Executives: Rusty Rush - Chairman, President and CEO Steven L. Keller - SVP, CFO and

Treasurer
Analysts: Neil Frohnapple - Longbow Research Brad Delco - Stephens William Armstrong - CL King & Associates Jamie Cook - Credit

Suisse
Operator: Good day, ladies and gentlemen, and thank you for standing by. Welcome to the Rush Enterprises Fourth Quarter and Year-End 2016 Earnings Results Call. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session and instructions will follow at that time.

[Operator Instructions] As a reminder, this conference call is being recorded. I would now like to introduce your host for today's presentation, Mr. Rusty Rush, Chairman, CEO and President. Sir, please begin.

Rusty Rush: Good morning and welcome to our fourth quarter and year-end 2016 earnings release conference call.

On the call today are Steve Keller, Senior Vice President and Chief Financial Officer; Jay Hazelwood, Vice President and Controller; Derrek Weaver, Senior Vice President, General Counsel, Secretary; Mike McRoberts, Senior Vice President and Chief Operating Officer. Now, Steve will say a few words regarding forward-looking statements. Steven L. Keller: Certain statements we will make today are considered forward-looking statements as defined in the Private Securities Litigation Reform Act of 1995. Because these statements include risks and uncertainties, our actual results may differ materially from those expressed or implied by such forward-looking statements.

Important factors that could cause actual results to differ materially from those expressed or implied by such forward-looking statements include, but are not limited to, those discussed in our annual report on Form 10-K for the year ended December 31, 2015, and our other filings with the Securities and Exchange Commission.

Rusty Rush: As indicated in our news release, we achieved revenues of $4.2 billion, and net income of $40.6 million or $1 per diluted share. For the fourth quarter, net income was $12.5 million or $0.31 per diluted share on gross revenues of $1 billion. As expected, a choppy freight environment delayed purchases by several large fleet customers. Continued weakness in the energy sector and low used truck values negatively impacted our heavy-duty truck sales and aftermarket revenues for the year.

Medium-duty truck sales however remained solid, reflecting general economic improvement in some parts of the country. To help offset lost revenues and better manage costs, we implemented extensive expense reductions in the first half of the year, including consolidating several dealership locations. In the aftermarket, our parts, service and body shop revenues were $1.3 billion, and our annual absorption rate was 112.2%. The decline in demand for aftermarket services that began in late 2015 continued throughout the first quarter of 2016, with activity remaining at decreased levels through the rest of the year. We were able to offset some lost revenues with parts and service support for construction, refuse and other business sectors.

We are starting to see a slight increase in parts and service activity from the energy sector, while aftermarket business in construction, refuse and other vocational areas is expected to remain stable in 2017. Turning to truck sales, we sold 10,816 new Class 8 trucks in 2016, down 36% compared to 2015. Our results accounted for 5.5% of the total U.S. Class 8 market. Our Class 8 truck sales were negatively impacted by decreased demand from several large fleet customers as well as sluggish over-the-road business throughout the year.

However, there were some moderate increases in vocational activity in Texas, California and Florida. Oversupply and low trade-in values of used trucks in the industry also continued to negatively impact both new and used truck sales, and we expect that will continue. For 2017, ACT Research currently forecasts U.S. Class 8 retail sales to be 154,000 units, down 22% compared to 2016. We also expect this to be another tough year for Class 8 truck sales.

That said, we are seeing an increase in quoting activity as many customers are cautiously optimistic about potential economic improvements. We continue to compete aggressively for every new truck deal and have confidence that our truck sales will be at a minimum, at minimum, on pace with the industry. In medium-duty, our Class 4-7 new truck sales reached 11,135 units in 2016, flat compared to 2015, and accounted for 4.9% of the U.S. medium-duty market. U.S.

medium-duty market grew 3.7% over the same time period. Our medium-duty results were strong due to our nation-wide inventory and our ability to support customers across a variety of business sectors. ACT Research forecasts U.S. Class 4-7 retail sales to be 232,800 units in 2017, up 2.9% from 2016. We have seen an increase in quoting activity lately, mostly from construction and ancillary support businesses, which we believe will drive medium-duty truck sales.

We expect our Class 4-7 results will be consistent with the industry in 2017. As in previous years, we expect general and administrative expenses to be sequentially higher in the first quarter of 2017, due to employee benefits and payroll taxes. In the area of growth, we maintained focus on our strategic initiatives, including all-makes parts, vehicle service technologies and compressed natural gas systems. While primarily centered on foundational efforts, we made progress in launching these initiatives and expect to see a positive result to our financial results in 2017. We also formed Business Process Management group to improve efficiencies and ensure a consistent customer and employee experience.

We opened new truck centers in California and Kentucky and increased service capabilities in five states. In closing, I would like to express my gratitude to our employees for their continued commitment to providing superior service to our customers while carefully managing expenses as we work through a very challenging year. With that, I'll take your questions.

Operator: [Operator Instructions] Our first question or comment comes from the line of Neil Frohnapple from Longbow Research. Your line is open.

Neil Frohnapple: Rusty, can you provide a parts, service and body shop sales outlook for this year, maybe even just from a higher level? I mean, you indicated you're beginning to see a slight increase in aftermarket activity from the energy sector, and then you have all the initiatives around all-makes parts. And then I think you obviously have some easier comparisons as we move through the year. So considering all of that, are you able to kind of quantify a growth expectation for this year?

Rusty Rush: [Indiscernible] has evolved in front of us. Obviously we have budgets and goals where we're trying to head to, Neil. Being in what I think is a turning year for us, as some of the initiatives that we have implemented along with what I believe was the energy sector starting to slightly come back for us, we look for growth I'm going to say mid to single upper digits, upper single-digits for sure as we get into it.

And we're seeing some uptick since the 1st of January. Now, 45 days does not make a year, that all being said, right. But at the same time, we are positive, we are very positive as the years take an offer and as we get started to achieving some of the goals that we think are highly possible for us.

Neil Frohnapple: Okay, that's very helpful. Thanks.

And then Rusty, you also mentioned that you expect used truck valuations to remain soft for most of 2017, and I understand that the supply side won't be good for a while, but is it your view that prices could decline further from today or do you think that they have bottomed out and will just kind of bump along from here?

Rusty Rush: On this one, I would like to take the more optimistic approach and say we're on bottom. I truly am not sure about it, Neil, I'll be honest with you. I think if there's anything, there is more possibility of more price obviously falling than rising, okay. At the same time, if we can get some economic uptick, we can eat up some of the oversupply that's around the country right now, because I have no huge trucks, that quite large pockets of used trucks that OEMs have and some dealers have that are sitting on yards around the country, but with some economic pickup, hopefully we can eat into that and at least maintain flat without taking much more depreciation over normal cyclical depreciation we usually get throughout a year. At that time, I would say there is downside, more downside to it than there is upside though.

Neil Frohnapple: Okay, that's helpful. And then just one quick one if I can, the absorption ratio of 120.6% in the quarter, I believe that may be an all-time record or pretty close to it, which is impressive particularly in light of the sales decline and a quarter that has fewer working days. So can you just talk about what drove this performance, I mean was it…?

Rusty Rush: Right, it really went on the revenue side as you could tell by the numbers. It was more on the cost control side. It had a lot to do with employee benefits and things such as that which usually always focuses into our fourth quarter every year.

So, I would tell you our folks did a pretty good job of managing the expenses and especially on the employee benefit side and the tax side in Q4. But that's typical when you look back at prior years also, but they did maybe a better job this year. And also continuing the expense reductions that we took earlier in the year, and managing and maintaining those throughout the fourth quarter. So, to our employees, I give them credit for that and look forward to their continued diligence in that area. But as I said in the release, remember, first quarter is always typically our biggest jump in G&A, given employee benefits again, taxes, et cetera, and they just sort of wind down as the year goes on.

Neil Frohnapple: Okay, great. Thanks very much, Rusty.

Operator: Our next question or comment comes from the line of Brad Delco from Stephens. Your line is open.

Brad Delco: Rusty, I wanted to maybe…

Rusty Rush: Quickly first, Brad, real quick, congratulations on the triplets.

Brad Delco: Thank you, sir. Sleep is a very precious commodity at this point in my life.

Rusty Rush: I saw that and was thinking about congratulating you and your bride and children.

Brad Delco: Thank you, sir. I wanted to focus on the parts and service response you had to Neil and appreciate kind of the mid to upper single-digit growth.

Is there going to be – I guess trying to narrow in exactly when we start seeing this positive inflection, will there be a point in the first or second quarter where we see greater contribution from the all-makes parts business picking up? I'm trying to really get to a point where when do we see this inflection with parts and service revenue?

Rusty Rush: We are starting to see it, Brad, but it's going to be a continual ramp-up. I mean, I was talking with the folks and I know I may have misjudged a little bit when I came out here, I came out and said 2020. We are going to get to our goal, okay, let me tell you that right now. There's never been a goal in this organization we haven't gotten to. It may not be 2020, it may be 2021 or whatever, but our focus continues to be on it and I have all the confidence in the world, given the past 20 plus years of being public and goals that we have set that we've always accomplished, that we will get to our goal.

Now to more specifically answer you, sometimes those timelines are hard to pick. I will tell you, it is picking up now and I believe we'll see continued ramping up throughout the year. Is it in that double-digit range that we wanted right now? No, but it's starting to get close in the all-makes business and I expect that to continue as we continue to make investments in many areas that it takes. We made a lot last year. Going into last year, I mean I think [indiscernible] that always jumped right out.

Last year was a foundation building. It was putting those building blocks together. Sometimes, you get a little excited, you get ahead of yourselves. Normally I don't mind telling you the facts. So, maybe we did, as far as [winning would] [ph] kick off, especially in a tough year.

Last year was a tough year across the board, a tough freight year, a tough for us, oil and gas hits and everything else we were taking.

Brad Delco: And that was really my point, we have been in what I think some of the trucking analysts have called a freight recession for 18 to 24 months, energy has been in the tank and revenues were down only 3.6% in parts and service, and it feels like the freight market at least is expected to trend in the right direction over the course of 2017 and energy seems to be coming back. I'm just, I'm curious as to how quickly this is going to really start to move. So when you say, mid to high single digits, is it we are going to be down a little bit in the first half, it's really going to snap back, or is this going to be – I'm trying to get a cadence of how you think it plays out.

Rusty Rush: I don't look really down.

I don't look really down, [so obviously] [ph] that's great right now, okay. But it's dependent on how January and the first part of February – it's better than December. Now, it's always about sustainability, but I believe sustainability is driven by the effort that has been put in and the focus that has been put in around the strategic initiatives along with a pickup in the freight environment, a pickup in oil and gas, and these are going to be gradual. These are not clip events, okay. Let's get that straight.

They are not clip events. But they are all positives, right. So, as they continue to evolve, I would hope that you'll be able to see them in those numbers. And you know me, I'm going to – when I just talk, I'm typically not wanting to over-promise and under-deliver. That's not been my style for 20 years.

It's not going to start being my style now. So, I want to let you know we're doing the right things, I see some positive signs out there, but they have to continue. At the same time, as I said earlier, 45 days does not make a year. But you were not wrong in when you say that the freight environment does seem better right now. I mean the freight environment, look how much January was better than January of last year, right, even though we're slightly down from December.

Was oil and gas better from a service perspective than last year? Sure it was. We're starting to see – we're starting to put up with some technicians out in the field. Now, when you talk about that, is that sustainable? I'm not real sure we're getting – things are getting being refurbed to go back, right. Now is that sustainable, does that hold up throughout the year and into the next year? I'm not an oil and gas expert. [Even though] [ph] I was born and raised in Texas, I have been around a long time.

Is that sustainable for two years? I'm not sure. But I do know that those are positives that I see going on right now and I just want to see sustainability of them. So, to your point, and to my point, I look back at last year, you say down 3.6% or 3.7%, we have a bunch of store closures in there too, right. So, that's inflected there. So, at the same time – I think I have explained it well enough.

Brad Delco: And then maybe just a quick follow-up, and Steve may want to chime in here as well, capital allocation, really the question is, is M&A back on the table at this point or where is your head around that, Rusty?

Rusty Rush: Of course it's on the table. In 20 years, it's never been off the table.

Brad Delco: Anything in M&A, are there enough deals out there, what you're looking at?

Rusty Rush: I would say, nothing imminent. I would say, we have discussions going on in a couple of places, of course. Maybe I can say, maybe more than I did 12 months ago, okay.

But there's nothing imminent right now, there's no deals or anything like that that are imminent for me to announce, but I would say that maybe a little more discussion.

Brad Delco: Okay, all right. Thank you, Rusty.

Rusty Rush: Again, get sleep.

Brad Delco: I'll try.

Operator: Our next question or comment comes from the line of Bill Armstrong from CL King & Associates. Your line is open.

William Armstrong: So in terms of Class 8 truck sales, obviously the Company lagged the overall market in 2016. You lost some market share.

Rusty Rush: Yes, we did for a fact.

William Armstrong: And I would assume that most of that is because of your concentration or your exposure in the oil and gas area. And is that why you think you will do better relative to the market this year than last year, because you are looking for a rebound in the energy sector?

Rusty Rush: No, not really. Actually to be honest with you, yes, the oil and gas – when it comes to truck sales in oil and gas, I didn't really had anything in the back half of 2015 either. So I expect it to be a little better, but it's not going to be up to levels that we saw in 2014 or in 2013 for example. At the same time, the over-the-road fleet business is going to continue and was the biggest, toughest part.

I had about three large deals that might have cost me 2,500 units that I didn't have from 2015 to 2016 last year. That really drove a lot of it, of what we saw, but I did stay in pace with the market, right. So, I would hope – I don't have that but I hope I would have that coming at me this year and then I would hope we could make some progress on some other stuff, and that's why when I wrote in the note, I've talked to at a minimum we would stay pace with the industry from a declining perspective. And if you want me to elaborate a little bit more, because I'm sure I'll get the question, elaborate a little bit more on new truck sales, if you were to walk me back 60 days ago and walk me forward 60 days, and say, okay, there is the number that's out there, for once I agree with Kenny Vieth that ACTR had that number of 155,000 or 154,000, whatever that number, right around that range, I might have told you before, that's the number, not sure where it goes from that, but if I look at the number now, I might tell you there's a little upside to the number. I'm not saying a lot, but at least I'm more optimistic than we were 60 days ago.

As I said, quoting activity is pretty strong. That needs to come to fruition now. All the time we are seeing we're gradually getting some stuff, I think we're gradually getting our orders coming back gradually. So, I'm optimistic, but I'm not overly optimistic. As I keep saying, 45 or 60 days does not make a year.

But let's hope this continues and we can – as I've said all along, if the truck market is up 20% and we could maintain this year, I feel pretty good about it, I said that last call, almost got in trouble, everybody took [indiscernible] I say that, wait, wait, wait, wait, let me get a little further down the road, but I do believe some of the initiatives, some of the things we are doing that we can perform – even though I do believe Class 8 truck sales are going to decline, I do believe if you look at retail sales in January, even they were only like 11,000 or something, [indiscernible] right, and once you get in the hole, it's hard to pick it all back up. So, I don't think there's any gap that retail sales will be off this year, it's just where. But when 195 or 154, is it the 154 number or is it a little bit upside to it, I would be a little optimistic right now and say, possibly if there's anything to it, there's upside not downside to that number.

William Armstrong: Okay, got it. And along those lines, do you see Navistar picking up any share this year in terms of [indiscernible]?

Rusty Rush: I believe slightly, I believe there will be some slight share increase, no doubt.

I don't think it's going to be, I don't think it will jump 2 points or anything like that, but I would expect somewhere, I would hope that they jump somewhere between – I don't want to speak for them. But yes, our answer is, I would expect it to start picking up some share. We're seeing a little better activity on that side. Thank God, we are four years away from when they switch to commence. So, at least you know you're still [bearing] [ph] with some out there, don't get me wrong, there is still an overhang out there, but at the same time every day that goes by, our overhang gets a little bit smaller, gets a little bit further in the rear-view mirror.

So yes, you've got to be more optimistic when you look at it from that perspective going forward. And with the stability of the Volkswagen injection and partnership, that brings credibility, as I've told everyone, to the long-term, stable long-term of Navistar, is to where it's headed when you look forward. So, from a customer, from an employee, from a manufacturer perspective, that's just a good thing.

William Armstrong: Right, that makes sense. And then a quick one for Steve, do you have the gross profit breakout for the fourth quarter between heavy-duty, medium, used, et cetera?
Steven L.

Keller: Sure. Heavy-duty was 7.3%, medium-duty was 5.7%, light-duty 6.4%, and used 8.5%.

William Armstrong: Great, thank you.

Operator: Our next question or comment comes from the line of Jamie Cook from Credit Suisse. Your line is open.

Jamie Cook: Most questions have been asked. I guess, Rusty, one question. I'm just trying to think about again if energy comes back, how much that could potentially help you. Is there any way you could frame sort of from peak to where we are today, how much of a headwind it's been? I know in 2015, you talked about I think it being like a 20%-25% headwind or something like that. I'm just trying to figure out where we sort of stand today.

And I guess the other thing, given what you're seeing in the markets with vocational and construction, et cetera, just your mix for 2017, how are you thinking about gross margins on the truck side given where we ended in 2016?

Rusty Rush: Our gross margins were obviously I think a little better in Q4. But that was a mix issue, right. Our mix is a big place that we have lost. So we finally locked in our smaller customer base, smaller customers, not a different type of mix than what we had. So, you'd be mixing a big [indiscernible] of all times and your volume goes up, your margin goes down a little just because of the mix issue.

That's what basically drove a better margin.

Jamie Cook: I'm trying to think about for 2017 now, just based on what…

Rusty Rush: [Indiscernible] I'm putting more big fleets in there right now. We are working on some – I said used truck headwinds, Jamie, it's a very difficult thing for me right now is dealing with that used truck headwind to see what's going to happen. I mean January was a good order number, but at the same time, I just – I don't – handling that used inventory is the biggest issue we have going forward. I don't – I anticipate us doing a better job, as I said earlier, being hopefully the minimum we'll be able to be where the market goes, I just don't know if I could pick up a lot of volume given the used truck hangover.

If used truck values can stabilize for sure, then we can get some pickup in volume. I think one of the biggest things has been retail volume of used has been soft, as much as anything trying to drive retail – and I know we're talking about new but that's such a huge deal, I haven't seen a lot of growth, right. If you don't have growth, that means you're doing replacement. If you got a used problem, you've got to deal with that. So, whenever the economy does pick up, it will see some growth, because that's just the nature of the business, I watched it, and that would really help.

So then I can see some of the fleets come in and – but it's just a matter of – I know I'm sort of rambling around here with it and…

Jamie Cook: That's fine.

Rusty Rush: But I mean it really is. I've got to watch this used truck market. To me it's the biggest overhang, it's the biggest driver, but of course there is always better freight, right. That will help drive [indiscernible] some growth.

If we get some growth, then yes, I can pick up some volume and I think that's why I said there's upside to the ACT number, if anything, flat to up right now, that I wouldn't have told you 60 days ago given all the activity that we're seeing, and I really got to sort out. But as we get through February and we get into March and April, that's typically when we really get a good handle on where used is going to be throughout the spring and summer and fall, and I'm just going to be watching closely and hopefully I know that we'll see some activity pick up on the used side, and then if that happens, I can promise you we'll get some deals on the fleet side.

Jamie Cook: Okay. And then the energy side, just from sort of peak to trough, I know at some point you were saying, it was a 20% to 25% headwind. I'm just trying to think, as we sit here today…

Rusty Rush: I think going into 2015, we told everyone there was probably about 50% – $0.50 excuse me, if I remember, right about $0.50 headwind from 2014 to 2015.

So, if that gives you, you want to look back at those numbers, when we did, it's the last time I did it because I haven't seen any sales really since then. Now, we are seeing some slight activity but not a lot on the CapEx side. Remember, most of what we're seeing, when I said earlier, we're seeing pick-ups in it, it is more on the service side as we're getting stuff ready to go back to work, right. I have seen a little bit of truck but just a little and not enough quoting activity. So there are still some [indiscernible], I mean there are still some, I'm seeing some bankruptcies, [indiscernible] couple of bankruptcy sales that bought products [indiscernible] that came out of the last year of cleansing.

So, I don't know about the truck sales. If there is, it's in the back half of the year, I mean I would tell you that, not so much in the front half of the year.

Jamie Cook: Okay, all right. That's helpful. Thanks.

I'll get back in queue.

Rusty Rush: I apologize for not being solid on the fleet business, but it's an evolving thing driven a lot by used right now, unless we get some growth. That's the best way I could explain.

Jamie Cook: Okay, thank you.

Operator: [Operator Instructions] I'm showing no additional audio questions at this time, sir.

Rusty Rush: I appreciate everyone this morning joining us for our fourth quarter earnings release and look forward to talking to you in April with our first quarter results. Thank you very much.

Operator: Ladies and gentlemen, thank you for participating in today's conference. This concludes the program. You may now disconnect.

Everyone have a wonderful day.