The markets remind us over and over again that quality stocks often appreciate well beyond fair value, particularly when they become popular picks in attractive sectors. That would seem to be the case at J.B. Hunt (Nasdaq:JBHT), as it is quite difficult to call the stock's price a bargain by conventional means. While the Street's love for J.B. Hunt has been great for shareholders, it does come with a price, as expectations seem to be quite high for this well-run transportation company.
Q1 Results Good, But Are They Good Enough?
In a vacuum, I think it would be hard to complain about J.B. Hunt's results in the first quarter. Unfortunately, stocks aren't analyzed or traded in a vacuum, and I think the stock could show some weakness as the company came in a little shy of expectations.
Revenue rose 11% this quarter, and was basically in line with sell-side expectations. The intermodal business saw 15% growth (on 13.5% volume growth), while ICS (truck brokerage) grew 26%. The dedicated contract services business (DCS) saw 9% in growth of operating revenue on a better-than-13% volume increase, while truckload shipping revenue declined 21% on a 16% decline in loads.
Price competition and rising costs continue to be very relevant themes in the intermodal and truck transport markets, and J.B. Hunt did disappoint on margins. Operating income rose 7%, leading to a slight (30bp) decline in operating margin. Margins were quite good in intermodal, with 22% operating income growth and a first-ever sub-88 operating ratio. While truck brokerage income rose 27%, there was more margin pressure here than expected. Both truckload and DCS saw weak margins and lower operating income (with a 78% drop in truckload).
JBHT's Intermodal Business Still A Great House In A Great Neighborhood
Intermodal continues to be a great business, both for railroads like Norfolk Southern (NYSE:NSC) and Berkshire Hathaway's (NYSE:BRK.A) Burlington Northern, and for intermodal players like JBHT and Hub Group (Nasdaq:HUBG). With significant cost benefits to customers, investors have every reason to expect ongoing conversion from trucks to intermodal in the coming years. But this isn't just about market growth for J.B. Hunt – the company also looks like a share gainer, as load growth of 13.5% was well ahead of the 9% year-to-date volume growth in the intermodal sector.
Brokerage Is A Tough Business, With Ample Competition
I'm a little less sanguine about J.B. Hunt's truck brokerage business, but not because of any particular company-specific problems. Rather, it's just that this is a very competitive business. Revenue was up 26% this quarter, but volumes were up 47% - giving investors some idea of the price competition. This likely means that companies like CH Robinson (Nasdaq:CHRW) and Landstar (Nasdaq:LSTR) also saw some margin pressure this time around.
Speaking of competition, investors would do well to keep an eye on XPO Logistics (NYSE:XPO) in this space. While a small player today, this company has extremely ambitious growth goals – looking to become the #2 player in about three years. That could make life for larger companies like J.B. Hunt a little more interesting in the coming years.
Truckload And DCS Are “Known Unknowns”
I'm not nearly so concerned about these other two businesses at J.B. Hunt. Yes, the truckload business was disappointing and margins were weak. Perhaps that's bad news for Knight (NYSE:KNX) or Werner (Nasdaq:WERN), but seeing as how this business is effectively in a state of “managed decline”, I would expect a certain degree of margin deleverage.
On the DCS side, volume growth was strong as the company takes on new business, but pricing was a little soft. Operating income was disappointing (down 22%), and not all of that can be tied to new contract costs, but I think ongoing scale improvements will lead to better results down the line.
The Bottom Line
I know there are investors who will resent my quibbling about J.B. Hunt's valuation and believe that the quality of the company and the opportunity mean that you should just ignore valuation and buy the stock anyway, trusting that growth will make it all work out in the end. Maybe that has been true recently (as I said, quality stocks can certainly perform better than anybody expects), but I happen to believe that valuation always matters.
To that end, I just think J.B. Hunt is too expensive today. Even if the ongoing evolution of the company leads to sustained high single-digit long-term revenue growth and much better free cash flow generation, this is still an industry with thin cash flow streams. Accordingly, while I'd still love to pick up shares on a significant pullback, I'm not expecting to get that chance anytime soon.