Welcome to today's Covenant Logistics Group Q2 2022 earnings release and investor conference call. Our host for today's call is Joey Hogan. At this time, all participants are in listen-only mode. Later, we will conduct a question-and-answer session. I'll now turn the call over to your host. Mr. Hogan, you may begin.
Thanks, Erica. Good morning, and welcome to our second quarter conference call. As a reminder, this conference call will contain forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Forward-looking statements are subject to risks and uncertainties that could cause actual results to differ materially from those contemplated by the forward-looking statements. We ask that you please review our disclosures and our filings with the SEC, including without limitation, the Risk Factors section and our most recent Form 10-K and our current year Form 10-Qs. We undertake no obligation to publicly update or revise any forward-looking statements to reflect subsequent events or circumstances. A copy of our prepared comments and additional financial information is available on our website at covenantlogistics.com in the Investor section. I'm joined on the call this morning by David Parker, Paul Bunn, and Tripp Grant.
To start with, we're grateful to our teammates for again producing record earnings per share for any quarter in our history. The transformation of the company that we have been working on for the past five years continues to build our confidence in our direction and our leadership team. Our asset-based truckload operations led the charge in the second quarter, improving its operating income 76% despite a significant headwind in operating costs, primarily insurance claims expense and less gain on sale. The combined increased cost has affected us by about $0.20 a share in the quarter. Additionally, the small acquisition we made in the first quarter, plus the continued pursuit of investing in our undervalued company stock contributed nicely to the improved results versus year ago. Despite the murky economic outlook, we are bullish on Covenant.
In summary, the key highlights for the quarter were. Our freight revenue grew 15% to $267 million compared to the 2021 quarter. Adjusted earnings per share increased 70% to $1.63 per share from the year-ago quarter. Our asset-based truckload freight revenue grew 16% versus the second quarter of 2021 with 80 fewer trucks. Our less asset-intensive or asset-light managed freight and warehouse segments combined grew 14% compared to the second quarter of 2021. On the safety side, our DOT rate was 2% higher than a strong quarter last year, but development of a small number of prior period claims contributed to almost $0.06 per mile increase in insurance expense. Gain on sale was only $400,000 compared to $1.9 million in the year-ago quarter.
Our TEL leasing company investment produced another record quarter, contributing $0.33 per diluted share or an additional $0.17 per share versus the year-ago period. Due to the strong cash flow in the quarter, our net indebtedness increased only $10 million after utilizing $28.5 million of cash on share repurchases. We finished the quarter with a leverage ratio of 0.43x, debt-to-equity ratio of 14.6%, and a record return on invested capital of 15.7%. Now, Paul will provide a little more color on the items affecting the business units.
Thanks, Joey. For the quarter, our asset-light businesses comprised of managed freight and warehousing were 37% of total freight revenue and 34% of consolidated adjusting operating profit. As we have discussed in the past few quarters, the managed freight revenue growth versus year ago is beginning to cool as the market softens and surge demand recedes. However, the net revenue margin continues to be strong. We have an active pipeline for new business. By the end of the third quarter, our warehouse team will have stood up three startups for the year, primarily in the second quarter. We will focus the remainder of the year on maximizing the revenue and margin opportunities and to grow income. The asset-light group remains a priority for growth, focusing on talent acquisition and technology enhancements.
The expedited division was 35% of consolidated freight revenue and 55% of adjusted operating profit in the quarter. It grew its revenue 23% versus the year-ago quarter due to strong revenue per truck improvements and the growth of 40 trucks. In the first quarter, the first quarter acquisition contributed to the revenue growth nicely. Expedited produced a record 83% Adjusted OR, a 310 basis point improvement over the second quarter of last year. Our freight network is not overbooked, but remains balanced. Maintenance, insurance costs, and less gain on sale were major headwinds in the quarter, but we feel driver pay is in good shape at the present time. Our expedited leadership team is doing a great job managing through this economic transition.
The dedicated division was 28% of consolidated freight revenue and 11% of adjusted operating profit in the quarter. The division continued its steady improvement with adjusted OR improving slightly versus the first quarter of this year and 360 basis points from the year-ago quarter. Revenue per truck per week grew 17% versus the year-ago quarter, while cost increases in maintenance and insurance and lower gains on sale also consumed some of the margin improvements. The weed and feed process continues with another 122 trucks planned to be upgraded in the third quarter through either replacement and/or revenue per truck pricing improvements. Based on what we see today, we feel good about our goal of an additional 200 basis points sequential OR improvement in the third quarter.
The pipeline for the remainder of the year remains robust, supporting our expectation that margin improvement will continue. Our minority investment in TEL continues to produce strong positive results. TEL's revenue in the quarter grew 33%, and pre-tax operating profit increased by 123%, both versus the second quarter of 2021. TEL decreased its truck fleet by 60 trucks to 2,013 trucks and grew its trailer fleet by 117 trucks to 6,869 trucks. Our investment in TEL is included in other assets on our consolidated balance sheet and grew $7.1 million-$58.1 million .
As a reminder, TEL focuses on managing lease purchase programs for clients, leasing trucks and trailers to small fleets or shippers, and aiding clients in the procurement and disposition of their equipment through a robust equipment buy, sell, and maintenance program. TEL contributed a total of $0.33 per share to our overall results or an additional $0.17 per share versus the year ago quarter. Due to the business model, gains and losses on sales of equipment is a normal part of TEL's business and can cause earnings to fluctuate from quarter- to- quarter. TEL's future is very bright. As we said in our press release, we expect the second half of 2022 to exceed the adjusted earnings per share of the second half of 2021, bringing the full year of 2022 to a minimum of $5 of earnings per share.
We do believe there will be market headwinds from continued inflationary pressures and softening freight demand, but based on company-specific factors, the investments we have made in the sales team, the small acquisition, the share repurchase, and returning insurance costs to a more normalized level, we are confident in the second half and planning for 2023. Over the last five years, our customer base has been intentionally moved to less cyclical industries through our full-service logistics focus. We said last quarter that 2023 will be a breakout year for Covenant, and we remain firm on that statement and confident that we will continue to produce cash and maximize opportunity for our shareholders. Thank you for your time. I will now open up the call for any questions.
Ladies and gentlemen, if you would like to ask a question, please press star one on your telephone keypad now. You'll be placed into the queue in the order received. Please be prepared to ask your question when prompted. Once again, if you'd like to ask a question, please press star one now. Our first question comes from Jason Seidl from Cowen. Please state your question.
Hey, thank you, operator. Good morning, guys, and congrats on the quarter. Wanted to talk about some of the puts and takes for the second half of the year in terms of some of the tailwinds you might see versus some of the headwinds. On the tailwind side, how should we look at gains on sale for H2 compared to H1? Then how should we look at the insurance side of things? I imagine since you had not a great insurance quarter, that things would be coming down at least on the expectations for Q3.
Yeah. Jason, this is Tripp. Hope you're doing well today. I think you're gonna see some pretty strong gains on sale of equipment in the second half of the year, particularly on the tractor side. I think if you look back the last four quarters, it's been very light, so you'll see some tailwinds there. On the from an insurance perspective, I think you'll start to see that normalize a bit. We're not gonna run $0.20 insurance each quarter. It was exceptionally strong during the third quarter, but I think you'll start to see that soften. Just for a little perspective, you know, on average last year, our insurance was about $0.15 per mile.
I'm not saying it'll go to $0.15 per mile in the third quarter, but I think you'll see it, you know, somewhere between where it landed last year and the $0.20 per mile cost for Q3 or Q2.
Okay. That's very helpful, Tripp. How about some of the headwinds? Can you talk a little bit about the contract pricing marketplace, sort of how it trended through the quarter and what you're seeing in early Q3?
Yeah. Well, I'll turn part of that over to Paul, but I think from a cost headwind perspective, you know, we're continuing to see new equipment costs coming in pretty strong, from a cost perspective. Also seeing ops and maintenance costs continue to be cost headwinds that have, you know, haunted us for the majority of this year. You know, as we get that new equipment in, and we're working on to get as much as we can as possible, you'll start to see the average age of the equipment decline a bit, which should help that from a back half of the year, beginning of next year perspective. You, Paul, you want to talk a little bit about the contracts?
Jason, on the contract business, I would call it flattish. We're not having a lot of customers come back on the contract side of the business and ask for rate. I mean, I think just a reminder, you know, we said it a minute ago in the script that, you know, we moved to a lot of less cyclical type customers and really didn't overstep our bounds, I think, in the last 18-24 months. I think thus far that's paying dividends on folks sticking with us through times that are, you know, no doubt softer than they were earlier in the year. On the straight up contract pricing, I would say flattish.
I mean, you know, we're not getting a lot of rate increases, but we're not getting a lot of pressure either. On the managed freight side of the business, you know, that's, as we've said before, where our exposure to the spot market is, and we are seeing things soften up. You know, I think you'll see dedicated margins improve, expedited margins hold to maybe get a little worse. You're gonna see on the managed freight side some deterioration in margin in the second half of the year. I'd say that's a headwind.
No, that makes a lot of sense. Tripp, just if I can get back to your sort of share repurchase program. Obviously, you know, that helped you out here in the quarter. You were able to buy a bunch of stock back. You know, how should we think about the second half of the year? Obviously, I'm assuming less, but sort of just how much less active are you, do you plan to be in the marketplace given the positive reaction to the stock? That's obviously a good thing, but I'm just looking at it from a modeling perspective.
I don't know if I can answer your question directly, but here's what I'll say. We put this program in place, which is a fairly large program, $75 million program in place in May. We designed it specifically for the longer term duration, and we built some parameters in place to help. You know, we can't control what's purchased once the plan goes into place. What I would say is, as long as we're, you know, trading at a, what we would consider a lower tangible book multiple and have, you know, what I'll call moderate to low leverage from a debt perspective, we're gonna continue to repurchase shares.
Now to your point, with the uptick in the stock price just over the last few weeks, you'll start to see that soften because our, you know, tangible book multiple will start to go up. I don't think. You know, I'm not gonna predict what the stock price is gonna do, nor could I if I tried. I think you'll start to see that soften a bit. We've been purchasing at a really good clip as we disclosed, you know, from a historical perspective, and we even had some July numbers out there that were pretty strong. If we slow down the purchase, that doesn't mean the plan doesn't go, you know, obsolete or we turn the plan off. We'll continue to keep it in play and be opportunistic about repurchasing shares in the future.
It might just slow down in the second half of the year.
Okay, perfect. Appreciate the color there, and I appreciate the time as always, gentlemen.
Yeah.
Our next question comes from Scott Group from Wolfe Research. Please state your question.
Hey, thanks. Morning, guys. Nice quarter. I know you talked about the pricing environment, but maybe can you just share some perspective on how the demand environment played out throughout Q2 and what you're seeing so far in July?
Yeah, I mean, I would say the demand environment, Scott, was good in Q2. I mean, it probably wasn't as good as Q1 and definitely not as good as Q4 last year. You know, we were talking about July earlier. You know, July is generally, you know, one of our top two to three , but a lot of times it's two as far as kind of second-worst months with the holiday and vacations and kind of the lag before they get back to school and folks start ramping up for, you know, for fall season and whatnot. There's seasonality to it. No doubt July is softer than any month we saw in the second quarter, but it hasn't fallen off a cliff.
You know, David and I were talking, and he said, "Well, let's just. We'll see how August goes." I think we'll be able to make a call when we see two or three weeks into August how August is going, you know, kind of where really is demand. So, you know, July is worse than June, but July is always worse than June.
Right. I know it matters less to you guys now, but any early thoughts about peak season?
Pretty muted. That's, you know, to your point, as we've talked about, peak has continued to be less and less of an impact item for us. You know, we've got a couple customers, two or three customers that we do peak for and those are commitments that we make with them every year, and we'll do it again. Yeah, there'll be a little bit of an uptick for peak, but nothing anywhere near as dramatic or material as what you saw in years past. It'll probably play a little bit like last year.
Okay. Maybe my last question, so we're in a pretty softer spot environment and expedited still did a low 80s% OR, which is pretty remarkable. Now that we've got this acquisition, it's small but very profitable, how are you thinking about the right sort of range of expedited margins, you know, throughout a cycle now?
You know, hey, Scott, this is Joey. It's still gonna have more than our other services. If you look back through history, I think it would show if expedited was presented as it was today, which is not out there, it's kind of the old company structure. But as we've gone back in turn and looked back at expedited, as best as we can, what it looks like today, you kind of see an 8-10 point swing in OR from peak to trough. What we've been working hard to do with some other things, so we talked about last year, throughout the year, of trying to solidify some longer term relationship with some customers, is to narrow that down, take that 8-10 points to 6-8 points.
Kind of the range of that. I think, you know, time will tell if we've been successful with that. As you look at where expedited is today, you know, worst peak and trough, isn't 83% the best, if you will. It's the best we've ever done, and I think probably as it stands today with the opportunities we have, I would say probably we've been working hard to get expedited in the low 80s%. I'd probably say low 80s%, and I would be hard to debate, you know, 92%. You know, 83%-92% as a range. But again, we're working hard to keep that 92% down. I think we got a shot to keep expedited in total in the 80s%.
I think we need to kind of play out this cycle to see if that actually holds. I think with the acquisition we made and some of the work that the leadership team has done on the base customers, legacy customers, I think things are looking really good right now.
Okay. Super helpful. Thank you, Joey. Appreciate the time, guys.
Sure, Scott.
Thanks, Scott.
Our next question comes from Jack Atkins from Stephens. Please state your question.
Okay. Great, good morning, and congratulations guys on these great results.
Thanks. Thanks, Jack.
I guess, you know, Paul, if I were gonna go back to your prepared comments for a moment, you know, you referenced 2023 as being a breakout year for Covenant, and I'm guessing that's because you think you're gonna be able to show the resiliency of the business through a more challenging freight market to the degree that, you know, fully materializes. You know, we've kind of talked about $5 or more in earnings this year. You know, some companies have been kind of proactive, kind of helping us think about what trough earnings power could look like. I'm just kind of curious if you guys could maybe help us think about, you know, trough earnings power for Covenant. I think raising the floor on trough would really help expand the multiple on the stock.
Just kind of curious if you could-
You know, Jack, I think we're confident sticking with where we were last quarter is probably, you know, similar to a lot of our peers, kind of a 25%-30% reduction peak to trough. Those numbers, as we've modeled them out, still hold. We still hold on those numbers. Wherever you think peak is, even, you know, 25%-30% off of that, we think that's probably about where trough will be.
Okay. I guess maybe playing into that, this cycle versus last cycle, you've got TEL, you know, which is a bigger bottom-line contributor. You know, how are you thinking about the, you know, that contribution in the back half of this year and as we kind of go into 2023? Are there some additional investments that are coming there that can grow that further?
Yeah. I mean, they continue to grow and, you know, if you think about it, Jack, trucks have kind of been limited. Trailers have been limited in the market, and TEL over the last four or five years has just grown dramatically. A lot of these equipment providers, what folks are getting allocated, if you kinda use that word allocated, that you can buy is a percentage of your last three, four, five years equipment. They don't. You know, they only need a portion of the trucks and trailers that they get to service replacement. The other is basically just built in growth, and there's a high demand for what they're doing. They're executing incredibly well, whether it's, you know, leasing trucks, leasing trailers.
I mean, it's not just small trucking companies, it's shippers, it's large trucking companies, it's private fleets, it's, you know, maintenance programs they're doing. I, you know, I think we think TEL's gonna be on a similar clip to what they've been on. I mean, we don't see TEL going backwards a lot, if any.
Okay.
Just to add to that, last quarter, we talked about them having some exceptionally strong gain on sales of equipment, which is all true. I mean, I would say for the last two quarters they have. That's part of their business model, as Paul mentioned, is the sale of equipment, and they always have gain on sale of equipment. You know, it's just probably been a little bit higher, just recently with the equipment market. What I would say to that, and people are worried about, you know, TEL falling off of a cliff, and that's not true because, to Paul's point, they're growing other pieces of their other business, which may help offset, you know, some of the reductions.
As the equipment market softens a bit, you'll start to see pickup from other areas of their business.
Okay. That's great. I guess maybe last question, you know, the AAT acquisition, you know, is clearly paying some nice dividends. You know, I guess as you sort of look out at the market and maybe what could be coming to market over the next, you know, maybe three, four, five quarters, are there other businesses like AAT that, you know, you think you could acquire that would make sense? I'm just trying to think through capital allocation, buyback versus maybe deploying that into strategic M&A.
Yeah. I mean, here's what I think. If it's a niche-y, high margin business, I think it's something that has a strategic fit with one of the other business units, then absolutely that's something that we would look at. Are we just gonna chase something just for the sake of growing revenue? No. It's gonna need to be something that's, you know, solidly accretive, has a strategic play with something else that we're doing, is niche-y, and has minimal integration risk. That combined with probably where our stock's trading at that point, we'll put that in the blender and see what comes out the other side.
Okay. All right. Well, that sounds good. Thanks so much for the time, guys. Really appreciate it.
Thanks, Jack.
Our next question comes from Bert Subin from Stifel. Please state your question.
Hey, good morning, guys.
Morning, Bert.
Bert.
Hey, this is probably for Joey, but you know, maybe Paul as well. Walmart took down its guidance last night, you know, called out inflationary pressures that they said are eating into general merchandise sales. Are there any freight categories that you guys would call out as being weaker in recent months and perhaps some that have been stronger than you initially expected? Just in addition to that, can you give some color on what you're hearing from your customers today around the back-to-school and holiday season?
This is David. Bert, I would, you know, so far through June.
I didn't even say hello. Thank you.
Oh, that's okay. So far through June, you know, our business with Walmart continues to go very well. I mean, as you know, you know, we really concentrate on the Walmart side on their produce that comes off the West Coast. Their store side has been, you know, has done quite well. Our business with Walmart has been extremely well. Has there been hiccups? Yeah, because of employment, can't get everybody into the warehouses. The freight itself has been just as strong as it was six months ago or eight months ago. We expect that to continue. We were just over there a couple of weeks ago. We don't see anything there.
Our retail business, keep in mind, that is extremely expedited. Here's a great example. We've got one decent-sized customer of ours, retail, that for the last year or so has been expedited. Inventories have risen, as we all know. They made the decision that, "Hey, we're okay with slow. We don't have to. This does not have to be expedited. It doesn't have to be there in 48 hours," et cetera. We were able to transition that into our managed freight side, where it can go as a solo operation instead of expedited. We kept the business, we kept the margins, we just took it from one, you know, one bucket and put it in the other bucket.
I looked last week, as Paul was saying that July is July, as we all know. I've only been through about 50 years of them. July is July, and it has slowed. I expect that August, we're gonna get a school rebound and, you know, we'll start then get into the Christmas season shortly thereafter. I do think there'll be an uptick. So far, we have not seen the downtick or let's say this, business that we've lost and there's been ups and downs. Business that we've lost, we've replaced every bit of it with new business. That's kind of the tell of the tape so far.
I think that as we get through July, and we're not dissatisfied with July at all, but as we get through July, I think that August will start telling us, you know, in this recession that we're in, you know, what they're gonna do to trucking. One thing we do know, there's hundreds of thousands of trucks that are coming out of this market. There's a lot of trucks exiting the market. The one or two trucks that lived on the Spot Market for the last two years are leaving and shutting their doors. As to their layup, you know, that's gonna be a nice little tailwind from a capacity standpoint. It's gonna be interesting. I think the next three or four weeks, though, in August, will give all of us an idea of what to expect.
Thanks. Thanks for that, David. Maybe just sort of dovetailing on that. On the expedited side, obviously, you know, that's been brought up a couple times, and that's been very strong, you know, both on the revenue and the profit side. You guys do a fair amount of LTL linehaul business there. It sounds like that's held in there quite well. Do you have the expectation that that can persist just if we start to see, you know, durables demand, industrial demand start to wane a little bit? Do you have any color sort of what you're hearing from your LTL clients?
Yeah. I think on the industrial side of the business there's gonna be pressure that's there. You know, we have already in the last 60 days, we've seen some of our LTL customers that have decreased. We have just been fortunate enough to spread. Because at the end of the day, you know, when we in 2020 took out 500 solo trucks out of this expedited and truly went to a model that is, we are expedited, do you really need a team? That forced us and the customers to answer a question 2.5 years ago that said, "Do I really need these teams or not?" Because we all know there's not a whole lot of them in the marketplace.
We've got a lot of agreements with a lot of our customers, not all of them, you know, but we've got a lot of agreements with our customers that even if their business slows down, that we will be the last person standing from a obligation standpoint. I feel very comfortable that even though some have been reduced, it's not earth-shattering to us so far.
Great. Thanks so much, David. Then just one final question, probably for Paul. If 2023 ends up being a weaker year, as I think most people are speculating, would you expect revenue per truck per week to still be positive on the dedicated side, or do you think there could be some pressure there?
I think flat to positive. I don't think it'll go backwards. I don't think it'll go backwards next year.
Thanks, Paul. Thanks, David.
Thanks.
Once again, if you would like to ask a question, please press star one on your telephone keypad now. At this time, we have no further questions.
Okay, Erica, we appreciate everybody's time this morning and look forward to sharing how we did in the third quarter later. Everybody have a great day.
This concludes today's conference call. Thank you for attending.