| KNIGHT TRANSPORTATION INC Item 1A Risk Factors Our future results may be affected by a number of factors over which we have little or no control |
| The following issues, uncertainties, and risks, among others, should be considered in evaluating our business and growth outlook |
| Our business is subject to general economic and business factors that are largely out of our control |
| Our business is dependent on a number of factors that may have a materially adverse effect on our results of operations, many of which are beyond our control |
| The most significant of these factors are recessionary economic cycles, changes in customers’ inventory levels, excess tractor or trailer capacity in comparison with shipping demand, and downturns in customers’ business cycles |
| Economic conditions, particularly in market segments and industries where we have a significant concentration of customers and in regions of the country where we have a significant amount of business, that decrease shipping demand or increase the supply of tractors and trailers can exert downward pressure on rates or equipment utilization, thereby decreasing asset productivity |
| Adverse economic conditions also may harm our customers and their ability to pay for our services |
| Customers encountering adverse economic conditions represent a greater potential for loss, and we may be required to increase our allowance for doubtful accounts |
| 7 _________________________________________________________________ [36]TABLE OF CONTENTS We are also subject to increases in costs that are outside of our control that could materially reduce our profitability if we are unable to increase our rates sufficiently |
| Such cost increases include, but are not limited to, declines in the resale value of used equipment, increases in interest rates, fuel prices, taxes, tolls, license and registration fees, insurance, revenue equipment, and healthcare for our employees |
| We could be affected by strikes or other work stoppages at our facilities or at customer, port, border, or other shipping locations |
| In addition, we cannot predict the effects on the economy or consumer confidence of actual or threatened armed conflicts or terrorist attacks, efforts to combat terrorism, military action against a foreign state or group located in a foreign state, or heightened security requirements |
| Enhanced security measures could impair our operating efficiency and productivity and result in higher operating costs |
| Our growth may not continue at historic rates |
| We have experienced significant and rapid growth in revenue and profits since the inception of our business in 1990 |
| There can be no assurance that our business will continue to grow in a similar fashion in the future or that we can effectively adapt our management, administrative, and operational systems to respond to any future growth |
| Further, there can be no assurance that our operating margins will not be adversely affected by future changes in and expansion of our business or by changes in economic conditions |
| If the growth in our regional operations slows or stagnates, if we are unable to commit sufficient resources to our regional operations, or if we were to expand into a market with insufficient economic activity or human resources, our results of operations could be adversely affected |
| In addition to our regional service centers in Phoenix, Arizona, we have established dry van regional service centers throughout the United States in order to serve markets in these regions |
| These regional operations require the commitment of additional revenue equipment and personnel, as well as management resources, for future development |
| Should the growth in our regional operations slow or stagnate, the results of our operations could be adversely affected |
| As we continue to expand, we also may find the number of large cities that can support a service center may diminish and we may expand into smaller cities where there is less economic activity and room for growth and fewer driver and non-driver personnel to support the service center |
| We may encounter operating conditions in these new markets that differ substantially from those previously experienced |
| There can be no assurance that our regional operating strategy can be duplicated successfully in the other areas of the United States, or perhaps outside the United States, or that it will not take longer than expected or require a more substantial financial commitment than anticipated |
| In addition, we have recently commenced operation of temperature controlled and brokerage services as part of our growth strategy and are subject to the risks inherent in entering new lines of business, including but not limited to: unfamiliarity with pricing, service, operational, and liability issues; the risk that customer relationships may be difficult to obtain or that we may have to reduce rates to gain customer relationships; the risk that the specialized refrigerated equipment may not be adequately utilized; and the risk that cargo claims may exceed our past experience |
| Ongoing insurance and claims expenses could significantly reduce our earnings |
| Our future insurance and claims expense might exceed historical levels, which could reduce our earnings |
| We self-insure for a portion of our claims exposure resulting from workers’ compensation, auto liability, general liability, cargo and property damage claims, as well as employees’ health insurance |
| We also are responsible for our legal expenses relating to such claims |
| We reserve currently for anticipated losses and expenses |
| We periodically evaluate and adjust our claims reserves to reflect our experience |
| However, ultimate results may differ from our estimates, which could result in losses over our reserved amounts |
| We maintain insurance above the amounts for which we self-insure with licensed insurance carriers |
| Although we believe the aggregate insurance limits should be sufficient to cover reasonably expected claims, it is possible that one or more claims could exceed our aggregate coverage limits |
| Insurance carriers have raised premiums for many businesses, including trucking companies |
| If these expenses increase, or if we experience a claim in excess of our coverage limits, or we experience a claim for which coverage is not provided, results of our operations and financial condition could be materially and adversely affected |
| 8 _________________________________________________________________ [37]TABLE OF CONTENTS Increased prices, reduced productivity, and restricted availability of new revenue equipment may adversely affect our earnings and cash flows |
| We have experienced higher prices for new tractors over the past few years, partially as a result of government regulations applicable to newly manufactured tractors and diesel engines, in addition to higher commodity prices and better pricing power among equipment manufacturers |
| More restrictive Environmental Protection Agency, or EPA, emissions standards for 2007 will require vendors to introduce new engines, and some carriers may seek to purchase large numbers of tractors with pre-2007 engines, possibly leading to shortages |
| Our business could be harmed if we are unable to continue to obtain an adequate supply of new tractors and trailers for these or other reasons |
| As a result, we expect to continue to pay increased prices for equipment and incur additional expenses and related financing costs for the foreseeable future |
| Furthermore, the new engines are expected to reduce equipment productivity and lower fuel mileage and, therefore, increase our operating expenses |
| We have trade-in and/or repurchase commitments that specify, among other things, what our primary equipment vendors will pay us for disposal of a substantial portion of our revenue equipment |
| The prices we expect to receive under these arrangements may be higher than the prices we would receive in the open market |
| We may suffer a financial loss upon disposition of our equipment if these vendors refuse or are unable to meet their financial obligations under these agreements, if we fail to enter into definitive agreements that reflect the terms we expect, if we fail to enter into similar arrangements in the future, or if we do not purchase the required number of replacement units from the vendors |
| If fuel prices increase significantly, our results of operations could be adversely affected |
| We are subject to risk with respect to purchases of fuel |
| Prices and availability of petroleum products are subject to political, economic, and market factors that are generally outside our control |
| Political events in the Middle East, Venezuela, and elsewhere and hurricanes, and other weather-related events, also may cause the price of fuel to increase |
| Because our operations are dependent upon diesel fuel, significant increases in diesel fuel costs could materially and adversely affect our results of operations and financial condition if we are unable to pass increased costs on to customers through rate increases or fuel surcharges |
| Historically, we have sought to recover a portion of short-term increases in fuel prices from customers through fuel surcharges |
| Fuel surcharges that can be collected do not always fully offset the increase in the cost of diesel fuel |
| To the extent we are not successful in these negotiations, our results of operations may be adversely affected |
| Difficulty in driver and independent contractor recruitment and retention may have a materially adverse effect on our business |
| Difficulty in attracting or retaining qualified drivers, including independent contractors, could have a materially adverse effect on our growth and profitability |
| Our independent contractors are responsible for paying for their own equipment, fuel, and other operating costs, and significant increases in these costs could cause them to seek higher compensation from us or seek other opportunities within or outside the trucking industry |
| In addition, competition for drivers, which is always intense, continues to increase |
| If a shortage of drivers should continue, or if we were unable to continue to attract and contract with independent contractors, we could be forced to limit our growth, experience an increase in the number of our tractors without drivers, which would lower our profitability, or be required to further adjust our driver compensation package, which could adversely affect our profitability if not offset by a corresponding increase in rates |
| We operate in a highly regulated industry, and increased costs of compliance with, or liability for violation of, existing or future regulations could have a materially adverse effect on our business |
| Our operations are regulated and licensed by various US agencies |
| Our company drivers and independent contractors also must comply with the safety and fitness regulations of the United States Department of Transportation, or DOT, including those relating to drug and alcohol testing and hours-of-service |
| Such matters as weight and equipment dimensions are also subject to US regulations |
| We also may become subject to new or more restrictive regulations relating to fuel emissions, drivers &apos hours-of-service, ergonomics, or other matters affecting safety or operating methods |
| Other agencies, such as the EPA and the Department of Homeland Security, or DHS, also regulate our equipment, operations, and drivers |
| Future laws and regulations may be more stringent and require changes in our operating practices, influence the demand for transportation services, or require us to incur significant additional costs |
| Higher costs incurred by us or by our suppliers who pass the costs onto us through higher prices could adversely affect our results of operations |
| 9 _________________________________________________________________ [38]TABLE OF CONTENTS The DOT, through the Federal Motor Carrier Safety Administration Act, or FMCSA, imposes safety and fitness regulations on us and our drivers |
| New rules that limit driver hours-of-service were adopted effective January 4, 2004, and then modified effective October 1, 2005 |
| The rules effective October 1, 2005, did not substantially change the existing rules but are likely to create a moderate reduction in the amount of time available to drivers in longer lengths of haul, which could reduce equipment productivity in those lanes |
| The FMCSA is studying rules relating to braking distance and on-board data recorders that could result in new rules being proposed |
| We are unable to predict the effect of any rules that might be proposed, but we expect that any such proposed rules would increase costs in our industry, and the on-board recorders potentially could decrease productivity and the number of people interested in being drivers |
| In the aftermath of the September 11, 2001 terrorist attacks, federal, state, and municipal authorities have implemented and continue to implement various security measures, including checkpoints and travel restrictions on large trucks |
| The Transportation Security Administration, or TSA, of the DHS has adopted regulations that require determination by the TSA that each driver who applies for or renews his license for carrying hazardous materials is not a security threat |
| This could reduce the pool of qualified drivers, which could require us to increase driver compensation, limit our fleet growth, or let trucks sit idle |
| These regulations also could complicate the matching of available equipment with hazardous material shipments, thereby increasing our response time on customer orders and our non-revenue miles |
| These security measures could negatively impact our operating results |
| Some states and municipalities have begun to restrict the locations and amount of time where diesel-powered tractors, such as ours, may idle, in order to reduce exhaust emissions |
| These restrictions could force us to alter our drivers’ behavior, purchase on-board power units that do not require the engine to idle, or face a decrease in productivity |
| Our operations are subject to various environmental laws and regulations, the violation of which could result in substantial fines or penalties |
| In addition to direct regulation by the DOT and other agencies, we are subject to various environmental laws and regulations dealing with the handling of hazardous materials, underground fuel storage tanks and discharge and retention of storm-water |
| We operate in industrial areas, where truck terminals and other industrial facilities are located, and where groundwater or other forms of environmental contamination have occurred |
| Our operations involve the risks of fuel spillage or seepage, environmental damage, and hazardous waste disposal, among others |
| Two of our terminal facilities are located adjacent to environmental "e superfund "e sites |
| Although we have not been named as a potentially responsible party in either case, we are potentially exposed to claims that we may have contributed to environmental contamination in the areas in which we operate |
| We also maintain bulk fuel storage and fuel islands at several of our facilities |
| Our Phoenix facility is located on land identified as potentially having groundwater contamination resulting from the release of hazardous substances by persons who have operated in the general vicinity |
| The area has been classified as a state superfund site |
| We have been located at our Phoenix facility since 1990 and, during such time, have not been identified as a potentially responsible party with regard to the groundwater contamination, and we do not believe that our operations have been a source of groundwater contamination |
| Our Indianapolis property is located approximately 0dtta1 of a mile east of Reilly Tar and Chemical Corporation ( "e Reilly "e ), a federal superfund site listed on the National Priorities List for clean-up |
| The Reilly site has known soil and groundwater contamination |
| There also are other sites in the general vicinity of our Indianapolis property that have known contamination |
| Environmental reports obtained by us have disclosed no evidence that activities on our Indianapolis property have caused or contributed to the area’s contamination |
| If we are involved in a spill or other accident involving hazardous substances, or if we are found to be in violation of applicable laws or regulations, it could have a materially adverse effect on our business and operating results |
| If we should fail to comply with applicable environmental regulations, we could be subject to substantial fines or penalties and to civil and criminal liability |
| Our business also is subject to the effects of new tractor engine design requirements implemented by the EPA such as those that became effective October 1, 2002, and are expected to become effective in 2007 which are discussed above under "e Risk Factors - Increased prices for, or increased costs of operating, new revenue equipment may materially and adversely affect our earnings and cash flow "e |
| Additional changes in the laws and regulations governing or impacting our industry could affect the economics of the industry by requiring changes in operating practices or by influencing the demand for, and the costs of providing, services to shippers |
| 10 _________________________________________________________________ [39]TABLE OF CONTENTS We may not make acquisitions in the future, or if we do, we may not be successful in integrating the acquired company, either of which could have a materially adverse effect on our business |
| Historically, acquisitions have been a part of our growth |
| There is no assurance that we will be successful in identifying, negotiating, or consummating any future acquisitions |
| If we fail to make any future acquisitions, our growth rate could be materially and adversely affected |
| Any acquisitions we undertake could involve the dilutive issuance of equity securities and/or incurring indebtedness |
| In addition, acquisitions involve numerous risks, including difficulties in assimilating the acquired companyapstas operations, the diversion of our managementapstas attention from other business concerns, risks of entering into markets in which we have had no or only limited direct experience, and the potential loss of customers, key employees, and drivers of the acquired company, all of which could have a materially adverse effect on our business and operating results |
| If we make acquisitions in the future, we cannot guarantee that we will be able to successfully integrate the acquired companies or assets into our business |
| As we expand into new regions, we may experience greater operating variances due to the seasonal pattern of the transportation industry, which may have a materially adverse effect on our operations |
| Results of operations in the transportation industry frequently show a seasonal pattern, with lower revenue and higher operating expenses being common in the winter months |
| Because we have historically operated in the western and southern United States, winter weather has not adversely affected our overall business in a material way |
| However, continued expansion of our operations throughout the United States could expose us to greater operating variances due to periodic seasonal weather in other regions, which variance could have a materially adverse effect on our operations |
| If we are unable to retain our key employees or find, develop, and retain service center managers, our business, financial condition, and results of operations could be adversely affected |
| We are highly dependent upon the services of the following key employees: Kevin P Knight, our Chairman of the Board and Chief Executive Officer; Timothy M Kohl, our President and Secretary; Gary J Knight, our Vice Chairman of the Board; Keith T Knight, our Executive Vice President; Casey Comen, our Executive Vice President of Sales; Erick Kutter, our President of Knight Refrigerated, LLC; and David Jackson, our Chief Financial Officer |
| We currently do not have employment agreements with any of these key employees, and the loss of any of their services could negatively impact our operations and future profitability |
| We must, because of our regional operating strategy, continue to find, develop, and retain service center managers if we are to realize our goal of expanding our operations and continuing our growth |
| Failing to find, develop, and retain a core group of service center managers could have a materially adverse effect on our business |
| We are highly dependent on a few major customers, the loss of one or more of which could have a materially adverse effect on our business |
| A significant portion of our revenue is generated from a limited number of major customers |
| For the year ended December 31, 2005, our top 25 customers, based on revenue, accounted for approximately 43prca of our revenue; our top 10 customers, approximately 25prca of our revenue; and our top 5 customers, approximately 16prca of our revenue |
| Generally, we do not have long term contractual relationships with our major customers, and we cannot assure you that our customer relationships will continue as presently in effect |
| A reduction in or termination of our services by one or more of our major customers could have a materially adverse effect on our business and operating results |
| If our investment in Transportation Resource Partner ( "e TRP "e ) is not successful, we may be forced to further write off part or all of our investment which could have a materially adverse effect on our operating results |
| We have invested in TRP, a company that makes privately negotiated equity investments |
| We have recorded a write-off of a portion of our investment due to portfolio losses |
| If TRP’s financial position continues to decline, we could be forced to further write down all or part of our investment which could have a materially adverse effect on our operating results |
| 11 _________________________________________________________________ [40]TABLE OF CONTENTS We are dependent on computer and communications systems, and a systems failure could cause a significant disruption to our business |
| Our business depends on the efficient and uninterrupted operation of our computer and communications hardware systems and infrastructure |
| We currently maintain our computer system at our Phoenix, Arizona headquarters, along with computer equipment at our regional facilities |
| Our operations and those of our technology and communications service providers are vulnerable to interruption by fire, earthquake, power loss, telecommunications failure, terrorist attacks, Internet failures, computer viruses, and other events beyond our control |
| In 2005, in an attempt to reduce the risk of disruption to our business operations should a disaster occur, we purchased redundant computer systems and networks and deployed the backup systems to a back-up facility |
| However, that facility may be subject to the same interruptions as may affect our Phoenix headquarters |
| In the event of a significant system failure, our business could experience significant disruption |
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