Hub Group Inc., one of the nation's largest intermodal marketing companies, said late yesterday that it will change its California drayage operation to one based on an employee-driven model instead of one dependent on independent contractors. The company also said that it has offered employee status to all contractors that perform drayage for Hub in the state.
The company made the disclosure in a filing with the Securities & Exchange Commission (SEC) after the equity markets closed on Tuesday. The filing comes less than two weeks after a federal appeals court panel in California ruled that drivers who operated as contractors in California and Oregon for FedEx Ground from 2000 to 2007 should be classified instead as FedEx employees.
In its SEC filing, Oak Brook, Ill.-based Hub said it made the move to avoid further litigation costs associated with two cases involving the classification of draymen in California. In one complaint, filed last year in federal district court in Sacramento, Calif., a group of current and former drivers are seeking class-action status on grounds that since January 2009, Hub's drayage unit has been misclassifying them as contractors. The drayage unit used to be known as Comtrak Logistics Inc. and has since been renamed Hub Group Trucking Inc.
A second complaint, filed July 24 in state superior court in San Bernardino, Calif., essentially contains the same allegations, according to Hub. As of yesterday, Hub had not received a copy of the complaint, so it didn't provide any details in its regulatory filing.
Hub said that a "substantial number" of drivers have accepted its offer of employee status. There are an estimated 350 drivers who perform drayage services for Hub in California, which is considered a critical market for dray operations because of the Ports of Los Angeles and Long Beach, the country's busiest port complex. Hub said it would make its offer to remaining drivers without admitting any legal liability, maintaining in the filing that its drivers were "properly classified as independent contractors at all times."
Hub estimated that it will cost $9.5 million to settle the dispute if all of the drivers accept its offer. The conversion of the operating model to employee drivers from contractors will result in a charge of 2 to 4 cents a share because of higher initial costs in the Los Angeles and Stockton, Calif., markets, according to Hub; the company has 37.4 million shares outstanding. In addition, Hub will book about $1 million in charges during the second half of 2014 for legal, travel, and communication costs related to the settlements and the changes to its California drayage model.
Although Hub made no mention of the FedEx case in its SEC filing, Kevin W. Sterling, an analyst for BB&T Capital Markets, an investment firm, said Hub executives were influenced by the appeals court panel's Aug. 27 ruling that the class of drivers working for the ground parcel unit of the Memphis-based giant were company employees. Faced with making its case in courts in a pro-labor state, as well as the prospect of mounting legal bills, Hub decided in the wake of the FedEx Ground decision to cut its losses, Sterling said in a phone interview. "After the FedEx ruling, Hub realized they were fighting a losing battle," he said.
Hub executives didn't respond to a request for comment.
RAIL SERVICE PROBLEMS
If nothing else, the settlement frees up Hub management to focus on what is a more pressing dilemma: The continuing service problems of the nation's railroads that it dearly depends on. In the SEC filing, Hub said that "worse than anticipated" rail service levels slowed its equipment fleet utilization by 1.7 days in July and August compared with the same period a year ago. Slower and unreliable rail service has prevented Hub from using more of its own containers, which it earns a higher margin on than equipment supplied by the railroads. It has also incurred higher operating costs to add assets to service intermodal users.
Rail service problems have also nicked Hub's intermodal activity. Its intermodal volumes fell 3 percent in July and August, a marked contrast from the company's initial forecasts of growth in the segment in July; Hub now projects that intermodal volume will be flat or down slightly for the rest of the year. Unless rail service and utilization quickly improve, Hub's per-share earnings will be clipped by 4 to 6 cents as it incurs higher operating costs to service intermodal users, it said.
The nation's rail network, especially in the Midwest and Pacific Northwest, has been hampered throughout 2014 by the legacy of crippling winter weather in the first quarter, a continued increase in crude-by-rail traffic that has made rail capacity scarcer for other commodity movements, and retailers ordering and moving holiday goods into the U.S. earlier than normal due to concern about possible labor strife at West Coast ports. The International Longshore and Warehouse Union (ILWU), which represents about 13,000 workers at 29 West Coast ports, has been negotiating a new contract with the Pacific Maritime Association, representing ship management, to replace the old compact that expired July 1.
Meanwhile, containerized ocean freight imports in August are expected to set all-time records when the numbers for the month are tabulated later this week or early next. That means more intermodal traffic for an already overburdened system. In August, average overall train speeds declined 11 percent from 2013 levels, while the number of cars online increased by 14 percent over the same period, according to data from Robert W. Baird, an investment firm.
Restoring the rail network to 2013 performance levels is unlikely to happen by year's end. Union Pacific Corp.'s (UP) average rail speed is down 10 percent year-over-year, while UP's dwell times—the length of time a train sits in a terminal—is up by 16 percent, according to a BB&T research note. UP is Hub's western rail partner. BNSF Railway, which has borne a large share of the blame for the industry's subpar performance, has said its "northern corridor" running from the Pacific Northwest across the Northern Plains, won't be at full strength until early to mid-2015. That part of the BNSF system was whacked hard by bad winter weather. It also handles a large share of the nation's crude-by-rail business, leading to complaints from shippers in other industries that the crude oil market has diverted BNSF's attention, and its network, to their detriment.
Ted Prince, a long-time rail intermodal consultant and executive, said Hub's decision to take its California drayage operations in-house is an effort to "get ahead of the curve" in the face of ongoing rail service issues in the state. An owner-operator drayage model is problematic when slow and unpredictable service can force draymen to idle for hours waiting for a box, Prince said. Contractors weary of wasting productive hours under the new driver Hours-of-Service rules will go elsewhere for opportunities, leaving Hub and intermodal users in the lurch, he added.
By contrast, an in-house drayage model gives Hub more control, predictability, and a window for more effective planning, especially in what has become a high-anxiety climate for the rail intermodal supply chain. "If you have your own drayage, you can make up for a lot of bad rail performance," Prince said.
On Wall Street, traders and investors reacted negatively to all of the Hub news. Near the close of trading on the NASDAQ, Hub stock was off $3.01 a share to $40.30 a share, a decline of nearly 7 percent.