Student Transportation's CEO Discusses F2Q13 Results - Earnings Call Transcript

| About: Student Transportation (STB)

Student Transportation Inc. (NASDAQ:STB)

F2Q13 Earnings Call

February 12, 2013 9:30 am ET


Keith P. Engelbert – Investor Relations

Denis J. Gallagher – Founder, Chairman and Chief Executive Officer

Patrick J. Walker – Executive Vice President and Chief Financial Officer


Mark Neville – Scotiabank

Greg R. Colman – National Bank Financial


Good day, ladies and gentlemen, and welcome to the Student Transportation Inc. Fiscal 2013 Second Quarter Results Call. At this time, all participants are in a listen-only-mode. However, later, we will conduct a question-and-answer session with instructions to follow at that time. (Operator Instructions) As a reminder, today’s call is being recorded.

I’d now like to turn the conference over to your host for today, Mr. Keith Engelbert, Director of Investor Relations. Sir, you may begin.

Keith P. Engelbert

Hi, good morning. Thank you, Ben, and thank you for joining us to discuss our second quarter fiscal 2013 results which ended December 30, 2012. Joining me today on the call are Denis Gallagher, Chief Executive Officer and Pat Walker, Executive Vice President and Chief Financial Officer.

Yesterday, the earnings release, MD&A and financials were disseminated. The release, MD&A and financials are accessible on SEDAR, EDGAR and our website at In addition to our standard disclaimer about forward-looking statements, please also note that all figures are in U.S. dollars unless otherwise specified. I will also remind you that this conference call is being webcast live.

With that, I’ll turn the call over to Denis Gallagher.

Denis J. Gallagher

Thank you, Keith. Good morning everyone and thanks for joining us again. I’m pleased to report that our operating results for the second quarter of fiscal 2013 improved over the same quarter last year and were in line with our internal expectations, despite some effects of Superstorm Sandy.

The improvements reflect the continued momentum of growth secured in the fiscal year 2012, a disciplined focus on the cost controls we have put in place over the past year, and the continued ability of our operations team to run our fleet safely and efficiently no matter what Mother Nature throws at us. I’ll talk about those cost controls and the impact of Hurricane Sandy on our northeastern operations a little later.

I would also note that the Board of Directors as part of a normal course mode approved the expansion of the dividend payment through the end of the fiscal year which has been a hallmark of our success. In that period, the company will have paid its 100th consecutive monthly dividend since are going public in December of 2004.

As I have stated in previous calls, we entered into the new fiscal year anticipating an approximate 15% increase in annualized revenues for fiscal 2013. That increase which is well within our historic range is the result of year-over-year impact of some of the acquisitions we completed in fiscal 2012 and new contract wins that commence in the current fiscal year. Calculating our year-end revenues is as simple as taking last years revenues and adding 15%.

Since we last spoke to you, we have successfully integrated our new operations and secured many new contract renewals with terms for increased visibility of our revenues and in some cases extending the life of the vehicles in the contract. Pat Walker, our CFO, will review our complete financial results for the second quarter of 2013 in detail in a few minutes, but first let me just give you some of the highlights.

Revenue for the quarter of fiscal 2013 increased 18% to $119.4 million from a $101.1 million. Adjusted EBITDA was up 20% over the same period last year despite $2 million in deferred contracted revenue due to weather-related school closings. Net income for the quarter was $3 million compared to $1.3 million for the second quarter of fiscal 2012, which was a nice improvement year-over-year.

The school closings in the quarter were primarily due to the effects of Hurricane Sandy in late October and early November. As in past years, we will recoup those revenues during the third and fourth quarters as schools adjust their calendars to make up for the lost days giving us the strong finish to the 2013 fiscal year.

Speaking of Superstorm Sandy, let me just take a minute to share how proud I am of the members of our STI family who rose to meet the challenge of this historic storm in so many ways. Our regional operations teams which have emergency plans ready in the queue, acted as planned to move our assets to higher ground at apartment way. They had emergency generators in place and a communication system that was just remarkable. Now one vehicle was damaged, and we in fact were up and running to assist our communities and first responders with transportation for evacuees.

The greatest thrill in this bad situation was watching our local teams across the country reach out the fellow employees in New Jersey and Connecticut, some of whom lost homes and automobiles as they were swept away. Our employees stood together as a family offering not only emotional support, but voluntarily collecting and transporting many bus loads of much-needed basic supplies to their co-workers. It’s another example of the family culture that makes our company special and distinguishes us and our communities.

I can’t tell you enough how important this culture is to our success. I encourage you to visit our website and see one of the short videos they put together for this effort. Employees across the company are also pulling together to help us reduce cost. As you can see, we were able to reduce our fuel expense, despite fuel prices that are higher than this time last year.

Fuel is a variable in our business and we’re taking significant steps to tackle those costs in a variety of ways. The first is to increase the number of contracts that include customer paid fuel over mitigation clauses and we were making good progress in this area. Currently about 60% plus of our contracts include some formal fuel protection, some are mediated annually, and over 20% is totally customer paid.

Just three or four years ago only 20% of our contracts included customer paid fuel. And while we have grown 20% a year since then, we have increased those customer paid fuel contracts to just under 30% of our total contracts. So again more fuel is coming out of the equation.

We are also increasing the use of smart technology like GPS with fuel idling monitors to reduce idling in further lower our fuel costs. Our operational teams are very focused on this and we're committed to making even more progress to reduce fuel costs on the local level in the months ahead. The final fuel related area in which we can significantly improve margins and lower operating cost involves alternative fuels.

I'm pleased to say that after years of urging and negotiating with our manufacturers and infrastructure suppliers to increase our focus on alternative fuels, they are finally coming together in a way that will have a meaningful impact on our business. We have negotiated some outstanding contracts on the capital cost side that will change the industry and improve our margins going forward.

We currently operate more than a thousand liquid petroleum gas LPG, and compressed natural gas CNG vehicles in the U.S. and run the largest bio fleet in Canada with 1,600 vehicles. We were among the first in our industry to recognize the environmental and cost benefits over alternative fuels, which puts us several steps ahead of the changes we expect as the industry follows our lead.

In fact, our experience in comfort level with LPG propane-powered buses in Los Angeles and in Minnesota were big factors in helping secure our major new contract win in Omaha, Nebraska, which we announced during the last stage of the second quarter. The contract with Omaha Public Schools is the largest in our company's history and involves more than 500 vehicles, 400 of these buses will be new fuel efficient propane-powered vehicles which will make it the largest contracted propane school bus fleet in the U.S.

Blue Bird Corporation will manufacture to 400 plus vehicles which will be equipped with ROUSH clean technology liquid propane auto gas fuel systems. Now, LPG is a perfect fit for school bus fleets. It’s meant for transport companies like ours that return back to the depot twice a day. It caused roughly 50% less per gallon than diesel fuel. It’s domestically produced and it’s better for the environment as it produces 30% less greenhouse submissions.

The City of Omaha and its public schools were looking to reduce its carbon footprint and we offer them a creative solution at a very competitive price. The contract which begins in July of 2013 is our first major win for fiscal 2014. It will add revenues of over 25 million a year for up to six years with an option for additional expansion terms. We currently have a team on the ground there and so far everything is moving along smoothly.

I will talk more about how this contract plays into our new vision in my closing remarks, but I’d like to now turn the call over to Pat, our CFO, for a full review of our second quarter financials. Pat?

Patrick J. Walker

Thank you, Denis. Good morning everyone and thank you for attending our Q2 conference call for fiscal ’13. We released our Q2 results yesterday and as Keith noted we also filed the quarterly financial statements and the associated MD&A for the second quarter ended December 31, 2012 on SEDAR and EDGAR yesterday which will include more detailed information. They are also available on our website.

Unless otherwise noted, all the financial information discussed is in U.S. dollars. The operating results summarized in the press release include revenue and adjusted EBITDA for the second quarter and first six months of fiscal 2013. We use adjusted EBITDA internally as a useful measure for tracking performance. And as you know, adjusted EBITDA is a non-GAAP measure.

Before turning to the discussion of the operating results for the second quarter and first six months, as I have done on previous calls I would reiterate the seasonality of the school bus transportation industry, and thus the company’s operations as noted on those previous calls. The financial results of the company for anyone quarter are not indicative of the results for full fiscal year. The company’s Q2 results reflect the continued growth of the company through the execution of the ABC strategy.

The company started operations on nine new big contracts in July for the 2013 fiscal year, six of which were in the U.S. and three of which were in Canada. In regards to the priory year acquisitions, please note that we closed seven acquisitions during the 2012 fiscal year, three during the first quarter of the fiscal year 2012, three in the second quarter and one in the fourth quarter.

As such, the prior fiscal year second quarter and first six months do not include any operations for the new bid win secured for fiscal ‘13. And with respect to the fiscal ‘12 acquisitions, the prior year second-quarter and first six months include partial year operations for the acquisitions completed in Q1 and Q2, and no operations for the acquisition completed in the fourth quarter.

And looking at the results for the second quarter and the first six months of fiscal 2013, revenue for the second quarter of fiscal ‘13 totaled $119.4 million, an increase of $18.2 million, or 18% over the second quarter of fiscal ‘12. The change in exchange rates between the Canadian dollar and the U.S. dollar impacted our results by about $700,000 in the period. $19.4 million and $0.7 million of the revenue increase for the second quarter of fiscal 2013 are attributable to the net new business noted along with revenue increases for the same terminal operations.

In addition, during the second quarter, we experienced a $2.7 million revenue deferral primarily due to Hurricane Sandy that Denis had mentioned. Revenue for the first six months of fiscal 2013 totaled $181 million, an increase of $28.7 million or 18.9% over the first six months of fiscal 2012. Again, the change in exchange rates between the Canadian dollar and the U.S. dollar in connection with the translation of the company’s Canadian operations had an approximate $800,000 positive impact on the period-over-period change in revenue. $29 million and $1.5 million of revenue increase for the first six months of fiscal 2013 are attributable to the net new business noted and the same terminal revenue increase respectively.

In addition, the revenue deferral for the first six months of fiscal 2012 primarily due to Hurricane Sandy amounted to $2 million. Hurricane Sandy hit the north-east states of New Jersey, New York, Connecticut, Rhode Island and New Hampshire. The resulting $2 million revenue deferral just noted at 12-31-2012 is expected to be recovered over the remainder of the school year.

Adjusted EBITDA for the second quarter of fiscal 2013 totaled $28.4 million, an increase of $4.8 million or 20.1% over adjusted EBITDA for the second quarter of fiscal ‘12. The impact of exchange rates as approximate $200,000 positive impact on the period-over-period change in adjusted EBITDA. $6.4 million of the net increase in adjusted EBITDA for the second quarter of 2013 is attributable to the net new business noted earlier.

Same terminal operations reflected the adjusted EBITDA contribution associated with the $700,000 increase in same terminal revenue. Combined with reductions in fuel expense of $400,000 and insurance expense of $400,000 all of those were partially impacted by increases in wages, operating expenses, and French benefits as well as the impact associated with the second quarter revenue deferral.

Wage increases primarily reflected higher operations wages of $300,000 while increases in operating expenses and French benefits reflects an additional year of vehicle leasing cost and increased worker compensation claim accruals respectively. Insurance expense decreased for the second quarter of fiscal ‘13 by $400,000 compared to the second quarter of fiscal ‘12 due to a combination of lower fixed cost and favorable liability claims experienced. As a percentage of revenue, same terminal insurance cost was 3.1% of revenue for the second quarter of fiscal ‘13 compared to 3.5% of revenue for the second quarter of fiscal ‘12.

And looking at fuel, as Denis noted earlier, we had noted the anticipated 50% growth in year-over-year revenues for fiscal ’13. We also have increased the percentage of our contracts that include fuel mitigation from 60% in fiscal 2012 to approximately 63% during fiscal 2013 with a majority of that increase coming from the customer paid fuel that Denis noted. While we have increased our fuel mitigation, I continue to note that we still exposed to impacts of higher fuel prices under some of these mitigation features.

In addition, we had also locked in an approximate 20% of our fuel exposure with fixed price contracts through the end of November in the current fiscal year. The pricing under these lickings for the first half of fiscal ‘13, decreased approximately 8% year-over-year compared to the lickings we had for that exposure last year. We continue to review additional fixed priced contracts for the reminder of the 2013 fiscal year. The increase in fuel mitigation, combined with some fuel saving strategies associated with reduced idling, and the deployment of alternative fuel vehicles, has helped those lower funeral expenses, compared to the priory year second quarter.

Same terminal fuel expense for this school bus transportation segment decreased for the second quarter of fiscal ‘13 by $400,000 compared to the second quarter of fiscal ‘12. As a percentage of revenue, same terminal fuel was 8.9% of revenue for the second quarter of ‘13, compared to 9.1% of revenue for the second quarter of fiscal ‘12.

Adjusted EBITDA for the first six months of fiscal 2013 totaled $24.9 million, an increase of $3.6 million or 17.1%, over the adjusted EBITDA for the first six months of fiscal ‘12. The increase for the first six months of fiscal ‘13 primary results from the net new business identified, the adjusted EBITDA contribution associated with the $1.5 million same terminal revenue increase and the $400,000 insurance expense reduction. Those favorable impacts were partially offset by the adjusted EBITDA associated with the year-to-date revenue deferral and the expense changes for the fiscal 2013 that I noted in the second quarter discussion.

And looking at net income, net income for the second quarter of fiscal ‘13 was $3 million, reflecting net income per share of $0.04, compared to net income of $1.3 million reflecting net income per share of $0.02 for the second quarter of fiscal ‘12. The $1.7 million increase in net income for the current fiscal year consist of primarily the combination of the $4.8 million increase in adjusted EBITDA, a $2.5 million swing in non-cash in loss on the 6.25% convertible debentures conversion feature, the $1.7 million swing in other income and expense, a $600,000 decrease in non-cash stock-based compensation, and $600,000 decrease in interest expense all of which is partially offset by $2.4 million increase in tax provision, a $2.5 million swing in unrealized remeasurement gain and loss on the 6.25% converts. The $2.2 million increase in depreciation depletion and the amortization expense, a $1 million increase in operating lease expense and $300,000 increase in unrealized gain loss on FX contracts.

Looking at the net loss for the first six months of fiscal 2013, that totaled $4.6 million compared to a net loss of $10 million for the first six months of fiscal 2012. The $5.4 million improvement for the first six months resulted primarily from the $3.6 million increase in adjusted EBITDA, a $4.4 million swing in unrealized remeasurement gain and loss on the 6.25% converts, $1.8 million swing in non-cash gain and loss on the conversion future of those converts, a $1.8 million swing in unrealized gain and loss on the FX contracts, a $900,000 increase in other income, a $500,000 decrease in interest expense and the $300,000 decrease in non-cash stock-based compensation, again all of those items were partially offset by $2.6 million decrease in tax benefits, $3.3 million increase in depletion depreciation and amortization expense, and a $1.3 million increase in operating lease expense.

And looking at cash flow statement, I’d highlight the following. As reflected in the investing activities, purchases of property and equipment totaled $4.8 million and $19.3 million for the second quarter and the first six months of fiscal 2013 respectively, while proceeds from equipment sales totaled $700,000 and $1.2 million for each of those periods respectively. Of the $18.1 million in year-to-date net capital expenditures for fiscal ‘13 which includes the proceeds from the equipment sales, $13.6 million relates to the nine new bid contracts secured as part of the net new business for fiscal ‘13, $3.6 million relates to the net replacement capital expenditure spending that was purchased and $900,000 relates to oil and gas investments.

In regards to the 2013 growth and replacement CapEx, in addition to the $13.6 million and $3.6 million in growth and replacement CapEx respectively that was reflected in the cash flow statement, in fiscal ‘13 in the first quarter we also financed and replaced the equivalent of approximately $29.7 million in fleet value under operating leases. These operating leases are similar to the ones we’ve done in prior years where they have six year terms and effective rates as low as 2.8% with 4.6% at the upper end of the range. Thus combined, the purchased and leased replacement CapEx deployed totaled approximately $33.3 million or approximately 7.5% of anticipated revenue for the full 2013 fiscal year.

As discussed on prior calls, the company finances the replacement fleet value through purchase of the buses where the company owns the buses outright and through operating lease financing were the lesser who owns the buses.

The buses purchased by the company are included in the assets and the balance sheet, are included in replacement capital of spending numbers on the cash flow statement that I just went through. The buses leased are not included in the assets as the lesser retains ownership of the buses. The operating lease payments are included in operating expenses on the income statement and thus are reflected as cash outflows and the cash flows provided by used in operating activities for the cash flow statement.

Included in the net replacement CapEx purchased in fiscal 2013 is approximately $1.1 million in lease buyouts for leases entered into for the 2007, 2008 fiscal year. The first year where we utilized lease financing. We purchased approximately 120 vehicles related to these lease buyouts, these vehicles having approximate fair market value of about $3.3 million and remaining use for life of six to years. We will likely continue to purchase these leased vehicles at the end of their lease term to benefit from the remaining six to eight years of their lives.

Again we continue to leasing as the financing option available to us as we look to maintain growth or maintain cash for growth. Included in the financing activities you will see cash dividends associated with second quarter and first and the six month period ended December 31, 2012 were $8.7 million and $16.7 million respectively. With respect to the currency exposure on the future dividends going forward, we have hedged approximately 37% on such dividends for the next year and half. Additionally our Canadian dollar operating cash flows serviced and natural hedge against currency fluctuations.

And turning to the balance sheet at December 31, 2012 our outstanding debt balances totaled approximately $230.6 million that included $109.4 million in convertible debentures, $35 million of senior secured notes, $86.1 million in credit agreement debt, and $200,000 in seller and other debts. The Company’s credit agreement currently provides for $140 million in the initial commitments and includes $100 million of coding and feature for additional capacity when needed. The current credit agreement has the maturity date of February 4, 2016.

In the next week or so, we will be announcing extension of the current credit agreement back to a five-year term that will include additional commitments and lower interest rates. The $35 million in senior secured notes have a fixed rate of 4.24% and a maturity date of November 10, 2016. We had issued the convertible debentures at the STI level, the public company level, the three times we went to market prior to our March 2012 equity offering, which was our most recent market offering. That was based on the attractive rates of the convertible debentures issued at those times, reflecting rates of 7.5% for the first issuance in the October of 2009, 6.75% for the second issuance in June 2010 and 6.25% for the third issuance in June 2011. The first two issuances where Canadian dollars denominated notes, well the third was denominated in U.S. dollars as previously discussed on prior calls.

As disclosed during the second quarter of fiscal 2013, the remaining 7.5% convertible debentures were called for redemption and a majority of the remaining debentures where converted by the note holders.

Before I turn it back over to Denis, I would like to conclude a few following, with a couple of following thoughts. We entered fiscal 2013 with an anticipated 15% growth in year-over-year revenues as we previously reported. We also indicated that we would pause on the acquisition front during fiscal 2013 in order to focus on fully integrating the seven acquisitions secured during fiscal ‘12 and the nine new bid wins for fiscal 2013 along with exploring margin improvements were possible. And with the pause on the acquisition front, we further noted that we didn’t expect any market offerings during fiscal 2013. To date, we are on track with all of these initiatives.

In December, we announced the early award of the Omaha Public Schools contract which will begin this coming July for the 2014 fiscal year. We continue to review additional bid opportunities for the 2014 year as well. We continue to explore ways to improve and expand our debt financing availability. We continue to review and monitor the senior debt agreements as well as exploring new lease financing proposals. Currently, we have approximately $50 million to $53 million of availability under the current credit agreement and as I noted earlier, we are extending the current credit agreement which will provide some additional commitments and lower interest rates going forward.

In addition, we are beginning the annual review process in regards to the lease financing proposals. Last year, we had approximately $70 million in lease proposals, of which we utilized just under $30 million for the fiscal 2013 replacement CapEx deployed that I mentioned earlier. We currently anticipate approximately $25 million to $30 million in replacement CapEx deployment for fiscal 2014, a portion of which we will finance with operating leases consistent with prior years.

With the financing availability under the current credit agreement and the lease financing proposals, we are in good shape to cover the fiscal 2014 growth secured to date and potential additional bid opportunities along with the initial range of replacement CapEx deployed for fiscal 2014.

With that, I will now turn it back to Denis for some concluding remarks.

Denis J. Gallagher

Thanks, Pat. As I said earlier, we are off to a very good start for the first half of this fiscal year. We remain focused number one on safety, on our contract renewals, continually lowering our payout ratio with new target now 60% in the next few years, which is our long-term goal, and also attaining margin improvement. We will do this by reducing costs through technology and changes in our fuel, by improving asset management with extended life and by increasing our non-asset or asset light revenues.

Our comprehensive fuel cost reduction program increases the use of smart technology and alternate fuels in our vehicles. That program also focuses on improving the percentage of customer paid contracts, our customer paid fuel in our contracts. These changes alone could add between 300 basis points to 400 basis points on our margins in the next few years.

We're very excited about the potential that the new alternative fuel vehicles have to significantly change our company’s fleet profile. We are answering many RFPs and another request for proposals from new customers who are tired of the same-old, same-old. They want solutions and better service. We offer access to capital, a new way of thinking in the culture second in non-employee engagement. These steps represent a new vision, a vision in which our state of the art environmentally state fleet creates long-term savings that will lower our fuel and operating costs which in turn will lower our customers cost and yet improve our results. It represents our commitment to lead changes in the industry that will benefit our customers and our communities versus just following a knee-jerk reacting to the competition.

We're seeing a slight pickup in school districts seeking conversions from the $18 billion public market to private service. Fiscal clip are not more and more will eventually have to go this way. We are working to present fair and competitive proposals, but we’ll not sacrifice quality or margins to chase these opportunities. We have plenty of growth opportunities available to us to review.

We are well into the bid season for fiscal 2014 and we expect our fiscal 2014 year-over-year revenue increase to be similar to the 15% booked for 2013. We are carefully reviewing opportunities in some new areas and continue to use our disciplined approach to choose the right customers in the right areas. Additional contract wins are expected and will be announced upon approval by the respective school boards in the near future.

Our efforts in improving non-asset revenues are coming together nicely. We will be launching some new initiatives in those areas shortly and we will have some news to report on that as it comes together. At the same time, we are lowering our replacement capital cost through contract extensions. Thanks to our family of dedicated managers and employees, our contract renewal rate again remains at 95% over a 15-year period. That says the customers want to stay with us. It’s those steady predictable contracted revenue visibilities that are eight years as a public company that value investors appreciate.

Lastly, as Pat noted, we are wrapping up a new extension to our current senior credit facility which will increase the size of the facility, lower the rate and maintain our leverage covenants to take advantage of the low rates currently available to companies like ours with a favorable credit profile. We will be releasing additional information on that as well in the next few days. Our job for the remainder of fiscal ‘13 is to stay safe, continue to treat our customers and our people right, our family atmosphere is an important part of our success and we will preserve it as we move into new and exciting directions.

With that, that concludes our remarks, we’ll now take few of your questions and Ben could you please open the line for a few from our analysts and some of our institutional investors.

Question-and-Answer Session


(Operator Instructions) Our first question comes from the line of Mark Neville from Scotia Bank. Your line is open, please go ahead.

Mark Neville – Scotiabank

Hi, good morning.

Denis J. Gallagher

Hi, good morning Mark.

Mark Neville – Scotiabank

You talked about 2013 being a year where you focused on cost reduction initiatives, and integration, you had some good cost contained and margin improvement in the quarter, and you talked about some of the things you’ve done and I think you mentioned some significant improvement and margins going forward. Just curious, any targeting, I guess certain profitability metrics and may be just talk about how you get there? You didn’t mention a few things, may be just talk more, bit more about that.

Patrick J. Walker

I think clearly we were, I mean we were, we had the effects of the hurricane, so I mean, we lost $2 million – we didn’t lose $2 million, we’ve got $2 million deferred. We’ll probably anticipate almost 40%, 50% of that falls at the bottom line. That would have had even a much better I think improvement on our results. I think the margin improvement certainly as I try to layout in the future here it’s going to be the difference in fuel. If you recall in those that have known our public history certainly over eight years, but we were eight years as a private company before. Years ago and I’ll date myself, but I mean years ago fuel was about 5% of our revenues.

Today fuel is right now trending at 8.5%, but it was as high as 9% last year. So we've got four points to make backup, we've maintained our margins and yet we lost four points on fuels. So we been able to improve our safety record, which obviously lowers our insurance costs and we're seeing lower insurance cost come back to us in the future, in some of our reserves that we have and that's going to have an impact in the future. Our assets under management meaning just our size we've got a company that built for a larger company than we are today, so we can increase the amount of assets under management without having to add a lot more overhead.

And then I think the switch over as we start to switch to LPG is going to make a significant difference, and we're kind of hoping that we're going to see a couple of points out of that in the next couple of years, and I think as I said three points to four points I would say are probably over the next three years, if not sooner. We would love to be able to squeeze a lot more out of that.

Now the last thing that we only touched on briefly, but it’s the non-asset business, which is basically just pure EBIT, and some of that comes from management contracts where we will literally have been working on trying to convert certain school districts. If the conversion process doesn't go because of political reasons or public backlash from going public to private, there are some management contracts and some management opportunities to manage those fleets, and there are some money in there that obviously is no investments or no capital, but obviously pure bottom line for us. So those kind of things, I think are the things that are going to make a significant difference for us.

The last point is, and we just got word the other day, we’ve been riding with – trying to increase our wages, consulate to maintain our driver force which by the way we think is the way to do that, so we maintain our driver force or turnovers about as low as it can possibly get. Which means we get the same drivers back, which means lowers – they know the routes, they know the kids, and lowers our insurance costs, we're putting in to fuel idling programs that’s going to help our training costs are lower, so lot of those things are coming into place, and I think all in all is the bottom – at the end of day that’s going to have a nice improvement.

Mark Neville – Scotiabank

That's very appreciated. I guess efforts now focused mainly on the cost side of the equation. But I guess I image that some point the folks again will return to acquisitions. I guess at what point does that shift happen, and can you just maybe talk about the pipeline now and this is what you are seeing out there generally even if you're not sort of pursuing too many deals as we speak.

Denis J. Gallagher

Yeah, as Pat said, we're not pursuing them, but we always have stuff in the queue. I mean my 37 years of experience, I know literally a lot of the grandfathers and the fathers and the sons and the daughters that are running these companies. Our management team is regionalized and they are charged with knowing who’s in their marketplace. There is no shortage of deals, I mean there are still – there is even sizable deals out there to look at, and there is nice small tuck-ins for us.

We're really trying to take this past year to kind of integrate these operation, which by the way I mean we've done 48 acquisitions, we integrate them very well. I mean the ones that we've just completed last year are fully integrated systems, management, our safety programs are in those things were getting very good at and improving the culture which obviously is a huge part of our success. So we always are looking at the acquisition side. There is just – there is some good bid in opportunities and then of course we are really trying to market some of the privatization in some of the non-asset business.

In any point in time, we can look to pull down some of the smaller deals that are in the queue and by the way there are purchase price multiples that are very similar – four to five times that we’ve been doing historically. So good margins, we look for the things we look for. Long term contracts with good visibility, good people, good customers, and we got a nice queue of them.

Mark Neville – Scotiabank

Great. Thanks. I appreciate it.

Denis J. Gallagher



Thank you. Our next question comes from the line of Greg Colman from National Bank Financial. Your line is open, please go ahead.

Greg R. Colman – National Bank Financial

Hi, guys. Thanks a lot for taking my questions. Just quickly on the Flex fuels or the LPG/CPG contracts. Denis, I think you mentioned you had about 1,000 buses in that category. Where could that number go to over the next one to two years?

Denis J. Gallagher

Greg, our plan is to – we can’t put, there are some infrastructure issues with the LPG and the CMG. And CMG, we’re only running currently in California and currently we are running LPG in Los Angeles with a very large contract there. That was very specific when the school district bid that, they wanted alternate fuel so we were very aggressive on that and it’s worked out perfect for us. We’ve also got a customer in Minnesota, so we – that absolutely wanted to convert over. We’ve done that, we’ve been putting new vehicles in there, and we actually share the fuel cost on that.

So the customer, we get a longer term contract, the customer gets 50% of the benefit, because they were paying 50% of the fuel and now their cost have dropped considerably as well too, and they are actually promoting us, which is really great. And so we’re running and currently in the very deep cold weather, minus 20°C in Minnesota, and we are running them in the 90°C heat in L.A. So we’ve been running them for the past three to four years.

And so, here as what I thought, we could never get, I mean it’s a kind of chicken and egg, but we could never get to the capital costs down. We were out trying to get grants and the grant market is there, but it is drying up. So, we basically needed to negotiate a deal with the manufacturers, international or IC Bus was one of our major suppliers. We’ve been talking to them for the past three years, that they needed to go this way, they haven’t gone this way yet, and Thomas Bus, which is Freightliner was one that was heading this way. And then there is Blue Bird which is actually a service corporation that had partnered with ROUSH Clean Technology fuels. And that was the deal that we cut. So we were able to lower the capital costs to get this to be very competitive with the diesel kind of vehicle.

And our operating cost, I mean we’re seeing, we actually run some propane in Texas, let me give an example, we’re paying probably on average $3.50 a gallon for some U.S. operations, some of which is mitigated and like we said 30% almost, which has passed. But that’s the kind of current price and we’re getting as low as $1.20 gallon equivalent on the LPG and maybe as high as the $1.60, so somewhere between $1.60 and $1.20 versus $3.60 it’s going to have an impact on.

So I would say that what we’re looking to do is kind of the larger contracts that we bid will be looking to bid propane, any new replacement contracts into or what we call extension. So for example when some of our customers are coming to us now with the news that we are moving in this direction, the customers are coming to us and saying, hey listen, can you put us lead-in, we'll give you a new five, seven or 10 year contract if you make the capital change. So if we make the capital change we're going to new ten-year life for five years – five year extension and we’ll save on the fuel for the customers that are 30% that are pay in the fuel, they are obviously very interested in having us to this.

So I would say we’re going to start our replacement cycle, we are still going to have 40 buses in the middle in nowhere for those we're going to continue to run our deals, but the larger fleets will be converting over I would suggest that probably 10% of our fleet a year would be a pretty good guess.

Greg R. Colman – National Bank Financial

That’s good color. I appreciate it. Given that the majority of your exposure on the fuel side is hedged, I think Pat mentioned 63%, does the savings in fuel on the LPG/CPG side because that actually translate into margin expansion for STB or is it more providing a lower cost fuel alternative to your customers where they read the savings making you more competitive. I'm just wondering if that increased LPG CPG exposure, it’s going to translate into material margin expansion or if it's going to be sort of a third would be margin expansion, because that’s your unhedged portion, and two thirds which is your hedge portion will translate just into happy your customers.

Denis J. Gallagher

Yeah, I’m not trying to be political, but I mean it is a little bit of both, but let me just quickly just explain a little bit more, we don't hedge our fuel, okay, we have fuel mitigation, and there is a difference, okay so our hedge would be more of a financial instrument. We've got fuel mitigation cause lot of our contracts that for example may just say as simply as we pay – we put $3 a gallon obviously this is an example, we put $3 a gallon in our bid, if it goes 10% higher than $3 a gallon i.e. $3.30 the district will reimburses penny-for-penny over that. Okay, so we've already got $3 a gallon built in. Okay, if that's $3 a gallon goes to $1.60 that's the margin improvement for us.

Greg R. Colman – National Bank Financial

Okay, that's actually quite good on the color there. Switching gear now…

Denis J. Gallagher

Now, by the way on the customers that paid for our fuel when we convert that really helps them. Now when it helps them, we are going to needed to help us, and what we need to help us, we need the longer-term contract, the longer visibility and that's what we like to.

Greg R. Colman – National Bank Financial

Okay. Just switching gears a little bit outside of the fuel over two years, your leased bus, I think Pat mentioned that you’ve got $1.1 million or 120 vehicles that you're buying out fair market value of $3.3 million, I think that’s just what you just did any view...

Denis J. Gallagher

We already did that deal.

Greg R. Colman – National Bank Financial

That's right. Any view as to what the number of vehicles you'll be buying or could buyout in this fiscal year and also next fiscal year?

Denis J. Gallagher

Pat do you have that?

Patrick J. Walker

Yeah, Greg this fiscal year, we did it in, I want to say July in a very few in December, happened in fiscal 2013. So included in the fiscal 2013 numbers is the $1.1 million. I would tell you next year it’s going to be some what similar, it probably will rise for about $1.5 million in fiscal 2014, but if you go back, the first couple of years that we leased, we were in the $6 million to $6.5 million range for the first two or three years, with residuals at 16%.

Greg R. Colman – National Bank Financial


Denis J. Gallagher

Greg this is one of the things we’ve tried to explain to the market. When we do this leasing, we’re actually as Pat has explained, we actually increased our expense over the original, the first six years, versus straight-line depreciation if we bought it, over 12 years at the end of six years, we got 50%. We’ve expensed via depreciation 50%, we got 50% on the life. The vehicles hold their market value to literally to the calendar of 12 years. So in this particular case, we, on the first year, we expensed 84% of the vehicle over six years. And now we’re buying back those vehicles with 60 years life for 14% of their original value.

Greg R. Colman – National Bank Financial

It’s great. And it sounds like if I recall, the buyback in fiscal 2013 and 2014 would be sort of smaller sizes of those 120 vehicles or so it won’t be for a couple more years until we see the larger buybacks from your larger lease prices?

Denis J. Gallagher

Yeah we – yeah that was the first year we dipped our toe into the leasing market.

Greg R. Colman – National Bank Financial

Okay Great.

Denis J. Gallagher

So this is the first year we get advantage and so we bought, theoretically we went up and bought $3.3 million fleet for $1 million.

Greg R. Colman – National Bank Financial

And then we will see that again next year. But, that is size of that buybacks should increase over time.

Denis J. Gallagher

We start to see increase. And then we have the opportune if we don't want to pay cash flow, we can actually go refinance it for another three years or something.

Greg R. Colman – National Bank Financial

Right. And then just finally and then I’ll hand it over to anyone else. Pat, I think you mentioned estimate of replacement CapEx $25 million to $30 million in this next years coming up this summer, that compares I think to what you said was total of about $33 million in 2013 of $29.7 million leased and $3.6 million purchased. Just wondering why that numbers lower given that you’re bigger?

Patrick J. Walker

I mean Greg we go through every year and go from the ground up on our fleet to determine what needs to be replaced. So we've gone through and identified from the fuel level is just a lower numbers of unit said that need to be replaced, I mean it's not evenly this first fleet of fuel.

Greg R. Colman – National Bank Financial

Okay, fair enough.

Denis J. Gallagher

And our goal Greg is to maintain our average age fleet at just under six, we're going to continue to be just under six years like 5.7, 5.8 so we've continued to grow the company maintain the average age fleet, one of the things that I mentioned, which I'm sure Pat basically talking about is that the guys have been very successful. When you’ve got these low rates, and by the way just go back to Mark Neville’s question that I missed it, that just I remember, we're getting CPI increases now, we just got some word from the state of New Jersey 2.6% on CPI. Last few years we've got 0%.

So we're starting to get some CPIs coming into our contracts, which again is going to help us, but one of the things when we're getting 0%, okay taking 1% kind of CPI on the contracts, we had our guys go back and to see the customers and say, hey listen, you've got nothing older than a 10 year or life or whatever we're depreciating these over 2012 to be run two more years with us. So we actually are getting quoted longer contracted life out of the vehicle, which is allowing us to number one stay within our five to six year average age life, but number two technically increased the life of the vehicle and the contract.

Greg R. Colman – National Bank Financial

Okay. I got one more question, just you comment on CPI may be you remember, in the quarter or past, I think we saw when you breakdown your revenue increases there was a $0.7 million increase that was due to rate coming up and service requirement coming up, but $1.3 million increase in cost of operations this is just see organic you are at same sort of same fleet I guess you'd call it. Is that just bit of an outlier where the rates only went up by half of what your cost went up, because that would imply little bit of margin squeeze on the existing business, notwithstanding the Sandy impact and the M&A impact?

Patrick J. Walker

I want to say Greg, this year on a full-year basis we anticipated a 1.7%, 1.8% pure price increase if you will. Separate apart from any additional 1G, 2G routes that they – that we would add, but with that 1.7%, 1.8% yes we certainly have provided our drivers 2% to 2.5% in certain areas as Denis said to ensure that we have a driving portion in place. So in the last couple of years, we have some cost increases over and above some of the rate increases that we had. But it seems all that's turning around a bit here as we're seeing some really CPI numbers.

Denis J. Gallagher

Yeah, and we are seeing some lower insurance costs, because of the two that are going to have an effect over the next probably eight to 12 quarters.

Greg R. Colman – National Bank Financial

Okay, thanks very much. That's (inaudible) so long there, but I hand it back.

Denis J. Gallagher

Yeah, it’s good.


Thank you. (Operator Instructions) Our next question comes from the line of the (inaudible) from Raymond James. Your line is open. Please go ahead.

Unidentified Analyst

Hi guys, just a couple of questions. First half I was just wondering how the CPI increases came about, was it something that we know it’s triggered in the contract. The second question, was to deal with some of the initiatives you talked about earlier, I think was in the last call, just some non-asset revenue streams like mobile apps that you were talking about experimenting with advertising if you had any update on those as well? Thanks.

Denis J. Gallagher

Sure. On the CPI increases, those are in the contracts so they are triggered state-by-state and/or region-by-region, specifically say in the contract that the contract extension is either a fixed price, sometimes they are just literally like the contract increases 2.5% or 3% a year. And/or it might say the contract increases with the state noted CPI increase. So generally around this time the year, the states’ issue what their CPI increase is for the year. On the – is that okay?

Unidentified Analyst

Yeah that’s great thanks.

Denis J. Gallagher

On the non-asset initiatives, there is kind of several things that we are working on, and as I said we are going have some information on that. The mobile app deal is alive and well and it’s being piloted this year. We are partnering actually with a tech company that’s actually our backbone that’s out of Detroit. And they’re doing a lot of work for us to kind of streamline this, so that we can roll it out on more extensive basis. We are signing some additional customers with it. It’s nominal revenue at this point, my plan was to make this, to break it, to make it, to break it, and while we’ve broken it a couple of times, so we don’t included in any of our numbers and certainly any of our forecasts or anything else like that, I think it's going to be something that we hope to get all of the [Kings up] by March and April here, and something we will roll out from a marketing point of view over this summer.

Now, in addition to the non-assets of the advertising stuff is the state-by-state they have to prove that. So we do have it approved in Texas and we're starting to see again very low dollar amounts starting to come on, but again I think it's going to be one of those things it might be a little bit of a hard sell, but its nice revenue to not only us, but its revenue also to the school district.

So there will be some, there’s going to be some challenges that happen if you look in even in just Google school bus advertising, you'll see it is starting to take effect in certain places. So again I think it's more of a long term.

The management contract side I think is again is going to be part of the schools concept, so we did start a company called schools, and schools is going to be doing management contract, is going to be doing parent pay contracts where we go directly to the parents, is going to have the Wi-Fi and the advertising and it's going to have the mobile app kind of system. So all of those will be under the – we're going to market those under the school umbrella.

Unidentified Analyst

Okay, great, thank you.

Denis J. Gallagher

Dan, I think that's it we have to wrap up.


All right. Den I'll go ahead then turn the conference back over to you for any closing remarks.

Denis J. Gallagher

I actually finished the close remarks here and just thank you everybody for obviously joining us on the call today. If you’d like to hear a little more, later this morning I actually be presenting our second quarter results and opportunities for growth at the Stifel Transportation and Logistics Conference via our website. These conferences are obviously great way for us to expand our success in our spotlight with U.S. and Canadian investors. And it will be on our website at

That concludes our call, and we like to thank everyone and have a safe day.


Ladies and gentlemen thank you for your participation in today’s conference. This does conclude the program and you may all disconnect. Have a great rest of the day.

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