Hub Group, Inc. (HUBG) Q2 2012 Earnings Report, Transcript and Summary

Good afternoon, and welcome to the Hub Group Second Quarter Conference Call. We will begin with a discussion of the financial results, led by Terri Pizzuto, our Chief Financial Officer; followed by an overall business discussion to be conducted by Dave Yeager, our CEO. The company will make its prepared presentation, followed by a question-and-answer session. Mark Yeager, our President and Chief Operating Officer will join us for the question-and-answer session. [Operator Instructions] Comments made by Dave, Mark or Terri during this conference call may contain forward-looking statements. Actual results could differ materially from those projected in these forward-looking statements. Our SEC filings contain additional information about factors that could cause actual results to differ materially from those projected in these forward-looking statements. Copies of these SEC filings may be obtained by contacting the company or the SEC. Now I would like to introduce Terri Pizzuto. Please proceed.

Thanks, Melanie, and thank you all for being with us today. We had a record second quarter, and I'd like to highlight 3 points. First, intermodal volumes were solid, with Hub segment volume up 9%, which met our expectation. Second, despite the economic uncertainty, operating income was up 13% after adjusting 2011 for onetime costs. And third, truck brokerage results were lower than we expected, and we think that the second half of the year will be challenging. Here are the key numbers for the second quarter. Hub Group's revenue increased 4% to $778 million. Hub Group's diluted earnings per share was $0.46. Earnings per share are up 15% compared to 2011 adjusted EPS. 2011 diluted earnings per share, excluding onetime costs related to the Mode integration and Hub severance, was $0.40. Now I'll discuss details for the quarter, starting with the financial performance of the Hub segment. The Hub segment generated revenue of $596 million, which is a 6% increase over last year. Taking a closer look at Hub's business lines. Intermodal revenue increased 9%. This change includes a 9% volume increase. Price increases were offset by lower fuel and mix. About 1/4 of the volume increase came from fleet boxes sold to Mode agents. Our fastest-growing customer segments were transportation, which was up 17%; and retail and consumer products, which were both up 9%. Truck brokerage revenue was down 11% on a 7% shorter length of haul, 1% lower volume and lower fuel. The turnaround in truck brokerage was not as quick as we anticipated, and Dave will discuss that in more detail. Logistics revenue was 13% higher than last year. Hub's gross margin increased by $2.2 million, due primarily to growth in intermodal gross margin. Intermodal margin is up because of volume growth, price increases, turning our containers a little quicker and our focus on doing more of our own drayage. Logistics gross margin was about -- up about $0.5 million, while truck brokerage margin was down by $800,000. Hub's gross margin as a percentage of sales was 10.9%. This margin percentage is the same as the first quarter of 2012, and it's down 30 basis points compared to last year's 11.2% margin. It's down because of the continued decline in the logistics gross margin percentage and a slight decline in intermodal yield. We expect Hub's gross margin percent to improve the second half of the year. Hub's costs and expenses were flat at $40 million compared to last year. Costs and expenses are $1.7 million lower than the first quarter of 2012. The majority of this decrease relates to lower bonuses. A large portion of the bonus fluctuates depending on EPS for the year. Given the challenging economic environment and the fact that the turnaround in truck brokerage is not happening as quickly as we'd hoped, bonus expense is $1.3 million lower than it was in the first quarter of 2012. Finally, operating income for the Hub segment increased $2.3 million or 10%. Now I'll discuss results for the Mode segment. Mode's revenue was $194 million. The revenue breakdown is $86 million in intermodal; $81 million in truck brokerage; and $27 million in logistics. Mode's business was relatively flat compared to last year across all 3 business lines. Mode's gross margin increased $400,000 over last year due to yield improvement in all 3 service lines. Gross margin as a percentage of sales was 11.6% compared to 11.5% last year. Mode's total cost and expenses decreased $1.2 million compared to last year. Mode had $350,000 of onetime costs in 2011 related to the integration. Salaries and employee benefits decreased $800,000, in line with our cost reduction plan. Operating margin for Mode was 1.5%, which is up from last quarter's 1.4% operating margin. Turning to our headcount. We had 1,362 employees, excluding drivers, at the end of June. That's up 6 people compared to the end of March. Now I'll discuss 2012 full year earnings guidance. We estimate that our diluted earnings per share will be between $1.80 and $1.90 for 2012. We think we'll have 37,200,000 weighted average diluted shares. The key drivers for this lower guidance includes lower truck brokerage improvement and a soft market. We think that our quarterly costs and expenses will range between $60 million and $63 million for the rest of 2012. Turning now to our balance sheet and how we used our cash. We ended the quarter with $52 million in cash and no debt. During the quarter, we spent $4 million on capital expenditures. We think we'll spend between $60 million and $70 million on capital expenditures in 2012. Between $20 million and $30 million is for our new corporate headquarters, which is a 2-year project. $26 million is for containers, and most of the remainder is for technology investment. To wrap it up for the financial section, we're proud of our record quarter, and we're focused on the levers that will maximize our profit. And now you'll hear from our CEO, Dave Yeager.

Great. Thank you, Terri. Despite a challenging macro environment, we did deliver EPS growth of 15% for the second quarter. And while the economy is making top line growth difficult, Hub saw record intermodal volume growth of 9% for the quarter. We continue to see growth in the consumer and retail segments, while durables saw a slight contraction. And as in the first quarter of this year, transcon was our fastest-growing market with growth of 17%. General economic conditions have shown weakness in the last few months and are pointing to a slower-than-expected market recovery. Naturally, that has a direct impact on our customers' behavior. While we continue to see solid demand for intermodal, the truck brokerage market is not as strong. Currently, supply and demand for the over-the-road services are at equilibrium. And in an environment where supply and demand for trucks are balanced, truck brokerage margins can often be compressed and the value proposition of a highway broker is lessened. As a result of the current cloudy economic backdrop and the weaker outlook for our highway brokerage business, we're lowering our guidance to between $1.80 to $1.90 per share for 2012. I would like to point out that this lower guidance still does reflect a double-digit increase in EPS versus what was a stellar 2011. Intermodal has seen good service levels from all of our rail partners. To a large extent, the improvement in service is due to the significant capital investments made by our rail partners. During 2011, the UP and NS invested over $5.4 billion in capital. These investments are paying huge dividends in our service levels to our clients, while additionally, adding -- opening up some nontraditional markets. Our utilization rate was once again excellent at 13.2 days despite a larger fleet size. We continue to monitor our network closely to optimize container movements, while maintaining high levels of on-time performance for our customers. As stated earlier in the year, we will be increasing our fleet size to 24,000 containers for peak. This year's order of 2,100 containers is on schedule, and we've already received the first 300. We expect a steady flow of new equipment to the Los Angeles market through the end of October, which will help us fulfill our customers' capacity needs during the upcoming peak season. We're now well through the bid season and believe that we fared well in what was a very competitive environment. We continue to focus on covering our cost increases and remain willing to sacrifice volume for improved yields. Comtrak continues to perform exceptionally well, with 30% volume growth while handling 64% of Hub's drayage needs during the second quarter. We continue to see success in attracting and retaining drivers in a competitive recruiting environment. For the quarter, we had a net add of over 70 drivers, bringing our total count to over 2,300. In 2011, we revamped our truck brokerage business. During this process, we consolidated operating centers, changed the management team, restructured our operating model and introduced a new growth incentive program for our employees. While we're pleased that the gross margin percentage improved year-over-year, top line progress is slower than we had hoped. The primary culprits for that is that we had reduced spot business and slower project work during that period. While we currently anticipate somewhat better top line growth in the second half of the year, our expectations are more muted because of the tough truck environment. Unyson Logistics delivered 13% growth year-over-year. We continued to onboard new business during the quarter and successfully renewed contracts with existing customers. Unyson was ranked as the number 6 overall 3PL by Inbound Logistics magazine. This ranking is a clear indication that our capabilities and customer satisfaction rank among the best in the 3PL industry. Mode more than doubled their operating income year-over-year. IBOs continued to display good pricing discipline, resulting in margin growth. IBOs continue to benefit from the usage of the Hub fleet, as well as Comtrak drayage. We remain focused on growing and supporting the IBO network while bringing on new recruits. To summarize, despite the slower-than-expected economic recovery, intermodal logistics and Mode continue to perform well. Highway brokerage remains a work in progress as the model matures and the highway market reacts to the broader economy. For the second quarter, operating income increased 13%, while Hub's intermodal business reached record volume, with a 9% growth. Although there remains a great deal of uncertainty about the economic outlook, we believe we'll continue to deliver double-digit EPS growth for the year. And at this time, we'll open up the line to any questions.

[Operator Instructions] Our first question comes from the line of Alex Brand with SunTrust.

Dave, I just wanted to -- if I heard you right, you said the guidance cut was TL, brokerage and the economy. So does that mean that you have lower expectations for volume growth in the intermodal side? I just would love it if you could give a little color kind of on now that you have the bid season behind you, what's the outlook for that part of the business.

Well, as I'd said in my prepared remarks, we did fine in the bids. And if you look at our volume levels through the second quarter, sequentially, actually, the pace of increase, increased as we went through June, which is a normal seasonal adjustment. And thus far, in July, it's pretty much remaining, from an increase perspective, similar to what June was. So no, I think what we're saying is that there is a lot of uncertainty. We're seeing right now at the truck brokerage, the revenue levels are just not as good as we'd like to see. We, particularly, within some of our specialized area of work with projects, we're not seeing that. We haven't lost any share there. It's just that the projects are much smaller than they were the prior year. And that's really what is having us lower guidance.

And I know you don't give pricing specifically anymore for intermodal, but can you just talk about relative to your expectations how the bid season went?

Right. No, I think that the bid season went -- it was very competitive, as it always is. And our focus was and remains to make sure that we covered our costs that we anticipate occurring and that we feel as though we were successful within that.

And I heard transcon volume, you said up 17%. And what did local east do?

That was up 6%.

And do you guys still attribute that to the fact that you had a big customer doing conversion business last year? Or is the conversion market, with lower fuel prices, just that much slower?

We're still seeing conversion freight in our local east market for some of our bigger growing customers. I guess I would tell you the -- we would tell you the reason it's not up more is because some of our customers' business was just down. A couple of our customers had some plants shutdown, and we did lose a little bit of business. Others had -- other customers had facility changes where they're producing things in different locations.

Okay. And then, Dave, just to jump back, and I'll give it up. You had said, I think, on the prior call that you thought high-single digit volume growth in the back half was your realistic target. Have you changed that target at all?

No.

Our next question comes from the line of Todd Fowler with KeyBanc.

I just want to clarify on the intermodal pricing. It sounds like the base pricing is still positive here in the quarter and your expectation, even though it was a competitive bid season is that base rates would be positive in the back half of the year.

That's correct. An awful lot of our bids actually don't -- the increase in pricing doesn't really take effect until the second half of the year.

Okay. And then the comments on the expectations for the gross margins, I think that Terri had in her prepared remarks, I think that, that was just for the Hub segment. But is the expectation there that gross margins are going to improve sequentially in the third and fourth quarter or that they'll improve year-over-year in the third and fourth quarter or maybe both?

Yes, you're right, Todd. I had in my prepared remarks that the Hub segment gross margin percentage would increase during the last half of the year compared to the first part of the year. And so we think sequentially, and we also think that on a consolidated basis and hopefully, for the whole year, the consolidated gross margin percent is equal to or maybe a touch higher than last year.

Okay, that's helpful. And then I guess this kind of piggybacks on Alex's question. But I mean, hearing your comments on intermodal pricing and your expectations for volume, to me, I guess, it feels like a little bit heavy, the reduction in guidance and attributing a lot of that to truck brokerage. How do we think about truck brokerage? I mean, is this -- where's your confidence level with this business? I mean, is this something that the bar is being lowered and you feel comfortable now with where expectations will be set? Or is there still some risk to the second half of the year? I guess, how are you looking at your progress in turning that business around? And what's the time frame that we're looking at right now?

Sure, Todd, this is Mark. I think we would -- to be candid, we don't -- we're not happy with the progress that we've made in highway at this point. At the same time, we still have a lot of faith in the management team and in the model and in the line of business. It is and remains our highest margin line of business, and we are forecasting that it's going to grow for the second half of the year. It's just not going to grow at the pace that we thought that it would. And so some of that is underestimating the magnitude of the task that we had as we realigned this network, and some of that is headwinds that we're facing from the general economy. In the second quarter, we didn't see the kind of mix that enables us to produce the kind of returns that we're looking for out of highway. So we managed a lot of projects, but the projects weren't as large as they have been historically. And a lot of that is simply because of some pessimism and a reluctance to take on additional inventory levels. We also didn't see the kind of spillover freight that we've seen historically, particularly during the close-of-month periods, where you're able to normally see a lot of spillover freight. And honestly, with what's going on in the economy, we just have no reason to think that it's going to be a different story, at this point in time, in the second half of the year. We're also reluctant to try to price ourselves at the top of every routing guide when we're not quite sure what's going on with the market. So I think that the model is sound. It's getting better every day. We're improving our operating disciplines. But at the same time, it isn't where it needs to be.

So if I hear that correctly, Mark, I mean, if I remember, a couple years ago, it was -- you misread to me how things were going to tighten and what happened on the purchase side. And then the following year, you were maybe a little bit aggressive with price and you lost share. It sounds like now maybe you've worked through some of that, but the market just isn't there or you're not getting help from the economy. But you've done -- or at least you're where you think you need to be internally. Do you need some help externally at this point?

I think that's right. I think that, that's -- our people definitely needs some seasoning. We have a lot of frontline people, but they're getting better every day, and our understanding of the market is getting better every day. But we could certainly use some help from the economy to improve our mix and to help us garner some new opportunities. We have developed some nice positions within new customers throughout this bid season. But it's important that we're able to execute effectively. So as a result, we didn't want to overextend ourself from a price perspective betting on a continued slow truck environment because that's by no means a certainty.

Sure, okay. The last one I have and then I'll get back in the queue, but is there any way you can give some color on volume trends within Mode? I guess I was a little bit surprised that you had flat revenue for each of the segments and for the segment in total -- or for each of the subsegments within the segment. I'm assuming some of that was fuel and maybe some mix things or something like that. But I mean, how do we think about Mode from a volume perspective? I'd like to think that, that's a growing business and there's growth there. But it's tough to see that with just the revenue numbers.

Well, Todd, I think that there was -- from a volume perspective with Mode, we saw a slight decline in intermodal.

Actually, yes, 1%.

1% and a 3%, I think, or 4% decline in over-the-road with Mode. That decline, however, was experienced predominantly at the CMO level. So the IBOs, which is really the heart of Mode, the heart of its value proposition, continues to grow, albeit modestly. We saw positive growth of, I think 3%, on the IBO side. So that is not growing as fast as we would like, but it is still moving in the right direction. So the thing with Mode that we need to do is make sure that we're adequately supporting it and then continue to add agents.

And we're really focusing Mode on the agents at this point in time. We did reorganize it so that CMO now, a lot of the functionality is performed at Unyson. And again, so that way the management team at Mode is able to focus specifically on assisting our existing IBOs and growing them.

And did you give what the agent count numbers were? I think you've given the IBOs and then the sales agent separately. Did you provide that in the prepared and maybe I just missed that?

We didn't. We added 1 new IBO and 10 new sales agents.

So 97 and 140 at the end of the quarter?

Yes.

Our next question comes from the line of Michael Weinz with JPMorgan.

I guess, the first question is just on the Mode line of inquiry here. How should we think of growth going forward? Is it also going to be kind of muted in the back half?

We would -- for top line growth, Michael?

Yes, top line revenue growth for Mode.

Yes, we would expect it to be higher than it was this quarter. So higher than the 1% growth, but it probably won't to be above mid-single digit.

Okay. And on the brokerage side, you had identified the outlook for growth in that segment to be a little bit less than you had previously expected. I think I heard, if I heard correctly, that brokerage load growth was down 1% in the quarter?

Yes, that's correct on the Hub segment.

Right, yes, specifically for Hub. How should we think about that going forward? Which side of it is below your expectations, on the volume side or the revenue per unit or however you want to count like the price and mix component of it?

It's really the load, but the revenue as well, but it's driven by the loads, obviously. We do have a couple of solid net revenue recognition. Customers have kind of endorsed that number a little bit. But the more we grow our loads, the higher we'll grow our revenue. And like Dave said, we just didn't have the -- and Mark, too, the volume of work that we had last year at this time and the mix was a little different.

Right. The type of work that we were doing this quarter was not as favorable as the type of work that we've been doing historically, so less of the projects come were less of the spot business. So unless we can restore that -- and we're winning the projects, as I said, they're just not as large. So in order to compensate for that, that means we probably have to bring in more core volume than what we've seen. So that means we're going to have to get that moving in the right direction.

So do you still think you can have a shift into positive territory on the load growth perspective in the back half or third quarter? Or is that more like fourth or maybe in 2013?

No, no. We're forecasting positives for both the third and fourth quarter.

Right.

Okay, okay just modest growth?

Just modest, not what we had hoped.

Okay. And then I know you don't want to be specific with intermodal pricing, but can you give us any kind of indication relative to what we've seen in the back half of 2011, like how 2012 compares with 2011?

Well, it's been a competitive bid season, as I think we said. We are seeing positive pricing gains, and we're anticipating that those are going to take hold in the second half of the year. I think that everyone would say that on the truck side and on the intermodal side, we haven't seen as much pricing gain as everyone had hoped. But as I hope we've made clear, we do feel confident that we're going to be able to more than offset our cost increases with our pricing gains.

Okay. And then could you provide any kind of color as to how -- whether or not there are any shifts in rail behavior on intermodal pricing in the quarter and what your thoughts are on the future for that?

Well, I think if you listened to the Union Pacific earlier today, they're very focused on price. I mean, if you just look at their results, their volume was up 0.5%; revenue, up 7%; and operating income, up 24%. The railroads are going to continue to invest aggressively into their networks. And in order to do that, they're going to need a reasonable return on their investment. So they and we will continue to be very price-focused.

Right, okay. And then just a couple of real quick questions, and then I'll hand it off to someone else. What was your local west traffic up this quarter?

That was up 8%.

8%, okay. And then do you have the change in length of haul in overall intermodal?

It was about flat.

About flat, okay. And then last one. What was your percent of stray [ph] in-house?

64%.

Our next question comes from the line of John Barnes with RBC.

Just real quick on your commentary around container deliveries in the back half of the year. Could you just talk a little bit about how you balance, what you do to come in, what you might be able to retire and your comments around maybe weaker-than-expected volumes in the back half of the year?

Sure, I can tell you the delivery schedule is about 550 in July, about 350 in August, about 800 in September and about 400 in October. And as Dave mentioned in his prepared remarks, we've already got 300 of the 550 that we're going to get in July. We've got a good chunk of those. And in terms of -- Dave mentioned we're going to have 24,000 containers during peak in our fleet. And then after peak, we'll probably retire 1,000 containers and we'll be down to 23,000 by the end of the year.

Okay, retire 1,000. But if you were to see some volume weakness, how quickly could you accelerate those retirements, if need be? I guess, what I'm asking is, if you have those boxes laying around and other people have boxes laying around, volumes come in a little bit weaker. There's no real peak. Having the extra boxes around, does it run the risk of kind of screwing up the pricing environment? And if so, can you adjust the fleet size quickly to prevent that?

Yes. No, we can -- John, this is Mark. We can definitely retire out those boxes earlier, if need be. We, obviously, can adjust the mix that we use between rail and fleet boxes, something we're not hoping to do and something we don't think we're going to have to do, right? We've enjoyed, throughout this quarter, excellent utilization rates, 13.2 days. I think was the number.

Right.

And that's a very solid utilization rate, and I think we can continue to experience that kind of utilization, even as the additional new boxes come on.

So you think there's enough of a peak to absorb what you've got coming in?

Yes.

Okay. Turn kind of attention back to truck brokerage again, and I don't want to beat a dead horse here, but you're not the only one, so far, to report a kind of poor truckload brokerage operations. I mean, J.B. Hunt's were not particularly good as well. I'm just kind of curious as to do you think this is a broader problem that's just going to take some time to work through, that it's more of an economic problem, more of volume issue. Or do you believe that now that everybody and their brother is running a brokerage operation, has the competition in that market just gotten so severe that everybody's tripping over themselves for the same volume, everybody's tripping over themselves for the same carrier capacity that it's going to be tough for anybody to really excel at this business?

Well, John, there certainly are some economic headwinds. As I was talking about, projects being smaller, less spillover freight. Those kind of things where a broker can really thrive, right? So I do believe that there are some headwinds there. I don't doubt that more competition in any market, obviously, creates more of a challenge. But what we have seen is we're still able to purchase effectively. We're still garnering solid margins, and we're still able to source capacity pretty effectively. I think we have to continue to do a better and better job on procurement, that's an imperative if we're going to succeed in this market. But we still firmly believe that this is a business line that can grow consistently in the double digits.

Okay. And then I'm going to take one more. So far this year, domestic intermodal has been kind of the bright spot and international intermodal has kind of been a little weaker. I know you don't do a lot of international, but just anecdotally, have you seen that reversal at all? Are you seeing any more strength on -- are international boxes beginning to displace domestic on the rails or anything suggesting that there's a shift going on there?

They're really completely separate lines of business. So I do think that -- I believe the UP reported today that they were up 3% in international.

Yes.

So it does appear as so it's turning around a bit as we're importing more and then, of course, exporting commodities back out of the United States.

Yes, IANA reported that internationally intermodal for the quarter was up 4%, where domestic was up 7%.

Our next question comes from the line of William Greene with Morgan Stanley.

I'm just curious. Given the macro uncertainty that we've got, how do customers typically respond? Does it make them more receptive to intermodal? And can that kind of overcome some of the, let's say, reluctance to sort of take on inventory? How does that receptivity change with changes in the economy?

Well, I think, we used to always think that, in fact, we could grow in any economic environment. I think when -- this is Dave. When the -- obviously, clients right now are very focused on cost savings. I think in addition to that, that the more progressive customers that we have are very focused on just under -- some of the underlying dynamics of long-haul trucking and whether or not the trucking industry will be able to fulfill their needs longer-term with fuel, with truck drivers, et cetera. So I think in a very soft economy, we will do well because we are less expensive. But also, from a service perspective, so in a good economy, we can again -- I think we can really do well in neither -- either way.

So when you look at kind of some of the trends that you're seeing in the subsegments, right, when you sort of break down your customers, are any of them sort of leading indicators? And what does that show you about the current state?

Yes, our customer base is what business we have. And so I don't know that our customer base is representative of the whole economy other than everybody's business is the whole macro environment is a little cloudy, shaky, so everybody is.

I think for many years, the transportation sector, no question, does 6-month leading indicator. I don't think intermodal necessarily is a good leading indicator at this point because there's just an underlying secular shift converting from long-haul truck to intermodal. So I think it's a little removed from what may be occurring within the economy.

Okay, that's fair. And now I know there have been obviously a lot of questions on Mode. But is there any case to be made for future acquisitions, do you think?

Oh, yes, absolutely. Are you referring to a Mode-specific type of thing?

Well, I don't know if it should be in truck brokerage or should be in a different kind of segment or how you think about it, right? But if one of the challenges is the integration, then maybe we have to put that out and say, like, "No. No acquisitions until we get this one right," or maybe alternatively, maybe the challenge is sort of subscale and we need more in here to sort of get the kind of scale in the marketplace to turn things around.

I mean, we really feel good actually about the integration of Mode. We think it's gone extremely well, and we think that they continue to perform well, particularly the IBOs. And that was what the Mode acquisition was all about. It was bringing on a group of very entrepreneurial savvy agents who had a customer base that we didn't think we could get to. So we feel that it's been a very smooth integration, and we feel that it's gone well enough. And at this point in time, we're ready to move on and consider other acquisitions. So this, by no means, do we feel that we need to take a breather. We think it's performing quite well and will continue to do so.

Yes. Is there something out there that could be like a transformational acquisition for you? Or are these kind of more tuck-ins?

We're willing to consider deals of all size, certainly, up to a limit, obviously. But we're certainly willing to consider larger deals. We are, as we've stated before, willing to leverage our balance sheet for the right deal. We're also interested in tuck-in acquisitions that can help us in areas like drayage. So we're considering a variety of options in that regard.

Our next question comes from the line of Brad Delco with Stephens.

Dave, maybe for you. I'm trying to understand, with the updated guidance, I thought truck brokerage would be something that would help the margin expansion. And I think Terri gave some guidance she still expects margin expansion. So is it really the big benefit in the back half that you're going to be on the renewed intermodal contracts? Is that what we're really banking on?

No. No, we do think that truck brokerage will improve through the year. Of course, our comps also are lower than what we had for the second quarter. So we do believe that their revenue, that they'll be able to grow a bit and maintain or enhance their margins somewhat.

Their margin percent, gross margin as a percent of sales for truck brokerage was higher than last year in Q2. So while, as Mark said, we still can always improve on the procurement end, it's not like our yields are terrible. It's just we need more business.

Right, it was a revenue and volume problem. That's what it is.

Got you. And then, I feel like maybe you've explained this before, but I don't recall. Terri, you said that length of haul was flat year-over-year, but mix was negative. I'm just -- maybe could you explain how that works out?

Sure. That's customer churn and churn in the lanes that we're doing business in, is really what the mix represents.

Okay. And then could you comment, like -- is declining fuel actually help margins? It hurts top line, but does it helps margin because it's offset, one-for-one, i.e. it's like a 100% operating ratio?

Theoretically, yes. I mean, it hurts your revenue, right. This is the first time that we've seen fuel going down since 2000 -- I think since the first quarter of 2009. So all along, fuel helped our revenue base but -- and our revenue growth because it's always going up. And if fuel goes up, so does our revenue. But you're right with yields theoretically. That's a pass-through so it's...

But it's not like it has any sort of lag effect that you could have a quarter with some benefit and then it becomes...

No, we don't have any big lags. Ours all adjust very timely and our customers do too.

Got you. And then maybe the last question, Dave. Could you just, from a high-level perspective, talk about the, I mean, maybe the competitive dynamics in the transcon business versus the local east? Because I guess I'm a little surprised to see that you're transcon business is still growing faster than local east. I think that's been the case for the last 2 quarters.

It has, in fact. And I think that within the local east, obviously, there's tremendous opportunities within truck conversion business, if for no other reason, because the rails didn't really have the infrastructure prior or the length of haul and the cost to be able to compete effectively against truck. That's no longer the case. You have that coupled with an environment where clients are looking to, in fact, convert to intermodal, just from a strategic perspective, over the long term, as they expect that there is going to be some underlying dynamics within the truckload sector which are not going to be favorable. I think that from a transcon perspective, there is still the ability to convert from over-the-road. We -- our conversion business was over 1/3 this past quarter of our increase in business. And so we do see ongoing some very significant opportunities to convert. It is -- in the primary corridors, like Los Angeles to Chicago, if it's not moving intermodal right now, there's a reason for it. It could be that it needs a 2-man team. It could be a lot of different reasons. But in some of those key corridors, I think we're probably at saturation. But there is other opportunities into Salt Lake City and the I5 Corridor, there's a lot of potential opportunities still there within the West.

Yes. And then maybe last question, I guess. Has that dynamic changed in the back half of the year? I think you said you still expect high-single digit volumes in the back half. But does that change with the onboarding of the new NSC terminals?

I think that, that's going to be a gradual step-up process. We saw the first real piece of the crescent puzzle falling into place just July 1 with the opening of the new Memphis facility. And up to the Northeast is where they're offering service right now, and we already saw a transit reduction of 12 hours. So we are seeing some new products. They are coming out a little bit more slowly than we had hoped, and we want to see the schedules as soon as we can and those kinds of things. I don't think you're going to see a fundamental shift in the dynamic. I think we've done a good job, transcon particularly, where we have a transit advantage, and that's the Southeast to southern California, to and from. And we've seen a lot of growth within that particular corridor. So I think you're going to continue to see strong transcon volume. I'm hoping local east picks up, but that's dependent on some customer-specific dynamics that aren't within our control.

Our next question comes from the line of Anthony Gallo with Wells Fargo.

Mark, I was wondering if you could, on the brokerage business, maybe give us 2 or 3 high-level points about what brokerage used to be and then how it's situated today in terms of customer profile, mix between transactional versus spot, maybe how you've reorganized them. I'm just trying to understand how much of what is going on there is macro and how much of it is your sort of in the midst of a restructuring of focus and strategy there.

Right, right. And I think it's probably a combination of the 2. I don't think that our business has changed. We're still predominantly contracted business. We're still looking for repetitive lanes where we're really competing mostly with asset-based carriers. We do a fair amount of spot business, that's something we've developed more over the last couple of years, good idea last year, not so great this year. Project business is a specialty that we've really developed over the course of time where we really think we can add value to our customers. And it's more like a transportation management function, almost the logistics play than a traditional brokerage operation. In terms of the operation itself, it's had fundamental change. We've gone from 18 offices down to 3 core and 3 satellite offices, changed out a lot of our individuals and brought in a new management team and brought in a new comp structure to really incentivize them to buy well and to sell well. So those are things that are still in progress. I would say, haven't completely taken root, but the model is maturing. And we think at the end of the day, our customers end up with a better product because we're better buyers of transportation. So that's the idea.

Okay. And then as a follow-up, and I know these are probably going to be rough numbers from you, but generally speaking, do you think you are positioned as kind of a main broker to your customers? Are you a main carrier? Where do you think you fall in the ranking order here? And I'm trying to think about in the context of as the economy comes back does it flow to you first or second. That's what I'm trying to think about.

Yes, I mean, obviously, we're positioning ourselves as a broker, but we're going for business that would not be the traditional broker business. We're going for business that would be traditional core carrier lanes where maybe a customer is having a challenge and doesn't want to add tremendously to their core carrier base. So rather than adding 4 or 5 or 6 carriers, they would rely on Hub to source through regional relationships the ability to cover that business. So certainly, we need to position ourselves and get a foothold in with these customers so that we can show our capabilities. But then it's our hope that as customers develop these problematic lanes, they look to us to help them solve that issue.

Okay, that makes sense because we think the footholds take -- are tougher to establish when the market is in balance. So that would make sense.

That's exactly right. And we've been fortunate. I think we really established some good footholds in this bid season. But now we have to parlay that into a meaningful relationship.

Okay. And then my last question just housekeeping. I'm sorry, did you say that intermodal gross margin improved year-over-year?

It did, yes -- year-over-year? No, down slightly. Sequentially, it improved. But are you talking dollars or percentage, I guess?

The intermodal gross margin, year-over-year.

The dollars were up year-over-year. The percentage was down slightly, gross margin as a percent of sales. But sequentially, the gross margin percent -- gross margin as a percent of sales for intermodal was up.

Our next question comes from the line of Ben Hartford with Baird.

If we could talk a little bit about how you're thinking about, you had talked about this earlier, the sequential improvement in gross margin. Is it driven solely by some of these contracts that have been awarded during the bid season coming on at more favorable terms to you? Or is there an underlying productivity improvement opportunity that allows for you to believe the gross margins can be up sequentially in the back half of the year?

We think it's going to be up because -- for a couple of different reasons. Number one, we're going to cover our rail cost increases with price increases to our customer, and we're vigilant about that. Number two, we're going to use Comtrak as much as we can, and we're growing Comtrak. We've done a good job at doing that. The more we use Comtrak, the more that helps our margins. And then truck brokerage margins are good, but they can be better, we think, by buying better and changing the mix out a little bit. So really, it's a combination of those things.

Okay, that helps. And then, similarly, SG&A being lower, about $2 million at the midpoint in the back half of the year. Is that all due to lower bonuses being carried forward here in the back half of the year? Is there an additional cost-saving component that you're factoring as well?

Yes, I think, when we gave our cost and expense guidance for the quarters, we said between $60 million and $63 million a quarter for the rest of 2012. And what that's really -- why that fluctuates, for example, from Q2 is bonuses were lower than Q1 by $1.3 million in -- from Q1 -- or Q1 to Q2. And then, as we grow our agent business with Mode, which we expected to do, that drives up the agency fees and commission. So that goes up in the second half of the year, we think.

Right. You had originally guided to -- I think, last quarter you had said between $62 million and $65 million. So I'm just wondering. That $2 million reduction, is that just lower assumed bonuses in the back half of the year?

Some of it certainly is, yes.

Are there additional specific targets in terms of the headcount or other cost-saving opportunities that you've identified?

No, our headcount is -- we've only added 6 people since the end of March. So we're pretty lean, and Dave and Mark still approve every single person that we hire. So we certainly won't go crazy there. But on the other hand, we don't think there's an opportunity to take out either.

Okay. And then last, can you talk about balance? You've talked about productivity box during -- in the second quarter. How was the network balance in the second quarter? And any anticipated repositioning costs or fees associated with some of the business that has been awarded during the bid season?

This is Dave. Our network is pretty well balanced. I mean, we work very diligently at that. And during the bid season, we certainly are very aggressive on focusing on backhauls and making sure that we've got the proper equipment in the proper areas. So we do have -- as anybody that has a fleet of 24,000 containers, we do have some amounts of empty repositioning, but it's relatively minimal by what we understand to be some standard practices of some of the rails and some of our modal competitors.

Our next question comes from the line of Jeff Kauffman with Sterne Agee.

Sal Vitale on for Jeff Kauffman. Can you just clarify something for me, please? Did you say that the reduction in guidance is all related to the truck brokerage business? Is there anything from intermodal?

We didn't really anticipate anything from intermodal, no. Most of it relates to truck brokerage. We would tell you, it's also the macroeconomic environment, which could impact logistics a little bit, so a slight amount of that could be due to logistics. But the lion's share of it is due to truck brokerage.

Okay. And then within the truck brokerage piece there. You said earlier that all of that is margin-related rather than volume-related. Is that right?

No, actually, it's the other way around. It's actually...

That's what I meant. It's all volume-related, rather than margin-related.

Yes.

How are you thinking about the margin improvement in the back half? You said that's going to be up sequentially.

Right, we think that our -- we're definitely going to cover our rail cost increases with price increases through our customers. And so that's one way we do that. Secondly is maintaining the yields and improving them a bit in truck brokerage. They're still pretty good right now. As Dave mentioned, it's more volumes that we need. And so we think that we'll be able to do that. And use Comtrak more. We're being more efficient on the street as well, and our box turns has been pretty good. We hope to keep the boxes turning. It was 13.2 days this quarter, which is pretty good, and we want to keep that going.

Our next question comes from the line of Scott Group with Wolfe Research.

Terri, do you have the percent change in gross margin for each of the 3 Hub segments, up or down?

Year-over-year?

Yes.

Yes, I do. Logistics was down about 50 basis points. Over-the-road was actually up 70 basis points, and intermodal was down year-over-year ever so slightly.

Okay, that's helpful. Can you talk a little bit about the rail rate increases and what you saw in second quarter? It feels like we didn't see the same magnitude of increases in second quarter this year like we did a year ago. But are they coming in the back half of the year? What are you expecting in terms of either third quarter increases or peak season increases from the rails?

Well, we really have minimal increases in the first half. But that works out very well because, of course, our price increases to our clients usually don't kick in until the second half either. So again, we do feel as though with the price increases that we've taken and that become effective in the back half of the year that we'll be able to cover any of the rail part rate increases that we see. Those aren't finalized, and obviously, we can't talk about those types of negotiations.

So Dave, I guess, what I -- my follow-up to that is if there is -- in the second quarter, there are any rail rate increases and the intermodal margin is still, like, flattish or down slightly, what's the environment where intermodal gross margin percentage is going to improve on a year-over-year basis?

Well, I think, when we can, in fact, get more price from our clients so that in fact, not just paying for the rail cost increases, but actually, keeping a little bit for the house. I mean, that's the focal point. And so I think we're -- we've been very focused on that throughout this bid process, and that is a primary point of concern. We're, right now, going through a pretty extensive review of our low-margin lanes, our low-margin customers, and those are all things that will impact the gross margin as we continue to just work at them. And there's no magic light switch or anything that all of a sudden you can increase them. It's just you can got to go one account at a time or one lane at a time, one move at the time and figure out a way to either get the business so that it's profitable or a reasonable profitable level or whether you -- in fact, you have to walk from it.

And does that seem like a realistic expectation for the back half of the year to see year-over-year intermodal margin percentage improvement?

Yes, we hope to see some, slight, but yes.

And again, this will be -- this is a longer process. This isn't just overnight.

Can you talk about -- because it feels like that we've had this issue for a couple of years, how far below, kind of past peak intermodal margins, you guys are from a percentage standpoint? And I'm just trying to think what the opportunity is to make that up over this long-term process.

You mean '07 versus where we are today?

Sure, yes.

Yes, I mean, we only need a couple of more pricing seasons to do that, kind of like Dave said. If we can outpace the cost increases with price increases that only helps that. And when the market will allow us to do that, we can.

Yes. During '08 and '09, I mean, prices collapsed, and our clients are very -- they're very good at what they do, and the market had a lot of surplus capacity. And they bought very cheaply, and now it does take some time to get the pricing back up. So the margins are more reasonable.

Okay. Dave, the 24,000 boxes you'll have at peak this year, how does that compare with the year ago, at peak?

Terri, do you have that?

It's about 1,000 more.

Yes, it's not a great deal more. It's about 1,000.

Okay, great. And then the last thing is on the brokerage side. So I've heard a lot on the call today about it's a challenging market for brokerage. It feels like what we're hearing from the other -- a lot of the other guys is revenue was okay, not great, but the yields are getting squeezed. And it feels like with Hub, it's been the opposite of the gross revenues, a lot worse than we thought and the yields are okay. How do we -- or how do you go about regaining some share in brokerage and maintain or even improve the margin percentages? How do you get both of those things going?

Well, talking about the first -- the latter first. As far as actually enhancing the margin, we think that a lot of that -- as we realign the brokerage business over the last year, a lot of it had to do with decentralized pricing and decentralized procurement versus a more centralized or regionalized approach, which we think is going to be a lot more effective. So again, that's something that we're getting our feet, I think, pretty solidly on the ground and will pay dividends for us over the longer term. As far as from a revenue perspective, I think, as Terri had pointed out during her presentation, a lot of that is directly the result of not losing share, but actually just smaller awards for projects, load boards because the truck market is kind of at equilibrium, the amount of load board activity, which generally has a pretty decent margin, that was down significantly, and those areas vertically pretty dramatically hurt our revenue.

Are you seeing -- did you see yield -- gross yields in brokerage improve sequentially throughout the quarter or get worse?

No, they got a little worse.

Throughout the quarter. And do you think that's the market or is that you?

Probably a combination.

It's not unusual to see a higher gross margin in that business in the first quarter than the second quarter.

Right, right.

And yes, so the second quarter is kind of an extension of the first quarter in that regard.

Our next question comes from the line of Todd Fowler with KeyBanc.

Terri, the operating expense guidance, the $60 million to $63 million, do you have a breakout between Hub and Mode for that?

No, we really didn't break that out separately.

Okay that's fine. And then just the last one. The $1.3 million change in the bonus expense here in the quarter. Was some of that reversing or truing up some of the bonus in the first quarter?

Sure, part of it was.

And ladies and gentlemen, we have no further questions at this time. I'd like to turn the call back over to Mr. Dave Yeager for closing remarks.

Great. Well, again, thank you for joining us for our second quarter conference call. If you do have any additional questions, et cetera, please don't hesitate to call Terri, Mark or I.

Ladies and gentlemen, thank you for your participation in today's conference. That does conclude the presentation. You may disconnect. Have a wonderful day.