ArcBest Stock: Short-Term Challenges (Ratings Downgrade)

Investment thesis

ArcBest Corporation (NASDAQ:ARCB) revenue growth is expected to continue to face headwinds from a softer freight environment and, with comparisons becoming significantly more difficult in the second half of 2024, I expect the year-on-year revenue decline to worsen . In light of the advantages activity, the company is expected to continue to see demand normalize after the strong growth seen during the COVID period, which is expected to negatively impact near-term revenue growth in this business. While the company is investing in growing capacity and focusing on improving customer service, I don't expect it to offset near-term headwinds from lower demand and difficult comparisons .

The margin outlook is mixed. Although margins should benefit from cost reduction and productivity initiatives and the deferral of significant salary increases implemented last year, I expect these benefits to be offset by operational deleveraging in the event of a decline in earnings. revenues, particularly in the second half of 2024. valuation, the stock is trading slightly higher than its historical averages, but lower than its peers in the LTL and third-party logistics space. However, given near-term headwinds, particularly in the second half of 2024, I would prefer to stay on the sidelines and wait for revenue and earnings to show signs of recovery before becoming more positive on the stock. For now, I have a Neutral rating on ARCB stock.

Revenue Analysis and Outlook

I last covered ArcBest in July 2022, when the company was enjoying strong demand due to the rise of e-commerce and supply chain constraints during the Covid period. Since then, the stock has returned about 25%. The stock was doing even better, but tough macroeconomic conditions began to catch up with the company, impacting its results. In recent quarters, the company's revenue growth has faced challenges due to a weaker freight transportation environment. Revenue growth was also impacted by the shift from larger LTL (Less-Than-Truckload) shipments to the truckload space due to excess capacity and lower pricing.

In the first quarter of 2024, revenue growth continued to face challenges from lower freight demand. As a result, the company's revenue from continuing operations decreased 6.3% year-over-year to $1.036 billion.

At the sector level, in the asset-based segment, revenue decreased 3.6% year-over-year due to a 16.8% year-over-year decrease in tonnage per day, partially offset by an increase of 15 .6% of revenue billed per quintal (CWT), including fuel surcharges. The decrease in tonnage was driven by lower dynamically priced transactional LTL shipments as the company focused on improving the mix of its core business with published LTL shipments. The core business has higher prices, and prices on contract renewals and deferred agreements increased 5.3% year-over-year during the quarter. Thus, improving demand for core LTL shipments along with favorable pricing in the market resulted in an annual increase in revenue/CWT.

In the asset-light segment, revenue decreased 9.5% year-over-year due to a 19.7% year-over-year decline in revenue per shipment, which more than offset a 13.6% increase. over a year of shipments per day. The decrease in revenue per shipment is due to lower market rates for Asset-Light shipping and logistics services in a softer market environment and unfavorable mix due to growth in managed businesses, which have a lower turnover per shipment.

Looking ahead, ArcBest's revenue outlook remains challenging. While the company's revenue/billed day for asset-based LTL business in April was revised upward to -2.2% YoY from -4% YoY, preliminary figure declared at the time of gain and invoiced turnover/day (asset-based). For the month of May, the situation improved slightly, at -2% year-on-year. I don't believe we're close to stabilization or a bottom in terms of year-over-year decline.

Last year, ArcBest's revenue benefited from the bankruptcy of Yellow Corporation (OTC:YELLQ). Yellow ceased operations at the end of July 2023 and ARCB's revenue/day went from a decline of 11.3% year-on-year in July 2023 to -2.3% year-on-year in August 2023, with further improvement over the following months.

Comparisons therefore become considerably difficult from August this year. This is expected to result in a sharper year-over-year revenue decline in the second half of this year.

In the Asset-Light sector, the company continues to see demand normalize since last year after very strong performance during the COVID period. Supply chain disruption during COVID-19 along with increased demand from e-commerce contributed to the company's revenue, but the situation has now reversed and we are seeing a freight recession for the year last due to a difficult macroeconomic environment. I therefore expect the segment to continue to see moderate demand in the near term.

Although the company continues to work on increasing its capacity (including the planned addition of 336 doors in its asset-based business this year) and improving customer service, I don't think it can offset headwinds in the short term. So I'm not optimistic about the company's revenue growth prospects in the near term.

Analysis of margins and prospects

In the first quarter of 2024, the segment's asset-based adjusted operating margin increased 30 basis points year-over-year, but decreased 430 basis points compared to the fourth quarter of 2023. The company recorded an increase of 330 points one-year baseline of wages, salaries and benefits as a percentage of revenue due to an increase in union wages linked to wage and mileage rate increases effective July 1, 2023, under the National Framework Agreement freight ABF 2023.

The asset-light segment's adjusted operating margin was -1.2%, compared to 0.9% in the first quarter of 2023. The year-over-year contraction in the segment's adjusted operating margin was due to poor weather conditions in January, which have increased the transportation costs of purchases in the full-lot market.

On a consolidated basis, adjusted operating margin (from continuing operations) contracted by 60 basis points year-on-year to 4.1% in the quarter.

Looking ahead, the company's margin outlook is mixed. While the company is expected to end the significant increase in hourly wages implemented under its collective bargaining agreement with union employees from last year during the second half of 2024, it is also expected to begin seeing a steeper decline year-over-year revenue in the second half of this year. The company is also seeing positive pricing and implementing cost reduction and productivity initiatives. However, operational deleveraging due to lower revenues is expected to offset these benefits, particularly in the second half of this year. So I'm not optimistic about the margin outlook either.

Evaluation and conclusion

ARCB is currently trading at a P/E of 12.87x consensus FY24 EPS estimates of $8.42, representing a slight premium to its 5-year average forward P/E of 12 .09x. However, compared to other competitors in the field of LTL and third-party logistics, the stock is available at a significant discount. For example, based on consensus FY24 EPS estimates, Saia (SAIA) trades at 29.23x P/E, CH Robinson (CHRW) trades at 23.59x P/E, and XPO (XPO) trades at 28.18x P/E. .

There's a good reason why stocks are trading at a discount. The unionized workforce in ARCB's asset-based operations results in a higher fixed cost structure than non-unionized LTL companies like SAIA. In fact, considering Yellow Corporation's bankruptcy last year, its unionized workforce and high cost structure were among the main reasons that ultimately led it to bankruptcy. Today, ARCB did much better than Yellow, and the performance of its president and CEO Judy McReynolds was impressive. The fact remains that the ARCB is doing poorly compared to its non-unionized LTL peers. For example, SAIA increased its revenue by 14.3% YoY in Q1-24, while ARCB's asset-based revenues decreased by 3.8% YoY in Q1-24.

With high quality companies like SAIA, which have a consistent history of market share gains, it usually makes sense to go long if the valuation is reasonable. I wrote a bullish article on SAIA after correcting the first quarter results and the stock is up about 10% since then.

However, with companies like ArcBest underperforming, valuation is not the only criterion for me. I'd rather see revenue and earnings momentum moving in the right direction before becoming more bullish on the stock. So while valuation isn't a concern for me here, the likelihood of a worsening revenue decline in the second half of this year keeps me on the sidelines and I have a Neutral rating on the stock.