There are some pretty sharp divisions among the transport stocks these days. Railroads have enjoyed a great run and air transport companies have seen a solid pickup in business, while ocean-going carriers have been struggling. With trucking it's a more complicated picture - the volume has been there, but pricing has been soft and many major haulers are struggling.
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Old Dominion (Nasdaq:ODFL) seems to be one of the exceptions. Old Dominion has long been a great growth story within a cyclical industry, and this quarter is another example of how not all trucking companies are alike. Although this is not an easy company to value, Old Dominion is gaining share and building a business that is getting increasingly attractive.
Solid Start to the Year
Old Dominion has opened the year with 33% top line growth. Tonnage climbed over 20%, while a modest give-and-take between haul length (up 0.7%) and weight per shipment (down 0.6%). Pricing was rather strong as well; up over 11% as reported, and up more than 6% when stripping out the company's fuel surcharges.
Old Dominion has stood out in the past for its operating efficiency and that was true again this quarter. The company showed operating income growth of 132% and the company's operating ratio improved by nearly four full points from the year-ago level to 91. That stands in significant contrast to major carriers like Arkansas Best (Nasdaq:ABFS) and YRC Worldwide (Nasdaq:YRCW). One of the advantages to the Old Dominion model is its lower labor costs, and that held true this quarter - though these costs climbed nearly 23%, they were about 52% of revenue or more than 10% less than the share of revenue paid out by Arkansas Best. (For related reading, see Bad Times For Arkansas Best.)
A Lot of Open Road
One of the appealing attributes of Old Dominion is that it is the new(ish) up-and-comer in an old business. What's more, while the company has been spending hundreds of millions of dollars on capital expenditure, there is now some excess capacity in the system. Management believes it has excess equipment capacity of about 10% and 20-60% extra capacity in many of its service centers.
Although that's a near-term positive (the company should see operating leverage from using up that surplus capacity), it won't take too long to absorb that extra room with more volume. What's more, asset-intensity is the name of the game in less-than-truckload and Old Dominion is still behind larger rivals like Con-way (NYSE:CNW) and FedEx (NYSE:FDX) when it comes to service centers and terminals.
That, in turn, will mean even more spending on equipment and infrastructure. That's good news for tractor, engine, and trailer companies like Navistar (NYSE:NAV), Cummins (NYSE:CMI) and Wabash (NYSE:WNC), but may be a frustration to investors looking for better free cash flow performance here.
The Bottom Line
Investors should not underestimate the flexibility that a non-union workforce gives Old Dominion, particularly since the company seems to have a good handle on turnover. Operating costs are clearly a driving factor in this business and a differentiating force for Old Dominion.
Valuation is a trickier matter. It seems entirely reasonable that Old Dominion will reach a point someday where it can harvest better free cash flow from its asset base, but that day is still many years off. In the meantime, Old Dominion's valuation ratios don't look bad relative to its growth, but it is priced at a premium to the less-than-truckload sector and on par with truckload carriers like Heartland (Nasdaq:HTLD) and Knight (NYSE:KNX), even though that sector enjoys higher margins. (For related reading, see JB Hunt: The Trucking Company That Isn't.)
Old Dominion looks like a good growth pick and a share-taker, but investors should remember that businesses with intense asset leverage are a double-edged sword - the model works great when business is picking up, but a shortfall in demand can really punish the bottom line.
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