Keep an Eye on First-Rate Freight Broker Landstar
The firm's unique business model sets it apart from the pack.
Wide-moat Landstar (LSTR) is well positioned as a key player in the asset-light highway brokerage market. Its unique business model--namely the use of captive owner-operators, its independent agent network, and focus on specialized flatbed shipments--sets the firm apart from the pack. Moreover, we estimate the company boasts the second-largest network of shippers and carriers (following C.H. Robinson (CHRW)) in a highly fragmented industry. We expect Landstar to benefit from market share gains and rising demand for top-tier providers typified by efficient access to trucking capacity, market know-how, and sophisticated IT infrastructure. We would prefer a larger margin of safety to our fair value estimate before recommending the shares, however.
Use of Owner-Operators Keeps Gross Margins on a Smooth Road
Gross profit margin compression on truckload freight has been a headwind for the truck brokerage industry over the past year, weighing on the net revenue trends of many providers, particularly industry behemoth C.H. Robinson. Tightening truckload capacity has enabled carriers to raise rates, which inflates cost of hire, while unfavorable brokerage market conditions (balanced supply and demand and low levels of unplanned or surge freight) have tempered pricing to customers. There is also a time lag for most brokers in terms of passing along rising carrier rates to contractual shippers. (To clarify, gross profit--net revenue--refers to gross revenue less purchased transportation, while gross margins are net revenue over gross revenue.) Gross margin pressure for Landstar has been much more subdued, thanks to its unique operating model.
A key difference between Landstar and a conventional broker like C.H Robinson is the firm's capacity network. Most providers source capacity in the spot market with unaffiliated third-party carriers (broker carriers). Landstar, on the other hand, also uses owner-operators, which it refers to as business capacity owners, for more than half of its trucking business. In 2012, BCOs hauled 50% of total revenue (54% of trucking revenue), while broker carriers made up 43% (46%). BCOs are independent contractors, but haul freight exclusively for Landstar (under its USDOT-issued operating authority) in accordance with a cancelable lease agreement. They provide their own trucks and pay their own expenses (driver wages, fuel, and so on), though many make use of Landstar's specialized trailing fleet. Importantly, Landstar's BCO freight enjoys steady gross margins because these drivers are paid a fixed percentage of the revenue generated from a load--generally around 75%, though that can be lower if the BCO provides only a truck and no trailing equipment. Thus, gross margin on BCO-hauled loads hovers around 25% on average. When using the firm's definition of net revenue (gross revenue less purchased transportation and agent commissions), BCO gross margins approximate 17%, since Landstar's sales agents generally receive 8% of revenue. Landstar's gross margins on freight hauled by broker carriers do fluctuate throughout the business cycle because these carriers earn a negotiated rate in the spot market--this is the typical brokerage model. That said, even a portion of this business is fixed margin because certain agent contracts allow the firm to apply a retention rate. In these transactions, Landstar retains a portion (10% on average) off the top of the line-haul invoice, pays the carrier, then pays the remainder to the sales agent.
Matthew Young does not own (actual or beneficial) shares in any of the securities mentioned above. Find out about Morningstar’s editorial policies.
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