UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)

OF THE SECURITIES EXCHANGE ACT OF 1934

For the Quarterly Period Ended September 30, 2013

Commission File No. 000-22490

FORWARD AIR CORPORATION

(Exact name of registrant as specified in its charter)

Tennessee	62-1120025
(State or other jurisdiction of incorporation)	(I.R.S. Employer Identification No.)
430 Airport Road Greeneville, Tennessee	37745
(Address of principal executive offices)	(Zip Code)

Registrant’s telephone number, including area code: (423) 636-7000

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.

Yes x No ¨

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).

Yes x  No ¨

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reporting company. See definition of “large accelerated filer”, “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.

Large accelerated filer x Accelerated filer o Non-accelerated filer o Smaller reporting company o

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).

Yes o No x

The number of shares outstanding of the registrant’s common stock, $0.01 par value, as of October 21, 2013 was 30,615,604.

Table of Contents
Forward Air Corporation
		Page
		Number
Part I.	Financial Information
Item 1.	Financial Statements (Unaudited)
	Condensed Consolidated Balance Sheets – September 30, 2013 and December 31, 2012	3
	Condensed Consolidated Statements of Comprehensive Income - Three and nine months ended September 30, 2013 and 2012	4
	Condensed Consolidated Statements of Cash Flows – Nine months ended September 30, 2013 and 2012	5
	Notes to Condensed Consolidated Financial Statements – September 30, 2013	6
Item 2.	Management's Discussion and Analysis of Financial Condition and Results of Operations	20
Item 3.	Quantitative and Qualitative Disclosures About Market Risk	40
Item 4.	Controls and Procedures	40
Part II.	Other Information
Item 1.	Legal Proceedings	40
Item 1A.	Risk Factors	40
Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds	40
Item 3.	Defaults Upon Senior Securities	40
Item 4.	Mine Safety Disclosures	41
Item 5.	Other Information	41
Item 6.	Exhibits	42
Signatures		43

2

Part I.	Financial Information
Item 1.	Financial Statements (Unaudited).

Forward Air Corporation
Condensed Consolidated Balance Sheets
(Dollars in thousands, except share and per share amounts)
(Unaudited)
	September 30, 2013		December 31, 2012
Assets
Current assets:
Cash	$	98,551	$	112,182
Accounts receivable, less allowance of $1,671 in 2013 and $1,444 in 2012	83,224		75,262
Other current assets	18,849		10,952
Total current assets	200,624		198,396
Property and equipment	270,113		239,138
Less accumulated depreciation and amortization	112,514		105,581
Total property and equipment, net	157,599		133,557
Goodwill and other acquired intangibles:
Goodwill	88,404		43,332
Other acquired intangibles, net of accumulated amortization of $30,276 in 2013 and $26,028 in 2012	41,624		22,102
Total net goodwill and other acquired intangibles	130,028		65,434
Other assets	2,551		1,800
Total assets	$	490,802	$	399,187
Liabilities and Shareholders’ Equity
Current liabilities:
Accounts payable	$	17,067	$	11,168
Accrued expenses	19,490		16,476
Current portion of debt and capital lease obligations	92		276
Total current liabilities	36,649		27,920
Long-term debt and capital lease obligations, less current portion	4		58
Other long-term liabilities	9,129		7,098
Deferred income taxes	26,576		12,440
Shareholders’ equity:
Preferred stock	—		—
Common stock, $0.01 par value: Authorized shares - 50,000,000, Issued and outstanding shares - 30,415,873 in 2013 and 29,194,761 in 2012	304		292
Additional paid-in capital	102,465		64,644
Retained earnings	315,675		286,735
Total shareholders’ equity	418,444		351,671
Total liabilities and shareholders’ equity	$	490,802	$	399,187
The accompanying notes are an integral part of the financial statements.

3

Forward Air Corporation
Condensed Consolidated Statements of Comprehensive Income
(In thousands, except per share data)
(Unaudited)
	Three months ended						Nine months ended
	September 30, 2013			September 30, 2012			September 30, 2013			September 30, 2012
Operating revenue:
Airport-to-airport	$	100,960		$	96,914		$	288,457		$	290,006
Logistics	32,562			20,878			87,474			63,315
Other	6,862			6,528			19,624			19,498
Pool distribution	29,649			19,194			75,841			56,102
Total operating revenue	170,033			143,514			471,396			428,921
Operating expenses:
Purchased transportation
Airport-to-airport	42,407			40,150			118,605			119,546
Logistics	22,152			15,954			59,696			47,756
Other	2,039			1,822			5,707			5,252
Pool distribution	8,613			5,176			22,454			14,989
Total purchased transportation	75,211			63,102			206,462			187,543
Salaries, wages and employee benefits	39,165			31,698			109,149			97,408
Operating leases	6,991			6,895			20,923			20,826
Depreciation and amortization	6,220			5,425			17,377			15,940
Insurance and claims	3,290			3,098			9,164			8,132
Fuel expense	3,871			2,318			10,535			7,271
Other operating expenses	12,428			11,352			36,634			32,303
Total operating expenses	147,176			123,888			410,244			369,423
Income from operations	22,857			19,626			61,152			59,498
Other income (expense):
Interest expense	(145		)	(111		)	(401		)	(241		)
Other, net	27			(21		)	72			(6		)
Total other expense	(118		)	(132		)	(329		)	(247		)
Income before income taxes	22,739			19,494			60,823			59,251
Income taxes	8,542			7,227			21,941			22,544
Net income and comprehensive income	$	14,197		$	12,267		$	38,882		$	36,707
Net income per share:
Basic	$	0.47		$	0.42		$	1.30		$	1.27
Diluted	$	0.46		$	0.41		$	1.27		$	1.24
Weighted average shares outstanding:
Basic	30,374			29,088			30,017			28,895
Diluted	30,986			29,660			30,677			29,484
Dividends per share:	$	0.10		$	0.10		$	0.30		$	0.24

The accompanying notes are an integral part of the financial statements.

4

Forward Air Corporation
Condensed Consolidated Statements of Cash Flows
(In thousands)
(Unaudited)
	Nine months ended
	September 30, 2013			September 30, 2012
Operating activities:
Net income	$	38,882		$	36,707
Adjustments to reconcile net income to net cash provided by operating activities
Depreciation and amortization	17,377			15,940
Share-based compensation	4,619			4,550
(Gain) loss on disposal of property and equipment	(468		)	259
Provision for loss on receivables	234			226
Provision for revenue adjustments	1,705			1,417
Deferred income tax	4,658			2,460
Excess tax benefit for stock options exercised	(3,207		)	(354		)
Changes in operating assets and liabilities
Accounts receivable	(4,262		)	(5,599		)
Prepaid expenses and other current assets	(1,575		)	(1,629		)
Accounts payable and accrued expenses	2,524			(8,298		)
Net cash provided by operating activities	60,487			45,679
Investing activities:
Proceeds from disposal of property and equipment	1,665			867
Purchases of property and equipment	(33,266		)	(20,499		)
Acquisition of businesses, net of cash acquired	(45,328		)	—
Other	(111		)	(267		)
Net cash used in investing activities	(77,040		)	(19,899		)
Financing activities:
Payments of debt and capital lease obligations	(20,351		)	(411		)
Proceeds from exercise of stock options	29,866			15,740
Payments of cash dividends	(9,071		)	(7,009		)
Common stock issued under employee stock purchase plan	137			119
Cash settlement of share-based awards for minimum tax withholdings	(866		)	(386		)
Excess tax benefit for stock options exercised	3,207			354
Net cash provided by financing activities	2,922			8,407
Net (decrease) increase in cash	(13,631		)	34,187
Cash at beginning of period	112,182			58,801
Cash at end of period	$	98,551		$	92,988

The accompanying notes are an integral part of the financial statements.

5

Forward Air Corporation

Notes to Condensed Consolidated Financial Statements

(In thousands, except share and per share data)

(Unaudited)

September 30, 2013

1.    Basis of Presentation

Forward Air Corporation's (“the Company”) services can be classified into three principal reporting segments:  Forward Air, Inc. (“Forward Air”), Forward Air Solutions, Inc. (“FASI”) and Total Quality, Inc. ("TQI").  

Through the Forward Air segment, the Company is a leading provider of time-definite transportation and related logistics services to the North American deferred air freight market and its activities can be classified into three categories of service: airport-to-airport, logistics, and other.  Forward Air’s airport-to-airport service operates a comprehensive national network for the time-definite surface transportation of expedited ground freight.  The airport-to-airport service offers customers local pick-up and delivery and scheduled surface transportation of cargo as a cost effective, reliable alternative to air transportation.  Forward Air’s logistics services provide expedited truckload brokerage and dedicated fleet services.  Forward Air’s other services include shipment consolidation and deconsolidation, warehousing, customs brokerage, and other handling.  The Forward Air segment primarily provides its transportation services through a network of terminals located at or near airports in the United States and Canada.  

FASI provides pool distribution services throughout the Mid-Atlantic, Southeast, Midwest and Southwest continental United States.  Pool distribution involves managing high-frequency handling and distribution of time-sensitive product to numerous destinations in specific geographic regions.  FASI’s primary customers for this service are regional and nationwide distributors and retailers, such as mall, strip mall and outlet based retail chains.  

TQI is a provider of maximum security and temperature-controlled logistics services, primarily truckload services, to the pharmaceutical and life science industries. In addition to core pharmaceutical services, TQI provides truckload and less-than-truckload brokerage transportation services.

The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with United States generally accepted accounting principles for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and notes required by United States generally accepted accounting principles for complete financial statements. In the opinion of management, all adjustments (consisting of normal recurring accruals) considered necessary for a fair presentation have been included. The Company’s operating results are subject to seasonal trends when measured on a quarterly basis; therefore operating results for the three and nine months ended September 30, 2013 are not necessarily indicative of the results that may be expected for the year ending December 31, 2013. For further information, refer to the consolidated financial statements and notes thereto included in the Forward Air Corporation Annual Report on Form 10-K for the year ended December 31, 2012.

The accompanying unaudited condensed consolidated financial statements of the Company include Forward Air Corporation and its subsidiaries. All intercompany accounts and transactions have been eliminated in consolidation.

2.    Acquisitions and Goodwill

Acquisition of TQI

On March 4, 2013, the Company entered into a Stock Purchase Agreement ("Agreement") with all of the shareholders of TQI to acquire 100% of the outstanding stock. Pursuant to the terms of the Agreement and concurrently with the execution of the Agreement, the Company acquired all of the outstanding capital stock of TQI in exchange for $45,328 in net cash, $20,113 in assumed debt and an available earn-out of $5,000. The assumed debt was immediately paid in full after funding of the acquisition. The acquisition and settlement of the assumed debt were funded using the Company's cash on hand. Under the purchase agreement, $4,500 of the purchase price was paid into an escrow account to protect the Company against potential unknown liabilities. The amount held in escrow will be remitted to the sellers on September 4, 2014.

Pursuant to the terms of the Agreement, the Company could pay the former shareholders of TQI additional cash consideration from $0 to $5,000 if certain earnings before interest, taxes, depreciation and amortization ("EBITDA") goals are exceeded. The ultimate payout is based on the level by which TQI operating results exceed specified thresholds as defined by the Agreement in both 2013 and 2014. The Company has recognized an estimated earn-out liability of $614 based on the most probable outcomes as of the acquisition date and September 30, 2013. The fair value of the earn-out liability (level 3) was estimated using an income

6

Forward Air Corporation

Notes to Condensed Consolidated Financial Statements

(In thousands, except share and per share data)

(Unaudited)

September 30, 2013

approach based on the present value of probability-weighted amounts payable under a range of performance scenarios for 2013 and 2014 and a discount rate of 10.9%. If TQI's 2013 or 2014 EBITDA performance fails to meet or exceeds the projections used in our valuation of the earn out liability the final value of the liability could be significantly lower or higher than the liability the Company has currently recorded.

The Company incurred total transaction costs related to the acquisition of approximately $943, which was expensed during the nine months ended September 30, 2013, in accordance with U.S. GAAP. These transaction costs were primarily included in "Other operating expenses" expense in the consolidated statements of comprehensive income.

The acquisition allows the Company to expand and diversify its complimentary truckload operations while maintaining its goal of offering high-value added services.

The following table presents the preliminary allocation of the TQI purchase price to the assets acquired and liabilities assumed based on their estimated fair values and resulting residual goodwill (in thousands):

	March 4, 2013
Tangible assets:
Accounts receivable	$	5,639
Prepaid expenses and other current assets	1,201
Property and equipment	5,103
Other assets	728
Deferred income taxes	937
Total tangible assets	13,608
Intangible assets:
Non-compete agreements	470
Trade name	1,000
Customer relationships	22,300
Goodwill	45,072
Total intangible assets	68,842
Total assets acquired	82,450
Liabilities assumed:
Current liabilities	4,833
Other liabilities	1,735
Debt	20,113
Deferred income taxes	10,441
Total liabilities assumed	37,122
Net assets acquired	$	45,328

The above estimated fair values of assets acquired and liabilities assumed are based on the information that was available as of the TQI acquisition date through the date of this filing. The Company is still in the process of finalizing the valuation of income tax related assets and liabilities and certain disputed charges for other taxes and associated professional fees. The acquired non-compete agreements and trade names are being amortized on straight-line basis over a 5 year life. Customer relationships acquired are being amortized on straight-line basis over a 15 year life.

The fair value of the non-compete agreements, trade name and customer relationship assets were estimated using an income approach (level 3). Under this method, an intangible asset's fair value is equal to the present value of the incremental after-tax

7

Forward Air Corporation

Notes to Condensed Consolidated Financial Statements

(In thousands, except share and per share data)

(Unaudited)

September 30, 2013

cash flows (excess earnings) attributable solely to the intangible asset over its remaining useful life. To calculate fair value, the Company used cash flows discounted at rates considered appropriate given the inherent risks associated with each type of asset. The Company believes that the level and timing of cash flows appropriately reflect market participant assumptions. The fair value of the TQI trade name was estimated using an income approach, specifically known as the relief from royalty method. The relief from royalty method is based on a hypothetical royalty stream that would be paid if the Company did not own the TQI name and had to license the trade name. The Company derived the hypothetical royalty income from the projected revenues of TQI. Cash flows were assumed to extend through the remaining economic useful life of each class of intangible asset.

Included in the assumed liabilities of TQI is a liability for unrecognized tax benefits for $1,120. The liability is attributable to TQI not filing income tax returns in all jurisdictions in which it operated. The $1,120 consists of unrecognized tax benefits of $853 and related penalties and interest of $174 and $93, respectively. In accordance with the Agreement, the former shareholders of TQI have indemnified the Company against this tax exposure. As a result, the Company also recognized an offsetting receivable net of the estimated federal tax benefit for $728.

The assets, liabilities, and operating results of TQI have been included in the Company's consolidated financial statements from the date of acquisition and have been assigned to a new TQI reportable segment. The results of TQI reflected in the Company's consolidated statements of comprehensive income are as follows (in thousands, except per share data):

	Three months ended September 30, 2013		Since acquisition date to September 30, 2013
Logistics revenue	$	12,431	$	28,545
Operating income	934		1,936
Net income	547		1,180
Net income per share
Basic	$	0.02	$	0.04
Diluted	$	0.02	$	0.04

The following unaudited pro forma information presents a summary of the Company's consolidated results of operations as if the TQI acquisition occurred as of January 1, 2012 (in thousands, except per share data).

	Three months ended
	September 30, 2013		September 30, 2012
Operating revenue	$	170,033	$	158,499
Income from operations	22,857		21,333
Net income	14,197		13,317
Net income per share
Basic	$	0.47	$	0.46
Diluted	$	0.46	$	0.45

8

Forward Air Corporation

Notes to Condensed Consolidated Financial Statements

(In thousands, except share and per share data)

(Unaudited)

September 30, 2013

	Nine months ended
	September 30, 2013		September 30, 2012
Operating revenue	$	479,940	$	472,186
Income from operations	61,461		63,355
Net income	39,073		39,079
Net income per share
Basic	$	1.30	$	1.35
Diluted	$	1.27	$	1.33

Goodwill

The following is a summary of the changes in goodwill for the nine months ended September 30, 2013. All goodwill, except the goodwill assigned to TQI, is deductible for tax purposes.

	Forward Air				FASI					TQI				Total
			Accumulated				Accumulated					Accumulated
	Goodwill		Impairment		Goodwill		Impairment			Goodwill		Impairment		Net
Beginning balance, December 31, 2012	$	37,926	$	—	$	12,359	$	(6,953	)	$	—	$	—	$	43,332
TQI acquisition	—		—		—		—			45,072		—		45,072
Ending balance, September 30, 2013	$	37,926	$	—	$	12,359	$	(6,953	)	$	45,072	$	—	$	88,404

The Company conducted its annual impairment assessments and tests of goodwill for each reporting unit as of June 30, 2013 and no impairment charges were required. The Company conducts an annual (or more frequently if circumstances indicate possible impairment) impairment test of goodwill for each reporting unit at June 30 of each year.  The first step of the goodwill impairment test is the Company assesses qualitative factors to determine whether it is more likely than not that the fair value of a reporting unit is less than the reporting unit's carrying amount, including goodwill. When performing the qualitative assessment, the Company considers the impact of factors including, but not limited to, macroeconomic and industry conditions, overall financial performance of each reporting unit, litigation and new legislation. If based on the qualitative assessments, the Company believes it more likely than not that the fair value of a reporting unit is less than the reporting unit's carrying amount, or periodically as deemed appropriate by management, the Company will prepare an estimation of the respective reporting unit's fair value utilizing a quantitative approach.  If a quantitative fair value estimation is required, the Company calculates the fair value of the applicable reportable units, using a combination of discounted projected cash flows and market valuations for comparable companies as of the valuation date.  The Company's inputs into the fair value calculations for goodwill are classified within level 3 of the fair value hierarchy as defined in the FASB Accounting Standards Codification and the Hierarchy of Generally Accepted Accounting Principles (“the FASB Codification”). If this estimation of fair value indicates that impairment potentially exists, the Company will then measure the amount of the impairment, if any.  Goodwill impairment exists when the calculated implied fair value of goodwill is less than its carrying value.  Changes in strategy or market conditions could significantly impact these fair value estimates and require adjustments to recorded asset balances.

3.    Share-Based Payments

The Company’s general practice has been to make a single annual grant of share-based compensation to key employees and to make other employee grants only in connection with new employment or promotions.  Forms of share-based compensation granted to employees by the Company include stock options, non-vested shares of common stock (“non-vested share”), and performance shares.  The Company also typically makes a single annual grant of non-vested shares to non-employee directors in conjunction with the annual election of non-employee directors to the Board of Directors.  Share-based compensation is based on the grant

9

Forward Air Corporation

Notes to Condensed Consolidated Financial Statements

(In thousands, except share and per share data)

(Unaudited)

September 30, 2013

date fair value of the instrument and is recognized, net of estimated forfeitures, ratably over the requisite service period, or vesting period. The Company estimates forfeitures based upon historical experience.  All share-based compensation expense is recognized in salaries, wages and employee benefits.

Employee Activity - Stock Options

Stock option grants to employees generally expire seven years from the grant date and typically vest ratably over a three-year period.  The Company used the Black-Scholes option-pricing model to estimate the grant-date fair value of options granted.  The weighted-average fair value of options granted and assumptions used to calculate their fair value during the three and nine months ended September 30, 2013 and 2012 were as follows:

	Three months ended
	September 30, 2013			September 30, 2012
Expected dividend yield	1.2		%	-
Expected stock price volatility	43.4		%	-
Weighted average risk-free interest rate	1.5		%	-
Expected life of options (years)	4.5			-
Weighted average grant date fair value	$	13		-

	Nine months ended
	September 30, 2013			September 30, 2012
Expected dividend yield	1.2		%	0.9		%
Expected stock price volatility	43.7		%	46.6		%
Weighted average risk-free interest rate	0.9		%	0.8		%
Expected life of options (years)	5.3			4.2
Weighted average grant date fair value	$	13		$	13

The following tables summarize the Company’s employee stock option activity and related information:

	Three months ended September 30, 2013
							Weighted-
			Weighted-		Aggregate		Average
			Average		Intrinsic		Remaining
	Options		Exercise		Value		Contractual
	(000)		Price		(000)		Term
Outstanding at June 30, 2013	1,902		$	27
Granted	5		37
Exercised	(69	)	24
Forfeited	—		—
Outstanding at September 30, 2013	1,838		$	27	$	19,715	2.6
Exercisable at September 30, 2013	1,622		$	26	$	19,159	2.2

10

Forward Air Corporation

Notes to Condensed Consolidated Financial Statements

(In thousands, except share and per share data)

(Unaudited)

September 30, 2013

	Three months ended
	September 30, 2013		September 30, 2012
Shared-based compensation for options	$	329	$	575
Tax benefit for option compensation	124		167
Unrecognized compensation cost for options, net of estimated forfeitures	1,899		2,052

	Nine months ended September 30, 2013
							Weighted-
			Weighted-		Aggregate		Average
			Average		Intrinsic		Remaining
	Options		Exercise		Value		Contractual
	(000)		Price		(000)		Term
Outstanding at December 31, 2012	2,874		$	26
Granted	114		37
Exercised	(1,150	)	26
Forfeited	—		$	—
Outstanding at September 30, 2013	1,838		$	27	$	19,715	2.6
Exercisable at September 30, 2013	1,622		$	26	$	19,159	2.2

	Nine months ended
	September 30, 2013		September 30, 2012
Shared-based compensation for options	$	1,076	$	1,994
Tax benefit for option compensation	381		546
Unrecognized compensation cost for options, net of estimated forfeitures	1,899		2,052

Employee Activity - Non-vested Shares

Non-vested share grants to employees vest ratably over a three-year period.  The non-vested shares’ fair values were estimated using closing market prices on the day of grant. The following tables summarize the Company’s employee non-vested share activity and related information:

	Three months ended September 30, 2013
			Weighted-		Aggregate
	Non-vested		Average		Grant Date
	Shares		Grant Date		Fair Value
	(000)		Fair Value		(000)
Outstanding and non-vested at June 30, 2013	189		$	35
Granted	—		—
Vested	—		—
Forfeited	(2	)	35
Outstanding and non-vested at September 30, 2013	187		$	35	$	6,638

11

Forward Air Corporation

Notes to Condensed Consolidated Financial Statements

(In thousands, except share and per share data)

(Unaudited)

September 30, 2013

	Three months ended
	September 30, 2013		September 30, 2012
Shared-based compensation for non-vested shares	$	781	$	506
Tax benefit for non-vested share compensation	297		196
Unrecognized compensation cost for non-vested shares, net of estimated forfeitures	4,508		4,035

	Nine months ended September 30, 2013
			Weighted-		Aggregate
	Non-vested		Average		Grant Date
	Shares		Grant Date		Fair Value
	(000)		Fair Value		(000)
Outstanding and non-vested at December 31, 2012	168		$	33
Granted	98		37
Vested	(68	)	37
Forfeited	(11	)	36
Outstanding and non-vested at September 30, 2013	187		$	35	$	6,638

	Nine months ended
	September 30, 2013		September 30, 2012
Shared-based compensation for non-vested shares	$	2,289	$	1,502
Tax benefit for non-vested share compensation	872		581
Unrecognized compensation cost for non-vested shares, net of estimated forfeitures	4,508		4,035

Employee Activity - Performance Shares

In 2013 and 2012, the Company granted performance shares to key employees.  Under the terms of the performance share agreements, on the third anniversary of the grant date, the Company will issue to the employees a calculated number of common stock shares based on the three year performance of the Company’s common stock share price as compared to the share price performance of a selected peer group.  No shares may be issued if the Company share price performance outperforms 30% or less of the peer group, but the number of shares issued may be doubled if the Company share price performs better than 90% of the peer group.  The fair value of the performance shares was estimated using a Monte Carlo simulation. The weighted average assumptions used in the Monte Carlo calculation were as follows:

	Nine months ended
	September 30, 2013		September 30, 2012
Expected stock price volatility	34.5	%	40.8	%
Weighted average risk-free interest rate	0.4	%	0.4	%

12

Forward Air Corporation

Notes to Condensed Consolidated Financial Statements

(In thousands, except share and per share data)

(Unaudited)

September 30, 2013

The following tables summarize the Company’s employee performance share activity, assuming median share awards, and related information:

	Three months ended September 30, 2013
		Weighted-		Aggregate
	Performance	Average		Grant Date
	Shares	Grant Date		Fair Value
	(000)	Fair Value		(000)
Outstanding and non-vested at June 30, 2013	88	$	37
Granted	—	—
Vested	—	—
Outstanding and non-vested at September 30, 2013	88	$	37	$	3,278

	Three months ended
	September 30, 2013		September 30, 2012
Shared-based compensation for performance shares	$	275	$	185
Tax benefit for performance share compensation	105		72
Unrecognized compensation cost for performance shares, net of estimated forfeitures	1,465		1,356

	Nine months ended September 30, 2013
		Weighted-		Aggregate
	Performance	Average		Grant Date
	Shares	Grant Date		Fair Value
	(000)	Fair Value		(000)
Outstanding and non-vested at December 31, 2012	62	$	36
Granted	26	40
Vested	—	—
Outstanding and non-vested at September 30, 2013	88	$	37	$	3,278

	Nine months ended
	September 30, 2013		September 30, 2012
Shared-based compensation for performance shares	$	780	$	515
Tax benefit for performance share compensation	297		199
Unrecognized compensation cost for performance shares, net of estimated forfeitures	1,465		1,356

Employee Activity - Employee Stock Purchase Plan

Under the 2005 Employee Stock Purchase Plan (the “ESPP”), which has been approved by shareholders, the Company is authorized to issue up to a remaining 416,881 shares of common stock to employees of the Company. These shares may be issued at a price equal to 90% of the lesser of the market value on the first day or the last day of each six-month purchase period. Common stock purchases are paid for through periodic payroll deductions and/or up to two large lump sum contributions. For the nine months ended September 30, 2013, participants under the plan purchased 4,241 shares at an average price of $32.34 per share. For the nine months ended September 30, 2012, participants under the plan purchased 4,121 shares at an average price of $29.04 per share.

13

Forward Air Corporation

Notes to Condensed Consolidated Financial Statements

(In thousands, except share and per share data)

(Unaudited)

September 30, 2013

The weighted-average fair value of each purchase right under the ESPP granted for the nine months ended September 30, 2013, which is equal to the discount from the market value of the common stock at the end of each six month purchase period, was $5.94 per share. The weighted-average fair value of each purchase right under the ESPP granted for the nine months ended September 30, 2012, which is equal to the discount from the market value of the common stock at the end of each six month purchase period, was $3.23 per share. Share-based compensation expense of $26 and $13 was recognized during the nine months ended September 30, 2013 and 2012, respectively.

Non-employee Director Activity - Non-vested Shares

Grants of non-vested shares to non-employee directors vest ratably over the elected term to the Board of Directors, or one year.  The following tables summarize the Company’s non-employee non-vested share activity and related information:

	Three months ended September 30, 2013
		Weighted-		Aggregate
	Non-vested	Average		Grant Date
	Shares	Grant Date		Fair Value
	(000)	Fair Value		(000)
Outstanding and non-vested at June 30, 2013	15	$	38
Granted	—	—
Vested	—	—
Outstanding and non-vested at September 30, 2013	15	$	38	$	560

	Three months ended
	September 30, 2013		September 30, 2012
Shared-based compensation for non-vested shares	$	141	$	161
Tax benefit for non-vested share compensation	54		62
Unrecognized compensation cost for non-vested shares, net of estimated forfeitures	335		385

	Nine months ended September 30, 2013
			Weighted-		Aggregate
	Non-vested		Average		Grant Date
	Shares		Grant Date		Fair Value
	(000)		Fair Value		(000)
Outstanding and non-vested at December 31, 2012	20		$	32
Granted	15		38
Vested	(20	)	32
Outstanding and non-vested at September 30, 2013	15		$	38	$	560

	Nine months ended
	September 30, 2013		September 30, 2012
Shared-based compensation for non-vested shares	$	448	$	526
Tax benefit for non-vested share compensation	171		204
Unrecognized compensation cost for non-vested shares, net of estimated forfeitures	335		385

14

Forward Air Corporation

Notes to Condensed Consolidated Financial Statements

(In thousands, except share and per share data)

(Unaudited)

September 30, 2013

Non-employee Director Activity - Stock Options

In addition to the above activity, each May from 1995 to 2005 options were granted to the non-employee directors of the Company.  The options have terms of ten years and are fully exercisable.  At September 30, 2013, 26,250 options were outstanding and will expire between May 2014and May 2015.  At September 30, 2013, the weighted average exercise price per share and remaining contractual term for the outstanding options of non-employee directors were $23 and 1.2 years, respectively.

4.    Senior Credit Facility

In February 2012, the Company entered into a new $150,000 credit facility. This facility has a term of five years and matures in February 2017. The Company entered into this larger credit facility in order to fund potential acquisitions, the repurchase of its common stock and the financing of other general business purposes. Interest rates for advances under the facility are LIBOR plus 1.1% based upon covenants related to total indebtedness to earnings (1.3% at September 30, 2013). The agreement contains certain covenants and restrictions, none of which are expected to significantly affect the Company's operations or ability to pay dividends. No assets are pledged as collateral against the credit facility. As of September 30, 2013, the Company had no borrowings outstanding under the senior credit facility. At September 30, 2013, the Company had utilized $9,374 of availability for outstanding letters of credit and had $140,626 of available borrowing capacity outstanding under the senior credit facility.  

5.    Net Income Per Share

The following table sets forth the computation of basic and diluted net income per share:

	Three months ended				Nine months ended
	September 30, 2013		September 30, 2012		September 30, 2013		September 30, 2012
Numerator:
Numerator for basic and diluted income per share - net income	$	14,197	$	12,267	$	38,882	$	36,707
Denominator (in thousands):
Denominator for basic income per share - weighted-average shares	30,374		29,088		30,017		28,895
Effect of dilutive stock options (in thousands)	447		493		512		517
Effect of dilutive performance shares (in thousands)	13		—		9		—
Effect of dilutive non-vested shares and deferred stock units (in thousands)	152		79		139		72
Denominator for diluted income per share - adjusted weighted-average shares	30,986		29,660		30,677		29,484
Basic net income per share	$	0.47	$	0.42	$	1.30	$	1.27
Diluted net income per share	$	0.46	$	0.41	$	1.27	$	1.24

The number of instruments that could potentially dilute net income per basic share in the future, but that were not included in the computation of net income per diluted share because to do so would have been anti-dilutive for the periods presented, are as follows:

	September 30, 2013	September 30, 2012
Anti-dilutive stock options (in thousands)	186	213
Anti-dilutive performance shares (in thousands)	—	21
Anti-dilutive non-vested shares and deferred stock units (in thousands)	—	—
Total anti-dilutive shares (in thousands)	186	234

15

Forward Air Corporation

Notes to Condensed Consolidated Financial Statements

(In thousands, except share and per share data)

(Unaudited)

September 30, 2013

6.    Income Taxes

The Company or one of its subsidiaries files income tax returns in the U.S. federal jurisdiction, various states and Canada. With a few exceptions, the Company is no longer subject to U.S. federal, state and local, or Canadian examinations by tax authorities for years before 2007.

For the three and nine months ended September 30, 2013 and 2012, the effective income tax rates varied from the statutory federal income tax rate of 35.0%, primarily as a result of the effect of state income taxes, net of the federal benefit, and permanent differences between book and tax net income. The combined federal and state effective tax rate for the nine months ended September 30, 2013 was 36.1% compared to a rate of 38.0%for the same period in 2012.  The reduction in the effective tax rate was primarily due to the 2013 retroactive reinstatement of alternative fuel tax credits for 2012 and benefits obtained from disqualified dispositions by employees of previously non-deductible incentive stock options.

7.    Financial Instruments

Concentrations of Credit Risk

Financial instruments that potentially subject the Company to significant concentrations of credit risk consist principally of cash and trade accounts receivable. The Company does not generally require collateral from its customers. Concentrations of credit risk with respect to trade accounts receivable on a consolidated basis are limited due to the large number of entities comprising the Company’s customer base and their dispersion across many different industries.  

Fair Value of Financial Instruments

The following methods and assumptions were used by the Company in estimating its fair value disclosures for financial instruments:

Accounts receivable and accounts payable: The carrying amounts reported in the balance sheet for accounts receivable and accounts payable approximate their fair value based on their short-term nature.

The Company’s senior credit facility bears interest at LIBOR plus 1.1% based upon covenants related to total indebtedness to earnings.  Using interest rate quotes and discounted cash flows, the Company estimated the fair value of its outstanding debt and capital lease obligations as follows:

	September 30, 2013
	Carrying Value		Fair Value
Debt and capital leases	$	96	$	131

The Company's fair value calculations for the above financial instruments are classified within level 3 of the fair value hierarchy.

8.    Shareholders' Equity

During the first and second quarters of 2012, the Company’s Board of Directors declared a cash dividend of $0.07 per share of common stock. During the third and fourth quarters of 2012 and each quarter of 2013, the Company's Board of Directors declared a cash dividend of $0.10 per share of common stock. The Company expects to continue to pay regular quarterly cash dividends, though each subsequent quarterly dividend is subject to review and approval by the Board of Directors.

9.    Commitments and Contingencies

From time to time, the Company is party to ordinary, routine litigation incidental to and arising in the normal course of business.  The Company does not believe that any of these pending actions, individually or in the aggregate, will have a material adverse effect on its business, financial condition or results of operations.

16

Forward Air Corporation

Notes to Condensed Consolidated Financial Statements

(In thousands, except share and per share data)

(Unaudited)

September 30, 2013

The primary claims in the Company’s business relate to workers’ compensation, property damage, vehicle liability and medical benefits. Most of the Company’s insurance coverage provides for self-insurance levels with primary and excess coverage which management believes is sufficient to adequately protect the Company from catastrophic claims. In the opinion of management, adequate provision has been made for all incurred claims up to the self-insured limits, including provision for estimated claims incurred but not reported.

The Company estimates its self-insurance loss exposure by evaluating the merits and circumstances surrounding individual known claims and by performing hindsight and actuarial analysis to determine an estimate of probable losses on claims incurred but not reported.  Such losses could be realized immediately as the events underlying the claims have already occurred as of the balance sheet dates. 

Because of the uncertainty of the ultimate resolution of outstanding claims, as well as uncertainty regarding claims incurred but not reported, it is possible that management’s provision for these losses could change materially in the near term. However, no estimate can currently be made of the range of additional loss that is at least reasonably possible.

10.    Segment Reporting

The Company operates in three reportable segments based on information available to and used by the chief operating decision maker.  Forward Air provides time-definite transportation and logistics services to the deferred air freight market.  FASI provides pool distribution services primarily to regional and national distributors and retailers. TQI is a provider of maximum security and temperature-controlled logistics services, primarily truckload services, to the pharmaceutical and life science industries.

The accounting policies of the segments are the same as those described in the summary of significant accounting policies disclosed in Note 1 to the Consolidated Financial Statements included in the Company’s 2012 Annual Report on Form 10-K. Segment data includes intersegment revenues.  Assets and costs of the corporate headquarters are allocated to the segments based on usage.  The Company evaluates the performance of its segments based on net income (loss).  The Company’s business is conducted in the U.S. and Canada.

The following tables summarize segment information about net income (loss) and assets used by the chief operating decision maker of the Company in making decisions regarding allocation of assets and resources as of and for the three and nine months ended September 30, 2013 and 2012.

17

Forward Air Corporation

Notes to Condensed Consolidated Financial Statements

(In thousands, except share and per share data)

(Unaudited)

September 30, 2013

	Three months ended September 30, 2013
	Forward Air		FASI		TQI		Eliminations			Consolidated
External revenues	$	127,953	$	29,649	$	12,431	$	—		$	170,033
Intersegment revenues	838		179		—		(1,017		)	—
Depreciation and amortization	4,238		1,254		728		—			6,220
Share-based compensation expense	1,471		28		26		—			1,525
Interest expense	144		1		—		—			145
Interest income	6		—		—		—			6
Income tax expense	7,604		551		387		—			8,542
Net income	12,768		882		547		—			14,197
Total assets	464,538		42,043		84,343		(100,122		)	490,802
Capital expenditures	1,679		1,797		1,796		—			5,272
	Three months ended September 30, 2012
	Forward Air		FASI		TQI		Eliminations			Consolidated
External revenues	$	124,320	$	19,194	$	—	$	—		$	143,514
Intersegment revenues	186		274		—		(460		)	—
Depreciation and amortization	4,242		1,183		—		—			5,425
Share-based compensation expense	1,412		16		—		—			1,428
Interest expense	106		5		—		—			111
Interest income	5		—		—		—			5
Income tax expense	7,133		94		—		—			7,227
Net income	12,106		161		—		—			12,267
Total assets	386,462		36,279		—		(36,123		)	386,618
Capital expenditures	1,343		838		—		—			2,181

18

Forward Air Corporation

Notes to Condensed Consolidated Financial Statements

(In thousands, except share and per share data)

(Unaudited)

September 30, 2013

	Nine months ended September 30, 2013
	Forward Air		FASI			TQI		Eliminations			Consolidated
External revenues	$	367,011	$	75,841		$	28,544	$	—		$	471,396
Intersegment revenues	1,969		540			—		(2,509		)	—
Depreciation and amortization	12,110		3,621			1,646		—			17,377
Share-based compensation expense	4,453		113			53		—			4,619
Interest expense	395		6			—		—			401
Interest income	29		—			1		—			30
Income tax expense	20,989		196			756		—			21,941
Net income	37,481		221			1,180		—			38,882
Total assets	464,538		42,043			84,343		(100,122		)	490,802
Capital expenditures	23,993		6,302			2,971		—			33,266
	Nine months ended September 30, 2012
	Forward Air		FASI			TQI		Eliminations			Consolidated
External revenues	$	372,819	$	56,102		$	—	$	—		$	428,921
Intersegment revenues	939		572			—		(1,511		)	—
Depreciation and amortization	12,455		3,485			—		—			15,940
Share-based compensation expense	4,399		151			—		—			4,550
Interest expense	223		18			—		—			241
Interest income	29		—			—		—			29
Income tax expense (benefit)	22,689		(145		)	—		—			22,544
Net income (loss)	36,993		(286		)	—		—			36,707
Total assets	386,462		36,279			—		(36,123		)	386,618
Capital expenditures	15,310		5,189			—		—			20,499

19

Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations.

Overview and Executive Summary

Our operations can be broadly classified into three principal segments:  Forward Air, Inc. (“Forward Air”), Forward Air Solutions, Inc. (“FASI”) and Total Quality, Inc. ("TQI").  

Through our Forward Air segment, we are a leading provider of time-definite surface transportation and related logistics services to the North American expedited ground freight market. We offer our customers local pick-up and delivery (Forward Air Complete™) and scheduled surface transportation of cargo as a cost-effective, reliable alternative to air transportation. We transport cargo that must be delivered at a specific time, but is less time-sensitive than traditional air freight. This type of cargo is frequently referred to in the transportation industry as deferred air freight. We operate our Forward Air segment through a network of terminals located on or near airports in 88 cities in the United States and Canada, including a central sorting facility in Columbus, Ohio and 12 regional hubs serving key markets.  We also offer our customers an array of logistics and other services including: expedited truckload brokerage (“TLX”); dedicated fleets; warehousing; customs brokerage; and shipment consolidation, deconsolidation and handling.

FASI provides pool distribution services throughout the Mid-Atlantic, Southeast, Midwest and Southwest continental United States.  Pool distribution involves managing high-frequency handling and distribution of time-sensitive product to numerous destinations in specific geographic regions.  Our primary customers for this service are regional and nationwide distributors and retailers, such as mall, strip mall and outlet based retail chains. We service these customers through a network of terminals and service centers located in 24 cities.

TQI is a provider of maximum security and temperature-controlled logistics services, primarily truckload services, to the pharmaceutical and life science industries. In addition to core pharmaceutical services, TQI provides truckload and less-than-truckload brokerage transportation services.

Our operations, particularly our network of hubs and terminals, represent substantial fixed costs. Consequently, our ability to increase our earnings depends in significant part on our ability to increase the amount of freight and the revenue per pound for the freight shipped through our networks and to grow other lines of businesses, such as TLX, FASI and TQI, which will allow us to maintain revenue growth in challenging shipping environments.

Trends and Developments

Acquisition of TQI

On March 4, 2013, we entered into a Stock Purchase Agreement ("Agreement") with all of the shareholders of TQI to acquire 100% of the outstanding stock. Pursuant to the terms of the Agreement and concurrently with the execution of the Agreement, we acquired all of the outstanding capital stock of TQI in exchange for $45.3 million in net cash, $20.1 million in assumed debt and an available earn-out of $5.0 million. The assumed debt was immediately paid in full after funding of the acquisition. The acquisition and settlement of the assumed debt were funded using our cash on hand.

Pursuant to the terms of the Agreement, we could pay the former shareholders of TQI additional cash consideration from $0 to $5.0 million if certain earnings before interest, taxes, depreciation and amortization ("EBITDA") goals are exceeded. The ultimate payout is based on the level by which TQI operating results exceed specified thresholds as defined by the Agreement in both 2013 and 2014.

Results from Operations

During the three months ended September 30, 2013, we experienced a 18.5% increase in our consolidated revenues compared to the three months ended September 30, 2012.  The increase in revenue is primarily attributable to revenue from our newly acquired segment, TQI, and increased revenue from FASI. In addition, during the third quarter of 2013 we experienced increased revenue from Forward Air. During the three months ended September 30, 2013, TQI contributed $12.4 million in operating revenue and approximately $0.9 million in operating income.

20

FASI revenue increased 52.8% and operating results improved $1.1 million for the three months ended September 30, 2013, compared to the same period in 2012.  The FASI revenue increase was primarily the result of new business wins.  The increase in revenue drove the $1.1 million improvement in FASI’s income from operations during the three months ended September 30, 2013, compared to the three months ended September 30, 2012.

Forward Air's revenue and operating income improved 3.5% and 6.7%, respectively, for the three months ended September 30, 2013, compared to the same period in 2012. These increases were largely attributable to higher business volumes for our airport-to-airport services.

Our net fuel surcharge revenue is the result of our fuel surcharge rates, which are set weekly using the national average for diesel price per gallon, and the tonnage transiting our network.  During the three and nine months ended September 30, 2013, total net fuel surcharge revenue increased 40.6% and 23.5%, respectively, as compared to the same period in 2012. The increase in net fuel surcharge revenue for the three and nine months ended September 30, 2013 compared to the same period in 2012 was mostly due to the acquisition of TQI and increased FASI business volumes.

Goodwill

As of September 30, 2013, the carrying value of goodwill related to the Forward Air, FASI and TQI segments was $37.9 million, $5.4 million and $45.1 million, respectively. In accordance with our accounting policy, we conducted our annual impairment assessments and tests of goodwill for each reporting unit as of June 30, 2013 and no impairment charges were required.

Results of Operations

The following table sets forth our consolidated historical financial data for the three months ended September 30, 2013 and 2012 (in millions):

	Three months ended
	September 30, 2013			September 30, 2012			Change		Percent Change
Operating revenue	$	170.0		$	143.5		$	26.5	18.5	%
Operating expenses:
Purchased transportation	75.2			63.1			12.1		19.2
Salaries, wages, and employee benefits	39.1			31.7			7.4		23.3
Operating leases	7.0			6.9			0.1		1.4
Depreciation and amortization	6.2			5.5			0.7		12.7
Insurance and claims	3.3			3.1			0.2		6.5
Fuel expense	3.9			2.3			1.6		69.6
Other operating expenses	12.4			11.3			1.1		9.7
Total operating expenses	147.1			123.9			23.2		18.7
Income from operations	22.9			19.6			3.3		16.8
Other expense:
Interest expense	(0.1		)	(0.1		)	—		—
Total other expense	(0.1		)	(0.1		)	—		—
Income before income taxes	22.8			19.5			3.3		16.9
Income taxes	8.6			7.2			1.4		19.4
Net income	$	14.2		$	12.3		$	1.9	15.4	%

21

The following table sets forth our historical financial data by segment for the three months ended September 30, 2013 and 2012 (in millions):

	Three months ended
	September 30,			Percent of		September 30,			Percent of					Percent
	2013			Revenue		2012			Revenue		Change			Change
Operating revenue
Forward Air	$	128.8		75.8	%	$	124.5		86.8	%	$	4.3		3.5	%
FASI	29.8			17.5		19.5			13.6		10.3			52.8
TQI	12.4			7.3		—			—		12.4			100.0
Intercompany eliminations	(1.0		)	(0.6	)	(0.5		)	(0.4	)	(0.5		)	100.0
Total	170.0			100.0		143.5			100.0		26.5			18.5
Purchased transportation
Forward Air	59.9			46.5		58.1			46.7		1.8			3.1
FASI	9.1			30.5		5.4			27.7		3.7			68.5
TQI	6.9			55.6		—			—		6.9			100.0
Intercompany eliminations	(0.7		)	70.0		(0.4		)	80.0		(0.3		)	75.0
Total	75.2			44.2		63.1			44.0		12.1			19.2
Salaries, wages and employee benefits
Forward Air	27.3			21.2		24.3			19.5		3.0			12.3
FASI	10.0			33.6		7.4			37.9		2.6			35.1
TQI	1.8			14.5		—			—		1.8			100.0
Total	39.1			23.0		31.7			22.1		7.4			23.3
Operating leases
Forward Air	4.9			3.8		5.2			4.2		(0.3		)	(5.8	)
FASI	2.1			7.0		1.7			8.7		0.4			23.5
TQI	—			—		—			—		—			—
Total	7.0			4.1		6.9			4.8		0.1			1.4
Depreciation and amortization
Forward Air	4.2			3.3		4.3			3.4		(0.1		)	(2.3	)
FASI	1.3			4.4		1.2			6.2		0.1			8.3
TQI	0.7			5.7		—			—		0.7			100.0
Total	6.2			3.7		5.5			3.8		0.7			12.7
Insurance and claims
Forward Air	2.3			1.8		2.6			2.1		(0.3		)	(11.5	)
FASI	0.8			2.7		0.5			2.6		0.3			60.0
TQI	0.2			1.6		—			—		0.2			100.0
Total	3.3			1.9		3.1			2.1		0.2			6.5
Fuel expense