Landstar System, Inc. (LSTR) Earnings Call Transcript & Summary

All right. Well, good morning and welcome back. For those of you that are just joining us for the first time, we're really happy to have you here and happy to bring you the same great content and presentations that we usually do, even if we can't be together down here in the Miami sunshine. But hopefully, we'll be back together soon enough. Joining us from up in Jacksonville, we have Jim Gattoni, who is the Chief Executive Officer of Landstar System. Jim has been with the company for, I think, 26 years now. Is that right, Jim?

Yes. Yes.

Yes. And he served in a variety of different roles. He's been Corporate Controller and CFO. He's currently actually leading the finance organization right now on an interim basis. But obviously, that's a role that he's got plenty of experience in. We also have Joe Beacom, who is the Vice President and Chief Safety and Operations Officer for Landstar. He's been responsible for running the tight ship that Landstar has been. Through both Joe and Jim's tenure, Landstar has been a very strong and consistent return of shareholder capital. It's also been a very stable asset-light model that I think for many investors has served as somewhat of a comfort in an otherwise pretty cyclical industry. So maybe I'm going to stop talking there, and I'll hand it over to you, Jim, and to you, Joe, and let you maybe give us some insight or some color on the Landstar model. How does it work? How does the agent versus BCO dynamic kind of play out? And what do you kind of look at in terms of your fixed versus variable margin structure?

Yes. The best way to look at Landstar is, right off the bat, is just to say, we're a business of small businesses, right? We -- $4 billion of revenue. We have 1,200 employees, which is very efficient. And the reason we're a business of small businesses is because both our sales and dispatch for us are third parties, basically independent of us -- exclusive to us, but independent contractor with us. And our capacity, the truck providers are also third-party providers. And we're a highly variable cost business model due to that. We don't pay -- there's not $1 of purchase transportation cost or $1 of agent commission, unless there's a load moved. So the model is built off the entrepreneurial spirit, right? The agents eat what they kill. They don't make any money unless they move a load. And then clearly, the drivers of the trucks don't make any money unless they haul freight. And when you break down where we compete within the industry, we're both an arranger of transportation, your typical brokerage model, right, where you have relationships with carriers and you have relationship with shippers and you coordinate the ship -- arrange the shipments between the carrier and the shipper. That is performed by the agent family, who's our -- again, as I said, our sales and dispatch. But we also are a motor carrier -- a registered motor carrier under the regulations of the Department of Transportation, and that's on the independent contractor side are. We have over 11,000 or close to 11,000, what we call, business capacity owners. They're basically independent contractors who sign agreements with us, are exclusive to us to haul Landstar -- to haul freight that's made available by Landstar. The independent contractors haul 45% to 50% of our loads, whereas the third-party truck carriers haul 45% to 50% of our loads. And the way the model works, and we're a little bit different. If everybody -- anybody who follows the truck brokerage market, margins expand and contract based on the capacity tightness, right? If there aren't enough trucks on the road and there's high demand, the margins get squeezed on the front end of that cycle. And if there's loose capacity and soft demand, then the margins expand in that cycle as you're paying less to the truck than you would be in a tight environment. In our world, about 50% of our business is actually on a fixed margin because of the independent contractor relationships. For example, on a $1,000 load that would be built to the shipper, which we work in the spot market, the agent would move that load. If he moves out of an independent contractor, the independent contractor basically gets about 75% and the agent gets 8%. We're fixed at 17% regardless of the environment, right? So when rates are up like they are today, you're making more gross profit per load. When they put that load on a third-party truck, the same $1,000 load, the agent actually negotiates with that third-party truck what the purchased transportation is going to be and, say, it's $800, we would split that 50-50 with the agent. So we're a variable cost business model with a fixed cost component in the transaction process, 45%. So we like a tight capacity market because the margin compression on the brokerage -- truck brokerage side, when it's on a third-party truck, gets split with the agent. So if we're losing few hundred bps of margin because of that, we only take 100 bps of exposure, whereas the agent would take the other. So we're -- it's a pretty less volatile margin that we have, a little more predictable. And then underneath gross profit, our infrastructure is built. We can put a lot more revenue on top of this model without having to add a lot of fixed costs. So that's basically the model. We do $4 billion. As I said, 93% of our business is truckload U.S., cross-border Canada, cross-border Mexico. Cross-border Mexico is about $350 million, $400 million; cross-border Canada is about $150 million to $200 million; and the remaining part is domestic U.S. truckload, it's about 700 miles a load on average. And we've been doing it for 25 or 30 years, and we're very good at it.

So a lot there to talk about. And I guess maybe to start with the agent side of the business because I've heard you at various points, you described agents as the lifeblood of Landstar. So maybe talk about how the agents set your model apart from the other brokers out there, why that agent relationship is important. And then also, we've seen a lot of digitization, a lot of so-called automated brokers come to the market. As they gain traction, as they gain market share, does that pose a risk to your incumbent business in the sense that it may get digitized away? So why is that a threat or why is that not a threat for you?

Why -- as small business owners, we have about 1,200 independent agents out there. And I'd say a little over 500 do more than $1 million a year, and that's really 90% plus of our revenue. So it's really the key is those 500. They actually -- a lot of them, they're building relationship with customers are in the local market, right? They're not just trying to move freight, they're doing something special. A lot of our business is non-routinely regular on specialized-type freight, which really isn't conducive to a big shop with 1,000 people cold calling and moving freight. We're -- it's a little bit different. Not that we don't have some of that, some of our agents actually work that way. Another part of our business is we're pretty heavy into this, what we call, drop and hook. About 30% of our business is drop and hook. So we provide 11,000 or 12,000 trailers into the system to be used by the agents in drop-and-hook operations where we may drop 20 trailers at a plant -- at a manufacturing facility somewhere, and they get loaded sometime during a week. And we have an independent contractor go and haul those rates. So I think there's a big value add to that component, and the agents see that. . I believe that -- I've always been a believer that the small business owner is more committed to his job in his day than most -- than someone who works 8 to 5. I think they take ownership seriously. And I think that their relationships with their customers and their carriers is critical to them for their survival. They eat what they kill, right? It's all on them. So clearly, I'm biased. But I think the model just draws in better relationships and better service than someone just booking freight out of a huge facility in Chicago or wherever they book freight from. As it relates to the digital freight brokers, they're another broker. I mean that's what they are. They're -- it's another type of brokerage coming into the marketplace. They're building -- they're moving the facilities with a lot of people, too. I think they've -- initially, they were going to disintermediate the broker and they weren't going to need people and they were going to automate the world. Well, we automated the world years ago. We have the tools that they're pitching to the world, right? We have load apps. We have -- if you want to -- our trucks -- they just open up their phone and they go into our load application. They can see all the loads that are available to them and they can accept anyone they want, right? They -- we have pricing tools. Algorithms is everybody talking -- data scientists, those are all great words, but tell me how you're using them and tell me how effective they are, right? So we have all that. And I'll tell you that our agents are very good at pricing just in their own minds. They don't need an app. They don't need it. Now do we have -- we have a pricing tool and we're in the spot market, so it updates daily of what we think price is going to do. It's -- we've got a ton of data in there just from various resources. So when you talk about the digital brokers, I think there's a difference between us and them is they're trying to raise money, we're trying to make money. And I -- if you didn't know anything about transportation or freight transportation, you'd be all over it and saying, "Oh, these guys are going to disintermediate." Well, they've been around for 5 or 6 years, and they show great percentage for us, and you love to see that. But I don't think they're really killing it the way I think people anticipated. Now I'm also going to step back and say, I'm not going to discount their visibility to the marketplace. I think there is a place for them. I don't think there's any question. But to think that Landstar doesn't have that same capability that they have would be kind of foolish. We have the apps, we have the automation, we have all that process. And they're pitching taking the human out of the equation. We've been doing this for a long time. Our trucks actually want to talk to someone before they go drive 100 to 200 miles on a deadhead. Our agents actually want to talk to the truck because they want to make sure that everything is understood on that load. There's a lot of communication. We can automate this. Agents, up and to this point, they like the automation, but they still want a phone call, right? They still want that human interaction. There's a lot of pitch about how these -- the other thing about these digital brokers, they're going to reduce your empty miles, right? Well, if someone was that concerned about their empty miles, they can go to DAT and get the load that's closest to them. Here's a problem with that. The load that's closest to them may not pay what they want to get paid, right? Empty miles are okay, if you're driving to a very profitable load, right? You may have a guy, I may be sitting here today as a truck driver and say, "Hey, I see this load that's 20 miles from me, and it's paying $1.50 a mile and it's 700 miles. But this load that's 100 miles for me is paying $1.80 a load for 700 miles. I'm going to deadhead, right? I'm going to run those empty miles." So it's -- there's decisions being made at the truck level that technology doesn't fix. I mean it -- the driver of our truck in our world is still going to make the best decision profitability for him. And it's not -- it's how much of those empty miles costing them. If he can get a higher-paying load that's farther from where he is today, he's going to drive it. So again, I'm not going to discount the quality, but I would see them as just another broker coming into the market. And what they're doing now is just underpricing, trying to build scale. I think their tools are fine. I think our tools are just as good. I mean I think -- actually, I think our tracking app is -- it might be even better than what they have. We GeoFence. We do all that. I mean -- but we just don't talk about it because we're all about performance and not about talk.

That's great because you actually answered my next question, which was going to be to talk about what your technology is. So let me hit on something that you said with regard to the digital freight brokers because they're not the only ones in the industry that are competing in this marketplace. We've also seen a lot of asset-based carriers start to stand up, asset-light operations, brokerage operations. Do you see much competition from them in the market? Do you see them as a competitive threat?

You know what's funny is we're not seeing either the digital freight brokers or the large guys, like you've got JB 360 and you've got the C.H. Robinson Navisphere and stuff like that. They're in and out of our customers like we're in and out of theirs. It's a pretty portable business to switch from one carrier to the other if you're a shipper, but you really have to have those relationships. I think what they're doing is -- look, didn't they all assemble a bunch of brokerages back in the day and then they rolled them up into Transplace or something like that 20 years ago because it's just -- it competed against their asset-based business? Everybody sees this as a great business model. There's a little capital investment, right? And it's pretty decent returns on your -- the small investment you make in tech. But from a competitive standpoint, the market feels the same today as it felt 10 or 15 years ago, even though we have these new guys coming in. It's -- you got to be the best in service, you got to at least be close on price and you have to deliver on time and safely. That's really what a lot of our shippers are looking for.

So you're a motor carrier, and you've seen a good number of drivers, third-party brokerage come back into your network. So maybe one for you, Joe. Do you see that as a sign of more supply coming in the marketplace? Or is this a Landstar-specific thing where you're just doing a really good job of recruiting capacity?

Well, I think that the market is -- you see and hear about the truck orders and all that going up, Bruce. And I think that the trick will be and the unanswered your question is, how is the driver market going to come back, right, from a capacity standpoint? How the -- the carriers that are out there, were they on the sidelines and now they're coming back? I mean, to your point, we've had a pretty good run in 2020. Jim alluded, we had an all-time high BCO count, all-time high carrier count at the end of the year. And I think that's -- going back to the model, I think that's just a function of the model. I mean our agents are multigenerational. And they have equally strong relationships with capacities as they do with their customers. And so when you've got these capacity providers that are -- they're trying to manage COVID like everybody else, right? And I think there were a lot on the sidelines. I don't know that we've seen a net growth in capacity, but I do think it's something that the cycle would tell you is going to happen, and it's trying to happen. I think the unknown is the driver. When does that happen? And how much of an impact does that have on demand? Because as Jim said, we're competing with all sorts of people out there, whether they're digital freight brokers or other more known carriers. And right now, it just seems like there's enough opportunity for everybody, right? And I think we do a nice job on the capacity side because our agents are so invested in those relationships and putting capacity to work and treating people fairly. And the technology that we've had and that we continue to develop, I think just makes those relationships a little bit stronger. As we continue to develop our visibility tool, our pricing tool, some of our low-tendering tools and apps and so forth, I think it only gets stronger.

And Joe, an interesting point that you had brought up on previous calls is, I think that in terms of the driver, at least, you're not just competing with other carriers, other asset-light companies. You're competing with stimulus payments, extended unemployment benefits, which I thought was very interesting. And certainly, you've got the potential for more on the way. . What's your sense for how much of the driver pool this is keeping out of the market? Is it material? And if we do get more extended unemployment benefits, more stimulus, do you think that keeps the cap on driver supply?

Yes. In that -- I mean I just know what I hear and I believe that, right? We've seen that before where if you're getting unemployment or enhancements to your unemployment, that motivation to get back to work is perhaps less than it would otherwise be. And I think with owner operators, who are -- have the investment in the equipment and are running a small business, they tend to think a little bit differently in that regard. Not that our BCOs aren't concerned for their health with relation to COVID, but I think they're in the driver seat on making those decisions. And I think that's why we haven't really seen some of the challenges that we would be if we were in an asset-based driver recruiting mode similar to some of the asset-based guys.

Okay. That's really helpful. And I guess sticking on the topic of drivers and capacity, obviously, the pandemic has been very different from previous cycles. People do like to compare cycle over cycle. But we've got some other factors that are coming into play this time around, including insurance, as you guys have brought up on multiple occasions, and then also the Drug & Alcohol Clearinghouse. So maybe you can give us your view on how you think that's affecting the driver market or the capacity market and how that plays out as the cycle wears on.