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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
FORM 10-K
(Mark One)
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the fiscal year ended December 31, 2003
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 TRANSPORT, INC.
(Exact name of registrant as specified in its charter)
Nevada 88-0320154
- ---------------------------------------- ------------------------------------
(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
400 Birmingham Highway
Chattanooga, Tennessee 37419
- ---------------------------------------- ------------------------------------
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: 423/821-1212
------------
Securities registered pursuant to Section 12(b) of the Act: None
----
Securities registered pursuant to Section 12(g) of the Act: $0.01 Par Value
Class A Common Stock
--------------------
(Title of class)
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.
YES [X] NO [ ]
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendments to
this Form 10-K. [X]
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Act).
YES [X] NO [ ]
The aggregate market value of the voting stock held by non-affiliates of the
registrant was approximately $97.0 million as of June 30, 2003 (based upon the
$17.16 per share closing price on that date as reported by Nasdaq). The
aggregate market value of the voting stock held by non-affiliates of the
registrant was approximately $139.1 million as of March 8, 2004 (based upon the
$17.00 per share closing price on that date as reported by Nasdaq). In making
this calculation the registrant has assumed, without admitting for any purpose,
that all executive officers, directors, and holders of more than 10% of a class
of outstanding common stock, and no other persons, are affiliates.
As of March 8, 2004, the registrant had 12,327,693 shares of Class A common
stock and 2,350,000 shares of Class B common stock outstanding.
DOCUMENTS INCORPORATED BY REFERENCE
Materials from the registrant's definitive proxy statement for the 2004 annual
meeting of stockholders to be held on May 27, 2004 have been incorporated by
reference into Part III of this Form 10-K.
______________________________________
This report contains "forward-looking statements." These statements are
subject to certain risks and uncertainties that could cause actual results to
differ materially from those anticipated. See "Management's Discussion and
Analysis of Financial Condition and Results of Operations - Factors That May
Affect Future Results" for additional information and factors to be considered
concerning forward-looking statements.
2
PART I
ITEM 1. BUSINESS
References in this Annual Report to "we," "us," "our," or the "Company" or
similar terms refer to Covenant Transport, Inc. and its subsidiaries.
General
We are one of the ten largest truckload carriers in the United States measured
by revenue. We focus on longer lengths of haul in targeted markets where we
believe our service standards can provide a competitive advantage. We are a
major carrier for traditional truckload customers such as manufacturers and
retailers, as well as 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.
In our core long-haul business, we use the industry's largest fleet of tractors
operated by two-person driver teams to provide expedited transportation,
generally over distances from 1,500 to 2,500 miles. In this area, we offer
greater speed and reliability than rail or single-driver trucks at a lower cost
than air freight. We also operate a single driver fleet that concentrates on
expedited movements with an average length of haul of approximately 800 miles.
In both our single-driven and team-driven operations we have dedicated fleets,
which operate for the benefit of a single customer or on a defined route. This
part of our business has grown rapidly as we have expanded our participation in
the design, development, and execution of supply chain solutions for our
traditional truckload customers. In each of the past nine years, we have
provided 99% on-time performance to our customers. By targeting premium service
freight, we seek to obtain higher rates, build long-term service-based customer
relationships, and avoid competition from rail, intermodal, and trucking
companies that compete primarily on the basis of price.
Business Strategy
The key elements of our business strategy are:
Offer premium service. We offer just-in-time, transcontinental, express, and
other premium services to shippers with exacting transportation requirements.
Our service standards include transporting loads coast-to-coast in 72 hours,
meeting schedules with delivery windows as narrow as 15 minutes, and delivering
99% of all loads on-time which we have accomplished in each of the last nine
years. We target such premium service freight to obtain higher rates, build
long-term, service-based customer relationships, and avoid competition from
rail, intermodal, and trucking companies that compete primarily on the basis of
price.
Operate in targeted markets. We operate in targeted markets where our service
can provide a competitive advantage. Our primary market historically has been
expedited long-haul freight transportation predominantly using two-person driver
teams. Our industry-leading 1,200 driver teams can provide significantly faster,
more predictable service than rail, intermodal, or single-driver service over
long lengths of haul at a fraction of the cost of air freight. In addition, we
offer dedicated fleets, which operate for the benefit of a single customer or on
a defined route. This part of our business has grown rapidly as we have expanded
our participation in the design, development, and execution of supply chain
solutions for customers. We also offer long-haul refrigerated service that
targets premium temperature-controlled business mainly originating on the West
Coast. We believe that our concentration on longer lengths of haul and our large
capacity of driver teams differentiate us from competitors in our targeted
markets.
Focus on equipment utilization. We use a disciplined operating approach to
enhance asset utilization and deliver operating efficiencies. We seek to
continue to improve our asset utilization by adding freight within our existing
traffic lanes faster than adding new equipment capacity. We intend to grow our
fleet only when profit margins justify expansion. A high level of operational
discipline creates more predictable movements, reduces empty miles, and shortens
turn times between loads.
3
Seek partnerships with other transportation companies. A significant portion of
our business focuses on providing services to other transportation companies
that require a high level of service to support their operations. In 2003,
transportation providers, such as logistics companies, freight forwarders,
less-than-truckload companies, and deferred air freight providers, comprised the
largest market sector we served. We seek to grow by continuing to serve as a
partner, rather than a competitor, to other transportation providers.
Use technology to enhance operating efficiency. We have made significant
investments in technologies that reduce costs, afford a competitive advantage
with service-sensitive customers, and promote economies of scale. In particular,
we believe we are beginning to realize the benefits of freight optimization
software that allows us to more accurately analyze the profitability of each
customer, route, and load. We also use satellite-based tracking and
communication systems, document imaging, fuel routing software, and electronic
access to customer load information and electronic transmission of shipping
instructions.
In addition to these longer term business strategies, in 2003 we conducted an
intense evaluation of the freight in what we call "in-between" movements.
In-between movements generally have lengths of haul between 550 and 850 miles.
They are longer than one-day regional moves but not long enough for expedited
team service or two full days with a single driver. In many instances, the
revenue we have generated from in-between movements has been insufficient to
generate the profitability we desire based on the amount of time the tractor and
driver are committed to the load. Accordingly, we examined each in-between
movement and negotiated with our customers to raise rates, obtain more favorable
loads, or cease hauling the in-between loads. During the period of our
evaluation in 2003, these in-between movements represented approximately one
quarter of our total loads, and we believe they have been significantly less
profitable than our longer or shorter lengths of haul. Based on the initial
results of these efforts, we believe that we have significant opportunities to
improve our profitability over time as we continue to focus on our in-between
loads.
Customers and Operations
We operate throughout the United States and in parts of Canada and Mexico, with
substantially all of our revenue generated from within the United States. All of
our assets are domiciled in the United States, and for the past three years less
than one percent of our revenue has been generated in Canada and Mexico. The
largest part of our business, which comprised 71% of our 2003 revenue, is
medium-to-long haul dry van service that we provide by using single and
two-person driver teams. Our dedicated fleets, which serve a defined customer or
route, comprised 14% of our 2003 revenue. We also operate a long-haul
temperature-controlled business, which frequently hauls dry freight to the West
Coast and temperature-controlled freight to the East, and this portion of our
business comprised 15% of 2003 revenue. Part of this business is operated by our
subsidiary, Southern Refrigerated Transport, Inc. under its own trade name.
Our primary customers include manufacturers and retailers, as well as other
transportation companies. In 2003, our five largest customers were Con-Way
Transportation, Eagle Global Logistics, Emery Air Freight, Shaw Industries, and
Wal-Mart Stores. In the aggregate, subsidiaries of CNF, Inc. including Con-Way
Transportation and Emery Air Freight, accounted for approximately 11% of our
revenue in 2003 and 2002, and approximately 13% of our revenue in 2001.
We approach our operations as an integrated effort of marketing, customer
service, and fleet management. Our customer service and marketing personnel
emphasize both new account development and expanded service for current
customers. Customer service representatives provide day-to-day contact with
customers, while the sales force targets driver-friendly freight that will
increase lane density.
Fleet managers at each operations center plan load coverage according to
customer requirements and relay pick-up, delivery, routing, and fueling
instructions to our drivers. The fleet managers attempt to route most of our
trucks over selected operating lanes. We believe this assists us in balancing
traffic between eastbound and westbound movements, reducing empty miles, and
improving the reliability of delivery schedules.
4
We use proven technology, including freight optimization software that permits
us to perform sophisticated analyses of profitability and other factors on each
customer, route, and load. We installed the software in late 2000 and in 2001
began inputting and tracking data and customizing our analyses. We have begun to
realize the benefits of superior freight selection based on several months of
history.
We equip our tractors with a satellite-based tracking and communications system
that permits direct communication between drivers and fleet managers. We believe
that this system enhances our operating efficiency and improves customer service
and fleet management. This system also updates the tractor's position every 30
minutes, which allows us and our customers to locate freight and accurately
estimate pick-up and delivery times. We also use the system to monitor engine
idling time, speed, performance, and other factors that affect operating
efficiency.
As an additional service to customers, we offer electronic data interchange and
Internet-based communication for customer usage in tendering loads and accessing
information such as cargo position, delivery times, and billing information.
These services allow us to communicate electronically with our customers,
permitting real-time information flow, reductions or eliminations in paperwork,
and the employment of fewer clerical personnel. Since 1997, we have used a
document imaging system to reduce paperwork and enhance access to important
information.
Our operations generally follow the seasonal norm for the trucking industry.
Equipment utilization is usually at its highest from May to August, maintains
high levels through October, and generally decreases during the winter holiday
season and as inclement weather impedes operations.
Drivers and Other Personnel
Driver recruitment, retention, and satisfaction are essential to our success,
and we have made each of these factors a primary element of our strategy. We
recruit both experienced and student drivers as well as independent contractor
drivers who own and drive their own tractor and provide their services to us
under lease. We conduct recruiting and/or driver orientation efforts from four
of our locations and we offer ongoing training throughout our terminal network.
We emphasize driver-friendly operations throughout the Company. We have
implemented automated programs to signal when a driver is scheduled to be routed
toward home, and we assign fleet managers specific tractor units, regardless of
geographic region, to foster positive relationships between the drivers and
their principal contact with us.
We use driver teams in a substantial portion of our tractors. Driver teams
permit us to provide expedited service over our long average length of haul,
because driver teams are able to handle longer routes and drive more miles while
remaining within Department of Transportation ("DOT") safety rules. We believe
that these teams contribute to greater equipment utilization of the tractors
they drive than most carriers with predominately single drivers. The use of
teams, however, increases personnel costs as a percentage of revenue and the
number of drivers we must recruit. At December 31, 2003, teams operated
approximately 32% of our tractors. The single driver fleets operate fewer miles
per tractor and experience more empty miles but these factors are expected to be
offset by higher revenue per loaded mile and the reduced employee expense of
only one driver.
We are not a party to a collective bargaining agreement. At December 31, 2003,
we employed approximately 5,138 drivers and approximately 952 nondriver
personnel. At December 31, 2003, we also contracted with approximately 413
independent contractor drivers. We believe that we have a good relationship with
our personnel.
Revenue Equipment
We believe that operating high quality, late-model equipment contributes to
operating efficiency, helps us recruit and retain drivers, and is an important
part of providing excellent service to customers. Our historical policy has been
to operate our tractors while under warranty to minimize repair and maintenance
cost and reduce service interruptions caused by breakdowns. We also order most
of our equipment with uniform specifications to reduce our parts inventory and
facilitate maintenance. At December 31, 2003, our tractors had an average age of
approximately 19 months and our trailers had an average age of approximately 34
months. Approximately 82% of our trailers were dry vans and the remainder were
temperature-controlled vans.
5
We have taken delivery of our model year 2004 tractors from Freightliner and
expect to begin taking delivery of model year 2005 tractors shortly. The new
tractors are covered by trade back agreements that guarantee us a defined
trade-in value if we purchase a replacement tractor from Freightliner. The
combination of an increased price for the new tractors and a decreased trade-in
value for used tractors is increasing our cost of equipment for future periods.
We are in the process of changing our tractor trade cycle from a period of
approximately four years to three years. We evaluated the decision based on
maintenance costs, capital requirements, prices of new and used tractors, and
other factors. We decided to return to a shorter trade cycle, therefore we
expect our capital expenditures and financing costs to increase, and we expect
our maintenance costs to decrease.
Industry and Competition
According to the American Trucking Associations (ATA), the U.S. market for
truck-based transportation services generated total revenues of approximately
$585 billion in 2002 and is projected to follow in line with the overall U.S.
economy. We operate in the highly fragmented for-hire truckload segment of this
market, which the ATA estimates generated revenues of approximately $250 billion
in 2002. Our dedicated business also competes for the private fleet portion of
the overall trucking market (estimated by the ATA at approximately $277 billion
in revenues in 2002), by seeking to convince private fleet operators to
outsource or supplement their private fleets.
The United States trucking industry is highly competitive and includes thousands
of for-hire motor carriers, none of which dominates the market. Service and
price are the principal means of competition in the trucking industry. Measured
by annual revenue, the ten largest dry van truckload carriers accounted for
approximately $12 billion or approximately five percent of annual for-hire
truckload revenue in 2002. We compete to some extent with railroads and
rail-truck intermodal service but differentiate ourself from rail and rail-truck
intermodal carriers on the basis of service because rail and rail-truck
intermodal movements are subject to delays and disruptions arising from rail
yard congestion, which reduces the effectiveness of such service to customers
with time-definite pick-up and delivery schedules.
We believe that the cost and complexity of operating trucking fleets are
increasing and that economic and competitive pressures are likely to force many
smaller competitors and private fleets to consolidate or exit the industry. As a
result, we believe that larger, better capitalized companies, like us, will have
greater opportunities to increase profit margins and gain market share. In the
market for dedicated services, we believe that truckload carriers, like us, have
a competitive advantage over truck lessors, who are the other major participants
in the market, because we can offer lower prices by utilizing back-haul freight
within our network that traditional lessors do not have.
Insurance and Claims
We have increased the self-insured retention portion of our insurance coverage
for most claims significantly over the past several years. During the first
quarter of 2004, we renewed our casualty and workers' compensation programs
through February 2005. Under our casualty program, we are self-insured for
personal injury and property damage claims for amounts up to $2.0 million per
occurrence for the first $5.0 million of exposure. However, our insurance policy
also provides for an additional $4.0 million self-insured aggregate amount, with
a limit of $2.0 million per occurrence until the $4.0 million aggregate
threshold is reached. For example, if we were to experience during the policy
year three separate personal injury and property damage claims each resulting in
exposure of $5.0 million, we would be self-insured for $4.0 million with respect
to each of the first two claims, and for $2.0 million with respect to the third
claim and any subsequent claims during the policy year. In addition to amounts
for which we are self-insured in the primary $5.0 million layer, we self-insure
for the first $2.0 million in the layer from $5.0 million to $20.0 million,
which is our excess coverage limit. We are also self-insured for cargo loss and
damage claims for amounts up to $1.0 million per occurrence. We maintain a
workers' compensation plan and group medical plan for our employees with a
deductible amount of $1.0 million for each workers' compensation claim and a
stop loss amount of $275,000 for each group medical claim. The following chart
reflects the major changes in our casualty program since March 1, 2001:
6
Primary Coverage Excess Coverage
Coverage Period Primary Coverage SIR/deductible Excess Coverage SIR/deductible
- -------------------------------------------------------------------------------------------------------------------
March 2001 - Feb. 2002 $1.0 million $250,000 $49.0 million $3.0 million
March 2002 - July 2002 $2.0 million $500,000 $48.0 million $3.0 million
July 2002 - November 2002 $2.0 million $500,000 $0 * $0 *
November 2002- Feb. 2003 $4.0 million $1.0 million $16.0 million $3.0 million
March 2003 - Feb. 2004 $5.0 million $2.0 million** $15.0 million $2.0 million
March 2004 - Feb. 2005 $5.0 million $2.0 million*** $15.0 million $2.0 million
* Represents period for which no proof of insurance was available from
agent and coverage was determined to be invalid. We expensed the
premiums paid in 2002 and are pursuing legal remedies against the
insurance agency and its errors and omissions policy, but we can make
no assurance of recovery.
** Does not include $1.0 million self insured retention for cargo.
Subject to an additional $2.0 million self-insured aggregate amount,
limited to $1.0 million per occurrence, which results in the total
self-insured retention of up to $3.0 million per occurrence in the
$5.0 million layer until the $2.0 million aggregate threshold is
reached.
*** Does not include $1.0 million self insured retention for cargo.
Subject to an additional $4.0 million self-insured aggregate amount,
limited to $2.0 million per occurrence, which results in the total
self-insured retention of up to $4.0 million per occurrence in the
$5.0 million layer until the $4.0 million aggregate threshold is
reached.
On July 15, 2002, we received a binder for $48.0 million of excess insurance
coverage over our $2.0 million primary layer of casualty insurance.
Subsequently, we were forced to seek replacement excess coverage after the
insurance agent retained the premium and failed to produce proof of insurance
coverage. In November 2002, we obtained replacement coverage of $4.0 million in
primary coverage with a $1.0 million self-insured retention and $16.0 million in
excess coverage with a $3.0 million self-insured retention. We recognized the
premium expense for the policy of excess coverage that was not delivered in 2002
and have filed a lawsuit to recover the premiums paid and to seek coverage from
the insurance agency and its errors and omissions policy, on any claims that may
exceed $2.0 million in exposure for the July through November period. Currently,
we are not aware of any such claims. If one or more claims from this period were
to exceed the then-effective coverage limits, our financial condition and
results of operations could be materially and adversely affected.
Regulation
We are a common and contract motor carrier of general commodities. The United
States Department of Transportation ("DOT") and various state and local agencies
exercise broad powers over our business, generally governing such activities as
authorization to engage in motor carrier operations, safety, and insurance
requirements. The DOT adopted revised hours-of-service regulations on April 28,
2003 and carriers were required to comply with these regulations starting on
January 4, 2004.
There are several hours of service changes that may have a positive or negative
effect on driver hours (and miles). The new rules allow drivers to drive up to
11 hours instead of the 10 hours permitted under prior regulations, subject to
the new 14-hour on-duty maximum described below. The rules will require a
driver's off-duty period to be 10 hours, compared to 8 hours under prior
regulations. In general, drivers may not drive beyond 14 hours in a 24-hour
period, compared to not being permitted to drive after 15 hours on-duty under
the prior rules. During the new 14-hour consecutive on-duty period, the only way
to extend the on-duty period is by the use of a sleeper berth period of at least
two hours that is later coupled with a second sleeper berth break to equal 10
hours. Under the prior rules, during the 15-hour on-duty period, drivers were
allowed to take multiple breaks of varying lengths of time, which could be
either off-duty time or sleeper berth time, that did not count against the
15-hour period. There was no change to the rule that precludes drivers from
driving after being on-duty for a maximum of 70 hours in 8
7
consecutive days. However, under the new rules, drivers can "restart" their
8-day clock by taking at least 34 consecutive hours off duty.
While we believe the 11-hour and the 34-hour restart rules may have a slight
positive effect on driving hours, we anticipate that the 15-hour to 14-hour rule
change likely will have a more significant negative impact on driving hours for
the truckload industry. The prior 15-hour rule worked like a stopwatch and
allowed drivers to stop and start their on-duty time as they chose. The new
14-hour rule is like a running clock. Once the driver goes on-duty and the clock
starts, the driver is limited to one timeout, or the clock keeps running. As a
result of this change, issues that cause driver delays such as multiple stop
shipments, unloading/loading delays, and equipment maintenance could result in a
reduction in driver miles.
We expect that the new rules could initially reduce our and other truckload
carrier's average miles per truck. As time goes on, and the Company and its
drivers gain more experience with the new rules, we anticipate that we will be
able to gradually reduce any decline in average miles per truck. We believe that
we are well equipped to minimize the economic impact of the new hours-of-service
rules on our business. We believe that historically we have been one of the more
successful carriers in identifying, assessing, and collecting charges for
additional services that our drivers perform for our customers. In addition, we
conducted intensive training programs for our driver and non-driver personnel
regarding the new hours-of-service requirements in anticipation of their
effectiveness. Prior to the effectiveness of the new rules, we also initiated
discussions with many of our customers regarding steps that they can take to
assist us in managing our drivers' non-driving activities, such as loading,
unloading, or waiting, and we plan to continue to actively communicate with our
customers regarding these matters in the future. In situations where shippers
are unable or unwilling to take these steps, we expect to assess detention and
other charges to offset losses in productivity resulting from the new
hours-of-service regulations. Although it is still too early to ascertain the
ultimate effect of these rules, based on our initial experience, our preliminary
expectation is that the rules will not significantly disrupt our operations or
materially affect our results of operations.
We also may become subject to new or more restrictive regulations relating to
matters such as fuel emissions and ergonomics. Our company drivers and
independent contractors also must comply with the safety and fitness regulations
promulgated by the DOT, including those relating to drug and alcohol testing.
The DOT has rated us "satisfactory" which is the highest safety and fitness
rating. Additional changes in the laws and regulations governing our industry
could affect the economics of the industry by requiring changes in operating
practices or by influencing the demand for, and the costs of providing, services
to shippers.
Our operations are subject to various federal, state, and local environmental
laws and regulations, implemented principally by the Federal Environmental
Protection Agency ("EPA") and similar state regulatory agencies, governing the
management of hazardous wastes, other discharge of pollutants into the air and
surface and underground waters, and the disposal of certain substances. If we
should be involved in a spill or other accident involving hazardous substances,
if any such substances were found on our property, or if we were found to be in
violation of applicable laws and regulations, we could be responsible for
clean-up costs, property damage, and fines or other penalties, any one of which
could have a materially adverse effect on us. We believe that our operations are
in material compliance with current laws and regulations.
The engines used in our newer tractors are subject to new emissions control
regulations. The EPA recently adopted new emissions control regulations, which
require progressive reductions in exhaust emissions from diesel engines through
2007, for engines manufactured in October 2002, and thereafter. The new
regulations decrease the amount of emissions that can be released by truck
engines and affect tractors produced after the effective date of the
regulations. Compliance with such regulations has increased the cost of our new
tractors and could substantially impair equipment productivity, lower fuel
mileage, and increase our operating expenses. Some manufacturers have
significantly increased new equipment prices, in part to meet new engine design
requirements, and have eliminated or sharply reduced the price of repurchase
commitments. 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.
8
Fuel Availability and Cost
We actively manage our fuel costs by routing our drivers through fuel centers
with which we have negotiated volume discounts. During 2003, the cost of fuel
was in the range at which we received fuel surcharges. Even with the fuel
surcharges, the high price of fuel decreased our profitability. Although we
historically have been able to pass through a substantial part of increases in
fuel prices and taxes to customers in the form of higher rates and surcharges,
the increases usually are not fully recovered. We do not collect surcharges on
fuel used for non-revenue miles, out-of-route miles, or fuel used while the
tractor is idling.
Additional Information
At December 31, 2003, our corporate structure included Covenant Transport, Inc.,
a Nevada holding company organized in May 1994 and its wholly owned
subsidiaries: Covenant Transport, Inc., a Tennessee corporation organized in
November 1985; Covenant Asset Management, Inc., a Nevada corporation; CIP, Inc.,
a Nevada corporation; Covenant.com, Inc., a Nevada corporation; Southern
Refrigerated Transport, Inc. ("SRT"), an Arkansas corporation; Tony Smith
Trucking, Inc., an Arkansas corporation; Harold Ives Trucking Co., an Arkansas
corporation; CVTI Receivables Corp. ("CRC"), a Nevada corporation, and Volunteer
Insurance Limited, a Cayman Island company. Terminal Truck Broker, Inc., an
Arkansas corporation and a former subsidiary, was dissolved in September 2003.
Our headquarters are located at 400 Birmingham Highway, Chattanooga, Tennessee
37419, and our website address is www.covenanttransport.com. Information on our
website is not incorporated by reference into this annual report. Our Annual
Report on Form 10-K, quarterly reports on Form 10-Q, current reports on Form
8-K, and all other reports we file with the SEC pursuant to Section 13(a) or
15(d) of the Securities Exchange Act of 1934 are available free of charge
through our website.
This report contains forward-looking statements. Additional written or oral
forward-looking statements may be made by us from time to time in our filings
with the Securities and Exchange Commission or otherwise. The words "believes,"
"expects," "anticipates," "estimates," and "projects," and similar expressions
identify forward-looking statements, which speak only as of the date the
statement was made. Such forward-looking statements are within the meaning of
that term in Section 27A of the Securities Act of 1933, as amended, and Section
21E of the Securities Exchange Act of 1934, as amended. Forward-looking
statements are inherently subject to risks and uncertainties, some of which
cannot be predicted or quantified. Future events and actual results could differ
materially from those set forth in, contemplated by, or underlying the
forward-looking statements. Statements in this report, including the Notes to
the Consolidated Financial Statements and "Management's Discussion and Analysis
of Financial Condition and Results of Operations," describe factors, among
others, that could contribute to or cause such differences. Additional factors
that could cause actual results to differ materially from those expressed in
such forward-looking statements are set forth in "Business" in this report. We
undertake no obligation to publicly update or revise any forward-looking
statements, whether as a result of new information, future events, or otherwise.
9
ITEM 2. PROPERTIES
Our headquarters and main terminal are located on approximately 180 acres of
property in Chattanooga, Tennessee, that include an office building of
approximately 182,000 square feet, our approximately 65,000 square-foot
principal maintenance facility, a body shop of approximately 16,600 square feet,
and a truck wash. We maintain sixteen terminals located on our major traffic
lanes in the cities listed below. These terminals provide a base for drivers in
proximity to their homes, a transfer location for trailer relays on
transcontinental routes, parking space for equipment dispatch, and the other
uses indicated below.
Recruiting/
Terminal Locations Maintenance Orientation Sales Ownership
------------------ ----------- ----------- ----- ---------
Chattanooga, Tennessee x x x Owned
Dalton, Georgia x x Owned
Greensboro, North Carolina Leased
Dayton, Ohio Leased
Sayreville, New Jersey Leased
Indianapolis, Indiana Leased
Ashdown, Arkansas x x x Owned
Little Rock, Arkansas x Owned
Oklahoma City, Oklahoma Owned
Hutchins, Texas x x Owned
El Paso, Texas Leased
Columbus, Ohio Leased
French Camp, California Leased
Fontana, California x Leased
Long Beach, California Owned
Pomona, California x x Owned
ITEM 3. LEGAL PROCEEDINGS
From time to time we are a party to litigation arising in the ordinary course of
business, most of which involves claims for personal injury and property damage
incurred in the transportation of freight.
On October 26, 2003, a pickup truck collided with a trailer being operating by
Southern Refrigerated Transport, Inc. ("SRT"), one of our subsidiaries, while
the SRT truck was turning left into a truck stop. A lawsuit was filed in the
United States District Court for the Southern District of Mississippi on
February 4, 2004 on behalf of Donald J. Byrd, an injured passenger in the pickup
truck, and an amended complaint was filed on February 18, 2004 on behalf of Mr.
Byrd and Marilyn S. Byrd, his wife. The relief sought in the lawsuit is judgment
against SRT and the driver of the SRT truck in excess of one million dollars. In
addition, the Company has received demands in the form of letters seeking a
total of $27.0 million from attorneys representing potential beneficiaries of
two decedents who occupied the pickup truck. We are defending the case and
expect all matters involving the occurrence to be resolved at a level
substantially below our aggregate coverage limits of our insurance policies.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
During the fourth quarter of the year ended December 31, 2003, no matters were
submitted to a vote of security holders.
10
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY, RELATED STOCKHOLDER MATTERS
AND ISSUER PURCHASES OF EQUITY SECURITIES
Price Range of Common Stock
Our Class A Common Stock is traded on the Nasdaq National Market, under the
symbol "CVTI." The following table sets forth for the calendar periods indicated
the range of high and low bid price for our Class A Common Stock as reported by
Nasdaq from January 1, 2002 to December 31, 2003.
Period High Low
------ ---- ---
Calendar Year 2002
1st Quarter $ 17.20 $ 14.31
2nd Quarter $ 21.96 $ 14.25
3rd Quarter $ 22.90 $ 15.40
4th Quarter $ 19.03 $ 15.26
Calendar Year 2003
1st Quarter $ 19.42 $ 14.70
2nd Quarter $ 19.99 $ 15.65
3rd Quarter $ 20.30 $ 15.91
4th Quarter $ 21.21 $ 17.25
As of March 1, 2004, we had approximately 42 stockholders of record of our Class
A Common Stock. However, we estimate that we have approximately 2,200
stockholders because a substantial number of our shares are held of record by
brokers or dealers for their customers in street names.
Dividend Policy
We have never declared and paid a cash dividend on our common stock. It is the
current intention of our Board of Directors to continue to retain earnings to
finance our growth and reduce our indebtedness rather than to pay dividends. The
payment of cash dividends is currently limited by agreements relating to our
credit agreements. Future payments of cash dividends will depend upon our
financial condition, results of operations, and capital commitments,
restrictions under then-existing agreements, and other factors deemed relevant
by our Board of Directors.
See "Equity Compensation Plan Information" under Item 12 in Part III of this
Annual Report for certain information concerning shares of our common stock
authorized for issuance under our equity compensation plans.
11
ITEM 6. SELECTED FINANCIAL AND OPERATING DATA
(In thousands, except per share and operating data amounts)
Years Ended December 31,
2003 2002 2001 2000 1999
----------------------------------------------------------------------------
Statement of Operations Data:
Freight revenue $546,766 $541,830 $ 547,028 $ 552,429 $ 472,741
Fuel and accessorial surcharges 35,691 22,588 26,593 31,561 6,626
----------------------------------------------------------------------------
Total revenue $582,457 $564,418 $ 573,621 $ 583,990 $ 479,367
Operating expenses:
Salaries, wages, and related expenses 220,665 227,332 244,849 244,704 205,686
Fuel expense 109,231 96,332 103,894 104,154 74,150
Operations and maintenance 39,822 39,625 39,410 36,267 29,985
Revenue equipment rentals and
purchased transportation 69,997 59,265 65,104 76,200 49,330
Operating taxes and licenses 14,354 13,934 14,358 14,940 11,777
Insurance and claims 35,454 31,761 27,838 18,907 14,096
Communications and utilities 7,177 7,021 7,439 7,189 5,682
General supplies and expenses 14,495 14,677 14,468 13,970 10,380
Depreciation and amortization, including
gains (losses) on disposition of
equipment and impairment of assets (1) 43,041 49,497 56,324 38,879 35,591
----------------------------------------------------------------------------
Total operating expenses 554,236 539,444 573,684 555,210 436,677
----------------------------------------------------------------------------
Operating income (loss) 28,221 24,974 (63) 28,780 42,690
Other (income) expense:
Interest expense 2,332 3,542 7,855 9,894 5,993
Interest income (114) (63) (328) (520) (480)
Other (468) 916 799 (368) -
Early extinguishment of debt - 1,434 - - -
----------------------------------------------------------------------------
Other (income) expenses, net 1,750 5,829 8,326 9,006 5,513
----------------------------------------------------------------------------
Income (loss) before income taxes 26,471 19,145 (8,389) 19,774 37,177
Income tax expense (benefit) 14,315 10,871 (1,727) 7,899 14,900
----------------------------------------------------------------------------
Net income (loss) $ 12,156 $ 8,274 $ (6,662) $ 11,875 $ 22,277
============================================================================
(1) Includes a $3.3 million and a $15.4 million pre-tax impairment charge in
2002 and 2001, respectively.
Basic earnings per share $ 0.84 $ 0.58 $ (0.48) $ 0.82 $ 1.49
Diluted earnings per share 0.83 0.57 (0.48) 0.82 1.48
Weighted average common shares
outstanding 14,467 14,223 13,987 14,404 14,912
Weighted average common shares
outstanding adjusted for assumed
conversions 14,709 14,519 13,987 14,533 15,028
12
Years Ended December 31,
Selected Balance Sheet Data 2003 2002 2001 2000 1999
-----------------------------------------------------------------------------
Net property and equipment $ 221,734 $ 238,488 $ 231,536 $ 256,049 $ 269,034
Total assets 354,281 361,541 349,782 390,513 383,974
Long-term debt, less current maturities 12,000 1,300 29,000 74,295 140,497
Stockholders' equity 192,142 175,588 161,902 167,822 163,852
Selected Operating Data:
Average revenue per loaded mile $ 1.25 $ 1.22 $ 1.21 $ 1.23 $ 1.20
Average revenue per total mile $ 1.15 $ 1.13 $ 1.12 $ 1.13 $ 1.11
Average revenue per tractor per week $ 2,852 $ 2,812 $ 2,737 $ 2,790 $ 3,078
Average miles per tractor per year 129,656 129,906 127,714 128,754 144,601
Weighted average tractors for year (1) 3,667 3,680 3,791 3,759 2,929
Total tractors at end of period (1) 3,752 3,738 3,700 3,829 3,521
Total trailers at end of period (2) 9,255 7,485 7,702 7,571 6,199
(1) Includes monthly rental tractors.
(2) Excludes monthly rental trailers.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
Except for the historical information contained herein, the discussion in this
annual report contains forward-looking statements that involve risk,
assumptions, and uncertainties that are difficult to predict. Statements that
constitute forward-looking statements are usually identified by words such as
"anticipates," "believes," "estimates," "projects," "expects," "plans,"
"intends," or similar expressions. These statements are made pursuant to the
safe harbor provisions of the Private Securities Litigation Reform Act of 1995.
Such statements are based upon the current beliefs and expectations of our
management and are subject to significant risks and uncertainties. Actual
results may differ from those set forth in the forward-looking statements. The
following factors, among others, could cause actual results to differ materially
from those in forward-looking statements: excess tractor and trailer capacity in
the trucking industry; decreased demand for our services or loss of one or more
or our major customers; surplus inventories; recessionary economic cycles and
downturns in customers' business cycles; strikes, work slow downs, or work
stoppages at our facilities, or at customer, port, or other shipping related
facilities; increases or rapid fluctuations in fuel prices as well as
fluctuations in hedging activities and surcharge collection, the volume and
terms of diesel purchase commitments, interest rates, fuel taxes, tolls, and
license and registration fees; increases in the prices paid for new revenue
equipment; the resale value of our used equipment and the price of new
equipment; increases in compensation for and difficulty in attracting and
retaining qualified drivers and independent contractors; elevated experience in
the frequency and severity of claims relating to accident, cargo, workers'
compensation, health, and other matters; high insurance premiums and deductible
amounts; seasonal factors such as harsh weather conditions that increase
operating costs; competition from trucking, rail, and intermodal competitors;
regulatory requirements that increase costs or decrease efficiency, including
revised hours-of-service requirements for drivers; our ability to successfully
execute our initiative of improving the profitability of medium length of haul,
or "in-between," movements; and the ability to identify acceptable acquisition
candidates, consummate acquisitions, and integrate acquired operations. Readers
should review and consider these factors along with the various disclosures we
make in press releases, stockholder reports, and public filings, as well as the
factors explained in greater detail under "Factors that May Affect Future
Results" herein.
Executive Overview
We are one of the ten largest truckload carriers in the United States measured
by revenue. We focus on longer lengths of haul in targeted markets where we
believe our service standards can provide a competitive advantage. We are a
major carrier for traditional truckload customers such as manufacturers and
retailers, as well as for
13
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.
Between 1991 and 1999, we grew our revenue before fuel and other surcharges from
$41.2 million to $472.7 million through internal growth and acquisitions. Over
the same period, we grew net income from $823,000, or $.08 per diluted share, to
$22.3 million, or $1.48 per diluted share. We believe this rapid growth was
strategically important, as we gained the size and equipment capacity to cover
additional traffic lanes and geographic areas for customers, participate in
competitive bids to transport freight for major shippers and develop a
substantial dedicated service business.
Beginning in 2000, the combination of softening freight demand and our rapid
expansion affected our profitability, as we were unable to obtain the freight
rates and levels of asset utilization we expected. At the same time, rising
insurance premiums and depressed used truck prices increased our operating
costs. As a result, our freight revenue declined slightly and our net income
declined to $11.9 million in 2000. We experienced a net loss of $6.7 million in
2001, including a $15.4 million pre-tax impairment charge relating to the
reduced market value of our used tractors.
Following the setbacks in 2000 and early 2001, we adopted several business
practices in 2001 that were designed to improve our profitability and
particularly, our average revenue per tractor, our chief measure of asset
utilization. The most significant of these practices were constraining the size
of our tractor and trailer fleets until profit margins justify expansion,
increasing freight volumes within our existing traffic lanes, replacing lower
yielding freight, implementing selective rate increases, and reinforcing our
cost control efforts. We believe that a combination of these business practices
and an improved freight environment contributed to substantial improvement in
our operating performance between 2001 and 2003. For 2003, our freight revenue
increased to $546.8 million and our net income improved to $12.2 million.
For 2004, the key factors that we expect to affect our profitability are our
revenue per mile, our miles per tractor, our compensation of drivers, our
capital cost of revenue equipment, and our costs of maintenance and insurance
and claims. We expect our costs for driver compensation and the ownership and
financing of our equipment to increase significantly. On March 15, we are
implementing a three cent per mile increase in the compensation of our employee
and independent contractor drivers, and we also added compensation for detention
time effective January 4, 2004. We also expect our revenue equipment capital
cost (whether in the form of interest and depreciation or payments under
operating leases) to increase by approximately two cents per mile. To overcome
these cost increases and improve our margins we will need to achieve significant
increases in revenue per tractor, particularly in revenue per mile. Other areas
we expect to have a significant impact include maintenance costs, which we
expect to decrease because of a newer tractor fleet, insurance and claims, which
can be volatile due to our large self-insured retention, and miles per tractor,
which will be affected by our ability to attract and retain drivers in an
increasingly tight driver market, our success with improving the utilization of
our solo driver fleet, and our success in addressing utilization challenges
imposed by the new hours-of-service regulations. In evaluating these factors, it
may be useful to note that each one cent per mile difference in revenue or cost
per mile has an impact of approximately $.23 per share on our earnings per share
and each one percent increase or decrease in miles per tractor has an impact of
approximately $.07 per share on earnings 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, and
the number of miles we generate with our equipment. These factors relate, among
other things, to 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, and our average length of haul.
We also derive revenue from fuel surcharges, loading and unloading activities,
equipment detention, and other accessorial services. Freight revenue, which is
our revenue before fuel and accessorial surcharges, has accounted for
approximately 94% to 95% of our total revenue over the past three years. We
expect accessorial revenue, primarily
14
for equipment detention and stop offs, to increase with the new hours-of-service
regulations that became effective January 4, 2004.
Since 2000 we have held our fleet size relatively constant. An overcapacity of
trucks in our fleet and the industry generally as the economy slowed has
contributed to lower equipment utilization and pricing pressure. The main
constraints on our internal growth are the ability to recruit and retain a
sufficient number of qualified drivers and in times of slower growth, to add
profitable freight.
In addition to constraining fleet size, we reduced our number of two-person
driver teams during 2001 and have since held the percentage relatively constant
to better match the demand for expedited long-haul service. Our single driver
fleets generally operate in shorter lengths of haul, generate fewer miles per
tractor, and experience more non-revenue miles, but the additional expenses and
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.
During 2003 we conducted an intense evaluation of the freight in what we call
"in-between" movements. In-between movements generally have lengths of haul
between 550 and 850 miles. They are longer than one-day regional moves but not
long enough for expedited team service or two full days with a single driver. In
many instances, the revenue we have generated from in-between movements has been
insufficient to generate the profitability we desire based on the amount of time
the tractor and driver are committed to the load. Accordingly, we examined each
in-between movement and negotiated with our customers to raise rates, obtain
more favorable loads, or cease hauling the in-between loads. During the period
of our evaluation in 2003, these in-between movements represented approximately
one quarter of our total loads, and we believe they have been significantly less
profitable than our longer or shorter lengths of haul. Based on the initial
results of these efforts, we believe that we have significant opportunities to
improve our profitability over time as we continue to focus on our in-between
loads.
Expenses and Profitability
Over the past four years the trucking industry has experienced a significant
increase in operating costs. The main factors for the industry as well as for us
have been an increased annual cost of tractors due to higher initial prices and
lower used truck values, higher maintenance expense due to operating an older
fleet, a higher overall cost of insurance and claims, and elevated fuel prices.
Other than those categories, our total expenses have declined as a percentage of
revenue. Going forward, however, we expect driver and independent contractor
compensation to increase as a result of the three cent increase in compensation
to our drivers.
Looking forward, our profitability goal is to return to an operating ratio of
approximately 90%. We expect this to require additional improvements in revenue
per tractor per week, particularly in revenue per mile, to overcome expected
additional cost increases to expand our margins. Because a large percentage of
our costs are variable, changes in revenue per mile affect our profitability to
a greater extent than changes in miles per tractor.
Revenue Equipment
We operate approximately 3,752 tractors and 9,255 trailers. Of our tractors, at
December 31, 2003, approximately 2,314 were owned, 1,025 were financed under
operating leases, and 413 were provided by independent contractors, who own and
drive their own tractors. Of our trailers, at December 31, 2003, approximately
2,644 were owned and approximately 6,611 were financed under operating leases.
We recognized pre-tax impairment charges of $15.4 million in the fourth quarter
of 2001 and $3.3 million in the first quarter of 2002 in relation to the reduced
value of our model year 1998 through 2000 tractors. In addition, we increased
the depreciation rate and decreased salvage values on our remaining tractors to
reflect our expectations concerning market value at disposition. In June 2003 we
entered into a trade-in agreement with an equipment manufacturer with trade-in
values which approximate the expected disposition value of the model year 2001
tractors. Our assumptions represent our best estimate, and actual values could
differ by the time those tractors are scheduled for trade.
15
Because of the increases in historical purchase prices and residual values, the
annual expense per tractor on model year 2003 and 2004 tractors is expected to
be higher than the annual expense on the units being replaced. By the time the
entire fleet is converted, anticipated in 2004, we expect the total increase in
expense to be approximately one and one-half cent pre-tax per mile, excluding
the cost of financing. The timing of these expenses could be affected in future
periods, because we are in the process of changing our tractor trade cycle from
a period of approximately four years to three years. If the tractors are leased
instead of purchased, the references to increased depreciation would be
reflected as additional lease expense.
We finance a portion of our tractor and trailer fleet with off-balance sheet
operating leases. These leases generally run for a period of three years for
tractors and seven years for trailers. With our tractor trade cycle currently
transitioning from approximately four years back to three years, we have been
purchasing the leased tractors at the expiration of the lease term, although
there is no commitment to purchase the tractors. The first trailer leases expire
in 2005, and we have not determined whether to purchase trailers at the end of
these leases. In April 2003, we entered into a sale-leaseback arrangement
covering approximately 1,266 of our trailers. This arrangement is more fully
described below in the revenue equipment rentals and purchased transportation
discussion.
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 rather than operating ratio.
Results of Operations
For comparison purposes in the table below, we use freight revenue in addition
to total revenue when discussing changes as a percentage of revenue. We believe
excluding these sometimes volatile sources of revenue affords a more consistent
basis for comparing the results of operations from period to period. Freight
revenue (total revenue less fuel surcharge and accessorial revenue) excludes
$35.7 million, $22.6 million and $26.6 million of fuel and accessorial surcharge
revenue in the three years-ended December 31, 2003, 2002, and 2001,
respectively. With the new hours-of-service regulations that became effective
January 4, 2004, we expect accessorial revenue, primarily for equipment
detention and stop offs, to increase significantly. Under the new regulatory
requirements, we may reclassify accessorial revenue into freight revenue in
future periods.
16
The following table sets forth the percentage relationship of certain items to
total revenue and freight revenue:
2003 2002 2001 2003 2002 2001
-------- -------- -------- -------- -------- --------
Total revenue 100.0% 100.0% 100.0% Freight revenue (1) 100.0% 100.0% 100.0%
------------- -------- -------- -------- --------------- -------- -------- --------
Operating expenses: Operating expenses:
Salaries, wages, and related Salaries, wages, and
expenses 37.9 40.3 42.7 related expenses (1) 39.1 40.7 43.8
Fuel expense 18.8 17.1 18.1 Fuel expense (1) 15.1 15.2 15.4
Operations and maintenance 6.8 7.0 6.9 Operations and maintenance (1) 6.9 6.9 6.9
Revenue equipment rentals Revenue equipment rentals
and purchased and purchased
transportation 12.0 10.5 11.3 transportation 12.8 10.9 11.9
Operating taxes and licenses 2.5 2.5 2.5 Operating taxes and licenses 2.6 2.6 2.6
Insurance and claims 6.1 5.6 4.9 Insurance and claims 6.5 5.9 5.1
Communications and utilities 1.2 1.2 1.3 Communications and utilities 1.3 1.4 1.4
General supplies and General supplies and
expenses 2.5 2.6 2.5 expenses 2.7 2.7 2.6
Depreciation and Depreciation and
amortization, including amortization, including
gains (losses) on gains (losses) on
disposition of equipment disposition of equipment
and impairment of assets 7.4 8.8 9.8 and impairment of assets (2) 7.9 9.1 10.3
-------- -------- -------- -------- -------- --------
Total operating expenses 95.2 95.6 100.0 Total operating expenses 94.8 95.4 100.0
-------- -------- -------- -------- -------- --------
Operating income 4.8 4.4 0.0 Operating income 5.2 4.6 0.0
Other (income) expense, net 0.3 1.0 1.5 Other (income) expense, net 0.3 1.1 1.5
-------- -------- -------- -------- -------- --------
Income (loss) before Income (loss) before
income taxes 4.5 3.4 (1.5) income taxes 4.8 3.5 (1.5)
Income tax expense (benefit) 2.4 1.9 (0.3) Income tax expense (benefit) 2.6 2.0 (0.3)
-------- -------- -------- -------- -------- --------
Net Income (loss) 2.1% 1.5% (1.2%) Net Income (loss) 2.2% 1.5% (1.2%)
======== ======== ======== ======== ======== ========
(1) Freight revenue is total revenue less fuel surcharge and accessorial
revenue. In this table, fuel surcharge and accessorial revenue are
shown netted against the appropriate expense category. Salaries,
wages, and related expenses, $6.7 million, $6.7 million, and $5.4
million; fuel expense, $26.8 million, $13.8 million, and $19.5
million; operations and maintenance, $2.0 million, $2.0 million, and
$1.6 million in 2003, 2002 and 2001, respectively.
(2) Includes a $3.3 million and a $15.4 million pre-tax impairment charge
or 0.6% and 2.8% of freight revenue in 2002 and 2001, respectively.
COMPARISON OF YEAR ENDED DECEMBER 31, 2003 TO YEAR ENDED DECEMBER 31, 2002
Total revenue increased $18.0 million, or 3.2%, to $582.5 million in 2003, from
$564.4 million in 2002. Freight revenue excludes $35.7 million of fuel and
accessorial surcharge revenue in 2003 and $22.6 million in 2002. For comparison
purposes in the discussion below, we use freight 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.
Freight revenue (total revenue less fuel surcharge and accessorial revenue)
increased $4.9 million (0.9%), to $546.8 million in 2003, from $541.8 million in
2002. Revenue per tractor per week increased 1.4% to $2,852 in 2003 from $2,812
in 2002. The revenue per tractor per week increase was primarily generated by a
2.5% higher rate per loaded mile which was partially offset by an increase in
non revenue miles. Weighted average tractors decreased 0.4% to 3,667 in 2003
from 3,680 in 2002. We have elected to constrain the size of our tractor fleet
until fleet production and profitability improve.
17
Salaries, wages, and related expenses, net of accessorial revenue of $6.7
million in 2003 and 2002, decreased $6.7 million (3.0%), to $213.9 million in
2003, from $220.7 million in 2002. As a percentage of freight revenue, salaries,
wages, and related expenses decreased to 39.1% in 2003, from 40.7% in 2002. The
decrease was largely attributable to our utilizing a larger percentage of
single-driver tractors, with only one driver per tractor to be compensated and
implementing changes in our pay structure. Driver wages are expected to increase
as a percentage of revenue in future periods, due to a pay increase that will go
into effect March 15, 2004. Management expects wages to increase approximately
three cents per mile or approximately $13 million pre-tax on an annualized
basis. Our payroll expense for employees other than over the road drivers
remained relatively constant at 7.3% of freight revenue in 2003 and 7.2% of
freight revenue in 2002. Health insurance, employer paid taxes, workers'
compensation, and other employee benefits decreased to 5.8% of freight revenue
in 2003 from 6.4% of freight revenue in 2002, mainly due to improving claims
experience in the Company's workers' compensation plan. As a percentage of
freight revenue, salaries, wages, and related expenses was impacted during the
year in part by an approximately $723,000 claim relating to a natural gas
explosion in our Indianapolis terminal that injured four employees, which was
partially offset by favorable workers' compensation experience otherwise.
Fuel expense, net of fuel surcharge revenue of $26.8 million in 2003 and $13.8
million in 2002, remained constant at $82.5 million in 2003 and 2002. As a
percentage of freight revenue, net fuel expense remained relatively constant at
15.1% in 2003 and 15.2% in 2002. Fuel prices increased sharply during 2003 due
to unrest in Venezuela and the Middle East and low inventories. However, fuel
surcharges amounted to $.060 per loaded mile in 2003 compared to $.031 per
loaded mile in 2002, which partially offset the increased fuel expense. Higher
fuel prices will increase our operating expenses. Fuel costs may be affected in
the future by volume purchase commitments, the collectibility of fuel
surcharges, and lower fuel mileage due to government mandated emissions
standards that were effective October 1, 2002, and have resulted in less fuel
efficient engines.
Operations and maintenance consist primarily of vehicle maintenance, repairs and
driver recruitment expenses. Net of accessorial revenue of $2.0 million in 2003
and 2002, operations and maintenance increased $0.2 million to $37.8 million in
2003 from $37.6 million in 2002. As a percentage of freight revenue, net
operations and maintenance expense remained relatively constant at 6.9% in 2003
and 2002. We extended the trade cycle on our tractor fleet from three years to
four years in 2001, which resulted in an increase in the number of required
repairs during the first half of 2003. We are in the process of changing our
tractor trade cycle back to a period of approximately three years, and we expect
maintenance costs to decrease as the reduced maintenance cost of the new
tractors is no longer offset by the high cost of preparing used tractors for
disposition. The average age of our tractor and trailer fleets decreased to 19
and 34 months at December 2003, from 26 and 55 months as of December 2002,
respectively. Driver recruiting expense is expected to increase because of
greater demand for trucking services and a tighter supply of drivers.
Revenue equipment rentals and purchased transportation increased $10.7 million
(18.0%), to $69.8 million in 2003, from $59.2 million in 2002. As a percentage
of freight revenue, revenue equipment rentals and purchased transportation
increased to 12.8% in 2003 from 10.9% in 2002. The increase is due principally
to two factors. First, the revenue equipment rental expense increased $7.7
million, or 43.1%, to $25.4 million in 2003, from $17.7 million in 2002. As of
December 2003, we had financed approximately 1,025 tractors and 6,611 trailers
under operating leases as compared to 891 tractors and 2,628 trailers under
operating leases as of December 2002. On April 14, 2003, we entered into a
sale-leaseback transaction involving approximately 1,266 dry van trailers. We
sold the trailers to a finance company for approximately $15.6 million in cash
and leased the trailers back under three year walk away leases. The
approximately $0.3 million gain on the sale-leaseback transaction will be
amortized over the life of the lease. Also in April 2003, we entered into an
agreement with a finance company to sell approximately 2,585 dry van trailers
for approximately $20.5 million in cash and to lease 3,600 model year 2004 dry
van trailers over the next twelve months. The leases on the new trailers are
seven year walk away leases. The approximately $2.0 million loss on the dry van
transaction will be recognized with additional depreciation expense from the
date of the transaction until the units are sold. Our revenue equipment rental
expense is expected to increase in the future to reflect these transactions,
which will be partially offset by no longer recognizing depreciation and
interest expense with respect to these trailers or tractors. In addition, in
September 2003, we entered into an agreement with Volvo for the lease with an
option to purchase of up to 500 new tractors, with these units being leased
under 39 month walk away leases. The increase in revenue equipment rentals and
purchased transportation is also due to the payments to
18
independent contractors increasing $3.1 million to $44.6 million in 2003 from
$41.5 million in 2002, mainly due to an increase in the independent contractor
fleet to an average of 390 in 2003 versus an average of 355 in 2002. Payments
due to independent contractors are expected to increase as a percentage of
revenue in future periods, due to the approximately three cents per mile
increase in compensation to independent contractors that will go into effect
March 15, 2004. The financial impact will be approximately $1.5 million pretax
on an annualized basis.
Operating taxes and licenses increased $0.4 million (3.0%), to $14.4 million in
2003, from $13.9 million in 2002. As a percentage of freight revenue, operating
taxes and licenses remained essentially constant at 2.6% in 2003 and 2002.
Insurance and claims, consisting primarily of premiums and deductible amounts
for liability, physical damage, and cargo damage insurance and claims, increased
$3.7 million (11.6%), to $35.5 million in 2003 from $31.8 million in 2002. As a
percentage of freight revenue, insurance and claims expense increased to 6.5% in
2003 from 5.9% in 2002. Insurance and claims expense has increased greatly since
2001. The increase is a result of an industry-wide increase in insurance rates,
which we addressed by adopting an insurance program with significantly higher
deductible exposure, and our unfavorable accident experience over the past three
years. Insurance and claims expense will vary based on the frequency and
severity of claims, the premium expense, and the level of self-insured
retention. Because of another increase in self-insured retentions, effective
March 1, 2004, our future expenses of insurance and claims may be higher or more
volatile than in historical periods.
Communications and utilities increased $0.2 million (2.2%), to $7.2 million in
2003, from $7.0 million in 2002. As a percentage of freight revenue,
communications and utilities remained essentially constant at 1.3% in 2003 and
2002.
General supplies and expenses, consisting primarily of headquarters and other
terminal facilities expenses, decreased $0.2 million (1.2%), to $14.5 million in
2003, from $14.7 million in 2002. As a percentage of freight revenue, general
supplies and expenses remained essentially constant at 2.7% in 2003 and 2002.
Depreciation, amortization and impairment charge, consisting primarily of
depreciation of revenue equipment, decreased $6.5 million (13.0%), to $43.0
million in 2003 from $49.5 million in 2002. As a percentage of freight revenue,
depreciation and amortization decreased to 7.9% in 2003 from 9.1% in 2002. The
decrease in part resulted because we did not have an impairment charge in the
2003 period, as we recorded a $3.3 million impairment charge in the 2002 period.
Depreciation and amortization expense is net of any gain or loss on the disposal
of tractors and trailers. Gains on the disposal of tractors and trailers were
approximately $0.9 million in 2003 compared to a loss of $2.4 million in 2002.
In addition, we executed the April 2003 sale-leaseback transaction, discussed
under the revenue equipment rentals and purchased transportation discussion
above. These factors were partially offset by increased depreciation expense on
our 2001 tractors and on our new tractors. We expect our annual cost of tractor
and trailer ownership and/or leasing to increase in future periods. The increase
is expected to result from a combination of higher initial prices of new
equipment, lower resale values for used equipment, and increased depreciation
expense on some of our existing equipment over their remaining lives in order to
better match expected book values or lease residual values with market values at
the equipment disposal date. To the extent equipment is leased under operating
leases, the amounts will be reflected in revenue equipment rentals and purchased
transportation. To the extent equipment is owned or obtained under capitalized
leases; the amounts will be reflected as depreciation expense and interest
expense. Those expense items will fluctuate with changes in the percentage of
our equipment obtained under operating leases versus owned and under capitalized
leases.
Amortization expense relates to deferred debt costs incurred and covenants not
to compete from five acquisitions. Goodwill amortization ceased beginning
January 1, 2002, in accordance with SFAS No. 142, and we evaluate goodwill and
certain intangibles for impairment, annually. During the second quarter of 2003
and 2002, we tested our goodwill for impairment and found no impairment.
Other expense, net, decreased $4.1 million (70.0%), to $1.8 million in 2003,
from $5.8 million in 2002. As a percentage of freight revenue, other expense
decreased to 0.3% in 2003 from 1.1% in 2002. The decrease was the result of
lower debt balances and more favorable interest rates. Included in the other
expense category are interest
19
expense, interest income, and pre-tax non-cash adjustments related to the
accounting for interest rate derivatives under SFAS No. 133, which amounted to a
$0.4 million gain in 2003 and a $0.9 million loss in 2002.
During the first quarter of 2002, we prepaid the remaining $20.0 million in
previously outstanding 7.39% ten year, private placement notes with borrowings
from the Credit Agreement. In conjunction with the prepayment of the borrowings,
we recognized an approximate $1.4 million pre-tax charge to reflect the early
extinguishment of debt. The losses related to the write off of debt issuance and
other deferred financing costs and a premium paid on the retirement of the
notes. Upon adoption of SFAS 145 in 2003, we reclassified the loss and it is no
longer classified as an extraordinary item.
Income tax expense increased $3.4 million (31.7%) to $14.3 million in 2003 from
$10.9 million in 2002. The effective tax rate is different from the expected
combined tax rate due to permanent differences 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.
As a result of the factors described above, net income increased $3.9 million,
or 46.9%, to $12.2 million in 2003 from $8.3 million in 2002. As a result of the
foregoing, our net margin increased to 2.2% in 2003 from 1.5% in 2002.
COMPARISON OF YEAR ENDED DECEMBER 31, 2002 TO YEAR ENDED DECEMBER 31, 2001
Freight revenue (total revenue less fuel surcharge and accessorial revenue)
decreased $5.2 million (1.0%), to $541.8 million in 2002, from $547.0 million in
2001. Our revenue was affected by a 2.9% decrease in weighted average number of
tractors partially offset by a 2.7% increase in revenue per tractor per week to
$2,812 in 2002 from $2,737 in 2001. The revenue per tractor per week increase
was primarily generated by a 1.7% higher utilization of equipment and a 1.0%
higher rate per total mile. Weighted average tractors decreased 2.9% to 3,680 in
2002 from 3,791 in 2001. We have elected to constrain the size of our tractor
fleet until fleet production and profitability improve.
Salaries, wages, and related expenses, net of accessorial revenue of $6.7
million in 2002 and $5.4 million in 2001, decreased $18.8 million (7.9%), to
$220.7 million in 2002, from $239.5 million in 2001. As a percentage of freight
revenue, salaries, wages, and related expenses decreased to 40.7% in 2002, from
43.8% in 2001. Wages for over the road drivers as a percentage of freight
revenue decreased to 27.2% in 2002 from 30.1% in 2001. The decrease was largely
attributable to us utilizing a larger percentage of single-driver tractors, with
only one driver per tractor to be compensated, implementing changes in our pay
structure and implementing a per diem pay program for our drivers during August
2001. As a percentage of freight revenue, our payroll expense for employees
other than over the road drivers increased to 7.2% in 2002 from 6.7% in 2001 due
to growth in headcount and local drivers in the dedicated fleet. Health
insurance, employer-paid taxes, workers' compensation, and other employee
benefits decreased to 6.4% in 2002 from 6.9% in 2001. The decrease was primarily
due to lower employer-paid taxes related to lower wage levels and was partially
offset by increases in workers' compensation and health insurance costs related
to rising medical expenses, which are expected to continue to increase in future
periods.
Fuel expense, net of fuel surcharge revenue of $13.8 million in 2002 and $19.5
million in 2001, decreased $1.9 million (2.2%), to $82.5 million in 2002, from
$84.4 million in 2001. As a percentage of freight revenue, net fuel expense
remained relatively constant at 15.2% in 2002 and 15.4% in 2001. Fuel surcharges
amounted to $.031 per loaded mile in 2002 compared to $.043 per loaded mile in
2001. Fuel prices have increased sharply during the first two months of 2003
because of reasons such as unrest in Venezuela and the Middle East and low
inventories. Higher fuel prices will increase our operating expenses. Fuel costs
may be affected in the future by volume purchase commitments, the collectibility
of fuel surcharges, and lower fuel mileage due to government mandated emissions
standards that were effective October 1, 2002, and will result in less fuel
efficient engines. We did not have any fuel hedging contracts at December 31,
2002.
Operations and maintenance consist primarily of vehicle maintenance, repairs and
driver recruitment expenses. Net of accessorial revenue of $2.0 million in 2002
and $1.6 million in 2001, operations and maintenance decreased $0.2
20
million to $37.6 million in 2002 from $37.8 million in 2001. As a percentage of
freight revenue, operations and maintenance remained essentially constant at
6.9% in 2002 and 2001. We extended the trade cycle on our tractor fleet from
three years to four years, which resulted in an increase in the number of
required repairs. However, the increased repair costs were offset by reduced
driver recruitment expenses. We expect maintenance costs to decrease as we take
delivery of new tractors. Driver recruiting expense may increase if shipping
volumes increase and create greater demand for trucking services.
Revenue equipment rentals and purchased transportation decreased $5.8 million
(9.0%), to $59.2 million in 2002, from $65.1 million in 2001. As a percentage of
freight revenue, revenue equipment rentals and purchased transportation
decreased to 10.9% in 2002 from 11.9% in 2001. The decrease was the result of
lower lease payments (3.2% of freight revenue in 2002 compared to 3.9% of
freight revenue in 2001) and a smaller fleet of owner-operators during 2002 (an
average of 355 in 2002 compared to an average of 360 in 2001). The smaller fleet
of owner-operators resulted in lower payments to owner-operators (7.7% of
freight revenue in 2002 compared to 8.0% of freight revenue in 2001). We expect
our annual cost of tractor and trailer ownership and/or leasing to increase in
future periods. The increase is expected to result from a combination of higher
initial prices of new equipment, lower resale values for used equipment, and
increased depreciation/lease payments on some of our existing equipment over
their remaining lives in order to better match expected book values or lease
residual values with market values at the equipment disposal date. To the extent
equipment is leased under operating leases, the amounts will be reflected in
revenue equipment rentals and purchased transportation. To the extent equipment
is owned or obtained under capitalized leases; the amounts will be reflected as
depreciation expense and interest expense. Those expense items will fluctuate
with changes in the percentage of our equipment obtained under operating leases
versus owned and under capitalized leases.
Operating taxes and licenses decreased $0.4 million (3.0%), to $13.9 million in
2002, from $14.4 million in 2001. As a percentage of freight revenue, operating
taxes and licenses remained essentially constant at 2.6% in 2002 and 2001.
Insurance and claims, consisting primarily of premiums and deductible amounts
for liability, physical damage, and cargo damage insurance and claims, increased
$3.9 million (14.1%), to $31.8 million in 2002 from $27.8 million in 2001. As a
percentage of freight revenue, insurance and claims expense increased to 5.9% in
2002 from 5.1% in 2001. The increase is a result of an industry-wide increase in
insurance rates, which we addressed by adopting an insurance program with
significantly higher self insured retention exposure that is partially offset by
lower premium rates. The retention level for our primary insurance layer
increased from $12,500 in 2000 to $250,000 in 2001 to $500,000 in March of 2002,
to $1.0 million in November of 2002, and to $2.0 million on March 1, 2003. From
July 15, 2002 to November 10, 2002, our excess insurance coverage over the $2.0
million primary layer we had in effect ($4.0 million from November 11 to
November 22, 2002) was determined to be invalid. Although we are not aware of
any claim that is expected to exceed our primary coverage, any such claim would
be uninsured unless the agent's errors and omissions policy provides coverage.
In the event of an uninsured claim our financial condition and results of
operations could be materially and adversely affected.
We accrue the estimated cost of the uninsured portion of pending claims. These
accruals are based on our evaluation of the nature and severity of the claim and
estimates of future claims development based on historical trends. Insurance and
claims expense will vary based on the frequency and severity of claims, the
premium expense, and the level of self insured retention. Because of higher
self-insured retentions, our future expenses of insurance and claims may be
higher or more volatile than in historical periods.
Communications and utilities decreased $0.4 million (5.6%), to $7.0 million in
2002, from $7.4 million in 2001. As a percentage of freight revenue,
communications and utilities remained essentially constant at 1.4% in 2002 and
2001.
General supplies and expenses, consisting primarily of headquarters and other
terminal facilities expenses, increased $0.2 million (1.4%), to $14.7 million in
2002, from $14.5 million in 2001. As a percentage of freight revenue, general
supplies and expenses remained essentially constant at 2.7% in 2002 and 2.6% in
2001.
21
Depreciation, amortization and impairment charge, consisting primarily of
depreciation of revenue equipment, decreased $6.8 million (12.1%), to $49.5
million in 2002 from $56.3 million in 2001. As a percentage of freight revenue,
depreciation and amortization decreased to 9.1% in 2002 from 10.3% in 2001. The
decrease is the result of impairment charges, partially offset by increased
depreciation expense and losses on the sale of equipment. We recognized pre-tax
charges of approximately $3.3 million and $15.4 million, in 2002 and 2001,
respectively, to reflect an impairment in tractor values. Depreciation and
amortization expense is net of any gain or loss on the sale of tractors and
trailers. Loss on the sale of tractors and trailers was approximately $2.4
million in 2002 and $217,000 in 2001. We expect our annual cost of tractor and
trailer ownership and/or leasing to increase in future periods. The increase is
expected to result from a combination of higher initial prices of new equipment,
lower resale values for used equipment, and increased depreciation/lease
payments on some of our existing equipment over their remaining lives in order
to better match expected book values or lease residual values with market values
at the equipment disposal date. To the extent equipment is leased under
operating leases, the amounts will be reflected in revenue equipment rentals and
purchased transportation. To the extent equipment is owned or obtained under
capitalized leases; the amounts will be reflected as depreciation expense and
interest expense. Those expense items will fluctuate with changes in the
percentage of our equipment obtained under operating leases versus owned and
under capitalized leases. Amortization expense relates to deferred debt costs
incurred and covenants not to compete from five acquisitions. Goodwill
amortization ceased beginning January 1, 2002, in accordance with SFAS No. 142,
and we evaluate goodwill and certain intangibles for impairment, annually.
During the second quarter of 2002, we tested our goodwill for impairment and
found no impairment. The positive impact of goodwill no longer being amortized
was approximately $310,000 for 2002.
Other expense, net, decreased $2.5 million (30.0%), to $5.8 million in 2002,
from $8.3 million in 2001. As a percentage of freight revenue, other expense
decreased to 1.1% in 2002 from 1.5% in 2001. The decrease was the result of
lower debt balances and more favorable interest rates. Included in the other
expense category are interest expense, interest income, and pre-tax non-cash
losses related to the accounting for interest rate derivatives under SFAS No.
133, which amounted to $0.9 million in 2002 and $0.7 million in 2001.
During the first quarter of 2002, we prepaid the remaining $20 million in
previously outstanding 7.39% ten year, private placement notes with borrowings
from the Credit Agreement. In conjunction with the prepayment of the borrowings,
we recognized an approximate $1.4 million pre-tax charge to reflect the early
extinguishment of debt. The losses related to the write off of debt issuance and
other deferred financing costs and a premium paid on the retirement of the
notes. Upon adoption of SFAS 145 in 2003, we reclassified the loss and it is no
longer classified as an extraordinary item.
Our income tax expense in 2002 was $10.9 million or 56.8% of income before
taxes. Our income tax benefit for 2001 was $1.7 million or 20.6% of loss before
income taxes. The effective tax rate is different from the expected combined tax
rate due to permanent differences related to a per diem pay structure
implemented during the third quarter of 2001. Due to the nondeductible effect of
per diem, our tax rate will fluctuate in future periods as income fluctuates.
As a result of the factors described above, net earnings increased $14.9 million
(224.2%), to $8.3 million income in 2002 (1.5% of revenue), from $6.7 million
loss in 2001 (1.2% of revenue). Prior to the $3.3 million and $15.4 million
pre-tax charges for impairment, net income for 2002 and 2001 would have been
$11.2 million ($0.77 diluted earnings per share) and $2.9 million ($0.21 diluted
earnings per share) respectively.
As a result of the foregoing, our net margin increased to 1.5% in 2002 from
(1.2%) in 2001.
LIQUIDITY AND CAPITAL RESOURCES
Our business requires significant capital investments. We historically have
financed our capital requirements with borrowings under a line of credit, cash
flows from operations and long-term operating leases. Our primary sources of
liquidity at December 31, 2003, were funds provided by operations, proceeds
under the Securitization Facility (as defined below), borrowings under our
primary credit agreement, which had maximum available borrowing of $100.0
million at December 31, 2003 (the "Credit Agreement"), the April 2003 trailer
transactions, and operating
22
leases of revenue equipment. We believe our sources of liquidity are adequate to
meet our current and projected needs for at least the next twelve months. On a
longer term basis, based on anticipated future cash flows, current availability
under our credit facility, and sources of equipment lease financing that we
expect will be available to us, management does not expect that the Company will
experience significant liquidity constraints in the foreseeable future.
Net cash provided by operating activities was $47.7 million in 2003, $67.2
million in 2002 and $73.8 million in 2001. Our primary sources of cash flow from
operations in 2003 were net income and depreciation and amortization.
Depreciation and amortization in 2002 and 2001 included a $3.3 million and a
$15.4 million pre-tax impairment charge, respectively. The 2001 period also
included an unusually large collection of receivables that had resulted from
billing problems during 2000. Our number of days sales in accounts receivable
decreased to 40 days in 2003 from 43 days in 2002.
Net cash used in investing activities was $ 25.9 million in 2003, $56.4 million
in 2002, and $31.3 million in 2001. In 2003, the net cash was used primarily for
the purchase of revenue equipment. In 2002, net cash used in investing
activities related to the purchase of tractors, which were previously financed
through operating leases, and the acquisition of new revenue equipment (net of
trade-ins) using proceeds from the Credit Agreement. During 2001, capital
expenditures were lower than in previous years due to our planned slower fleet
growth as well as our decision to lengthen our tractor trade cycle. In 2001,
approximately $15 million was related to the financing of our headquarters
facility, which was previously financed through an operating lease that expired
in March 2001. We financed the facility using proceeds from the Credit
Agreement. We expect capital expenditures, primarily for revenue equipment (net
of trade-ins), to be approximately $45.0 million in 2004, exclusive of
acquisitions, as we transition back to a three year trade cycle for tractors and
a seven year trade cycle on dry van trailers.
Net cash used in financing activities was $18.6 million in 2003, $11.2 million
in 2002 and $44.3 million in 2001. During 2003, we reduced outstanding balance
sheet debt by $21.9 million. Approximately $15.6 million of this reduction was
from proceeds of the April 2003 sale-leaseback transaction. At December 31,
2003, we had outstanding debt of $61.7 million, primarily consisting of $48.4
million in the Securitization Facility, $12.0 million drawn under the Credit
Agreement, and a $1.3 million interest bearing note to the former primary
stockholder of SRT. Interest rates on this debt range from 1.0% to 6.5%.
During the first quarter of 2002, we prepaid the remaining $20.0 million in
previously outstanding 7.39% ten year private placement notes with borrowings
from the Credit Agreement. In conjunction with the prepayment of the borrowings,
we incurred a $0.9 million after-tax extraordinary item ($1.4 million pre-tax)
to reflect the early extinguishment of debt. Upon adoption of SFAS 145 in 2003,
we reclassified the charge and it is no longer classified as an extraordinary
item.
In December 2000, we entered into the Credit Agreement with a group of banks.
The facility matures in December 2005. Borrowings under the Credit Agreement 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 0.75% and 1.25% based on cash flow
coverage. At December 31, 2003 and 2002, the margin was 1.0% and 0.875%,
respectively. At December 31, 2003, we had $12.0 million outstanding on which
the interest rate was 2.4%. The Credit Agreement is guaranteed by us and all of
our subsidiaries except CVTI Receivables Corp. and Volunteer Insurance Limited.
The Credit Agreement has a maximum borrowing limit of $100.0 million with an
accordion feature which permits an increase up to a maximum borrowing limit of
$140.0 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 $70.0
million. The Credit Agreement includes a "security agreement" such that the
Credit Agreement may be collateralized by virtually all of our assets if a
covenant violation occurs. A commitment fee, that is adjusted quarterly between
0.15% and 0.25% per annum based on cash flow coverage, is due on the daily
unused portion of the Credit Agreement. At December 31, 2003 and 2002, we had
undrawn letters of credit outstanding of approximately $51.2 million and $19.2
million, respectively.
23
In December 2000, we entered into a $62 million revolving accounts receivable
securitization facility (the "Securitization Facility"). On a revolving basis,
we sell our interests in our accounts receivable to CRC, a wholly-owned
bankruptcy-remote special purpose subsidiary incorporated in Nevada. CRC sells a
percentage ownership in such receivables to an unrelated financial entity. We
can receive up to $62 million of proceeds, subject to eligible receivables and
will pay a service fee recorded as interest expense, based on commercial paper
interest rates plus an applicable margin of 0.41% per annum and a commitment fee
of 0.10% per annum on the daily unused portion of the Facility. As discussed in
the financial statement footnotes, the net proceeds under the Securitization
Facility are required to be shown as a current liability because the term,
subject to annual renewals, is 364 days. As of December 2003 and 2002, there
were $48.4 million and $39.2 million in proceeds received. CRC does not meet the
requirements for off-balance sheet accounting; therefore, it is reflected in our
consolidated financial statements.
The Credit Agreement and Securitization Facility contain certain restrictions
and covenants relating to, among other things, dividends, tangible net worth,
cash flow, acquisitions and dispositions, and total indebtedness and are
cross-defaulted. We are in compliance with the Credit Agreement and
Securitization Facility as of December 31, 2003.
Contractual Obligations and Commitments - We had commitments outstanding related
to equipment, debt obligations, and diesel fuel purchases as of December 31,
2003.
The following table sets forth our contractual cash obligations and commitments
as of December 31, 2003.
Payments Due By Period There-
(in thousands) Total 2004 2005 2006 2007 2008 after
-------------------------------------------------------------------------------------
Long Term Debt $ 12,000 $ - $12,000 $ - $ - $ - $ -
Short Term Debt (1) 49,653 49,653 - - - - -
Operating Leases 128,367 32,045 30,854 23,863 14,778 12,676 14,151
Lease residual value guarantees 42,656 - 9,486 8,462 5,590 18,151 967
Purchase Obligations:
Diesel fuel (2) 5,561 5,561 - - - - -
Equipment (3) 90,373 90,373 - - - - -
-------------------------------------------------------------------------------------
Total Contractual Cash Obligations $328,610 $177,632 $52,340 $32,325 $20,368 $30,827 $15,118
=====================================================================================
(1) In 2003, approximately $48 million of this amount represents proceeds drawn
under our Securitization Facility. The net proceeds under the
Securitization Facility are required to be shown as a current liability
because the term, subject to annual renewals, is 364 days. We expect the
Securitization Facility to be renewed in December 2004.
(2) This amount represents volume purchase commitments for the 2004 period
through our truck stop network. We estimate that this amount represents
approximately 5% of our fuel needs for the 2004 period.
(3) Amount reflects the total purchase price or lease commitment of tractors
and trailers scheduled for delivery throughout 2004. Net of estimated
trade-in values and other dispositions, the estimated amount due under
these commitments is approximately $45.0 million. These purchases are
expected to be financed by debt, proceeds from sales of existing equipment,
and cash flows from operations. We have the option to cancel
24
commitments relating to equipment with 60 days notice. Historically, we
have financed a significant portion of our revenue equipment through
operating leases.
OFF BALANCE SHEET ARRANGEMENTS
Operating leases have been an important source of financing for our revenue
equipment. We lease a significant portion of our tractor and trailer fleet using
operating leases. Substantially all of the leases have residual value guarantees
under which we must insure that the lessor receives a negotiated amount for the
equipment at the expiration of the lease. At December 31, 2003, we had financed
approximately 1,025 tractors and 6,611 trailers under operating leases. Vehicles
held under operating leases are not carried on our balance sheet, and lease
payments in respect of such vehicles are reflected in our income statements in
the line item "Revenue equipment rentals and purchased transportation." Our
revenue equipment rental expense was $25.4 million in 2003, compared to $17.7
million in 2002. The total amount of remaining payments under operating leases
as of December 31, 2003, was $128.4 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, 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. As
of December 31, 2003, the maximum amount of the residual value guarantees was
approximately $42.7 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
all operating leases except those operating leases relating to 2001 model year
equipment. The amount accrued on the 2001 model year equipment is approximately
$1.5 million pre-tax.
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
financial statements is contained in Note 1 of the financial statements attached
hereto. 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.
Property and Equipment - Depreciation is calculated using the straight-line
method over the estimated useful lives of the assets. The annual depreciation on
tractors and trailers is approximately $43.0 million. We have previously
recorded impairment charges for the 1998 through 2000 model year tractors
related to the reduced market value of those units. We also adjusted our
depreciation rate and estimates of salvage values for the 2001 model year
tractors for the estimated reduced disposition values. We depreciate revenue
equipment excluding day cabs over five to ten years with salvage values ranging
from 9% to 33%. We evaluate the salvage value, useful life, and annual
depreciation of tractors and trailers annually based on the current market
environment and our recent experience with disposition values. We also evaluate
the carrying value of long-lived assets for impairment by analyzing the
operating performance and future cash flows for those assets, whenever events or
changes in circumstances indicate that the carrying amounts of such assets may
not be recoverable. We evaluate the need to adjust the carrying value of the
underlying assets if the sum of the expected cash flows is less than the
carrying value. Impairment can be impacted by our projection of future cash
flows, the level of actual cash flows and salvage values, the methods of
estimation used for determining fair values and the impact of guaranteed
residuals. Any changes in management's judgments could result in greater or
lesser annual depreciation expense or additional impairment charges in the
future.
Insurance and Other Claims - Our insurance program for liability, property
damage, and cargo loss and damage, involves self-insurance with high risk
retention levels. We accrue the estimated cost of the uninsured portion of
25
pending claims. These accruals are based on our evaluation of the nature and
severity of the claim and estimates of future claims development based on
historical trends, as well as the legal and other costs to settle or defend the
claims. Because of our significant self-insured retention amounts, 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, our profitability would be adversely affected. The rapid
and substantial increase in our self-insured retention makes these estimates an
important accounting judgment.
In addition to estimates within our self-insured retention layers, we also must
make judgments concerning our aggregate coverage limits. From 1999 to present,
we carried excess coverage in amounts that have ranged from $15.0 million to
$49.0 million in addition to our primary insurance coverage, although for the
period from July through November 2002, our aggregate coverage limit was $2.0
million because of a fraudulently issued binder for our excess coverage. If any
claim occurrence were to exceed our aggregate coverage limits, we would have to
accrue for the excess amount, and 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 from this period were to
exceed the 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. We lease a
significant portion of our tractor and trailer fleet using operating leases.
Substantially all of the leases have residual value guarantees under which we
must insure that the lessor receives a negotiated amount for the equipment at
the expiration of the lease. At December 31, 2003, we had financed approximately
1,025 tractors and 6,611 trailers under operating leases. Vehicles held under
operating leases are not carried on our balance sheet, and lease payments in
respect of such vehicles are reflected in our income statements in the line item
"Revenue equipment rentals and purchased transportation." Our revenue equipment
rental expense was $25.4 million in 2003, compared to $17.7 million in 2002. The
total amount of remaining payments under operating leases as of December 31,
2003, was $128.4 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, 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. As of December 31, 2003, the
maximum amount of the residual value guarantees was approximately $42.7 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 all operating leases except those
operating leases relating to 2001 model year equipment. The amount accrued on
the 2001 model year equipment is approximately $1.5 million pre-tax. 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 - In this area, 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. The Company utilizes certain income tax
planning strategies to reduce its overall cost of income taxes. Upon audit, it
is possible that certain strategies might be disallowed resulting in an
increased liability for income taxes. To date, we have received notices of
disallowance asserting that three of our tax planning strategies have been
disallowed. We are contesting the disallowance and have provided for our
estimated exposure attributable to income tax planning strategies. We believe
that the provision for liabilities resulting from the implementation of income
tax planning strategies is appropriate.
Deferred income taxes represent a substantial liability on our consolidated
balance sheet. Deferred income taxes are determined in accordance with SFAS No.
109, "Accounting for Income Taxes." Deferred tax assets and liabilities 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
carryforwards. We evaluate our tax assets and liabilities on a periodic basis
and adjust these balances as
26
appropriate. We believe that we have adequately provided for our future tax
consequences based upon current facts and circumstances and current tax law. For
the year ended December 31, 2003, we made no material changes in our assumptions
regarding the determination of deferred income taxes. However, should these tax
positions be challenged and not prevail, different outcomes could result and
have a significant impact on the amounts reported through our Consolidated
Statement of Operations.
The carrying value of our deferred tax assets (tax benefits expected to be
realized in the future) 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 reduce the value
of the deferred tax assets resulting in additional income tax expense. W