If there were a Comeback Player of the Year award for corporate performance, YRC Worldwide might have taken home the trophy for 2014. Not that the $5 billion trucking company is now a superstar — far from it. Rather, such recognition would be testimony to how low YRC had sunk.
After years of finance jockeying that barely kept the company from tripping into bankruptcy, its footing is relatively secure now. A smorgasbord of entwined elements converged in the rescue: a new labor deal, a deft debt restructuring, an equity offering that allowed for debt paydown, an operational downsizing, the improving economy, and plain luck.
The seeds of the turnaround were sown in 2011, when James Welch and Jamie Pierson came on board as chief executive and CFO, respectively, replacing top executives who had come under heavy fire for their management decisions. Indeed, their arrival may have ultimately proved to be the biggest factor of all.
“James has done a great job with the [poorly performing] business he was handed, and Jamie has done the same with the financial gymnastics YRC has had to perform,” says David Ross, managing director of transportation and logistics at investment banking and brokerage firm Stifel Nicolaus. “They came into a company that had too much debt, low morale, poor service and poor pricing. We don’t think it would be doing as well as it’s doing now if anyone else were leading it. In fact, it may have gone under.”
Welch is actually in his second incarnation with YRC, which is a holding company for four operating subsidiaries that primarily provide less-than-truckload (LTL) freight-hauling services. The largest, YRC Freight, resulted from the 2009 integration of Yellow Transportation and Roadway, an arch-competitor that then-named parent Yellow Corp. had purchased in 2003 but continued to operate as a separate company. Welch, who had joined Yellow Transportation in 1978, was its CEO from 2000 to 2007.
Pierson, a former investment banker, was a managing director at professional services firm Alvarez and Marsal when he began advising YRC in 2009. That year, the company narrowly averted bankruptcy through a deal with its bondholders, who exchanged $470 million in notes for 94% of the company’s shares. That didn’t turn out well for the new owners, after a multifaceted financial restructuring in 2011 virtually wiped out existing shareholders’ equity, leaving them with just a 2.5% stake. In a bid to get their money back, many of them joined in a new credit agreement with the company in early 2014, again forgiving debt in exchange for new equity.
Reasons for the Fall
The factors behind the company’s problems were, like those that drove its resurrection, many and overlapping. First, the 2003 acquisition of Roadway and the 2005 purchase of USF Corp., two companies with multiple wholly owned subsidiaries, created an unwieldy collection of entities with logistical challenges and conflicts. Just as bad, the deals were financed 100% with debt. “They bought a bunch of companies they couldn’t afford and then poorly managed what they had,” says Ross. After 2006 came years of heavy financial losses.
The situation grew considerably darker in 2009, when the recession tore out an enormous chunk of the company’s sales; operating revenue plunged to $5.3 billion that year, from $8.9 billion in 2008. “If people aren’t buying anything, we’re not shipping it,” Pierson says. “Basically, we ship the economy.” Not only did volume suffer greatly, but so did yield, as the business falloff ignited a pricing war in the LTL industry.
All of that turned up the heat to find efficiencies, which was behind the integration of Yellow and Roadway in 2009. The idea was to wring out back-office redundancies, but the effort was essentially botched, according to Pierson, who notes that it prudently should have taken at least 12 months but ended up as a rush job that was declared complete in just 3 months.
“Even 12 months would have been a pretty accelerated timeline for integrating companies of that size,” he says. “Basically, the previous leadership just jammed them together. They didn’t think through all the nuances and made some short-sighted decisions. I’m not even talking about the back office, but about what technology systems to use, and most importantly the cultural integration of two very proud, fierce competitors over the past 80 years.”
As the years passed, YRC was unable to generate enough cash to free itself from the debt load created by the acquisitions. Before 2014, interest and fees on the debt were running $150 million to $160 million per year, dwarfing operating income, despite the 21 credit-agreement amendments the company had negotiated between 2009 and 2011.
Alongside all of these problems were YRC’s crushing labor costs. The company is one of only two remaining LTL operators, the other being ArcBest, whose truck drivers are mostly unionized. For years, YRC’s drivers were paid more than those at most of its competitors.
That changed in 2009, when the International Brotherhood of Teamsters agreed to a temporary 15% wage cut and a steep reduction in the company’s contribution to a multi-employer Teamsters pension plan that YRC helps to fund. Even so, says Pierson, 60% of its revenue still goes to wages and benefits, partly because the company pays 100% of its 26,000 unionized workers’ medical costs — an especially significant portion of overall compensation, given that the drivers’ average age is 55.
No matter how bad things were (“YRC came as close to bankruptcy as you can get without actually going bankrupt,” says Ross), as 2013 came to a close it looked like they were soon going to get worse. The company had $395 million in principal payments due in 2014, including $70 million in February, and it didn’t have the cash to cover the obligations.
The Great Escape
Among the first things Pierson and Welch had done in their new jobs, back in 2011, was close Roadway’s headquarters in Akron, Ohio, and begin reducing YRC’s corporate head count, which then stood at 2,200 but today is less than 400. “We very intentionally pushed decision-making down to the operating companies, where the front-line managers are closest to the issues and in the best position to solve them,” says Pierson.
Those and other measures, like closing 20 terminals in 2013, delaying the purchase of new equipment, and selling real estate holdings, combined with the labor-cost savings and the improving economic environment to push operating results back to respectable levels. YRC, which had suffered operating losses of $882 million, $228 million and $138 million from 2009 to 2011, respectively, emerged into positive territory the next two years, weighing in with $24 million and $28 million of operating income — although the interest expense still kept the bottom line mired in red ink.
The big break came in January 2014, when YRC convinced the union to extend the 15% pay cut and diminished pension contribution through 2019, by hammering home that otherwise the company would fail and its 26,000 union members would become unemployed. Actually, because of a severe driver shortage that plagues the trucking industry, many would have been likely to find new work, but perhaps without free health care and a pension.
“If we operate in a largely non-unionized industry, we need to be able to pay in a mainly non-unionized fashion,” says Pierson. “If we’re above the market by 15% we’re not going to be competitive. We are now paying what the market will bear, and we all need to divorce ourselves from the mindset that that 15% is going to come back.”
Shortly after the labor-pact extension was struck, YRC issued $250 million worth of new shares, all of which sold, and separately, holders of $50 million of the company’s convertible notes exchanged them for or converted them into stock. YRC used the proceeds from those transactions to pay down its long-term debt, which now stands at $1.1 billion.
The new equity “wasn’t great for existing shareholders, but the fact that the company could go to the equity market and get that money said a lot about what other investors thought of YRC,” says Art Hatfield, a transportation analyst with Raymond James Financial Services.
The paydown, the new labor agreement, and the improving operating results enabled the company to refinance most of the remaining debt, consolidating eight separate securities into just three. Factoring in the decline in interest rates since the credit facilities were originally established, the deal cut the annual debt expense by about $50 million. Just as important, maturities were pushed back to 2019.
“The dramatic improvement in debt cost and the timing of due dates means YRC no longer has to, in effect, use one credit card to pay off another,” says Hatfield.
Each step YRC took was crucial, he continues. “Getting all of that done gets the company on a level of stability it hasn’t seen in years. It can now focus on its customers, on the income statement, instead of just the balance sheet. I think it’s fair to say YRC is out of the woods for now, unless the economy collapses or there’s another credit crisis, something like that.”
Indeed, during 2014 several financial advisory firms — although not, oddly given Hatfield’s comments, Raymond James — instituted “buy” recommendations for YRC’s stock. One, BB&T Capital Markets, even set a price target of $40 for a stock that at the time was on a hot streak yet still trading at only about $20. (Other firms were less optimistic, setting targets in the $20s. As of mid-day on Feb. 9, the shares were trading at just under $18.)
Is the Price Right?
YRC broke a long losing streak in the third quarter of 2014 by registering positive net income, even if it was just $1.2 million and enabled by a $4.4 million net operating loss carryforward. In the fourth quarter net income climbed to $6.2 million, and full-year 2014 operating earnings surged 60% from the 2014 level, reaching $45.5 million.
Pierson’s focus now is almost solely on operations and boosting EBITDA. He cites three metrics he’s paying a lot of attention to: the ratio of funded debt (also known as long-term debt) to EBITDA (which he says is the only significant covenant in the new credit agreement); EBITDA margin (see chart below); and the interest coverage ratio, or EBIT divided by interest expense.
While shipping volume continues to slowly recover, it’s not the biggest key to pumping up earnings, the CFO notes. “With a dollar of volume growth, the incremental margin, depending on which of our operating companies we’re talking about, is from 10 to 30 cents,” he says. “But if there’s a $1 increase in price, the incremental margin is $1.”
In December YRC instituted a 5.9% price hike for its non-contract customers, which represent about a quarter of its business, according to Pierson. “That’s a very good leading indicator to our contractual customers about the kind of rate increases we’re going to come at them with [as contracts expire],” he notes. Any such increase would be “on average,” he adds, since the company has 200,000 customers with various contract terms.
Ross of Stifel Nicolaus isn’t sure that any contract pricing enhancement will bring sufficient revenue relief to YRC. “They’ve got to raise prices on their large customers,” he says, and whatever the company does “might not be enough.” Pierson agrees. He says pricing is just now getting back to 2008 levels, and the room for continued improvement is large.
The chief factor enabling the upward movement is the driver shortage, which in effect is a curb on supply. “If somebody has 100 trucks but only one driver, there’s a lot of stuff that’s not getting trucked,” Pierson says, “and the industry is at a historical point where the shortage is as acute as it’s ever been.” YRC views its free health care as an advantage over competitors in hiring and retaining drivers.
The company’s earnings-growth plan is based in part on the shortage lasting for a long time. “My father was a truck driver,” says the 45-year-old Pierson. “Back then, in the 1970s and 1980s, it was an admirable trade that folks sought to do. But that draw is just not there today.”
Eye on Operations
Meanwhile, in addition to the EBITDA-related measures, Pierson is looking closely at operational metrics and trying to reorient the company as to which ones matter most. That involves educating operating personnel on the economic impact of, say, a decline in a dock’s bills per hour from 3.8 to 3.75. “I want the guy who runs that dock to know exactly what it cost the company,” he says.
Productivity improvements are a vital part of earnings growth, he notes, but there is a natural limitation in the short term as a result of last year’s labor agreement. “History has proven time and again that if you go to your employees for concessions, productivity takes a hit. They don’t then work harder, have better morale or become more engaged. We’re coming out of the bottom of that now, but it takes time.”
Another priority is investing in the business. Trucking-industry analysts are fond of pointing out that YRC has had no free cash flow since 2008, but Pierson says that now the company is purposely maintaining that streak with capital spending on new tractors and trailers as well as new technology. In fact, technology spending tripled in 2014, he says.
An interesting element of that was the company’s purchase of 41 dimensioners — laser devices that precisely measure freight to make sure customers are charged exactly what they owe — at $90,000 apiece. “We wouldn’t have had the cash to do that two years ago,” says YRC treasurer Mark Boehmer.
One financial issue that’s not going to be mitigated anytime soon involves YRC’s pension liabilities. While the company is contributing to the multi-employer fund (called the Central States Teamsters fund) only 25% of what it did before 2009, YRC’s obligations to its retired workers and future retirees are underfunded by a staggering $10 billion. “We don’t have $10 billion, and we never will,” Pierson says.
To say that the shortfall is not all YRC’s fault would be an understatement. As of last October, the Central States fund, which covers workers from many companies, including other truckers, car-hauling firms, and grocers, was paying benefits to five retired or separated workers for each active worker, according to a report by the Center for Retirement Research at Boston College. In 1980, the ratio was almost the opposite: four active workers to every retiree or separated worker. In large part the reversal happened because so many unionized trucking companies went out of business over the past 30 years.
YRC is counting on new legislation to come to the rescue. The Multiemployer Pension Reform Act of 2014, enacted in December, allows the most distressed multiemployer plans to suspend payments that exceed 110% of the maximum benefit guaranteed by the Pension Benefit Guaranty Corp., if needed to prevent insolvency.
More importantly for YRC, the law also provides an employer participating in a multiemployer plan with the opportunity to withdraw from the plan with reduced liability. Specifically, 10 years after a benefit suspension, an employer seeking to withdraw can treat the suspended benefits as permanent cuts for purposes of calculating unfunded vested benefits.
“The legislation isn’t going to change what we pay into the plan, but what it hopefully will do over time is decrease our liabilities to the retirees,” says Pierson. “That’s difficult for our management team. We desperately want a good package for our current and future retired employees. But two-thirds of every dollar we’ve contributed to the fund goes to people who were never our employees, and the ratio of active workers to retirees is not sustainable. This will only be solved, in my opinion, by the legislation,” although that solution will be at least a decade out.
Long, Winding Road
The analysts are hardly ready to write a happily-ever-after conclusion to this story. “YRC has to keep raising prices, overall its equipment is still too old, and it has all that pension overhang,” says Ross. “Every [LTL company] is better off than it was six years ago. YRC went further down than any of them, and it’s come further back than anyone, but it hasn’t passed anyone yet — operationally, service-wise, or financially.”
Perhaps stock analysts can be forgiven for being jaded when it comes to YRC. The company’s stock, although trading at almost $18, is virtually worthless compared to its value before the financial crisis. Because of new equity issues, bondholders’ conversion of convertible notes from debt to equity, and most significantly a pair of reverse stock splits — 1:25 in 2010 and 1:300 in 2011 — a single share of YRC stock today would have had an equity value equivalent to more than $400,000 in 2005, Ross notes.
Pierson, for his part, agrees that there is plenty of hard work left to do. “We changed this company in just a little more than two years’ time,” he says. “I can’t tell you how many times we did not sleep. Being a unionized carrier and restructuring in this industry is not for the faint of heart. But, not to minimize that accomplishment, we have so much more to accomplish.”
Perhaps YRC won’t pull off a “Steve Stricker” — that is, emulate the golfer who illogically won the PGA Tour’s Comeback Player of the Year award two years in a row. But what if the company did evolve into a superstar with the world by the tail? Would Pierson, a veteran turnaround expert who thrives in difficult situations, enjoy being the CFO at a company like that?
He pauses for a long 20 seconds or so. “You know what?” he says finally, grinning. “I’d sure welcome the opportunity to try.”