RXO joins logistics companies facing ratings agency cut

Ratings agencies now have taken a scalpel to three logistics companies in the past two weeks, with a debt downgrade of 3PL RXO by S&P Global Ratings joining similar actions impacting C.H. Robinson (NASDAQ: CHRW) and Forward Air (NASDAQ: FWRD).

It’s been 11 months since S&P Global Ratings gave RXO (NYSE: RXO) a stable outlook while maintaining its BB+ rating, moving it down from positive. That BB+ rating is under the cutoff for an investment-grade debt offering. The outlook remains stable, which means S&P does not see conditions that would lead to an upgrade or downgrade in the near future.

With S&P’s action last week, RXO now has a reduced rating of BB, two notches into non-investment-grade territory.

That creates an even starker difference between Moody’s and S&P Global Ratings’ views on RXO. In March, Moody’s (NYSE: MCO) reduced its outlook on RXO to negative but affirmed a Baa3 rating that it bestowed in 2022 when RXO was spun off from XPO (NYSE: XPO). That is the lowest rating considered investment-grade. The outlook remains stable.

When S&P Global (NYSE: SPGI) issued its non-investment-grade rating of BB+, it was one notch below Moody’s rating. With the S&P move to BB, that gap is two notches, an unusually large difference between the two key ratings agencies.

Fitch Ratings does not rate RXO.

“RXO Inc.’s credit metrics have deteriorated sharply since we revised our outlook to stable in June 2023 due to its significantly weaker earnings and cash flow generation amid a prolonged freight recession,” S&P Global said in its report. The key metric it cited was funds from operations (FFO), the same measurement that led to the C.H. Robinson downgrade, which actually came after the RXO cut.

“We now expect the company’s S&P Global Ratings-adjusted FFO to debt will be in the low-20% area in 2024, which is significantly lower than our earlier forecast for the mid-30% area,” S&P said.

In its earnings calls, RXO management has touted its market share, which it says is growing. But S&P appeared to be not quite as impressed with that metric as the company might have hoped.

RXO released a statement on the S&P Global move in response to a FreightWaves query. “The ongoing soft freight market continues to impact the entire industry,” the statement said. “Despite these challenges, RXO is well-positioned to continue to outperform.”

S&P stated: “The low rates and softer conditions in the freight market have reduced the company’s brokerage gross profit per load. While RXO expanded its brokerage volumes over this period, the increase has not been sufficient to offset the headwinds from the lower-rate environment, causing its FFO to decline by about 60% to $115 million in 2023.”

In 2024, according to S&P, FFO is expected to increase only to about $130 million, resulting in an adjusted FFO to debt ratio of approximately the low 20% range.

“It’s unclear when RXO’s volumes and pricing will materially improve,” the ratings agency wrote. “However, we currently expect market conditions could begin to recover, albeit gradually, by late 2024, which would enable the company to improve its FFO to debt to the high-20% area by 2025.”

Some kudos sent out

As it did when it moved the company down to stable from positive, S&P Global did praise some key aspects of RXO’s management and structure. It noted RXO’s “strong technological capabilities and continuous pursuit of structural cost take-outs.” But it added that the efforts haven’t fully paid off yet because of costs related to the integration and restructuring since the November 2022 spinoff.

Beyond the FFO ratio, S&P expressed concern about RXO’s net leverage relative to earnings before interest, taxes, depreciation and amortization. RXO reported it as 2.9X, but S&P Global said its standard is a 3.7X ratio as of March 31. Regardless, either figure exceeded the target of 1-2X. That, according to S&P, is due “primarily to the sharp deterioration in its EBITDA, and thus its FFO, amid a prolonged period of weak freight market conditions. In turn, the company’s reduced FFO has led it to generate less cash flow, which has prevented it from reducing its net debt.”

RXO has been carrying a “fairly minimal” cash position of less than $10 million in the past two quarters, S&P noted. But it has recently increased its revolving credit facility to $500 million, a jump of $100 million, which “will provide it with ample liquidity to absorb the negative working capital swings that we typically see in the freight brokering industry when rates begin to rise.”

S&P did make one observation that should make many people happy: “We see limited risk that the freight markets will deteriorate materially from current levels.”