In business, there are some items you can control and some things that are out of your hands. For the folks that run the major truck-based freight carriers, they are almost completely vulnerable to issues beyond their control. All they can do is try to make the best of the good times and sweat it out during the bad times. And this last economic downturn was a doozy. The volume of goods that needed to be trucked fell to a decade low, which triggered price wars to boot. Lower volumes and lower prices quickly led some in the group from respectable profits to harsh losses. Making matters worse, these firms can’t really cut costs such as labor very much (thanks to negotiated deals with unions) and fuel prices.
That’s why sector shares are now at multi-year lows, and potential bankruptcies for the weakest hands remain an open question. Just this morning, shares of YRC Worldwide (Nasdaq: YRCW) which operates all those trucks with the word “Yellow” on the side, had a nice gain thanks to improving operating conditions. But YRC may still be forced into the hands of creditors if it can’t borrow more funds to buy time to turn results around.
Ironically, the whole industry may be poised for an upturn, and the competitors would really benefit if YRC needs to materially shrink its current size. When it released March quarter results, Arkansas Best (Nasdaq: ABFS) noted that the volume of freight it carried rose +2% in January from a year earlier. By March, freight volumes were rising at a +7% annual clip, and according to recent reports, they trended above +10% in April and May. The industry is still under-utilized so truckers have not been able to raise rates back to pre-recession levels, but that may happen as we head into 2011.
You can see the potential opportunities for the healthier firms if they can post stronger volumes and eventually better pricing. For every +1% improvement in pricing, Arkansas Best earns another $0.40 a share. Each +1% increase in volume adds about $0.04 in earnings per share. By that logic, Arkansas Best is expected to claw back to break-even in the September quarter, and pound out steadily improving quarters from there.
Notably, YRC is about 150% larger than Arkansas Best, and analysts believe that if YRC sheds some of its most unprofitable routes, Arkanasas Best could pick up some of that lost business -- at a nice profit. “By our calculations, ABFS could earn $1.06 per share incrementally, just from absorbing a 10% share of YRCW’s long-haul shipments,” wrote Sterne Agee’s Jeff Kauffman in a recent note to clients.
By next year, Arkansas Best is expected to earn $0.75 to $1 a share. Back when the economy was solid ground, the carrier routinely earned $2 to $4 a share. Should YRC muddle through and survive and remain as a tough competitor, then Arkansas Best’s profitability should climb back into the $2 to $3 range by 2012. But if YRC declares bankruptcy, the reduced competition could really aid Arkansas Best, and per-share profits could approach $5 at the height of the next cycle. That’s not bad for a $22 stock.
Con-way (NYSE: CNW)
Rival Conway also stands to benefit in such a scenario. The carrier never suffered losses in this downturn, and per-share profits are expected to double both this year and next, to around $2 a share in 2011. Back when the economy was growing at a steady clip, Con-way earned $4 to $5 a share. Here again, YRC’s losses would be Con-way’s gain, implying potentially record results in the next cycle.
It should be noted that Con-way is slightly different from its rivals as it derives about one-third of sales from shipping logistics services, which held up well during the downturn; however, the company lacks similar economic upside as it is not as sensitive to freight pricing and volumes.
Action to Take --> Even though YRC remains in distress, it did mention this morning that demand and pricing trends are improving, echoing recent comments from Arkansas Best and Con-way. Investors remain cool to all three stocks, even though the latter two look set to rebound. Shares are very cheap based on mid-cycle profits.