Has the AI boom finally run its course for investors?
The Nasdaq-100 entered a correction on July 29, defined as a 10% decline from a recent peak, and semiconductor stocks, which have driven the AI rally, suddenly look unreliable. The iShares Semiconductor ETF, which had more than doubled at one point this year, is now down 29% from its peak at the end of June.
For investors who have overallocated into AI stocks, now is a great time to think about diversifying, and an excellent candidate is XPO (XPO -0.13%), the less-than-truckload (LTL) carrier.
XPO is in the midst of an industrywide recovery as domestic manufacturing has returned to expansion. At the same time, the company is executing effectively with service improvements, including an all-time low damage claims ratio of below 0.2%, enabling it to raise prices and expand margins. The company just reported second-quarter earnings.
Image source: XPO.
Strong numbers across the board
XPO's revenue grew 13.2% to $2.36 billion, topping the consensus at $2.27 billion and marking its fastest top-line growth in nearly five years.
Revenue was strong in both North America, up 15.2%, and in Europe, up 10.2%. Growth in North America was driven by a 4.4% increase in yield (price), a 2.8% increase in shipments per day, and a 1% increase in tonnage per day. Higher fuel surcharges account for the remaining increase in revenue.
Meanwhile, XPO delivered a record operating ratio (the inverse of operating margin) of 79.9% in the quarter, a 300-basis-point improvement from a year ago, showing that its service and productivity investments are paying off. That includes AI-driven tools for route and labor optimization, as well as operational applications, such as helping load trucks more efficiently. Additionally, the company has reduced the number of linehaul miles it outsources, thereby driving higher margins.
On the bottom line, the company reported adjusted earnings per share of $1.70, up 62% from a year ago, though that figure includes a $7 million real estate gain, or $0.06 per share. Even adjusting for that, the result was well ahead of the analyst consensus at $1.47.
NYSE: XPO
Key Data Points
Why the stock is a buy
What might be most encouraging about XPO's earnings report is that the key trends strengthened throughout the quarter. Tonnage went from a decline of 1.5% in April to an increase of 4% in June, according to Chief Strategy Officer Ali Faghri, who spoke to The Motley Fool.
Faghri also noted that the industrial economy is back in growth mode, as the ISM manufacturing index has expanded in each month so far this year, a bullish sign for the LTL sector. Though XPO doesn't give formal guidance, Faghri said that business has continued to accelerate into the third quarter, and for the full year, the company expects free cash flow to more than double, topping $660 million.
With the extra cash, the company expects to pay down debt and buy back shares in an approximate 50/50 split, which should also boost the stock over the long term.
Finally, XPO's capex cycle has also peaked, as the company expects to spend between $500 million and $600 million on capital expenditures this year, down from $657 million, meaning it will keep more of the cash it generates. Faghri noted that the company invested in expansion during the industrial downturn, putting it in a better position than its competitors, which are now ramping up capex to respond to industry expansion.
Overall, at a time when the AI boom is looking wobbly, XPO offers exposure to an industry just returning to growth from a company that is executing at a high level and has a long track record of success. The stock isn't cheap by conventional standards, as some of the industry recovery is already priced in. However, the clean beats on the top and bottom lines show that investors still seem to be underestimating its growth potential. With the help of the free cash flow surge, XPO should be able to keep delivering results for investors.
