State of Trucking 2006: Managing the Challenges

Special Report

2006 Year in Review

Freight carriers faced challenges on several fronts in 2006, most notably shifts in shipping trends that resulted in lower volumes than expected, coupled with still-increasing fuel prices and a continued driver shortage.

“Like previous years, the transportation and logistics industry faced challenges across the board in 2006 — from the driver shortage to volatile fuel prices and the lack of a seasonal surge in the fourth quarter,” said Chris Lofgren, president and CEO of Schneider National.

That shift in freight-market activity, combined with a major “pre-buy” of Class 8 trucks during 2006 – resulting in a new-truck order drought at the start of 2007 – posed the biggest obstacles for carriers and truck manufacturers down the road.

“Clearly the fall freight season was changing,” said Bob Costello, chief economist for the American Trucking Assns. “The robust 3.9% month-to-month freight-volume gain in December 2006, the largest monthly increase since a 7.3% surge in January 2005, was the result of more shipments later in the fall freight season than what we typically saw in the not-too-distant past.

“As retailers sell more merchandise in January due to the proliferation of gift-card giving, this trend is likely to continue in the years ahead,” he noted.

“The amount of ‘surge’ freight was significantly lower than in the last two years,” added Randolph Marten, chairman, president and CEO of refrigerated-freight carrier Marten Transport. “This freight is highly profitable and the lack of it made a difference.”

A 75% reduction in new Class 8 orders in January 2007 to 11,000 – the largest year-over-year decline on record, according to investment banking firm Bear Stearns – made the industry’s footing even slipperier as the new year began.

“The falloff in Class 8 production is occurring much faster than the falloff in Class 8 retail sales, because there are still inventories of ’06 engines of dealer lots,” said Chris Brady, president of Commercial Motor Vehicle Consulting. He expected Class 8 truck retail sales to draw down gradually in February and March 2007 before falling sharply in the second quarter when inventories of trucks with ’06 engines were whittled down.

Trucks with ’07 engines, equipped with EPA-mandated emissions-reduction technology, were considerably more expensive than their ’06 counterparts and consequently less desirable, as evidenced by that 75% plunge in new orders.

Freight Volume Slowed Midyear

Trucking companies across the board faced a slowdown in freight volumes starting mid-2006 – just as transport capacity increased, thanks in no small part to fleets pre-buying trucks to avoid the costlier ’07 equipment, creating a far more price-competitive freight environment than expected.

“The accelerated purchase of new trucks disrupted the supply and demand balance in the second half of 2006, contributing to a more challenging freight market for truckload carriers,” said Clarence Werner, chairman of truckload carrier Werner Enterprises. “During fourth-quarter 2006 there was a substantial year-over-year change in spot market truckload freight rates, as the pendulum for spot-market pricing swung from truckload carriers in the fourth quarters of 2004 and 2005 to shippers in fourth-quarter 2006.”

“We experienced declining demand for truckload freight services by year’s end,” added Jerry Orler, president and CEO of USA Truck. “This was the most difficult operating environment that we have seen in several years due to deteriorating demand and the absence of the normal peak shipping season.”

“Beginning in October and continuing into November, traditionally among the busiest months of the year, we experienced a sudden and dramatic reduction in business that mirrored conditions throughout the trucking industry,” Robert Davidson, president and CEO of Arkansas Best, the parent company of less-than-truckload (LTL) carrier ABF Freightways.

“This year’s sequential decline in total weight per day was the largest, by far, in over 20 years and occurred at a time when ABF was operationally prepared for strong seasonal

business,” he noted. “As a result, we were delayed in reducing labor and other costs from the ABF network, and our fourth-quarter operating results were negatively impacted.”

“It definitely turned out to be a more challenging freight environment than the industry has seen in the past several years,” said Stephen Russell, chairman and CEO of truckload carrier Celadon Group.

Werner added that the softer freight market – combined with softer truck sales – would make it more difficult for marginal carriers to remain in business. “As these marginal carriers are facing significant funding requirements for truck licensing in first-quarter 2007, some trucks may not be licensed which would tighten capacity,” he said. “As a result of the above factors, we anticipate that the recent excess trucking capacity will gradually reverse, so capacity may tighten as we move toward the fall peak season of 2007.”

High Fuel Prices Threaten Carriers

One big concern among trucking companies was a continued rise in diesel fuel prices. According to the ATA statistics, truckers spent $98.3 billion on fuel in 2006 compared with $87.7 billion in 2005 and $65.9 billion in 2004. Rising fuel costs, adding nearly $10 billion to carriers’ operating expenses in each of the last three years, threaten to erode profitability to a high degree if the trend continues, said Bill Graves, ATA president and CEO.

“Fuel represents the second-highest operating expense for many motor carriers, accounting for as much as 25% of total operating costs,” he said. “An affordable supply of diesel fuel is imperative to keep our trucks moving. We are not recreational vehicles. We have to be out there delivering the goods that the economy demands.”

The introduction of ultra-low-sulfur diesel added to the upward pressure on fuel prices, he added, as it costs more to refine and distribute – adding anywhere from five- to 10-cents per gallon to the cost of diesel.

Although fleets attempted to recover some of the higher diesel costs with fuel surcharges, often resisted by customers, those charges seldom covered the entire bill. That left even those carriers that managed to get a full surcharge facing higher operating expenses.

“Our improvement in earnings has been slowed somewhat by increasing costs, notably fuel,” said G. Larry Owens, president and CEO of Smithway Motor Xpress. “Though increased fuel surcharge revenue mitigated approximately 89% of fuel price increases we expect future earnings improvement is going to occur at a slower rate and, depend upon many factors, including fuel prices, freight demand and driver availability.”

Many carriers turned to technology to help them better cope with higher fuel prices. For example, Randy Barnett, a project manager at refrigerated-freight carrier Stevens Transport, noted his company’s increased control over routing and fueling by using Manhattan Associates’ carrier-management program, improved equipment utilization by 5% and reduced fuel expenses by more than $500,000 per year – resulting in a total savings of nearly $2 million over four years.

“We use this system to consider both fixed and variable costs and to balance them against driver requests and preferences, thereby minimizing out-of-route miles, lowering fuel and fuel-tax costs and decreasing tolls,” Barnett said. “It also had a major impact on our relationships with fuel suppliers – dramatically increasing the number of ‘authorized’ fuel stops from 170 to more than 1,000, which contributed to our fuel savings.”

Drivers Were Still Scarce

The search for truck drivers continued to be a bumpy one for the industry. According to the ATA, the driver-turnover rate among truckload carriers increased during the third quarter of 2006, after showing improvement during the first half.

Large-truckload-carrier line-haul driver turnover increased on an annualized basis to 121% in the third quarter from 110% in the second quarter, while small-truckload carriers (those earning less than $30 million in annual revenues) watched turnover climb to 114% from 100% during the same timeframe. Meanwhile, turnover among LTL carriers remained very low, at 14%, while many private carriers experienced turnover in the single digits.

The trucking industry’s shortage of about 20,000 long-haul truck drivers in 2006, was expected to reach 111,000 by 2014 if current demographic and market conditions continued, said ATA head Costello.

“As more and more large carriers try to get out of the long-haul market, more small carriers are filling the gap,” he said. “This is resulting in increased driver-turnover rates for the segment of the industry that traditionally had a much lower turnover rate.”

The average length-of-haul for large truckload carriers dropped 1.5% through October 2006, while the small truckload carriers experienced an increase of 12%. Consequently, the difference between large- and small-truckload-carrier driver turnover rates was seven percentage points in the third quarter, compared with a difference, on average, of 17% from 1995 through 2005.

To recruit more truck drivers, a major policy goal of the ATA and its trucking members, the group in 2006 launched a public education campaign targeting specific groups such as the Hispanic community, retired or laid off workers over 50 years old looking for a second career, and former soldiers leaving the military after just one hitch.

“We believe there are adequate pools of workers out there – we just need to get to them and convince them that trucking offers good jobs,” said ATA’s Graves. “We need to make the truck driver’s job more appealing and we know that past efforts haven’t solved the shortage.”

Part of that effort is going to involve working not only with government job banks and other employment agencies, but special interest organizations as well – including the American Assn. of Retired People (AARP) “We can’t leave any stone unturned in terms of addressing the driver recruitment issue,” he added.

That’s because the lack of drivers has caused fleets a variety of headaches – especially in terms of the bottom-line. “The limited availability of experienced drivers continues to challenge the trucking industry,” said Russ Gerdin, chairman & CEO of Heartland Express in Coralville, IA. “We recently announced a driver pay increase for the third consecutive year and as a result our most senior and experienced company drivers will be earning 50 cents per mile (1.6 km), while our owner-operators will be earning a base rate of 95 cents per mile by the end of 2006.”

Advance Equipment Purchases Added Capacity

Perhaps the biggest one-time wrinkle that beset trucking in 2006 – and one with long-term implications – centered on fleets’ massive purchase of new trucks in advance of the new emission technology mandated for units beginning in January 2007. Those changes were to add as much as $10,000 or more to the base cost of Class 8 truck-tractors.

Class 8 sales topped 284,000 units in 2006 – a 12.3% increase over 2005 – which soaked up a lot of the trucking companies’ available capital.

“In advance of the tighter 2007 emission standards, we planned an aggressive equipment program to replace approximately 2,100 tractors during 2006,” said David Parker, chairman, president & CEO for Covenant Transport, “purchasing 1,800 units outright and financing 300 more.

“From a fleet perspective we had expected to concentrate on replacements instead of adding units during 2006, although we planned to add company units to match any owner-operator attrition.”

“Many carriers took delivery of more new trucks than normal in the second half of 2006 to delay the purchase of more costly new trucks that are required to meet federally mandated engine emission requirements beginning with engines manufactured in January 2007,” said Werner. “As a result, we expect that industry purchases of new trucks will decline dramatically beginning in the latter part of first quarter 2007 and throughout a significant portion of the year, reversing the recent temporary increase in the supply of trucks.”

The fuel-economy losses many fleets experienced due to emissions-rule changes in 2002 made them leery of the ’07 technology – even though most truck makers said ’07 trucks largely would remain “fuel neutral” in terms of the impact the emission controls would have on truck operating parameters.

That argument didn’t sway Werner. “It was our intention to keep our fleet as new as possible, in advance of 2007,” he said. As a result, the carrier’s net capital expenditures in 2005 were over $100 million higher than 2004, due to that decision to reduce the average age of its truck fleet. However, by 2006, Werner’s net capital expenditures returned to more normal levels.

Even with all the twists and turns in 2006 combined – high fuel prices, large scale equipment buying, slowing freight demand, and a continued shortage of drivers – the long-term outlook for trucking remained healthy.

According to the ATA’s U.S. Freight Transportation Forecast to 2017, trucking’s share of total freight tonnage was expected to rise to 69.2% in 2011 and 69.5% by 2017, up from 68.9% in 2005. Above-average growth in key truck commodities, the system’s inherent flexibility and increased demands for on-time delivery were expected to benefit the trucking industry in the years ahead. In terms of revenue, trucking’s share is projected to reach 85.1% by 2017, up from 84.3% in 2005.

“Trucks have steadily increased their share of the nation’s freight pool,” said ATA’s Graves. “The trucking industry is a critical part of delivering the American quality of life and is meeting the needs and demands of the U.S. economy.”