Schneider National, Inc. (SNDR) Earnings Call Transcript & Summary

Great. Welcome, everyone, to the afternoon session of the Life After COVID: Conference. I am Ravi Shanker, Morgan Stanley's freight, transportation and airlines analyst. And the next session is looking at the freight transportation space, and we are very happy to have with us Schneider National with CEO, Mark Rourke; and CFO, Stephen Bruffett. Gentlemen, thanks so much for joining us.

Great. Thanks for having us, Ravi.

So before we kick off, a few disclosures here. One is for important disclosures, please see the Morgan Stanley research disclosure website at www.morganstanley.com/researchdisclosures, please review disclosures, also for the audience. If you have any questions, please reach out to your Morgan Stanley sales representative on the disclosures. And if you have any questions for the management team, please submit them on the Q&A box on your webcast, and I can pass them on to the team. With that, again, given that there's a broader audience here on this conference, I'll just maybe summarize a little bit with what's happened in the trucking space. And we have been very bullish trucking through 2020 because not only did the space do really well in the recession in 2Q, given that balance sheets across the board are in very good shape. The cost structure is fairly variable and CapEx is very defensive. As what you know, maintenance CapEx. We also saw trucking basically ride the reopening because we had supply chains to restock and trucking accounts for 80% of all of freight transportation in the U.S., largely because trucking sits in the sweet spot of service and price. And so it was impossible to restock supply chains without trucking being a beneficiary. At the same time, we have seen a number of structural catalysts with new regulations that we expected to drive a record tight truck market in 2020 even before the pandemic, and the pandemic just made the impact of those regulations much tougher. And this has driven the tightest truck market we have seen, with the highest truck rates we have seen pretty much for the last 9 months or so, and this shows no sign of slowing. Schneider as one of the largest trucking companies in the U.S. and one of the largest intermodal carriers in the U.S. has squarely been a beneficiary of this tightness.

So Mark, if I can start with you, kind of obviously, it's been a crazy year for everyone, and everyone's crystal ball is kind of broken with kind of what happened and how things are going from here. But maybe we can start with what surprised you the most about the pandemic's impact on transportation or trucking or supply chains in general. Obviously, this was a situation like no one's ever seen. Were you surprised by the violence and the impact of it? Or do you think we actually escaped with relatively little damage?

Yes. Ravi, as we got into the earlier parts of that, we, like many did a lot of scenarios, the U-Shape, the elongated U-shape recovery, various V shapes. And we probably early had more of a U-shaped thought process. And as you mentioned, it played out a little bit different than that. And we've, for so long, have been part of our customer supply chain about getting inventories lower and more just-in-time and more responsiveness. And so it really did just surprise a little bit how lack of resiliency there is. When that is your strategy across so many parts of the economy. Then that perhaps, one of the changes that will come out of this is how do people feel about safety stocks, how do the people feel, particularly this whole e-commerce piece of more inventory and more places. That whole inventory gain, and we're still feeling it today, right, particularly in the industrial side of the economy, even though that's starting to come back. There's pockets of raw material issues or component issues. And so the inventory gain, I think, is -- I don't think the final script has been written of what has to adapt and what has to adjust from there.

Yes. And I think just to add to that, just my observation, just the global supply chains and how fragile they can be and how dependent they are on each link in the chain working properly. And when one of those breaks down, it just creates chaos, and we're still dealing of the revenue of that.

Got it.

Maybe just want to talk in as you think about surprises, you kind of just popped here of how well our customers adapted to, I think, it just advanced their whole capability, particularly the retail channel, around e-commerce of using these stores as fulfillment centers and changing their buy online, pick up in store, how quickly they adapted. We've seen that in our dedicated DC -- service and in spite all the requirements. I give them a lot of credit for looking at the opportunity and really responding probably much faster than they thought they were capable of. And certainly, the consumer responded to that.

Got it. And I do want to come to supply chains and kind of structural changes you've seen as around pandemic. And second, but I guess the billion-dollar question that everyone in the space in the trucking industry and maybe a broader industries are thinking of is where do you think we go from here for the cycle? I mean, what inning of the recovery do you think we're in? Again, who knows? Crystal ball, but obviously, you guys have a better sense of inventory levels and such. So where do you think we go from here?

It's always hard to say exactly where we are. But you look at the catalyst that we've been dealing with here the last, as you mentioned, 9 months, you still have a very healthy consumer. You have the stimulus. You have inventory levels, I don't think, very much recovered across the board. You still got the international supply chain issues. So I think a lot of those catalysts are still prevalent in here and the throw in this whole industrial part of the economy, which did lag a bit. Certainly, the consumer side, we saw and particularly our liquid chemical business start to ramp more in November versus what we saw on the dry van side much earlier in the year last year, and it has really taken off here as we got into 2021. And you saw some of the numbers come out of industrial production be quite positive, and they're still dealing -- as I said, with their disruptions relative to raw materials. So I think we have this not only a consumer piece in pretty good shape. Now we have this industrial tailwind behind this, Ravi. So I don't think we're -- people like to talk about, [ peak ] , but I don't think we're certainly, in our view, on the cusp of that just yet.

Got it. And just from a trucking perspective, kind of why you're talking about peak and the lack thereof. Can you just also address the supply side and some of the questions around new truck orders and driver availability? And why you think the supply side is not going to be what it is?

Ravi, if -- I think so often, the big comparator to this cycle is what happened in '18, and we had a very robust demand picture and then supply came back, and then we had the downturn from a freight standpoint, a supply demand standpoint, '19. While we have very much that freight condition and perhaps even a bit more robust, but what we don't have right now in any way, shape or form is a supply side correction at all, and you mentioned some of the systemic issues there of -- we have the drug and alcohol clearinghouse, really it's in the much more mature state. Schools probably at 70% to 80% best on the top of the funnel back. So back a little bit better than they were, but still very difficult to have enough seating to get folks coming into the top of the funnel. And then we have some of the other pieces that you're mentioning that we should be talking about here. We have this whole gig economy issue with independent contractors spilling over to the truck side, with ABC test that's out in California gets legs beyond that. I mean that's a very disruptive event for the industry and another tightening of capacity, depending upon how that plays out. So I think there's more caution and more concern on the horizon there is on recovery on the supply side.

Got it. And to your point, kind of making the 2018 comparison, I think a lot of the supply side [indiscernible] also missed the fact that the 2018 cycle ended because of a global industrial recession, not because the economy was great. And certainly, we had 1 million trucks come in, the demand side is what fell off first, and that's what kind of drove rates lower. And kind of while you are consulting your crystal ball here, maybe if you can dig -- look a little bit deeper and tell us kind of in your thoughts, clearly, it's looking like a more prolonged up cycle here, to your earlier commentary on inventory levels being super low still. Do you have a sense on whether a prolonged up cycle will make the end of the cycle whenever inevitably comes, better or worse than it normally is? So there's fact that we remain red hot for so long, mean that the crash looks really ugly? Or does it -- is it more of a soft landing, do you think?

I think as long as supply side is constrained, I think that helps a little bit as it relates to the amplitude of what could be in front of us, Ravi. But I will say, the information is so much more robust for both the carrier side, the shipper side, that I think both sides can react quicker to inflection points or data points that suggest they should. And so I just think that means over time, this is a very unique period, obviously, that the cycles can be a little bit faster, maybe it be a little bit harsher initially as those corrections occur. But I think speed and adaptation is really what I think has changed. At least in my 30 years in this industry, if you look back over the last couple of cycles, I think it's just that much quicker adoption on both sides of the equation.

The importance of having a diverse customer base as well and participate in different parts of the economy, I think, plays into our thesis here that the back end of this likely wouldn't be just falling off of a cliff. The composition of our freight profile may change, how many do-it-yourself home improvement projects can people do at some point in time, that might...

Take those results, they're pretty good. That just came out.

p Get replaced by something else for a period of time or whatever, just as an example, right? But I think we feel well-positioned from the markets that we serve.

Got it. So you can put a way our crystal ball now, and we're going to switch to a few more structural questions. Maybe first, a little bit of a backward-looking structural question, kind of your earlier discussion on the Drug and Alcohol Clearinghouse and the structural catalyst. Obviously, we had a pretty tight truck market now and we have been for the last several months. How much of the current market do you think was driven by the supply side, driven by those regulations, driven by clearinghouse, by insurance, by the [ 85 ] and such? That would have happened anyway, even if we didn't have the pandemic? And how much of it was made worse by the pandemic?

Yes, from a public policy standpoint, Ravi, I think obviously, there's a lot of long fuse to these things. I think at times, though, because we talk about them so often, you get some skepticism from some of the stakeholders in it as more alarmist. But certainly, as mentioned, the Drug and Alcohol Clearinghouse is real. I think this whole pandemic driven around e-commerce. If you look back, I think, from February of 2020, a couple of hundred thousand carrier positions have been added, which is a driving alternative that perhaps doesn't have as much licensing credentials, random drug testing requirements. That's been a bit of a pull from the traditional Class A truck market. So I think that's a structural change that's probably here to stay. And then as mentioned, I think the really big one, we as an industry got to be watchful of is this whole independent contractor classification piece. Small business owners want to do that. If they wanted to be a company driver, there's plenty of places that would obviously hire them to do that. So -- but any other kind of disruption there, particularly in ad space, I think, could set a big ripple effect across the economy.

Mark, can you can elaborate on a little bit more? I think that's an important topic, and I think it's still kind of largely not understood even within transportation investors, let alone broader investors. Obviously, trucking accounts for 80% of all the freight [indiscernible] in the U.S., over 90% of all of trucking are mom-and-pop companies. Do you have a sense of how many of them are owner operators and how many of them would be impacted by the kind of ProAct and the AP5 rule, if that became more of a national issue?

Well, it's by far the largest makeup of the industry, 89% of the carrier community is less than 10 trucks. And so a big portion of that is the independent business owner. Concentrated in various aspects from the ports all the way through kind of the general freight economy to include refrigerated dry. So its very, very, very prevalent. And depending on the carrier mix, also an important part of various carriers make up, Ravi. So it's very pronounced, which is -- if you look at our strategic thesis as a company, and we've been talking about -- and I think, again, this pandemic may have accelerated that is I do think in the full load space, we're in the early innings of the consolidation, maybe not a traditional one, where, in our view, it's aggregating freight, aggregating capacity with some tech savviness to do that. And on a multimodal basis, this is really -- which is our strategy of both the truck, intermodal and very much a growing logistics sector that also happens to be able to use this trailer to blend and modes for solutions for both the carrier and the customer. And so I think this whole environment puts more emphasis, at least in our mind, around our strategy in that regard because customers ultimately are buying solutions. They're not necessarily buying this colored truck and this type of driver. They're buying what is the best solution across this kind of portfolio of freight that they have and the needs that they have. And so that's really been our focus, and our strategic thesis is around aggregating on both sides of that to offer solutions and less focused and being more agnostic to how we best do that.

Got it. I want to stick with the structural changes topic here with a 2-part question, what -- I mean, you spoke of the structural drivers on the supply side that have made the cycle tighter and maybe some of these gains are permanent because a lot of those drivers that are exiting use of the clearinghouse are not coming back. A lot of the small carriers exiting because the insurance issues are not coming back. What structural impact does that have on the trucking industry as you guys look at it? So obviously, it drives further consolidation. But in terms of a shift between TL and LTL, large professional carrier versus small carrier, asset-based carrier versus broker, trucking versus intermodal. Do you see any shift taking place there because of the pandemic? And I'll come to the second part of the question second.

Yes. We certainly see shifts in mode and certainly driven by this whole inventory piece that go both directions, truck to intermodal, intermodal to truck and really based on where the customer issues are, that's why we're agnostic to how we best serve that, right? So we do see a bit and probably more than you would expect at this juncture of going in between modes. And then if you look at the results relative to the brokerage arena, both us and certainly some other companies, our ability to bring all that to bear for a customer and increasingly now with some of our trailing assets has been received incredibly well. And I think it also gives the carrier community an outlet when the cycle does go the other way because of some of the business processes and the technologies that we've and others have developed here, that I don't think this is a one cycle phenomena. I think it is where the future is.

Got it. And just kind of on that note, the second part of the question is how have your customer relationships change if they have, because the pandemic? I mean, obviously, one of the issues that this entire industry has had has been a little bit of a prickly relationship between transportation provide and customer, whether that rail or trucking. Again, obviously, truck drivers aren't always super happy with conditions and then there's the whole spot versus contract rates. Again, have you seen a change in the way shippers are looking at their supply chains and the way they're looking at their transportation partners as we are in the pandemic?

Yes, Ravi, I think you would expect that there'll be some different mechanisms coming out of this, whether it be more index pricing, so you don't have to go through these procurement, 52-car pickup events that don't meet a lot of folks needs -- or you can see the [ obvious ] of that, much shorter-term pricing that can be more responsive and more transparency. I do think our industry will get more and more transparency as it relates to price. So I think it can go on depending on the customers' desire. The carriers' desire going both ends of that spectrum. I think the information is there, the technology is there to have more transparency. I think the other thing that's changed through this pandemic is the whole labor shortage on all aspects of the supply chain has really put a premium. Folks are -- the bad actors and the bad processes get exposed pretty quickly and pretty deeply in these type of scenarios. And I know how we make decisions relative to how well does that asset get taken care of and empty once it gets into a facility? Or how long does it take to get the trailer unloaded. All of those things on an end-to-end basis, are becoming much, much more important, I think, both for the customer, but certainly for the carrier because we have to make decisions around that labor and the precious hour that we have has to be at the forefront.

Understood. Just again, a reminder to the audience, help you submit your questions for the management team via the webcast. Again, from my next few questions, kind of shifting gears again a little bit and maybe moving away from the pandemic towards broader structural themes. And again, I know we are flipping a little bit between forward-looking and backward-looking. Some of that is by design, but also [indiscernible] back and forth. But just again, switching backward looking, I've been covering the space for the last 5 years since 2016. And I don't think it's because of me, but ever since there -- since that period, trucking has been just flip flopping between boom and bust. It's either been recession or the tightest truck market in history. I believe that is not normal. And we've now seen what 3 recessions and 2 all time high peaks. Why is that the case? Kind of -- again, has something, again, structurally changed in the industry? Is this the new normal? Is this just a weird confluence of events? Is this just a rude welcome to me, kind of switching from covering orders to covering transports? Or what do you think is going on?

Give a few points. Ravi, I keep going back, I'm with you here, 30-some years in the industry, and the frequency and the peaks have been much more pronounced in the last decade. And I think, certainly, we're still a highly fragmented industry on the full load side and low barriers to entry and easy credit. There's been a whole series of things that have made some of the more recent up and downs possible, but I also think it comes back to -- there's just so much more information available globally and across the supply chain that everyone can get access to make decisions quicker. And I just think that makes sometimes for these inflection points to be a bit more violent versus being more smooth over time. And you see the small carrier, you see it with the shipper community responding faster than they've ever had to respond. And so to me, in some respects, I think this is a little bit maybe of the new normal. But Steve, I don't...

I certainly agree that increased flexibility and adaptability is key to a carrier going forward. And embracing change rather than resisting or fighting it because I think that would result in ultimately just flagging where you need to be. So we want to stay at the forefront of that. I do think there is a lot of information in price discovery and all that, and that will continue, and we embrace that. Reflecting upon the past few years -- I've been at Schneider 3 years now. So let through some of that, that you described there, Ravi, and I mean, I don't want to speak on behalf of all our customers or what everybody have to think some of them feel much like we do, and that it's an unsatisfying experience and that can be better. And so we're looking for solutions to deal with it, the new realities, if you will, that work for both sides of that equation.

A great segue to my next question, which is -- okay. So we just had a backward look as to why we've had the last 5 years we have. So the question is, if it's been not satisfying, how do we fix that? What changes, et cetera, right? So how do you think this industry looks like 10 years from now, either in terms of fragmentation or industry structure, relationships between you and your customers, trucking versus rail, kind of on any parameter you choose to, what do you think are the biggest differences 10 years from now?

I'll start with maybe just a couple of things that are top of mind there. I certainly -- I think you come through this experience from a customer standpoint and having more control is generally something that's a natural outcome of that. And so a dedicated configurations, I think, will be one of those hedges to have more control, particularly on those things that you hold near and dear. So I think that certainly, consistent with what we believe will happen, consistent with what our strategic intent is to do that as well for all the reasons around the labor certainty, but also around the amplitudes of these changes. So I think that's there. I think we've talked a little bit about the end customer in mind. And so this whole idea of more inventory or more places, I think is going to be there, certainly, that we're all going to have to respond to that. I still think the full load economics can still play very favorable to both the train and the truck, but getting it to those places where we ultimately consume, I think, is a trend that's here to stay, Ravi. And I think we got electric in front of us. We have autonomous in front of us. I think certainly, this whole labor shortage is giving another angle to that story of why that might be attractive. At least, making it look a bit more like intermodal and the exit-to-exit type solutions, I think, will emerge over the next 10 years. So again, I think we're in a whole cycle of innovation and change and companies that adapt well to that with the technologies and the balance sheet to do it, I think will be successful. But I think we're in this constant set of innovation will change for the next decade.

Got it. Mark, you mentioned the 2 magic words, electric and autonomous, and you know that gets me pretty excited. So spend a minute or 2 on that topic. Again, obviously, you guys had plenty of wood to chop over the last 12 to 15 months, but you weren't sitting still on some of the broader kind of structural targets on ESG or certainly on autonomous where you made some key investments. Can you just give us a sense of how you at Schneider are looking at ESG targets, autonomous electric over the next 10 years? And what are you doing about it?

Yes, Ravi, that's a good trend that we should have probably highlighted earlier. There's no doubt over the last 6 months, we've had discussions with our customers about sustainability-type initiatives that we had for the last 5 years, even though that it's always been in the discussion. It's different players at customers, different constituencies that customers are getting involved in this kind of decision-making inside the 4 walls of the customer. So we obviously think that plays well for the intermodal business and what it can mean from carbon emissions reduction standpoint for further conversion of truck. And as we think about our business, obviously, not only do we think we have traditional diesel MPG improvements in front of us, but this whole adoption, first on the day cab, the local environment. As we build towards our goals of a 60% reduction over the next 20 years, electric, whether it be in the battery electric or hydrogen fuel cell will be at the heart of that conversion.

So you guys obviously made an investment in 2 simple -- I think you're on their Advisory [ panel ] as well. Again, can we expect to see more kind of similar investments from you in the coming years? How are you kind of keeping track of the developments here and making sure that you're either leader or a very fast follower?

Yes. First, Ravi, I think I would say we're going to need professional drivers for a very long time, right? So we want to get too far out front of what that means in the planning horizon in front of us. But nonetheless, we will, as Steve mentioned, we're not going to resist the opportunities that are in front of us that make sense for the industry, that makes sense for the customer. And so too simple is, one, that we've made some commitments and some investment, too, but we have other ones that we're also working with not knowing totally where this will come out, who will be the winners, what business models will emerge. What approaches will make sense over the long term. We're -- but I think there will be a gradual adoption. I think the technology will help us be safer along that path. But we will be early in the game on all of those technologies. If we didn't do that 30 years ago, we wouldn't be an intermodal provider we are today in a very concentrated part of the industry. And so that's taught us, it's a very great lessons about embracing the future, not resisting it.

Got it. And maybe kind of the last question, Stephen, if I can end with you. Again, you spend a lot of time here talking about the structural changes we've seen in the industry as a result of the pandemic and what we may see going forward. If you just look within Schneider, kind of what changed as a result of the pandemic? I mean some companies were like really surprised at how well their employees performed working from home. They've changed different ways of doing business and you got to leverage technology more. Maybe you can hit on like 2 or 3 things that, again, pretty surprised you or initiatives you put in place during the pandemic internally, that may be the new normal for you guys?

Yes, sure. And it has been quite an interesting journey. And I give kudos to our tech team and everything because we literally, over a year ago, flipped the switch and began working remotely almost entirely, especially with our roughly 3,000 associates here in the Green Bay Area and to pull that off, with the tools and technology and being pretty darn seamless. I can't think of anything that fell through the cracks in that time period. So it has been quite a learning experience. And now as we're emerging from the other end of that tunnel, if you reflect back upon last summer, it's like people thought working from home was the greatest thing ever. And some people still think that, but it's evolved now to where people are expressing an interest and looking forward to being able to be back in a work environment, at least, some of the time. And I think we'll probably adopt -- depending on the role, some will be on-site full time, some will be hybrids, and some will continue to work from home. And I think that flexibility is important going forward and an overall theme of us being flexible as an organization with our folks. Beyond just where are you working? And how do you go back to work? There's -- it's just the communication style is a little different when you're on Zoom versus in person. And so we've been particularly cognizant of new associates coming into the organization and how to embrace them and help them feel welcome because it's not just all the natural hallway interaction and cafeteria and that type of thing that normally go with it. So they're just some learnings from a leadership standpoint and engagement that come along with that. We've not had to make structural changes necessarily to adapt to the pandemic or how we see the world going forward.

But we're certainly more digital and our connections with carriers and connections with customers and the value of and how we want to communicate, that's a much more natural and comfortable way than with our associates

Yes.

And to automate those things, those transactions. So I think the pandemic just helps everybody how they do business differently.

Accelerate it more.

Accelerate at a lot of things. So gives you a plan, do it.

That's really interesting. Mark and Stephen, first of all, congratulations on successfully navigating this, hopefully, once in a lifetime pandemic. And certainly, looks like there's a lot more room here for the cycle to go and structural upside to the trucking space. As you know, we are pretty constructive. Thanks again for joining us today. And if anyone kind of has any follow-ups for me or for the management team, please feel free to reach out.

Thanks, Ravi. You're very thoughtful in the space, and we appreciate everything that you do.

Thanks, Mark.