We are pleased to have with us RXO, Incorporated, with Drew Wilkerson, CEO, and Jared Weisfeld, Chief Strategy Officer. This is their second time here at the conference, so we're pleased that they were able to come back. We'll get to some intros and open remarks from them here in a second, but if we could just open by going up to the first audience response question.
I'm sure everybody's seen, but there should be a little device in front of you. You can answer the first question here, which is, "Do you currently own RXO stock?" I think everybody was an XPO shareholder. They all got gifted.
1 for 1.
All right, so some potential comments here. Next question. What is your general bias towards the stock right now? Positive, negative, or neutral? Remember last year, these results were pretty positive, and it's mixed for us here a little bit. We have a lot going on in the market that we'll cover here, so still pretty positive. So overall, good.
L ast question for us, number three. In your opinion, through-cycle EPS growth for RXO will be above peers, in line with peers, or below peers? Okay. All right, so again, we have some potential comments here for you. So Drew, again, like I said, a lot has gone on in the market in the last year when you guys spun out.
There was definitely a real story to be sold in terms of volume growth and a lot of earnings history that you've been able to show. Has anything changed to change your outlook with what's gone on in the market over the past year?
Yeah, so I think when you look at what's going on in the market, the market has been down for longer than what I think most have expected a nd when you look at that and the balance sheet that carriers built up through the strong rates of 2020, strong rates in 2021, in the beginning parts of 2022, you combine that with low interest rates on trucks and trailers, you add into COVID relief funds, it's easy to see how the market has been able to sustain longer with less capacity.
I think what everybody anticipated, when you look at what our outlook is right now, throughout all of 2023, you saw capacity rates accelerate. As you got into June, capacity rates were 30% above 2023's average.
So for us right now, when you look at capacity coming out of the market and where the overall macroeconomy is, if it remains stable, our base case right now is for a market recovery to start in the second half of the year.
I'm going to just follow that up real quickly. During this presentation, we may make certain forward-looking statements within the meaning of federal securities laws, which by their nature involve a number of risks and uncertainties and other factors that could cause actual results to differ materially from those in the forward-looking statements.
A discussion of factors that could cause actual results to differ materially is contained in the company's SEC filings as well as its earnings release. You should refer to a copy of the company's earnings release in the investor relations section on the website for additional important information regarding forward-looking statements and disclosures and reconciliation of non-GAAP financial measures that the company uses when discussing its results. Groundbreaking news there.
Sorry about that, but yeah, thanks for.
Yeah, no worries.
Thank you. Like Drew said, though, it has been a lot of ups and downs for brokerage. What's the path forward? Because we've actually seen some of these businesses exit now, some of your competitors, folks that thought it could be a completely digital solution. How does RXO fit into the future of the brokerage landscape?
Yeah, well, I think one, that's never been our take, right? When you look at how we built the business from the ground up, what we aim to do and what we've done over the last decade is we've combined great operators with some of the best technologists, not just in the transportation industry, but in any industry.
S o for us, it's never been the go completely technology route or completely an operational route. It's combining the best of both worlds. F or us, it's keeping it simple with how we look at the business for our customers. It's focusing on service. Every load matters. Picking up and delivering when we say we're going to. Making sure that we're giving customers complete visibility through the life cycle of an order. If there is a problem, being proactive in communication versus reactive. Creating solutions for customers.
So, not just looking at what are the rates from point A to point B, but how do we look at their overall transportation spend and talk about what days of the week they're shipping, what modes of transportation they're using. Do they have the opportunities to consolidate? The next piece is on technology.
When you look at innovation and being able to use those tools to give our customers data. I t's one thing to have the data, but it's another thing to be able to use the data to help our customers create and deliver results for themselves. T hen the last thing is relationships. Relationships are really important in this business a nd when you look at our top customers, they've been with us for 17 years on average.
They're not just coming back to us and saying, "Hey, we want to renew the business that we've got with you." Because of our service, because of the technology and the integration that we've got with us, they're coming back to us and they're offering us more freight. They're giving us the opportunity to haul more of their freight. When you look over the last three years, our volume growth with our top customers has actually outpaced our overall volume growth that we've been putting up with.
On that relationship piece, I think our thesis for you guys has been spot volumes are pretty low right now, but as the volume and the general demand trend turns, those spot volumes are going to come back and that's going to be pretty profitable for you. So I guess what gives you confidence in those relationships that you've been developing with the incremental volume you've gotten over the last year that that will actually come to you and not go floating out to other potential brokers?
Well, for one, again, these relationships aren't new relationships. They're relationships that we've had, top customers for 17 years. S o when you look at what we've done over history from 2015 through 2021, the brokerage industry grew at a 9% CAGR. During that time, there was a lot of up cycles and down cycles.
We grew it over at 27% CAGR during that same time period. So we've got a history of being able to do this, a nd what we'll do is it starts with the service. When the market turns, we're going to honor our contractual rates to our customers a nd that gross profit per load for contractual rates will come down.
But as you start to see load-to-truck ratio increase and it gets around 6-7 to 1, tender rejections getting to high single digits, low double digits, for us, at that point, you start to see the spot gross profit per load more than offset the squeeze that you see on the contractual gross profit per load. It's really important. As you look right now, what's happening in the industry, customers are consolidating the number of carriers that they're working with.
So whenever the market does inflect, where are they going to turn first? They're going to turn first to the companies that they trust that have delivered for them a nd whenever we've got over a decade of experience of delivering results for them, we're confident that not for the first time, but for again, we're going to be where they turn when the market inflects.
Brandon said a number of times this afternoon, he wants to keep us focused on the long term. You did bring up a kind of short-term point there in that you are expecting maybe some spot price inflection that could potentially lower your gross margin per load there before you start to see contract rates reset upward, or at least the further out contract. So is that part of why the Q1 guide was as it was? I s it potential that that squeeze could even happen after Q1, depending on how the rates cycle get?
Yeah, so the 1Q was really about what we saw in January. If you go to what you typically see, the last two weeks of December and the first two weeks of January are typically fairly soft in the industry. You combine that with the weather impact that we had that lasted the entire month of January, it had an impact on the overall profitability a nd where it had the impact was in gross profit per load.
I f you look at the areas of the country that were impacted by weather, particularly the Midwest and the Southeast, those areas, our gross profit percentage was impacted 2x-3x more than the rest of the company than the rest of the country. So I think it shows the power of what happens on gross profit per load if it's coming down. If it comes down $5- $10, it's meaningful to the bottom line. The same is true as the market inflects. It starts to go up $5, $10, $15, $20. That's very impactful to the bottom line.
In the recent earnings call, you talked about the goal of profitable growth. We certainly get some pushback from investors on what the definition means there. Could you just unpack what you mean, how you're defining profitable growth, and why you're confident that you'll be able to get profitable growth in the medium term?
Yep. So I think first, if you go back and you look over the last decade, we put our results up there, whatever it comes to volume growth and the margin percentage that the business operates up against most others in the industry and are very proud of the results that we've created there.
With that said, I understand that $12 million-$18 million is not the same that we were talking about when you come off of Q4 of coming into the spend being at $64 million. So I understand the framework of the question. For us, when you look at how we're performing in a gross margin percentage, it's near the top of the industry. S o for us, that's what we mean when we mean profitable growth. A lso, the second thing that I would add is not leading with price.
If you look at how we price business from point A to point B, it is never our intent to go in below market. We want to find out exactly where the market is and hit that little window a nd for us, what we do there is we're working with smaller carriers who are looking for a backhaul, back to another customer, smaller carriers who are looking for a route back home, something that works very well for them a nd these have become strong power lanes for us and it allows us to have a margin on there.
Jared, I think you said on the last call that you were expecting the rate of capacity exiting the market to be a big driver on results this year. I think you've said something in the effect of double digits last year, capacity on the brokerage side exiting the market. What are you monitoring this year for capacity exiting on the brokerage side and on the carriers?
Right, okay. So let's separate that out in terms of capacity exits, both from a brokerage standpoint and from a truckload capacity standpoint. On the former, with respect to brokerage exits, in 2023, roughly 10% of the industry was roughly 10% of brokers exited the industry. We expect that to continue into 2024.
You think about the brokerages that came into the industry during COVID where cost of capital was effectively free a nd now you're at a point where if you're not large, if you're not at scale, if you don't have the customers, the carrier relationships, the technology, and the investments, you can't compete in this market. So what's happening is you're seeing that you're seeing the rate of capacity from a brokerage standpoint, from an exit rate standpoint, accelerate in 2023. Expect that to continue into 2024.
From a truckload carrier standpoint, that we think is going to be the predominant factor as it relates to the rate and the pace of the recovery. So when we talk about our base case of the second half recovery in terms of the freight market, we think the largest variable there is going to be the rate of capacity attrition from a truckload capacity perspective.
So what we've seen throughout 2023 is the rate of capacity exits accelerate all throughout the year. A s Drew was mentioning earlier, in the month of January of this year, we saw that exit rate at about 30% higher relative to 2023 levels.
So as that continues into the back half of the year, we think we're going to be in a much better supply-demand equilibrium entering the back half of the year, which leads to our base case recovery with respect to the freight market.
Long term, do you see this industry as consolidating more? Do you see more of the freight going to the larger brokers and there being less available for smaller brokers?
So we think that longer term, it's going to be more of a winner's take most market structure. If you look back at Investor Day, when we spun, we talked about the top 10 brokers comprising about 50% of the market from a revenue perspective. We think that number is likely higher now given some of the exits that you just referenced.
W e expect that number to continue to grow precisely for the reasons that I just talked about, right, where you need the scale, the ability to invest. You think about our investments in technology, right? We spent hundreds of millions of dollars over the years investing in our technology platform, our pricing algorithms, now leveraging generative AI in terms of some of our internal use cases. So to be able to compete at scale requires a significant amount of capital.
We certainly expect that the larger brokers will continue to comprise a larger percentage of that market longer term. I think you get some of that, maybe a little bit of a cyclical kicker in terms of 2023 and 2024 with the smaller brokers that aren't able to compete and effectively play in the market.
Drew, there was a peer that made a comment on the recent earnings call that they felt that having the ability to combine the asset and asset-light, do more power-only type offerings was giving them a significant advantage. Do you feel like it puts you at a disadvantage with you having at least less of a capacity to do that kind of work?
Yeah, so what I would say is drop trailer for large brokers is nothing new. We've been doing drop trailer business for over a decade. It comprises roughly 10% of our overall volume a nd I think the difference for us is as a non-asset-based carrier, we can flex that capacity up or down based off of what's going on in the market.
So what we hear back from our customers is that the flexible capacity is actually a huge advantage. We're in Miami, Florida today. If you call an asset-based carrier and you say, "Hey, I've got 20 loads," it's going to depend on how many assets that they have in the area. But whenever you've got access to over 100,000 carriers in your RXO Connect, it gives you the opportunity to be able to flex up to meet their capacity demands in real time.
You guys were nice enough to have us down two times over the last two years. Gave us a great demonstration of the technology platforms that you have there. There were notable improvements, I would say, in between the first time we got the demo and the second time we got the demo. What, I guess, have you been doing to improve the technology offering? What is the impediment to getting from that, whatever, 87%-97% created or covered digitally to looking at fully covered digitally and more adoption on the technology side of the carriers?
So I'll start and then Jared can come in and talk about some of the stuff that we're doing on the AI and the generative AI piece. But if you look at the coverage going to 97%, we're much farther along our journey with the customer side. So that's the coverage side. So if you look at who we do business with, we do business with over 200 companies in the Fortune 500.
So integrating with the technology with large companies is not something that's overly hard for us. On the carrier side, while we've made great progress, we still have a lot of green space ahead of us that we can capitalize on. Those are typically smaller carriers, 1-10 trucks, a nd so getting them integrated within the RXO Connect platform is much slower than what it is with large-type customers.
The second piece that I'd say is just like any tool that we build, we're focusing on how does it impact our customers? How does it pull our carriers closer to us and allow them to come back and repeat to do business with us a nd how does it increase employee productivity overall? So to do that, any tool that we do focuses on volume, margin enhancement, or employee productivity. That's our mindset with everything that we go into from an ROIC standpoint with our technology buildout.
Building on what Drew said, I mean, I think it speaks to the mindset of the organization in terms of just a continuous improvement type mindset a nd that extends to technology, right? So we are making constant updates to the system in terms of we will, as a management team, get updates every two weeks in terms of the enhancements that have been made to the platform, right? T his continues.
It is not we built the platform and then we're going to stop and then go ahead and redevelop, right? It is a continuous type improvement mindset where we are always making enhancements to the platform based on what we're hearing across our three cohorts that we develop the technology for, right? What we're hearing from our customers, what we're hearing from our carriers, what we're hearing from our internal employees, right?
We talked about last fall, the increased productivity in 2023 as measured by loads per head by day by 15%. So we're taking all of this feedback into account when we're making these tech platform changes.
So last quarter also, we talked about some new features that Drew was just alluding to in terms of increased LTL automation, continue to increase the ability to invest in our pricing algorithms where we believe that they play hand in hand, going back to your first few questions, our sustainable competitive advantage in gross margin lead versus competition goes right into the technology investments that we've been making into the platform.
Drew, given your history as a former employee, the bigger brother parent we won't mention, but how important is the customer rep now today in the business or the carrier rep? I feel that maybe that's an understated portion of the story.
It's extremely important. Relationships matter. But for us, the relationship is never tied to one person. It's about building layers of relationship. So while we may have an account rep who's got the day-to-day contacts they're talking to who are tendering out the loads on a daily basis, you also typically have a strategic account manager who's talking to higher-level contacts about building out the overall strategy.
We have executives who are tied in with our largest customers. So there's a lot of touchpoints and layers of relationships across the organization. Relationships matter. People do business with people that they trust. I think that if you look over from our history, they've shown time and time again that they'll come back to us.
Now, what I would also say is that as we built out the technology, we built it for the customers to where it shows them and it gives them data to help them make the decisions of what day of the week they're in. So if you have the opportunity to take something that's potentially three LTL loads that's going into the same area of the country and make it a multi-stop truckload movement. So for us, it's about building the relationships, but also having the history of creating results for our customers that matter most.
Jared, maybe along those lines, how does the managed transport business and automotive fit into the customer mix and the touchpoints?
So from a Managed Transportation standpoint, we've doubled freight under management over the last three years. When we talked about it at Investor Day, it was about $4 billion. It's come down a little bit just to get view of all the client rates. But Managed Transportation is really a key strategic priority for the organization if you think about the ability to go ahead and manage freight on behalf of our customers.
Think about it as it is a secular theme where our customers are coming to us with complex problems. How do we go ahead and create solutions that lower total cost of ownership to our customers, right? S o we'll have that key competitive advantage internally.
T hen we also have the ability to go ahead and think about the ability to cross-sell across the entire organization, right, where brokerage can become a customer to our Managed Transportation business and our customers get access to the best-in-class service and the best-in-class products that we provide from a brokerage standpoint.
So continuing to grow Managed Transportation, not only will have the added benefit of continuing to manage our complex needs for our customers, but also help accelerate the organic growth of our brokerage business.
Within managed transport, I know autos is a pretty big vertical for you. I know that was at least mildly a disappointment in the fourth quarter. What are you hearing from auto customers for 2024? I know there's been at least our team a lot of maybe renewed growth in internal combustion engine vehicles. Is that an opportunity for you to kind of stretch supply chains?
So from an automotive perspective, you're right. In terms of Q4, we talked about within our Complementary Services, which is where Managed Transportation is housed, I think volumes were a little bit lighter relative to our expectations. I think that speaks to just how well our customers within Managed Transportation, our automotive customers, managed and navigated throughout the ongoing strikes, right?
So I think that production volumes were slower relative to our expectations. In the quarter, we talked about on the call that we onboarded some several key Managed Expedite customers, which further enhanced our leadership position within the space. I think when we look to automotive in 2024, I think there are a number of signs of continued robust growth from a production standpoint. We'll see how that ultimately plays out.
I do think that ultimately, to the extent that I do think that'll probably be highly correlated to interest rate movements as we think about whether or not the Fed will give us 75 to 100 basis points worth of cuts in the back half of the year. I don't know if there'll be a tight correlation there between that and auto production volumes. But overall, I'd say that the disappointment that you highlighted was more a function of just how well our customers navigated the UAW strikes.
Just to add on to what Jared's saying, we understand the automotive sector really well. Even if you go back and you look at a couple of the major OEMs, for the last five years on one and the last six years on another, we've been named Supplier of the Year. So then again, it speaks to service and relationships and how deep and how long these have lasted for us.
In terms of Last Mile, we've heard from a number of companies at this conference that they're seeing at least a little bit of the shift from goods to services coming out of the pandemic that certainly has impacted you to some degree. We would expect to see that in Last Mile. You were able to grow profitability in Last Mile, last quarter. So what are you guys doing right in Last Mile? A re you still susceptible to maybe some cyclical pressures in that business in 2020?
Well, I think we said on the earnings call that stops for us were down in the fourth quarter at 9% on a year-over-year basis. I think that that outperformed where the overall industry was. So to your point, there are less goods that are being sent to the home. But for us, we've got a leadership position in Last Mile. We've been the leader in the space for a very long time. Brand protection to our customers is extremely important.
So when they talk about who is their last representation that they've got to their end consumer, they want to make sure that they're well represented. I think that, again, the long history that we've got with these customers, the service that we've got, we got rewarded this year a nd we said that last year in 2022, we held the line on price.
Even though carrier costs went up, we were able to get rewarded on price in 2023. We think as you go into 2024, the one thing that we're having conversations with customers on is expanding. So right now, what they're talking to us about is, "We understand the service that you provide, but can we start to talk about other markets across the country where you can provide that?" W e're in a good position to do that because when you look at our Last Mile hubs, they're within 120 miles of 90% of the U.S. population.
I think that's probably a good time to cue up the question number four. In your opinion, what should RXO do with excess cash? Yeah. I think investors have thus far considered asset acquisitions to be part of the M&A bullets. But not a lesson for you guys. Interesting. Cue up question five. In your opinion, on what multiple of 2024 earnings should RXO trade? Even split. T hen finally, question six. What do you see as the most significant share price headwind, potential share price headwind, facing RXO?
Maybe while we get the response to that question, Drew, it has been challenging because earnings have come down so much, b ut can you talk about the innate leverage potential in the business, especially coming back to that conversation about when tender rejections come up, when spot loads come up? How do you really leverage these relationships and the load growth that you have been seeing in the business?
Well, I think if you go back and you look at what happened in 2020 and 2021, we were growing volumes 20% and 30%. So while now what we're doing is growing volumes best in class, we're building the foundation and preparing for the inflection so that we know that as customers shift, that they start to see tender rejections come up, where do they go?
They're going to go to the people that they trust for spot loads. They're going to go there for projects. Even if you think back to the parts of COVID where the West Coast ports were backed up, we were able to create solutions for our customers. We were doing transloads there and doing multiple modes of transportation to get it to the end destination. If you look right now, one of the things we're hearing the most from our customers is nearshoring.
We've made investments at Laredo. We're doing customs brokers there. We're handling both sides of the border for shipments. So for us, it's about going in there and creating solutions so that whenever the spot loads are there, the projects do there, that we're the first call. We're the place that they trust more than anywhere else.
Okay. I guess as we get closer in here, I'll attempt to get the last one. But Jared, any issues on the balance sheet? I know you guys just, I believe, refinanced or paid down some debt, sorry. But you're going to access a revolver for cash going forward. Is that correct? Can you talk through that change and maybe where you see leverage in the business going forward?
Sure. So to your point, we paid down $100 million of a term loan last quarter. We had a negative arbitrage spread in terms of the cash that was sitting on the balance sheet versus what we were paying in terms of interest rate. So from a net present value standpoint, it certainly made a ton of sense to go ahead and take advantage of that negative spread and close that.
To your point, we have access to a large bit of revolver facility, about $600 million. We also have access to $700 million of unencumbered receivables on the balance sheet. So call it about a $1.3 billion liquidity position, so quite strong. From a leverage ratio standpoint, about 2.5x exiting Q4 based on the ratio based on the guide that we gave for Q1 from an EBITDA perspective, probably somewhere between 2.9x-3.1x.
So no issues in terms of access to liquidity. I think we work extremely closely with our lender group and our bank group a nd we're feeling very good in terms of the ability to generate significant free cash flow. From time to time, like any corporate company, we'll go ahead and access the revolver to the extent that we need it from a working capital perspective. We'll certainly likely access it here in Q1 just given the lower levels of profitability. That's sort of just an ordinary course of business.
T hen you previously mentioned 1x-2 x leverage target. Is that still the right leverage target? M ore broadly, I guess, is there more volatility in the business through the cycle than you think that would potentially have you thinking differently about leverage moving forward?
No, I'd say longer term, the intent to get to 1x-2 x absolutely still holds, right? I mean, you think about the capital requirements of this business as we scale, they're not going to be meeting the deadline. So we'll go ahead and delever pretty quickly as the cycle does recover a nd our base case is certainly for a second-half freight market recovery. You think about just the quick cash flow generation of this business is quite powerful on our road to, call it, $475 million-$525 million of EBITDA .
You mentioned cash flow. Got to believe working capital is going to be dragged during the recovery. Is that something that investors should be thinking about and kind of factoring in as they're looking through?
Yeah, absolutely. We flagged it on the earnings call. I think let's go back to 2020 when we bottomed from an industry standpoint coming out of COVID, right? The free cash flow for 2020 was negative for the year. I n fact, it was negative in Q4 a nd it was a precursor to the greatest cycle that we've had as a company and w e've had it in industry, right?
So I think that speaks to certainly over the last 12-18 months, the power of the model from a countercyclicality standpoint. We've generated significant free cash flow during the downturn in terms of 2023, about $49 million in just the free cash flow. As we look forward to when the cycle does inflect, general rule of thumb is for every incremental dollar of revenue, be about a 7%-9% usage of working capital.
But that's a one-time usage of working capital. It's a great return on invested capital. It will be invested in the business. We have a strong return on invested capital in our brokerage business. A s we go ahead and expand, as we go ahead and recover and then potentially inflect from a freight market recovery standpoint, you'll see us use that working capital, but it's a great return on invested capital.
Okay. We'll cut over. But Drew, Jared, Brandon, thanks for joining us. Much appreciated a nd looking forward to having you again next year.
Thanks for having us.
Thank you.