Ryder System, Inc. (R) Earnings Call Transcript & Summary

Hi, everyone. This is Justin Long from Stephens. I want to welcome everyone to our next fireside chat with Ryder. Hopefully, everyone's had a productive day at the conference so far. And we're excited to have this conversation with Ryder again this year. I wish it was happening in Nashville, but in 2021, I'm confident we'll be there, knock on wood, and it will be a lot more fun. Joining us from the company is Scott Parker, CFO; and Calene Candela with Investor Relations. And I'm going to moderate the questions. [Operator Instructions] So with that, Scott, I'm going to turn it over to you and let you kind of open things with some brief update on the business, some of the major trends that you're seeing out there and then we'll dive into some details after that.

Thanks, Justin. And thanks, everybody, for having us. Appreciate the time. I just remember, Justin, you and I and Calene were in New York, I think, the first week of March doing a roadshow. And that was the last time we traveled, at least the last time I traveled. So...

Same with me.

I think it's kind of fitting to end kind of be in November with that the last travel that we have had. But appreciate the forum. So we just, for everybody, we just finished our earnings a couple of weeks ago. So the kind of the highlights from that is we had a good quarter. We're seeing some positive trends in the overall market, especially in the rental and the used vehicle side of the business as we see the freight market picking up as well as some demand picking up in the used vehicle market, which were both positive. We continue to see strong growth in our supply chain business. Clearly in the third quarter, that benefited from a rebound of some of the auto manufacturers that we support being kind of in shutdown during the second quarter, so we saw a rebound in that. We also are seeing strong performance in our Ryder Last Mile business, which is our big and bulky delivery, that benefited from a lot of the e-commerce and delivery of appliances, fitness equipment as well as furniture to the homes. On the dedicated business, we continued to see strong performance on the margin side. Revenue was down a little bit in the quarter as we saw a little bit lower activities, given some of the different customers that we have. But overall, I think the business has been performing kind of well through this. We also continued to generate strong free cash flow. So we updated our guidance for free cash flow for the year of $1.4 billion to $1.5 billion, and also tightened our guidance on CapEx for the year to $1.0 billion to $1.1 billion. So I think from a perspective, we continue to make progress. Last piece, Justin, I'll just highlight is we continue to make progress on our ROE improvement that we highlighted in the earnings call. I'm assuming you're going to probably walk through that. But the biggest driver, we have 5 big drivers to our ROE improvement plan. Number 1 is depreciation. So given the stability that we saw and some of the encouraging pricing we saw in the used vehicle market in the third quarter, we will see based on kind of our current outlook about a $250 million benefit as we go into 2021 from lower depreciation. Number 2 is we talk about rental kind of getting back to normalized utilization levels. And between the defleeting that we have been doing during the year as well as improvement that we saw in the freight environment, we expect utilization to continue to improve and get back to those normalized levels, assuming the economy continues to perform as we saw in the third quarter. We continue to make progress on our ChoiceLease pricing. So we continue to see mid-single-digit growth on year-over-year leases that we're writing. Clearly, 2020 is a lower level of CapEx in production, but we are seeing good progress on that as we move forward with those initiatives. And on the maintenance side, we continue to make progress on our multiyear initiative around improving and lowering our maintenance cost. So we're expected to be, after this year, about halfway to our target of $100 million. We expect to be about $50 million-plus as we end 2020. We continue to drive the cost initiatives that we've laid out over the last couple of earnings calls. And the last piece is to continue to invest in kind of growing our supply chain and dedicated business. We launched a national branding campaign over the last couple of months, so hopefully people have been able to see that on different venues. But really that's to provide awareness, and we've seen a significant increase in leads and customer kind of pinging us to kind of find out about our capabilities. As well as we launched RyderShare in the second quarter, which is a technology-based visibility and transparency tool that allows our customers as well as their customers to see where the freight is and be able to adjust and modify based on kind of things that happen in that process in the distribution cycle. And that's really something where now it's kind of all done technology-based. In the past, there was a lot of manual phone calls and updates that now it can be done and everybody can see the same visibility of where things are, which has been very helpful and clearly getting a lot of good response from our customer. So with that, Justin, hopefully that gives you a little bit of background of where we are. I think it's kind of been Ryder's practice just so as people are asking questions, it's Ryder's practice, we don't give mid-quarter updates on the market environment and the business. Everything that we kind of talk about is as of when we did our earnings call a couple of weeks ago. So just in regards to providing kind of forward or kind of current quarter insights, that's just not our practice.

r Well, Scott, thanks. That's a great start. And you are correct that I was going to ask a question or 2 about return, so let's start with that and the slide deck that Calene, I think, put on the screen for people. When I think back to initially starting to cover Ryder, the focus to me was more on growth, and that focus continued for some time. I know you still want to grow going forward, but it really feels like there's been a pivot where that's maybe third on the priority list behind returns, improving returns, and improving the cyclicality of free cash flow. Is it fair to think about it that way?

Yes, I mean, you kind of want to prioritize it. But clearly returns is a key focus in order to get the business up to the 15% range or the high double-digit kind of mid-double digit range of ROEs. And that's kind of our target. With that, we do want to balance the growth of the FMS business and balancing that with free cash flow through the cycle. So we think we can kind of get growth, and Robert mentioned 3,000 to 4,000 unit kind of growth, as well as balancing that with the free cash flow, which is very critical too, as we've kind of been on the road talking to investors, is making sure that we just -- the big ups and downs are something that clearly we would like to kind of moderate a little bit. So I think it's a good balance. I wouldn't say it's kind of gone down to 3. I think it's just more of a balance between growth and free cash flow, while driving our returns up on the overall business.

Okay. That's helpful. And maybe you could talk through the returns by segment. When we look at Dedicated and supply chain, are those businesses generating a return today that's above their cost of capital? So when you think about this plan that you've laid out on a consolidated basis, it's mainly an FMS plan.

Yes. I think the first 3 clearly are kind of FMS-based. I think when you look at number 4, it's a combination of both maintenance and other cost initiatives. But to your question on the supply chain and Dedicated, we've provided in prior years the spread. The cost of capital on the supply chain businesses are higher than the FMS business, but the spreads on those businesses are very attractive. And the ROEs are above our target, just given the capital nature of those are lower. So when you kind of put it all together, it kind of -- it's a good mix. And that's why one of our growth -- one of our initiatives is continue to grow that business faster than the FMS business. So if you look at our long-term targets, we expect to grow the supply chain and Dedicated business in the high single digits, and the FMS business in that kind of mid-single digits revenue growth. So by doing that, you're kind of continuing to kind of add a higher ROE into the mix.

Okay. That's helpful. But would you say that, that supply chain business and Dedicated business today is generating a return that's in line with this 15% target or potentially higher?

Yes. I would say it would be higher than that on an overall return on equity perspective. And the spreads are very solid above the cost of capital.

Okay. Great. That helps. Obviously, the freight market has been extremely strong since we've bounced higher off the trough back in the spring, early summer. When we think about these return targets, there's -- number 2 is an improvement in rental. Can you help us think about the rental environment that you're assuming in this return target? Is it in line with current levels? Is it something higher or lower? Just wanted to get some more color around that.

Yes. Well, when we laid this out, it was not trying to be prescriptive relative to 2020 to '21. It was really kind of what we needed to do. So Justin, I think what we mentioned was we wanted to get rental back to kind of its what we call normalized levels of utilization, which historically have been in the kind of the mid- to -- mid- kind of 70s utilization. So we're making progress from where we ended third quarter and kind of what we talked about. We expected fourth quarter to kind of be in line with fourth quarter of last year, which would be within that target. So I think we're making that progress there. And that was -- a lot of the action was one is the market demand that we're seeing, and we talked about on the earnings call. But also that John and the team have been proactively defleeting the rental business and using some of that equipment to fulfill new customer leases, such that we've rightsized the rental portfolio for the kind of the demand we see in the marketplace. So between proactively as well as in the last quarter, as you mentioned, some of the freight growth improvement has helped out.

Maybe dovetailing on rental and the defleeting process, which seems like it's complete at this point. What are your thoughts about growing the rental fleet as we look into next year? Is that something that you're likely to do? Or do you feel comfortable with the asset base you have in rental today?

Yes. We're kind of right in the middle of that process. We're still trying to work through that, Justin. But I think if you look at 2020, we had pretty low levels of rental CapEx. So I don't know yet we're going to end up there, but it's probably not where we are today and it's probably not kind of the -- kind of where we've kind of been in some of the last couple of years around rental growth. But it's still something we're working through to make sure that we have the right equipment and the right mix of business to support kind of where we're seeing the demand, especially based on what some of the things John mentioned on the call. Clearly, some of the parcel and e-commerce is an area that is continuing to increase. And so there are some areas in the portfolio that could require some CapEx.

And on the CapEx point, I think on the conference call, you said replacement CapEx and lease is $1.4 billion, somewhere in that ballpark, plus you have rental. I was wondering if you could provide some more color on kind of replacement CapEx for rental as we look ahead to next year. And is there potential to overshoot those replacement levels in 2021 for both rental and lease, just because of delayed purchases during the downturn?

Yes. So you're right. On the lease side, it's $1.4 to $1.5 billion each year, kind of a little bit different, but that kind of gives you a ballpark of kind of the replacement CapEx. As we mentioned on the earnings call, a lot of that's going to depend on kind of the confidence of our customer in regards to how they're going to deal with units that are coming to term, whether they want to commit to a new one, do they want to extend or do we kind of fulfill it like we did this year for used. But that's kind of the range of kind of maintenance or kind of replacement CapEx that we normally would see in a given year. And then if there's -- it would be a little bit higher than that if we saw some unit growth, which we're starting to see a little bit more positive, as we mentioned, a little bit more positive conversations with customers around kind of that as well as some of the OEM production outlooks. From the rental, the kind of the replacement CapEx over time had been kind of around $400 million. Some years it's a little bit above that. Clearly, we're at a, as I mentioned, we're at a kind of a little bit of a low point this year as we've been defleeting. So I think that kind of gives you, as I've mentioned, where we are on that for 2021. I still think it's a little bit too early to kind of commit to that. But hopefully that helps you kind of give you a ballpark range of kind of the expectations for both the businesses.

It does. I appreciate that. And then kind of one more going back to returns. Curious if you had any thoughts around the timing of getting back to your cost of capital. If the freight market today, this strength sustains into next year, is that something that's achievable in 2021? Or do you think it's more of a 2022-or-beyond event, once some of these depreciation headwinds fully roll off?

Yes. I think you asked that question to Robert on the call. I think he mentioned that it was dependent really on the economy. I think, right now, we definitely have some of the benefits on that walk that are coming through, especially on depreciation in 2021. Rental, as we mentioned, is moving in the right direction. Some of the other initiatives that we're pushing are moving in the right direction. So I don't think we want to kind of give you a precise time line, but I think generally from a strategic point of view, we're moving in the right direction. The actions we're taking, we can continue on a quarterly basis to give you updates on each one of the initiatives and how we're making progress on that. So if things get a little better, I would kind of -- I don't want to give that exact date, but we're making progress. And I think we're seeing the improvements that we're looking for. But it is -- our near-term goal is definitely to get to our cost of capital, cost of equity, which is 11%, and continue to improve kind of into the 15% range that we've laid out.

Okay. Great. And maybe shifting to the used market. We've seen a bounce off the bottom here, and you guys talked about that on the third quarter call. It sounded like the guidance for the fourth quarter was used pricing would be kind of stable sequentially. But correct me if I'm wrong. And if that is the assumption, can you talk about why just given the truckload market is improving, peak season is strong, the directional indicators seem to be pointing up. So what would limit used truck pricing from getting better into the end of the year?

Yes, Justin. I think the commentary is that I think we expect -- because we had a little bit higher inventory, I think we expected volume to kind of come down a little bit from the third quarter record levels that we had. We're definitely going to be pushing more for kind of retail. And so if you kind of think about pricing, as we've talked about, it is both based on kind of age and mix. But I think we said that we do expect, assuming continued improvement in the freight market, that we -- the pricing would kind of roll into fourth quarter, right? I don't think we were kind of trying to get a precise number of that, but I think the backdrop is encouraging. But we did kind of just foreshadow that we think volume could be a little bit lower just because of our inventory levels.

Okay. The other thing that I know can move pricing around a good bit is mix, the mix between retail and wholesale. Can you talk about what that mix look like in the third quarter? And I know you're making some efforts. You're opening new used truck centers. You're kind of revamping the website. So where do you think that mix normalizes as we look into next year and beyond?

Well, I think as you kind of think about -- we mentioned in the second quarter the wholesale market kind of was pretty much shut down. And so we had a higher mix of retail. It kind of normalized a little bit in the third quarter. But because of the inventories and the amount of volume we had to get through, as you get to the smaller inventories, it allows us to kind of leverage the retail market, kind of lean on that a little bit more. So between opening up the retail outlets, we've already opened up [ 7 ], and we -- in fact, to open up a couple more. Number 2 is we've enhanced our website. So if you kind of -- which gives customers the ability to really sift through our inventory and kind of get to what they're looking for and makes it quicker in regards to transacting on new -- on business that they want. So I think all those items would lean to continuing to improve our mix of retail versus wholesale, which would help us overall from a pricing perspective. So that's our objective is to continue to drive that.

The other thing that can change things a lot is just the mix of model years. Can you talk about kind of where you sit on that today? I know the 2012s were particularly problematic. Is there an inflection point, whether it's right now or maybe next year, where we start to get through those more challenging model year types and get a more favorable mix?

Yes. So as we laid out some of those 2012s, 2013s, for sure those are kind of ones that are currently coming to the end of life kind of going through the used vehicle process. So I think as we get through 2020 and kind of through a little bit into 2021, a lot of those units will be behind us, which will be helpful in regards to both our returns, and in regards to the existing book, dropping those off as well as some of the impacts that they had on used vehicle pricing.

Going back to ChoiceLease, one thing that I know you've been doing is pruning that fleet, trying to demarket some of the lower-return business. Where are you in that process? Is that something that will continue to be meaningful next year? And if you can, can you give us a sense for the number of lease renewals that you have coming up in 2021?

Yes. So it goes back -- if you look at it on an average basis, we have about 15% of the book that kind of comes due in any given year, a little bit more depending on what year we did the originations. But to your general question, we've talked about our pricing initiatives and also using kind of our data analytics team to really segment our portfolio and look for parts of the portfolio that might be underperforming, and making sure that we either get the price for that or kind of not renew that business. So that is not a onetime event, Justin. So I think it's a continual process that we have. Clearly, the early stages is a little bit more challenging as you're kind of going through that price discovery as well as kind of working with the sales team and the customers through that process. But we feel good at where we are right now. We think we have more -- we're going to continue to kind of work through that as we get into 2021. And then over time, it just -- it becomes a little bit normal course. I think 2020, 2021 are the kind of the -- given where we are from a -- both kind of a sales perspective, lower sales this year. But as we -- if the -- you talked about production increases, lease sales continue to improve, we'll really kind of continue to refine and enhance that whole -- our old pricing initiative.

Maybe shifting to the Dedicated business for a minute. We've heard from others in the industry that the pipeline and sales activity has really accelerated. And it seems like there was a nice pickup in the third quarter. Could you just talk about what you've seen in the pipeline? And thinking about that business into next year, any reason why we couldn't be at or above kind of the growth -- long-term growth objectives you've laid out?

No, I think -- I agree. I think we're seeing the same thing in regards to the pipeline kind of building. As we've mentioned in the third quarter, I think you might have asked the question too, we did lose an account that we got kind of picked up in regards to the equipment sales we had, that kind of went to a different mode. But overall, the Dedicated business has a strong pipeline, we think, a strong customer value prop that is continuing to improve. And it's really a matter of -- through this process, there was a little bit of delay in some of those signings and some of the activities because this is kind of critical to do that. And then -- so I think as we get through this year and early next year, you'll start to see some of that new business coming through in regards to the overall Dedicated business.

And in terms of the mix of that pickup, has it been more weighted towards existing Dedicated customers expanding their fleets or private conversions? Is there any color you can provide on the split?

I would say both. I mean we definitely have won some new businesses as well as -- part of both the supply chain business and the Dedicated is to win new business -- win additional business with our existing customers, but also putting on new customers. So it's a good mix.