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Con-way Inc. (NYSE:CNW)

Q1 2008 Earnings Call

April 17, 2008 11:00 am ET

Executives

Patrick Fossenier - Vice President of Investor Relations

Doug Stotlar - President and CEO

Kevin Schick - SVP and CFO

John Labrie - SVP and President of Con-way Freight

Rob Bianco - SVP and President of Menlo Worldwide

Herb Schmidt - SVP and President of Con-way Truckload

Analysts

Jon Langenfeld - Robert W. Baird

Thomas Wadewitz - JPMorgan

David Campbell - Thompson, Davis & Company

Ed Wolfe - Wolfe Research

Ken Hoexter - Merrill Lynch

Tom Albrecht - Stephens Incorporated

David Ross - Stifel Nicolaus

Art Hatfield - Morgan, Keegan

David Mac - Millennium

Rob Spingarn

Operator

At this time, I would like to welcome everyone to Con-way Inc's first quarter earnings review conference call. (Operator Instructions)

Thank you. I would now like to turn the call over to Vice President of Investor Relations, Patrick Fossenier. Mr. Fossenier, you may begin your conference.

Patrick Fossenier

Thank you, Michael. Welcome to the Con-way first quarter 2008 conference call for shareholders and the investment community. In a couple of minutes, I'll turn it over to the Con-way President and CEO, Doug Stotlar.

Before we get into the call, I would like to read the following Safe Harbor Announcement. Certain statements in this conference, including statements regarding anticipated results of operation and financial conditions constitute forward-looking statements and are subject to a number of risks and uncertainties and should not necessarily be relied upon as predictions of future events. Actual results of operations and financial conditions might differ materially from those projected in such forward-looking statements and no assurance can be given as to future results of operation and financial conditions. Additional information concerning factors that could cause actual results of operations and financial conditions to differ from those in the forward-looking statements is contained in our Forms 10-Q and 10-K and other filings with the SEC.

Now, without further adieu, I'm pleased to turn it over to Doug Stotlar.

Doug Stotlar

Good morning. On the call today, I am also joined by several members of our senior leadership team including CFO, Kevin Schick; Con-way Freight President, John Labrie; Menlo Logistics President, Rob Bianco; and Con-way Truckload President, Herb Schmidt.

A bit later, Kevin will provide some commentary on financial matters and John, Bob, and Herb will be available to participate in the Q&A portion of the call.

It was a very challenging freight environment during the quarter. The combination of weak demand, excess capacity, the extraordinary rise in energy costs and difficult winter weather certainly affected our results.

Turning to the results for the quarter, consolidated first quarter revenues of $1.2 billion were up 19.9% from last year's $1 billion, enhanced by the acquisitions we completed in the second half of last year.

Total diluted earnings per share from continuing operations was $0.47, including $0.07 of expense in the quarter related to various aspects of wrapping up Con-way Freight business transformation initiatives. We expect no further expense related to that issue.

The quarter was also affected by significant expenses related to weather effects, which were more prolonged and worse than our expectations. Those effects reduced earnings per share by approximately $0.04.

Now, I'll review key operating statistics for our business units, starting with Con-way Freight.

Revenue at Con-way Freight was up 9.4% over last year through a combination of increased volume and yield. Earnings per day increased 3.1% over the first quarter of 2007, consistent with the growth we anticipated going into the quarter and guidance provided on the last conference call.

As we progress through the remainder of 2008, our comparisons become more difficult due to the level of growth achieved in 2007.

Our volume growth was derived largely from market share gains with our top 50 customers where revenue is up 19% year-over-year and shipment volumes are up 13%. We have found these customers are responding to the benefits of our full-service single network offering and the customer specific initiatives we have taken to better serve these large accounts over the past year.

Revenue per hundred weight increased 7.8% versus the first quarter of last year. Excluding the effect of fuel surcharge, we garnered yield growth of 2.1%. The yield growth was positively affected by a 3.1% increase in year-over-year length of haul and a slight increase in average class. The net of those items yield was flat for the period.

As the quarter progressed, the competitiveness of the pricing environment accelerated, primarily due to three factors: weak demand in the market that still has excess capacity, aggressive pricing tactics by a couple of major competitors, and the rapid escalation of fuel costs to unprecedented levels adding an inflationary element to the mix.

The confluence of these trends is concerning. I expect this will contribute to continued pricing volatility for the freight markets at least in the near term.

Turning now to Con-way Freight's operating ratio, our LTL operations posted an OR of $95.2 million in the first quarter, affected by the remaining cost to complete Con-way Freight's organizational transformation and winter weather.

Re-branding expense was higher in the quarter as we have accelerated this program to complete it by the end of the second quarter. We also saw a cost increase in other areas. The major buckets were fuel, purchase transportation, workers' compensation and employee benefits cost.

From an operations perspective, I was encouraged that our productivity held firm. Our major operational benchmarks of load factor, P&D and dock productivity all recorded slight improvements over the year-ago period. Despite all the challenges in the quarter, the underlying LTL operating model is sound.

Now, turn to Menlo Logistics. Logistics revenue net of purchase transportation was $126 million, up 21% from the first quarter of last year, aided by our acquisitions in Asia. As we've noted in previous quarters, we focus on net revenue which excludes sub-contracted purchase transportation expense.

Menlo generated operating income of $6.3 million, a $300,000 decrease compared to the same quarter of last year. Typically higher net revenue would drive an increase in operating income. In this case, the potential income gain was offset by expenses from integration of our acquisitions and the effect of weather-related issues in China, which increased costs and reduced revenues.

Now that we have significant operations in China, we also for the first time were materially affected by the shutdown for Chinese New Year, which impacted revenues and costs in our China operations. Lastly, the weak economy has also been affecting some of Menlo's larger customers causing a negative effect on transactional volume with these accounts.

As we complete the integration activities, we expect to see operating results improve. On March 31st, Menlo went live with the management platform for the Defense Transportation Coordination Initiative contract, bringing the first depot online. Revenue recognition begins in the second quarter. Operations are progressing according to plan, and we look forward to increased contributions from this project as the rollout continues.

Now, we will review results from Con-way Truckload. You will recall we purchased CFI last August and are in the process of re-branding the company as Con-way Truckload.

Truckload had consolidated the revenue of $116 million after elimination of $35.1 million of revenue related to its intercompany business and contributed operating profit of $10.3 million. The operating ratio was 93.2 on total revenue or 91.4 on revenue excluding fuel surcharge.

Despite the difficult demand environment and challenging operating conditions, Con-way Truckload was successful in improving its asset utilization and reducing the empty miles in the quarter.

Our enterprise business model provides unique advantages in that it creates opportunities for synergies between our operating companies. We'll continue to leverage these to drive improvement utilization. However, the demand environment remains challenging and continues to pressure our revenue per mile.

Now, I'll turn over to Kevin Schick for some additional financial perspective.

Kevin Schick

Thanks Doug.

Cash and marketable securities totaled $158 million at the end of the first quarter. Within our investment portfolio, our two auction rate securities amounting to $15 million, which based on their maturities are classified as long-term investments. These two loan-backed investments are not impaired and our fairly valued at par at quarter end.

Average diluted shares outstanding for the quarter were $48.1 million, slightly above the prior quarter. Total debt came in at $959 million. Quarterly interest expense was $16.4 million and investment income totaled $1.6 million. Quarterly tax rate was at 39.4%. Excluding a $400,000 discreet adjustment, the tax provision was at 38.4%.

As we guided at the beginning of the quarter, we saw increased re-branding expense this quarter as we accelerated the process. It totaled $3.7 million at Con-way Freight, $0.05 per diluted share effect.

Now as for guidance, we now expect 2008 diluted earnings per share from continuing operations to be in the range of $3 to $3.40. This is an all-in number that includes the unusual items we've been discussing.

Included in the earnings guidance is our expected total of approximately $8 million for 2008 re-branding expense. $6 million of that is expected to occur at Con-way Freight and $2 million of it is for Con-way Truckload.

We expect to complete the Con-way Freight re-branding in the second quarter, while the smaller amount of Truckload re-branding will see more linear and should continue into mid-2009.

Interest expense is expected to be approximately $65 million this year, and 2008 investment income is forecasted to be about $6 million. We would guide you to use an average of 48.3 million diluted shares outstanding in 2008.

For the full year 2008, we now anticipate total capital expenditures, net of equipment sales, to be $220 million. Depreciation and amortization is expected to be about $210 million. You should model a 38% tax provision for the rest of 2008.

Now, for some operating guidance, starting with Con-way Freight. We anticipate that the second quarter 2008 tonnage will increase in a low single-digit percentage rate over the 2007 level. Second quarter revenue per hundred weight is expected to increase by a mid single-digit percentage versus the prior-year level, can be flat to up by a low single-digit percentage if you exclude the effects of fuel surcharge.

For Menlo Logistics, for the second quarter, we continue to expect net revenue to increase by approximately 20% over last year, aided by contributions from its Asian acquisition.

At Con-way Truckload, we look for second quarter revenue per mile to remain about flat compared to current levels. We expect tractor utilization levels and empty mile ratios to continue to improve.

I'll now turn it back to Doug for some final comments.

Doug Stotlar

Thanks, Kevin. I'd like to close by emphasizing that each of our three operating platforms: Con-way Freight, Menlo Logistics, and Con-way Truckload continue to execute the blocking and tackling of their business operations very well.

In the difficult market, we believe the economy is not providing any stimulus for expansion. Frankly, I can't offer you much of an opinion as to when the general freight market will improve.

However at Con-way, we are growing as a result of our targeted customer-specific sales initiatives and the differentiated services we offer to the market. We've completed changes to our business models that are enabling us to execute well and adapt as conditions warrant.

I'm pleased with how we are positioned and I look forward to the leverage we'll gain when the demand for freight eventually improves and brings more pricing power with it.

And with that, operator, we are ready to answer some questions.

Question-and-Answer Session

Operator

(Operator Instructions)

Our first question comes from Jon Langenfeld with Robert W. Baird.

Jon Langenfeld - Robert W. Baird

Good morning, all.

Doug Stotlar

Hi, Jon.

Jon Langenfeld - Robert W. Baird

On the pricing side, can you give us an idea if it is broad-based? Are you seeing it in specific regions? Is it specific companies? I mean without going into the names, I was just wondering if you could give us some qualitative discussion around that?

Doug Stotlar

Jon, I'm going to ask John Labrie to answer the pricing question. He's certainly closer to what they are seeing across the spectrum. So, John?

John Labrie

Thanks, Doug. You know, we are seeing price pressure across the entire market. All segments of the business, all regions of the country are definitely being impacted and impacted rather significantly.

As you know, yield was up 2.1% year-over-year when you look at it net of fuel. This was positively impacted by a 3.1% increase in our year-over-year length of haul as well as a slight increase in average class. So, if you normalize for weight per shipment, length of haul and class, our yield is essentially flat year-over-year.

The increase in yield is really a result of the increase in the length of hauls and class change, and each of those contributed about half or roughly equal amounts to the overall increase.

As Doug said in his opening statement, we've seen growth with our contractual customers, the biggest customers that we do business with. We've seen slight declines in business with our mid-market accounts, but we are hearing price pressure from really the entire segment of customers that we do business with.

Jon Langenfeld - Robert W. Baird

I am assuming fuel is a big issue here and the discussion of fuel surcharges and prices are probably even more intertwined today than they were three or six months ago. Is that a fair statement?

John Labrie

Definitely.

Jon Langenfeld - Robert W. Baird

Okay. And was the pricing environment worse in March and April than it was in January and February?

John Labrie

Hard to say, John. It's certainly intensified in the quarter. And I think it's possible that it could get a little worse.

Jon Langenfeld - Robert W. Baird

Okay, all right. Good. Doug, what have you embedded into your guidance and pulled your guidance in terms of the external environment, demand and pricing within freight?

Doug Stotlar

Well we certainly don't know the magnitude with which the instability in the pricing environment seems to be manifesting itself right now. We don't know how much it intensifies. We are therefore being a little cautious here.

I think what's not being taken to account, particularly as it looks to the forward guidance, is the impact that inflationary factors are having on costs at the same time. And as you probably noticed in prior trends, yield declines as the year progresses even in a good environment.

Jon Langenfeld - Robert W. Baird

Yes.

Doug Stotlar

So we anticipate that deterioration. We are concerned that it's going to deteriorate faster and at a more rapid clip because of the competitive environment. In addition, you have the inflationary impact of fuel rippling through several different aspects of our business. Fuel prices and also how it relates the purchase transportation, which we use an awful lot of to move our transcontinental business.

It's embedded in tire cost and in oil cost. It's embedded in other aspects of fuel surcharges which we pay to vendors to provide service to us. So the cost side is rippling through.

And then as John indicated, the length of haul whole impact increases our own internal linehaul expense as well. Just to give you an example, the 3.1% length of haul increase we experienced this quarter cost us $7 million more in our linehaul system to move that freight in correlation to the increased length of haul. So, I think there is a cost impact we are looking forward as the year goes on as well.

Jon Langenfeld - Robert W. Baird

Okay. Yes, sure. That makes sense. Last question for Herb. Within your business, you guys obviously did very well in the quarter. But if you think about the growth you are getting, have you seen a shift to be more growth related from Con-way and Menlo related opportunities?

Herb Schmidt

Jon, we definitely have grown some internally, more so proportionally with Menlo than with Con-way. What we are focusing on with Con-way is basically changing our mix a bit to get the most efficient mix of traffic with Freight and Truckload that we can possibly get.

So, we are working more on kind of polishing the diamonds, so to speak. With Menlo, because they had a more diverse customer base and have a lot of different needs (some of it is head-haul, some are very service sensitive, some of that not that we are using in backfield) the growth has been a different kind of growth. It has also been very helpful to us, especially in the environment we're in right now, to have the opportunity to leverage that.

Jon Langenfeld - Robert W. Baird

Very good. Thanks for the color.

Doug Stotlar

Thanks, Jon.

Operator

Your next question comes from Thomas Wadewitz with JPMorgan.

Thomas Wadewitz - JPMorgan

Let's see. I wanted to ask another question on this fuel issue. I think we had heard from some of the LTL carriers that some contracts have fuel price caps in them. And so, maybe when you sign the contract, you didn't think it'd be (inaudible). You're getting a lot of surcharge revenue than you need to really cover the contract. One of you can give us a sense if that's the case for you? And if so, is that 5% of your business or is it meaningfully greater than that?

Doug Stotlar

40% of the fuel surcharge mechanisms that we have in place with customers are the mechanisms they brought to us. So, out of our total fuel surcharges in our mechanisms, we have 47% of foreign. They're not what we would ordinarily have in place as our tariff mechanism.

So, every one of those has a different flavor to them. John, if you want to add some more color to the specific question about caps, feel free.

John Labrie

Tom, yes, what Doug said is true. That 40% is the portion of our business that operates on our customer's fuel tariff. And some portion of those, I'll call it less than 20%, have caps. All of those fuel programs are different than our own company fuel program.

And one of the things that we're doing with both our customers that have caps as well as those customers where we think we're not fully recovering fuel because of the nature of the fuel surcharge agreement that we have in place with them is going back to address that issue.

But as I mentioned a minute ago when Jon brought up the question, certainly the situation with fuel is creating an environment where more pricing activity is taking place as initiated by our customers.

Thomas Wadewitz - JPMorgan

I mean is the cap issue specifically a significant factor for you or is that not really a big factor?

John Labrie

Well, we certainly want to fully recover fuel with all of our customers. I wouldn't call it a big factor, but there is a segment of that, a group of customers in the 40% range, that are on foreign fuel tariff that are capped and where we have caps. And in many cases, we've reached a point where we are not fully recovering.

Thomas Wadewitz - JPMorgan

Right, and in terms of the profitability in the different types of business, you commented with your top 50 you are doing more. Is it fair to think that you may be have a lower margin with the larger customers just because they are going to have more ability to push back on price or how would you think about profitability of, say, large accounts versus smaller accounts that might be on tariff?

John Labrie

What you said is accurate. In general, our biggest customers, we enjoy smaller margins with them. And when we are in situations where they initiate pricing activity, we have to look at whether or not that business contributes fixed-cost nature of our company and determine whether or not it adds to profitability.

Thomas Wadewitz - JPMorgan

Okay, great. What are your assumptions for the second half within your new full year guidance? Are you assuming its similar business conditions to second quarter if things get a little better or how are you looking at the second half?

Doug Stotlar

I'm not anticipating things get better. We're anticipating that they basically are flat from second quarter.

Thomas Wadewitz - JPMorgan

Okay, great. Thank you for the time.

Doug Stotlar

Thanks, Tom.

Operator

Your next question comes from Justin Yagerman with Wachovia.

Rob Spingarn

I just want to make sure that we heard right in terms of your guidance that is including the effects of some of those costs that you guys had, the $8 million in re-branding, that's taken into $3 and $3.40?

Doug Stotlar

Yes.

Kevin Schick

That's a fully loaded number taking into account all costs, including re-branding.

Rob Spingarn

Okay. Thanks, guys. On the DTCI business that's recently starting up, could you guys go into a little bit of color in terms of kind of how much that will be taking up in 2008 and over the other courses of contract? What sort of opportunities are out there?

Doug Stotlar

Rob, it's a difficult question to answer, because it has to do with -- we only recognize a pro-rata portion of the revenue associated, the management fees associated with it, as we ramp up depots. And we're still working through with our external loggers as well as our accounting group to determine at what rate we can recognize the revenue to determine this contract. So, I really can't give you a lot of color right now that would add value.

John Labrie

But from an operational standpoint, we did startup the first depot in the second quarter. We had two more depots slated to be started up. And throughout the next 20 months, we will get the entire network rolled out. So, it's going to be a gradual implementation.

Rob Spingarn

Okay, that makes sense. I guess kind of moving over to CFI, if either Herb or one of you guys could give a little bit additional color in terms of I guess what inning you guys are at in terms of leveraging both Menlo and Con-way Freight in terms of adding incremental freight into the system?

Doug Stotlar

Herb?

Herb Schmidt

You bet. Rob, to give you an inning, it'd be difficult to do, because at this point with respect to freight what we are doing is focusing on putting the puzzle together where the freight that we have is the best mix that best fits our drivers and our operation.

And I would say that that process is probably in the fourth or fifth inning. So, we've still got ways to go.

With respect to Menlo, we are really still in the exploratory stage with a lot of the business. I mean we've had a lot of introductions made to their customer base. They are still assessing their needs, but we are growing appreciably with Menlo, I mean significantly with Menlo. And it's a good diverse base of customers, some head-haul, some back-haul. It's been going very well.

Rob Spingarn

Could you also give us kind of how tonnage and yield progressed throughout the quarter?

Doug Stotlar

John?

John Labrie

Well, I don't have those numbers month-by-month in front of me. Kevin, do you have those numbers month-by-month in front of you?

Doug Stotlar

Are you asking about the quarters going forward?

Rob Spingarn

I guess if we are looking historically for this quarter as well as kind of looking out next quarter kind of how year-over-year comparison changed on a tonnage and yield basis in January, February, March and then what the year-over-year changes were when we are looking out into April, May and June?

Kevin Schick

In the guidance that I had mentioned the tonnage side of it is probably still going to be the low single-digit number. The comparisons are going to be a little bit more challenging. But still, with that said, we are anticipating a nominal degree of tonnage improvement or year-over-year tonnage growth in Q2. But it's going to be a low single-digit number.

We really don't want to give out a specific number, because we're just kind of framing it in terms of generalities. But as John pointed out on the yield side even though it's up 2% ex-fuel surcharges, the number of litigating factors here that when you look at class, when you look at length of haul that really have rendered it down into kind of a flat situation.

And as Doug said, given the progression as we normally experience during the course of the year, we get some degree of gradual erosion that takes place over the course of the year after we've implemented a GRI.

Rob Spingarn

Okay, that's fair. I guess finally in terms of your operating ratio, there is obviously a fair amount of kind of deterioration baked into the guidance. Is there something outside of kind of fuel and workers' comp? I'm assuming that will be a little bit more of a headwind this year. Is there something else that's causing that given that you've got kind of solid tonnage up and kind of flat to positive yields in there? Will that be baked in?

Kevin Schick

I think what maybe we missed here is the fact that if the length of haul continues to increase, operating costs are going to up accordingly, certainly the inflationary factors that will happen throughout the course of the year as operating costs go up, and we're not getting increased direct yield to offset those.

And in addition, in the second half of the year, we have whatever we end up doing from our wage increase standpoint; our hourly employees will have them. And, so costs will continue to go up as the year progresses.

Rob Spingarn

Okay. Thanks a lot for the time, guys.

Kevin Schick

Thank you.

Operator

Your next question comes from David Campbell with Thompson, Davis & Company.

David Campbell - Thompson, Davis & Company

Yes. Good morning. I assume that the increase in average weight per shipment which you recorded in the first quarter in the LTL operations doesn't have any significance in terms of potential growth in the economy or growth in the business activity, because you haven't really mentioned it?

Doug Stotlar

Yes, David, you are absolutely right. It doesn't have any significance concerning, I think, strengthening in the economy. The short answer is it's primarily a mix change within our portfolio. But, John, do you want to address the more specifics?

John Labrie

David, as Doug said, it is the result of mix change. In our case, we handled more traffic, over 5,000 pounds, in the first quarter of this year than we did in the first quarter of last year. That change was intentional and done to help eliminate empty miles in our network.

The effort was very successful as empty miles went down throughout the quarter. And if you remove that over 5,000 pound segment of traffic, our weight per shipment was actually down approximately 8 pounds year-over-year.

David Campbell - Thompson, Davis & Company

Okay. Thanks, John. And what happened to the scenario that some people had last year that that as we get more difficult economic situation we are in and fuel prices squeeze small truckers that there would be a decrease in capacity in the industry, which would help you on the pricing front? You haven't mentioned anything about that.

Doug Stotlar

Well, Dave, I think there are two factors here. One is that's primarily a Truckload phenomenon I think we are talking about here and not an LTL phenomenon. And I still think there is probably opportunity as the year progresses for the truckload environment to get a little tighter.

It appears that capacity is still coming out of the truckload arena. And as that happens and if demand does pick up just a little bit, I think that will tighten up the Truckload environment and allow some pricing stability and perhaps even some pricing traction there.

On the LTL side, we're not adding any equipment this year to our fleet. We're only doing some replacements to our fleet. I'm not aware of any LTL companies adding capacity. And so, I think it's just the fact that there is a little bit too much supply, and we don't see whether demand is going to offset that supply.

David Campbell - Thompson, Davis & Company

Right. And last question, what are you seeing in Menlo in the international airfreight business that of course you are not as involved in it as you used to be, but you still see some of that business I assume? How are those trends going in the first and second quarters?

Doug Stotlar

David, we really don't do have much management over forwarding or forwarding activities. And so, any color we would you probably isn't reflective of the environment.

David Campbell - Thompson, Davis & Company

I knew you weren't much into it. I thought maybe you'd seen some significant change or whatever. But thank you very much.

Doug Stotlar

Thanks, David.

Operator

Your next question comes from Ed Wolfe with Wolfe Research.

Ed Wolfe - Wolfe Research

Hi, Doug. You mentioned a couple of aggressive competitors. Could you give us some color on who those people were?

Doug Stotlar

Ed, I just don't think it's appropriate for me to call our competitors on an analyst call.

Ed Wolfe - Wolfe Research

I would think there is someone you want to call out, no? Are they regional, long-haul, public, private?

Doug Stotlar

They are large market shareholders in this space.

Ed Wolfe - Wolfe Research

Okay. Doug, when I look at your result, it is just a little perplexing in that the LTL EBIT is down 23%, yet pricing is flat and volume is up 3%. You didn't have your wage increases. Those are normally second quarter, right?

Doug Stotlar

That's correct.

Ed Wolfe - Wolfe Research

And that's adding back the restructuring cost. So, just trying to understand why the pricing is flat. Is it because you are not able to recover the fuel surcharge at these prices? Is it because there is something I am missing with that? Os is there another expense I'm just not seeing here?

Doug Stotlar

Ed, I think we had some sense aberrations in the first quarter that we wouldn't ordinarily see. Just to give you a little bit of color in two buckets, which we called out on the call, just between workers' comp and employee benefits, some adjustments made there, those two buckets alone had an impact of $8.1 million for the quarter.

And so, it's something that we don't expect to be reoccurring. Now, I don't want to say that workers' comp expense isn't something that we aren't going to see going forward. But that type of adjustment in true-up in the reserve was a pretty large aberration.

Ed Wolfe - Wolfe Research

Can you give more color on that? What exactly is going on and what employee benefit and workers' comp, how did you get to the $8.1 million?

Kevin Schick

Well, Ed, there is two elements, as Doug mentioned. Work comp was about $4.5 million adjustment. Now, we are not saying that there are not going to be future adjustments. I mean [it was there] in that particular case, but it was a fairly egregious adjustment based on case profiles, et cetera. I am not going to go into all the details.

The other side of it, the other $3.6 million was a very discreet kind of benefit plan alignment. It has to do with PTO or compensated absences. It's kind of a subset of this whole business transformation with Freight, but it's kind of more broad-banded on corporate benefit standpoint.

So, that $3.6 million really is kind of a one-time adjustment. I say on the work comp, we could have adjustments, but I would say a more normalized adjustment might be $1 million or something like that. It wouldn't be $4.5 million.

Ed Wolfe - Wolfe Research

Okay.

Kevin Schick

It's really those two elements.

Ed Wolfe - Wolfe Research

So, it sounds like about one of the $7.6 million is ongoing and the rest is not, give or take?

Kevin Schick

Yes, I'd say that's fair.

Ed Wolfe - Wolfe Research

Okay. On the pricing in the competitive market, we are hearing from a lot of shareholders about starting to see some two-year and even three-year contract. Has Con-way signed anymore full-year contracts recently?

Doug Stotlar

John?

John Labrie

Yes, Ed, we've not seen a big influx in two or three-year deals. I won't say there aren't any, but very few.

Ed Wolfe - Wolfe Research

I guess I'll ask the same question. Have you signed any?

John Labrie

Really only one, Doug, with a fairly sizable customer. And aside from that one, there really hasn't been any discussion of longer-term contracts.

Ed Wolfe - Wolfe Research

And how about one that you signed -- is the second year flat, down or up relative to the first year? Is the first year up, flat or down relative to the past year?

John Labrie

Flat.

Ed Wolfe - Wolfe Research

Okay. Thank you. That's helpful. Weight per shipment, you know I look at it. It looks like it's positive 0.5. You talked about some mix, particularly on the bigger, heavier things. But should I take that the economy is stable if weight per shipment is kind of flattish at this point?

Kevin Schick

Well, Ed, I think to some degree, the economy appears to be a little bit stable. At least volumes appear to be a little bit stable from the perspective that I think exports are driving some stability here. But it doesn't come close to I think meeting where we are from the excess supply standpoint in the marketplace.

Ed Wolfe - Wolfe Research

Okay. And on the DTCI rollout, can you give us some idea? You said revenue is coming on now. What should we think about in terms of revenue and/or EBIT? Is this positive, flat or negative in the second quarter as we do our model?

Kevin Schick

Ed, I think, Doug or Bob mentioned, we are rolling out these depots. We are still working through the mechanics of revenue recognition on this process as the network gets rolled out. In terms of Q2, you're not going to see any kind of meaningful number relative to Menlo right now.

So, we are working through with our external accounting firms, the exact proper handling of revenue recognition and cost associated with this. So, we'll probably have a little better framing in the next quarterly discussion.

Ed Wolfe - Wolfe Research

So, modeling kind of zero EBIT one way or the other is the way to go or are there some known startup costs that we need to bake in here or how do you think about it and when is that in your new guidance?

Kevin Schick

I think right now, Ed, I'd model it at zero.

Ed Wolfe - Wolfe Research

Okay. And then that's what's in your new guidance?

Kevin Schick

Yes, we didn't put anything in there for DTCI at this point.

Ed Wolfe - Wolfe Research

Okay. Thanks guys for your time. I appreciate it.

Kevin Schick

So, modeling kind of zero EBIT one way or the other is the way to go or are there some known startup costs that we need to bake in here or how do you think about it and when is that in your new guidance?

Kevin Schick

I think right now, Ed, I'd model it at zero.

Ed Wolfe - Wolfe Research

Okay. And then that's what's in your new guidance?

Kevin Schick

Yes, we didn't put anything in there for DTCI at this point.

Ed Wolfe - Wolfe Research

Okay. Thanks guys for your time. I appreciate it.

Kevin Schick

Thanks, Ed. Say congratulations too.

Operator

Your next question comes from Ken Hoexter with Merrill Lynch.

Ken Hoexter - Merrill Lynch

Hi, great. Good morning. I'm just looking at some of the impacts from EPS and FedEx coming in I guess looking at the volumes. I just want to know in your kind of flat target for volumes on a year-over-year basis, if you are starting up 3% in this quarter and you are looking for up, low single digits, do you think volumes then deteriorate in the back half or do we actually see volumes fall and go negative, just wanted your outlook as we progress through the year?

Doug Stotlar

Kevin's got a chart here. He can give you a little color on that.

Kevin Schick

Again, in terms of quarterly modeling against the same quarter a year ago, there are going to be very low single-digit type numbers in terms of tonnage growth over the same quarter in '07. And so, we are really talking numbers that are 1% to 2%, in that type of area. The comps are a little more difficult. So, obviously we're tapering down since we are talking about a fairly stagnant environment here. So, it's really tonnage volumes that are 1% or 2% over the previous or comparable quarter.

Ken Hoexter - Merrill Lynch

So, in your view, is that the market growing or is that taking share? What's your view on the market overall?

Kevin Schick

I think my overall view on the market is it's going to be a stagnant market as the year progresses. We just don't see any catalyst for it changing. This economic downturn isn't like anything that at least I'd experienced in my career because of all the underlying elements between the subprime prices, which are still rippling through the economy and in fact the economy in ways that I still think we truly understand; housing has yet to find a bottom; the credit crunch and what that impact is having on a lot of our customers and other businesses, the weak dollar and how it's fueling some aspect.

It's fueling exports, but it's also fueling inflationary and the rapid rise of commodity prices, specifically having an impact on fuel and what this is all doing to the consumer from an inflation standpoint on both the food and fuel.

And we're in a different competitive landscape now. So, things that we would have ordinarily been led to based on the outcomes of other economic downturns, I don't know what to expect now. And so, we're really being pretty cautious about how we're going forward.

Ken Hoexter - Merrill Lynch

Okay. But even in that environment, you still anticipate taking share?

Kevin Schick

Well, we already have taken some share. Now, what we want to do is try to maintain it in the current environment.

Ken Hoexter - Merrill Lynch

And then just switching over to somebody to talk about capacity and on the Truckload side, I think obviously we're all seeing some of the larger carriers are stripping out capacity. I didn't quite catch the end of your answer on the LTL market. I just want to see what do you see going on within the industry?

I mean I don't think we've seen anybody kind of closing up doors or parking tractors from our perspective? I just want to see what you are seeing out there at this point?

Doug Stotlar

Yes, I specifically don't know what some of our competitors are doing. I don't know if anyone is parking equipments against the fence. We certainly aren't. We haven't added a single tractor this year to handle the increased tonnage levels that we are experiencing.

I'm not aware of any competitors adding any additional capacity in LTL. But I'm also not aware of anybody taking out capacity. LTL really gets down more to the brick and mortar fixed infrastructure cost that we have to maintain in this economic downturn. It's less on the rolling stock side.

Ken Hoexter - Merrill Lynch

So, if volumes, let's say they are virtually flat or whether up just 1%, 2%, do you have a lot of excess capacity in the brick and mortar that you can trim out in this environment or is it something you would continue to focus on and maintain?

Doug Stotlar

Well. There'd be nothing that we would trim out at this point. We would definitely take a look at our modeling over the next several years or what our future needs are and ratchet back CapEx, et cetera, associated with adding to the infrastructure or even increasing the size of any facilities that we have.

Ken Hoexter - Merrill Lynch

That's helpful. And then let me know just switch over to the operating ratio for a minute. Obviously, the deterioration this quarter, you mentioned a bunch of the one-time costs and what if that is ongoing?

What do you need to see in order to get the operating ratio even just flat on a year-over-year basis? Is that more, I guess, seeing the return of volume growth or can you do anything to at least hold margins where they were?

Doug Stotlar

I think we'd be doing great if we hold margins where they were. I think the short of the environment improving so we can get some pricing stability here, we are going to see a degradation in OR year-over-year.

Ken Hoexter - Merrill Lynch

And then for the industry, if this cycle continues, what do you see?

Doug Stotlar

Growing up to mid-90s type number. Certainly, it's going to be higher than it was a year ago. But again, I don't know the magnitude with which the market changes, and I don't know if there is another downturn left in this cycle. So I guess it's a moving target.

Ken Hoexter - Merrill Lynch

Okay. And then my last question on the Truckload side. Obviously, you remained better than the competitors if I understand right on your margin there. Is that when you get all this re-branding expense done, where do you see that trending on an operating ratio basis?

Doug Stotlar

Well, again, it depends primarily on the pricing environment. We believe that we can operate our Truckload company in the 80s from an operating ratio standpoint in a good environment. And as I mentioned earlier, yes, there are reasons to believe that capacity is coming out of Truckload and will continue at maybe not as fast rate but will continue to come out in Truckload environment.

And the Truckload environment will rationalize from supply and demand standpoint before the LTL environment will. And so, we'll start to get some pricing back in that environment sooner than we will on the LTL side.

Ken Hoexter - Merrill Lynch

Great. I appreciate the time. Thanks.

Doug Stotlar

Thank you.

Operator

Your next question comes from Tom Albrecht with Stephen's Incorporated.

Tom Albrecht - Stephens Incorporated

Hey, guys.

Doug Stotlar

Hi, Tom.

Tom Albrecht - Stephens Incorporated

You've covered a lot of ground. Herb, let me ask you what was your operating ratio in the year-ago first quarter. I've got the first half of '07, but not first quarter?

Herb Schmidt

Doug, how specific do you want to me to get on that, because we're kind of comparing apples to oranges.

Doug Stotlar

Yes, we are. If you want to give the first quarter last year, then we can talk about what's accounting adjustment.

Herb Schmidt

I don't have the number in front of me, the specific number, Tom. But I can tell you that if the accounting practices were parallel, our operating ratio in the first quarter of this year was slightly better actually than the first quarter of last year.

Doug Stotlar

And, Tom, that's normalizing for the purchase accounting adjustment we had to make for buying CFI.

Tom Albrecht - Stephens Incorporated

Okay. That's helpful. On your length of haul for several years that it's kind of been between 690 and 700, then in the fourth quarter and again in this first quarter, it's jumped up a bit, does that reflect may be better service as you've integrated the three LTL carriers really into one carrier and so you are able to go after may be a little more that in a regional business? I am just surprised after years of no movement that it's now 718 miles?

Doug Stotlar

John?

John Labrie

Well, Tom, we've been focusing our sales force on taking advantage of opportunity that exists where we differentiate on transit time. If you look at our length of haul in OD over 1,000 miles, we often have transit time advantage over our competitors. And I think the fact that that we are talking a little bit more about that in our marketing and our sales force is spending more of their time talking about that reality with customers, so we are seeing some length of haul growth as a result.

Tom Albrecht - Stephens Incorporated

Would some of that have been triggered by the three companies becoming one seamless organization or is that just more coincident?

John Labrie

We definitely are executing against one strategy now, whereas in the past we had the opportunity to have, call it, micro strategies in each of the companies. So, we definitely have focused our sales force around taking advantage of the places where we are differentiated versus our competitors. And I think that's playing out, and certainly it's been aided by the fact that we have one chain of command and one organization.

Tom Albrecht - Stephens Incorporated

Okay. That's helpful. Doug, what were those numbers you gave at the very beginning, your growth 13% and 15% with the top 50 accounts? What was that? Was it revenue and tonnage or shipments and tonnage? What was it?

Doug Stotlar

Yes, the revenue with our top 50 is up 19% and shipment count is up 13%.

Tom Albrecht - Stephens Incorporated

Was there a 15 or did I just make that up in my mind.

Doug Stotlar

I might have misspoken, but there was no 15.

Tom Albrecht - Stephens Incorporated

Okay. And I guess, let me ask similar questions here, but maybe in a little different way. Are there scenarios now where perhaps during the second half of the year you can envision tonnage going negative, because it seems like there is a more sober assessment of the marketplace than there was just a couple of months ago?

Doug Stotlar

Could I come up with a scenario where that would happen? Yes. We're just trying to be cautious here because this situation is accelerating as the quarter progressed. And now, here we are sitting half way through April and we're not feeling any better about it. So I'd say, yes, there certainly is a scenario where that could happen. We're not predicting that right now, but that could be a reality.

Tom Albrecht - Stephens Incorporated

Okay. If I go back to your guidance prior to last night, I don't really recall that you had baked in improvement in the 340 to 380, but were you just maybe a little too optimistic, brand new year, turn the page, because I don't recall? I think you said based upon cost in our market share, et cetera. We feel pretty good about out ability to execute.

Doug Stotlar

And I think we still feel good about our ability to execute. We're more concerned about the broader external market and specifically the pricing environment now.

Tom Albrecht - Stephens Incorporated

Sure.

Doug Stotlar

And I think also at the beginning of the year, when we put these plans together none of us envision that fuel is going to be over $4 a gallon.

Tom Albrecht - Stephens Incorporated

I do.

Doug Stotlar

So none of us envision that. And so that has changed the game dramatically from the cost standpoint as well as the impact it's having on our customers and there -- the inflationary impact is on that -- how that's even forcing the hand of the pricing environment even more.

Tom Albrecht - Stephens Incorporated

And I'm not sure if I heard a straight forward answer on that 40% of the business that is based upon tariffs that the shippers bring to you, what percentage of those, is it 10% to 15% of those that might have fuel caps? I mean, I know there is a lot of discussion but I don't know if I heard even a ballpark number.

Doug Stotlar

John?

John Labrie

Yes. Tom, I don't have the exact number in front of me. But it is a relatively small portion. Call it under 20% of that group of customers that are on their own fuel surcharge tariff.

Tom Albrecht - Stephens Incorporated

Okay. That's at least helpful. And okay, lastly, Kevin, what was the amount you mentioned on the auction rate. I know you mentioned it's valued at par.

Kevin Schick

It was $15 million.

Tom Albrecht - Stephens Incorporated

Okay. That's just a rounding error, are you guys right?

Kevin Schick

No. We don't have quite the cash we had before our CFI acquisition, but we're still applying. It's not going to cause any liquidity issues for us right now.

Tom Albrecht - Stephens Incorporated

Okay. All right. Thanks very much.

Doug Stotlar

Thank, Tom.

Operator

Your next question comes from David Ross with Stifel Nicolaus.

David Ross - Stifel Nicolaus

Hi, gentlemen.

Doug Stotlar

Hi, Dave.

David Ross - Stifel Nicolaus

First question on the freight side, you talked about the percentage of next-day freight, second-day freight and three-day plus freight, how has that changed from first quarter '07 to the most recent quarter?

Doug Stotlar

Sure. The next-day is actually down by 1.4%. This is on shipment count. Two-day is up 1.2% and three plus day is up two-tenths of 1%.

David Ross - Stifel Nicolaus

Okay. And just to be clear, the operational restructuring cost we've seen in the last couple of quarters of freight, they're over now?

Kevin Schick

We will stop talking about them, going forward. We're done.

David Ross - Stifel Nicolaus

Okay. So all right then. Just over the truckload side, do you all have a pre-buy strategy yet for 2009 or how are you guys approaching the new engine standards coming up in 2010?

Kevin Schick

David, at this point in time, we're waiting to see exactly what the engine manufacturers come up with. We've had a lot of discussions with them. And at this point, we've not firmed up any strategy. It's kind of a wait-and-see. At some point in time, when it gets a little closer to that time frame, certainly, we'll have a strategy. At this point in time, the jury is still out.

David Ross - Stifel Nicolaus

Okay. You're a private company, but did you pre-buy significantly at that point or did you just kind of write it out?

Kevin Schick

Last time, we pre-bought significantly.

David Ross - Stifel Nicolaus

Okay. Also, can you remind us the split between the Mexico business or I guess the cross-border business and the domestic US business at CFI and how that might have changed with the acquisition by Con-way?

Kevin Schick

Right now, about a third of our business has an origin or destination of Mexico, which is down slightly, because we picked up a lot of domestic business with Con-way.

David Ross - Stifel Nicolaus

Okay. That makes sense. And then, also, on the operating expense for the truckload side there is freight revenue, fuel surcharge revenue and other revenue of a few million, just tell me about what that other revenue is?

Kevin Schick

It's logistics revenue.

David Ross - Stifel Nicolaus

Okay. Like truckload brokerage?

Kevin Schick

Not actually a brokerage, it's -- we have a logistics company in Mexico that handles LTL shipments in Mexico, CFI Logistica, what it was called.

David Ross - Stifel Nicolaus

Okay. Well, thank you very much.

Doug Stotlar

Thank you.

Operator

Your next question comes from Art Hatfield with Morgan, Keegan.

Art Hatfield - Morgan, Keegan

Good morning, guys.

Doug Stotlar

Good morning.

Art Hatfield - Morgan, Keegan

Hey, just Doug a quick question. You had mentioned earlier they backed into your guidance that you expect trends for the back half of the year to basically be flat with second quarter. Is that excluding seasonality or you just don't expect to see any? Have you built in a flat-peak season this year?

Doug Stotlar

Well, we definitely built in a flat-peak season because really for the last couple of years we really haven't seen one.

Art Hatfield - Morgan, Keegan

Right. No. And that's fair. I just wanted to get that clarification on what you're thinking was. And then, finally, have you heard, are you getting any sense from your customers about, or hearing any talk from them about what they are saying about their inventory level, where they are comfortable, are they still working down those inventory levels? Or are you kind of sitting on a potential precipice if we get a hint of growth that you could see us snap back and volume come at you pretty quickly?

Doug Stotlar

I'm not quite sure of that. John, perhaps, you can add a little color to that if you have an answer?

John Labrie

Yes. Art, I really can't. You know, I think it varies by company and I don't have anything that would be meaningful to you.

Art Hatfield - Morgan, Keegan

Okay. Thank you. That's all I got. Thanks, guys.

Doug Stotlar

Thanks, Ark.

Operator

Our last question comes from David Mac with Millennium.

David Mac - Millennium

Hey, guys. I just had a quick question for you. In terms of the competitive landscape versus the last downturn or downturns we've seen previously, you're seeing more competition from what I would call competitors with a bundled product, where they offer more than just LTL. How has that changed or has it changed at all the way you guys are approaching the market?

And I mean, do you see any difference in how they are competing, as if they might have more of a portfolio approach where they are less concerned about pricing in one segment or volume in one segment in order to push it in another area, which in some ways could impact how they are competing with yourselves?

Doug Stotlar

John, what are you seeing?

John Labrie

Yes. We're seeing more of that than we had previously. It seems to be a focus of the companies that you're referencing and obviously introduces yet another dynamic, especially in an environment like this one.

David Mac - Millennium

So, how have you adjusted your approach to the market or is there anything you can do to approach the market differently to offset what they are coming with?

John Labrie

Well, we're the premium service provider in the market. And when we are doing business with a customer and we face the possibility of losing that business, it almost never happens because of service. It's almost always because of price, regardless of who the competitor is. And we have at that point in time a decision to make.

So we evaluate the business on a case-by-case basis. We look at how it operates for us and we make a decision relative to the situation that we face as to whether or not it makes sense to continue handling that business. But certainly, what we faced in the first quarter, a portion of that had to do with or a decent portion of that had to do with defensive postures that we had to take in order to hold on to business with existing customers for a variety of reasons.

David Mac - Millennium

Okay. All right. Thanks a lot.

Doug Stotlar

Thank you.

Patrick Fossenier

Operator, I think you can give the wrap-up instructions now.

Operator

Ladies and gentlemen, thank you for dialing in for today's conference call. There will be replay available starting in two hours until May 1st at midnight eastern time. The dial-in number for the replay is 1800-642-1687 or 706-645-9291. Again, those numbers are 1800-642-1687 or 706-645-9291. The conference ID number for the replay is the same as today's call, 392-234-14. Thank you again. You may now disconnect.

Patrick Fossenier

Thank you.

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Source: Con-way Inc. Q1 2008 Earnings Call Transcript
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