Major airlines refrained from seeing any significant improvement in cargo demand for the remainder of the year. However, some are beginning to call seasonality normal in 2023 as the market tightens as early as mid-year.
No wonder there is no high season
Speaking at Baird’s annual global industry conference in Chicago, JB Hunt (NASDAQ:JBHT) management said the inventory correction is ongoing across its customer base. The existing oversupply was exacerbated by the fact that some carriers postponed their orders earlier in the year to avoid supply chain bottlenecks experienced last year.
“So far, 2022 has been the most low-key version of the high season I remember in my career. We just don’t have a significant increase in demand,” said Darren Field, who heads the company’s intermodal segment.
Schneider National (NYSE: SNDR) Chief Financial Officer Steve Bruffett said volumes had been moving sideways for several weeks without a normal seasonal surge. He said Schneider accepts most of the loads that come his way on a daily basis, compared to an acceptance rate of just 50% at this point a year ago.
The company is seeing more of the same for the rest of the year and expects more normal seasonal patterns to take hold in early 2023. Bruffett believes conditions will improve in the second half of the year and anticipates a favorable turning point as early as spring.
Given the difficult year-to-year (Y/Y) comparisons in the fourth and first quarters, the head of Werner Enterprises (NASDAQ:WERN) also expects more typical seasonal trends over the next year.
“Compared to what we have seen in previous years, the peak has certainly not been reached at the moment. There is no discussion of that at this time,” Derek Leathers, Werner’s chairman and CEO, told investors on Wednesday.
Leathers said normal peak and project opportunities are down 70% compared to 2021. However, demand for its dedicated and other contract business is holding up well. The company is heavily exposed to the stresses in the discount, home improvement, and food & beverage sectors, which tend to fare well during recessions.
Cost inflation makes capacity disappear quickly
“From my point of view, it’s a very painful time to be a small transporter,” Leathers said.
Shippers who rely on the spot market have seen rates (excluding fuel) fall 40% from the peak reached in February. At the same time, most cost items continued to rise.
“In the past few years, [los pequeños transportadores] They overpaid for their equipment at a time when interest rates are rising, fuel is higher than ever and the efficiency of their equipment isn’t really competitive due to its age,” Leathers continued. “The insurance business isn’t getting any better, and they did all of this while engaged in a cash market chase.”
He pointed to more than 10,000 network operator closures in the last five weeks as evidence that cost inflation is rapidly putting airlines out of business. He also said that the company’s energy brokerage offering has seen an increase in driver interest over the same period.
Bruffett said he sees some airlines exiting the market, but nothing major just yet.
“I wouldn’t call it overwhelming evidence of a move away from small airline capacity,” he said. However, Bruffett noted that some shippers are trying to “hold out” until the end of the year, waiting for signs of potential market improvement before making a decision.
He also sees cost inflation next year, but probably at a more moderate pace.
The duration of this downward cycle could be shorter as the sector has not been able to overfill capacity as it has in previous crises. Production headwinds from OEMs limited heavy truck shipments and lengthened business cycles during the pandemic. Leathers said 2023 is likely to be another year of below-replacement construction due to shortages of parts and components, as well as Europe’s difficulties in powering utility manufacturing plants.
Werner CFO John Steele highlighted the impact higher fuel costs are having on this cycle’s capacity. Diesel was $2.30 a gallon during the 2015-16 recession and $3 a gallon in the 2018-19 cycle. The last weekly selling price was $5.33, according to the Energy Information Administration.
“If you’re small, you have to pay for the fuel if you pump it…at that time,” Steele said. “So it’s a big financial challenge for them.”
Bruffett doesn’t think 2023 will be a “golden opportunity,” but said it doesn’t represent an “extreme situation” either.
“Either capacity comes out fast and that supports spot prices and that’s good for contract space, or spot prices go up and that’s good,” he said.
Leathers believes the truck market could be “back in balance, if not tight,” by mid-2023.
“It won’t be an easy year,” he said. “We still have a lot to do, but we have our sights on the ball and we know what needs to be done.”
Intermodal battle lines are being redrawn
Field said JB Hunt will be able to capitalize on any dislocation in the intermodal market when Schneider switches rail service provider from BNSF (NYSE:BRK.B) to Union Pacific (NYSE:UNP) later in the year. The exit will leave JB Hunt as the last remaining full TL provider in the BNSF lineup.
With plenty of space available on the rail line, plans to expand its container fleet by nearly 40%, and other investments, Field says JB Hunt is poised to grow its intermodal unit by double-digit percentages over the next decade.
Additionally, the improvement in rail service and fluidity across the network will allow JB Hunt to improve checkout shifts. According to Field, high levels of equipment downtime at customer sites are due to a lack of space to store goods and are no longer tied to work restrictions as was the case during the pandemic.
As device utilization improves, the company can reduce costs and the savings are shared with customers. Field said a reduced cost structure would allow JB Hunt to lower intermodal fares while maintaining margins.
“As we take the cost out of the system, I expect we’ll pass that benefit on to the customer,” Field said.
Currently, only 20% of Schneider’s intermodal volume moves on the UP line.
“It’s a big task,” Bruffett said of the move. “It’s not going to happen in a day or a week. Many containers and chassis have to be moved and drivers have to be repositioned. Everyone involved has a great interest in everything going well.”
The move to UP doesn’t change the company’s long-term goals of 10%-14% for operating margin, but Bruffett says it gives them a better growth path.
“For us, this is an opportunity for growth and differentiation that we look forward to,” he said. “I think we will grow our dollar earnings while maintaining these strong margins and growing volumes and earnings.”
In the third quarter, Schneider’s intermodal operating rate (inverse of operating margin) deteriorated 620 basis points year-over-year to 90.7%. Duplicate expenses associated with operating on both railroads and higher transportation costs were to blame.