to differ materially from those set forth in, contemplated by, or underlying the forward-looking statements. Factors that could cause or contribute to such differences include, but are not limited to, those discussed in the section entitled "Item 1A. Risk Factors," set forth in our Form 10-K for the year ended December 31,
2016.2017. Readers should review and consider the factors discussed in "Item 1A. Risk Factors," set forth in our Form 10-K for the year ended December 31,
2016 and our Form 10-Q for the quarter ended June 30, 2017,
andalong with various disclosures in our press releases, stockholder reports, and other filings with the Securities and Exchange Commission.
All such forward-looking statements speak only as of the date of this Form 10-Q. You are cautioned not to place undue reliance on such forward-looking statements. We expressly disclaim any obligation or undertaking to release publicly any updates or revisions to any forward-looking statements contained herein to reflect any change in our expectations with regard thereto or any change in the events, conditions, or circumstances on which any such statement is based.
Executive Overview
TheWith continued economic growth in the U.S. we are encouraged by the year-over-year improvement in our operating margins for the third quarter was characterized by strong freight demand and tight trucking capacity. The market, and consequently, our utilization measured by miles per tractor improved in July and August. However, significant disruption of freight activity from the two hurricanes depressed September utilization.2018. The main positives in the third quarter were 1) a 4.1%the successful strategic addition of Landair, meeting our stated objective of entering into closer relationships with our customers and getting deeper in the supply chain, 2) improvement in the operating profitability at each of our Truckload segment operating fleets, 3) an approximate 10% increase in average freight revenue per trucktractor for our Truckload segment, excluding Landair’s truckload operations, versus the same quarter of 2016, 2)2017, and 4) improved year-over-year revenue and operating income growthearnings from our Solutions subsidiary, and 3) our tangible book value per basic share increased 7.9% to $13.36 from $12.38 a year ago.investment in TEL. The main negativesnegative in the quarter werewas the increased Truckload operating costs on a per mile basis, includingmost notably the unfavorable employee wages and maintenance expense,casualty insurance claims costs, partially offset by lower net fuel expensecosts and capital costs. The increases in employee wages and maintenance expense were consistent with our expectations based on the labor market and our targeted fleet age.improved net depreciation expense.
Additional items of note for the third quarter of 20172018 include the following:
● | Total revenue of $178.6$243.3 million, an increase of 8.6%36.2% compared with the third quarter of 20162017 and freight revenue (which excludes revenue from fuel surcharges) of $159.5$214.6 million, an increase of 7.6%34.6% compared with the third quarter of 2016;2017; |
| |
● | Operating income of $16.2 million, an operating ratio of 93.3%, and an adjusted operating ratio of 92.1%, compared with operating income of $9.0 million, an operating ratio of 94.9%, and an adjusted operating ratio of 94.3%, compared with operating income of $5.4 million, an operating ratio of 96.7%, and an adjusted operating ratio of 96.3% in the third quarter of 2016;2017; |
| |
● | Net income of $4.6$16.2 million, or $0.25$0.63 per diluted share, compared with net income of $2.9$4.6 million, or $0.16$0.25 per diluted share, in the third quarter of 2016;2017; |
| |
● | With available borrowing capacity of $55.6$59.9 million under our Third Amended and Restated Credit Facility (the "Credit Facility") as of September 30, 2017,2018, we do not expect to be required to test our fixed charge covenant in the foreseeable future; |
| |
● | Our Covenant Transport Solutions, Inc.’s ("Solutions")Managed Freight segment’s total revenue increased by 60.8%80.9% to $25.6$46.3 million, compared to $15.9$25.6 million for the third quarter of 2016,2017, and Solutions’their operating income increased to $2.5$4.2 million compared to the 20162017 quarter at $1.8$2.5 million; |
| |
● | Our equity investment in TEL provided $0.8$2.1 million of pre-tax earnings compared to $0.5$0.8 million in the third quarter of 2016;2017; |
| |
● | Since December 31, 2016, total2017, aggregate lease-adjusted indebtedness net of cash and including(which includes the present value of off-balance sheet lease obligations, has decreasedobligations), net of cash, increased by $0.8$22.2 million to $225.9$242.4 million; and |
| |
● | Stockholders’ equity at September 30, 2018 was $326.2 million, and tangible book value at September 30, 2017, were $244.4was $251.8 million, or $13.36$13.72 per basic share. |
As the date of the mandatory electronic logging devices ("ELDs") implementation approaches, weWe expect the supply-demand environmentoverall balance of business conditions to continue to improve inremain favorable through the fourth quarter of 20172018 and into 2018 as2019. Freight demand has been, and remains, strong across our business units and indications from our holiday peak season customers indicate robust expectations for the fourth quarter. From a result of newly compliant carriers removing industry-wide freight transportation capacity—through lower truck numbers or decreased daily driving time—as well as increased volumes from economic growth. While the timing and magnitude of these changes are difficult to predict and may be different in each of our markets, these upcoming changes makecapacity perspective, attracting and retaining safe, service-orientedhighly qualified, over the road professional truck drivers even more critical forremains our industrylargest challenge. Low unemployment, alternative careers, and for us. an aging driver population are creating an increasingly competitive environment. 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 outlookAlong with the Landair acquisition, we have increased our capital allocation to organically grow our dedicated truckload, transportation management services, and other managed freight solutions. As of September 30, 2018, we had 1,535 tractors from our truckload fleet operating under dedicated contracts, representing 50% of the fleet. This compares to a year ago when only approximately 827 of our tractors, or 32% 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 volumes, reduces earnings volatility of the cyclical freight economy, and provides a favorable drivers’ experience for professional drivers who desire greater consistency.
For the fourth quarter, we will remain a major participant in the holiday peak shipping season and anticipate our consolidated adjusted operating ratio and consolidated adjusted earnings per diluted share to improve compared with the fourth quarter of 2017 is positive2017. However, due to changes in team versus solo-driver mix, dedicated versus irregular route capacity, and our goal remains to deliver earnings improvementmanaged freight capacity, as compared towell as the fourth quarter of 2016. We expect year-over-year net fuel expense savings, and a flattening of the year-over-year impact of the changes to our depreciation policy adopted in the third quarter of 2016, somewhat offset by higher maintenance expense and professional driver wages. At SRT,Landair transaction, we expect additional progress in the remaining quarter of 2017 versus 2016.are not offering more specific earnings guidance.
In addition to operating ratio, we use "adjusted operating ratio" as a key measure of profitability. Adjusted operating ratio is not a substitute for operating ratio measured in accordance with GAAP. There are limitations to using non-GAAP financial measures. Adjusted operating ratio means operating expenses, net of fuel surcharge revenue
and amortization of intangibles, expressed as a percentage of revenue, excluding fuel surcharge revenue. We believe the use of adjusted operating ratio allows us to more effectively compare periods, while excluding the potentially volatile effect of changes in fuel prices. Our Board and management focus on our adjusted operating ratio as an indicator of our performance from period to period. We believe our presentation of adjusted operating ratio is useful because it provides investors and securities analysts the same information that we use internally to assess our core operating performance. Although we believe that adjusted operating ratio improves comparability in analyzing our period-to-period performance, it could limit comparability to other companies in our industry, if those companies define adjusted operating ratio differently. Because of these limitations, adjusted operating ratio should not be considered a measure of income generated by our business or discretionary cash available to us to invest in the growth of our business. Management compensates for these limitations by primarily relying on GAAP results and using non-GAAP financial measures on a supplemental basis.
Operating Ratio
Operating Ratio ("OR") and Adjusted Operating Ratio For Three and Nine Months Ended September 30, 2017 and 2016, respectively | | |
Operating Ratio ("OR") For Three and Nine Months Ended September 30, 2017 and 2018, respectively | | Operating Ratio ("OR") For Three and Nine Months Ended September 30, 2017 and 2018, respectively | |
| | | | | | | | | | | | |
| | Three months ended September 30, | | | Nine months ended September 30, | | | Three months ended September 30, | | | Nine months ended September 30, | |
GAAP Operating Ratio: | | 2017 | | | OR % | | | 2016 | | | OR % | | | 2017 | | | OR % | | | 2016 | | | OR % | | | 2018(1)(2) | | | OR % | | | 2017(2) | | | OR % | | | 2018(1)(2) | | | OR % | | | 2017(2) | | | OR % | |
Total revenue | | $ | 178,631 | | | | | | $ | 164,500 | | | | | | $ | 501,701 | | | | | | $ | 479,673 | | | | | | $ | 243,303 | | | | | | $ | 178,631 | | | | | | $ | 613,187 | | | | | | $ | 501,701 | | | | |
Total operating expenses | | | 169,590 | | | | 94.9 | % | | | 159,054 | | | | 96.7 | % | | | 488,389 | | | | 97.3 | % | | | 459,492 | | | | 95.8 | % | | | 227,122 | | | | 93.3 | % | | | 169,590 | | | | 94.9 | % | | | 576,516 | | | | 94.0 | % | | | 488,389 | | | | 97.3 | % |
Operating income | | $ | 9,041 | | | | | | | $ | 5,446 | | | | | | | $ | 13,312 | | | | | | | $ | 20,181 | | | | | | | $ | 16,181 | | | | | | | $ | 9,041 | | | | | | | $ | 36,671 | | | | | | | $ | 13,312 | | | | | |
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
Adjusted Operating Ratio: | | | 2017 | | | | | | | 2016 | | | | | | | 2017 | | | | | | | 2016 | | | | | | | 2018 | | | | | | | 2017 | | | | | | | 2018 | | | | | | | 2017 | | | | |
Total revenue | | $ | 178,631 | | | | | | | $ | 164,500 | | | | | | | $ | 501,701 | | | | | | | $ | 479,673 | | | | | | | $ | 243,303 | | | | | | | $ | 178,631 | | | | | | | $ | 613,187 | | | | | | | $ | 501,701 | | | | | |
Less: Fuel surcharge revenue: | | | 19,131 | | | | | | | | 16,271 | | | | | | | | 56,489 | | | | | | | | 42,329 | | | | | | | | (28,680 | ) | | | | | | | 19,131 | | | | | | | | (77,466 | ) | | | | | | | 56,489 | | | | | |
Revenue (excluding fuel surcharge revenue) | | | 159,500 | | | | | | | | 148,229 | | | | | | | | 445,212 | | | | | | | | 437,344 | | | | | | | | 214,623 | | | | | | | | 159,500 | | | | | | | | 535,721 | | | | | | | | 445,212 | | | | | |
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
Total operating expenses | | | 169,590 | | | | | | | | 159,054 | | | | | | | | 488,389 | | | | | | | | 459,492 | | | | | | | | 227,122 | | | | | | | | 169,590 | | | | | | | | 576,516 | | | | | | | | 488,389 | | | | | |
Less: Fuel surcharge revenue | | | 19,131 | | | | | | | | 16,271 | | | | | | | | 56,489 | | | | | | | | 42,329 | | | �� | | | | | (28,680 | ) | | | | | | | 19,131 | | | | | | | | (77,466 | ) | | | | | | | 56,489 | | | | | |
Less: Amortization of intangibles(3) | | | | (731 | ) | | | | | | | - | | | | | | | | (731 | ) | | | | | | | - | | | | | |
Total operating expenses (net of fuel surcharge revenue) | | | 150,459 | | | | 94.3 | % | | | 142,783 | | | | 96.3 | % | | | 431,900 | | | | 97.0 | % | | | 417,163 | | | | 95.4 | % | | | 197,711 | | | | 92.1 | % | | | 150,459 | | | | 94.3 | % | | | 498,319 | | | | 93.0 | % | | | 431,900 | | | | 97.0 | % |
Operating income | | $ | 9,041 | | | | | | | $ | 5,446 | | | | | | | $ | 13,312 | | | | | | | $ | 20,181 | | | | | | | $ | 16,912 | | | | | | | $ | 9,041 | | | | | | | $ | 37,402 | | | | | | | $ | 13,312 | | | | | |
| | | |
(1) Includes impact of adoption of ASU 2014-09. See Note 1. for the related impact to total revenue and operating expenses. (2) The reported results do not include the results of operations of Landair on and prior to its acquisition by the Company on July 3, 2018 in accordance with the accounting treatment applicable to the transaction. (3) “Amortization of intangibles” reflects the non-cash amortization expense relating to intangible assets identified in the July 3, 2018 acquisition of Landair. | | (1) Includes impact of adoption of ASU 2014-09. See Note 1. for the related impact to total revenue and operating expenses. (2) The reported results do not include the results of operations of Landair on and prior to its acquisition by the Company on July 3, 2018 in accordance with the accounting treatment applicable to the transaction. (3) “Amortization of intangibles” reflects the non-cash amortization expense relating to intangible assets identified in the July 3, 2018 acquisition of Landair. | |
Revenue and Expenses
We focus on targeted markets throughout the United States where we believe our service standards can provide a competitive advantage. We are a major carrier for transportation companies such as parcel freight forwarders, less-than-truckload carriers, and third-party logistics providers that require a high level of service to support their businesses, as well as for traditional truckload customers such as manufacturers, retailers, and food and beverage shippers. We also generate revenue through a subsidiary that provides other freightproviding ancillary services, including freight brokerage and accounts receivable factoring.
We have
onetwo reportable
segment,segments, Truckload, which is comprised of our truckload
services, and Managed Freight, which provides freight brokerage, logistics, and transportation management services.
The Truckload segment consistsat September 30, 2018 consisted of threefour operating fleets that are aggregated because they have similar economic characteristics and meet the aggregation criteria. The threefour operating fleets that comprise our Truckload segment are as follows: (i) Covenant Transport, our historical flagship operation, which provides expedited long haul, dedicated, temperature-controlled, and regional solo-driver service; (ii) SRT, which provides primarily long-haul, regional, and dedicated and intermodal temperature-controlled service; and (iii) Star Transportation, Inc., which provides regional solo-driver and dedicated services, primarily in the southeastern United States.States; and (iv) Landair trucking operations, which provides primarily dedicated service.
In our Truckload segment, we primarily generate revenue by transporting freight for our customers. Generally, we are paid a predetermined rate per mile for our truckload services. We enhance our truckload revenue by charging for tractor and trailer detention, loading and unloading activities, and other specialized services, as well as through the collection of fuel surcharges to mitigate the impact of increases in the cost of fuel. The main factors that affect our Truckload revenue are the revenue per mile we receive from our customers, the percentage of miles for which we are compensated, and the number of shipments and miles we generate. These factors relate, among other things, to the general level of economic activity in the United States, inventory levels, specific customer demand, the level of capacity in the trucking industry, and driver availability.
Our Truckload segment also derives revenue from fuel surcharges, loading and unloading activities, equipment detention, and other accessorial services. We measure revenue before fuel surcharges, or "freight revenue," because we believe that fuel surcharges tend to be a volatile source of revenue. We believe the exclusion of fuel surcharges affords a more consistent basis for comparing the results of operations from period-to-period. Nonetheless, freight revenue represents a non-GAAP financial measure. Accordingly, undue reliance should not be placed on the discussion of freight revenue, and discussions of freight revenue should be considered in combination with discussions of total revenue. For each expense item discussed below, we have provided a table setting forth the relevant expense first as a percentage of total revenue, and then as a percentage of freight revenue.
The main expenses that impact the profitability of our Truckload segment are the variable costs of transporting freight for our customers. These costs include fuel expenses, driver-related expenses, such as wages, benefits, training, and recruitment, and purchased transportation expenses, which primarily include compensating independent contractors. Expenses that have both fixed and variable components include maintenance and tire expense and our total cost of insurance and claims. These expenses generally vary with the miles we travel, but also have a controllable component based on safety, self-insured retention versus insurance premiums, fleet age, efficiency, and other factors. Our main fixed costs include rentals and depreciation of long-term assets, such as revenue equipment and terminal facilities, and the compensation of non-driver personnel.
Our main measuremeasures of profitability isare operating ratio and adjusted operating ratio, which we define as operating expenses, net of fuel surcharge revenue and amortization of intangibles, divided by total revenue, less fuel surcharge revenue, or freight revenue. See page 2228 for the uses and limitations associated with adjusted operating ratio.ratio.
We operate tractors driven by a single driver and also tractors assigned to two-person driver teams. Our single driver tractors generally operate in shorter lengths-of-haul, generate fewer miles per tractor, and experience more non-revenue miles, but the lower productive miles are expected to be offset by generally higher revenue per loaded mile and the reduced employee expense of compensating only one driver. In contrast, our two-person driver tractors generally operate in longer lengths-of-haul, generate greater miles per tractor, and experience fewer non-revenue miles, but we typically receive lower revenue per loaded mile and incur higher employee expenses of compensating both drivers. We expect operating statistics and expenses to shift with the mix of single and team operations.
In addition, our Solutions subsidiaryManaged Freight segment has service offerings ancillary to our Truckload operations, includingservices, including: freight brokerage service directly and through freight brokerage agents, who are paid a commission for the freight they provide, and accounts receivable factoring. Thesetransportation management services. The operations consist of several operating segments, which neither individually norare aggregated due to similar margins and customers. Included in the aggregateManaged Freight are our accounts receivable factoring and warehousing businesses, which do not meet the quantitative or qualitative reporting thresholds.aggregation criteria, but only account for $3.4 million and $11.7 million of our revenue, respectively, during the nine months ended September 30, 2018.
Revenue Equipment
At September 30, 2017,2018, we operated 2,5503,077 tractors and 7,1146,849 trailers. Of such tractors, 2,1682,417 were owned, 135345 were financed under operating leases, and 247315 were provided by independent contractors, who provide and drive their own tractors. Of such trailers, 4,8505,121 were owned, 1,101570 were financed under operating leases, and 1,1631,158 were financed under capital leases. We finance a small portion of our tractor fleet and larger portion of our trailer fleet with off-balance sheet operating leases.leases. These leases generally run for a period of three to five years for tractors and five to seven years for trailers. At September 30, 2017,2018, our fleet had an average tractor age of 2.22.3 years and an average trailer age of 3.63.8 years.
Independent contractors provide a tractor and a driver and are responsible for all operating expenses in exchange for a fixed payment per mile. We do not have the capital outlay of purchasing or leasing the tractor. The payments to independent contractors and the financing of equipment under operating leases are recorded in revenue equipment rentals and purchased transportation. Expenses associated with owned equipment, such as interest and depreciation, and expenses associated with employee drivers, including driver compensation, fuel, and other expenses,
, are not incurred with respect to independent contractors. Obtaining equipment from independent contractors and under operating leases effectively shifts financing expenses from interest to "above the line" operating expenses, and as such, we evaluate our efficiency using net margin as well as operating ratio.
RESULTS OF CONSOLIDATED OPERATIONS
COMPARISON OF THREE AND NINE MONTHS ENDED SEPTEMBER 30, 20172018 TO THREE AND NINE MONTHS ENDED SEPTEMBER 30, 20162017
The following tables set forth the percentage relationship of certain items to total revenue and freight revenue, where applicable (dollars in thousands):
Revenue
| | Three months ended September 30, | | | Nine months ended September 30, | | | Three months ended September 30, | | | Nine months ended September 30, | |
| | 2017 | | | 2016 | | | 2017 | | | 2016 | | | 2018 | | | 2017 | | | 2018 | | | 2017 | |
Revenue: | | | | | | | | | | | | | | | | | | | | | | | | |
Freight revenue | | $ | 159,500 | | | $ | 148,229 | | | $ | 445,212 | | | $ | 437,344 | | | $ | 214,623 | | | $ | 159,500 | | | $ | 535,721 | | | $ | 445,212 | |
Fuel surcharge revenue | | | 19,131 | | | | 16,271 | | | | 56,489 | | | | 42,329 | | | | 28,680 | | | | 19,131 | | | | 77,466 | | | | 56,489 | |
Total revenue | | $ | 178,631 | | | $ | 164,500 | | | $ | 501,701 | | | $ | 479,673 | | | $ | 243,303 | | | $ | 178,631 | | | $ | 613,187 | | | $ | 501,701 | |
For the quarter ended September 30, 2017,2018, total revenue increased $14.1$64.7 million, or 8.6%36.2%, to $178.6$243.3 million from $164.5$178.6 million in the 20162017 quarter. Freight revenue increased $11.3$55.1 million, or 7.6%34.6%, to $159.5$214.6 million for the quarter ended September 30, 2017,2018, from $148.2$159.5 million in the 20162017 quarter, while fuel surcharge revenue increased $2.9$9.6 million quarter-over-quarter. The increase in freight revenue resulted from a $9.7 million increase in revenues from Solutions and a $1.6$34.4 million increase in freight revenues from our Truckload segment,. as well as a $20.7 million increase in revenues from our Managed Freight segment.
The $1.6$34.4 million increase in Truckload freight revenue relates to a 4.1%547 (or 21.6%) average tractor increase and a 6.1% increase in average freight revenue per tractor per week, partially offset by a $2.7 million decrease in intermodal revenues in the 20172018 quarter as compared to the 20162017 quarter, partially offsetas we effectively discontinued this consistently unprofitable service offering within our solo-driver refrigerated truckload unit during December 2017. Of the 547 increased average tractors, 428 were contributed by a 2.6% decreasethe Landair acquisition, as Landair contributed $18.4 million of freight revenue to consolidated truckload operations in our average tractor fleet.the third quarter of 2018. Average freight revenue per total mile increased 7.0by 27.7 cents per mile, or 16.4%, compared to the 20162017 quarter as a result of the favorable balance of supply and demand, and average miles per tractor decreased by 0.3%8.9%. The decline in our utilization is primarily related to the disruptiona result of the two hurricanes duringimpact of the 2017 quarter, partiallyLandair operations on the combined truckload division, as well as the 9.6% decrease in the percentage of our fleet comprised of team-driven tractors, offset by the tighter freight market and a higher average seated tractor percentage. Landair's shorter average length of haul and dedicated contract, solo-driven truck percentage.operations generally produce higher revenue per total mile and fewer miles per tractor than our other truckload business units.
For the nine-month period ended September 30, 2017,2018, total revenue increased $22.0$111.5 million, or 4.6%22.2%, to $501.7$613.2 million from $479.7$501.7 million in the 20162017 period. Freight revenue increased $7.9$90.5 million, or 1.8%20.3%, to $445.2$535.7 million for the nine months ended September 30, 2017,2018, from $437.3$445.2 million in the 20162017 period, while fuel surcharge revenue increased $14.2$21.0 million period-over-period. The increase in freight revenue resulted from an $11.8a $55.0 million increase in revenue from Solutions, partially offset by a $3.9 million decrease in freight revenues from our Truckload segment, as well as a $35.5 million increase in revenue from our Managed Freight segment.
The $3.9$55.0 million decreaseincrease in Truckload freight revenue relates to a 1.8% decrease in our192 (or 7.5%) average tractor fleetincrease and an 8.9% increase in average freight revenue per tractor resulting from the aforementioned contribution of the Landair acquisition, an increase in average rate per total mile of 22.8 cents, and was partially offset by a $1.6$9.2 million decrease in freight revenue from the aforementioned discontinuation of our refrigerated intermodal service offering, partially offset by an increase in averagecompared to the same 2017 period. Average freight revenue per total mile of 2.8increased by 22.8 cents per mile compared to the 2017 period and average miles per tractor decreased by 4.4%. The decline in our utilization is primarily a result of the impact of the Landair operations on the combined truckload division, a lower average seated tractor percentage, as well as the 11.1% decrease in the percentage of our fleet comprised of team-driven tractors, to an average of 884 for the nine-month period ended September 30, 2018 compared to an average of 994 teams during the same 20162017 period.
Solutions'Managed Freight revenue increased $9.7$20.7 million quarter-over-quarter and $11.8$35.5 million period-over-period, primarilyfor the nine-month period, as a result of spot market opportunities related$20.4 million in freight revenue contributed by Landair’s managed freight operations during the third quarter of 2018, in addition to the hurricane-affected regions and growth with existing customers and certain internal strategic growth initiatives, compared with the same 20162017 periods.
For comparison purposes in the discussion below, we use total revenue and freight revenue (total revenue less fuel surcharge revenue) when discussing changes as a percentage of revenue. As it relates to the comparison of expenses to freight revenue, we believe removing fuel surcharge revenue, which is sometimes a volatile source of revenue, affords a more consistent basis for comparing the results of operations from period-to-period. Nonetheless, freight revenue represents a non-GAAP financial measure. Accordingly, undue reliance should not be placed on the discussion of freight revenue, and discussions of freight revenue should be considered in combination with discussions of total revenue. For each expense item discussed below, we have provided a table setting forth the relevant expense first as a percentage of total revenue, and then as a percentage of freight revenue.
Salaries, wages, and related expenses
| | Three months ended September 30, | | | Nine months ended September 30, | | | Three months ended September 30, | | | Nine months ended September 30, | |
| | 2017 | | | 2016 | | | 2017 | | | 2016 | | | 2018 | | | 2017 | | | 2018 | | | 2017 | |
Salaries, wages, and related expenses | | $ | 60,732 | | | $ | 57,972 | | | $ | 178,639 | | | $ | 171,666 | | | $ | 86,249 | | | $ | 60,732 | | | $ | 211,621 | | | $ | 178,639 | |
% of total revenue | | | 34.0 | % | | | 35.2 | % | | | 35.6 | % | | | 35.8 | % | | | 35.4 | % | | | 34.0 | % | | | 34.5 | % | | | 35.6 | % |
% of freight revenue | | | 38.1 | % | | | 39.1 | % | | | 40.1 | % | | | 39.3 | % | | | 40.2 | % | | | 38.1 | % | | | 39.5 | % | | | 40.1 | % |
Salaries, wages, and related expenses increased approximately $2.8$25.7 million, or 4.8%42.0%, for the three months ended September 30, 2017,2018, compared with the same quarter in 2016.2017. As a percentage of total revenue, salaries, wages, and related expenses increased to 35.4% of total revenue for the three months ended September 30, 2018, from 34.0% in the same quarter in 2017. As a percentage of freight revenue, salaries, wages, and related expenses increased to 40.2% of freight revenue for the three months ended September 30, 2018, from 38.1% in the same quarter in 2017.
For the nine months ended September 30, 2018, salaries, wages, and related expenses increased approximately $33.0 million, or 18.5%, compared with the same period in 2017. As a percentage of total revenue, salaries, wages, and related expenses decreased to 34.0%34.5% of total revenue for the threenine months ended September 30, 2017,2018, from 35.2% in35.6% for the same quarter in 2016.nine months ended September 30, 2017. As a percentage of freight revenue, salaries, wages, and related expenses decreased to 38.1% of freight revenue for the three months ended September 30, 2017, from 39.1% in the same quarter in 2016.
For the nine months ended September 30, 2017, salaries, wages, and related expenses increased approximately $7.0 million, or 4.1%, compared with the same period in 2016. As a percentage of total revenue, salaries, wages, and related expenses decreased to 35.6% of total revenue for the nine months ended September 30, 2017, from 35.8% for the nine months ended September 30, 2016. As a percentage of freight revenue, salaries, wages, and related expenses increased to 40.1%39.5% of freight revenue for the nine months ended September 30, 2017,2018, from 39.3%40.1% in the same period in 2016.2017.
The increases for the three-month period in salaries, wages, and related expenses for both the quarter and nine-month period are primarily the result of increased driver and non-driver headcount due to employee pay adjustments since the second quarterLandair acquisition, which contributed $16.6 million of 2016. Additionally, workers’ compensation increased 0.3 cents per mile and 0.5 cents per mile, respectively, compared to the historic lows of the same 2016 periods. The changes in salaries, wages, and related expenses during the third quarter of 2018. Additionally, employee pay adjustments beginning in the third quarter of 2017 contributed to the overall increase and were partially offset by a lower percentage of our fleet comprised of team-driven tractors.
While salaries, wages, and related expenses increased approximately $33.0 million for the nine-month period as a result of both employee pay adjustments beginning in the third quarter of 2017 and increased headcount due to the Landair acquisition, it decreased as a percentage of total revenue and freight revenue for the quarter and nine-month period ended September 30, 2017 are primarily theas a result of a lower percentage of our fleet comprised of team-driven tractors. Additionally, workers’ compensation decreased 0.4 cents per mile compared to the aforementioned increased revenue generated by our Solutions business for which payments are reflected in the purchased transportation line item.same 2017 period.
Going forward,When compared to periods prior to the Landair acquisition, we expect salaries, wages, and related expenses will be higher as a result of increased headcount due to the Landair acquisition. We believe salaries, wages, and related expenses will also increase going forward as a result of a tight driver market, which continues to offer significant challenges, wage inflation, higher healthcare costs, and, in certain periods, increased incentive compensation due to better performance. In particular, we expect driver pay to increase as we look to maintain or reduce the number of unseated truckstractors in our fleet in a tight market for drivers. Additionally, when theas freight market allows for anrates continue to increase, in rates we would expect to, as we have historically, pass a portion of those rate increases on to our professional drivers. Salaries, wages, and related expenses will fluctuate to some extent based on the percentage of revenue generated by independent contractors and our Solutions business,Managed Freight segment, for which payments are reflected in the purchased transportation line item.
Fuel expense
| | Three months ended September 30, | | | Nine months ended September 30, | | | Three months ended September 30, | | | Nine months ended September 30, | |
| | 2017 | | | 2016 | | | 2017 | | | 2016 | | | 2018 | | | 2017 | | | 2018 | | | 2017 | |
Total fuel expense | | $ | 25,998 | | | $ | 26,436 | | | $ | 76,310 | | | $ | 75,989 | | | $ | 33,428 | | | $ | 25,998 | | | $ | 89,817 | | | $ | 76,310 | |
% of total revenue | | | 14.6 | % | | | 16.1 | % | | | 15.2 | % | | | 15.8 | % | | | 13.7 | % | | | 14.6 | % | | | 14.6 | % | | | 15.2 | % |
We receive a fuel surcharge on our loaded miles from most shippers; however, this does not cover the entire increase in fuel prices for several reasons, including the following: surcharges cover only loaded miles we operate; surcharges do not cover miles driven out-of-route by our drivers; and surcharges typically do not cover refrigeration unit fuel usage or fuel burned by tractors while idling. Moreover, most of our business relating to shipments obtained from freight brokers does not carry a fuel surcharge. Finally, fuel surcharges vary in the percentage of reimbursement offered, and not all surcharges fully compensate for fuel price increases even on loaded miles.
The rate of fuel price changes also can have an impact on results. Most fuel surcharges are based on the average fuel price as published by the Department of Energy ("DOE") for the week prior to the shipment, meaning we typically bill customers in the current week based on the previous week's applicable index. Therefore, in times of increasing fuel prices, we do not recover as much as we are currently paying for fuel. In periods of declining prices, the opposite is true. Ultra-low-sulfur diesel prices as measured by the DOE averaged approximately $0.24$0.61 per gallon and $0.33$0.53 per gallon higher, respectively, for the quarter and nine-month period ended September 30, 20172018 compared with the same 20162017 quarter and period.
Additionally, $1.0$0.6 million and $3.7$1.3 million, respectively, were reclassified from accumulated other comprehensive lossincome into our results of operations as additionala reduction to fuel expense for the three and nine months ended September 30, 2017,2018, related to lossesgains on fuel hedge contracts that expired. At September 30, 2017, there was no material ineffectiveness on existing contracts. The ineffectiveness was calculated using2018, all the cumulative dollar offset method as an estimate of the difference in the expected cash flows of the respective fuel hedge contracts comparedwere deemed to the changes in the all-inbe effective and thus continue to qualify as cash outflows required for the diesel fuel purchases.
flow hedges. To measure the effectiveness of our fuel surcharge program, we subtract fuel surcharge revenue (other than the fuel surcharge revenue we reimburse to independent contractors and other third parties which is included in purchased transportation) from our fuel expense. The result is referred to as net fuel expense. Our net fuel expense as a percentage of freight revenue is affected by the cost of diesel fuel net of fuel surcharge revenue, the percentage of miles driven by company trucks,tractors, our fuel economy, our percentage of deadhead miles, for which we do not receive material fuel surcharge revenues, and the net impact of fuel hedging gains and losses. Net fuel expense is shown below:
| | Three months ended September 30, | | | Nine months ended September 30, | | | Three months ended September 30, | | | Nine months ended September 30, | |
| | 2017 | | | 2016 | | | 2017 | | | 2016 | | | 2018 | | | 2017 | | | 2018 | | | 2017 | |
Total fuel surcharge | | $ | 19,131 | | | $ | 16,271 | | | $ | 56,489 | | | $ | 42,329 | | | $ | 28,680 | | | $ | 19,131 | | | $ | 77,466 | | | $ | 56,489 | |
Less: Fuel surcharge revenue reimbursed to independent contractors and other third parties | | | 2,002 | | | | 1,687 | | | | 5,586 | | | | 4,536 | | | | 3,388 | | | | 2,002 | | | | 9,214 | | | | 5,586 | |
Company fuel surcharge revenue | | $ | 17,129 | | | $ | 14,584 | | | $ | 50,903 | | | $ | 37,793 | | | $ | 25,292 | | | $ | 17,129 | | | $ | 68,252 | | | $ | 50,903 | |
Total fuel expense | | $ | 25,998 | | | $ | 26,436 | | | $ | 76,310 | | | $ | 75,989 | | | $ | 33,428 | | | $ | 25,998 | | | $ | 89,817 | | | $ | 76,310 | |
Less: Company fuel surcharge revenue | | | 17,129 | | | | 14,584 | | | | 50,903 | | | | 37,793 | | | | 25,292 | | | | 17,129 | | | | 68,252 | | | | 50,903 | |
Net fuel expense | | $ | 8,869 | | | $ | 11,852 | | | $ | 25,407 | | | $ | 38,196 | | | $ | 8,136 | | | $ | 8,869 | | | $ | 21,565 | | | $ | 25,407 | |
% of freight revenue | | | 5.6 | % | | | 8.0 | % | | | 5.7 | % | | | 8.7 | % | | | 3.8 | % | | | 5.6 | % | | | 4.0 | % | | | 5.7 | % |
Total fuel expense decreasedincreased approximately $0.4$7.4 million, or 1.7%28.6%, for the three months ended September 30, 2017,2018, compared with the same quarter in 2016.2017. As a percentage of total revenue, total fuel expense decreased to 13.7% of total revenue for the three months ended September 30, 2018, from 14.6% in the same quarter in 2017. As a percentage of freight revenue, total fuel expense decreased to 15.6% of freight revenue for the three months ended September 30, 2018, from 16.3% in the same quarter in 2017.
For the nine months ended September 30, 2018, total fuel expense increased approximately $13.5 million, or 17.7%, compared with the same period in 2017. As a percentage of total revenue, total fuel expense decreased to 14.6% of total revenue for the three months ended September 30, 2017, from 16.1% in the same quarter in 2016. As a percentage of freight revenue, total fuel expense decreased to 16.3% of freight revenue for the three months ended September 30, 2017, from 17.8% in the same quarter in 2016.
For the nine months ended September 30, 2017, total fuel expense increased approximately $0.3 million, or 0.4%, compared with the same period in 2016. As a percentage of total revenue, total fuel expense decreased to2018, from 15.2% of total revenue for the nine months ended September 30, 2017, from 15.8% in the 20162017 period. As a percentage of freight revenue, total fuel expense decreased to 17.1%16.8% of freight revenue for the nine months ended September 30, 2017,2018, from 17.4%17.1% in the 20162017 period.
These changes in total fuel expense for the quarter and nine-month period ended September 30, 20172018 are primarily due to the 10.8% increase in total miles for the quarter, mostly due to the Landair acquisition, as well as changes in the average price per gallon of ultra-low-sulfur diesel as measured by the DOE compared with the same periods in 2016.2017, partially offset by the aforementioned diesel fuel hedge gains of $0.6 million and $1.3 million for the quarter and nine-month periods, respectively, compared to losses of $1.0 million and $3.7 million in those respective 2017 periods.
Net fuel expense decreased $3.0$0.7 million, or 25.2%8.3%, and $12.8$3.8 million, or 33.5%15.1%, respectively, for the quarter and nine months ended September 30, 2017,2018, as compared to the same 20162017 quarter and period. As a percentage of freight revenue, net fuel expense decreased to 5.6%3.8% and 5.7%4.0%, respectively, for the quarter and nine months ended September 30, 2017,2018, as compared to 8.0% and 8.7% for the same 20162017 quarter and period, respectively.period. The decreasechange in net fuel expense is primarily due to a decreased loss frombrokering less freight and the tiered reimbursement structure of certain fuel surcharge agreements, as well as the aforementioned gains on fuel hedging transactions to $1.0 milliontransactions. These decreases were partially offset by a greater percentage of miles driven by independent contractors, where we pay a rate that reflects then-existing fuel prices and $4.0 million from $4.0 million and $13.1 million, respectively, and increasedwe do not have the natural hedge created by fuel surcharge recovery percentage for the periods ended September 30, 2017 compared to the same 2016 periods.surcharge.
We expect to continue managing our idle time and trucktractor speeds, investing in more fuel-efficient tractors to improve our miles per gallon, locking in fuel hedges when deemed appropriate, and partnering with customers to adjust fuel surcharge programs that are inadequate to recover a fair portion of fuel costs. Going forward, our net fuel expense is expected to fluctuate as a percentage of revenue based on factors such as diesel fuel prices, percentage recovered from fuel surcharge programs, percentage of uncompensated miles, percentage of revenue generated by team-driven tractors (which tend to generate higher miles and lower revenue per mile, thus proportionately more fuel cost as a percentage of revenue), percentage of revenue generated by temperature-controlledrefrigerated operation (which uses diesel fuel for refrigeration, but usually does not recover fuel surcharges on refrigeration fuel), percentage of revenue generated from independent contractors, the success of fuel efficiency initiatives, and gains and losses on fuel hedging contracts. Due
Given recent historical lows, we would expect diesel fuel prices to a combination of these factors, we expect year-over-year net fuel expense savings.increase over the next few years. We are continuing our efforts on increasingto increase our ability to recover fuel surcharges under our customer contracts for fuel used in refrigeration units. If these efforts are successful, it could give rise to an increase in fuel surcharges recovered and a corresponding decrease in net fuel expense. Also, due to hedging contracts being locked in at a fixed rate on a portion of the fuel gallons we expect to use in 2018, we expect net fuel expense to decline in the fourth quarter of 2018 if fuel prices remain flat or increase. We do not currently have fuel hedging contracts for periods beyond 2018.
Operations and maintenance
| | Three months ended September 30, | | | Nine months ended September 30, | | | Three months ended September 30, | | | Nine months ended September 30, | |
| | 2017 | | | 2016 | | | 2017 | | | 2016 | | | 2018 | | | 2017 | | | 2018 | | | 2017 | |
Operations and maintenance | | $ | 13,046 | | | $ | 11,359 | | | $ | 37,504 | | | $ | 34,227 | | | $ | 16,457 | | | $ | 13,046 | | | $ | 40,783 | | | $ | 37,504 | |
% of total revenue | | | 7.3 | % | | | 6.9 | % | | | 7.5 | % | | | 7.1 | % | | | 6.8 | % | | | 7.3 | % | | | 6.7 | % | | | 7.5 | % |
% of freight revenue | | | 8.2 | % | | | 7.7 | % | | | 8.4 | % | | | 7.8 | % | | | 7.7 | % | | | 8.2 | % | | | 7.6 | % | | | 8.4 | % |
Operations and maintenance increased approximately $1.7$3.4 million, or 14.9%26.1%, for the three months ended September 30, 2017,2018, compared with the same quarter in 2016.2017. As a percentage of total revenue, operations and maintenance increaseddecreased to 7.3%6.8% of total revenue for the three months ended September 30, 2017,2018, from 6.9%7.3% in the same quarter in 2016.2017. As a percentage of freight revenue, operations and maintenance increaseddecreased to 8.2%7.7% of freight revenue for the three months ended September 30, 2017,2018, from 7.7%8.2% in the same quarter in 2016.2017.
For the nine months ended September 30, 2017,2018, operations and maintenance increased $3.3 million, or 9.6%8.7%, compared with the same period in 2016.2017. As a percentage of total revenue, operations and maintenance increaseddecreased to 7.5%6.7% of total revenue for the nine months ended September 30, 2017,2018, from 7.1%7.5% in the same period in 2016.2017. As a percentage of freight revenue, operations and maintenance increaseddecreased to 8.4%7.6% of freight revenue for the nine months ended September 30, 2017,2018, from 7.8%8.4% in the same period in 2016. 2017.
The changes for the quarter and nine-month period were primarily the result of extending the trade cycleaddition of our tractors in the second half of 2016,Landair business and its comparatively older tractor fleet, as well as unloading and other operational costs associated with our increase in dedicated freight that was added since the first quarter of 2016.2017, partially offset by extending the trade cycle of our tractors in the second half of 2017 that reduced trade preparation costs.
Going forward, we believe this category will fluctuate based on several factors, including our continued ability to maintain a relatively young fleet, accident severity and frequency, weather, and the reliability of new and untested revenue equipment models, but is expected to increase in the near term.term when compared to the first half of 2018.
Revenue equipment rentals and purchased transportation
| | Three months ended September 30, | | | Nine months ended September 30, | | | Three months ended September 30, | | | Nine months ended September 30, | |
| | 2017 | | | 2016 | | | 2017 | | | 2016 | | | 2018 | | | 2017 | | | 2018 | | | 2017 | |
Revenue equipment rentals and purchased transportation | | $ | 36,361 | | | $ | 27,831 | | | $ | 90,719 | | | $ | 80,308 | | | $ | 47,445 | | | $ | 36,361 | | | $ | 115,525 | | | $ | 90,719 | |
% of total revenue | | | 20.4 | % | | | 16.9 | % | | | 18.1 | % | | | 16.7 | % | | | 19.5 | % | | | 20.4 | % | | | 18.8 | % | | | 18.1 | % |
% of freight revenue | | | 22.8 | % | | | 18.8 | % | | | 20.4 | % | | | 18.4 | % | | | 22.1 | % | | | 22.8 | % | | | 21.6 | % | | | 20.4 | % |
Revenue equipment rentals and purchased transportation increased approximately $8.5$11.1 million, or 30.6%30.5%, for the three months ended September 30, 2017,2018, compared with the same quarter in 2016.2017. As a percentage of total revenue, revenue equipment rentals and purchased transportation decreased to 19.5% of total revenue for the three months ended September 30, 2018, from 20.4% in the same quarter in 2017. As a percentage of freight revenue, revenue equipment rentals and purchased transportation decreased to 22.1% of freight revenue for the three months ended September 30, 2018, from 22.8% in the same quarter in 2017.
For the nine months ended September 30, 2018, revenue equipment rentals and purchased transportation increased approximately $24.8 million, or 27.3%, compared with the same period in 2017. As a percentage of total revenue, revenue equipment rentals and purchased transportation increased to 20.4%18.8% of total revenue for the threenine months ended September 30, 2017,2018, from 16.9%18.1% in the same quarterperiod in 2016.2017. As a percentage of freight revenue, revenue equipment rentals and purchased transportation increased to 22.8% of freight revenue for the three months ended September 30, 2017, from 18.8% in the same quarter in 2016.
For the nine months ended September 30, 2017, revenue equipment rentals and purchased transportation increased approximately $10.4 million, or 13.0%, compared with the same period in 2016. As a percentage of total revenue, revenue equipment rentals and purchased transportation increased to 18.1% of total revenue for the nine months ended September 30, 2017, from 16.7% in the same period in 2016. As a percentage of freight revenue, revenue equipment rentals and purchased transportation increased to 20.4%21.6% of freight revenue for the nine months ended September 30, 2017,2018, from 18.4%20.4% in the same period in 2016.2017.
These increasesThe changes for the three and nine months ended September 30, 20172018 were primarily the result of the increased costs relatedacquisition of Landair’s managed freight business, which added to the spotoverall purchased transportation cost but is less reliant on purchased transportation to generate revenue, compared to our existing brokerage and logistics services. Additionally, we experienced increases due to a more competitive market opportunities related to the hurricane-affected regions and growthfor sourcing third-party capacity in our existing Managed Freight segment, as well as an increase in our number of Solutions,independent contractors, partially offset by a decrease inthe late 2017 discontinuation of our refrigeratedtemperature-controlled intermodal service offering. We expect revenue equipment rentals to decrease going forward as a result of our increase in acquisition of revenue equipment through financed purchases or capital leases rather than operating leases.leases, particularly as we transition Landair from operating leases to owned equipment. As discussed below, this expected decrease may be partially or fully offset by an increase in purchased transportation, as we expect to continue to grow Solutions.our Managed Freight segment, as well as a result of reduced capacity.
ThisIn addition, if fuel prices continue to increase, it would result in a further increase in what we pay third party carriers and independent contractors. However, this expense category will fluctuate with the number and percentage of loads hauled by independent contractors and handled by Solutions,Managed Freight, the percentage of our fleet financed with operating leases, and the cost to obtain third party transportation services, the size of our intermodal service offering, as well as the amount of fuel surcharge revenue passed through to the third party carriers and independent contractors. In times of tighterIf capacity remains tight, we believe we may need to increase the amounts we pay to third-party transportation providers and independent contractors, and intermodal transportation providers, which would increase this expense category on an absolute basis and as a percentage of freight revenue absent an offsetting increase in revenue. We continue to actively recruit independent contractors and, if we are successful, we would expect this line item to increase as a percentage of revenue. Further, we exited the temperature-controlled intermodal business in the fourth quarter of 2017 in order to focus on our objective to continue improvements at SRT. As a result, we expect purchased transportation costs at SRT to decrease in the fourth quarter of 2018, which could partially offset any increase in consolidated purchased transportation, and to be relatively consistent thereafter.
Operating taxes and licenses
| | Three months ended September 30, | | | Nine months ended September 30, | | | Three months ended September 30, | | | Nine months ended September 30, | |
| | 2017 | | | 2016 | | | 2017 | | | 2016 | | | 2018 | | | 2017 | | | 2018 | | | 2017 | |
Operating taxes and licenses | | $ | 2,364 | | | $ | 2,815 | | | $ | 7,197 | | | $ | 8,404 | | | $ | 3,377 | | | $ | 2,364 | | | $ | 8,649 | | | $ | 7,197 | |
% of total revenue | | | 1.3 | % | | | 1.7 | % | | | 1.4 | % | | | 1.8 | % | | | 1.4 | % | | | 1.3 | % | | | 1.4 | % | | | 1.4 | % |
% of freight revenue | | | 1.5 | % | | | 1.9 | % | | | 1.6 | % | | | 1.9 | % | | | 1.6 | % | | | 1.5 | % | | | 1.6 | % | | | 1.6 | % |
OperatingFor the periods presented, the change in operating taxes and licenses decreased approximately $0.5 million, or 16.0%, for the three months ended September 30, 2017, compared with the same quarter in 2016. Aswas not significant as either a percentage of total revenue operating taxes and licenses decreased to 1.3% of total revenue for the three months ended September 30, 2017, from 1.7% in the same quarter of 2016. As a percentage ofor freight revenue, operating taxes and licenses decreased to 1.5% of freight revenue for the three months ended September 30, 2017, from 1.9% in the same quarter in 2016.
For the nine months ended September 30, 2017, operating taxes and licenses decreased approximately $1.2 million, or 14.4%, compared with the same period in 2016. As a percentage of total revenue, operating taxes and licenses decreased to 1.4% of total revenue for the nine months ended September 30, 2017, from 1.8% in the same period in 2016. As a percentage of freight revenue, operating claims and licenses decreased to 1.6% of freight revenue for the nine months ended September 30, 2017, from 1.9% in the same period in 2016.
The decrease in operating taxes and licenses, including as a percentage of total revenue and freight revenue, is primarily due to the settlement of a property tax matter that resulted in a decrease of a prior year’s assessment and related refund, as well as a lower truck count.revenue.
Insurance and claims
| | Three months ended September 30, | | | Nine months ended September 30, | | | Three months ended September 30, | | | Nine months ended September 30, | |
| | 2017 | | | 2016 | | | 2017 | | | 2016 | | | 2018 | | | 2017 | | | 2018 | | | 2017 | |
Insurance and claims | | $ | 7,681 | | | $ | 8,362 | | | $ | 24,313 | | | $ | 21,985 | | | $ | 12,675 | | | $ | 7,681 | | | $ | 31,269 | | | $ | 24,313 | |
% of total revenue | | | 4.3 | % | | | 5.1 | % | | | 4.8 | % | | | 4.6 | % | | | 5.2 | % | | | 4.3 | % | | | 5.1 | % | | | 4.8 | % |
% of freight revenue | | | 4.8 | % | | | 5.6 | % | | | 5.5 | % | | | 5.0 | % | | | 5.9 | % | | | 4.8 | % | | | 5.8 | % | | | 5.5 | % |
Insurance and claims, consisting primarily of premiums and deductible amounts for liability, physical damage, and cargo damage insurance and claims decreasedincreased approximately $0.7$5.0 million, or 8.1%65.0%, for the three months ended September 30, 2017,2018, compared with the same quarter in 2016.2017. As a percentage of total revenue, insurance and claims decreasedincreased to 4.3%5.2% of total revenue for the three months ended September 30, 2017,2018, from 5.1%4.3% in the same quarter of 2016.2017. As a percentage of freight revenue, insurance and claims decreasedincreased to 4.8%5.9% of freight revenue for the three months ended September 30, 2017,2018, from 5.6%4.8% in the same quarter in 2016.2017. Insurance and claims cost per mile cost decreasedincreased to 9.914.5 cents per mile in the third quarter of 20172018 from 10.59.8 cents per mile in the third quarter of 2016. This decrease is2017.
For the nine months ended September 30, 2018, insurance and claims increased approximately $7.0 million, or 28.6%, compared with the same period in 2017. As a percentage of total revenue, insurance and claims increased to 5.1% of total revenue for the nine months ended September 30, 2018, from 4.8% in the same period in 2017. As a percentage of freight revenue, insurance and claims increased to 5.8% of freight revenue for the nine months ended September 30, 2018, from 5.5% in the same period in 2017. Insurance and claims cost per mile increased to 13.0 cents per mile in the nine months ended September 30, 2018 from 10.5 cents per mile in the same 2017 period.
These increases primarily related to a 10% decreasean increase in our third quarter 2017 rateaccidents with third-party injuries and adverse development on prior claims during the first nine months of chargeable2018, as well as an increase in non-chargeable accidents per million miles, as measured by the U.S. Department of Transportation, aswhile chargeable accidents remained relatively flat compared to the same 2016 period.
For the nine months ended September 30, 2017 insurance and claims increased approximately $2.3 million, or 10.6%, compared with the same period in 2016. As a percentage of total revenue, insurance and claims increased to 4.8% of total revenue for the nine months ended September 30, 2017, from 4.6% in the same period in 2016. As a percentage of freight revenue, insurance and claims increased to 5.5% of freight revenue for the nine months ended September 30, 2017, from 5.0% in the same period in 2016. Insurance and claims per mile cost increased to 10.5 cents per mile in the nine months ended September 30, 2017 from 9.3 cents per mile in the same 2016 period, primarily related to an increase in severity of accidents during the first quarter of 2017 as compared to the same 2016 period.
Our auto liability (personal injury and property damage), cargo, and general liability insurance programs include significant self-insured retention amounts. We are also self-insured for physical damage to our equipment. Because of these significant self-insured exposures, insurance and claims expense may fluctuate significantly from period-to-period. Any increase in frequency or severity of claims, or any increases to then-existing reserves, could adversely affect our financial condition and results of operations.
The auto liability policy contains a feature whereby we are able to retroactively obtain a partial refund of the premium in exchange for taking on the liability for incidents that occurred during the period and releasing the insurers. This is referred to as "commuting" the policy or "policy commutation." In several past periods, including the policy period from April 1, 2013, through September 30, 2014, commuted in 2015, we have commuted the policy, which has lowered our insurance and claims expense. We are also self-insuredintend to evaluate our ability to commute the policy for physical damage to our equipment. Because of these significant self-insured exposures,the three years ended March 31, 2018 and any such commutation could significantly reduce insurance and claims expense, may fluctuate significantly from period-to-period. Any increase in frequency or severityby zero to $7.2 million, depending upon the ultimate resolution of claims or any increases to then-existing reserves, could adversely affect our financial condition and results of operations. during that period.
We have accrued a reserve totaling $6.8 million in connection with a judgment that was rendered against us based on a 2008 cargo claim. We recorded an additional $0.9 million of expense in the first quarter of 2017 relatedin order to a pre-trial decision issued byaccrue additional legal fees and pre-judgment interest since the court, but are reviewingtime of our options regarding further appeals. If these further proceedings are resolved favorably to us, any reductionprevious appeal. On September 25, 2018, the Sixth Circuit Court of Appeals ruled in favor of the accrual could reduce insuranceplaintiff and claims expense inagainst SRT. While considering its further appeal to the period in whichU.S. Supreme Court, SRT will likely pay this claim, related accrued interest and legal fees within the claim is resolved. On the other hand, if we are not successful in such a finding or mediation, insurance and claims expense may increase as a result of continuing litigation expenses, including pre and post judgment interest. We periodically evaluate strategies to efficiently reduce our insurance and claims expense, which in the past has included the commutation of our auto liability insurance policy. We intend to evaluate our ability to commute the current policy and any such commutation could significantly impact insurance and claims expense.next six months.
Communications and utilities
| | Three months ended September 30, | | | Nine months ended September 30, | | | Three months ended September 30, | | | Nine months ended September 30, | |
| | 2017 | | | 2016 | | | 2017 | | | 2016 | | | 2018 | | | 2017 | | | 2018 | | | 2017 | |
Communications and utilities | | $ | 1,747 | | | $ | 1,546 | | | $ | 5,081 | | | $ | 4,488 | | | $ | 1,810 | | | $ | 1,747 | | | $ | 5,216 | | | $ | 5,081 | |
% of total revenue | | | 1.0 | % | | | 0.9 | % | | | 1.0 | % | | | 0.9 | % | | | 0.7 | % | | | 1.0 | % | | | 0.9 | % | | | 1.0 | % |
% of freight revenue | | | 1.1 | % | | | 1.0 | % | | | 1.1 | % | | | 1.0 | % | | | 0.8 | % | | | 1.1 | % | | | 1.0 | % | | | 1.1 | % |
For the periods presented, the change in communications and utilities was not significant as either a percentage of total revenue or freight revenue. This expense category should remain relatively consistent from period to period, as it is comprised mostly of fixed costs related to maintaining our infrastructure and is largely unaffected by changes in rates and other variable factors.
General supplies and expenses
| | Three months ended September 30, | | | Nine months ended September 30, | | | Three months ended September 30, | | | Nine months ended September 30, | |
| | 2017 | | | 2016 | | | 2017 | | | 2016 | | | 2018 | | | 2017 | | | 2018 | | | 2017 | |
General supplies and expenses | | $ | 3,729 | | | $ | 3,405 | | | $ | 10,919 | | | $ | 10,193 | | | $ | 6,391 | | | $ | 3,729 | | | $ | 16,833 | | | $ | 10,919 | |
% of total revenue | | | 2.1 | % | | | 2.1 | % | | | 2.2 | % | | | 2.1 | % | | | 2.6 | % | | | 2.1 | % | | | 2.7 | % | | | 2.2 | % |
% of freight revenue | | | 2.3 | % | | | 2.3 | % | | | 2.5 | % | | | 2.3 | % | | | 3.0 | % | | | 2.3 | % | | | 3.1 | % | | | 2.5 | % |
For the periods presented, the change in generalGeneral supplies and expenses was not significant as eitherincreased approximately $2.6 million, or 71.4%, for the three months ended September 30, 2018, compared with the same quarter in 2017. As a percentage of total revenue, general supplies and expenses increased to 2.6% of total revenue for the three months ended September 30, 2018, from 2.1% in the same quarter in 2017. As a percentage of freight revenue, general supplies and expenses increased to 3.0% of freight revenue for the three months ended September 30, 2018, from 2.3% in the same quarter in 2017.
For the nine months ended September 30, 2018, general supplies and expenses increased approximately $5.9 million, or 54.2%, compared with the same period in 2017. As a percentage of total revenue, general supplies and expenses increased to 2.7% of total revenue for the nine months ended September 30, 2018, from 2.2% in the same period in 2017. As a percentage of freight revenue.revenue, general supplies and expenses increased to 3.1% of freight revenue for the nine months ended September 30, 2018, from 2.5% in the same period in 2017.
These increases are primarily comprised of $1.5 million of legal and professional expenses incurred in the second quarter of 2018 related to our acquisition of Landair, the write-off of approximately $0.3 million of previously capitalized in-process software investment costs that were deemed to be redundant in connection with the Landair acquisition, and costs related to Landair’s ongoing business, which contributed an additional $2.2 million of general supplies and expenses in the third quarter of 2018.
Depreciation and amortization
| | Three months ended September 30, | | | Nine months ended September 30, | | | Three months ended September 30, | | | Nine months ended September 30, | |
| | 2017 | | | 2016 | | | 2017 | | | 2016 | | | 2018 | | | 2017 | | | 2018 | | | 2017 | |
Depreciation and amortization | | $ | 17,932 | | | $ | 19,328 | | | $ | 57,707 | | | $ | 52,232 | | | $ | 19,290 | | | $ | 17,932 | | | $ | 56,803 | | | $ | 57,707 | |
% of total revenue | | | 10.0 | % | | | 11.7 | % | | | 11.5 | % | | | 10.9 | % | | | 7.9 | % | | | 10.0 | % | | | 9.3 | % | | | 11.5 | % |
% of freight revenue | | | 11.2 | % | | | 13.0 | % | | | 13.0 | % | | | 11.9 | % | | | 9.0 | % | | | 11.2 | % | | | 10.6 | % | | | 13.0 | % |
Depreciation and amortization consists primarily of depreciation of owned revenue equipment, net oftractors, trailers, and other capital assets offset or increased, as applicable, by gains andor losses on dispositiondispositions of capital assets. Depreciation and amortization decreasedincreased approximately $1.4 million, or 7.2%7.6%, for the three months ended September 30, 2017,2018, compared with the same quarter in 2016.2017. As a percentage of total revenue, depreciation and amortization decreased to 10.0%7.9% of total revenue for the three months ended September 30, 2017,2018, from 11.7%10.0% in the same quarter in 2016.2017. As a percentage of freight revenue, depreciation and amortization decreased to 11.2%9.0% of freight revenue for the three months ended September 30, 2017,2018, from 13.0%11.2% in the same quarter in 2016. Excluding gains and losses, depreciation decreased $1.7 million for the quarter ended September 30, 2017 resulting from the disposal of tractors during the second quarter, which we anticipate replacing during the fourth quarter of 2017.
For the nine months ended September 30, 2017,2018, depreciation and amortization increaseddecreased approximately $5.5$0.9 million, or 10.5%1.6%, compared with the same period in 2016.2017. As a percentage of total revenue, depreciation and amortization increaseddecreased to 11.5%9.3% of total revenue for the nine months ended September 30, 2017,2018, from 10.9%11.5% in the same period in 2016.2017. As a percentage of freight revenue, depreciation and amortization increaseddecreased to 13.0%10.6% of freight revenue for the nine months ended September 30, 2017,2018, from 11.9%13.0% in the same period in 2016. 2017.
Excluding gains and losses, depreciation increased approximately $2.3 million and $1.9 million, respectively, for the quarter and nine-month period ended September 30, 2017,2018, primarily due to a soft usedincreased tractor market that resulted in a significant reduction onand trailer counts from the salvage value of used tractors resulting in us reducing residual values in the third quarter of 2016. Additionally, the soft used truck market contributed toLandair acquisition. Gains and losses on the sale of property and equipment totaled $0.3 million of gains and $0.4 million of losses in the quarter and nine-month periods ended September 30, 2018, respectively, compared to losses of $0.7 million and $3.2 million in the quarter and nine-month periods ended September 30, 2017, period compared to losses of $0.1 millionrespectively. The improvement in the same 2016 period.consolidated gain/loss on disposition resulted from a strengthening market for used tractors and trailers. We expect the impact on our earnings from depreciation and amortization to continue to moderate asremain relatively even going forward, aside from the impact of the significant 2016 reductions in residual values will flatten on a comparative basis going forward.additional revenue equipment from Landair. However, if the used tractor market were to decline, further, we could have to adjust residual values again and increase depreciation or experience increased losses on sale. Amortization increased approximately $0.7 million for the quarter and nine-month period ended September 30, 2018, due to the addition of intangible assets related to the Landair acquisition.
| | Three months ended September 30, | | | Nine months ended September 30, | | | Three months ended September 30, | | | Nine months ended September 30, | |
| | 2017 | | | 2016 | | | 2017 | | | 2016 | | | 2018 | | | 2017 | | | 2018 | | | 2017 | |
Interest expense, net | | $ | 2,174 | | | $ | 1,959 | | | $ | 6,216 | | | $ | 6,210 | | | $ | 2,460 | | | $ | 2,174 | | | $ | 6,360 | | | $ | 6,216 | |
% of total revenue | | | 1.2 | % | | | 1.2 | % | | | 1.2 | % | | | 1.3 | % | | | 1.0 | % | | | 1.2 | % | | | 1.0 | % | | | 1.2 | % |
% of freight revenue | | | 1.4 | % | | | 1.3 | % | | | 1.4 | % | | | 1.4 | % | | | 1.1 | % | | | 1.3 | % | | | 1.2 | % | | | 1.4 | % |
For the periods presented, the change in interest expense, net was not significant as either a percentage of total revenue or freight revenue.
This line item will fluctuate based on our decision with respect to purchasing revenue equipment with balance sheet debt versus operating leases as well as our ability to continue to generate profitable results and reduce our leverage. We expect interest expense, net to increase in the fourth quarter of 2018 due to increased debt associated with the Landair acquisition.
Income from equity method investment
| | Three months ended September 30, | | | Nine months ended September 30, | |
| | 2017 | | | 2016 | | | 2017 | | | 2016 | |
Income from equity method investment | | $ | 750 | | | $ | 450 | | | $ | 2,575 | | | $ | 2,450 | |
| | Three months ended September 30, | | | Nine months ended September 30, | |
| | 2018 | | | 2017 | | | 2018 | | | 2017 | |
Income from equity method investment | | $ | 2,142 | | | $ | 750 | | | $ | 5,407 | | | $ | 2,575 | |
We have accounted for our investment in TEL using the equity method of accounting and thus our financial results include our proportionate share of TEL’s net income for the three and nine months ended September 30, 2017.2018. The increase in TEL’s contributions to our results is primarily due to an improvementgrowth in leased equipmentTEL’s lease offerings, as well as improvements in the used tractor market compared to the same 20162017 periods. We expect the impact on our earnings resulting from our investment in TEL to continue to improve year-over-year for the remainder of 2018.
Income tax expense
| | Three months ended September 30, | | | Nine months ended September 30, | | | Three months ended September 30, | | | Nine months ended September 30, | |
| | 2017 | | | 2016 | | | 2017 | | | 2016 | | | 2018 | | | 2017 | | | 2018 | | | 2017 | |
Income tax expense | | $ | 2,985 | | | $ | 1,068 | | | $ | 3,530 | | | $ | 5,568 | | | $ | 4,249 | | | $ | 2,985 | | | $ | 9,716 | | | $ | 3,530 | |
% of total revenue | | | 1.7 | % | | | 0.6 | % | | | 0.7 | % | | | 1.2 | % | | | 1.7 | % | | | 1.7 | % | | | 1.6 | % | | | 0.7 | % |
% of freight revenue | | | 1.9 | % | | | 0.7 | % | | | 0.8 | % | | | 1.3 | % | | | 2.0 | % | | | 1.9 | % | | | 1.8 | % | | | 0.8 | % |
Income tax expense increased approximately $1.9$1.3 million, or 179.5%42.3%, for the three months ended September 30, 2017,2018, compared with the same quarter in 2016.2017. As a percentage of total revenue, income tax expense remained relatively flat at 1.7% of total revenue for the three months ended September 30, 2018 and September 30, 2017, respectively. As a percentage of freight revenue, income tax expense increased to 2.0% of freight revenue for the three months ended September 30, 2018, from 1.9% in the same quarter in 2017.
For the nine months ended September 30, 2018, income tax expense increased approximately $6.2 million, or 175.2%, compared with the same period in 2017. As a percentage of total revenue, income tax expense increased to 1.7%1.6% of total revenue for the threenine months ended September 30, 2017,2018, from 0.6%0.7% in the same quarterperiod in 2016.2017. As a percentage of freight revenue, income tax expense increased to 1.9% of freight revenue for the three months ended September 30, 2017, from 0.7% in the same quarter in 2016.
For the nine months ended September 30, 2017, income tax expense decreased approximately $2.0 million, or 36.6%, compared with the same period in 2016. As a percentage of total revenue, income tax expense decreased to 0.7% of total revenue for the nine months ended September 30, 2017, from 1.2% in the same period in 2016. As a percentage of freight revenue, income tax expense decreased to 0.8%1.8% of freight revenue for the nine months ended September 30, 2017,2018, from 1.3%0.8% in the same period in 2016.2017.
These changesincreases were primarily related to the $3.7$8.2 million increase and $6.7$26.0 million decreaseincreases in the pre-tax income in the three- and nine-month periods ended September 30, 2017,2018, respectively, compared to the same 20162017 periods, resulting from the changesimprovements in operating income noted above and the increase in the contribution from TEL’s earnings.earnings noted above, partially offset by a lower tax rate due to the Tax Cuts and Jobs Act of 2017.
The effective tax rate is different from the expected combined tax rate due primarily to permanent differences related to our per diem pay structure for drivers. Due to the partial nondeductible effect of the per diem payments, our tax rate fluctuateswill fluctuate in future periods as income fluctuates and is more volatile as resultsfluctuates. We are closercurrently estimating our 2018 effective income tax rate to break-even.be 26.0%.
RESULTS OF SEGMENT OPERATIONS
COMPARISON OF THREE AND NINE MONTHS ENDED SEPTEMBER 30, 20172018 TO THREE AND NINE MONTHS ENDED SEPTEMBER 30, 20162017
The following table summarizes financial and operating data by reportable segment:
(in thousands) | | Three months ended September 30, | | | Nine months ended September 30, | | | Three months ended September 30, | | | Nine months ended September 30, | |
| | 2017 | | | 2016 | | | 2017 | | | 2016 | | | 2018 | | | 2017 | | | 2018 | | | 2017 | |
Total Revenues: | | | | | | | | | | | | | | | | | | | | | | | | |
Truckload | | $ | 153,066 | | | $ | 148,603 | | | $ | 446,322 | | | $ | 436,055 | | | $ | 197,053 | | | $ | 153,066 | | | $ | 522,312 | | | $ | 446,322 | |
Other | | | 25,565 | | | | 15,897 | | | | 55,379 | | | | 43,618 | | |
| | | | | | | | | | | | | | | | | |
Managed Freight | | | | 46,250 | | | | 25,565 | | | | 90,875 | | | | 55,379 | |
Total | | $ | 178,631 | | | $ | 164,500 | | | $ | 501,701 | | | $ | 479,673 | | | $ | 243,303 | | | $ | 178,631 | | | $ | 613,187 | | | $ | 501,701 | |
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
Operating Income: | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
Truckload | | $ | 11,165 | | | $ | 5,508 | | | $ | 20,054 | | | $ | 22,558 | | | $ | 11,960 | | | $ | 6,573 | | | $ | 29,055 | | | $ | 7,812 | |
Other | | | 2,468 | | | | 1,829 | | | | 5,500 | | | | 5,144 | | |
Unallocated Corporate Overhead | | | (4,592 | ) | | | (1,891 | ) | | | (12,242 | ) | | | (7,521 | ) | |
| | | | | | | | | | | | | | | | | |
Managed Freight | | | | 4,221 | | | | 2,468 | | | | 7,616 | | | | 5,500 | |
Total | | $ | 9,041 | | | $ | 5,446 | | | $ | 13,312 | | | $ | 20,181 | | | $ | 16,181 | | | $ | 9,041 | | | $ | 36,671 | | | $ | 13,312 | |
For the 20172018 quarter Truckload total revenue increased $4.5$44.0 million due to a $2.9$34.4 million increase in freight revenue, as well as a $9.6 million increase in fuel surcharge revenue and a $1.6 million increase in Truckload freight revenue. The increase in Truckload freight revenue is the result of a 547 (or 21.6%) average tractor increase, primarily from the Landair acquisition, increased freight revenue per total mile of 27.7 cents per mile compared to the 2017 quarter, partially offset by an 8.9% decrease in average miles per tractor and a $0.7 million decrease in freight revenue from our temperature-controlled intermodal service, as a result of discontinuing this service offering during December 2017.
For the nine months ended September 30, 2018, Truckload total revenue increased $76.0 million due to a $55.0 million increase in freight revenue, as well as a $21.0 million increase in fuel surcharge revenue. The increase in freight revenue primarily relates to a 4.1%the aforementioned increase in average tractors from the Landair acquisition, as well as an 8.9% increase in average freight revenue per tractor inper week from the 2017 quarter as compared to the 2016 quarter,period, partially offset by a 2.6% decrease in our average tractor fleet. Average freight revenue per total mile increased 7.0 cents per mile compared to the 2016 quarter and average miles per tractor decreased by 0.3%. The decline in our utilization is primarily related to the disruption of the two hurricanes during the 2017 quarter, partially offset by the tighter freight market and a higher average seated truck percentage.
For the nine-month period ended September 30, 2017, total revenue increased $10.3 million due to a $14.2 million increase in fuel surcharge revenue partially offset by a $3.9 million decrease in freight revenue. The $3.9 million decrease in Truckload freight revenue relates to a 1.8% decrease in our average tractor fleet and a $1.6$9.1 million decrease in freight revenue from our discontinued refrigerated intermodal service offering, partially offset byoffering. Team driven units decreased approximately 11.1% to an increase in average freight revenue per total mile of 2.8 cents884 for the nine-month period ended September 30, 2018 compared to an average of 994 teams during the same 20162017 period.
Our Truckload operating income for the three and nine months ended September 30, 20172018 was $5.7$5.4 million higher and $2.5$21.2 million lowerhigher than the same 20162017 periods, respectively, due to the abovementioned revenue metrics and increases in capitalrevenue and othercontributions from Landair, partially offset by an increase in operating costs.costs per mile, net of fuel surcharge revenue, primarily related to increased salaries and driver compensation, as well as increased insurance and claims cost.
OtherManaged Freight total revenue and operating income increased $9.7$20.7 million and $0.6$1.8 million quarter-over-quarter, respectively, and increased $11.8$35.5 million and $0.4$2.1 million period-over-period, respectively. These changesThe revenue increases are primarily theas a result of spot market opportunities related to the hurricane-affected regions andacquisition of Landair’s Managed Freight business, growth with existing customers, compared with the same 2016 periods.
The change in unallocated corporate overheadand certain internal strategic growth initiatives, while operating income is partially offset by a more competitive market for the three and nine months ended September 30, 2017 is primarily related to an increase in salaries, including workers' compensation, compared to historic lows for workers’ compensation in 2016.sourcing third-party capacity, which increased our costs.
LIQUIDITY AND CAPITAL RESOURCES
Our business requires significant capital investments over the short-term and the long-term. Recently, we have financed our capital requirements with borrowings under our Credit Facility, cash flows from operations, long-term operating leases, capital leases, secured installment notes with finance companies, and proceeds from the sale of our used revenue equipment.
Our primary sources of liquidity at September 30, 2017, were funds provided by operations, borrowings under our Credit Facility, borrowings from secured installment notes,Going forward, we expect revenue equipment acquisitions through purchases and capital leases
to increase as a percentage of our fleet as we decrease our use of operating
leases of revenue equipment,leases. Further, we expect to increase our capital allocation toward dedicated, transportation management services, and
cashother managed freight solutions to become the go-to partner for our customers’ most critical transportation and
cash equivalents.logistics needs. We had working capital (total current assets less total current liabilities) of
$59.3$64.1 million and
$47.9$81.1 million at September 30,
20172018 and December 31,
2016,2017, respectively. Based on our expected financial condition, results of operations, net capital expenditures, sources of financing, and net cash flows during the next twelve months, we believe our working capital and sources of liquidity will be adequate to meet our current and projected needs
for at leastand we do not expect to experience material liquidity constraints in the
next twelve months.foreseeable future.
We expect borrowings from the financial affiliates of our primary revenue equipment suppliers to be available to fund most new tractors expected to be delivered in 2017,2018, while any other property and equipment purchases, including trailers, are expected to be funded with a combination of notes, operating leases, capital leases, and/or from the Credit Facility. Going forward, we expect revenue equipment acquisitions through purchases and capital leases to increase as a percentage of our fleet as we decrease our use of operating leases. With a relatively young average fleet age at September 30, 2017,2018, we believe there is significantwe have flexibility to manage our fleet, and we plan to regularly evaluate our tractor replacement cycle, and new tractor purchase requirements.requirements, and purchase options. If we are successful in our attempts to grow our independent contractor fleet, our capital requirements would be reduced. As of September 30, 2017, we had $3.7 million of borrowings outstanding under the Credit Facility,2018, there were undrawn letters of credit outstanding of approximately $32.9$35.1 million, and available borrowing capacity of $55.6 million.was $59.9 million, and $6.2 million in outstanding borrowings under the Credit Facility. Our intra-period borrowings on the Credit Facility ranged from zero to approximately $22.1$21.6 million during the first nine months of 2017.2018. Fluctuations in the outstanding balance and related availability on the Credit Facility are driven primarily by cash flows from operations and the timing and nature of property and equipment additions that are not funded through notes payable, as well as the nature and timing of collection of accounts receivable, payments of accrued expenses, and receipt of proceeds from disposals of property and equipment. As a result of the Landair acquisition, our working capital subsequent to June 30, 2018 was reduced by approximately $45.5 million as the result of using cash on hand to fund a portion of the purchase. We also borrowed approximately $53.0 million to fund the remainder of the purchase price, and while we have experienced and expect favorable cash flows from operations, when compared to 2017, we expect our leverage at December 31, 2018 to approximate December 31, 2017.
Cash Flows
Net cash flows provided by operating activities were lowerincreased $38.9 million in the nine-month period ended September 30, 20172018 than in the 20162017 period, primarily due to the timing of revenue and the related collections at the beginning of each period and a $4.7 million decreasean increase in net income. These decreases wereincome of $19.9 million, partially offset by a decrease in deferred income tax expense, fluctuations in tax (benefit) expense due to depreciation of revenue equipmentcash flows from accounts payable and accrued expenses, as compared to the 2016 period,well as fluctuations in receivables and an increase in insurancedriver advances, resulting from a strong freight economy and claims expense as a result of increased severityfuel cost and frequency of accidents during 2017 compared to same 2016 period.related surcharges. The fluctuations in cash flows from accounts payable and accrued expenses primarily related to the timing and amount of payments on our trade accounts in the 20172018 period compared to the 20162017 period,. incentive compensation, as well as transaction costs related to our acquisition of Landair.
Net cash flows used in investing activities was $102.8 million in the 2018 period, compared to $57.2 million in the 2017 period, compared to net cash flows used in investing activities of $46.0 million in the 2016 period. The change in net cash flows used in investing activities was primarily the result of the timing and dispositionsour acquisition of assets held for saleLandair, as well as the timing of our decision to extend the trade cycle of our current equipment. During the 2017 periodwhereby we took delivery of approximately 605525 new company tractors and disposed of approximately 343611 used tractors, resultingcompared to delivery and disposal of 605 and 343 tractors, respectively, in the same 2017 period. The trade cycle timing is partially the result of an averageimproved used tractor market and new equipment not being delivered as fast in 2018 as 2017, due to an increase in demand for new tractors. Our current tractor fleet plan for full-year 2018 includes the delivery of 2,557approximately 930 new company tractors, forand the 2017disposal of approximately 812 used tractors. We expect net capital expenditures to increase in 2019 compared to 2018, primarily due to anticipated upgrades to Landair’s revenue equipment.
Net cash flows provided by financing activities was $5.4 million in the 2018 period, compared to an average of 2,605 tractors for the 2016 period.
Netnet cash flows used in financing activities decreased $30.5of $5.1 million in the 2017 period compared to the 2016 period,period. The change in net cash flows used in financing activities was primarily a function of reduced net borrowings, primarily as a functionresult of net repayments, in the 2016 period, of notes payable facilitated by cash flows primarily related to the trade cycle of our revenue equipment,. In particular, this decrease reflects the sale whereby we have taken delivery of 343fewer new company tractors and disposed of more used tractors in the 20172018 period, compared to 909 tractors in the same 20162017 period.
Going forward, our cash flow may fluctuate depending on capital expenditures, the resolution of the 2008 cargo claim, future stock repurchases, strategic investments or divestitures, and the extent of future income tax obligations. See Note 10 for further information regarding the 2008 cargo claim.obligations and refunds.
Material Debt Agreements
We and substantially all of our subsidiaries are parties to a Third Amended and Restated Credit Facility (the "Credit Facility") with Bank of America, N.A., as agent (the "Agent") and JPMorgan Chase Bank, N.A. (together with the Agent, the "Lenders").
The Credit Facility is a $95.0 million revolving credit facility, with an uncommitted accordion feature that, so long as no event of default exists, allows us to request an increase in the revolving credit facility of up to $50.0 million subject to Lender acceptance of the additional funding commitment. The Credit Facility includes, within our $95.0 million revolving credit facility, a letter of credit sub facility in an aggregate amount of $95.0 million and a swing line sub facility in an aggregate amount equal to the greater of $10.0 million or 10% of the Lenders' aggregate commitments under the Credit Facility from time-to-time. The Credit Facility matures in September 2018.2021.
Borrowings under the Credit Facility are classified as either "base rate loans" or "LIBOR loans." Base rate loans accrue interest at a base rate equal to the greater of the Agent's prime rate, the federal funds rate plus 0.5%, or LIBOR plus 1.0%, plus an applicable margin ranging from 0.5% to 1.0%; while LIBOR loans accrue interest at LIBOR, plus an applicable margin ranging from 1.5% to 2.0%. The applicable rates are adjusted quarterly based on average pricing availability. The unused line fee is the product of 0.25% times the average daily amount by which the Lenders' aggregate revolving commitments under the Credit Facility exceed the outstanding principal amount of revolver loans and the aggregate undrawn amount of all outstanding letters of credit issued under the Credit Facility. The obligations under the Credit Facility are guaranteed by us and secured by a pledge of substantially all of our assets, with the notable exclusion of any real estate or revenue equipment pledged under other financing agreements, including revenue equipment installment notes and capital leases.
Borrowings under the Credit Facility are subject to a borrowing base limited to the lesser of (A) $95.0 million, minus the sum of the stated amount of all outstanding letters of credit; or (B) the sum of (i) 85% of eligible accounts receivable, plus (ii) the lesser of (a) 85% of the appraised net orderly liquidation value of eligible revenue equipment, (b) 95% of the net book value of eligible revenue equipment, or (c) 35% of the Lenders' aggregate revolving commitments under the Credit Facility, plus (iii) the lesser of (a) $25.0 million or (b) 65%75% of the appraised fair market value of eligible real estate. We had $3.7estate, as reduced by a periodic amortization amount. As of September 30, 2018, there were undrawn letters of credit outstanding of approximately $35.1 million, available borrowing capacity was $59.9 million, and $6.2 million in outstanding borrowings under the Credit Facility. The interest rate on outstanding borrowings under the Credit Facility as of September 30, 2017, undrawn letters of credit outstanding of approximately $32.9 million, and available borrowing capacity of $55.6 million. The interest rate2018, was 5.8% on outstanding borrowings as of September 30, 2017, was 4.8% on $0.7$6.2 million of base rate loans, and 2.8% on $3.0 million ofthere were no outstanding LIBOR loans. Based on availability as of September 30, 20172018 and December 31, 2016,2017, there was no fixed charge coverage requirement.
The Credit Facility includes usual and customary events of default for a facility of this nature and provides that, upon the occurrence and continuation of an event of default, payment of all amounts payable under the Credit Facility may be accelerated, and the Lenders' commitments may be terminated. If an event of default occurs under the Credit Facility and the Lenders cause or have the ability to cause all of the outstanding debt obligations under the Credit Facility to become due and payable, this could result in a default under other debt instruments that contain acceleration or cross-default provisions. The Credit Facility contains certain restrictions and covenants relating to, among other things, debt, dividends, liens, acquisitions and dispositions outside of the ordinary course of business, and affiliate transactions. Failure to comply with the covenants and restrictions set forth in the Credit Facility could result in an event of default.
Capital lease obligations are utilized to finance a portion of our revenue equipment and are entered into with certain finance companies who are not parties to our Credit Facility. The capital leases in effect at September 30, 20172018 terminate in October 20172018 through September 2023 and contain guarantees of the residual value of the related equipment by us. As such, the residual guarantees are included in the related debt balance as a balloon payment at the end of the related term as well as included in the future minimum capital lease payments. These capital lease agreements require us to pay personal property taxes, maintenance, and operating expenses. As of September 30, 2018, our total capital lease obligations were $39.0 million, compared to $24.7 million as of December 31, 2017. The increase included financing previously unencumbered equipment to fund a portion of the Landair acquisition.
Pricing for the revenue equipment installment notes is quoted by the respective financial affiliates of our primary revenue equipment suppliers and other lenders at the funding of each group of equipment acquired and include fixed annual rates for new equipment under retail installment contracts. The notes included in the funding are due in monthly installments with final maturities at various dates ranging from October 20172018 to July 2023. The notes contain certain requirements regarding payment, insuring of collateral, and other matters, but do not have any financial or other material covenants or events of default, except certain notes totaling $130.0$133.0 million are cross-defaulted with the Credit Facility. Additionally, the abovementioned fuel hedge contracts totaling $1.6$0.9 million at September 30, 2017,2018, are cross-defaulted with the Credit Facility. Concurrent with entering into certain of our revenue equipment installment notes, we entered into interest rate swaps to effectively fix the interest rates. See Note 6 for further information. Additional borrowings from the financial affiliates of our primary revenue equipment suppliers and other lenders are expected to be available to fund new tractors expected to be delivered for the remainder of 2017,2018, while any other property and equipment purchases, including trailers, are expected to be funded with a combination of available cash, notes, operating leases, capital leases, and/or from the Credit Facility.
In August 2015, we financed a portion of the purchase of our corporate headquarters, a maintenance facility, and certain surrounding property in Chattanooga, Tennessee by entering into a $28.0 million variable rate note with a third party lender. Concurrently with entering into the note, we entered into an interest rate swap to effectively fix the related interest rate to 4.2%. See Note 6 for further information about the interest rate swap.
OFF-BALANCE SHEET ARRANGEMENTS
Operating leases have been an important source of financing for our revenue equipment and certain real estate. At September 30, 2017,2018, we had financed 135345 tractors and 1,101570 trailers under operating leases. Vehicles held under operating leases are not carried on our condensed consolidated balance sheets, and operating lease payments in respect of such vehicles are reflected in our condensed consolidated statements of operations in the line item "Revenue equipment rentals and purchased transportation." Our revenue equipment rental expense was approximately $3.9 million in the third quarter of 2018, compared to $2.7 million forin the third quarters of bothsame 2017 and 2016.quarter. The total value of remaining payments under operating leases as of September 30, 20172018 was approximately $12.0$25.7 million. In connection with various operating leases, we issued residual value guarantees, which provide that if we do not purchase the leased equipment from the lessor at the end of the lease term, we are liable to the lessor for an amount equal to the shortage (if any) between the proceeds from the sale of the equipment and an agreed value. The undiscounted value of the residual guarantees was approximately $4.0$2.0 million at September 30, 2017.2018. The residual guarantees at September 30, 20172018 expire between AugustOctober 2018 and February 2019. The discounted present value of the total remaining lease payments and residual value guarantees were approximately $14.4$26.4 million as of September 30, 2017.2018. We expect our residual guarantees to approximate the market value at the end of the lease term. We believe that proceeds from the sale of equipment under operating leases would exceed the payment obligation on substantially all operating leases.
CONTRACTUAL OBLIGATIONS
During the three and nine months ended September 30, 2017,2018, there were no material changes in our commitments or contractual liabilities.liabilities, excluding the aforementioned increase in debt and capital leases used to partially finance the Landair acquisition. See Note 7 for additional information.
CRITICAL ACCOUNTING POLICIES AND ESTIMATES
The preparation of financial statements in conformity with accounting principles generally accepted in the U.S. requires us to make decisions based upon estimates, assumptions, and factors we consider as relevant to the circumstances. Such decisions include the selection of applicable accounting principles and the use of judgment in their application, the results of which impact reported amounts and disclosures. Changes in future economic conditions or other business circumstances may affect the outcomes of our estimates and assumptions. Accordingly, actual results could differ from those anticipated. There have been no material changes to our most critical accounting policies and estimates during the three months ended September 30,
2017,2018, compared to those disclosed in Item 7, "Management's Discussion and Analysis of Financial Condition and Results of Operations," included in our
20162017 Annual Report on Form
10-K.10-K, other than the adoption of ASU 2014-09, as discussed in Note 1.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
We experience various market risks, including changes in interest rates and fuel prices. We do not enter into derivatives or other financial instruments for trading or speculative purposes, or when there are no underlying related exposures.
COMMODITY PRICE RISK
We engage in activities that expose us to market risks, including the effects of changes in fuel prices and in interest rates. Financial exposures are evaluated as an integral part of our risk management program, which seeks, from time-to-time, to reduce the potentially adverse effects that the volatility of fuel markets and interest rate risk may have on operating results.
In an effort to seek to reduce the variability of the ultimate cash flows associated with fluctuations in diesel fuel prices, we periodically enter into various derivative instruments, including forward futures swap contracts. Specifically, we enter into hedging contracts (which we referwith respect to as "fuel hedging contracts"ultra-low sulfur diesel ("ULSD"). Under these contracts, we pay a fixed rate per gallon of ULSD and receive the monthly average price of Gulf Coast ULSD. The retrospective and prospective regression analyses provided that changes in the prices of diesel fuel and ULSD were each deemed to be highly effective based on the relevant authoritative guidance. We do not engage in speculative transactions, nor do we hold or issue financial instruments for trading purposes.
A one dollar increase or decrease in diesel per gallon would have an approximately $0.2 million impact to our annual net income due to our fuel surcharge recovery and existing fuel hedge contracts. This sensitivity analysis considers that we expect to purchase approximately 12.111.0 million gallons of diesel during the remainder of 2017,2018, on which we recover approximately 77.8%85.0% of the cost (which was our fuel surcharge recovery rate during the year-to-date period ended September 30, 2017)2018). Assuming our fuel surcharge recovery is consistent during the remainder of 2017,2018, this leaves 2.71.7 million gallons that are not covered by the natural hedge created by our fuel surcharges. Because we have hedged a portion of our fuel, we will not realize the impact of changes in fuel prices to the same extent as we would have had we not entered into our hedge contracts.
INTEREST RATE RISK
In August 2015, we entered into an interest rate swap agreement with a notional amount of $28.0 million, which was designated as a hedge against the variability in future interest payments due on the debt associated with the purchase of our corporate headquarters as described in Note 7. The terms of the swap agreement effectively convert the variable rate interest payments on this note to a fixed rate of 4.2% through maturity on August 1, 2035. In 2016 and 2017, we also entered into several interest rate swaps, which were designated to hedge against the variability in future interest rate payments associated with the purchase of certain trailers. Because the critical terms of the swaps and hedged items coincide, in accordance with the requirements of ASC 815, the changeschange in the fair value of the derivatives arederivative is expected to exactly offset changes in the expected cash flows due to fluctuations in the LIBOR rate over the term of the debt instruments,instrument, and therefore no ongoing assessmentsassessment of effectiveness areis required. The fair value of all interest rate swap agreements that were in effect at September 30, 2017,2018, of approximately $0.7$1.2 million, is included in other short and long-term assets and other short and long-term liabilities, as appropriate, based upon each swap agreement's position, in the condensed consolidated balance sheet and is included in accumulated other comprehensive loss,income, net of tax. Additionally, $0.1 million and $0.3 million was reclassified from accumulated other comprehensive lossincome into our results of operations as additional interest expense for the three and nine months ended September 30, 2017, respectively,2018, related to changes in interest rates during such period. Based on the amounts in accumulated other comprehensive lossincome as of September 30, 2017,2018, we expect to reclassify lossesgains of approximately $0.2$0.1 million, net of tax, on derivative instruments from accumulated other comprehensive lossincome into our results of operations during the next twelve months due to changes in interest rates. The amounts actually realized will depend on the fair values as of the date of settlement.
Our market risk is also affected by changes in interest rates. Historically, we have used a combination of fixed-rate and variable-rate obligations to manage our interest rate exposure. Fixed-rate obligations expose us to the risk that interest rates might fall. Variable-rate obligations expose us to the risk that interest rates might rise. Of our total $219.8$235.6 million of debt and capital leases, we had $39.7$40.2 million of variable rate debt outstanding at September 30, 2017,2018, including our Credit Facility, a real-estate note, and certain equipment notes, of which the real-estate note of $26.1$25.1 million was hedged with the interest rate swap agreement at 4.2% and certain of our equipment notes totaling $9.9$9.0 million were hedged to provide a weighted average interest rate of 2.0%2.9%. The interest rates applicable to these agreements are based on either the prime rate or LIBOR. Our earnings would be affected by changes in these short-termDue to our interest rates. Risk can be quantified by measuring the financial impact of a near-term adverse increase in short-term interest rates. Atrate swaps, at our September 30, 20172018 level of borrowing, a 1% increase in our applicable rate would reducenot affect annual net income by less than $0.1 million.income. Our remaining debt is fixed rate debt, and therefore changes in market interest rates do not directly impact our interest expense.
ITEM 4. CONTROLS AND PROCEDURES
We have established disclosure controls and procedures to ensure that material information relating to us and our consolidated subsidiaries is made known to the officers who certify our financial reports and to other members of senior management and the Board of Directors.
We implemented ASU 2014-09, Revenue from Contracts with Customers, on January 1, 2018 with no major changes in our internal controls over financial reporting related to our revenue recognition process.
Based on their evaluation as of September 30, 2017,2018, our Chief Executive Officer and Chief Financial Officer have concluded that our disclosure controls and procedures (as defined in Rule 13a-15(e) and 15d-15(e) under the Exchange Act) are effective at a reasonable assurance level to ensure that the information required to be disclosed by us in the reports that we file or submit under the Exchange Act is recorded, processed, summarized, and reported within the time periods specified in Securities and Exchange Commission rules and forms and that such information is accumulated and communicated to our management, including our Chief Executive Officer, as appropriate, to allow timely decisions regarding required disclosure. There
We acquired Landair on July 3, 2018. Landair’s total assets and total revenues represented approximately 16.2% and 17.1%, respectively, of the related consolidated financial statements as of and for the period ended September 30, 2018. As the acquisition occurred in July 2018 and Landair was previously not subject to SOX 404 requirements, we anticipate that our management's annual report on our internal control over financial reporting and our independent registered public accounting firm's attestation report on the effectiveness of our internal control over financial reporting for fiscal year ended December 31, 2018, will exclude Landair's internal controls over financial reporting. This exclusion is in accordance with the SEC's general guidance that an assessment of a recently acquired business may be omitted from the scope in the year of acquisition.
Except as described above for the acquisition of Landair, there were no changes in our internal control over financial reporting that occurred during the period covered by this report that have materially affected or that are reasonably likely to materially affect our internal control over financial reporting.reporting
We have confidence in our internal controls and procedures. Nevertheless, our management, including our Chief Executive Officer and Chief Financial Officer, does not expect that our disclosure procedures and controls or our internal controls will prevent all errors or intentional fraud. An internal control system, no matter how well-conceived and operated, can provide only reasonable, not absolute, assurance that the objectives of such internal controls are met. Further, the design of an internal controls system must reflect the fact that there are resource constraints, and the benefits of controls must be considered relative to their costs. Due to the inherent limitations in all internal controls systems, no evaluation of controls can provide absolute assurance that all our controls issues and instances of fraud, if any, have been detected.
PART II OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
From time-to-time, we are a party to ordinary, routine litigation arising in the ordinary course of business, most of which involves claims for personal injury and/or property damage incurred in connection with the transportation of freight.
We maintain insurance to cover liabilities arising from the transportation of freight for amounts in excess of certain self-insured retentions. In management's opinion, our potential exposure under pending legal proceedings is adequately provided for in the accompanying consolidated financial statements.
On May 8, 2017, the U.S. District Court for the Southern District of Ohio issued a pre-trial decision against our SRTSouthern Refrigerated Transport, Inc. ("SRT") subsidiary relating to a cargo claim incurred in 2008. The court had previously ruled in favor of the plaintiff in 2014, and the prior decision was reversed in part by the Sixth Circuit Court of Appeals and remanded for further proceedings in 2015. As a result of this decision, we increased the reserve in respect of this case by $0.9 million in the first quarter of 2017 to $7.2 million in order to accrue additional legal fees and pre-judgment interest since the time of the previously noted appeal. We are appealingOn September 25, 2018, the District Court's decision on damagesSixth Circuit Court of Appeals ruled in favor of the plaintiff and against SRT. While considering its further appeal to the Sixth Circuit.U.S. Supreme Court, SRT will likely pay this claim, related accrued interest and legal fees totaling approximately $6.8 million within the next six months.
Our SRT subsidiary is a defendant in a lawsuit filed on December 16, 2016 in the Superior Court of San Bernardino County, California. The lawsuit was filed on behalf of David Bass (a California resident and former driver), who is seeking to have the lawsuit certified as a class action case wherein he alleges violation of multiple California wage and hour statutes over a four year period of time, including failure to pay wages for all hours worked, failure to provide meal periods and paid rest breaks, failure to pay for rest and recovery periods, failure to reimburse certain business expenses, failure to pay vested vacation, unlawful deduction of wages, failure to timely pay final wages, failure to provide accurate itemized wage statements, unfair and unlawful competition, as well as various state claims. The case was removed from state court in February, 2017 to the U.S. District Court in the Central District of California, and subsequently, SRT moved the District Court to transfer venue of the case to the U.S. District Court sitting in the Western District of Arkansas. The motion to transfer was approved by the California District Court in July, 2017, and the case will now be heard in the U.S. District court in the Western District of Arkansas.
Based on our present knowledge of the facts and, in certain cases, advice of outside counsel, management believes the resolution of open claims and pending litigation, taking into account existing reserves, is not likelyreasonably possible to have a materially adverse effect on our consolidated financial statements.
While we attempt to identify, manage, and mitigate risks and uncertainties associated with our business, some level of risk and uncertainty will always be present. Our Form 10-K for the year ended December 31, 2016,2017, in the section entitled "Item 1A. Risk Factors," describes some of the risks and uncertainties associated with our business. These risks and uncertainties have the potential to materially affect our business, financial condition, results of operations, cash flows, projected results, and future prospects.
ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS The table below sets forth the information with respect to purchases of our Class A common stock made by or on behalf of us during
During the quarter ended September 30, 2017:2018, we did not engage in unregistered sales of securities or any other transactions required to be reported under this Item 2 of Part II on Form 10-Q.
Period | | (a) Total Number of Shares Purchased (1) | | | (b) Average Price Paid per Share | | | (c) Total Number of Shares Purchased as Part of Publicly Announced Plans or Programs | | | (d) Maximum Number of Class A Shares that May Yet Be Purchased Under the Publicly Announced Plans or Programs | |
July 1-31, 2017 | | | - | | | | - | | | | - | | | | - | |
August 1-31, 2017 | | | - | | | | - | | | | - | | | | - | |
September 1-30, 2017 | | | 2,118 | | | $ | 25.51 | | | | - | | | | - | |
Total | | | 2,118 | | | $ | 25.51 | | | | - | | | | - | |
(1) | Includes 2,118 shares of Class A common stock withheld at an average price of $25.51 per share (under the terms of the grant under the Incentive Plan) to offset tax withholding obligations that occurred upon vesting and release of restricted shares. These were forfeitures that were permitted under the applicable award agreements and were not part of any stock repurchase plan. |
The payment of cash dividends is currently limited by our financing arrangements, including certain covenants under our Credit Facility.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
Not applicable.
ITEM 4.MINE SAFETY DISCLOSURES
Not applicable.
ITEM 5. OTHER INFORMATION
Not applicable.
ITEM 6. | |
| |
Exhibit Number | Reference | Description |
| (1) | Amended and Restated Articles of Incorporation |
| (2) | Second Amended and Restated Bylaws |
| (1) | Amended and Restated Articles of Incorporation |
| (2) | Second Amended and Restated Bylaws |
| # | Certification pursuant to Item 601(b)(31) of Regulation S-K, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002, by David R. Parker, the Company's Principal Executive Officer |
| # | Certification pursuant to Item 601(b)(31) of Regulation S-K, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002, by Richard B. Cribbs, the Company's Principal Financial Officer |
| ## | Certification pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, by David R. Parker, the Company's Chief Executive Officer |
| ## | Certification pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, by Richard B. Cribbs, the Company's Chief Financial Officer |
101.INS | | XBRL Instance Document |
101.SCH | | XBRL Taxonomy Extension Schema Document |
101.CAL | | XBRL Taxonomy Extension Calculation Linkbase Document |
101.DEF | | XBRL Taxonomy Extension Definition Linkbase Document |
101.LAB | | XBRL Taxonomy Extension Labels Linkbase Document |
101.PRE | | XBRL Taxonomy Extension Presentation Linkbase Document |
References: | | |
(1) | Incorporated by reference to Exhibit 99.2 to the Company's Report on Form 8-K, filed May 29, 2007. |
(2) | Incorporated by reference to Exhibit 3.2 to the Company's Form 10-Q, filed May 13, 2011. |
# | Filed herewith. |
## | Furnished herewith. |
ITEM 6. | |
| |
Exhibit Number | Reference | Description |
| #* | Stock Purchase Agreement, dated July 3, 2018, by and among Landair Holdings, Inc., the Stockholders of Landair Holdings, Inc. and Covenant Transportation Group, Inc. |
| (1) | Amended and Restated Articles of Incorporation |
| (2) | Second Amended and Restated Bylaws |
| (1) | Amended and Restated Articles of Incorporation |
| (2) | Second Amended and Restated Bylaws |
| # | Sixteenth Amendment to Third Amended and Restated Credit Agreement, dated effective as of July 3, 2018, among Covenant Transportation Group, Inc., Covenant Transport, Inc., CTG Leasing Company, Covenant Asset Management, LLC, Southern Refrigerated Transport, Inc., Covenant Transport Solutions, LLC, Star Transportation, Inc., Covenant Logistics, Inc., Driven Analytic Solutions, LLC, Transport Management Services, LLC, Landair Holdings, Inc., Landair Transport, Inc., Landair Logistics, Inc., Landair Leasing, Inc., Bank of America, N.A., and JPMorgan Chase Bank, N.A. |
| # | Certification pursuant to Item 601(b)(31) of Regulation S-K, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002, by David R. Parker, the Company's Principal Executive Officer |
| # | Certification pursuant to Item 601(b)(31) of Regulation S-K, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002, by Richard B. Cribbs, the Company's Principal Financial Officer |
| ## | Certification pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, by David R. Parker, the Company's Chief Executive Officer |
| ## | Certification pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, by Richard B. Cribbs, the Company's Chief Financial Officer |
101.INS | | XBRL Instance Document |
101.SCH | | XBRL Taxonomy Extension Schema Document |
101.CAL | | XBRL Taxonomy Extension Calculation Linkbase Document |
101.DEF | | XBRL Taxonomy Extension Definition Linkbase Document |
101.LAB | | XBRL Taxonomy Extension Labels Linkbase Document |
101.PRE | | XBRL Taxonomy Extension Presentation Linkbase Document |
References: | | |
(1) | Incorporated by reference to Exhibit 99.2 to the Company's Report on Form 8-K, filed May 29, 2007. |
(2) | Incorporated by reference to Exhibit 3.2 to the Company's Form 10-Q, filed May 13, 2011. |
# | Filed herewith. |
## | Furnished herewith. |
* | Schedules have been omitted pursuant to Item 601(b)(2) of Regulation S-K. The Company agrees to supplementally furnish to the SEC a copy of any omitted schedule upon request by the SEC. |
Page 3843
SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934, as amended, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
| COVENANT TRANSPORTATION GROUP, INC. |
| |
| |
Date: November 9, 20172018 | By: | /s/ Richard B. Cribbs |
| | Richard B. Cribbs |
| | Executive Vice President and Chief Financial Officer in his capacity as such and as a duly authorized officer on behalf of the issuer |
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