Seeking Alpha • Jul 20
Daseke: Still Trucking But Different
Open-deck freight is generally complex, time-sensitive and focused on less cyclical parts of the economy.
Most significant expenses vary with miles traveled, which offers operational flexibility that protects the business during down cycles.
Daseke's new management with private equity background and trucking business expertise is cutting cost and increasing operational efficiency.
Daseke Overview
Daseke (DSKE) is the leader in flatbed trucking and serves challenging industrial end-markets with operations in the US, Canada and Mexico. Open-deck freight is generally complex, time-sensitive and is focused on different customers with different freight requirements than traditional dry-van freight. It requires highly trained drivers and specialised equipment with the ability to handle uniquely shaped and overweight cargo. Open-deck routes are frequently more irregular than dry-van routes due to the nature of the freight.
Freight examples include aircraft parts, manufacturing equipment, structural steel, wind turbine blades, commercial glass, high-security cargo, arms, ammunition, lumber and construction materials.
Flatbed Solutions (44% FY21 Sales): Transportation and logistics solutions that principally require the use of flatbed and retractable-sided transportation equipment. In FY21 segment reported $695m sales and generated $109m Adj. EBITDA (EBITDA% @ 15.7%). In 1Q22 segment reported $154m sales and $20m Adj. EBITDA (EBITDA% @ 12.9%). Segment operates 2,371 tractors and 4,207 trailers.
Specialised Solutions (56% FY21 Sales): Transportation and logistics solutions that require the use of specialised trailing transportation equipment. In FY21 segment reported $874m sales and generated $141m Adj. EBITDA (EBITDA% @ 16.1%). In 1Q22 segment reported $184m sales and $25m Adj. EBITDA (EBITDA% @ 13.4%). Segment operates 2,326 tractors and 7,059 trailers.
DSKE records four types of revenue: freight, brokerage, logistics and fuel surcharge. Clients pay for services based on the number of miles in the most direct route between pick-up and delivery locations. Hence fright revenue is a product of miles driven multiplied by a rate. Brokerage revenue is generated by its use of 3rd party carriers when it needs capacity to move its customers' loads. Logistics revenue is generated from a range of value-added services such as warehousing, loading, unloading maintenance and repair, packaging, fuel and fleet management. Last but not least, surcharges are designed to compensate for fuel costs above certain costs per gallon.
In FY21, 44% of the company's freight, logistics and brokerage revenue was derived from company-owned equipment and 56% was derived from asset-light services. Company sells its products to c. 5,300 customers, many of whom are Fortune 500 companies.
The open-deck industry is highly competitive and fragmented. DSKE competes primarily with other flatbed carriers and to a lesser extent, logistics companies and railroads. Scale and efficiency offers significant competitive advantages. While asset-light revenue adds operating flexibility since the Company can easily cut capacity without hurting the bottom line.
History & Financials
In FY09, DSKE was generating just $30m sales. After completing 20 M&A deals but also growing organically, DSKE reached $1.6bn sales in FY18. Such an aggressive M&A strategy came at a cost of operational efficiency.
Chris Easter joined DSKE as COO in early 2019 specifically to help the company address its lagging operating performance. Top-ling growth strategy had increased the size of the company but had added operational complexities that didn't allow to convert size into profits. Relentless focus on cost reduction and operational efficiency improved operating ratio from 99% to 97% by 2019 year-end and generated $130m in FCF which allowed the company to reduce debt. Through a combination of reorganisation of operating companies, reduction of company-owned trucks/trailers and identification of underutilised assets management completed Phase I and realised $30m operational improvements.
In FY20, DSKE completed Phase II further simplifying the business and improving operating ratio which apparently reached 93.6% on adjusted bases (Excluding Aveda). Phase I & II combined resulted in $45m cost reduction. During the year, DSKE generated $168.9m FCF which reduced net debt by $104.9m to $503.5m. By year-end, Chris Easter retired for personal reasons.
"This has been a very difficult decision for me personally, but I have a number of family-related obligations that need my full attention. As a result, I made the decision to retire from Daseke." - Chris Easter Jan-21
FY21 was undoubtedly a difficult year however strong demand and high capacity boosted rats and supported revenue growth. Steel, construction and manufacturing more than offset lower wind energy revenues with DSKE achieving premium rates compared to overall flatbed market. Operating ratio reached 90.9% on adjusted basis (Excluding Aveda), 90bps shy from management's mid-term target.
4Q21 Investor Presentation
Since going public in FY14, DSKE generated an average of 11.4% in EBITDA margins. Over the same period, EBIT margins average was at 3.4%. Since the commencement of the restructuring program, DSKE managed to increase EBIT% to 4.1% in FY20 and 7.3% in FY21, fact that provides evidence of some kind of operational improvement. Over the same period, operating ratio increased from 99% in 2Q19 to 93% in 1Q22.
From FY14 to FY21, DSKE generated $899m in Cash from Operations. Over the same period, Capex was almost fully financed by asset disposal which allowed the company to generate an average of c. $95m in FCF (Pre M&A), including the c. $5m preferred dividend. Over that period, management completed two major acquisitions allocating c. $459m in M&A, partially financed by $228m common stock issuance and $111m preferred stock issuance. Dilution was partially offset by $77m share buybacks.
As of 1Q22, DSKE has $200m BV of which $148m is goodwill and $85m is intangibles. Given the £312m write-down in FY19, one could say that the remaining book value should be well supported but often impairments dancing in sequence. Nevertheless, it's a good reminder to remain cautious. Company sits on a net debt of c. $433m with cash at $153m. Debt is predominantly comprised of a $400m Libor+3% (Floating) term loan facility that is due in Feb-27.
Risks & Concerns
Cyclicality: Customers are mainly in the industrial and manufacturing sector hence the Company is not subject to the same consumer-driven demand as dry-van trucking companies. However, a material portion of freight is from customers in the building materials industry, a highly cyclical sector that is driven by infrastructure spending, interest rates and general economic conditions.
Customer Concentration: DSKE's top 10 customers accounted for c. 27% and 31% in FY21 and FY20 respectively. One client accounted for c. 10% of sales in FY20. Credit risk follows the same pattern as one customer represented c. 10% of receivables in FY21 and one customer represented c. 13% in FY20. Long-term customer relationships that span from 8 to 40 years partially mitigate the risk of losing a major client.
Diesel Fuel: Fuel is on the largest operating expenses and averages 9% of sales over the last 7 years. DSKE actively manages fuel purchasing in an effort to maintain adequate fuel supplies and reduce fuel costs. That said, the Company negotiates discounts with truck stop operators and stores full in storage tanks at some of its facilities. To mitigate fuel increases, DSKE utilises a fuel surcharge program in which customers cover fuel cost above a certain level. In a period of increasing fuel prices, the Company might not be able to fully recover fuel cost. However, in periods of declining prices, the opposite is true. Fuel cost was only 7% of sales in FY21 hence is yet to affect the business operationally.
Warrants/Options/Dilution: Stock issuance is probably one of the best ways to understand management's capital allocation shrewdness. DSKE issued $128m worth of shares in FY17 and $84m worth of shares on FY18, which is a bit discouraging. However, it happened in a period when share price was trading at 13-14x EBITDA, which even today is an all-time high. As at Dec-21, there were a total of 35m warrants outstanding to purchase 17.5m shares (Purchase half share) at $11.5 per share. Warrants expired in Feb-22 hence shareholders don't need to worry about that. However, there are 2.4m stock options with 3-5Y vesting period at $6.11 share which partially dilute shareholders.
Investment Thesis
An obvious question is around margin sustainability. Clearly, DSKE was heavily benefited from supply chain challenges in FY20 and FY21. That was translated into a record level rate in specialised solutions which reached $3.40 per mile in 4Q21 above 5Y average of $3.12. Similarly, flatbed rates reached $2.59 in 1Q22 which was also above 5Y average of $2.07. While the company is not in control of the market rate, it will remain to see whether operational flexibility and efficiency will support margins going forward. According to the management, Phase I & II have added reduced operating costs, increased flexibility and created a lighter business model. Logic says that some of these improvements are here to stay.
On top of that, the most significant expenses vary with miles traveled. These expenses include driver wages, services purchased from owner-operators, fuel, maintenance, tire expenses and cost of insurance. Hence in a downturn, when miles traveled are reduced, DSKE is probably still in a position to remain profitable. At this point is worth mentioning that DSKE hasn't generated any EBIT losses in the last 8 years, which is signalling some kind of durability. If operational improvements have created a new reality then DSKE will not have any problem navigating through this imminent slowdown. The argument in favour of profit durability and operational flexibility is also supported by the operating history of companies such as Werner Enterprises (WERN) and Knight-Swift Transportation (KNX) or even Universal Logistics which are consistently profitable over the last 20 years.
