RXO, Inc. (RXO) Earnings Call Transcript

All right. We're at the last session of the day, seeing the best at the last. Jared Weisfeld at RXO, Chief Strategy Officer. Thanks for being here and ending our first day of DB's Industrial Conference with me. I really appreciate it. I'm Richa Harnain again, great research analyst at Deutsche. And yes, let's just get right into it, right?

Richa, I appreciate you having me. Thanks for having me here today.

Of course. So I'd like to start with just understanding your perspective on the current environment. Your business, in particular, has found some momentum. You just talked to us about that a couple of days ago when you reported results. Then there's the market that does experience some seasonal softness right about now. So maybe again, just give us a lay of the land, where is the market? Where is RXO? What do you worry the most about as you look ahead? What represents the biggest near-term opportunity for you to hit the high end of your outlook that you indicated you have line of sight to?

Sure. So maybe just taking a step back in terms of how the year has progressed, and I think speaks to the momentum that the company has been seeing. We started off the year, Q1 was at $6 million of adjusted EBITDA, and that has ramped significantly throughout the year to $40 million in Q2. And then at the midpoint of our outlook for Q3, another $40 million despite some seasonal softness from our last mile business with the brokerage business more than offsetting that weakness. So I think that speaks to the fact we talked about late last year, our brokerage late-stage sales pipeline was up more than 50% year-over-year, really entering in 2026 with tremendous amount of momentum. We've capitalized on that momentum. And when you look at our truckload brokerage volume in the business, we talked about our expectation of resuming outperformance versus the broader market as early as the middle of the year. We exceeded that goal, and we started resuming outperformance in the month of April. As you look at how the year has progressed, we ended up growing truckload volume by 2% year-over-year in Q2, 500 basis points above the market. We talked about an expectation for our truckload volume growth rate to accelerate into Q3, up about low to mid-single digit year-over-year in a market that still remains down. The Cass Freight Index has been negative for every month on a year-on-year basis since January 2023. So really, when you think about just the improved brokerage performance at RXO, it's not only about volume. It's about profitable growth, which is the investment thesis of the company. We've had an increase in gross profit per load in Q2, about 2% year-over-year despite the significant tightening in the market. In fact, on a sequential basis, it was up about 11% on truckload, gross profit per load, which was the fastest growth rate in 4 years. That's growing again into Q3 because we continue to execute on the spot opportunities. And maybe sort of -- I know I've been outlining a lot of sort of how the year has progressed, but maybe to close that, and we can follow up because I know I've said a lot. I think that's a good place to end in terms of the spot opportunities that the team is capitalizing on. Spot is now about 50% of the mix in the month of July. We talked about on our earnings call last week. That was up in Q2, 1,500 basis points year-over-year continues to increase because RXO is proving to be the broker of choice for spots, projects and mini bids at really accretive margins, and you're seeing that flow through the P&L.

Just on that topic, do you worry about like endurance of this given that spot market can tend to be fleeting? Or how do you consider maybe converting more of this to contract business, 50% spot now right?

Yes. So we don't look at the spot and contract business within the brokerage business in silos. We look at it holistically, and there's a strong interplay between the 2 businesses. You don't get the spot volume without the contract volume. You have to honor your contract freight if you want to go ahead and capitalize on the spots. And that's why we talked about on our earnings call last week, our tender rejections being better than industry. We're servicing that customer freight. And when you're in an environment with double-digit tender rejections, right now, I think it's around 13%, 14% was as high as, call it, 17%, 18% in the month of June. That's a market that's conducive to spot opportunities, even though there's soft demand. I think it's a really important point because even though aggregate demand still remains pretty soft, there generally is no housing market right now, which I don't think is going to be a surprise to many people. But despite that, because so much capacity has come out and that capacity is structural in nature in terms of the removal of that based on recent enforcement actions from the government, you're now at a point where there's been capacity attrition in excess of sort of that rate of demand. So you're seeing a spot market that's developed, and it's pretty broad-based in nature across many different verticals and RXO is capitalizing on that. So I think then the goal is you win that spot volume. And then eventually, as you think about converting that spot volume into longer-term contracts because you have the relationship and you put something in place, when you're dealing with large Fortune 100, Fortune 500 shippers, they want that predictability of the contract market. So we're able to go ahead and put that in at a fair margin and then capture a larger percentage of the volume on the contract market.

How does that work? So you're at 50% now. Do you want to start shifting a lot of that spot to contracts? And should we start to see a contract mix sort of increase over the next couple of quarters? Or how will it look on sort of your reported metrics?

It's not a -- it's going to be a function of where the market is. And I think that's the underlying premise where ultimately, if the market tightens from here, we're going to go ahead and capitalize on the spot opportunities. If the market loosens and there's an opportunity to go ahead and put some of that spot back into longer-term contracts at healthy margin, we're going to do that as well. So it really is going to be a function of the environment. There's no optimal percent contract versus spot mix over the long term, it really is going to be a function of where you are at any given point in the cycle. When markets are softer, you're going to want to lean into a larger contractual book of business. When markets are tighter like they are right now, you want to make sure that you're capitalizing on those spots because the spot opportunities can be significantly accretive relative to gross profit per load and helps offset the rise and increase of cost of purchase transportation that impacts the contract book of business.

And you're still seeing a lot of good spot opportunities. It sounds like you intend to -- continue to see a lot of good spot market opportunities, even though we're hearing maybe there's less activity making its way into the spot market because shippers are accepting higher contract rates and maybe shifting back into the contract market makes less activity in the spot. Is that something that's occurring or...

July is a good proof point where you have idiosyncratic differentiation at RXO, where seasonally, July is a soft month. And despite tender rejections moving in, in the month of July and despite freight rates coming in, RXO's spot mix held steady at about 50%, so up slightly from where it was in June. So to have that kind of spot mix, I think, speaks to the fact that we're staffed for growth. We're resourced. We have the technology able to capitalize on the spot opportunities. We talked a lot about our spot quote agent, which has been rolled out throughout the year. So having a lot of these idiosyncratic drivers available to us to capitalize on the spot opportunities, I think it certainly -- you're seeing that play out in the results right now.

Okay. Next, maybe we can talk about what I characterize as the elephant in the room when I spoke to a peer of yours. Clearly, the market remains somewhat hesitant right now. You talked about the good results, but tepid response not just around your prospects, but a lot of broker prospects and one of the largest nuclear verdicts in the industry against another truck broker probably has much to do with that. So maybe help the market get comfortable with the risk. There's this concept of uncapped liability and now every accident in the past and future going to try and extract from brokers with deep pockets. So what's wrong with that line of thinking? I know you have some strong news there, so share them.

I think to put things in perspective, let's look at how RXO is positioned right now. We have an extremely robust onboarding and vetting process from a carrier standpoint. We have a -- what we believe to be extremely excellent safety record when we look at just overall stats from the FMCSA, how RXO compares relative to those stats, we compare extremely favorably. And we've got a robust insurance program that is very comprehensive in nature. So we are insured from a coverage standpoint, basically in line to better than many asset-based carriers. So a robust [ tower ] program that's in place. We believe that we've got adequate and sufficient insurance and that we are adequately reserved. So I think we're entering in this post-Montgomery world from a relative position of strength when we think about just how the business was built over time, which is very different than some of the small, medium and even some of the larger brokers that are out there. If you think about the amount of insurance coverage that is available and that's running through our P&L. So we are -- we view this as an opportunity for RXO to continue to take market share when you're talking with shippers, shippers really care about the processes that are in place from a vetting standpoint, from a safety standpoint, from a compliance standpoint, do you have the proper insurance. And because not many brokers have what I just described, I think there is absolutely a market share opportunity in the near term. We're already having those conversations with our shippers. And I think you'll start to see that manifest itself out throughout this bid season and the medium to long term as well, where ultimately shippers want to make sure that they are dealing with reliable partners that are best-in-class.

And just on a specific case, I guess, like did it trouble you that the facts of the case, I mean, like what could C.H. Robinson have done, right? They chose a very safe carrier per the satisfactory rating from the FMCSA and all of that. So just the fact that they -- it seems like the facts were in their favor and yet they were still like -- they still face this verdict. Does that challenge some of the.

Yes, it's not our case. I'm not going to opine on a competitor's case, but do believe that ultimately, there is sufficient state law in Texas to come to what we believe will be the right decision for the industry. And I think that's a really important point. This is not just a brokerage industry issue. This is a transportation industry issue where ultimately, it's the national security of our supply chain. When you think about clearly, $600 million nuclear verdicts are not sustainable for the entire transportation industry. So as you think about working with the FMCSA and the DOT and with members of Congress to go ahead and make sure that ultimately the right construct is put in place to make sure that there is the movement of goods on an interstate basis that is frictionless in nature to not interrupt commerce. I think that's a really, really important point.

Okay. Well said. All right. So on the insurance side of things, you said your renewals at the end of the year and you feel like you'll outperform the industry with respect to rate increases. Just maybe put some parameters around that. How much do you think the industry insurance rates will rise? How much do you think you could outperform?

Yes. So we're still in conversations with our insurance brokers and our insurance carriers, so all of our partners. So I'm not going to give an exact number, but I'll help put some things in perspective because I think there are a lot of numbers that are floating out there. And I think it's important to realize to the earlier point that I made that not all brokers are coming from the same starting point. So if you've got a broker that exists in the industry, whether it's a small, medium or large broker or a broker that's part of an asset-based carrier, in a pre-Montgomery world where you're protected by the FAAAA, that broker may or may not have had excess liability. So you think about a lot of brokers reevaluating their current position and what that liability may look like, they're going to face larger percent increases to go ahead and make sure that they are properly covered. They've got the right towers in place. And they're going to face the larger percent increases that you're talking about. So when we think about how we're entering in this renewal cycle, we feel very strongly that we're going to significantly outperform the industry. We're not going to give that range yet when we get closer to renewal date, and we're in a position to talk about it, we certainly will. But given what we've seen over the last couple of years because of everything that we just talked about in terms of the safety record, the processes, the compliance, we've outperformed significantly over the last few years, and our expectation is that heading into 2027, we will outperform again. And I do think that it's also an important point that if we do have overall industry costs increase, they will -- it will -- it should be transitory in nature from the standpoint of ultimately, they will get passed along to shippers and then eventually the end consumer, where ultimately, if the cost of doing business goes higher, we need to still earn a fair margin, and we're talking about essential goods that we're -- and services that we're providing. So I think that's the construct in which we're thinking about it.

Okay. And what do you think with respect to like Montgomery basically swinging the pendulum between asset-based versus asset-light, right, like brokers versus non. Do you think it actually increases the value proposition of brokers because it creates a layer of protection between you and between the shipper and the carrier? Or do you think you are seeing shippers that want to work more direct with?

No, we're seeing the former in terms of shippers wanting to go ahead and work with brokerages, but importantly, work with brokerages that are of scale and have the resources and the vetting and the compliance that is necessary in a post-Montgomery world. So you think about the conversations that we're having with Fortune 500, Fortune 1000 type shippers, RXO, what processes, what procedures do you have in place, what insurance do you have in place? And then we'll go ahead and ask them to go ahead and make sure that they should compare this relative to some of their other carriers in terms of what's in place. And generally, what comes back is a market share gain opportunity for us because that shipper understands the value prop that we're offering and they want to make sure that they are doing business with a trusted vetted partner like RXO that has those robust processes in place. So absolutely, I think it's a market share gain opportunity. And you've seen that in the data, right? Brokerage penetration has gone up to the low 20%, and we think that there's headroom to go to 30% to 40% over time. And I think the composition of that penetration is also likely to be in favor of the larger brokers where the top 10 brokers now represent about half the market. We think that over the medium to long term, that could be the top 5 [Audio Gap] the market as the industry continues to consolidate.

Okay. All right. Let's shift gears a little bit and talk about just the general market. You're in the popular camp of capacity entrenchment we've seen across the industry being in early innings. Just maybe give us a little bit more there as to why you think that.

Yes. I mean if you look at the amount of capacity that's come out in terms of the for-hire truckload market, there are policies and regulations that have been in place between English language proficiency, non-domiciled CDLs, CDL mills, ELDs, cabotage, this whole -- and by the way, it's across the executive branch. It's across legislative. It's obviously an impact from a judiciary standpoint post-Montgomery. So there's all these pressures that are out there that have, in our estimate, taken out a significant amount of capacity. And we believe that up to, call it, 25% of the for-hire truckload market may face -- that's the amount of capacity that we're talking about to exit over time. That's a nontrivial amount of capacity if you think about a for-hire truckload market that's about 1.3 million to 1.4 million CDLs. So -- and the point is that it's structural in nature in terms of these capacity shifts whereby that capacity is not going to come back. There will be a supply response at some point, but it will be higher quality supply that operates with unit economics that make more sense as opposed to being 30%, 40%, 50% below market. So when you think about all that capacity coming out, we think we're probably close to maybe -- I think the best way to frame it is that there's probably another halfway to go. So think about that for a second. We've had spot rates move up anywhere between 30% and 50% year-over-year with no real improvement in demand with maybe half the amount of capacity coming out. So -- and there's still more to come. So you think about the implications to the industry whereby any kind of improvement in demand. I mean, the housing market, like we just talked about. The housing market can be 20% of the freight economy in good times. And you're seeing this kind of move higher in spot rates without housing, without big and bulky. I mean, I think this speaks to our view that gross profit per load for the industry and certainly for RXO is biased higher from a structural perspective, given how much of the capacity has come out.

And do you think it's fair to say then that we could see this type of improvement in rates for at least as much, maybe even next year as we -- if this is sort of linear in terms of the capacity reduction we're seeing?

It depends on demand. So all else equal, if supply continues to come out and demand remains static, then by definition, that's inflationary to overall TL rates. I think where things get really exciting is when you think about just where demand levels are right now, I mean they're sub 2019 levels. The freight economy, as we just talked about, has been in contractionary territory from a volume standpoint for the last 3.5 years. Mortgage rates are sitting at 6.7%. So you just think about over the -- pick your time frame, when you do have a normalization of demand, you've got this upward bias, and it could be a material upward bias to freight rates and truckload gross profit per load. That would be on top of what we've already seen. But I think the important point also is that from an RXO standpoint, we're not waiting for that. You're seeing truckload volume growth at RXO 500 basis points in excess of industry. You're seeing gross profit per load growth significantly in excess of industry because we're capitalizing on those spot opportunities. So as we think about the normalized earnings power for the business, the fact that we're able to advance the ball on all of these KPIs in the context of what remains a muted demand environment, I think, gives us even more confidence in terms of the upward torque and the upward leverage to the model that we have.

Okay. Nice. Maybe we can hone in on demand a little bit and where you have maybe more fine lens, I guess, on what's going on. Managed trans business, one of the biggest movers of big and bulky. So you do have a great perspective on the housing market, but just generally, what you're seeing there. And then it sounds like you were talking about some sort of green shoots, maybe expedited auto. I know that there's a comp story there as well, but we saw some nice growth. Yes, to talk about like maybe where you're seeing the green shoots and aside from housing, what's maybe being a little bit more stuck in the mud?

Sure. So I'll handle that across our relative lines of business. So within the brokerage business, we're seeing green shoots across many of our verticals, but I do think a lot of that is RXO specific as opposed to broader industry. Specifically, food and beverage for us turned positive for the first time in 2 years. We talked about one of the most exciting opportunities with the acquisition of Coyote was to go ahead and acquire this huge installed base of customers, stabilize the volume trends and then start growing. We're doing that exactly right now. So as we think about the upward torque to the model, food and beverage was a very big vertical for legacy Coyote. And now having that exposure at RXO, even though food and beverage demand trends overall are still muted with GLP-1s, et cetera, we're seeing significant growth within food and beverage because we're recapturing share. So I think food and beverage within brokerage as well as automotive, to your point, and there's a synergy between automotive within brokerage and our managed transportation business. Expedite volumes within our managed transportation business were up almost 30% year-over-year in the second quarter, still significantly below prior peak levels. But to your point, we do have some favorable comps, but we're also seeing some benefits on the expedite side because the overall truckload market itself is pretty tight. So you're seeing customers turn to their reliable partners when they need to push that emergency button and they need that expedite time -- that expedite just-in-time type freight that carries higher gross profit per load from RXO standpoint, we're seeing a nice improvement there. On the last mile side, and I think this is an important point, we're still seeing very muted trends within big and bulky, no doubt, inextricably tied to the state of the housing market right now. And I think that dovetails to your first question, Richa, on the outlook that we provided for Q3. If you look last year, Q3 was down about 20% sequentially from an adjusted EBITDA perspective across the company. This year, we're holding the line flat at the midpoint despite the fact that we've got not only typical seasonality within our last mile business because Q2 is the strongest quarter for last mile, but we've got incremental headwinds to the tune of $3 million to $5 million in last mile attributable to just weaker and softer market conditions. So I think that's, one, it speaks to the underlying momentum in the brokerage business. Two, I think it speaks to just how weak big and bulky is right now. But with that said, we're still outperforming big and bulky. I think the industry is probably down low to mid-teens on stops. So we're definitely outperforming. Stops were up last quarter.

Okay. And just in terms of your overall diversification, are you -- like can you talk about that? And are you at the optimal level? Do you still need to do some more work in terms of portfolio shaping? I know there's a whole LTL versus TL dynamics we can get into that, but I'm more curious right now on sort of end market exposures.

Yes. So I think that there is an opportunity organically and inorganically. When we think about from an organic standpoint, what have we been focused on with respect to diversification. We've been focused on, as you'd expect, industrial, manufacturing, data center as we think about building up that pipeline, we've seen some really nice growth within the high-tech vertical example -- high-growth tech vertical as an example. And we're also seeing that in a modality standpoint as well. LTL, we talked about the pipeline being up nicely, and we're going to accelerate that growth rate within LTL by year-end relative to our Q3 volume growth, which is about low to mid-single-digit growth. But LTL is still only low 20% of our mix. How do we think about getting -- I think Drew and I have talked about how do we get LTL to 50% of our mix. So I think that's going to be a combination longer term of organic and inorganic, and we think about our capital allocation philosophy, the same way we've thought about it since day 1 of our spin, and it's been organic growth back into the business, share repo and opportunistic M&A. And when we think about opportunistic M&A, it's going to be across the same channels we've always talked about in terms of LTL, managed transportation, different modes within brokerage where we'll maybe subscale. But we also have a high bar. And ultimately, the organic path that we have ahead of us is so strong, and we're seeing some real momentum in the business right now. So it will be the combination of all 3.

Okay. Why the strong rationale to like want to increase LTL exposure. That's going to bring...

Yes. From an LTL standpoint, one, it's strong margins and it's stable cash flow. So I think when we think about -- and it increases the stickiness of the relationship with our customers. So all 3 of those factors between strategic rationale and financial impact to the P&L, no doubt speaks to why we want to increase LTL as a percentage of our mix. I mean for RXO, that business is still pretty nascent. It only started 5 years ago, right? We are obviously owned by an LTL asset-based carrier when we spun out of XPO back in the fall of 2022. And that business subsequent to the spin has certainly grown very nicely. So I think we're still early on our growth trajectory within that LTL business relative to some of our peers, and we've seen such momentum and the growth trajectory there is so significant. But it really comes back to strategic rationale, increasing the stickiness with our customers and the more stable EBITDA combined with certainly accretive margins.

And when you think about inorganic growth prospects, are you seeing like LTL sort of specific brokerages out there that could be interesting?

There's always opportunities that are out there. So I think we'll look at it across the vectors that we talked about between managed trans, LTL, SMB, reefer, flatbed, anything within brokerage that could add to our capabilities within RXO. And even though we're the third largest broker within North America, as we think about our 2 largest modes within brokerage, it really is truckload and LTL. And within truckload, it still is mostly dry van. We still have -- we have a nice reefer business. We've got a nice flatbed business, but there's an opportunity to do more in both. So I think we think about it in a pretty holistic perspective, but we also have a very high bar in terms of what must be true, right? We've been public for 4 years. We've done 1 acquisition. So I think we want to make sure that we've got the right scale, and we're driving the right financial returns.

Okay. And on the inorganic side, like what should we be thinking more like tuck-in type opportunities? Or would you be willing to do big scale M&A again if it was a good opportunity?

Yes, I think we're going to be opportunistic. And ultimately, it's not the size that we're focused on. It really is ultimately, does it drive strong shareholder returns? Is it materially accretive to normalized earnings? And does it make sense for our shippers? And culturally, does that make sense? And if you could check all those boxes, then we'll certainly take a look.

Okay. Okay. Shifting back to the organic side. I mean you talked about being early innings on sort of your agentic AI efforts. It's been a long day. Tell us about what you mean by that?

For sure. I mean if you follow the journey over the last 4 years, you'll see the content that we've been putting out in terms of the tangible evidence associated with the investments that we've been making in AI are really starting to bear fruit. And we're talking a lot about the products that we keep rolling out every 90 days when we report. And it really has been a multiyear journey, and we're starting to see some really nice benefits. So when we think about technology, it really is across our pillars between volume, margin, productivity and service. And ultimately, for us to make an investment, we've got to check the box that we are unlocking value across those pillars. We're not going to go ahead and deploy CapEx for the sake of investing in tech if there's not a strong return associated with it. So that's at the high level how we think about it. And the biggest use case that we've seen develop year-to-date has certainly been the rollout of our spot quote agent, where we're seeing -- when we think about the deployment of that tool specifically, we've seen the cohort relative to those that early on have not adopted now, it's widely adopted throughout the organization, an improvement in both volume and yield. And when you just think about any of our customer reps not having to leave their user interface to go ahead and book a load, right? You don't have to go ahead and pull up 7 different tabs and try and figure out does that price make sense and then go ahead and build a load where you can stay within one native environment because everything is automated through an agent and the agent is doing the work for you, that has a nice effect in terms of increasing productivity. And that's also a really important point in terms of how we think about leveraging the technology. We are not leveraging the tech to replace our people. We are leveraging the tech to make our people more productive. We want to go ahead and be able to grow volume by 50% and only grow headcount by a fraction of that amount because ultimately, our people are doing more in terms of load per person per day. So I think that we've got a, what I believe, a differentiated approach in terms of a human-in-the-loop AI approach where ultimately, our view is it's the combination of the tech and the operators that really do provide the value prop and the ability to capture market share in a profitable way over the long term. So it's decoupling the growth between headcount and volume growth over the long term, leveraging the tech investments that we're making, and I think that's really showing in the P&L.