Like much of the stock market, shares of XPO Logistics (XPO 7.31%) have been hammered during the coronavirus crisis, down about 45% since Feb. 21. Demand for logistics and transportation services is closely tied to the overall economy, and with a broad range of businesses -- including retailers, restaurants, and even some manufacturers -- currently shut down because of the pandemic, investors believe supply chain needs will decline as well.
Nonetheless, CEO Brad Jacobs struck a mostly optimistic tone in a recent letter to shareholders, acknowledging that the global economy would be significantly affected by COVID-19 this year, but he predicting a recovery next year. As the head of one of the world's biggest providers of services like freight brokerage, contract logistics, and less-than-truckload transportation (LTL), Jacobs' commentary is worth following for any investor curious about the direction of the global economy, as logistics is a leading indicator. Let's take a look at a few of the most illuminating comments from the letter.
The future of e-commerce
One of the biggest effects of the coronavirus shutdowns so far has been to drive even more commerce online. Americans are turning to online retailers for delivery of essentials like food, medicine, and cleaning supplies. With most non-essential retail stores closed, consumers have also turned to the online channel for other goods, driving a spike in sales at Wayfair, the online home goods seller, at the end of March and early April.
Jacobs believes that some of this transition could be permanent as consumers adapt to online shopping for a wider range of needs. He said in the letter:
For example, e-commerce growth, which was already at a double-digit rate, could accelerate in the post-pandemic world. Millions of consumers have become more accustomed to online shopping for food, household goods, pet supplies, health and beauty products, furniture and appliances without leaving their homes. If this proves to be secular, it will drive even more demand for e-fulfillment, omnichannel retail, reverse logistics and last mile logistics.
2020 will be a lost year
There's been debate among banks and research analysts about when the recovery will begin. Earlier in the crisis, some had expected a robust second half of the year with a recovery beginning in the third quarter.
However, Jacobs expects 2020 to be a "lost year for earnings growth in our industry and most industries around the world." He called himself a "pragmatic bear" in the short term, but said he has already seen signs of a recovery in China where XPO's operations have returned to about 90% of prior levels. Jacobs forecast a recovery next year, saying, "Consumer confidence is very weak right now, but once testing, therapeutic drugs and a vaccine are widely available, confidence will rebound and the global mechanisms for GDP growth will resume."
XPO can weather the crisis
Jacobs was optimistic about XPO's ability to bounce back when the crisis eases and shutdown conditions start to get lifted. Transportation and logistics is a necessary industry, and nearly every business counts its supply chain as a crucial component. He expected large customers to bounce back first, a positive for XPO as it counts nearly 70% of the Fortune 500 as its customers.
Jacobs argued that XPO's business model was durable enough to get through the crisis, saying:
Even in these circumstances, we expect hundreds of millions of dollars of free cash flow this year. We've throttled back our growth capex. Working capital should become a source of cash instead of a use. Our proceeds from real estate sales also contribute to liquidity. And the large variable portion of our transportation model lets us control costs while retaining access to capacity.
The company has ample liquidity with $1 billion of cash in the bank and access to another $500 million through an asset-backed loan, and no major debt maturities until 2022.
Jacobs concluded with an eye on the long term, by saying, "There will be no shortage of opportunities for us to allocate capital and enhance shareholder value," which is perhaps a reference to future acquisitions, share repurchases, or other such maneuvers, as Jacobs has long sought ways to increase shareholder value.
While an acquisition doesn't appear to be in the cards for now, XPO earlier pulled its previous plan to break up the company, and there are likely to be more shakeups in the logistics industry as this plays out. Still, with its diversification, technology investments, and solid liquidity, XPO should be able to bounce back and grow over the long term.