form10q.htm
UNITED
STATES
SECURITIES
AND EXCHANGE COMMISSION
Washington,
D.C. 20549
FORM
10-Q
(Mark
One)
[X]
|
QUARTERLY
REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF
1934
|
For
the
quarterly period ended September 30,
2007
or
[ ]
|
TRANSITION
REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF
1934
|
For
the
transition period
from to
Commission
File Number: 0-24960
COVENANT
TRANSPORTATION GROUP, INC.
(Exact
name of registrant as specified in its charter)
Nevada
|
|
88-0320154
|
(State
or other jurisdiction of incorporation
|
|
(I.R.S.
Employer Identification No.)
|
or
organization)
|
|
|
|
|
|
400
Birmingham Hwy.
|
|
|
Chattanooga,
TN
|
|
37419
|
(Address
of principal executive offices)
|
|
(Zip
Code)
|
423-821-1212
(Registrant's
telephone number, including area code)
Indicate
by check mark whether the registrant (1) has filed all reports required to
be
filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the
preceding 12 months (or for such shorter period that the registrant was required
to file such reports), and (2) has been subject to such filing requirements
for
the past 90 days.
Indicate
by check mark whether the registrant is a large accelerated filer, an
accelerated filer, or a non-accelerated filer. See definition of
"accelerated filer" and "large accelerated filer" in Rule 12b-2 of the Exchange
Act (Check one):
Large
accelerated filer [ ]
|
Accelerated
filer [ X ]
|
Non-accelerated
filer
[ ]
|
Indicate
by check mark whether the registrant is a shell company (as defined in Rule
12b-2 of the Exchange Act).
Indicate
the number of shares outstanding of each of the issuer's classes of common
stock, as of the latest practicable date (November 5, 2007).
Class
A
Common Stock, $.01 par value: 11,676,298 shares
Class
B Common Stock, $.01 par value:
2,350,000 shares
PART
I
FINANCIAL
INFORMATION
|
|
|
Page
Number
|
|
|
|
Item
1.
|
Financial
Statements
|
|
|
|
|
|
Consolidated
Condensed Balance Sheets as of September 30, 2007 (Unaudited) and
December
31, 2006
|
|
|
|
|
|
Consolidated
Condensed Statements of Operations for the three and nine months
ended
September 30, 2007 and 2006 (Unaudited)
|
|
|
|
|
|
Consolidated
Condensed Statements of Equity and Comprehensive Loss for the nine
months
ended September 30, 2007 (Unaudited)
|
|
|
|
|
|
Consolidated
Condensed Statements of Cash Flows for the nine months ended September
30,
2007 and 2006 (Unaudited)
|
|
|
|
|
|
Notes
to Consolidated Condensed Financial Statements (Unaudited)
|
|
|
|
|
Item
2.
|
Management's
Discussion and Analysis of Financial Condition and Results of
Operations
|
|
|
|
|
Item
3.
|
Quantitative
and Qualitative Disclosures about Market Risk
|
|
|
|
|
Item
4.
|
Controls
and Procedures
|
|
PART
II
OTHER
INFORMATION
|
|
|
Page
Number
|
|
|
|
Item
1.
|
Legal
Proceedings
|
|
|
|
|
Item
1A.
|
Risk
Factors
|
|
|
|
|
Item
6.
|
Exhibits
|
|
|
|
|
PART
1
FINANCIAL
INFORMATION
ITEM
1. FINANCIAL
STATEMENTS
CONSOLIDATED
CONDENSED BALANCE SHEETS
(In
thousands, except share data)
|
|
ASSETS
|
|
September
30, 2007
(unaudited)
|
|
|
December
31,
2006
|
|
|
|
|
|
|
|
|
Cash
and cash equivalents
|
|
$
|
4,372
|
|
|
$
|
5,407
|
|
Accounts
receivable, net of allowance of $1,199 in 2007 and $1,491 in
2006
|
|
|
|
|
|
|
|
|
Drivers'
advances and other receivables, net of allowance of $2,686 in 2007
and
$2,598 in 2006
|
|
|
5,443
|
|
|
|
4,259
|
|
|
|
|
|
|
|
|
|
|
Prepaid
expenses
|
|
|
9,756
|
|
|
|
11,162
|
|
|
|
|
|
|
|
|
|
|
Deferred
income taxes
|
|
|
23,605
|
|
|
|
16,021
|
|
|
|
|
|
|
|
|
|
|
Total
current assets
|
|
|
144,228
|
|
|
|
143,367
|
|
|
|
|
|
|
|
|
|
|
Property
and equipment, at cost
|
|
|
347,489
|
|
|
|
349,663
|
|
Less
accumulated depreciation and amortization
|
|
|
|
|
|
|
|
|
Net
property and equipment
|
|
|
253,987
|
|
|
|
274,974
|
|
|
|
|
|
|
|
|
|
|
Goodwill
|
|
|
36,210
|
|
|
|
36,210
|
|
|
|
|
|
|
|
|
|
|
Total
assets
|
|
$
|
454,233
|
|
|
$
|
475,094
|
|
|
|
|
|
|
|
|
|
|
LIABILITIES
AND STOCKHOLDERS' EQUITY
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Securitization
facility (See Note 10)
|
|
$
|
53,381
|
|
|
$
|
54,981
|
|
Current
maturities of long-term debt (See Note 10)
|
|
|
|
|
|
|
|
|
Checks
outstanding in excess of bank balances
|
|
|
3,244
|
|
|
|
4,280
|
|
Current
maturities of acquisition obligation
|
|
|
|
|
|
|
|
|
Accounts
payable and accrued expenses
|
|
|
36,406
|
|
|
|
30,521
|
|
Current
portion of insurance and claims accrual
|
|
|
|
|
|
|
|
|
Total
current liabilities
|
|
|
112,797
|
|
|
|
110,212
|
|
|
|
|
|
|
|
|
|
|
Long-term
debt (See Note 10)
|
|
|
96,581
|
|
|
|
104,900
|
|
Insurance
and claims accrual, net of current portion
|
|
|
|
|
|
|
|
|
Deferred
income taxes
|
|
|
56,309
|
|
|
|
50,685
|
|
Other
long-term liabilities
|
|
|
|
|
|
|
|
|
Total
liabilities
|
|
|
282,143
|
|
|
|
286,250
|
|
|
|
|
|
|
|
|
|
|
Commitments
and contingent liabilities
|
|
|
-
|
|
|
|
-
|
|
|
|
|
|
|
|
|
|
|
Stockholders'
equity:
|
|
|
|
|
|
|
|
|
Class
A common stock, $.01 par value; 20,000,000 shares authorized; 13,469,090
shares issued; 11,676,298 and 11,650,690 shares
outstanding
as of September 30, 2007 and December 31, 2006,
respectively
|
|
|
|
|
|
|
|
|
Class
B common stock, $.01 par value; 5,000,000 shares authorized; 2,350,000
shares issued and outstanding
|
|
|
24
|
|
|
|
24
|
|
Additional
paid-in-capital
|
|
|
|
|
|
|
|
|
Treasury
stock at cost; 1,792,792 shares and 1,818,400 shares as of September
30,
2007 and December 31, 2006, respectively
|
|
|
(21,278
|
)
|
|
|
(21,582
|
)
|
|
|
|
|
|
|
|
|
|
Total
stockholders' equity
|
|
|
172,090
|
|
|
|
188,844
|
|
Total
liabilities and stockholders' equity
|
|
|
|
|
|
|
|
|
The
accompanying notes are an integral part of these consolidated condensed
financial statements.
CONSOLIDATED
CONDENSED STATEMENTS OF OPERATIONS
FOR
THE THREE AND NINE MONTHS ENDED SEPTEMBER 30, 2007 AND
2006
(In
thousands, except per share data)
|
|
Three
months ended
September
30,
(unaudited)
|
|
|
Nine
months ended
September
30,
(unaudited)
|
|
|
|
2007
|
|
|
2006
|
|
|
2007
|
|
|
2006
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Freight
revenue
|
|
$
|
148,531
|
|
|
$
|
144,148
|
|
|
$
|
443,105
|
|
|
$
|
412,926
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
revenue
|
|
$
|
175,787
|
|
|
$
|
176,661
|
|
|
$
|
519,624
|
|
|
$
|
497,547
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating
expenses:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Salaries,
wages, and related expenses
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Fuel
expense
|
|
|
52,687
|
|
|
|
52,858
|
|
|
|
150,812
|
|
|
|
145,075
|
|
Operations
and maintenance
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Revenue
equipment rentals and purchased transportation
|
|
|
15,406
|
|
|
|
16,462
|
|
|
|
46,718
|
|
|
|
46,598
|
|
Operating
taxes and licenses
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Insurance
and claims
|
|
|
8,368
|
|
|
|
8,360
|
|
|
|
29,130
|
|
|
|
24,773
|
|
Communications
and utilities
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
General
supplies and expenses
|
|
|
5,801
|
|
|
|
5,675
|
|
|
|
17,321
|
|
|
|
15,719
|
|
Depreciation
and amortization, including gains and losses on disposition of
equipment
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Asset
impairment charge
|
|
|
0
|
|
|
|
0
|
|
|
|
1,665
|
|
|
|
0
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating
income (loss)
|
|
|
(2,168
|
)
|
|
|
3,520
|
|
|
|
(15,984
|
)
|
|
|
6,822
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest
expense
|
|
|
2,917
|
|
|
|
1,752
|
|
|
|
8,924
|
|
|
|
3,951
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Other
|
|
|
(34)
|
|
|
|
0
|
|
|
|
(150
|
)
|
|
|
(13
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income
(loss) before income taxes
|
|
|
(4,922
|
)
|
|
|
1,937
|
|
|
|
(24,404
|
)
|
|
|
3,375
|
|
Income
tax expense (benefit)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net
income (loss)
|
|
$
|
(3,575
|
)
|
|
$
|
795
|
|
|
$
|
(16,902
|
)
|
|
$
|
(487
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net
income (loss) per share:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Basic
and diluted earnings (loss) per share:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Basic
weighted average common shares outstanding
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Diluted
weighted average common shares outstanding
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
The
accompanying notes are an integral part of these consolidated condensed
financial statements.
CONSOLIDATED
CONDENSED STATEMENTS OF STOCKHOLDERS' EQUITY
AND
COMPREHENSIVE LOSS
FOR
THE NINE MONTHS ENDED SEPTEMBER 30, 2007
(Unaudited
and in thousands)
|
|
Common
Stock
|
|
|
Additional
Paid-In
|
|
|
Treasury
|
|
|
Retained
|
|
|
Total
Stockholders'
|
|
|
Comprehensive
|
|
|
|
Class
A
|
|
|
Class
B
|
|
|
Capital
|
|
|
Stock
|
|
|
Earnings
|
|
|
Equity
|
|
|
Loss
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balances
at December 31, 2006
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Issuance
of restricted stock to
non-employee
directors from
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cumulative
impact of change in
accounting for uncertainties in
income taxes (FIN 48 – see Note 7)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
SFAS
No. 123R stock-based employee
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Comprehensive
loss for nine
months ended September 30, 2007
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balances
at September 30, 2007
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
The
accompanying notes are an integral part of these consolidated condensed
financial statements.
CONSOLIDATED
CONDENSED STATEMENTS OF CASH FLOWS
FOR
THE NINE MONTHS ENDED SEPTEMBER 30, 2007 AND 2006
(In
thousands)
|
|
Nine
months ended
September
30,
(unaudited)
|
|
|
|
2007
|
|
|
2006
|
|
Cash
flows from operating activities:
|
|
|
|
|
|
|
Net
loss
|
|
$
|
(16,902
|
)
|
|
$
|
(487
|
)
|
Adjustments
to reconcile net loss to net cash provided by operating
activities:
|
|
|
|
|
|
|
|
|
Provision
for losses on accounts receivable
|
|
|
664
|
|
|
|
441
|
|
Depreciation
and amortization, including impairment charge
|
|
|
|
|
|
|
|
|
Amortization
of deferred financing fees
|
|
|
201
|
|
|
|
0
|
|
Deferred
income taxes (benefit)
|
|
|
|
|
|
|
|
|
Loss
(gain) on disposition of property and equipment
|
|
|
2,131
|
|
|
|
(2,884
|
)
|
Non-cash
stock compensation
|
|
|
|
|
|
|
|
|
Changes
in operating assets and liabilities:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Prepaid
expenses and other assets
|
|
|
1,595
|
|
|
|
6,044
|
|
|
|
|
|
|
|
|
|
|
Insurance
and claims accrual
|
|
|
(5,890
|
)
|
|
|
(4,387
|
)
|
Accounts
payable and accrued expenses
|
|
|
|
|
|
|
|
|
Net
cash flows provided by operating activities
|
|
|
18,145
|
|
|
|
41,297
|
|
|
|
|
|
|
|
|
|
|
Cash
flows from investing activities:
|
|
|
|
|
|
|
|
|
Acquisition
of property and equipment
|
|
|
|
|
|
|
|
|
Purchase
of Star Transportation, Inc., net of cash acquired
|
|
|
0
|
|
|
|
(39,004
|
)
|
Proceeds
from building sale leaseback
|
|
|
0
|
|
|
|
29,630
|
|
Proceeds
from disposition of property and equipment
|
|
|
|
|
|
|
|
|
Payment
of acquisition obligation
|
|
|
(250
|
)
|
|
|
0
|
|
Net
cash flows used in investing activities
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash
flows from financing activities:
|
|
|
|
|
|
|
|
|
Exercise
of stock options
|
|
|
0
|
|
|
|
246
|
|
Excess
tax benefits from exercise of stock options
|
|
|
0
|
|
|
|
|
|
Change
in checks outstanding in excess of bank balances
|
|
|
(1,036
|
)
|
|
|
0
|
|
Proceeds
from issuance of debt
|
|
|
|
|
|
|
|
|
Repayments
of debt
|
|
|
(57,000
|
)
|
|
|
(58,272
|
)
|
|
|
|
|
|
|
|
|
|
Net
cash provided by financing activities
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net
change in cash and cash equivalents
|
|
|
(1,035
|
)
|
|
|
4,710
|
|
|
|
|
|
|
|
|
|
|
Cash
and cash equivalents at beginning of period
|
|
|
5,407
|
|
|
|
3,618
|
|
|
|
|
|
|
|
|
|
|
Cash
and cash equivalents at end of period
|
|
$
|
4,372
|
|
|
$
|
8,328
|
|
The
accompanying notes are an integral part of these consolidated condensed
financial statements.
NOTES
TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS
(Unaudited)
Note
1. Basis
of Presentation
The
consolidated condensed financial statements include the accounts of Covenant
Transportation Group, Inc., a Nevada holding company, and its wholly owned
subsidiaries. References in this report to "we," "us," "our," the "Company,"
and
similar expressions refer to Covenant Transportation Group, Inc. and its wholly
owned subsidiaries. All significant intercompany balances and
transactions have been eliminated in consolidation.
The
financial statements have been prepared in accordance with accounting principles
generally accepted in the United States of America, pursuant to the rules and
regulations of the Securities and Exchange Commission. In preparing
financial statements, it is necessary for management to make assumptions and
estimates affecting the amounts reported in the consolidated condensed financial
statements and related notes. These estimates and assumptions are
developed based upon all information available. Actual results could
differ from estimated amounts. In the opinion of management, the accompanying
financial statements include all adjustments which are necessary for a fair
presentation of the results for the interim periods presented, such adjustments
being of a normal recurring nature. Certain information and footnote
disclosures have been condensed or omitted pursuant to such rules and
regulations. The December 31, 2006 consolidated condensed balance
sheet was derived from the Company's audited balance sheet as of that
date. These consolidated condensed financial statements and notes
thereto should be read in conjunction with the consolidated condensed financial
statements and notes thereto included in the Company's Form 10-K for the year
ended December 31, 2006. Results of operations in interim periods are
not necessarily indicative of results to be expected for a full
year.
Certain
prior period financial statement balances have been reclassified to conform
to
the current period's classification.
Note
2. Liquidity
As
discussed in Note 10, the Company’s Credit Facility and Securitization Facility
contains certain restrictions and covenants relating to, among other things,
dividends, tangible net worth, leverage, acquisitions and dispositions, and
total indebtedness. On August 28, 2007, the Company signed Amendment No. 1
to
the Credit Facility ("Amendment
No.
1"),to modify the financial covenants to levels better aligned with the
Company’s expected ability to maintain compliance
and
to grant and expand the security interest to include, with limited exceptions,
then owned revenue equipment, as well as revenue equipment acquired
subsequently utilizing proceeds from the Credit Facility. At
September 30,
2007, the Company was in compliance with the covenants of the Credit Facility
and Securitization Facility. However,
if the
Company experiences future defaults under our Credit Facility, its bank group
could cease making further advances, declare its debt to be immediately
due and payable, impose significant restrictions and requirements on its
operations, and institute foreclosure procedures against their security. If
the
Company was required to obtain waivers of defaults, the Company may
incur significant fees and transaction costs. If waivers of defaults are not
obtained and acceleration occurs, it may have difficulty in borrowing sufficient
additional funds to refinance the accelerated debt or the Company may
have to issue equity securities, which would dilute stock ownership. Even if
new
financing is made available to the Company, it may not be available on
acceptable terms. As a result, the Company’s liquidity, financial condition, and
results of operations would be adversely affected.
Note
3. Comprehensive
Earnings (Loss)
Comprehensive
earnings (loss) generally include all changes in equity during a period except
those resulting from investments by owners and distributions to
owners. Comprehensive earnings (loss) for the nine month periods
ended September 30, 2007 and 2006 equaled net income (loss).
Note
4. Segment
Information
The
Company has one reportable segment under the provisions of Statement of
Financial Accounting Standards ("SFAS") No.131, Disclosures about Segments
of an
Enterprise and Related Information
("SFAS No.
131"). Each
of the Company's transportation service offerings and subsidiaries that meet
the
quantitative threshold requirements of SFAS No. 131 provides truckload
transportation services that have been aggregated as they have similar economic
characteristics and meet the other aggregation criteria of SFAS No. 131.
Accordingly, the Company has not presented separate financial information for
each of its service offerings and subsidiaries as the condensed consolidated
financial statements present the Company's one reportable segment. The
Company generates other revenue through a subsidiary that provides freight
brokerage services. The operations of this subsidiary are not material and
are
therefore not disclosed separately.
Note
5. Basic
and Diluted Loss per Share
The
Company applies the provisions of SFAS No. 128, Earnings per Share,
which requires it to present basic EPS and diluted EPS. Basic EPS excludes
dilution and is computed by dividing earnings available to common stockholders
by the weighted-average number of common shares outstanding for the period.
Diluted EPS reflects the dilution that could occur if securities or other
contracts to issue common stock were exercised or converted into common stock
or
resulted in the issuance of common stock that then shared in the earnings of
the
Company. The calculation of diluted earnings per share for the three months
ended September 30, 2006 excludes approximately 1.0 million shares, as the
option price was greater than the average market price of the common shares.
The
calculation of diluted loss per share for the three months and nine months
ended
September 30, 2007 and 2006, respectively, excludes all unexercised shares,
as
the effect of any assumed exercise of the related options would be
anti-dilutive.
The
following table sets forth, for the periods indicated, the calculation of net
earnings (loss) per share included in the consolidated condensed statements
of
operations:
(in
thousands except per share data)
|
|
Three
months ended
September
30,
|
|
|
Nine
months ended
September
30,
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Numerator:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Denominator:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Denominator
for basic earnings per share – weighted-average
shares
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Effect
of dilutive securities:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Denominator
for diluted earnings per share – adjusted weighted-average shares and
assumed conversions
|
|
|
14,026
|
|
|
|
14,059
|
|
|
|
14,016
|
|
|
|
14,074
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Basic
and diluted earnings (loss) per share:
|
|
$
|
(0.25
|
)
|
|
$
|
0.06
|
|
|
$
|
(1.21
|
)
|
|
$
|
(0.03
|
)
|
Note
6. Share-Based
Compensation
Prior
to
May 23, 2006, the Company had four stock-based compensation plans. On May 23,
2006, upon the recommendation of the Company's Board of Directors (the "Board"),
its stockholders approved the Covenant Transportation Group, Inc. 2006 Omnibus
Incentive Plan ("2006 Plan"). The 2006 Plan replaced the Covenant Transportation
Group, Inc. 2003 Incentive Stock Plan, Amended and Restated Incentive Stock
Plan, Outside Director Stock Option Plan, and 1998 Non-Officer Incentive Stock
Plan. The 2006 Plan permits annual awards of shares of the Company's Class
A
common stock to executives, other key employees, and non-employee directors
under various types of options, restricted stock awards, or other equity
instruments. The number of shares available for issuance under the 2006 Plan
is
1,000,000 shares unless adjustment is determined necessary by the Committee
as
the result of a dividend or other distribution, recapitalization, stock split,
reverse stock split, reorganization, merger, consolidation, split-up, spin-off,
combination, repurchase or exchange of Class A common stock, or other corporate
transaction in order to prevent dilution or enlargement of benefits or potential
benefits intended to be made available. At September 30, 2007, 218,483 of
these 1,000,000 shares were available for award under the 2006 Plan. No
participant in the 2006 Plan may receive awards of any type of equity
instruments in any calendar-year that relates to more than 250,000 shares of
the
Company's Class A common stock. No awards may be made under the 2006 Plan after
May 23, 2016. The Company has a policy of issuing treasury stock to satisfy
all
share-based incentive plans.
Effective
January 1, 2006, the Company adopted SFAS No. 123R, Share-Based Payment
("SFAS No. 123R") using the modified prospective method. Under this method,
compensation cost is recognized on or after the required effective date for
the
portion of outstanding awards for which the requisite service has not yet been
rendered, based on the grant-date fair value of those awards calculated under
SFAS No. 123R for either recognition or pro forma disclosures. Included in
salaries, wages, and related expenses within the consolidated condensed
statements of operations is stock-based compensation expense for the three
months ended September 30, 2007 and 2006 of approximately $111,000 and $109,000,
respectively, and for the nine months ended September 30, 2007 and 2006 of
approximately $489,000 and $171,000, respectively. As a result of the
acceleration of vesting of all outstanding unvested stock options on August
31,
2005, there was no cumulative effect of initially adopting SFAS No.
123R.
The
following tables summarize our stock option activity for the nine months ended
September 30, 2007:
|
|
Number
of
options
(in
thousands)
|
|
|
Weighted
average
exercise
price
|
|
Weighted
average
remaining
contractual
term
|
|
Aggregate
intrinsic
value
(in
thousands)
|
|
|
|
|
|
|
|
|
|
|
|
|
Outstanding
at beginning of the period
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Options
granted
|
|
|
112
|
|
|
|
6.76
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Options
forfeited
|
|
|
-
|
|
|
|
-
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Outstanding
at end of period
|
|
|
1,356
|
|
|
$
|
13.30
|
|
66
months
|
|
$
|
809
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Exercisable
at end of period
|
|
|
1,162
|
|
|
$
|
13.95
|
|
58
months
|
|
$
|
427
|
|
The
fair
value of each option award is estimated on the date of grant using the
Black-Scholes option-pricing model, which uses a number of assumptions to
determine the fair value of the options on the date of grant.
The
expected lives of the options are based on the historical and expected future
employee exercise behavior. Expected volatility is based upon the historical
volatility of the Company's common stock. The risk-free interest rate is based
upon the U.S. Treasury yield curve at the date of grant with maturity dates
approximately equal to the expected life at the grant date.
The
Company issues performance-based restricted stock awards whose vesting is
contingent upon meeting certain earnings-per-share targets selected by the
Compensation Committee. Determining the appropriate amount to expense is based
on likelihood of achievement of the stated targets and requires judgment,
including forecasting future financial results. This estimate is revised
periodically based on the probability of achieving the required performance
targets and adjustments are made as appropriate. The cumulative impact of any
revision is reflected in the period of change.
The
following tables summarize the Company's restricted stock award activity for
the
nine months ended September 30, 2007:
|
Number
of
stock
awards
|
Weighted
average
grant
date
fair value
|
Unvested
at January 1, 2007
|
|
|
Granted
|
113,533
|
$10.83
|
|
|
|
Forfeited
|
-
|
-
|
Unvested
at September 30, 2007
|
|
|
As
of
September 30, 2007, the Company had $0.4 million in unrecognized
compensation expense related to stock options, which is probable to be
recognized over a weighted average period of approximately 3.3 years. As of
September 30, 2007, the Company had $0.5 million in unrecognized compensation
expense related to restricted stock awards which is expected to be recognized
over a weighted average period of approximately 3.3 years.
Note
7. Income
Taxes
Income
tax expense (benefit) varies from the amount computed by applying the federal
corporate income tax rate of 35% to income (loss) before income taxes primarily
due to state income taxes, net of federal income tax effect, adjusted for
permanent differences, the most significant of which is the effect of the per
diem pay structure for drivers.
In
July
2006, the FASB issued Interpretation No. 48, Accounting for Uncertainty in
Income Taxes (“FIN 48”). The Company was required to adopt the provisions
of FIN 48, effective January 1, 2007. As a result of this adoption, the Company
recognized additional tax liabilities of $0.3 million with a corresponding
reduction to beginning retained earnings as of January 1, 2007. As of January
1,
2007, the Company had a $2.8 million liability recorded for unrecognized tax
benefits, which includes interest and penalties of $0.5 million. The Company
recognizes interest and penalties accrued related to unrecognized tax benefits
in tax expense. If recognized, $1.7 million of unrecognized tax benefits would
impact the Company's effective tax rate as of September 30, 2007.
The
Company is subject to United States Federal income tax examinations for the
tax
years 2003 and forward. The Company files in numerous state tax jurisdictions
with varying statutes of limitations. In connection with the favorable outcome
in March 2007 of the captive insurance audit issue of 2003 and 2004 tax years,
the Company recognized approximately $0.4 million of income tax benefit for
the
nine months ended September 30, 2007. There were no other material
changes to the total amount of unrecognized tax benefits for the nine months
ended September 30, 2007.
Note
8. Derivative
Instruments
We
account for derivative instruments in accordance with SFAS No. 133,
Accounting for Derivative Instruments and Hedging Activities, as
amended ("SFAS No. 133"). SFAS No. 133 requires that all derivative
instruments be recorded on the balance sheet at their fair
value. Changes in the fair value of derivatives are recorded each
period in current earnings or in other comprehensive income, depending on
whether a derivative is designated as part of a hedging relationship and, if
it
is, depending on the type of hedging relationship.
From
time
to time, we enter into fuel purchase commitments for a notional amount of diesel
fuel at prices which are determined when fuel purchases occur.
Note
9. Property
and Equipment
Depreciation
is determined using the straight-line method over the estimated useful lives
of
the assets. Depreciation of revenue equipment is the Company's largest item
of
depreciation. The Company generally depreciates new tractors (excluding day
cabs) over five years to salvage values of 7% to 26% and new trailers over
seven
to ten years to salvage values of 22% to 39%. The Company annually
reviews the reasonableness of its estimates regarding useful lives and salvage
values of its revenue equipment and other long-lived assets based upon, among
other things, its experience with similar assets, conditions in the used revenue
equipment market, and prevailing industry practice. Changes in the
useful life or salvage value estimates, or fluctuations in market values that
are not reflected in the Company's estimates, could have a material effect
on
its results of operations. Gains and losses on the disposal of revenue equipment
are included in depreciation expense in the consolidated condensed statements
of
operations.
Note
10. Securitization
Facility and Long-Term Debt
Current
and long-term debt consisted of the following at September 30, 2007 and December
31, 2006:
(in
thousands)
|
|
September
30, 2007
|
|
|
December
31, 2006
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Securitization
Facility
|
|
$
|
53,381
|
|
|
$
|
-
|
|
|
$
|
54,981
|
|
|
$
|
-
|
|
Borrowings
under Credit Facility
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Revenue
equipment installment notes with finance company, weighted average
interest rate of 5.55% at September 30, 2007, due in monthly
installments with final maturities at various dates ranging from
September
2010 to March 2011, secured by related revenue
equipment
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
debt
|
|
$
|
54,661
|
|
|
$
|
96,581
|
|
|
$
|
54,981
|
|
|
$
|
104,900
|
|
In
December 2006, the Company entered into a second amended and restated revolving
credit agreement, (the "Credit Facility") with a group of banks. The Credit
Facility matures in December 2011. The Company signed Amendment No. 1 to the
Credit Facility on August 28, 2007, which, among other revisions, modified
the
financial covenants to levels better aligned with the Company’s expected ability
to maintain compliance
and
granted and expanded the security interest to include, with limited exceptions,
then owned revenue equipment, as well as revenue equipment acquired
subsequently utilizing proceeds from the Credit Facility.
Borrowings under
the Credit Facility are based on the banks' base rate, which floats
daily, or LIBOR, which accrues interest based on one, two, three, or six month
LIBOR rates plus an applicable margin that is adjusted quarterly between 0.875%
and 2.250% based on a leverage ratio, which is generally defined as the ratio
of
borrowings, letters of credit, and the present value of operating lease
obligations to our earnings before interest, income taxes, depreciation,
amortization, and rental payments under operating leases (the applicable margin
was 1.875% at September 30, 2007). At September 30, 2007, the Company had
borrowings outstanding under the Credit Facility totaling $90.0 million with
a
weighted average interest rate of 6.975%. The Credit Facility is guaranteed
by
the Company and all of its subsidiaries, except CVTI Receivables Corp., a Nevada
corporation ("CRC"), and Volunteer Insurance Limited.
The
Credit Facility has a maximum borrowing limit of $200.0 million with an
accordion feature which permits an increase up to a maximum borrowing limit
of
$275.0 million. Borrowings related to revenue equipment are limited to the
lesser of 90% of net book value of revenue equipment or the maximum borrowing
limit. Letters of credit are limited to an aggregate commitment of $100.0
million. As amended, the Credit Facility is secured by a pledge of the stock
of
most of the Company's subsidiaries and certain owned revenue equipment,
as
well as revenue equipment acquired subsequently utilizing proceeds from the
Credit Facility. A commitment fee, which is adjusted quarterly between
0.175% and 0.500% per annum based on a leverage ratio, which is generally
defined as the ratio of borrowings, letters of credit, and the present value
of
operating lease obligations to our earnings before interest, income taxes,
depreciation, amortization, and rental payments under operating leases, is
due
on the daily unused portion of the Credit Facility. At September 30, 2007 and
December 31, 2006, the Company had undrawn letters of credit outstanding of
approximately $66.1 million and $60.1 million, respectively. As of September
30,
2007, the Company had approximately $27.4 million of available borrowing
capacity.
In
December 2000, the Company entered into an accounts receivable securitization
facility (the "Securitization Facility"). On a revolving basis, the Company
sells its interests in its accounts receivable to CRC, a wholly-owned,
bankruptcy-remote, special-purpose subsidiary incorporated in Nevada. CRC sells
a percentage ownership in such receivables to unrelated financial entities.
The
Company can receive up to $70.0 million of proceeds, subject to eligible
receivables, and pay a service fee recorded as interest expense, based on
commercial paper interest rates plus an applicable margin of 0.44% per annum
and
a commitment fee of 0.10% per annum on the daily unused portion of the
Securitization Facility. The net proceeds under the Securitization Facility
is
shown as a current liability because the term, subject to annual renewals,
is
364 days. As of September 30, 2007 and December 31, 2006, the Company had $53.4
million and $55.0 million in outstanding current liabilities related to the
Securitization Facility, respectively, with weighted average interest rates
of
5.89% for the 2007 period and 5.33% for 2006. CRC does not meet the requirements
for off-balance sheet accounting; therefore, it is reflected in the consolidated
condensed financial statements.
The
Credit Facility
and Securitization Facility contain certain restrictions and covenants relating
to, among other things, dividends, tangible net worth, cash flow coverage,
acquisitions and dispositions, and total indebtedness. Although certain
defaults under the Securitization Facility create a default under the Credit
Facility, a default under the Credit Facility does not create a default under
the Securitization Facility. We were in compliance with the covenants as of September
30,
2007.
Note
11. Acquisition
On
September 14, 2006, the Company acquired 100% of the outstanding stock of Star
Transportation, Inc. ("Star"), a short-to-medium haul dry van regional truckload
carrier based in Nashville, Tennessee. The acquisition included 614 tractors
and
1,719 trailers. The total purchase price of approximately $40.1 million has
been
allocated to tangible and intangible assets acquired and liabilities assumed
based on their fair market values as of the acquisition date in accordance
with
SFAS No. 141, Business Combinations. Star's operating results have been
accounted for in the Company's consolidated results of operations since the
acquisition date.
The
following table summarizes the Company's fair value of the assets acquired
and
liabilities assumed at the date of acquisition:
(in
thousands)
|
|
|
|
|
|
|
|
|
Property
and equipment
|
|
|
62,339
|
|
|
|
|
|
|
Other
assets – Interest rate swap
|
|
|
252
|
|
Identifiable
intangible assets:
|
|
|
|
|
Tradename
(4-year estimated useful life)
|
|
|
920
|
|
Noncompetition
agreement (7-year useful life)
|
|
|
|
|
Customer
relationships (20-year estimated useful life)
|
|
|
3,490
|
|
|
|
|
|
|
Total
assets
|
|
$
|
103,901
|
|
|
|
|
|
|
Current
liabilities
|
|
$
|
13,181
|
|
Long-term
debt, net of current maturities
|
|
|
|
|
Deferred
tax liabilities
|
|
|
14,361
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
The
total
purchase price of $40.1 million included purchase price consideration paid
to
the selling shareholders of Star, or their respective escrow agents, totaling
$38.8 million and $0.3 million of acquisition-related costs, as well as an
additional 3-year acquisition obligation note payable totaling $1.0 million
to
one of the selling shareholders of Star related to her 7-year noncompetition
agreement.
Note
12. Recent
Accounting Pronouncements
In
February 2007, the Financial Accounting Standards Board ("FASB") issued SFAS
No.
159, The Fair Value Option for Financial Assets and Financial
Liabilities ("SFAS No. 159"). SFAS No. 159 permits entities to
choose to measure certain financial assets and liabilities at fair
value. Unrealized gains and losses on items for which the fair value
option has been elected are reported in earnings. SFAS No. 159 is
effective for fiscal years beginning after November 15, 2007. The Company is
currently assessing the expected impact of SFAS No. 159 in the consolidated
condensed financial statements.
In
September 2006, the FASB issued SFAS No. 157, Fair Value Measurements
("SFAS No. 157"). This Statement defines fair value, establishes a framework
for
measuring fair value in generally accepted accounting principles ("GAAP"),
and
expands disclosures about fair value measurements. The provisions of SFAS No.
157 are effective as of the beginning of the first fiscal year that begins
after
November 15, 2007. The Company does not believe the adoption of SFAS No. 157
will have a material impact in the consolidated condensed financial
statements.
Note
13. Commitments
and Contingencies
From
time
to time, the Company is a party to ordinary, routine litigation arising in
the
ordinary course of business, most of which involves claims for personal injury
and property damage incurred in connection with the transportation of freight.
The Company maintains insurance to cover liabilities arising from the
transportation of freight for amounts in excess of certain self-insured
retentions. In management's opinion, the Company's potential exposure under
pending legal proceedings is adequately provided for in the accompanying
consolidated condensed financial statements.
Financial
risks, which potentially subject the Company to concentrations of credit risk,
consist of deposits in banks in excess of the Federal Deposit Insurance
Corporation limits. The Company's sales are generally made on account without
collateral. Repayment terms vary based on certain conditions. The Company
maintains reserves, which it believes are adequate to provide for potential
credit losses. The majority of its customer base spans the United States. The
Company monitors these risks and believes the risk of incurring material losses
is remote.
The
Company uses purchase commitments through suppliers to reduce a portion of
its
cash flow exposure to fuel price fluctuations.
MANAGEMENT'S
DISCUSSION AND ANALYSIS OF
FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
The
consolidated condensed financial statements include the accounts of Covenant
Transportation Group, Inc., a Nevada holding company, and its wholly-owned
subsidiaries. References in this report to "we," "us," "our," the "Company,"
and
similar expressions refer to Covenant Transportation Group, Inc. and its
wholly-owned subsidiaries. All significant intercompany balances and
transactions have been eliminated in consolidation.
Except
for certain historical information contained herein, this report contains
"forward-looking statements" within the meaning of Section 21E of the Securities
Exchange Act of 1934, as amended (the "Exchange Act"), and Section 27A of the
Securities Act of 1933, as amended that involve risks, assumptions, and
uncertainties that are difficult to predict. All statements, other than
statements of historical fact, are statements that could be deemed
forward-looking statements, including without limitation: any projections of
revenues, earnings, cash flows, profit margins, capital expenditures, or other
financial items; any statement of plans, strategies, and objectives of
management for our business realignment or future operations; any statements
concerning proposed acquisition plans, new services or developments; any
statements regarding future economic or competitive conditions or performance;
and any statements of belief and any statement of assumptions underlying any
of
the foregoing. Words such as "believe," "may," "could," "expects," "hopes,"
"anticipates," and "likely," and variations of these words, or similar
expressions, are intended to identify such forward-looking statements. Actual
events or results could differ materially from those discussed in
forward-looking statements. Factors that could cause or contribute to such
differences include, but are not limited to, those discussed in the section
entitled "Item 1A. Risk Factors," set forth in our form 10-K for the year ended
December 31, 2006, as supplemented in Part II below.
All
such
forward-looking statements speak only as of the date of this Form
10-Q. You are cautioned not to place undue reliance on such
forward-looking statements. The Company expressly disclaims any
obligation or undertaking to release publicly any updates or revisions to any
forward-looking statements contained herein to reflect any change in the
Company's expectations with regard thereto or any change in the events,
conditions, or circumstances on which any such statement is based.
Executive
Overview
We
are
the tenth largest truckload carrier in the United States measured by fiscal
2006
revenue according to Transport Topics, a publication of the American
Trucking Associations. We focus on targeted markets where we believe our service
standards can provide a competitive advantage. Currently, we categorize our
business with five major transportation service offerings: Expedited long haul
service, Refrigerated service, Dedicated service, Covenant regional solo-driver
service, and Star regional solo-driver service. We are a major carrier for
transportation companies such as freight forwarders, less-than-truckload
carriers, and third-party logistics providers that require a high level of
service to support their businesses, as well as for traditional truckload
customers such as manufacturers and retailers. We also generate revenue through
a subsidiary that provides freight brokerage services.
On
September 14, 2006, we acquired 100% of the outstanding stock of Star, a
short-to-medium haul dry van regional truckload carrier based in Nashville,
Tennessee. Star's operating results have been accounted for in the Company's
consolidated condensed financial statements since the acquisition date. Star's
total revenue for the three months ended September 30, 2007 was $24.2 million,
representing approximately 13.8% of our consolidated total revenue. Star's
total
revenue for the nine months ended September 30, 2007 was $73.1 million,
representing approximately 14.1% of our consolidated total revenue.
For
the
nine months ended September 30, 2007, total revenue increased $22.1 million,
or
4.4%, to $519.6 million from $497.5 million in the 2006 period. Freight
revenue, which excludes revenue from fuel surcharges, increased $30.2 million,
or 7.3%, to $443.1 million in the 2007 period from $412.9 million in
the 2006 period. We experienced a net loss of $16.9 million, or
($1.21) per share, for the first nine months of 2007, compared with a net loss
of $0.5 million, or ($0.03) per share, for the first nine months of
2006.
For
the
nine months ended September 30, 2007, our average freight revenue per tractor
per week, our main measure of asset productivity, decreased 0.5%, to $3,043
compared to $3,058 in the same period of 2006. The decrease was primarily
generated by a 0.9% decrease in average miles per tractor, offset by a 0.4%
increase in average freight revenue per total mile. Weighted average tractors
increased 5.9% to 3,651 in the 2007 period from 3,448 in the 2006 period,
primarily as a result of the Star acquisition. The third quarter freight market
reflected a sustained decline in truck tonnage and continued numerous customer
requests for bid packages, resulting in continued pressure on freight rates
and
soft demand for capacity.
Our
after-tax costs
on a per-mile basis increased 6.1%, or $.083 per mile, compared with the first
nine months of 2006. The main factors were: a $.037 per mile increase in
depreciation and amortization expense (resulting primarily from the acquisition
of tangible and intangible assets of Star and a $5.0
million
reduction
in gain
on sale of property
and equipment);
a $.034 per mile increase in net fuel expense associated with an increase in
freight obtained through brokers, an increase in non-revenue miles, and less
compensatory fuel surcharge programs contracted with our customers; a $.015
per
mile increase in interest expense related primarily to the additional debt
from
the September 2006 acquisition of Star, as well as higher year-to-date average
interest rates; a $.010 per mile increase in insurance and claims; a $.010
per
mile increase in maintenance expense; a $.009 per mile increase in compensation
expense (driven primarily by increases in driver pay from better retention
of
experienced drivers, office salaries resulting from growth of our brokerage
subsidiary, and severance payments and additional headcount related to our
realignment efforts); and a $.005 per mile impairment charge related to our
decision to sell our corporate aircraft. These increases were partially
offset by a
$.037 per mile decrease in income tax expense.
For
the
three months ended September 30, 2007, results of each service offering included
the following, as compared to the results we had achieved for the three months
ended September 30, 2006:
●
|
Expedited
long haul service. We increased the fleet by approximately 8%, primarily
through the January 2007 assimilation of the former Covenant Refrigerated
service offering's team-driver trucks into this service offering.
The
Expedited service offering suffered from lower fuel surcharge collection
and a reduction in team drivers within this fleet, resulting in an
increase in solo-driver loads. Average freight revenue per truck
per week
declined by 4.7%, with
average
freight revenue per total mile down less than one percent
and miles down about 3.9%.
|
|
|
●
|
Refrigerated
service. In January 2007, we assimilated the single-driver trucks
from our
former Covenant Refrigerated service offering into our Southern
Refrigerated Transport ("SRT") service offering. The addition
of the unprofitable Covenant Refrigerated operations into SRT resulted
in
a deterioration of SRT's performance, primarily due to a significant
increase in freight from freight brokers and acceptance of new customer
contracts at lower rates to keep trucks loaded. SRT’s rates declined by
approximately $.02 per mile. Fuel surcharge recovery also suffered,
primarily led by the additional broker freight and an increase in
non-revenue miles from 9.8% to 10.3% of total miles. Since the
assimilation of the single-driver trucks from our Covenant Refrigerated
service offering, SRT has gradually reduced its dependency on broker
freight.
|
|
|
●
|
Dedicated
service. We increased the fleet by approximately 2%. Average revenue
per
truck was basically flat as we were able to maintain rates and miles
per
truck
in a
difficult freight environment.
|
|
|
●
|
Covenant
regional solo-driver service. We decreased the average fleet by
approximately 324 trucks or 37%. Average freight revenue per truck
declined 1.7%, due primarily to a 3.1% decrease in average freight
revenue
per total mile, partially offset by a 2.6% increase in average miles
per
truck. Fuel surcharge recovery also declined. Substantial additional
improvements are needed for this service offering to become
profitable.
|
|
|
●
|
Star
regional solo-driver service. On September 14, 2006, we acquired
100% of
the outstanding stock of Star, a short-to-medium haul dry van regional
truckload carrier based in Nashville, Tennessee. Star's total revenue
for
the quarter ended September 30, 2007 totaled approximately $24.2
million.
Especially soft freight demand in the southeastern United States,
where
Star’s lanes are concentrated, resulted in rate pressure, fewer
loaded miles, a larger percentage of unloaded miles, and reduced
fuel
surcharge collection, related in part, to greater reliance on brokered
freight.
|
|
|
●
|
Covenant
Transport Solutions’ brokerage freight service. Covenant Transport
Solutions has continued to grow through the addition of agents, who
are
paid a commission for each load of freight they provide. The number
of
loads increased to 2,580 from 985
loads
in the third quarter of 2006. Average revenue per load also increased
23.6% to $1,773 from $1,435 per load in the third quarter of 2006.
The brokerage operation has helped us continue to serve customers
when we lacked capacity in a given area or when the load has not
met the
operating profile of one of our service
offerings.
|
At
September 30, 2007, we had $172.1 million in stockholders' equity and $151.2
million in balance sheet debt for a total debt-to-capitalization ratio of 46.8%
and a book value of $12.27 per share.
Revenue
We
generate substantially all of our revenue by transporting freight for our
customers. Generally, we are paid by the mile or by the load for our
services. The main factors that affect our revenue are the revenue
per mile we receive from our customers, the percentage of miles for which we
are
compensated, the number of tractors operating, and the number of miles we
generate with our equipment. These factors relate to, among other
things, the U.S. economy, inventory levels, the level of truck capacity in
our
markets, specific customer demand, the percentage of team-driven tractors in
our
fleet, driver availability, and our average length of haul.
In
our trucking
operations, we
also
derive revenue from fuel surcharges, loading and unloading activities,
equipment detention, and other accessorial services. We measure revenue before
fuel surcharges, or "freight revenue," because we believe that fuel surcharges
tend to be a volatile source of revenue. We believe the exclusion of fuel
surcharges affords a more consistent basis for comparing the results of
operations from period to period.
In our
brokerage operations, we derive revenue from arranging loads for other
carriers.
We
operate tractors driven by a single driver and also tractors assigned to
two-person driver teams. Our single driver tractors generally operate
in shorter lengths of haul, generate fewer miles per tractor, and experience
more non-revenue miles, but the lower productive miles are expected to be offset
by generally higher revenue per loaded mile and the reduced employee expense
of
compensating only one driver. We expect operating statistics and expenses to
shift with the mix of single and team operations.
Expenses
and Profitability
The
main
factors that impact our profitability on the expense side are the variable
costs
of transporting,
and arranging
for the transportation of,
freight for our
customers. The variable costs include fuel expense, driver-related
expenses, such as wages, benefits, training, and recruitment, as well as
brokerage and independent contractor costs, which we record as purchased
transportation. Expenses that have both fixed and variable components include
maintenance and tire expense and our total cost of insurance and claims. These
expenses generally vary with the miles we travel, but also have a controllable
component based on safety, fleet age, efficiency, and other factors. Our main
fixed cost is the acquisition and financing of long-term assets, primarily
revenue equipment and operating terminals. In addition, we have other
mostly fixed costs, such as our non-driver personnel.
Our
business realignment presents numerous challenges and may result in volatile
financial performance or periods of unprofitable results. Fluctuations in
results may be ongoing as major activities within the realignment are expected
to continue throughout 2007. Looking ahead, our goals for the remainder of
2007 have changed substantially
since
the end of
the second quarter of 2007. Our
previous goal to post a small profit in the fourth quarter does not appear
to be
achievable as the economy, rates, and fuel surcharge collection are not expected
to improve substantially. We continue to caution that we are anticipating slow
and modest improvements given the current freight environment.
Revenue
Equipment
We
operate approximately 3,562 tractors and 8,744 trailers. Of our tractors, at
September 30, 2007, approximately 3,013 were owned, 433 were financed under
operating leases, and 116 were provided by independent contractors, who own
and
drive their own tractors. Of our trailers, at September 30, 2007, approximately
2,017 were owned and approximately 6,727 were financed under operating leases.
These leases generally run for a period of three years for tractors and five
to
seven years for trailers.
During
2006, we replaced approximately 2,000 tractors, or approximately 55% of our
Company-owned tractor fleet. This is a substantially greater percentage than
the
number of tractors we would normally have replaced and resulted in a substantial
increase over normal replacement capital expenditures. We increased our
purchases in 2006 to afford us flexibility to evaluate the cost and performance
of tractors equipped with engines that meet 2007 emissions requirements. We
continue to have a young fleet with an average tractor age of 1.7 years and
an
average trailer age of 3.1 years.
Independent
contractors (owner-operators) provide a tractor and a driver and are responsible
for all operating expenses in exchange for a fixed payment per mile. We do
not
have the capital outlay of purchasing the tractor. The payments to independent
contractors and the financing of equipment under operating leases are recorded
in revenue equipment rentals and purchased transportation. Expenses associated
with owned equipment, such as interest and depreciation, are not incurred,
and
for independent contractor-tractors, driver compensation, fuel, and other
expenses are not incurred. Because obtaining equipment from independent
contractors and under operating leases effectively shifts financing expenses
from interest to "above the line" operating expenses, we evaluate our efficiency
using net margin as well as operating ratio.
RESULTS
OF OPERATIONS
The
following table sets forth the percentage relationship of certain items to
total
revenue and freight revenue:
|
|
Three
Months
Ended
September
30,
|
|
|
|
Three
Months
Ended
September
30,
|
|
|
|
2007
|
|
|
2006
|
|
|
|
2007
|
|
|
2006
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating
expenses:
|
|
|
|
|
|
|
|
|
Operating
expenses:
|
|
|
|
|
|
|
|
|
Salaries,
wages, and related expenses
|
|
|
|
|
|
|
|
|
Salaries,
wages, and related expenses
|
|
|
|
|
|
|
|
|
Fuel
expense
|
|
|
30.0
|
%
|
|
|
29.9
|
%
|
Fuel
expense (1)
|
|
|
17.1
|
%
|
|
|
14.1
|
%
|
Operations
and maintenance
|
|
|
|
|
|
|
|
|
Operations
and maintenance
|
|
|
|
|
|
|
|
|
Revenue
equipment rentals and purchased
transportation
|
|
|
8.8
|
%
|
|
|
9.3
|
%
|
Revenue
equipment rentals and purchased
transportation
|
|
|
10.4
|
%
|
|
|
11.4
|
%
|
Operating
taxes and licenses
|
|
|
|
|
|
|
|
|
Operating
taxes and licenses
|
|
|
|
|
|
|
|
|
Insurance
and claims
|
|
|
4.8
|
%
|
|
|
4.7
|
%
|
Insurance
and claims
|
|
|
5.6
|
%
|
|
|
5.8
|
%
|
Communications
and utilities
|
|
|
|
|
|
|
|
|
Communications
and utilities
|
|
|
|
|
|
|
|
|
General
supplies and expenses
|
|
|
3.3
|
%
|
|
|
3.2
|
%
|
General
supplies and expenses
|
|
|
3.9
|
%
|
|
|
3.9
|
%
|
Depreciation
and amortization
|
|
|
|
|
|
|
|
|
Depreciation
and amortization
|
|
|
|
|
|
|
|
|
Asset
impairment charge
|
|
|
0.0
|
%
|
|
|
0.0
|
%
|
Asset
impairment charge
|
|
|
0.0
|
%
|
|
|
0.0
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating
income (loss)
|
|
|
(1.2
|
)%
|
|
|
2.0
|
%
|
Operating
income (loss)
|
|
|
(1.5
|
)%
|
|
|
2.5
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income
(loss) before income taxes
|
|
|
(2.8
|
)%
|
|
|
1.1
|
%
|
Income
(loss) before income taxes
|
|
|
(3.3
|
)%
|
|
|
1.4
|
%
|
Income
tax expense (benefit)
|
|
|
|
|
|
|
|
|
Income
tax expense (benefit)
|
|
|
|
|
|
|
|
|
Net
income (loss)
|
|
|
(2.0
|
)%
|
|
|
0.5
|
%
|
Net
income (loss)
|
|
|
(2.4
|
)%
|
|
|
0.6
|
%
|
(1)
|
Freight
revenue is total revenue less fuel surcharge revenue. Fuel
surcharge revenue is shown netted against the fuel expense category
($27.3
million and $32.5 million in the three months ended September 30,
2007 and
2006, respectively).
|
|
|
Nine
Months
Ended
June
30,
|
|
|
|
Nine
Months
Ended
June
30,
|
|
|
|
2007
|
|
|
2006
|
|
|
|
2007
|
|
|
2006
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating
expenses:
|
|
|
|
|
|
|
|
|
Operating
expenses:
|
|
|
|
|
|
|
|
|
Salaries,
wages, and related expenses
|
|
|
|
|
|
|
|
|
Salaries,
wages, and related expenses
|
|
|
|
|
|
|
|
|
Fuel
expense
|
|
|
29.0
|
%
|
|
|
29.1
|
%
|
Fuel
expense (2)
|
|
|
16.8
|
%
|
|
|
14.6
|
%
|
Operations
and maintenance
|
|
|
|
|
|
|
|
|
Operations
and maintenance
|
|
|
|
|
|
|
|
|
Revenue
equipment rentals and purchased
transportation
|
|
|
9.0
|
%
|
|
|
9.4
|
%
|
Revenue
equipment rentals and purchased
transportation
|
|
|
10.4
|
%
|
|
|
11.3
|
%
|
Operating
taxes and licenses
|
|
|
|
|
|
|
|
|
Operating
taxes and licenses
|
|
|
|
|
|
|
|
|
Insurance
and claims
|
|
|
5.6
|
%
|
|
|
5.0
|
%
|
Insurance
and claims
|
|
|
6.6
|
%
|
|
|
6.0
|
%
|
Communications
and utilities
|
|
|
|
|
|
|
|
|
Communications
and utilities
|
|
|
|
|
|
|
|
|
General
supplies and expenses
|
|
|
3.3
|
%
|
|
|
3.2
|
%
|
General
supplies and expenses
|
|
|
3.9
|
%
|
|
|
3.8
|
%
|
Depreciation
and amortization
|
|
|
|
|
|
|
|
|
Depreciation
and amortization
|
|
|
|
|
|
|
|
|
Asset
impairment charge
|
|
|
0.3
|
%
|
|
|
0.0
|
%
|
Asset
impairment charge
|
|
|
0.4
|
%
|
|
|
0.0
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating
income (loss)
|
|
|
(3.1
|
)%
|
|
|
1.4
|
%
|
Operating
income (loss)
|
|
|
(3.6
|
)%
|
|
|
1.6
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income
(loss) before income taxes
|
|
|
(4.7
|
)%
|
|
|
0.7
|
%
|
Income
(loss) before income taxes
|
|
|
(5.5
|
)%
|
|
|
0.8
|
%
|
Income
tax expense (benefit)
|
|
|
|
|
|
|
|
|
Income
tax expense (benefit)
|
|
|
|
|
|
|
|
|
Net
loss
|
|
|
(3.3
|
)%
|
|
|
(0.1
|
)%
|
Net
loss
|
|
|
(3.8
|
)%
|
|
|
(0.1
|
)%
|
(2)
|
Freight
revenue is total revenue less fuel surcharge revenue. Fuel
surcharge revenue is shown netted against the fuel expense category
($76.5
million and $84.6 million in the nine months ended September 30,
2007 and
2006, respectively).
|
COMPARISON
OF THREE MONTHS ENDED SEPTEMBER 30, 2007 TO THREE MONTHS ENDED
SEPTEMBER 30, 2006
For
the
quarter ended September 30, 2007, we experienced a net loss of $3.6 million
compared with a net gain of $0.8 million for the 2006 period. The
main factors in the loss were an approximately 2.2% decline in average freight
revenue per tractor per week combined with increases in net fuel cost,
maintenance, depreciation, and interest, offset by a decrease in workers’
compensation expense.
For
the
quarter ended September 30, 2007, total revenue decreased $0.9 million, or
0.5%,
to $175.8 million from $176.7 million in the 2006 period. Total revenue
includes $27.3 million and $32.5 million of fuel surcharge revenue in the 2007
and 2006 periods, respectively. For comparison purposes in the
discussion below, we use freight revenue (total revenue less fuel surcharge
revenue) when discussing changes as a percentage of revenue. We
believe removing this sometimes volatile source of revenue affords a more
consistent basis for comparing the results of operations from period to
period.
On
September 14, 2006, we acquired 100% of the outstanding stock of Star, a
short-to-medium haul dry van regional truckload carrier based in Nashville,
Tennessee. Star operates primarily in the southeastern United States, with
shipments concentrated from Texas across the Southeast to Virginia, and an
average length of haul of approximately 422 miles. We are operating
Star as a separate subsidiary, continuing with substantially the same personnel,
customers, lanes, and terminal locations as it had prior to our
acquisition. The acquisition included 614 tractors and 1,719
trailers. Star's operating results have been accounted for in the Company's
results of operations since the acquisition date. Star's total revenue for
the
quarter ended September 30, 2007 totaled approximately $24.2 million, which
is
included in our consolidated condensed statements of operations for the quarter
ended September 30, 2007. Star's cost structure is similar to that of our
additional operating subsidiaries, and therefore has a minimal impact on
expenses as a percentage of freight revenue.
Freight
revenue increased $4.4 million, or 3.0%, to $148.5 million in the three months
ended September 30, 2007, from $144.1 million in the same period of 2006. The
third quarter freight market reflected a sustained decline in truck tonnage
and
numerous requests for bid packages which continued through the quarter. As
a
result, average freight revenue per tractor per week, our main measure of asset
productivity, decreased 2.2%, to $3,054 in the three months ended September
30,
2007, compared to $3,123 in the same period of 2006, as average miles per
tractor decreased 2.4%. This decrease was slightly offset by a 0.2% increase
in
average freight revenue per total mile. Weighted average tractors increased
3.1%
to 3,586 in the 2007 period from 3,479 in the 2006 period. Excluding Star,
we downsized our tractor fleet with the goal of achieving greater fleet
utilization and improved profitability. In general, excluding Star, the
changes in freight mix as a result of the realignment expanded the portions
of
our business with more miles per tractor, and generally lower rate
structures,
while shrinking the regional service offering, which had the highest rate
structure but significantly lower miles per tractor. The lackluster freight
environment continued to impact every subsidiary and service
offering.
Salaries,
wages, and related expenses decreased $1.2 million, or 1.9%, to $65.6 million
in
the 2007 period, from $66.9 million in the 2006 period. As a percentage of
freight revenue, salaries, wages, and related expenses decreased to 44.2% in
the
2007 period, from 46.4% in the 2006 period. Driver pay increased $0.9
million to $46.8 million in the 2007 period, from $45.9 million in the 2006
period
as
improved driver retention resulted in higher wages for more experienced
drivers. This resulted in slightly increased driver pay on a cost per
mile basis of 1.1% in the 2007 period over the 2006 period. Our employee
benefits, decreased $2.0 million to $7.0 million in the 2007 period from
$9.0 million in the 2006 period, almost entirely attributable to favorable
workers’ compensation exposure.
Fuel
expense, net of fuel surcharge revenue of $27.3 million in the 2007 period
and
$32.5 million in the 2006 period, increased $5.1 million, or 25.0%, to $25.4
million in the 2007 period, from $20.3 million in the 2006 period. As a
percentage of freight revenue, net fuel expense increased to 17.1% in the
2007 period from 14.1% in the 2006 period. Diesel fuel prices were up
approximately $0.07 per gallon compared to the 2006 period. Fuel surcharges
amounted to $0.26 per total mile in the 2007 period and $0.31 in the same period
2006. In the 2007 period, we had a lower surcharge collection rate due primarily
to three factors: 1) the increase in freight obtained through brokers, 2) less
compensatory fuel surcharge programs, and 3) an increase in the percentage
of
non-revenue miles, due to the decrease in freight demand. Our total miles
increased approximately 0.6% while our fuel surcharge revenue
decreased 16.2%. The resulting net effect was that our fuel expense, net of
surcharge, increased approximately $.05 per mile
versus the
2006 period, a negative impact of $0.22 per share. Fuel costs may be affected
in
the future by price fluctuations, volume purchase commitments, the terms
and collectibility of fuel surcharges, the percentage of miles driven by
independent contractors, and lower fuel mileage due to government mandated
emissions standards that have resulted in less fuel efficient
engines.
Operations
and maintenance, consisting primarily of vehicle maintenance, repairs, and
driver recruitment expenses, increased $1.8 million to $10.9 million in the
2007
period from $9.1 million in the 2006 period. As a percentage of
freight revenue, operations and maintenance increased to 7.3% in the 2007 period
from 6.3% in the 2006 period because of increased tire expense and additional
maintenance expense related to an increase in the average age of our fleet,
primarily related to Star’s longer trade cycles.
Revenue
equipment rentals and purchased transportation decreased $1.1 million, or 6.4%,
to $15.4 million in the 2007 period, from $16.5 million in the 2006
period. As a percentage of freight revenue, revenue equipment rentals
and purchased transportation expense decreased to 10.4% in the 2007 period
from
11.4% in the 2006 period. Payments to third-party transportation providers
from
our brokerage subsidiary were $3.6 million in the 2007 period, compared to
$1.2
million in the 2006 period. Tractor and trailer equipment rental and other
related expenses decreased $3.1 million, to $7.5 million compared with $10.6
million in the same period of 2006. We had financed approximately 433 tractors
and 6,727 trailers under operating leases at September 30, 2007, compared with
1,008 tractors and 7,647 trailers under operating leases at September 30, 2006.
Payments to independent contractors decreased $0.5 million, or 9.4%, to $4.2
million in the 2007 period from $4.7 million in the 2006 period, mainly due
to a
slight decrease in the independent contractor fleet.
Operating
taxes and licenses remained essentially constant at $3.5 million in the 2007
period and $3.4 million in the 2006 period. As a percentage of freight revenue,
operating taxes and licenses remained essentially constant at 2.4% for 2007
and
2006, respectively.
Insurance
and claims, consisting primarily of premiums and deductible amounts for
liability, physical damage, and cargo damage claims, remained constant at $8.4
million in the 2007 period and the 2006 period. As a percentage of freight
revenue, insurance and claims decreased to 5.6% in the 2007 period from 5.8%
in
the 2006 period. Excluding any unforeseen unfavorable development of cases,
we
expect insurance and claims expense to continue at a range of $.075 to $.09
per mile for the last quarter of 2007.
In
general, for casualty claims, we have insurance coverage up to $50.0 million
per
claim. For the 2006 period, we were self-insured for personal injury and
property damage claims for amounts up to $2.0 million per occurrence, subject
to
an additional $2.0 million self-insured aggregate amount, which resulted in
total self-insured retention of up to $4.0 million until the $2.0 million
aggregate threshold was reached. We renewed our casualty program as of February
28, 2007. In conjunction with the renewal, we are self-insured for personal
injury and property damage claims for amounts up to the first $4.0 million.
We
are self-insured for cargo loss and damage claims for amounts up to $1.0 million
per occurrence. Insurance and claims expense varies based on the frequency
and
severity of claims, the premium expense, and the level of self-insured
retention, the development of claims over time, and other factors. With our
significant self-insured retention, insurance and claims expense may fluctuate
significantly from period to period, and any increase in frequency or severity
of claims could adversely affect our financial condition and results of
operations.
Communications
and utilities expense decreased to $1.7 million in the 2007 period from $1.8
million in the 2006 period. As a percentage of freight revenue,
communications and utilities remained constant at 1.2% in the 2007 and 2006
periods, respectively.
General
supplies and expenses, consisting primarily of headquarters and other terminal
facilities expenses, increased $0.1 million to $5.8 million in the 2007
period from $5.7 million in the 2006 period. As a percentage of freight revenue,
general supplies and expenses remained constant at 3.9% in the 2007 and 2006
periods, respectively.
Depreciation
and amortization, consisting primarily of depreciation of revenue equipment,
increased $5.3 million, or 61.8%, to $13.9 million in the 2007 period from
$8.6 million in the 2006 period. As a percentage of freight revenue,
depreciation and amortization increased to 9.4% in the 2007 period from 6.0%
in
the 2006 period. The increase related to several factors, including: an increase
in the number of owned tractors and trailers in the 2007 period; a softer market
for used equipment resulting in a loss of $1.2 million in the 2007 period
compared to a gain of $1.2 million in the 2006 period; and increased
amortization expense of $0.4 million related to the identifiable intangibles
acquired with our Star acquisition on September 14, 2006. Depreciation and
amortization expense is net of any gain or loss on the disposal of tractors
and
trailers.
The
other
expense category includes interest expense, interest income, and pre-tax
non-cash gains or losses related to the accounting for interest rate derivatives
under SFAS No. 133. Other expense, net, increased $1.2 million, to
$2.8 million in the 2007 period from $1.6 million in the 2006 period. The
increase relates primarily to increased net interest expense of $1.6 million
resulting from the additional borrowings related to the Star acquisition, along
with
increased average interest rates. However a portion of this increase has been
offset by a reduction in overall balance sheet debt since the Star
acquisition.
Our
income tax benefit was $1.3 million for the 2007 period compared to income
tax
expense of $1.1 million for the 2006 period. The effective tax rate is different
from the expected combined tax rate as a result of permanent differences
primarily related to a per diem pay structure implemented in
2001. Due to the nondeductible effect of per diem, our tax rate will
fluctuate in future periods as income fluctuates.
Primarily
as a result of the factors described above, we experienced a net loss of $3.6
million in the 2007 period, while the 2006 period had net income of $0.8
million. As a result of the foregoing, our net income (loss) as a percentage
of
freight revenue deteriorated to (2.4%) in the 2007 period from 0.6% in the
2006 period.
COMPARISON
OF NINE MONTHS ENDED SEPTEMBER 30, 2007 TO NINE MONTHS ENDED SEPTEMBER 30,
2006
For
the
nine months ended September 30, 2007, total revenue increased $22.1 million,
or
4.4%, to $519.6 million from $497.5 million in the 2006
period. Total revenue includes $76.6 million and $84.6 million of
fuel surcharge revenue in the 2007 and 2006 periods,
respectively. For comparison purposes in the discussion below, we use
freight revenue (total revenue less fuel surcharge revenue) when discussing
changes as a percentage of revenue. We believe removing this
sometimes volatile source of revenue affords a more consistent basis for
comparing the results of operations from period to period.
On
September 14, 2006, we acquired 100% of the outstanding stock of Star, a
short-to-medium haul dry van regional truckload carrier based in Nashville,
Tennessee. Star operates primarily in the southeastern United States, with
shipments concentrated from Texas across the Southeast to Virginia, and an
average length of haul of approximately 422 miles. We are operating
Star as a separate subsidiary, continuing with substantially the same personnel,
customers, lanes and terminal locations as it had prior to our
acquisition. The acquisition included 614 tractors and 1,719
trailers. Star's operating results have been accounted for in the Company's
results of operations since the acquisition date. Star's total revenue for
the
nine months ended September 30, 2007 totaled approximately $73.1 million, which
is included in our consolidated condensed statements of operations for the
nine
months ended September 30, 2007. Star's cost structure is similar to that of
our
additional operating subsidiaries, and therefore has a minimal impact on
expenses as a percentage of freight revenue.
Freight
revenue increased $30.2 million or 7.3% to $443.1 million in the nine months
ended September 30, 2007 from $412.9 million in the same period of 2006. Average
freight revenue per tractor per week, our primary measure of asset productivity,
decreased 0.5% to $3,043 in the 2007 period from $3,058 in the 2006 period.
The
decrease was primarily generated by a 0.9% decrease in average miles per
tractor, partially offset by a 0.4% increase in our average freight revenue
per
total mile. Excluding Star, we downsized our tractor fleet with the goal of
achieving greater fleet utilization and improved profitability. In
general, excluding Star, the changes in freight mix as a result of the
realignment expanded the portions of our business with more miles per tractor,
and generally lower rate structures, while shrinking the regional service
offering, which had the highest
rate
structure but significantly lower miles per tractor. The
lackluster
freight environment continued to impact every subsidiary and service
offering.
Salaries,
wages, and related expenses increased $12.2 million, or 6.5%, to $202.2 million
in the 2007 period, from $190.0 million in the 2006 period. As a percentage
of
freight revenue, salaries, wages, and related expenses decreased to 45.6% in
the
2007 period, from 46.0% in
the 2006
period. Driver pay increased $10.2 million to $140.5 million in the 2007 period
from $130.3 million in the 2006 period as improved driver retention resulted
in
higher wages for more experienced drivers. This resulted in increased
driver pay on a cost per mile basis of 2.3% in the 2007 period over the 2006
period. The increase was largely attributable to improved driver retention
that
resulted in higher wages for more experienced drivers. Our employee benefits,
decreased $1.4 million to $25.8 million in the 2007 period from $27.2
million in the 2006 period, attributable to favorable health insurance expense
of $1.5 million and reduced workers’ compensation exposure resulting in a $0.9
million reduction in related expense, offset by increased payroll taxes of
$1.1
million related to increased salaries and wages. These benefit expenses
decreased to 5.8% of freight revenue in the 2007 period from 6.6% of freight
revenue in the 2006 period.
Fuel
expense, net of fuel surcharge revenue of $76.5 million in the 2007 period
and
$84.6 million in the 2006 period, increased $13.8 million to $74.3 million
in
the 2007 period from $60.5 million in the 2006 period. As a percentage of
freight revenue, net fuel expense increased to 16.8% in the 2007 period from
14.6% in the 2006 period. Fuel surcharges amounted to $0.24 per total mile
in
the 2007 period compared to $0.28 per total mile in the 2006 period. In the
2007
period, we had a lower surcharge collection rate due primarily to three factors:
1) the increase in freight obtained through brokers, 2) less
compensatory
fuel surcharge programs, and 3) an increase in the percentage of
non-revenue miles, due to the decrease in freight demand. Our total miles
increased approximately 4.9% while our fuel surcharge revenue
decreased 9.6%. The resulting net effect was that our fuel expense, net of
surcharge, increased approximately $.03 per mile. Fuel costs may be affected
in
the future by price fluctuations, volume purchase commitments, the terms and
collectibility of fuel surcharges, the percentage of miles driven by independent
contractors, and lower fuel mileage due to government mandated emissions
standards that have resulted in less fuel efficient engines.
Operations
and maintenance, consisting primarily of vehicle maintenance, repairs, and
driver recruitment expenses, increased $4.6 million to $30.9 million in the
2007
period from $26.3 million in the 2006 period. As a percentage of
freight revenue, operations and maintenance increased to 7.0% in the 2007 period
from 6.4% in the 2006 period. The increase resulted in part from
higher unloading costs, tractor and trailer maintenance costs, and tire expense,
but was offset by reduced driver recruiting expense and tolls.
Revenue
equipment rentals and purchased transportation increased $0.1 million, or 0.3%,
to $46.7 million in the 2007 period, from $46.6 million in the 2006
period. As a percentage of freight revenue, revenue equipment rentals
and purchased transportation expense decreased to 10.5% in the 2007 period
from 11.3% in the 2006 period. Payments to third-party transportation providers
primarily from our brokerage subsidiary were $8.6 million in the 2007 period,
compared to $1.5 million in the 2006 period. Tractor and trailer equipment
rental and other related expenses decreased $5.7 million, to $25.0 million
in
the 2007 period compared with $30.7 million in the same period of 2006. We
had
financed approximately 433 tractors and 6,727 trailers under operating leases
at
September 30, 2007, compared with 1,008 tractors and 7,647 trailers under
operating leases at September 30, 2006. Payments to independent contractors
decreased $1.2 million to $13.1 million in the 2007 period from $14.3 million
in
the 2006 period, mainly due to a decrease in the independent contractor
fleet.
Operating
taxes and licenses increased $0.7 million, or 6.6%, to $10.9 million in the
2007
period, from $10.2 million in the 2006 period. As a percentage of freight
revenue, operating taxes and licenses remained constant at 2.5% in the 2007
and
2006 periods.
Insurance
and claims, consisting primarily of premiums and deductible amounts for
liability, physical damage, and cargo damage insurance and claims, increased
$4.3 million, or 17.6%, to approximately $29.1 million in the 2007 period from
approximately $24.8 million in the 2006 period. As a percentage of freight
revenue, insurance and claims increased to 6.6% in the 2007 period from 6.0%
in
the 2006 period. The increase was a result of unfavorable developments on two
large claims where new information became available and the claims were
ultimately settled during the second quarter, increasing our accrual for
casualty claims by $5.2 million. The underlying claims had occurred in 2004
and 2005. In contrast to these two settlements, our frequency and severity
of
accidents during the 2007 period has improved versus the 2006
period.
In
general, for casualty claims, we have insurance coverage up to $50.0 million
per
claim. For the 2006 period and through February 28, 2007, we were self-insured
for personal injury and property damage claims for amounts up to $2.0 million
per occurrence, subject to an additional $2.0 million self-insured aggregate
amount, which resulted in total self-insured retention of up to $4.0 million
until the $2.0 million aggregate threshold was reached. We renewed our casualty
program as of February 28, 2007. In conjunction with the renewal, we are
self-insured for personal injury and property damage claims for amounts up
to
the first $4.0 million. We are self-insured for cargo loss and damage claims
for
amounts up to $1.0 million per occurrence. Insurance and claims expense varies
based on the frequency and severity of claims, the premium expense, and the
level of self-insured retention, the development of claims over time, and other
factors. With our significant self-insured retention, insurance and claims
expense may fluctuate significantly from period to period, and any increase
in
frequency or severity of claims could adversely affect our financial condition
and results of operations.
Communications
and utilities expense increased $0.8 million to $5.7 million in the 2007 period
from $4.9 million in the 2006 period. As a percentage of freight
revenue, communications and utilities remained essentially constant at 1.3%
and 1.2% in the 2007 and 2006 periods, respectively.
General
supplies and expenses, consisting primarily of headquarters and other terminal
facilities expenses, increased $1.6 million to $17.3 million in the 2007 period
from $15.7 million in the 2006 period. As a percentage of freight revenue,
general supplies and expenses increased slightly to 3.9% in the 2007 period
from
3.8% in the 2006 period. Of this increase, $0.7 million was for additional
building rent paid on our headquarters building and surrounding property in
Chattanooga, Tennessee for which we completed a sale leaseback transaction
effective April 2006, as described more fully in the following paragraph. Sales
agent commissions, primarily from our growing brokerage subsidiary, increased
$0.5 million to $0.6 million in the 2007 period, compared to $0.1 million in
the
2006 period.
In
April
2006, we entered into a sale leaseback transaction involving our corporate
headquarters, a maintenance facility, and approximately forty-six acres of
surrounding property in Chattanooga, Tennessee
(collectively,
the "Headquarters Facility").
We
received proceeds of approximately $29.6 million from the sale of the
Headquarters Facility, which we used to pay down borrowings under our Credit
Facility and to purchase revenue equipment. In the transaction, we entered
into
a twenty-year lease agreement, whereby we will lease back the Headquarters
Facility at an annual rental rate of approximately $2.5 million, subject to
annual rent increases of 1.0%, resulting in annual straight-line rental expense
of approximately $2.7 million. The transaction resulted in a gain of
approximately $2.4 million, which is being amortized ratably over the life
of
the lease and recorded as an offset to general supplies and expenses
(specifically to building rent) on our consolidated condensed statements of
operations.
Depreciation
and amortization, consisting primarily of depreciation of revenue equipment,
increased $13.1 million, or 48.2%, to $40.3 million in the 2007 period from
$27.2 million in the 2006 period. As a percentage of freight revenue,
depreciation and amortization increased to 9.1% in the 2007 period from 6.6%
in
the 2006 period. The increase related to several factors, including: an increase
in the number of owned tractors and trailers in the 2007 period; a softer
market for used equipment resulting in a loss of $2.1 million in the 2007 period
compared to a gain of $2.9 million in the 2006 period; and increased
amortization expense of $1.1 million related to the identifiable intangibles
acquired with our Star acquisition on September 14, 2006. Depreciation and
amortization expense is net of any gain or loss on the disposal of tractors
and
trailers.
The
asset
impairment charge relates to our decision to sell our corporate aircraft to
reduce ongoing operating costs. We recorded an impairment charge of $1.7
million, reflecting the unfavorable fair market value of the airplane as
compared to the combination of the estimated payoff of the long-term operating
lease and current book value of related airplane leasehold
improvements.
The
other
expense category includes interest expense, interest income, and pre-tax
non-cash gains or losses related to the accounting for interest rate derivatives
under SFAS No. 133. Other expense, net, increased $5.0 million, to
$8.4 million in the 2007 period from $3.4 million in the 2006 period. The
increase relates primarily to increased net interest expense of $4.9 million
resulting from the additional borrowings related to the Star acquisition, along
with increased average interest rates. However a portion of this increase has
been offset by a reduction in overall balance sheet debt since the Star
acquisition.
Our
income tax benefit was $7.5 million for the 2007 period compared to income
tax
expense of $3.9 million for the 2006 period. The effective tax rate is different
from the expected combined tax rate as a result of permanent differences
primarily related to a per diem pay structure implemented in
2001. Due to the nondeductible effect of per diem, our tax rate will
fluctuate in future periods as income fluctuates. In addition, we received
a net
tax benefit compared with the 2006 period because we reversed a contingent
tax
accrual effective March 31, 2007, based on the recommendation by an IRS appeals
officer that the IRS concede a case in our favor. This concession
resulted in recognition of approximately $0.4 million of income tax benefit
for
the nine months ended September 30, 2007.
Primarily
as a result of the factors
described above, net income decreased
approximately $16.4 million to a net
loss of $16.9 million in the 2007 period from a net loss of $0.5 million in
the
2006 period.
LIQUIDITY
AND CAPITAL
RESOURCES
Our
business requires significant capital investments over the short-term and the
long-term. In recent years, we have financed our capital requirements
with borrowings under our Securitization Facility and Credit Facility, cash
flows from operations, long-term operating leases, and secured installment
notes
with finance companies. Our primary sources of liquidity at September
30, 2007, were funds provided by operations, proceeds from the sale of used
revenue equipment, proceeds under the Securitization Facility, borrowings under
our Credit Facility, borrowings from secured installment notes (each as defined
in Note 10 to our consolidated condensed financial statements contained
herein), and operating leases of revenue equipment. Based
on our
expected financial condition, results of operation, and net cash flows during
the next twelve months, which contemplate an improvement compared with the
past
twelve months, we
believe our
sources of liquidity will be adequate to meet our current and projected
needs for at least the next twelve months. On a longer term basis, based on
anticipated
financial
condition, results of operations, and
cash
flows, continued availability under our Credit Facility and Securitization
Facility, and sources of financing that we expect will be available to us,
we do
not expect to experience material liquidity constraints in the foreseeable
future.
Cash
Flows
Net
cash
provided by operating activities was $18.1 million in the 2007 period and $41.3
million in the 2006 period. Our cash from operating activities was lower in
2007
primarily due to our net loss, less efficient collection of receivables which
resulted in an approximately $8.4 million reduction in cash from operating
activities in the 2007 period, the payment of our prepaid casualty insurance
premiums. During the 2007 period, we paid one year of prepaid casualty
insurance premiums equaling $3.8 million, while in the 2006 period all of our
prepaid casualty insurance premiums had been paid as part of a two-year policy
that began in 2005.
Net
cash
used in investing activities was $8.8 million in the 2007 period and $83.4
million in the 2006 period. The 2007 period cash outflows were primarily
related to net purchases of property and equipment. In the 2006 period, $39.0
million was used for the acquisition of Star and $74.0 million was used for
net
purchases of property and equipment, which was offset by the $29.6 million
of
proceeds from the April 2006 sale leaseback transaction of our Headquarters
Facility. Assuming that we proceed as planned with minimal new tractor and
trailer purchase activity during 2007, that we dispose of assets held for sale
during 2007 at expected prices, and that we do not complete any business
acquisitions, we expect our capital expenditures, net of proceeds of
dispositions, to drop to a range of $10 million to $15 million for fiscal 2007
from $100 million in fiscal 2006.
Net
cash
used in financing activities was $10.4 million in the 2007 period, as we used
the proceeds from equipment sales to pay down Credit Facility and Securitization
Facility debt. Net cash provided by financing activities was $46.8 million
in
the 2006 period, primarily used for the acquisition of Star on September 14,
2006. At September 30, 2007, the Company had outstanding balance sheet debt
of
$151.2 million, consisting of $90.0 million drawn under the Credit Facility,
approximately $53.4 million from the Securitization Facility, and $7.9 million
from revenue equipment installment notes. Weighted average interest rates on
this debt range from 5.6% to 7.0% as of September 30, 2007.
We
have a
stock repurchase plan for up to 1.3 million Company shares to be purchased
in
the open market or through negotiated transactions subject to criteria
established by the Board. No shares were purchased under this plan
during the first nine months of 2007. At September 30, 2007, there
were 1,154,100 shares still available to purchase under the guidance of this
plan. The stock repurchase plan expires June 30, 2008.
Material
Debt Agreements
In
December 2006, the Company entered into our Credit Facility with a group of
banks. The Credit Facility matures in December 2011. The Company signed
Amendment No. 1 to the Credit Facility on August 28, 2007, which, among other
revisions, modified the financial covenants to levels better aligned with the
Company’s expected ability to maintain compliance
and
granted and expanded the security interest to include, with limited exceptions,
then owned revenue equipment, as well as revenue equipment acquired
subsequently utilizing proceeds from the Credit Facility. Borrowings under
the
Credit Facility are based on the banks' base rate, which floats daily, or
LIBOR, which accrues interest based on one, two, three, or six month LIBOR
rates
plus an applicable margin that is adjusted quarterly between 0.875% and 2.250%
based on a leverage ratio, which is generally defined as the ratio of
borrowings, letters of credit, and the present value of operating lease
obligations to our earnings before interest, income taxes, depreciation,
amortization, and rental payments under operating leases (the applicable margin
was 1.875% at September 30, 2007). At September 30, 2007, the Company had
borrowings outstanding under the Credit Facility totaling $90.0 million, with
a
weighted average interest rate of 6.975%. The Credit Facility is guaranteed
by
the Company and all of its subsidiaries, except CRC and Volunteer Insurance
Limited.
The
Credit Facility has a maximum borrowing limit of $200.0 million with an
accordion feature which permits an increase up to a maximum borrowing limit
of
$275.0 million. Borrowings related to revenue equipment are limited to the
lesser of 90% of net book value of revenue equipment or the maximum borrowing
limit. Letters of credit are limited to an aggregate commitment of $100.0
million. As amended, the Credit
Facility
is secured by a pledge of the stock of most of the Company's subsidiaries and
certain owned revenue equipment, as well as revenue equipment acquired
subsequently utilizing proceeds from the Credit Facility. A commitment fee,
which is adjusted quarterly between 0.175% and 0.500% per annum based on
a leverage ratio, which is generally defined as the ratio of borrowings, letters
of credit, and the present value of operating lease obligations to our earnings
before interest, income taxes, depreciation, amortization, and rental payments
under operating leases, is due on the daily unused portion of the Credit
Facility. At September 30, 2007 and December 31, 2006, the Company had undrawn
letters of credit outstanding of approximately $66.1 million and $60.1 million,
respectively. As of September 30, 2007, the Company had approximately $27.4
million of available borrowing capacity.
In
December 2000, the Company entered into our Securitization Facility. On a
revolving basis, the Company sells its interests in its accounts receivable
to
CRC, a wholly-owned, bankruptcy-remote, special-purpose subsidiary incorporated
in Nevada. CRC sells a percentage ownership in such receivables to unrelated
financial entities. The Company can receive up to $70.0 million of proceeds,
subject to eligible receivables, and pay a service fee recorded as interest
expense, based on commercial paper interest rates plus an applicable margin
of
0.44% per annum and a commitment fee of 0.10% per annum on the daily
unused portion of the Securitization Facility. The net proceeds under the
Securitization Facility is shown as a current liability because the term,
subject to annual renewals, is 364 days. As of September 30, 2007 and December
31, 2006, the Company had $53.4 million and $57.3 million in outstanding current
liabilities related to the Securitization Facility, respectively, with weighted
average interest rates of 5.89% for the 2007 period and 5.33% for 2006. CRC
does
not meet the requirements for off-balance sheet accounting; therefore, it is
reflected in the consolidated condensed financial statements.
The
Credit Facility and Securitization Facility contain certain restrictions and
covenants relating to, among other things, dividends, tangible net worth, cash
flow coverage, acquisitions and dispositions, and total indebtedness. Although
certain defaults under the Securitization Facility create a default under the
Credit Facility, a default under the Credit Facility does not create a default
under the Securitization Facility. We were in compliance with the
covenants as of September 30, 2007.
OFF-BALANCE
SHEET ARRANGEMENTS
Operating
leases have been an important source of financing for our revenue equipment,
computer equipment, the Company airplane, and certain real estate. At September
30, 2007, we had financed approximately 433 tractors and 6,727 trailers
under operating leases. Vehicles held under operating leases are not
carried on our consolidated condensed balance sheets, and lease payments in
respect of such vehicles are reflected in our consolidated condensed statements
of operations in the line item "Revenue equipment rentals and purchased
transportation." Our revenue equipment rental expense was
$25.0 million for the 2007 period, compared to $30.7 million for the 2006
period. The total amount of remaining payments under operating leases
as of September 30, 2007, was approximately $138.9 million. In
connection with various operating leases, we issued residual value guarantees,
which provide that if we do not purchase the leased equipment from the lessor
at
the end of the lease term, we are liable to the lessor for an amount equal
to
the shortage (if any) between the proceeds from the sale of the equipment and
an
agreed value. As of September 30, 2007, the maximum amount of the
residual value guarantees was approximately $33.1 million. To
the extent the expected value at the lease termination date is lower than the
residual value guarantee, we would accrue for the difference over the remaining
lease term. We believe that proceeds from the sale of equipment under operating
leases would exceed the payment obligation on substantially all operating
leases.
CRITICAL
ACCOUNTING POLICIES AND ESTIMATES
The
preparation of financial statements in conformity with accounting principles
generally accepted in the United States of America requires us to make decisions
based upon estimates, assumptions, and factors we consider as relevant to the
circumstances. Such decisions include the selection of applicable accounting
principles and the use of judgment in their application, the results of which
impact reported amounts and disclosures. Changes in future economic conditions
or other business circumstances may affect the outcomes of our estimates and
assumptions. Accordingly, actual results could differ from those anticipated.
A
summary of the significant accounting policies followed in preparation of the
consolidated condensed financial statements is contained in Note 1 of the
consolidated financial statements contained in our annual report on Form 10-K
for the fiscal year ended December 31, 2006. The following discussion addresses
our most critical accounting policies, which are those that are both important
to the portrayal of our financial condition and results of operations and that
require significant judgment or use of complex estimates.
Our
critical accounting policies include the following:
Revenue
Recognition – Revenue, drivers' wages and other direct operating expenses are
recognized on the date shipments are delivered to the customer. Revenue includes
transportation revenue, fuel surcharges, loading and unloading activities,
equipment detention, and other accessorial services.
Depreciation
of Revenue Equipment – Depreciation is determined using the straight-line method
over the estimated useful lives of the assets and was approximately $34.5
million on tractors and trailers in the first nine months of
2007. Depreciation of revenue equipment is our largest item of
depreciation. We generally depreciate new tractors (excluding day
cabs) over five years to salvage values of 7% to 26% and new trailers over
seven
to ten years to salvage values of 22% to 39%. We annually review the
reasonableness of our estimates regarding useful lives and salvage values of
our
revenue equipment and other long-lived assets based upon, among other things,
our experience with similar assets, conditions in the used revenue equipment
market, and prevailing industry practice. Changes in our useful life
or salvage value estimates, or fluctuations in market values that are not
reflected in our estimates, could have a material effect on our results of
operations. Gains and losses on the disposal of revenue equipment are included
in depreciation expense in our consolidated condensed statements of
operations.
Revenue
equipment and other long-lived assets are tested for impairment whenever an
event occurs that indicates an impairment may exist. Expected future
cash flows are used to analyze whether an impairment has occurred. If the sum
of
expected undiscounted cash flows is less than the carrying value of the
long-lived asset, then an impairment loss is recognized. We measure
the impairment loss by comparing the fair value of the asset to its carrying
value. Fair value is determined based on a discounted cash flow
analysis or the appraised value of the assets, as appropriate. During the
quarter ended June 30, 2007, related to our decision to sell our corporate
aircraft, we recorded an impairment charge of $1.7 million, reflecting the
unfavorable market value of the airplane as compared to the combination of
the
estimated payoff of the long-term operating lease and current net book value
of
related airplane leasehold improvements.
Assets
Held for Sale - Assets held for sale include property and revenue equipment
no
longer utilized in continuing operations which is available and held for
sale. Assets held for sale are no longer subject to depreciation, and
are recorded at the lower of depreciated book value plus the related costs
to
sell or fair market value less selling costs. We periodically review the
carrying value of these assets for possible impairment. We expect to sell these
assets within twelve months.
Accounting
for Investments - Effective
July 1, 2000, we combined our logistics business with the logistics businesses
of five other transportation companies into a company called Transplace, Inc
("Transplace"). Transplace operates a global transportation logistics service.
In the transaction, we contributed our logistics customer list, logistics
business software and software licenses, certain intellectual property,
intangible assets totaling approximately $5.1 million, and
$5.0 million in cash for the initial funding of the venture, in exchange
for 12.4% ownership. We account for our investment using the cost method of
accounting, with the investment included in other assets. We continue to
evaluate our cost method investment in Transplace
for impairment
due to declines considered to be other than temporary. This impairment
evaluation includes general economic and company-specific evaluations. If we
determine that a decline in the cost value of this investment is other than
temporary, then a charge to earnings will be recorded to other (income) expenses
in our consolidated statements of operations for all or a portion of the
unrealized loss, and a new cost basis in the investment will be established.
As
of September 30, 2007, no such charge had been recorded. However, we have
continued to assess this investment for impairment as our evaluation of the
value of this investment had been steadily declining prior to the first quarter
of 2007, at which time Transplace’s cash flow improvements have
steadied this decline. As such, we do not currently believe that an impairment
charge will be warranted in the near term. We will continue to evaluate this
investment for impairment on a quarterly basis. Also, during the
first quarter of 2005, the Company loaned Transplace approximately $2.7 million.
The 6% interest-bearing note receivable matures January 2009, an extension
of
the original January 2007 maturity date. Based on the borrowing availability
of
Transplace, we do not believe there is any impairment of this note
receivable.
Accounting
for Business Combinations - In accordance with business combination accounting,
we allocate the purchase price of acquired companies to the tangible and
intangible assets acquired, and liabilities assumed based on their estimated
fair values. We engage third-party appraisal firms to assist management in
determining the fair values of certain assets acquired. Such valuations require
management to make significant estimates and assumptions, especially with
respect to intangible assets. Management makes estimates of fair value based
upon historical experience, as well as information obtained from the management
of the acquired companies and are inherently uncertain. Unanticipated events
and
circumstances may occur which may affect the accuracy or validity of such
assumptions, estimates or actual results. In certain business combinations
that
are treated as a stock purchase for income tax purposes, we must record deferred
taxes relating to the book versus tax basis of acquired assets and liabilities.
Generally, such business combinations result in deferred tax liabilities as
the
book values are reflected at fair values whereas the tax basis is carried over
from the acquired company. Such deferred taxes are initially
estimated based on preliminary information and are subject to change as
valuations and tax returns are finalized.
Insurance
and Other Claims – The primary claims arising against us consist of cargo
liability, personal injury, property damage, workers' compensation, and employee
medical expenses. Our insurance program involves self-insurance with
high-risk retention levels. Because of our significant self-insured
retention amounts, we have significant exposure to fluctuations in the number
and severity of claims and to variations between our estimated and actual
ultimate payouts. We accrue the estimated cost of the uninsured
portion of pending claims. Our estimates require judgments concerning
the nature and severity of the claim, historical trends, advice from third-party
administrators and insurers, the size of any potential damage award based on
factors such as the specific facts of individual cases, the jurisdictions
involved, the prospect of punitive damages, future medical costs, and inflation
estimates of future claims development, and the legal and other costs to settle
or defend the claims. We have significant exposure to fluctuations in
the number and severity of claims. If there is an increase in the
frequency and severity of claims, or we are required to accrue or pay additional
amounts if the claims prove to be more severe than originally assessed, or
any
of the claims would exceed the limits of our insurance coverage, our
profitability would be adversely affected.
In
addition to estimates within our self-insured retention layers, we also must
make judgments concerning our aggregate coverage limits. If any claim
occurrence were to exceed our aggregate coverage limits, we would have to accrue
for the excess amount. Our critical estimates include evaluating
whether a claim may exceed such limits and, if so, by how
much. Currently, we are not aware of any such claims. If
one or more claims were to exceed our then effective coverage limits, our
financial condition and results of operations could be materially and adversely
affected.
Lease
Accounting and Off-Balance Sheet Transactions – Operating leases have been an
important source of financing for our revenue equipment, computer equipment,
and
Company airplane. In connection with the leases of a majority of the value
of
the equipment we finance with operating leases, we issued residual value
guarantees, which provide that if we do not purchase the leased equipment from
the lessor at the end of the lease term, then we are liable to the lessor for
an
amount equal to the shortage (if any) between the proceeds from the sale of
the
equipment and an agreed value. To the extent the expected value at
the lease termination date is lower than the residual value guarantee, we would
accrue for the difference over the remaining lease term. We believe that
proceeds from the sale of equipment under operating leases would exceed the
payment obligation on substantially all operating leases. The estimated values
at lease termination involve management judgments. As leases are entered into,
determination as to the classification as an operating or capital lease involves
management judgments on residual values and useful lives.
Accounting
for Income Taxes – We make important judgments concerning a variety of factors,
including the appropriateness of tax strategies, expected future tax
consequences based on future Company performance, and to the extent tax
strategies are challenged by taxing authorities, our likelihood of success.
We
utilize certain income tax planning strategies to reduce our overall cost of
income taxes. It is possible that certain strategies might be disallowed,
resulting in an increased liability for income taxes. Significant management
judgments are involved in assessing the likelihood of sustaining the strategies
and in determining the likely range of defense and settlement costs, and an
ultimate result worse than our expectations could adversely affect our results
of operations.
In
July
2006, the FASB issued FIN 48. The Company was required to adopt the provisions
of FIN 48, effective January 1, 2007. As a result of this adoption, the Company
recognized additional tax liabilities of $0.3 million with a corresponding
reduction to beginning retained earnings as of January 1, 2007. As of January
1,
2007, the Company had a $2.8 million liability recorded for unrecognized tax
benefits, which includes interest and penalties of $0.5 million. The Company
recognizes interest and penalties accrued related to unrecognized tax benefits
in tax expense. If recognized, $1.7 million of unrecognized tax benefits would
impact the Company's effective tax rate as of September 30, 2007.
Deferred
income taxes represent a substantial liability on our consolidated balance
sheets and are determined in accordance with SFAS No. 109,
Accounting
for Income Taxes.
Deferred
tax assets and liabilities (tax benefits and liabilities expected to be realized
in the future) are recognized for the expected future tax consequences
attributable to differences between the financial statement carrying amounts
of
existing assets and liabilities and their respective tax bases, and operating
loss and tax credit carry forwards.
The
carrying value of our deferred tax assets assumes that we will be able to
generate, based on certain estimates and assumptions, sufficient future taxable
income in certain tax jurisdictions to utilize these deferred tax benefits.
If
these estimates and related assumptions change in the future, we may be required
to establish a valuation allowance against the carrying value of the deferred
tax assets, which would result in additional income tax expense. On a periodic
basis we assess the need for adjustment of the valuation
allowance. Based on forecasted income and prior years’ taxable
income, no valuation reserve has been established at September 30, 2007, because
we believe that it is more likely than not that the future benefit of the
deferred tax assets will be realized. However, there can be no assurance that
we
will meet our forecasts of future income.
We
believe that we have adequately provided for our future tax consequences based
upon current facts and circumstances and current tax law. Should our tax
positions be challenged, different outcomes could result and could have a
significant impact on the amounts reported through our consolidated condensed
statements of operations.
Performance-based
Employee Stock Compensation - Effective January 1, 2006, we adopted the
fair value recognition provisions of SFAS No. 123R, under which we estimate
compensation expense that is recognized in our consolidated statements of
operations for the fair value of employee stock-based compensation related
to
grants of performance-based stock options and restricted stock awards. This
estimate requires various subjective assumptions, including probability of
meeting the underlying performance-based earnings per share targets and
estimating forfeitures. If any of these assumptions change significantly,
stock-based compensation expense may differ materially in the future from the
expense recorded in the current period.
INFLATION,
NEW EMISSIONS CONTROL REGULATIONS, AND FUEL COSTS
Most
of
our operating expenses are inflation-sensitive, with inflation generally
producing increased costs of operations. During the past three years, the most
significant effects of inflation have been on revenue equipment prices and
the
compensation paid to the drivers. In addition, new emissions control regulations
and increases in commodity prices, wages of manufacturing workers, and other
items have resulted in higher tractor prices. The
cost of
fuel also has risen substantially over the past three years, although we believe
at least some of this increase reflects world events rather than underlying
inflationary pressure. We attempt to limit the effects of inflation through
increases in freight rates, certain cost control efforts, and to limit the
effects of fuel prices through fuel surcharges.
The
engines used in our tractors are subject to emissions control regulations,
which
have substantially increased our operating expenses since the first round of
additional regulation in 2002. As of September 30, 2007, we are
operating 91 tractors with the 2007-compliant engines, and our substantial
"pre-buy" in 2006 has reduced our need to acquire new tractors in the near-term.
Compliance with the 2007 standards is expected to increase the cost of new
tractors and could impair equipment productivity, lower fuel mileage, and
increase our operating expenses. These adverse effects combined with the
uncertainty as to the reliability of the vehicles equipped with the newly
designed diesel engines and the residual values that will be realized from
the
disposition of these vehicles could increase our costs or otherwise adversely
affect our business or operations as the regulations impact our business through
new tractor purchases.
Fluctuations
in the price or availability of fuel, as well as hedging activities, surcharge
collection, the percentage of freight we obtain from freight brokers, and the
volume and terms of diesel fuel purchase commitments may increase our costs
of
operation, which could materially and adversely affect our
profitability. We impose fuel surcharges on substantially all
accounts. These arrangements may not fully protect us from fuel price increases
and also may result in us not receiving the full benefit of any fuel price
decreases. We currently do not have any fuel hedging contracts in place. If
we
do hedge, we may be forced to make cash payments under the hedging arrangements.
A small portion of our fuel requirements for the first six months of 2007 were
covered by volume purchase commitments. Based on current market conditions,
we
have decided to limit our hedging and purchase commitments, but we continue
to
evaluate such measures. The absence of meaningful fuel price protection through
these measures could adversely affect our profitability.
SEASONALITY
In
the
trucking industry, revenue generally decreases as customers reduce shipments
during the winter holiday season and as inclement weather impedes operations.
At
the same time, operating expenses generally increase, with fuel efficiency
declining because of engine idling and weather, creating more equipment repairs.
For the reasons stated, first quarter net income historically has been lower
than net income in each of the other three quarters of the year. Our equipment
utilization typically improves substantially between May and October of each
year because of the trucking industry's seasonal shortage of equipment on
traffic originating in California and because of general increases in shipping
demand during those months. The seasonal shortage typically occurs between
May
and August because California produce carriers' equipment is fully utilized
for
produce during those months and does not compete for shipments hauled by our
dry
van operation. During September and October, business generally increases as
a
result of increased retail merchandise shipped in anticipation of the
holidays.
ITEM
3. QUANTITATIVE
AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
We
experience various market risks, including changes in interest rates and fuel
prices. We do not enter into derivatives or other financial instruments for
trading or speculative purposes, or when there are no underlying related
exposures.
COMMODITY
PRICE RISK
From
time-to-time we may enter into derivative financial instruments to reduce our
exposure to fuel price fluctuations. In accordance with SFAS 133, we adjust
any
derivative instruments to fair value through earnings on a monthly basis. As
of
September 30, 2007, we had no derivative financial instruments to reduce our
exposure to fuel price fluctuations.
INTEREST
RATE RISK
Our
market risk is also affected by changes in interest
rates. Historically, we have used a combination of fixed-rate and
variable-rate obligations to manage our interest rate exposure. Fixed-rate
obligations expose us to the risk that interest rates might
fall. Variable-rate obligations expose us to the risk that
interest rates might rise. Currently, all of our borrowing is under
variable-rate agreements.
Our
variable rate obligations consist of our Credit Facility and our Securitization
Facility. Borrowings under the Credit Facility, provided there has been no
default, are based on the banks' base rate, which floats daily, or LIBOR, which
accrues interest based on one, two, three, or six month LIBOR rates plus an
applicable margin that is adjusted quarterly between 0.875% and 2.250% based
on a leverage ratio, which is generally defined as the ratio of borrowings,
letters of credit, and the present value of operating lease obligations to
our
earnings before interest, income taxes, depreciation, amortization, and rental
payments under operating leases. The applicable margin was 1.875% at September
30, 2007. At September 30, 2007,
we had
variable borrowings of $90.0 million outstanding under the Credit Facility.
Our
Securitization Facility carries a variable interest rate based on the commercial
paper rate plus an applicable margin of 0.44% per annum. At September 30, 2007,
borrowings of approximately $53.4 million had been drawn on the Securitization
Facility. Assuming variable rate borrowings under the Credit Facility and
Securitization Facility at September 30, 2007 levels, a one percentage point
increase in interest rates could increase our annual interest expense by
approximately $1.4 million.
As
required by Rule 13a-15 and 15d-15 under the Securities Exchange Act of 1934,
as
amended (the "Exchange Act"), we have carried out an evaluation of the
effectiveness of the design and operation of our disclosure controls and
procedures as of the end of the period covered by this report. This
evaluation was carried out under the supervision and with the participation
of
our management, including our Chief Executive Officer and Principal Financial
Officer. Based upon that evaluation, our Chief Executive Officer and
Principal Financial Officer concluded that our controls and procedures were
effective as of the end of the period covered by this report. There
were no changes in our internal control over financial reporting that occurred
during the period covered by this report that have materially affected or that
are reasonably likely to materially affect our internal control over financial
reporting.
Disclosure
controls and procedures are controls and other procedures that are designed
to
ensure that information required to be disclosed in our reports filed or
submitted under the Exchange Act is recorded, processed, summarized, and
reported within the time periods specified in the Securities and Exchange
Commission's rules and forms. Disclosure controls and procedures
include controls and procedures designed to ensure that information required
to
be disclosed in our reports filed under the Exchange Act is accumulated and
communicated to management, including our Chief Executive Officer, as
appropriate, to allow timely decisions regarding disclosures.
We
have
confidence in our internal controls and procedures. Nevertheless, our
management, including our Chief Executive Officer and Principal Financial
Officer, does not expect that our disclosure procedures and controls or our
internal controls will prevent all errors or intentional fraud. An
internal control system, no matter how well-conceived and operated, can provide
only reasonable, not absolute, assurance that the objectives of such internal
controls are met. Further, the design of an internal control system
must reflect the fact that there are resource constraints, and the benefits
of
controls must be considered relative to their costs. Because of the
inherent limitations in all internal control systems, no evaluation of controls
can provide absolute assurance that all our control issues and instances of
fraud, if any, have been detected.
PART
II
OTHER
INFORMATION
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LEGAL
PROCEEDINGS
From
time to time we are a party to routine litigation arising in the
ordinary
course of business, most of which involves claims for personal injury
and
property damage incurred in connection with the transportation of
freight.
We maintain insurance to cover liabilities arising from the transportation
of freight for amounts in excess of certain self-insured
retentions.
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RISK
FACTORS
While
we attempt to identify, manage, and mitigate risks and uncertainties
associated with our business, some level of risk and uncertainty
will
always be present. Our Form 10-K for the year ended December
31, 2006, in the section entitled Item 1A. Risk Factors,
describes some of the risks and uncertainties associated with our
business. These risks and uncertainties have the potential to
materially affect our business, financial condition, results of
operations, cash flows, projected results, and future prospects.
In
addition to the risk factors set forth on our Form 10-K, we believe
that
the following additional issues, uncertainties, and risks, should
be
considered in evaluating our business and growth outlook:
We
were in
default of our financial covenants under our Credit Facility as of
June
30, 2007. We obtained a waiver from our bank group and modified the
financial covenants in the Credit Facility to levels better aligned
with
our expected future results and granted and expanded the security
interest
to include, with limited exceptions, then owned revenue equipment,
as well as revenue equipment acquired subsequently utilizing proceeds
from the Credit Facility. We were in compliance with the financial
covenants at September 30, 2007. A future default could result in
the
acceleration of our outstanding indebtedness under the Credit Facility,
increased fees and expenses, restrictions on our operations, dilutive
stock issuances, and an inability to obtain financing on acceptable
terms,
which could have a materially adverse effect on our liquidity, financial
condition, and results of operations.
We
have a
$200.0 million Credit Facility with a group of banks under which
we had
borrowings outstanding totaling $90.0
million as
of September
30, 2007.
The Company signed Amendment No. 1 to the Credit Facility
on August
28, 2007, which among other revisions, granted and expanded the security
interest to include, with limited exceptions, then owned revenue
equipment, as well as revenue equipment acquired subsequently
utilizing proceeds from the Credit Facility. As amended, the
Credit Facility is secured by a pledge of the stock of most of the
Company's subsidiaries and certain owned revenue equipment, as well
as revenue equipment acquired subsequently utilizing proceeds from
the Credit Facility. The
Credit
Facility includes a number of covenants, including financial
covenants.
If
we experience future defaults under our Credit Facility, our bank
group
could cease making further advances, declare our debt to be immediately
due and payable, impose significant restrictions and requirements
on our
operations, and institute foreclosure procedures against their
security. If we were required to obtain waivers of defaults,
we may incur significant fees and transaction costs. If waivers of
defaults are not obtained and acceleration occurs, we may have difficulty
in borrowing sufficient additional funds to refinance the accelerated
debt
or we may have to issue equity securities, which would dilute stock
ownership. Even if new financing is made available to us, it may
not be
available on acceptable terms. As a result, our liquidity, financial
condition, and results of operations would be adversely
affected.
We
may not be able to renew Dedicated service offering contracts on
the terms
and schedule we expect.
As
part of the plan to improve profitability and increase the average
freight
revenue per tractor per week in our Dedicated service offering, we
are
attempting to renew and negotiate contracts covering the Dedicated
fleet. The current freight environment has resulted in
increased competition for these contracts, which has in turn placed
more
pressure on rates. If contract renewals do not proceed on an
acceptable basis, we may not be successful in executing this plan
on the
terms and schedule we expect.
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We
may not be able to cause the performance of Star Transportation,
Inc. to
return to historical levels.
The
profitability of our Star subsidiary has declined substantially
since we
acquired Star in September 2006. We believe the primary factor
has been lack of freight demand in the southeastern United States,
where
Star's operations are concentrated. However, other factors may
be contributing, as well. We may not be able to cause Star to
operate at its former level of profitability. If we do not, our
financial results may suffer and we could be forced to write-down
all or a
portion of the goodwill associated with the Star
acquisition.
We
may not be able to successfully integrate the former operations
of our
Covenant Refrigerated service offering into our SRT and Expedited
Long-Haul operations.
In
the first quarter of 2007, we reallocated the assets formerly operated
by
our Covenant Refrigerated service offering to our SRT and Expedited
long
haul service offerings. The Covenant Refrigerated service
offering had produced significant losses, and absorbing these operations
adversely affected the results in our SRT and Expedited long haul
service
offerings. Particularly in the SRT service offering, we were forced
to
rely on freight from freight brokers to haul adequate loads and
to move
the trucks to lanes where SRT operates. Improving SRT's results
will require reducing the percentage of freight derived from freight
brokers, raising freight rates, and improving related fuel surcharge
collection. We may not be successful in reducing our dependency
on broker
freight or in returning our SRT and Expedited long haul service
offerings
to their historical levels of profitability.
We
operate in a highly regulated industry and changes in regulations
could
have a materially adverse effect on our
business.
Our
operations are regulated and licensed by various government agencies,
including the Department of Transportation ("DOT"). The DOT,
through the Federal Motor Carrier Safety Administration, or FMCSA,
imposes
safety and fitness regulations on us and our drivers. New rules
that limit
driver hours-of-service were adopted effective January 4, 2004,
and then modified effective October 1, 2005 (the "2005
Rules"). On July 24, 2007, a federal appeals court vacated
portions of the 2005 Rules. Two of the key portions that were
vacated include the expansion of the driving day from 10 to 11
hours, and
the "34 hour restart" requirement that drivers must have a break
of at
least 34 consecutive hours during each week. On September 28,
2007, the court
,
in
response to a request by the FMCSA for a 12-month extension of
the vacated
rules, ruled that the vacated rules may remain in effect for 90
days. At the end of the 90 day period, the 11 hour driving
limit and the 34 hour restart provisions of the 2005 Rules could
be
eliminated. We
understand that the FMCSA is currently evaluating its options in
light of
the court's ruling and it is unclear whether the FMCSA will issue
any
interim regulations at this time.
The
court's decision may have varying effects, in that reducing driving
time
to 10 hours daily may reduce productivity in certain instances,
while
eliminating the 34-hour restart may enhance productivity in certain
instances. On the whole, however, we would expect the court's
decision to reduce productivity and cause some loss of efficiency
as our
drivers are retrained and some shipping lanes may need to be
reconfigured. Additionally, we are unable to predict the effect
of any new rules that might be proposed, but any such proposed
rules could
increase costs in our industry or decrease productivity.
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Exhibit
Number
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Reference
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Description
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3.1
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(1)
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Amended
and Restated Articles of Incorporation
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3.2
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(2)
|
Amended
Bylaws dated September 27, 1994
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4.1
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(1)
|
Amended
and Restated Articles of Incorporation
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4.2
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(2)
|
Amended
Bylaws dated September 27, 1994
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|
#
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Amendment
No. 1 to the Second Amended and Restated Credit Agreement dated December
21, 2006 among Covenant Asset Management, Inc., Covenant Transport,
Inc.,
Bank of America, N.A., and each financial institution which is a
party to
the Credit Agreement Amendment
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#
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Certification
pursuant to Item 601(b)(31) of Regulation S-K, as adopted pursuant
to
Section 302 of the Sarbanes-Oxley Act of 2002, by David R. Parker,
the
Company's Chief Executive Officer
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#
|
Certification
pursuant to Item 601(b)(31) of Regulation S-K, as adopted pursuant
to
Section 302 of the Sarbanes-Oxley Act of 2002, by Joey B. Hogan,
the
Company's Principal Financial Officer
|
|
#
|
Certification
pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section
906 of
the Sarbanes-Oxley Act of 2002, by David R. Parker, the Company's
Chief
Executive Officer
|
|
#
|
Certification
pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section
906 of
the Sarbanes-Oxley Act of 2002, by Joey B. Hogan, the
Company's Principal Financial
Officer
|
References:
|
|
(1)
|
Incorporated
by reference from the Company’s Schedule 14A, filed April 20, 2007 (File
No. 000-24960).
|
(2)
|
Incorporated
by reference from Form S-1, Registration No. 33-82978, effective
October
28, 1994.
|
#
|
Filed
herewith.
|
SIGNATURE
Pursuant
to the requirements of the Securities Exchange Act of 1934, as amended, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
|
COVENANT
TRANSPORTATION GROUP, INC.
|
|
|
|
|
Date: November
6, 2007
|
By:
|
/s/
Joey B. Hogan
|
|
|
Joey
B. Hogan
|
|
|
Senior Executive
Vice President and Chief Operating Officer,
|
|
|
in
his capacity as such and on behalf of the
issuer.
|
32