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Morningstar | XPO’s 3Q Global Top-Line Growth Remains Solid, but Logistics Market Conditions Likely Nearing Peak

Global transportation and logistics provider XPO Logistics reported solid 10.5% organic top-line growth in the third quarter. Gross revenue was mostly in line with our expectations. We’ve already been baking in historically strong pricing tailwinds in the transportation segment (particularly domestic truck brokerage) linked to unusually tight truckload-market capacity throughout the year. We’ve also been anticipating continued logistics growth on the back of very healthy new contract wins.

Relative to the same period last year, XPO's organic total revenue increase was driven by solid North America freight brokerage growth (up 18%; including a 30% rise in truck brokerage business), strength in intermodal, and healthy dedicated-truckload demand in Europe. Truckload capacity has been highly constrained in the United States (capacity is also tight in Europe), making for an unusually robust pricing backdrop across most services, including North American LTL. Logistics division revenue grew 13% on plentiful new business and continued tailwinds from strong demand for e-commerce-related contract logistics services. Ignoring a customer-bankruptcy related charge, profitability didn’t deviate drastically from our forecast.

Since our longer-term revenue and profitability assumptions remain mostly intact, including our midcycle EBITDA margin forecast of 10.5%-11.0%, we don’t expect to materially alter our $66 fair value estimate. At about $84.5, the shares are trading in modestly overvalued territory.

While U.S. truckload capacity showed some signs of adjusting to ELD-related disruption in October, it remains tight from a historical perspective. Thus, we believe the operating backdrop in North America, especially in terms of pricing, will remain favorable for XPO’s freight brokerage and LTL operations for the remainder of 2018 and into the first half of 2019, though growth comparisons will become more difficult. Nonetheless, in our view the stock price continues to bake in slightly optimistic long-term growth assumptions, albeit to a lesser degree in recent months as valuation multiples across the trucking and logistics markets have been correcting.

Excluding transaction and re-branding costs, XPO’s consolidated adjusted EBITDA margin increased about 10 basis points, to 9.6%; slightly below our forecast due in large part to a customer-bankruptcy related write-off in the logistics segment. XPO’s overall profitability remains healthy, especially considering ongoing heavy investment in IT-infrastructure and sales capabilities. Management tweaked its 2018 EBITDA target to $1.585 billion (from "at least" $1.6 billion) because of the impact of the customer bankruptcy. We think this target remains achievable thanks to the strong operating backdrop for the firm’s North American freight brokerage, LTL shipping, and last mile businesses, along with the solid pipeline of contract logistics opportunities. We also continue to expect additional profitability gains in the year ahead stemming from ongoing optimization initiatives and leverage from revenue growth.