Form 10-K
 


UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549

FORM 10-K

(Mark One)

(Mark One)
[X]
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 
For the fiscal year ended December 31, 2005
 
[   ]
 
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 
For the transition period from to

Commission File Number: 0-24946
KNIGHT TRANSPORTATION, INC.
(Exact name of registrant as specified in its charter)

Arizona
86-0649974
(State or other jurisdiction of
incorporation or organization)
(I.R.S. Employer
Identification No.)
   
5601 West Buckeye Road, Phoenix, Arizona
85043
(Address of principal executive offices)
(Zip Code)

(602) 269-2000
(Registrant’s telephone number, including area code)

Securities registered pursuant to Section 12(b) of the Act:
Common Stock, $0.01 par value
New York Stock Exchange
Securities registered pursuant to Section 12(g) of the Act:
None

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. [X] Yes [   ]No

Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act. [   ] Yes [X]No

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.
[X] Yes [   ]No

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. [   ]

Indicate by check mark whether the registrant is a large accelerated filer (as defined in Rule 12b-2 of the Act).
[X] Yes [   ]No

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act).
[   ] Yes [X]No

The aggregate market value of the voting and non-voting common equity held by non-affiliates of the registrant as of June 30, 2005, was approximately $930 million (based upon $16.22 per share closing price on that date as reported by the New York Stock Exchange, adjusted to give effect to the registrant’s 3-for-2 stock split, effected in the form of a 50% stock dividend, on December 23, 2005). In making this calculation the registrant has assumed, without admitting for any purpose, that all executive officers, directors, and no other persons, are affiliates.

The number of shares outstanding of the registrant’s common stock as of February 28, 2006 was 85,793,935.

Materials from the registrant’s Notice and Proxy Statement relating to the 2006 Annual Meeting of Shareholders to be held on May 24, 2006 have been incorporated by reference into Part III of this Form 10-K.



TABLE OF CONTENTS


PART I
     
 
Item 1.
Business
 
Item 1A.
Risk Factors
 
Item 2.
Properties
 
Item 3.
Legal Proceedings
 
Item 4.
Submission of Matters to a Vote of Security Holders
PART II
     
 
Item 5.
Market for Company’s Common Equity and Related Shareholder Matters
 
Item 6.
Selected Financial Data
 
Item 7.
Management’s Discussion and Analysis of Financial Condition and Results of Operation
 
Item 7A.
Quantitative and Qualitative Disclosures About Market Risk
 
Item 8.
Financial Statements and Supplementary Data
 
Item 9.
Changes in and Disagreements With Accountants on Accounting and Financial Disclosure
 
Item 9A.
Controls and Procedures
 
Item 9B.
Other Information
PART III
     
 
Item 10.
Directors and Executive Officers of the Company
 
Item 11.
Executive Compensation
 
Item 12.
Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters
 
Item 13.
Certain Relationships and Related Transactions
 
Item 14.
Principal Accounting Fees and Services
PART IV
     
 
Item 15.
Exhibits, Financial Statement Schedules
SIGNATURE
 
CONSOLIDATED FINANCIAL STATEMENTS
 
 
Report of Deloitte & Touche LLP, Independent Registered Public Accounting Firm
 
Report of KPMG LLP, Independent Registered Public Accounting Firm
 
Consolidated Balance Sheets as of December 31, 2005 and 2004
 
Consolidated Statements of Income for the years ended December 31, 2005, 2004 and 2003
 
Consolidated Statements of Comprehensive Income for the years ended December 31, 2005, 2004 and 2003
 
Consolidated Statements of Shareholders’ Equity for the years ended December 31, 2005, 2004 and 2003
 
Consolidated Statements of Cash Flows for the years ended December 31, 2005, 2004 and 2003
 
Consolidated Selected Quarterly Financial Data (unaudited)
 
Notes to Consolidated Financial Statements






PART I

Item 1.      Business

Except for certain historical information contained herein, this Annual Report contains forward-looking statements that involve risks, assumptions, and uncertainties which are difficult to predict. All statements, other than statements of historical fact, are statements that could be deemed forward-looking statements, including without limitation: any projections of earnings, revenues, or other financial items, any statement of plans, strategies, and objectives of management for future operations; any statements concerning proposed new services or developments; any statements regarding future economic conditions or performance; and any statements of belief and any statement of assumptions underlying any of the foregoing. Words such as "believe," "may," "could," "expects," "hopes," "anticipates," and "likely," and variations of these words, or similar expressions, are intended to identify such forward-looking statements. Actual events or results could differ materially from those discussed in forward-looking statements. Factors that could cause or contribute to such differences include, but are not limited to those discussed in the section entitled "Item 1A, Risk Factors," set forth below. We do not assume, and specifically disclaim, any obligation to update any forward-looking statement contained in this Annual Report.

References in this Annual Report to "we," "us," "our," "Knight," or the "Company" or similar terms refer to Knight Transportation, Inc. and its consolidated subsidiaries.

General

Our Company headquarters is located in Phoenix, Arizona and the transportation services we provide are primarily dry van truckload carrier services. In addition we also began providing temperature controlled truckload carrier services in 2004, and brokerage services during 2005. Through our asset-based and non-asset-based capabilities we are able to transport, or can arrange for the transportation of, general commodities for shippers throughout the United States. We generally focus our dry van and temperature controlled operations on regional short-to-medium lengths of haul. At year-end 2005 we operated 20 regional dry van service centers, two regional temperature controlled service centers, and two brokerage service centers. The addition of our brokerage services in 2005 enables us to expand our customer service offerings by providing non-asset-based capability to manage our customers' freight when the shipments do not fit our asset-based model. Our stock has been publicly traded since October 1994. Over the past five years we have achieved substantial growth from $241.7 million in revenue, before fuel surcharge, and $19.0 million in net income in 2001 to $499.0 million in revenue, before fuel surcharge, and $61.7 million in net income in 2005. The main factors that affect our results are the number of tractors we operate, our revenue per tractor (which includes primarily our revenue per total mile and our number of miles per tractor), and our ability to control our costs. Additional information regarding our revenues, assets, and profits are filed as part of this report on Form 10-K at pages F-1 through F-20, below.

While we have many service centers, we have determined that we have only one reportable segment. All of the centers are managed based on regions in the United States in which we operate. Each of these service centers has similar economic characteristics as they all provide short to medium-haul truckload carrier services of general commodities to a similar class of customers. In addition, each service center exhibits similar financial performance, including average revenue per mile and operating ratio. As a result, we have determined that it is appropriate to aggregate our service centers into one reportable segment consistent with the guidance in SFAS No. 131, "Disclosures about Segments of an Enterprise and Related Information." Accordingly, we have not presented separate financial information for each of our service centers. Furthermore, we have not presented separate financial information for our recently initiated brokerage subsidiary, although it qualifies as a segment, because its results of operations are relatively immaterial. For the year ended December 31, 2005, total revenue, net income, and assets of the brokerage subsidiary accounted for less than half of one percent of our consolidated totals.

Operations

Our operating strategy for our asset-based activities is to achieve a high level of asset utilization within a highly disciplined operating system while maintaining strict controls over our cost structure. To achieve these goals, we operate primarily in high-density, predictable traffic lanes in select geographic regions, and attempt to develop and expand our customer base around each of our regional service centers. This operating strategy allows us to take advantage of the large amount of freight traffic transported in regional markets, realize the operating efficiencies associated with regional hauls, and offer more flexible service to our customers than rail, intermodal, and smaller regional competitors. In addition, short-to-medium lengths of haul provide an attractive alternative to drivers in the truckload sector by reducing the amount of time spent away from home. We believe this improves driver retention,

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decreases recruitment and training costs, and reduces insurance claims and other costs. We operate a modern fleet to appeal to drivers and customers, decrease maintenance expenses and downtime, and enhance our operating efficiencies. We employ technology in a cost-effective manner where it assists us in controlling operating costs and enhancing revenue. Our operating strategy for our non-asset-based activities is to match quality capacity with the shipping needs of our customers. Our goal is to increase our market presence significantly, both in existing operating regions and in other areas where we believe the freight environment meets our operating strategy, while seeking to achieve industry-leading operating margins and returns on investment.

Our operating strategy includes the following important elements:

Regional Operations. We presently have 21 regional dry van service centers. During 2005, we established regional dry van service centers in Chicago, El Paso, and Reno. We also have three regional temperature controlled service centers, which are operated from our facilities located in Phoenix, Arizona; Idaho Falls, Idaho; and Green Bay, Wisconsin. Our brokerage service centers, which began operating during 2005, are located in Phoenix, Arizona; Idaho Falls, Idaho; and Kansas City, Kansas. In early 2006, we established a regional dry van service center in Seattle, Washington; a temperature controlled service center in Green Bay, Wisconsin; and a brokerage service center located in Kansas City, Kansas. We concentrate our asset-based freight operations in an approximately 750-mile radius of our terminals, with an average length of haul in 2005 of approximately 580 miles. We believe that regional operations offer several advantages, including:

obtaining greater freight volumes, because approximately 80% of all truckload freight moves in short-to-medium lengths of haul;
achieving higher revenue per mile by focusing on high-density traffic lanes to minimize non-revenue miles and offer our customers a high level of service and consistent capacity;
enhancing safety and driver recruitment and retention by allowing our drivers to travel familiar routes and return home more frequently; and
enhancing our ability to provide a high level of service to our customers.

Operating Efficiencies. Our company was founded on a philosophy of maintaining operating efficiencies and controlling costs. We maintain a simplified operation that focuses on operating in particular geographical and shipping markets. This approach allows us to concentrate our marketing efforts to achieve higher penetration of our targeted service areas and to achieve higher equipment utilization in dense traffic lanes. We maintain a modern tractor and trailer fleet in order to obtain fuel and other operating efficiencies and attract and retain drivers. A generally compatible fleet of tractors and trailers simplifies our maintenance procedures, reduces parts supplies, and facilitates our ability to serve a broad range of customer needs, thereby maximizing equipment utilization and available freight capacity. We also regulate vehicle speed in order to maximize fuel efficiency, reduce wear and tear, and minimize claims expenses.

Customer Service. We offer a high level of service to customers in lanes and regions that complement our other operations, and we seek to establish ourselves as a preferred provider for many of our customers. For our asset-based services we concentrate revenue equipment close to customers in high-density lanes and regions where we can provide shippers with a consistent supply of capacity and match our equipment to customer needs. Our services include multiple pick-ups and deliveries, dedicated equipment and personnel, on-time pickups and deliveries within narrow time frames, specialized driver training, and other services. Brokerage services are tailored to meet our customers’ needs. We price our services commensurately with the level of service our customers require and the conditions in market demand. By providing customers a high level of service, we believe we avoid competing solely on the basis of price.

Using Technology that Enhances Our Business. We purchase and deploy technology when we believe that it will allow us to operate more efficiently and the investment is cost-justified. We use a satellite-based tracking and communication system to communicate with our drivers, to obtain load position updates, and to provide our customers with freight visibility. We have installed Qualcomm’s satellite-based tracking technology in substantially all of our tractors, which allows us to rapidly respond to customer needs and allows our drivers efficient communications with our regional terminals. Most of our trailers are equipped with Terion trailer-tracking technology that allows us to manage our trailers more effectively, reduce the number of trailers per tractor in our fleet, enhance revenue through detention fees, and minimize cargo loss. We have automated many of our back-office functions, and we continue to invest in technology where it allows us to better serve our customers and reduce our costs.


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Growth Strategy

We believe that industry trends, our strong operating results and financial position, and the proven operating model replicated in our regional service centers create significant opportunities for us to grow. We intend to take advantage of these growth opportunities by focusing on four key areas:

Opening new regions and expanding existing regional services centers. Over the past several years, a substantial portion of our revenue growth has been generated by our expansion into new geographic regions through the opening of additional service centers. We believe there are significant opportunities to further increase our business in the short-to-medium haul market by opening additional regional service centers, while expanding our existing regional service centers. To take advantage of these opportunities, we are developing relationships with existing and new customers in regions that we believe will permit us to develop transportation lanes that allow us to achieve high equipment utilization and result in operating efficiency.

Strengthening our customer and preferred provider relationships. We market our services to both existing and new customers in traffic lanes that complement our existing operations and will support high equipment utilization. We seek customers who will diversify our freight base; and our marketing targets include financially stable shippers for whom we are not currently providing services. We also offer a high level of service to customers who use us as a preferred provider.

Opportunities to make selected acquisitions. We are continuously evaluating acquisition opportunities. Since 1998, we have acquired three short-to-medium haul truckload carriers: Idaho Falls-based Edwards Bros., Inc., acquired in 2005; Gulfport, Mississippi-based John Fayard Fast Freight, Inc., acquired in 2000; and Corsicana, Texas-based Action Delivery Service, Inc., acquired in 1999. We continue to evaluate and consider acquisition opportunities that meet our financial and operating criteria.

Diversifying our service offerings. Since the Company began operations in 1990, we have primarily focused on the dry van transportation market. Beginning in 2004 we expanded our service offering to include the refrigerated transportation market. In 2005, we expanded into yet another market when we began offering brokerage services. We continue to evaluate opportunities to create synergies through other transportation related businesses.

Marketing and Customers

Our sales and marketing functions are led by members of our senior management team, who are assisted by other sales professionals. Our sales team emphasizes our high level of service and ability to accommodate a variety of customer needs. Our marketing efforts are designed to match the shipping needs of our current and potential customers with our capacity in markets throughout the country.

We have a diversified customer base. For the year ended December 31, 2005, our top 25 customers represented 43% of revenue; our top 10 customers represented 25% of revenue; and our top 5 customers represented 16% of revenue. No single customer represented more than 10% of revenue in 2005. Most of our truckload carriage contracts are cancelable on 30 days notice.

We seek to offer the service, value, and flexibility of a local provider, while possessing the capacity, strength, and dependability of a large carrier. Our objective is to develop and service specified traffic lanes for customers who ship on a consistent basis, thereby providing a sustained, predictable traffic flow and ensuring high equipment utilization. The short-to-medium haul segment of the truckload carrier market demands timely pickup and delivery and, in some cases, response on short notice. We try to obtain a competitive advantage by providing high quality services and consistent capacity to customers. To be responsive to customers’ and drivers’ needs, we often assign particular drivers and equipment to prescribed routes, providing better service to customers, while obtaining higher equipment utilization.

Our dedicated fleet services also may provide a significant part of a customer’s transportation requirements. Under a dedicated carriage service agreement, we provide drivers, equipment and maintenance, and, in some instances, transportation management services that supplement the customer’s in-house transportation department. We furnish these services through Company-provided revenue equipment and employees, and independent contractors.

Each of our regional service centers is linked to our Phoenix headquarters by an IBM AS/400 computer system. The capabilities of this system enhance our operating efficiency by providing cost effective access to detailed information concerning equipment and shipment status and specific customer requirements, and also permit us to respond promptly and accurately to customer requests. The system also assists us in matching available equipment with loads. We also provide electronic data interchange ("EDI") services to shippers desiring such service.

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Drivers, Other Employees, and Independent Contractors

As of December 31, 2005, we employed 3,531 persons. None of our employees is subject to a union contract. It is our policy to comply with applicable equal employment opportunity laws and we periodically review our policies and practices for equal employment opportunity compliance. The recruitment, training, and retention of qualified drivers are essential to support our continued growth and to meet the service requirements of our customers. Drivers are selected in accordance with specific, objective guidelines relating primarily to safety history, driving experience, road test evaluations, and other personal evaluations, including physical examinations and mandatory drug and alcohol testing.

We seek to maintain a qualified driver force by providing attractive and comfortable equipment, direct communication with senior management, competitive wages and benefits, and other incentives designed to encourage driver retention and long-term employment. Many drivers are assigned to dedicated or semi-dedicated fleet operations, enhancing job predictability. Drivers are recognized for providing superior service and developing good safety records.

Our drivers generally are compensated on the basis of miles driven and length of haul. Drivers also are compensated for additional flexible services provided to our customers. During 2005, we increased our driver compensation rates approximately three cents per mile. Drivers and other employees are invited to participate in our 401(k) program and in Company-sponsored health, life, and dental plans. Our drivers and other employees who meet eligibility criteria also participate in our stock option plan. As of December 31, 2005, a total of 1,094 of our current drivers and other employees had participated in and received option grants under our current and former stock option plans.

We also maintain an independent contractor program. Because independent contractors provide their own tractors, the independent contractor program provides us an alternate method of obtaining additional revenue equipment. We intend to continue our use of independent contractors. As of December 31, 2005, we had agreements covering 237 tractors operated by independent contractors. Each independent contractor enters into a contract with us pursuant to which the independent contractor is required to furnish a tractor and a driver to transport, load, and unload goods we haul. During 2005, we increased our contracted rates approximately three cents per mile for these independent contractors. Competition for independent contractors among transportation companies is strong. We pay our independent contractors a fixed level of compensation based on the total of trip-loaded and empty miles. The Company incurs no liability to independent contractors unless services are provided. Independent contractors are obligated to maintain their own tractors and pay for their own fuel. We provide trailers for each independent contractor. We also provide maintenance services, for a charge, for our independent contractors who desire such services. In certain instances, we provide financing to independent contractors to assist them in acquiring revenue equipment. Our loans to independent contractors are secured by a lien on the independent contractor’s revenue equipment. As of December 31, 2005, we had outstanding loans of $584,388 (net of allowance for doubtful accounts of $49,084) to independent contractors.

Revenue Equipment

As of December 31, 2005, we operated 3,034 Company tractors with an average age of 1.9 years. We also had under contract 237 tractors owned and operated by independent contractors. Our trailer fleet consisted of 7,885, 53-foot long, high cube trailers, including 392 refrigerated trailers, with an average age of 4.3 years.

Growth of our tractor and trailer fleets is determined by market conditions and our experience and expectations regarding equipment utilization. In acquiring revenue equipment, we consider a number of factors, including economy, price, rate, environment, technology, warranty terms, manufacturer support, driver comfort, and resale value.

Our fleet configuration allows us to move freight on a "drop-and-hook" basis, increasing asset utilization and providing better service to customers. We attempt to maintain a trailer to tractor ratio of approximately 2.5 to 1, which we believe promotes efficiency and allows us to serve a large variety of customers’ needs without significantly changing or modifying equipment.

We have adopted an equipment configuration that meets a wide variety of customer needs and facilitates customer shipping flexibility. Standardization of our fleet allows us to operate with a smaller spare parts inventory and simplifies driver training and equipment maintenance. We adhere to a comprehensive maintenance program that minimizes downtime and optimizes the resale value of our equipment. We perform routine servicing and maintenance of our equipment at most of our regional terminal facilities, thus avoiding costly on-road repairs and

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out-of-route trips. Our current policy is to replace most of our tractors within 36 to 42 months after purchase and to replace our trailers over a six to ten year period. We believe this replacement policy enhances our ability to attract drivers, stabilizes maintenance expense, and maximizes equipment utilization. Changes in the current market for used tractors, and difficult market conditions faced by tractor manufacturers, may result in price increases that would cause us to retain our equipment for a longer period, which may result in increased operating expenses.

In 2002, the Environmental Protection Agency (the " EPA") implemented regulations limiting exhaust emissions. These regulations become progressively more restrictive in 2007 and 2010. In part to offset the costs of compliance with these requirements, some manufacturers have significantly increased new equipment prices and further increases may result in connection with the implementation of the 2007 and 2010 requirements. If new equipment prices increase more than anticipated, we may be required to increase our depreciation and financing costs and/or retain some of our equipment longer, with a resulting increase in maintenance expenses. To the extent we are unable to offset any such increases in expenses with rate increases or cost savings, our results of operations would be adversely affected. In addition to increases in equipment costs, the engines manufactured after October 2002 generally produce lower fuel mileage and require additional maintenance compared with earlier models and compliance with the new standards could result in further declines in fuel economy. If we are unable to offset resulting increases in fuel expenses with higher rates or surcharge revenue, our results of operations would be adversely affected.

We have Qualcomm’s satellite-based mobile communication and position-tracking system in substantially all of our tractors and we have Terion’s trailer-tracking system in a significant number of our trailers. We believe that this technology has helped to generate operating efficiencies and allowed us to improve fleet control while maintaining a high level of customer service.

Safety and Risk Management

We are committed to ensuring the safety of our operations. We regularly communicate with drivers to promote safety and instill safe work habits through Company media and safety review sessions. We also regularly conduct safety training meetings for our drivers, independent contractors, and non-driving personnel. Our Company dedicates personnel and resources to ensure safe operation and regulatory compliance. We employ safety personnel at every operating location who are responsible for administering the Company’s safety programs. We employ technology to assist us in managing risks associated with our business. In addition, we have an innovative recognition program for driver safety performance and emphasize safety through our equipment specifications and maintenance programs. Our Vice President of Safety is involved in the review of all accidents.

We require prospective drivers to meet higher qualification standards than those required by the United States Department of Transportation ("DOT"). The DOT requires drivers to obtain commercial drivers’ licenses pursuant to regulations promulgated by the DOT. The DOT also requires that we implement a drug and alcohol testing program in accordance with DOT regulations. Our program includes pre-employment, random, and post-accident drug testing. We are authorized by the DOT to haul hazardous materials. As a result, we require our drivers to have a "hazardous materials endorsement" ("HME") on their commercial drivers license. We also monitor our driver’s compliance with the Department of Homeland Security’s new "Security Threat Assessment" regulation, which took effect in 2005, when applying for or renewing an HME.

Within our Company, our President, Chief Financial Officer, and Vice President of Safety are responsible for securing appropriate insurance coverage at competitive rates. The primary claims arising in our business consist of cargo loss and physical damage and auto liability (personal injury and property damage). For 2005 we were self-insured for these claims, including general liability claims, with a maximum limit of $1.5 million per occurrence, and we were self-insured for workers’ compensation up to a maximum limit of $500,000 per occurrence. The same self-insurance retentions were secured in early 2006 effective until February 1, 2007.

Our insurance policies for 2005 provided for excess liability coverage up to a total of $50.0 million per occurrence. We also maintain primary and excess coverage for employee medical expenses, hospitalization, and damage to physical properties. The Company’s self retention level for employee medical health was $150,000 per claimant in 2005 and was raised to $200,000 per claimant for 2006. We carefully monitor claims and participate actively in claims estimates and adjustments. The estimated costs of our self-insured claims, which include estimates for incurred but unreported claims, are accrued as liabilities on our balance sheet.


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Competition

The trucking industry is highly competitive and fragmented. We compete primarily with other regional short-to-medium haul truckload carriers, logistics providers, and national carriers. Railroads and air freight also provide competition, but to a lesser degree. Competition for the freight transported by us is based on freight rates, service, efficiency, size, and technology. We also compete with other motor carriers for the services of drivers, independent contractors and management employees. A number of our competitors have greater financial resources, own more equipment, and carry a larger volume of freight than we do. We believe that the principal competitive factors in our business are service, pricing (rates), and the availability and configuration of equipment that meets a variety of customers’ needs. In addressing our markets, we believe that our principal competitive strength is our ability to provide timely, flexible and cost-efficient service to shippers.

We believe that the cost and complexity of operating trucking fleets are increasing and that economic and competitive pressures are likely to force many smaller competitors and private fleets to consolidate or exit the industry over time. As a result, we believe that larger, better-capitalized companies, like us, will have opportunities to increase profit margins and gain market share. In the market for dedicated services, we believe that truckload carriers, like us, have a competitive advantage over truck lessors, who are the other major participants in the market, because we can offer lower prices by utilizing back-haul freight within our network that traditional lessors may not have.

Over the past two years our industry has enjoyed an improved pricing environment compared with our historical experience. We believe that stronger freight demand and industry-wide capacity constraints caused by a shortage of truck drivers and a lack of capital investment in additional revenue equipment by many carriers contributed to the pricing environment. In addition, many shippers have recognized that the costs of operating in our industry have increased significantly, particularly in the areas of driver compensation, revenue equipment, fuel, and insurance and claims. The pricing environment may not remain favorable, and we may not continue to capitalize on any increases in pricing.

Regulation

We are subject to various environmental laws and regulations dealing with the hauling and handling of hazardous materials, fuel storage tanks, air emissions from our vehicles and facilities, engine idling, discharge and retention of storm water, and other environmental matters that import inherent environmental risks. We maintain bulk fuel storage and fuel islands at several of our facilities. Our operations involve the risks of fuel spillage or seepage, environmental damage, and hazardous waste disposal, among others. We have instituted programs to monitor and control environmental risks and assure compliance with applicable environmental laws. As part of our safety and risk management program, we periodically perform internal environmental reviews so we can achieve environmental compliance and avoid environmental risk. Our facilities were designed, after consultation with environmental advisors, to contain and properly dispose of hazardous substances and petroleum products used in connection with our business. We transport a small amount of environmentally hazardous materials and, to date, have experienced no significant claims for hazardous materials shipments. If we are found to be in violation of applicable laws or regulations, we could be subject to liabilities, including substantial fines or penalties or civil and criminal liability, any of which could have a materially adverse effect on our business and operating results.

Regulations limiting exhaust emissions became effective in 2002 and become progressively more restrictive in 2007 and 2010. Engines manufactured after October 2002 generally cost more, produce lower fuel mileage, and require additional maintenance compared with earlier models. Substantially all of our tractors are equipped with these engines. We expect additional cost increases and possibly degradation in fuel mileage from the 2007 engines. These adverse effects, combined with the uncertainty as to the reliability of the newly designed diesel engines and the residual values of these vehicles, could materially increase our costs or otherwise adversely affect our business or operations.

Seasonality

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.


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Acquisitions, Investments, and Dispositions

On August 12, 2005, we acquired 100% of the stock of Edwards Bros., Inc., an Idaho based temperature controlled truckload carrier. The acquisition included 140 tractors and 224 trailers. The total purchase price has been allocated to tangible and intangible assets acquired and liabilities assumed based on their fair market values as of the acquisition date in accordance with Financial Accounting Standards Board Statement Number 141 (SFAS No.141), "Business Combinations". Goodwill has been recorded on the balance sheet for the amount which the purchase price exceeded the fair value of the assets and liabilities acquired. The acquisition has been accounted for in our results of operations since the acquisition date. The pro forma effect of the acquisition on our results of operations is immaterial. In addition to the purchase price, the purchase agreement sets forth certain conditions upon which an earn-out adjustment to the purchase price may be needed. Any adjustment for this potential earn-out is not expected to be material.

We periodically examine investment opportunities in areas related to the transportation industry. Our investment strategy is to add to shareholder value by investing in industry related businesses that will strengthen our overall position in the transportation industry, minimize our exposure to start-up risk, and provide us with an opportunity to realize a substantial return on our investment.

In 2003, we signed a partnership agreement with Transportation Resource Partners ("TRP"), which makes privately negotiated equity investments. We are committed to pledge $5 million out of a portfolio total of approximately $260 million, for about 1.9% ownership. At inception, the initial determination was that TRP did not constitute a variable interest entity. In 2004, we contributed $850,000 of working capital to TRP. In 2005, we contributed an additional $1,495,893, with a cumulative contribution of $2,345,893 as of December 31, 2005.  We had an approximate $2.7 million outstanding commitment to TRP as of December 31, 2005. An additional contribution of $805,725 was made in January 2006.

In September 2005, we sold 100% of our investment interest in Concentrek, Inc. ("Concentrek"), which is a logistics company based in Jenison, Michigan. We owned a 17% interest in Concentrek. We received proceeds from the sale that satisfied all outstanding loans and investments in Concentrek, resulting in a net gain of approximately $600,000.

Other Information

We were incorporated in 1989 and our headquarters are located at 5601 West Buckeye Road, Phoenix, Arizona 85043. This Annual Report on Form 10-K, our quarterly reports on Form 10-Q, our current reports on Form 8-K, and all other reports filed with the Securities and Exchange Commission ("SEC") pursuant to Section 13(a) or 15(d) of the Securities Exchange Act of 1934, as amended (the "Exchange Act") can be obtained free of charge by visiting our website at www.knighttrans.com. Information contained on our website is not incorporated into this Annual Report on Form 10-K, and you should not consider information contained on our website to be part of this report.

Additionally, you may read all of the materials that we file with the SEC by visiting the SEC's Public Reference Room at 450 Fifth Street, NW, Washington, DC 20549. If you would like information about the operation of the Public Reference Room, you may call the SEC at 1-800-SEC-0330. You may also visit the SEC's website at www.sec.gov. This site contains reports, proxy and information statements, and other information regarding our Company and other companies that file electronically with the SEC.

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



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. As a result, our insurance and claims expense could increase, or we could raise our self-insured retention when our policies are renewed. 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


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 U.S. 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 U.S. regulations. We also may become subject to new or more restrictive regulations relating to fuel emissions, drivers' 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


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. As a result, it is possible we may fail to meet the needs of our customers or may incur increased expenses to do so. 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 "superfund" 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 0.1 of a mile east of Reilly Tar and Chemical Corporation ("Reilly"), 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 "Risk Factors - Increased prices for, or increased costs of operating, new revenue equipment may materially and adversely affect our earnings and cash flow." 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



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 company's operations, the diversion of our management's 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 43% of our revenue; our top 10 customers, approximately 25% of our revenue; and our top 5 customers, approximately 16% 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 ("TRP") 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


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.


12


Item 2.      Properties

Our headquarters and principal place of business is located at 5601 West Buckeye Road, Phoenix, Arizona on approximately 75 acres. The following table provides information regarding the Company’s facilities and/or offices:

Company Location
Office
Shop
Fuel
Owned or Leased
Acres
Phoenix, Arizona
Yes
Yes
Yes
Owned
75
Tulare, California
Yes
Yes
No
Owned
23
Salt Lake City, Utah
Yes
Yes
No
Owned
15
Portland, Oregon
Yes
Yes
Yes
Owned
7
Denver, Colorado
Yes
No
No
Leased
3
Kansas City, Kansas
Yes
Yes
Yes
Owned
15
Katy, Texas
Yes
Yes
Yes
Owned
12
Indianapolis, Indiana
Yes
Yes
Yes
Owned
9
Charlotte, North Carolina
Yes
Yes
Yes
Owned
21
Gulfport, Mississippi
Yes
Yes
Yes
Owned
8
Memphis, Tennessee
Yes
Yes
Yes
Owned
18
Atlanta, Georgia
Yes
Yes
No
Leased
7
Las Vegas, Nevada
Yes
No
No
Leased
2
Carlisle, Pennsylvania
Yes
No
No
Leased
5
Lakeland, Florida
Yes
No
No
Leased
2
Chicago, Illinois
Yes
No
No
Leased
2
El Paso, TX
Yes
No
No
Leased
8
Idaho Falls, ID
Yes
Yes
Yes
Leased
6
Reno, NV
Yes
No
No
Leased
1

After the year ended December 31, 2005, we leased additional facilities in Seattle, Washington and Green Bay, Wisconsin. In addition, we lease space in various locations for temporary trailer storage. Management believes that replacement space comparable to these facilities is readily obtainable, if necessary. We lease excess trailer drop space at several of our facilities to other carriers.

We believe that our facilities are suitable and adequate for our present needs. We periodically seek to improve our facilities or identify new favorable locations.

Item 3.      Legal Proceedings

We are a party to ordinary, routine litigation and administrative proceedings incidental to our business. These proceedings primarily involve claims for personal injury or property damage incurred in the transportation of freight and for personnel matters. We maintain insurance to cover liabilities arising from the transportation of freight in amounts in excess of self-insurance retentions.


13


Item 4.      Submission of Matters to a Vote of Security Holders

A Special Meeting of the Shareholders of the Company (the "Special Meeting") was held on Wednesday, December 21, 2005 at which the holders of 43,344,639 shares of common stock of the Company, or 75.92%, were present in person or by proxy, constituting a quorum. The proposal to approve the Company's 2005 Executive Cash Bonus Plan (the "Cash Bonus Plan") and the proposal to amend the Company's 2003 Stock Option Plan (the "Amended 2003 Plan") were both approved at the Special Meeting, with each proposal receiving more than 98% of the votes.

The proposal to approve the Cash Bonus Plan received the following votes:

For
42,640,576
98.38%
Against
614,015
1.42%
Abstain
89,958
.21%

The proposal to approve the Amended 2003 Plan received the following votes:

For
42,786,605
98.71%
Against
468,698
1.08%
Abstain
89,336
.21%

A description of each of the proposals follows.

The Cash Bonus Plan

On August 19, 2005, the Compensation Committee of our Board of Directors, composed entirely of outside directors as required by Section 162(m) of the Code, adopted the Cash Bonus Plan. The Cash Bonus Plan provides annual incentives to certain senior executive officers in a manner designed to reinforce our performance goals; to link a significant portion of participants' compensation to the achievement of such goals; and to continue to attract, motivate, and retain key executives on a competitive basis, while seeking to preserve for the benefit of the Company, to the extent practicable, the associated federal income tax deduction for payments of qualified "performance-based" compensation for years after 2005.

The Amended 2003 Plan

On August 19, 2005, the Compensation Committee of our Board of Directors adopted the Amended 2003 Plan, subject to the approval by our shareholders. The Amended 2003 Plan establishes a limit on the number of shares with respect to which options may be granted to any one plan participant during a calendar year, which allowed us to give Kevin Knight, our Chief Executive Officer, a one-time grant of an option to purchase 500,000 shares of our common stock. The one-time option grant was made in recognition of Mr. Knight's past services and reflected the Compensation Committee's determination that Mr. Knight's compensation package in the past had been lower than was warranted by our financial performance, trucking industry practices, and the practices followed by growth companies in other industries. The Amended 2003 Plan also is intended to ensure compliance with the requirements of Section 162(m) of the Code. Compliance with Section 162(m) enables us to deduct compensation associated with awards under the plan which qualifies as "performance-based" for purposes of Section 162(m) of the Code.


14


PART II

Item 5.      Market for Company’s Common Equity and Related Shareholder Matters

Our common stock is traded under the symbol KNX on The New York Stock Exchange ("NYSE"). Prior to December 30, 2004, our common stock was traded under the symbol KNGT on The NASDAQ Stock Market - National Market System ("NASDAQ-NMS"). The following table sets forth, for the periods indicated, the high and low sales prices per share of our common stock as reported by the NYSE, adjusted to reflect 3-for-2 stock splits, effected in the form of a 50% stock dividend, on December 23, 2005 and July 20, 2004.

   
High
 
Low
 
2004
         
First Quarter
 
$
12.28
 
$
9.90
 
Second Quarter
 
$
12.78
 
$
10.12
 
Third Quarter
 
$
14.66
 
$
11.95
 
Fourth Quarter
 
$
17.19
 
$
14.21
 
2005
             
First Quarter
 
$
19.05
 
$
14.63
 
Second Quarter
 
$
17.17
 
$
13.83
 
Third Quarter
 
$
17.59
 
$
14.67
 
Fourth Quarter
 
$
22.51
 
$
15.47
 

As of February 2, 2006, we had 69 shareholders of record. However, we believe that many additional holders of our common stock are unidentified because a substantial number of shares are held of record by brokers or dealers for their customers in street names.

Starting in December 2004, and in each consecutive quarter since, we have paid a cash dividend of $.02 per share on our common stock, including our most recent dividend, which was declared in December 2005 and paid in the first quarter of 2006. We currently expect to continue to pay quarterly cash dividends in the future. Future payment of cash dividends, and the amount of any such dividends, will depend upon our financial condition, results of operations, cash requirements, tax treatment, and certain corporate law requirements, as well as other factors deemed relevant by our Board of Directors.

See "Securities Authorized for Issuance Under Equity Compensation Plans" under Item 12 in Part III of this Annual Report for certain information concerning shares of our common stock authorized for issuance under our equity compensation plans.


15


Item 6.      Selected Financial Data

The selected consolidated financial data presented below as of the end of, and for, each of the years in the five-year period ended December 31, 2005, are derived from our Consolidated Financial Statements. The information set forth below should be read in conjunction with "Management’s Discussion and Analysis of Financial Condition and Results of Operations," below, and the Consolidated Financial Statements and Notes thereto included in Item 8 of this Form 10-K.

  
     
Years Ended December 31,
                                         
 
 
 
2005 
 
 
   
2004 
   
2003 
   
2002 
   
2001 
     
     
(Dollar amounts in thousands, except per share amounts and operating data) 
Statements of Income Data:            
 
   
 
       
 
     
Revenue, before fuel surcharge
 
$
498,996
     
$
411,717
 
$
326,856
 
$
279,360
 
$
241,679
     
Fuel surcharge
   
67,817
       
30,571
   
13,213
   
6,430
   
9,139
     
Total revenue
   
566,813
       
442,288
   
340,069
   
285,790
   
250,818
     
Operating expenses
   
465,118
       
362,926
   
280,620
   
238,296
   
211,266
     
Income from operations
   
101,695
       
79,362
   
59,449
   
47,494
   
39,552
     
Other income (expense)
   
1,019
 
(7)
 
 
398
   
(651
)
 
(149
)
 
(7,485
)
(2)
 
Income before income taxes
   
102,714
       
79,760
   
58,798
   
47,345
   
32,067
 
(2)
 
Net income
   
61,714
       
47,860
   
35,458
   
27,935
   
19,017
 
(2)
 
Diluted earnings per share (1)
   
.71
       
.55
   
.41
   
.33
   
.23
 
(2)
 
Balance Sheet Data (at End of
Period):
                                       
Working capital
 
$
66,129
     
$
63,327
 
$
69,916
 
$
64,255
 
$
51,749
     
Total assets
   
483,827
       
402,867
   
321,226
   
284,844
   
241,114
     
Long-term obligations, net of
current maturities
   
-0-
       
-0-
   
-0-
   
12,200
   
2,715
     
Cash dividend per share on
common stock
   
.08
       
.02
   
- 0-
   
-0-
   
-0-
     
Shareholders’ equity
   
352,928
       
291,017
   
239,923
   
199,657
   
167,696
     
Operating Data (Unaudited):
                                       
Operating ratio (3)
   
82.1
%
     
82.1
%
 
82.5
%
 
83.4
%
 
84.2
%
   
Operating ratio, excluding fuel surcharge (4)
   
79.6
%
     
80.7
%
 
81.8
%
 
83.0
%
 
83.6
%
   
Average freight revenue per total mile (5)
 
$
1.46
     
$
1.37
 
$
1.28
 
$
1.24
 
$
1.23
     
Average length of haul (miles)
   
580
       
556
   
532
   
543
   
527
     
Empty mile factor
   
11.7
%
     
11.5
%
 
10.8
%
 
10.7
%
 
10.9
%
   
Tractors operated at end of period (6)
   
3,271
       
2,818
   
2,418
   
2,125
   
1,897
     
Trailers operated at end of period
   
7,885
       
7,126
   
6,212
   
5,441
   
4,898
     

(1)
Diluted earnings per share for 2004, 2003, 2002, and 2001 have been restated to reflect 3-for-2 stock splits on December 23, 2005; July 20, 2004; December 28, 2001; and June 1, 2001, as applicable.
(2)
Includes a pre-tax, non-cash write-off of $5.7 million in 2001 relating to an investment in Terion, Inc.
(3)
Operating expenses as a percentage of total revenue.
(4)
Operating expenses, net of fuel surcharge, as a percentage of revenue, before fuel surcharge. Management believes that eliminating the impact of this sometimes volatile source of revenue affords a more consistent basis for comparing our results of operations from period to period.
(5)
Average freight revenue per mile based upon total revenue, exclusive of fuel surcharge.
(6)
Includes: (a) 237 independent contract operated vehicles at December 31, 2005; (b) 244 independent contract operated vehicles at December 31, 2004; (c) 253 independent contract operated vehicles at December 31, 2003; (d) 209 independent contractor operated vehicles at December 31, 2002; and (e) 200 independent contractor operated vehicles at December 31, 2001.
(7)
Other income (expense) for 2005 includes the following: (a) $658 interest income; (b) $591 gain from sale of Concentrek; and (c) $230 impairment loss from TRP Investment.


16


Item 7.      Management’s Discussion and Analysis of Financial Condition and Results of Operation

Cautionary Note Regarding Forward-Looking Statements

Except for certain historical information contained herein, the following discussion contains forward-looking statements that involve risks, assumptions and uncertainties which are difficult to predict. All statements, other than statements of historical fact, are statements that could be deemed forward-looking statements, including without limitation: any projections of earnings, revenues, or other financial items; any statement of plans, strategies, and objectives of management for future operations; any statements concerning proposed new services or developments; any statements regarding future economic conditions or performance; and any statements of belief and any statement of assumptions underlying any of the foregoing. Words such as "believe," "may," "could," "expects," "hopes," "anticipates," and "likely," and variations of these words, or similar expressions, are intended to identify such forward-looking statements. Actual events or results could differ materially from those discussed in forward-looking statements. Factors that could cause or contribute to such differences include, but are not limited to those discussed in the section entitled "Item 1A, Risk Factors," set forth below. We do not assume, and specifically disclaim, any obligation to update any forward-looking statement contained in this Annual Report.

Introduction

Business Overview

We are primarily a truckload carrier based in Phoenix, Arizona. We transport general commodities for shippers throughout the United States, generally focusing our operations on a short-to-medium length of haul. We provide regional truckload carrier services from our regional dry van service centers, and from our temperature controlled service centers. During 2005 we began providing brokerage services. The results of the brokerage activities were relatively immaterial for 2005 and therefore a detailed discussion of the financial results of these operations will not be separately presented. At December 31, 2005, we operated 20 dry van service centers, two temperature controlled service centers, and two brokerage service centers. In early 2006, we added three new service centers. We presently have 21 dry van service centers, three temperature controlled service centers, and three brokerage service centers. Over the past five years we have achieved substantial revenue and income growth. During this period, our revenue, before fuel surcharge, grew at a 20% compounded annual rate from $241.7 million in 2001 to $499.0 million in 2005, and our net income grew at a 34% compounded annual rate from $19.0 million in 2001 to $61.7 million in 2005.

Operating and Growth Strategy

Our operating strategy is focused on the following core elements:

Focusing on Regional Operations. We seek to operate primarily in high density, predictable traffic lanes in selected geographic regions. We believe our regional operations allow us to obtain greater freight volumes and higher revenue per mile, and also enhance safety and driver recruitment and retention.
Maintaining Operating Efficiencies and Controlling Costs. We focus almost exclusively on operating in distinct geographic and shipping markets in order to achieve increased penetration of targeted service areas and higher equipment utilization in dense traffic lanes. We actively seek to control costs by, among other things, operating a modern equipment fleet, maintaining a high driver to non-driver employee ratio, and regulating vehicle speed.
Providing a High Level of Customer Service. We seek to compete on the basis of service, in addition to price, and offer our customers a broad range of services to meet their specific needs, including multiple pick ups and deliveries, on time pick ups and deliveries within narrow time frames, dedicated fleet and personnel, and specialized driver training.
Using Technology to Enhance Our Business. Our tractors are equipped with a satellite based tracking and communications system to permit us to stay in contact with our drivers, obtain load position updates, and provide our customers with freight visibility. A significant number of our trailers are equipped with tracking technology to allow us to manage our trailers more effectively, maintain a low trailer to tractor ratio, efficiently assess detention fees, and minimize cargo loss.

The primary source of our revenue growth has been our ability to open and develop new regional service centers in selected geographic areas and operate them at or near our targeted margins within a relatively short period of time. During 2005, we established regional dry van service centers in Chicago, Illinois; El Paso, Texas; and Reno, Nevada. Our temperature controlled service centers were increased by the acquisition in 2005 of Edwards Bros., Inc., in Idaho Falls, Idaho. We also established brokerage service centers in Idaho Falls, Idaho and Phoenix, Arizona, during 2005. Based on our current expectations concerning the economy, we anticipate opening six or seven additional regional service centers in 2006 and adding approximately 500 new tractors system-wide during the year. As part of our growth strategy, we also periodically evaluate acquisition opportunities, and we will continue to consider acquisitions that meet our financial and operating criteria.

17


Revenue and Expenses

We primarily generate revenue by transporting freight for our customers. Generally, we are paid a predetermined rate per mile or per load for our services. We enhance our revenue by charging for tractor and trailer detention, loading and unloading activities, and other specialized services, as well as through the collection of fuel surcharges to mitigate the impact of increases in the cost of fuel. The main factors that affect our revenue are the revenue per mile we receive from our customers, the percentage of miles for which we are compensated, and the number of miles we generate with our equipment. These factors relate, among other things, to the general level of economic activity in the United States, inventory levels, specific customer demand, the level of capacity in the trucking industry, and driver availability.

Historically, excess capacity in the transportation industry had limited our ability to improve rates. However, beginning in 2003 continuing through 2005, the United States economy experienced growth, which, together with tighter capacity, contributed to higher freight rates throughout much of the industry, including a 7.0% improvement in our average revenue per loaded mile (excluding fuel surcharge) from 2004 to 2005.

The main factors that impact our profitability in terms of expenses are the variable costs of transporting freight for our customers. These costs include fuel expense, driver-related expenses, such as wages, benefits, training, and recruitment, and independent contractor costs, which are recorded on the "Purchased Transportation" line of our consolidated statements of income. Expenses that have both fixed and variable components include maintenance and tire expense and our total cost of insurance and claims. These expenses generally vary with the miles we travel, but also have a controllable component based on safety, fleet age, efficiency, and other factors. Our main fixed costs are the acquisition and financing of long-term assets, such as revenue equipment and terminal facilities and the compensation of non-driver personnel. Effectively controlling our expenses is an important element of assuring our profitability. The primary measure we use to evaluate our profitability is operating ratio, excluding the impact of fuel surcharge revenue (operating expenses, net of fuel surcharge, as a percentage of revenue, before fuel surcharge). We view any operating ratio, whether for the Company or any service center, in excess of 85% as unacceptable performance in the current environment.

Recent Results of Operations and Year-End Financial Condition

For the year ended December 31, 2005, our results of operations improved as follows versus the 2004 fiscal year:

Revenue, before fuel surcharge, increased 21%, to $499.0 million from $411.7 million;
Net income increased 29%, to $61.7 million from $47.9 million; and
Net income per diluted share increased to $0.71 from $0.55.

We believe the improvements in our profitability are attributable primarily to higher average revenue per tractor per week (excluding fuel surcharge), our main measure of asset productivity, which increased 3.6%, to $3,156 in 2005 from $3,045 in 2004. This improvement was driven by a 7.0% increase in average revenue per loaded mile (excluding fuel surcharge) to $1.654 from $1.546, offset by a 2.1% decrease in average miles per tractor to 112,382 from 114,829. We were able to increase our average revenue per loaded mile due to strong freight demand and a solid rate environment in 2005 brought on by growth in the U.S. economy and a favorable relationship between demand and trucking capacity. We also experienced a slight increase in the percentage of non-revenue miles, to 11.7% in 2005 from 11.5% in 2004, mainly due to the positioning of our revenue equipment in areas which allowed us to capitalize on the most favorable freight in terms of higher rates.
 
During 2005, we grew our fleet by adding 453 new tractors, and we periodically experienced temporary challenges attracting a sufficient number of drivers to optimize utilization of our expanding tractor fleet. In response to this challenge, we placed additional emphasis on our driver recruiting and retention efforts. This emphasis on recruiting and retention, combined with increases in driver compensation in 2005 totaling three cents per mile have resulted in nearly all of our trucks being fully seated at year end 2005.

At December 31, 2005 our balance sheet reflected $18.8 million in cash and cash equivalents, $2.3 million in short term investments, no debt, and shareholders’ equity of $352.9 million. For the year, we generated $107.8 million in cash flow from operations and used $103.6 million for net capital expenditures.


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Our liquidity is not materially affected by off-balance sheet transactions. Like many other trucking companies, periodically we have utilized operating leases to finance a portion of our revenue equipment acquisitions. We have 28 tractors under operating leases at December 31, 2005. Future operating lease commitments as of December 31, 2005 was $1.6 million.

Results of Operations

The following table sets forth the percentage relationships of our expense items to total revenue and revenue, before fuel surcharge, for each of the three fiscal years indicated below. Fuel expense as a percentage of revenue, before fuel surcharge, is calculated using fuel expense, net of surcharge. Management believes that eliminating the impact of this sometimes volatile source of revenue affords a more consistent basis for comparing our results of operations from period to period.

   
2005
 
2004
 
2003
     
2005
 
2004
 
2003
 
                               
   
100.0%
 
100.0%
 
100.0%
     
100.0%
 
100.0%
 
100.0%
 
Total revenue
             
Revenue, before fuel surcharge
             
Operating expenses:
                     
Operating expenses:
                   
Salaries, wages and benefits
   
28.7
   
30.3
   
30.8
   
  Salaries, wages and benefits
   
32.6
   
32.5
   
32.0
 
Fuel (1)
   
23.6
   
19.2
   
16.6
   
  Fuel (1)
 
 
13.2
   
13.2
   
13.3
 
Operations and maintenance
   
6.1
   
6.0
   
6.0
   
  Operations and maintenance
   
6.9
   
6.4
   
6.2
 
Insurance and claims
   
4.4
   
5.0
   
4.9
   
  Insurance and claims
   
5.0
   
5.4
   
5.1
 
Operating taxes and licenses
   
2.2
   
2.2
   
2.7
   
  Operating taxes and licenses
   
2.5
   
2.4
   
2.8
 
Communications
   
0.8
   
0.8
   
0.9
   
  Communications
   
0.9
   
0.9
   
0.9
 
Depreciation and amortization
   
9.3
   
9.2
   
8.8
   
  Depreciation and amortization
   
10.5
   
9.9
   
9.2
 
Lease expense - revenue equipment
   
0.0
   
0.7
   
2.3
   
  Lease expense - revenue equipment
   
0.0
   
0.7
   
2.4
 
Purchased transportation
   
5.6
   
6.6
   
7.4
   
  Purchased transportation
   
6.4
   
7.1
   
7.7
 
(Gain) Loss on Sale of Equipment
   
(0.5
)
 
0.0
   
0.0
   
  (Gain) Loss on Sale of Equipment
   
(0.6
)
 
0.0
   
0.0
 
Miscellaneous operating expenses
   
1.9
   
2.1
   
2.1
   
  Miscellaneous operating expenses
   
2.2
   
2.2
   
2.2
 
Total operating expenses
   
82.1
   
82.1
   
82.5
   
Total operating expenses
   
79.6
   
80.7
   
81.8
 
Income from operations
   
17.9
   
17.9
   
17.5
   
Income from operations
   
20.4
   
19.3
   
18.2
 
Net interest and other income (expense)
   
0.2
   
0.1
   
(0.2
)
 
Net interest and other income (expense)
 
 
0.2
   
0.1
   
(0.2
)
Income before income taxes
   
18.1
   
18.0
   
17.3
   
Income before income taxes
   
20.6
   
19.4
   
18.0
 
Income taxes
   
7.2
   
7.2
   
6.9
   
Income taxes
   
8.2
   
7.8
   
7.1
 
Net Income
   
10.9
%
 
10.8
%
 
10.4
%
 
Net Income
   
12.4
%
 
11.6
%
 
10.9
%
 
(1)
Net of fuel surcharge.


A discussion of our results of operations for the periods 2005 to 2004 and 2004 to 2003 is set forth below.

Fiscal 2005 Compared to Fiscal 2004

Total revenue for 2005 increased 28.2% to $566.8 million from $442.3 million for 2004. Total revenue included $67.8 million of fuel surcharge revenue in 2005 and $30.6 million of fuel surcharge revenue in 2004. In discussing our results of operations we use revenue, before fuel surcharge (and fuel expense, net of surcharge), because management believes that eliminating the impact of this sometimes volatile source of revenue affords a more consistent basis for comparing our results of operations from period to period. We also discuss the changes in our expenses as a percentage of revenue, before fuel surcharge, rather than absolute dollar changes. We do this because we believe the high variable cost nature of our business makes a comparison of changes in expenses as a percentage of revenue more meaningful than absolute dollar changes.

Revenue, before fuel surcharge, increased 21.2% to $499.0 million for 2005, up from $411.7 million in 2004. This increase is due to the combination of fleet expansion, improved revenue per mile, the opening of three additional dry van regional service centers, opening of a brokerage service center in July 2005, and the acquisition of Edwards Bros., Inc. ("Edwards Bros."), a temperature controlled carrier in August 2005. Revenue generated from Edwards Bros. accounted for approximately 13% of the total increase. As a result of the expansion, our tractor fleet grew 16% to 3,271 tractors (including 237 owned by independent contractors) as of December 31, 2005, from 2,818 tractors. The growth in the fleet, coupled with improved freight demand, and a 3.6% increase in average revenue per tractor per week in 2005 over 2004, resulted in the significant period-over-period improvement in freight revenue. These improvements were partially offset by a 2.1% decrease in average miles per tractor and a 1.7% increase in our percentage of non-revenue miles.


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Salaries, wages and benefits expense increased slightly as a percentage of revenue, before fuel surcharge, to 32.6% in 2005 from 32.5% in 2004. The increase is primarily due to increases in driver pay rates implemented in 2005, along with an increase in the percentage of our fleet operated by company drivers, as opposed to independent contractors. Amounts paid to independent contractors for hauling freight are recorded on the "Purchased Transportation" line of our consolidated statements of income. For the year ended December 31, 2005, an average of 92.3% of our fleet was operated by company drivers, compared to an average of 90.6% for the year ended December 31, 2004. For our drivers, we record accruals for workers’ compensation benefits as a component of our claims accrual, and the related expense is reflected in salaries, wages and benefits in our consolidated statements of income.

Fuel expense, net of fuel surcharge, remained constant as a percentage of revenue before fuel surcharge, at 13.2% for both 2005 and 2004. This was mainly due to improved collection of fuel surcharge revenue during 2005, which offset higher fuel prices. We maintain a fuel surcharge program to assist us in recovering a portion of increased fuel costs. For the year ended December 31, 2005, fuel surcharge was $67.8 million, compared to $30.6 million for the same period in 2004. As a percentage of total revenue, including fuel surcharge, fuel expense increased to 23.6% in 2005, compared to 19.2% in 2004, as a result of higher fuel prices. We believe that higher fuel prices may continue to adversely affect our operating expenses throughout 2006 and that continued unrest in the Middle East and other areas, in addition to hurricanes and other weather-related events, also may cause the price of fuel to increase.

Operations and maintenance expense increased as a percentage of revenue, before fuel surcharge, to 6.9% for 2005 from 6.4% in 2004. This increase is mainly due to an increase in the percentage of company owned tractors, which led to higher operating expenses. The percentage of company owned tractors increased to an average of 92.3% for 2005, from 90.6% in 2004. The average age of our revenue equipment at year-end remained at 1.9 years for both 2005 and 2004.

Insurance and claims expense decreased as a percentage of revenue, before fuel surcharge, to 5.0% for 2005, compared to 5.4% for 2004. The decrease is due to better claims experience and lower claims costs in 2005.

Operating taxes and license expense as a percentage of revenue, before fuel surcharge, increased slightly to 2.5% for 2005 from 2.4% for 2004. The slight increase is primarily due to growth of our Company fleet, which was mostly offset by improvements in average revenue per tractor in 2005.

Communications expense as a percentage of revenue, before fuel surcharge, remained constant at 0.9% for both 2005 and 2004.

Depreciation and amortization expense, as a percentage of revenue before fuel surcharge, increased to 10.5% for 2005 from 9.9% in 2004. The increase in depreciation and amortization expense is offset by a corresponding decrease in lease expense for revenue equipment and purchased transportation. During the year, most of our company fleet was purchased by cash. At December 31, 2005, we had 28 tractors held under operating leases that were acquired through the Edwards Bros. acquisition.

Lease expense for revenue equipment, as a percentage of revenue before fuel surcharge, decreased to less than 0.1% for 2005, compared to 0.7% for 2004. This decrease is a result of the reduction in the number of tractors we held under operating leases, as discussed above. The combination of depreciation and lease expense remained constant at 10.6% for both 2005 and 2004.

Purchased transportation expense as a percentage of revenue, before fuel surcharge, decreased to 6.4% for 2005 compared to 7.1% for 2004. The decrease is due to the combination of improvements in revenue per mile, along with the decrease in the percentage of our total fleet comprised of independent contractors. As of December 31, 2005, 7.2% of our total fleet was operated by independent contractors, compared to 8.7% at December 31, 2004. As of December 31, 2005, our total fleet included 237 tractors owned and operated by independent contractors, compared to 244 tractors owned and operated by independent contractors at December 31, 2004. Purchased transportation represents the amount an independent contractor is paid to haul freight for us on a mutually agreed upon per-mile basis. To assist us in continuing to attract independent contractors, we may provide financing to qualified independent contractors to assist them in acquiring revenue equipment. As of December 31, 2005, we had $584,388 in loans outstanding (net of allowance for doubtful accounts of $49,084) to independent contractors to purchase revenue equipment. These loans are secured by liens on the revenue equipment we finance.

Gain on sale of equipment as a percentage of revenue, before fuel surcharge, increased to 0.6% in 2005, compared to zero in 2004. The increase is due to revenue equipment being sold to independent parties in 2005, as opposed to primarily being traded back to the equipment manufacturers.
 

20


Miscellaneous operating expenses as a percentage of revenue, before fuel surcharge, increased to 2.2% in 2005, compared to 2.1% in 2004. The slight increase is mostly due to the combination of higher bad debt reserves recorded and higher facility repair and maintenance expense incurred as a result of owning additional service centers.

As a result of the above factors, our operating ratio (operating expenses, net of fuel surcharge, expressed as a percentage of revenue, before fuel surcharge) was 79.6% for 2005, compared to 80.7% for 2004.

Net interest income (expense) as a percentage of revenue, before fuel surcharge, remained at less than 1.0% for both 2005 and 2004. We had no outstanding debt at December 31, 2005 or 2004.

Other expense for 2005 was comprised of gains resulting from the sale of our investment in Concentrek along with a reduction in the carrying value of our investment in Transportation Resource Partners. Other expense as a percentage of revenue, before fuel surcharge, was 0.1% for 2005, compared to zero for 2004.

Income taxes have been provided at the statutory federal and state rates, adjusted for certain permanent differences between financial statement income and income for tax reporting. Our effective tax rate was 39.9% for 2005 and 40.0% for 2004.

Income tax expense as a percentage of revenue, before fuel surcharge, increased to 8.2% for 2005, compared to 7.8% for 2004, primarily due to the increase in income before income taxes that was offset by a slight decrease in the effective income tax rate in 2005.

As a result of the preceding changes, our net income, as a percentage of revenue before fuel surcharge, was 12.4% for 2005, compared to 11.6% in 2004.

Fiscal 2004 Compared to Fiscal 2003

Our total revenue for 2004 increased 30.1% to $442.3 million from $340.1 million for 2003. Total revenue included $30.6 million of fuel surcharge revenue in 2004 and $13.2 million of fuel surcharge revenue in 2003. In discussing our results of operations we use revenue, before fuel surcharge (and fuel expense, net of surcharge), because management believes that eliminating the impact of this sometimes volatile source of revenue affords a more consistent basis for comparing our results of operations from period to period. We also discuss the changes in our expenses as a percentage of revenue, before fuel surcharge, rather than absolute dollar changes. We do this because we believe the high variable cost nature of our business makes a comparison of changes in expenses as a percentage of revenue more meaningful than absolute dollar changes.

Revenue, before fuel surcharge, increased 26.0% to $411.7 million for 2004 up from $326.9 million in 2003. This increase primarily resulted from the expansion of our fleet and customer base and increased volume from existing customers, continued market development from existing service centers , the opening of three additional regional dry van service centers and the establishment of a temperature controlled subsidiary in 2004, as well as improved rates and utilization. As a result of our expansion into new regions and improving freight demand, our tractor fleet grew 16.5% to 2,818 tractors (including 244 owned by independent contractors) as of December 31, 2004, from 2,418 tractors (including 253 owned by independent contractors) as of December 31, 2003. This growth in our fleet, coupled with a 9.8% increase in average revenue per tractor per week in 2004 over 2003, resulted in the significant period-over-period improvement in revenue.

Salaries, wages and benefits expense increased as a percentage of revenue, before fuel surcharge, to 32.5% in 2004 from 32.0% in 2003, primarily due to increases in driver pay rates of approximately three cents per mile during 2004, as well as an increase in the percentage of our total fleet operated by company drivers, as opposed to independent contractors. Amounts paid to independent contractors for hauling freight are recorded on the "Purchased Transportation" line of our consolidated statements of income. As of December 31, 2004, 91.3% of our fleet was operated by company drivers, compared to 89.5% as of December 31, 2003. For our drivers, we record accruals for workers’ compensation benefits as a component of our claims accrual, and the related expense is reflected in salaries, wages and benefits in our consolidated statements of income.

Fuel expense, net of fuel surcharge, remained essentially constant as a percentage of revenue before fuel surcharge, at 13.2% for 2004 and 13.3% in 2003. This was mainly due to improved collection of fuel surcharge revenue during 2004, which offset higher fuel prices. The Company maintains a fuel surcharge program to assist us in recovering a portion of increased fuel costs. For the year ended December 31, 2004, fuel surcharge was $30.6 million, compared to $13.2 million for the same period in 2003. As a percentage of total revenue, including fuel surcharge, fuel expense increased to 19.2% for 2004 from 16.6% in 2003 as a result of higher fuel prices.

21



Operations and maintenance expense increased as a percentage of revenue, before fuel surcharge, to 6.4% for 2004 from 6.2% in 2003. This increase was primarily due to increased costs for driver recruiting expenses. Independent contractors pay for the maintenance on their own vehicles.

Insurance and claims expense increased as a percentage of revenue, before fuel surcharge, to 5.4% for 2004, compared to 5.1% for 2003, primarily as a result of an increase in insurance premiums and self-insurance claims costs incurred by the Company.

Operating taxes and license expense as a percentage of revenue, before fuel surcharge, decreased to 2.4% for 2004 from 2.8% for 2003. The decrease resulted primarily from improvements in average revenue per tractor per week in 2004, which more efficiently covered these costs.

Communications expense as a percentage of revenue, before fuel surcharge, remained constant at 0.9% for both 2004 and 2003.

Depreciation and amortization expense, as a percentage of revenue before fuel surcharge, increased to 9.9% for 2004 from 9.2% in 2003. This increase was primarily related to an increase in the percentage of our company fleet comprised of purchased vehicles. Our company fleet includes purchased vehicles and vehicles held under operating leases, while our total fleet includes vehicles in our company fleet as well as vehicles provided by independent contractors. At December 31, 2004, 100% of our company fleet was comprised of purchased vehicles, compared to 82% at December 31, 2003.

Lease expense for revenue equipment, as a percentage of revenue before fuel surcharge, decreased to 0.7% for 2004, compared to 2.4% for 2003, primarily as a result of a decrease in the percentage of the company fleet comprised of vehicles held under operating leases, as discussed above. During 2004, we exercised early buy-out options on all of our 393 tractors that were held under operating leases at the beginning of the year. The equipment purchased upon termination of these operating leases was capitalized into our fleet during 2004.
 
Purchased transportation expense as a percentage of revenue, before fuel surcharge, decreased to 7.1% for 2004 compared to 7.7% for 2003. This decrease was primarily due to the relative decrease in the percentage of our total fleet operated by independent contractors in 2004. As of December 31, 2004, 8.7% of our total fleet was operated by independent contractors, compared to 10.5% at December 31, 2003. As of December 31, 2004, our total fleet included 244 tractors owned and operated by independent contractors, compared to 253 tractors owned and operated by independent contractors at December 31, 2003. Purchased transportation represents the amount an independent contractor is paid to haul freight for us on a mutually agreed upon per-mile basis. To assist us in continuing to attract independent contractors, we may provide financing to qualified independent contractors to assist them in acquiring revenue equipment. As of December 31, 2004, we had $248,000 in loans outstanding (net of allowance for doubtful accounts of $63,000) to independent contractors to purchase revenue equipment. These loans are secured by liens on the revenue equipment we finance.

Miscellaneous operating expenses as a percentage of revenue, before fuel surcharge, remained constant at 2.2% for 2004 and 2003.

As a result of the above factors, our operating ratio (operating expenses, net of fuel surcharge, expressed as a percentage of revenue, before fuel surcharge) was 80.7% for 2004, compared to 81.8% for 2003.

Net interest income (expense) as a percentage of revenue, before fuel surcharge, remained at less than 1.0% for both 2004 and 2003. We had no outstanding debt at December 31, 2004 or 2003.

Other expense for 2003 was comprised of an adjustment to the carrying value of an investment the Company had in an entity whose primary asset is a jet aircraft. Other expense as a percentage of revenue, before fuel surcharge, was 0.1% for 2003.

Income taxes have been provided at the statutory federal and state rates, adjusted for certain permanent differences between financial statement income and income for tax reporting. Our effective tax rate was 40.0% for 2004 and 39.7% for 2003.

Income tax expense as a percentage of revenue, before fuel surcharge, increased to 7.8% for 2004, from 7.1% for 2003, primarily due to the increase in income before income taxes and a slightly higher tax rate in 2004.

As a result of the preceding changes, our net income, as a percentage of revenue before fuel surcharge, was 11.6% for 2004, compared to 10.9% in 2003.

22


Liquidity and Capital Resources

The growth of our business has required, and will continue to require, a significant investment in new revenue equipment. Our primary sources of liquidity have been funds provided by operations, and to a lesser extent lease financing arrangements, issuances of equity securities, and borrowings under our line of credit.

Net cash provided by operating activities was approximately $107.8 million, $96.7 million, and $84.4 million for the years ended December 31, 2005, 2004, and 2003 respectively. The increase for 2005 was primarily the result of an increase in income from operations due to our fleet expansion and improved revenue per mile.

Capital expenditures for the purchase of revenue equipment, net of equipment sales and trade-ins, office equipment, and land and leasehold improvements, totaled $103.6 million, $115.7 million, and $70.3 million for the years ended December 31, 2005, 2004, and 2003 respectively. We currently anticipate capital expenditures, net of trade-ins, of approximately $117 million for 2006. We expect these capital expenditures will be used primarily to acquire new revenue equipment.

Net cash used in financing activities was approximately $7.4 million for the year ended December 31, 2005, compared to cash provided in financing of approximately $948,000 for the year ended 2004. Cash used in financing for the year ended December 31, 2005 consisted of $6.8 million of debt payment associated with the acquisition of Edwards Bros., Inc., $3.4 million paid for cash dividends to common stock shareholders, and $2.8 million of proceeds from stock option exercises. The cash provided by financing in the 2004 year was a result of the net proceeds from stock options exercised. Net cash used for financing activities was approximately $12.7 million for the year ended December 31, 2003, which was primarily for the payments on our line of credit and long-term debt, which was retired in full during the fourth quarter of 2003.

At December 31, 2005, we did not have any outstanding debt. We currently maintain a line of credit, which permits revolving borrowings and letters of credit totaling $25.0 million. At December 31, 2005, the line of credit consisted solely of issued but unused letters of credit totaling $14.0 million. We are obligated to comply with certain financial covenants under our line of credit and were in compliance with these covenants at December 31, 2005, 2004, and 2003.

As of December 31, 2005, we held $18.8 million in cash and cash equivalents. Management believes we will be able to finance our near term needs for working capital over the next twelve months, as well as acquisitions of revenue equipment during such period, with cash balances and cash flows from operations. We will continue to have significant capital requirements over the long-term, which may require us to incur debt or seek additional equity capital. The availability of additional capital will depend upon prevailing market conditions, the market price of our common stock, and several other factors over which we have limited control, as well as our financial condition and results of operations. Nevertheless, based on our recent operating results, current cash position, anticipated future cash flows, and sources of financing that we expect will be available to us, we do not expect that we will experience any significant liquidity constraints in the foreseeable future.

Off-Balance Sheet Transactions

Our liquidity is not materially affected by off-balance sheet transactions. Like many other trucking companies, periodically we have utilized operating leases to finance a portion of our revenue equipment acquisitions. At December 31, 2005, we had 28 tractors held under operating leases with varying termination dates ranging from March 2006 to September 2009. Future operating lease commitments as of December 31, 2005 were $1.6 million, with $500,000 due in the next 12 months. The effective annual interest rates under these operating leases range from 6.7% to 7.2%. Lease payments in respect of such vehicles are reflected in our income statements in the line item "Lease expense - revenue equipment." Our rental expense related to operating leases was $0.2 million in 2005, compared to $3.0 million in 2004.


23


Tabular Disclosure of Contractual Obligations

The following table sets forth, as of December 31, 2005, our contractual obligations and payments due by corresponding period for our short and long term operating expenses and other commitments.

   
Payments (in millions) due by period
 
Contractual Obligations
 
Total
 
Less than 1 year
 
1-3 years
 
3-5 years
 
More than 5 years
 
Purchase Obligations (Revenue Equipment) (1)
 
$
36.8
 
$
36.8
   
--
   
--
   
--
 
Investment in Transportation Resource Partners, LP (TRP) (2)
 
$
2.7
   
N/A
   
N/A
   
N/A
   
N/A
 
Operating Leases - Revenue Equipment
 
$
1.6
 
$
0.5
 
$
0.9
 
$
0.2
   
--
 
Operating Leases - Terminal Building
 
$
0.6
 
$
0.5
 
$
0.1
   
--
   
--
 
Potential Pay-out Relating to Edwards Bros., Inc. acquisition (3)
 
$
0.4
 
$
0.4
   
--
   
--
   
--
 
Total
 
$
42.1
 
$
38.2
 
$
1.0
 
$
0.2
   
--
 

(1)
Purchase Obligations (Revenue Equipment) represent the total purchase price under commitments to purchase tractors and trailers scheduled for delivery throughout 2006.
(2)
TRP commitment is expected to be made through variable contribution amounts over the next five years.
(3)
On August 12, 2005, the Company acquired 100% of the stock of Edwards Bros., Inc. The purchase agreement describes potential future payments due on or before March 31, 2006. The potential pay-out is contingent upon the outcome of retaining existing drivers and maintaining revenue levels with existing customers.

Critical Accounting Policies and Estimates

The preparation of financial statements in accordance with accounting principles generally accepted in the United States of America requires that management make a number of assumptions and estimates that affect the reported amounts of assets, liabilities, revenue, and expenses in our consolidated financial statements and accompanying notes. Management bases its estimates on historical experience and various other assumptions believed to be reasonable. Although these estimates are based on management’s best knowledge of current events and actions that may impact the Company in the future, actual results may differ from these estimates and assumptions. Our critical accounting policies are those that affect, or could affect, our financial statements materially and involve a significant level of judgment by management.

Our significant accounting policies including revenue recognition and assessing possible impairments on long lived assets and intangibles are described in Note 1 to our consolidated financial statements included in Item 8.

Depreciation. Property and equipment are stated at cost. Depreciation on property and equipment is calculated by the straight-line method over the estimated useful life, which ranges from three to thirty years, down to an estimated salvage value of the property and equipment, which ranges from 10% to 30% of the capitalized cost. We periodically evaluate the useful lives and salvage values of our property and equipment based upon, among other things, our experience with similar assets, including gains or losses upon dispositions of such assets. Our determinations with respect to salvage values are based upon the expected market values of equipment at the end of the expected life. We presently do not expect any decrease in the salvage values of our revenue equipment as a result of conditions in the used equipment market or otherwise.

Tires on revenue equipment purchased are capitalized as a part of the equipment cost and depreciated over the life of the vehicle. Replacement tires and recapping costs are expensed when placed in service.

Claims Accrual. Reserves and estimates for claims is another of our critical accounting policies. The primary claims arising for us consist of cargo liability, personal injury, property damage, collision and comprehensive, workers’ compensation, and employee medical expenses. We maintain self-insurance levels for these various areas of risk and have established reserves to cover these self-insured liabilities. We also maintain insurance to cover liabilities in excess of the self-insurance amounts. The claims reserves represent accruals for the estimated self-insured portion of pending claims, including adverse development of known claims, as well as incurred but not reported claims. These estimates are based on historical information, primarily our own claims experience and the experience of our third party administrator, along with certain assumptions about future events. Changes in assumptions as well as changes in actual experience could cause these estimates to change over time. The significant level of our self-insured retention for personal injury and property damage claims, currently at $1.5 million, amplifies the importance and potential impact of these estimates.

24



Accounting for Income Taxes. Significant management judgment is required in determining our provision for income taxes and in determining whether deferred tax assets will be realized in full or in part. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. If it were ever estimated that it is more likely than not that all or some portion of specific deferred tax assets will not be realized, a valuation allowance must be established for the amount of the deferred tax assets that are determined not to be realizable. A valuation allowance for deferred tax assets has not been deemed necessary due to the Company’s profitable operations. Accordingly, if the facts or financial results were to change, thereby impacting the likelihood of realizing the deferred tax assets, judgment would have to be applied to determine the amount of valuation allowance required in any given period.

New Accounting Pronouncements

In November 2004, the FASB issued SFAS No. 151, "Inventory Costs, an amendment of ARB No. 43, Chapter 4". SFAS No. 151 clarifies the accounting for amounts of idle facility expenses, freight, handling costs, and wasted material (spoilage). This statement is effective for the Company on January 1, 2006. The adoption of SFAS No. 151 is not expected to have a material effect on our consolidated financial statements.

In December 2004, the FASB issued SFAS No. 153, "Exchanges of Nonmonetary Assets, an amendment of APB No. 29". SFAS No. 153 amends ABP 29 to eliminate the exception for nonmonetary exchanges of similar productive assets and replaces it with a general exception for exchanges of nonmonetary assets that do not have commercial substance. A monetary exchange has commercial substance if the future cash flows of the entity are expected to change significantly as a result of the exchange. This statement is effective for the Company on January 1, 2006. The adoption of SFAS No. 153 is not expected to have a material effect on our consolidated financial statements.

In December 2004, the FASB issued SFAS No. 123 (revised 2004), "Share−Based Payment". SFAS No. 123 (revised 2004) is a revision of FASB Statement No. 123, "Accounting for Stock−Based Compensation". This statement supersedes APB Opinion No. 25, "Accounting for Stock Issued to Employees", and its related implementation guidance. SFAS No. 123 (revised 2004) requires a public entity to measure the cost of employee services received in exchange for an award of equity instruments based on the grant date fair value of the award. That cost will be recognized over the period during which an employee is required to provide services in exchange for the award. The Company expects to adopt the provisions of SFAS 123 (revised 2004) using a modified prospective application. The modified prospective method requires companies to recognize compensation cost for unvested awards that are outstanding on the effective date based on the fair value that the company had originally estimated for purposes of preparing its SFAS 123 pro forma disclosures. For all new awards that are granted or modified after the effective date, a company would use SFAS 123R’s measurement model. This statement is effective for the Company on January 1, 2006. As of December 31, 2005, the amount of unrecognized compensation expense to be recognized in future periods, in accordance with SFAS 123R, is approximately $11.3 million. Had SFAS No. 123R been implemented in 2005, we would have experienced a $5.1 million reduction in our net income and a $.06 per share decrease in both basic earnings per share and diluted earnings per share.  The majority of the 2005 stock option expense was due to the one-time option grant of 500,000 shares to Kevin Knight, the Company’s Chief Executive Officer. This one-time grant was made in recognition of Mr. Knight’s past services. See "Notes to Consolidated Financial Statements - Organization and Summary of Significant Accounting Policies - Significant Accounting Policies - Stock-Based Compensation" for more information regarding the effect on net income if SFAS No. 123R had been applied to all outstanding awards for the years ended December 31 2005, 2004, and 2003.

In May 2005, the FASB issued SFAS No. 154: "Accounting Changes and Error Corrections" to replace APB Opinion No. 20 "Accounting Changes", and FASB Statement No. 3 "Reporting Accounting Changes in Interim Financial Statements". This statement changes the accounting treatment and reporting of a change in accounting principle, and redefines restatement. The Statement defines and requires retrospective application to prior period financial statements for changes in accounting principles, and applies to all voluntary changes as well as changes required by accounting pronouncements when no specific transition provisions are provided. This statement also redefines restatement as the revising of previously issued financial statements to reflect the correction of an error. This Statement is effective for the Company for changes and corrections of errors made in fiscal years beginning after December 15, 2005. The adoption of SFAS No. 154 is not expected to have a material effect on our consolidated financial statements.


25


In March 2005, the FASB issued Interpretation No. 47 "Accounting for Conditional Asset Retirement Obligations" to clarify that the term conditional asset retirement obligation as used in FASB Statement No. 143 is a legal obligation to perform an asset retirement activity in which the timing and (or) method of settlement are conditional on a future event that the enterprise may or may not have control over. This Interpretation requires recognition of a liability for the fair value of a conditional asset retirement obligation when incurred if the liability’s fair value can be reasonably determined. This Interpretation is effective no later than the end of fiscal years ending after December 15, 2005 (December 31, 2005, for calendar-year enterprises). The implementation of FASB No. 143 and Interpretation No. 47 are not material to the consolidated financial statements.
 
Item 7A     Quantitative and Qualitative Disclosures About Market Risk

We are exposed to market risk changes in interest rate on debt and from changes in commodity prices.

Under Financial Accounting Reporting Release Number 48 and SEC rules and regulations, we are required to disclose information concerning market risk with respect to foreign exchange rates, interest rates, and commodity prices. We have elected to make such disclosures, to the extent applicable, using a sensitivity analysis approach, based on hypothetical changes in interest rates and commodity prices.

Except as described below, we have not had occasion to use derivative financial instruments for risk management purposes and do not use them for either speculation or trading. Because our operations are confined to the United States, we are not subject to foreign currency risk.

Interest Rate Risk

We are subject to interest rate risk to the extent we borrow against our line of credit or incur debt in the acquisition of revenue equipment. We attempt to manage our interest rate risk by managing the amount of debt we carry. At December 31, 2005, we did not have any outstanding borrowings. In the opinion of management, an increase in short-term interest rates could have a materially adverse effect on our financial condition only if we incur substantial indebtedness and the interest rate increases are not offset by freight rate increases or other items. Management does not foresee or expect in the near future any significant changes in our exposure to interest rate fluctuations or in how that exposure is managed by us.

Commodity Price Risk

We also are subject to commodity price risk with respect to purchases of fuel. Historically, we have sought to recover a portion of our short-term fuel price increases from customers through fuel surcharges. Fuel surcharges that can be collected do not always fully offset an increase in the cost of diesel fuel. Based upon our experience, we believe that we generally pass through to customers approximately 80% to 90% of fuel price increases. For the fiscal year ended December 31, 2005, fuel expense, net of fuel surcharge, represented 16.5% of our total operating expenses, net of fuel surcharge, compared to 16.4% for the same period ending in 2004.

Item 8.      Financial Statements and Supplementary Data

The consolidated balance sheets of Knight Transportation, Inc. and subsidiaries, as of December 31, 2005 and 2004, and the related consolidated balance sheets, statements of income, comprehensive income, shareholders’ equity, and cash flows for each of the years in the three-year period ended December 31, 2005, consolidated selected quarterly financial data (unaudited) for the years ended December 31, 2005 and 2004, together with the related notes, the report of Deloitte & Touche LLP, our independent registered public accounting firm for the years ended December 31, 2005 and 2004, and the report of KPMG LLP, our independent registered public accounting firm for the year ended December 31, 2003 are set forth at pages F-1 through F-20, elsewhere in this report.

Item 9.      Changes in and Disagreements With Accountants on Accounting and Financial Disclosure

Not Applicable.


26


Item 9A.      Controls and Procedures

In accordance with the requirements of the Exchange Act and SEC rules and regulations promulgated thereunder, we have established and maintain disclosure controls and procedures and internal control over financial reporting. Our management, including our principal executive officer and principal financial officer, does not expect that our disclosure controls and procedures and internal control over financial reporting will prevent all error, misstatements, or fraud. A control system, no matter how well conceived and operated, can provide only reasonable, not absolute, assurance that the objectives of the control system are met. Further, the design of a control system must reflect the fact that there are resource constraints, and the benefits of controls must be considered relative to their costs. Because of the inherent limitations in all control systems, no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, within the Company have been detected.

Evaluation of Disclosure Controls and Procedures.

We have established disclosure controls and procedures to ensure that material information relating to our Company, including our consolidated subsidiaries, is made known to the officers who certify our financial reports and to other members of senior management and the Board of Directors.

Based on their evaluation as of December 31, 2005, our principal executive officer and principal financial officer have concluded that our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act) are effective to ensure that the information required to be disclosed by the Company in the reports that it files or submits under the Exchange Act is recorded, processed, summarized, and reported within the time periods specified in SEC rules and forms.

On August 12, 2005, we purchased 100% of the stock of Edwards Bros., Inc., an Idaho based refrigerated carrier. According to 035 Question 3 of the SEC ICFR FAQ’s, management has elected to exclude the assessment of internal control over financial reporting for Knight Refrigerated Idaho Falls Division (formerly Edwards Bros., Inc.), whose financial statements constitute 1.4% of total assets and 2.2% of revenues of the consolidated financial statement for the year ended December 31, 2005. Accordingly, management’s evaluation and assessment does not include internal control over financial reporting at Knight Refrigerated Idaho Falls Division.

With the exception of the Edwards Bros. acquisition, there were no other changes in our internal control over financial reporting during the year ended December 31, 2005, that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.

No changes occurred in our internal controls over financial reporting during the fiscal quarter ended December 31, 2005, that materially affected, or are reasonably likely to affect, our internal control or financial reporting.

Management’s Report on Internal Control Over Financial Reporting.

Our management is responsible for establishing and maintaining adequate internal control over financial reporting, as such term is defined in Rules 13a -15(f) and 15d -15(f) under the Exchange Act. Under the supervision and with the participation of our management, including our principal executive officer and principal financial officer, we conducted an evaluation of the effectiveness of our internal control over financial reporting based on the criteria set forth in Internal Control - Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission. Management's assessment does not extend to the internal control over financial reporting at Knight Refrigerated Idaho Falls Division, which was acquired on August 12, 2005 and whose financial statements reflect total assets and revenues constituting 1.4% and 2.2%, respectively, of the related consolidated financial statement amounts as of and for the year ended December 31, 2005.   Based on our evaluation under the criteria set forth in Internal Control - Integrated Framework, our management concluded that our internal control over financial reporting was effective as of December 31, 2005. Our management’s assessment of the effectiveness of our internal control over financial reporting as of December 31, 2005 has been audited by Deloitte & Touche LLP, our independent registered public accounting firm, as stated in their report set forth below.  


27


REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

To the Board of Directors and Stockholders of
Knight Transportation, Inc.
Phoenix, Arizona

We have audited management's assessment, included in the accompanying Management's Report on Internal Control over Financial Reporting, that Knight Transportation, Inc. and subsidiaries (the "Company") maintained effective internal control over financial reporting as of December 31, 2005, based on criteria established in Internal Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission.  As described in Management’s Report on Internal Control over Financial Reporting, management excluded from their assessment the internal control over financial reporting at Knight Refrigerated Idaho Falls Division, which was acquired on August 12, 2005 and whose financial statements reflect total assets and revenues constituting 1.6% and 3.0%, respectively, of the related consolidated financial statement amounts as of and for the year ended December 31, 2005.  Accordingly, our audit did not include the internal control over financial reporting at Knight Refrigerated Idaho Falls Division. The Company's management is responsible for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting.  Our responsibility is to express an opinion on management's assessment and an opinion on the effectiveness of the Company's internal control over financial reporting based on our audit.

We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects.  Our audit included obtaining an understanding of internal control over financial reporting, evaluating management's assessment, testing and evaluating the design and operating effectiveness of internal control, and performing such other procedures as we considered necessary in the circumstances.  We believe that our audit provides a reasonable basis for our opinions.

A company's internal control over financial reporting is a process designed by, or under the supervision of, the company's principal executive and principal financial officers, or persons performing similar functions, and effected by the company's board of directors, management, and other personnel to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles.  A company's internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company's assets that could have a material effect on the financial statements.

Because of the inherent limitations of internal control over financial reporting, including the possibility of collusion or improper management override of controls, material misstatements due to error or fraud may not be prevented or detected on a timely basis.  Also, projections of any evaluation of the effectiveness of the internal control over financial reporting to future periods are subject to the risk that the controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.

In our opinion, management's assessment that the Company maintained effective internal control over financial reporting as of December 31, 2005, is fairly stated, in all material respects, based on the criteria established in Internal Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission.  Also in our opinion, the Company maintained, in all material respects, effective internal control over financial reporting as of December 31, 2005, based on the criteria established in Internal Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission.

We have also audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the consolidated financial statements and financial statement schedule as of and for the year ended December 31, 2005 of the Company and our report dated March 6, 2006 expressed an unqualified opinion on those financial statements and financial statement schedule.

/s/ Deloitte & Touche LLP

Phoenix, Arizona
March 6, 2006

28



Item 9B.      Other Information

Not Applicable.

29


PART III

Item 10.      Directors and Executive Officers of the Company

We incorporate by reference the information contained under the headings "Proposal No. 1 - Election of Directors," "Continuing Directors," "Corporate Governance - Executive Officers and Certain Significant Employees of the Company," "Corporate Governance - The Board of Directors and Its Committees - Committees of the Board of Directors - Audit Committee," "Corporate Governance -Compliance with Section 16(a) of the Exchange Act," and "Corporate Governance - Code of Ethics," from our definitive Proxy Statement to be delivered to our shareholders in connection with the 2006 Annual Meeting of Shareholders to be held May 24, 2006.

Item 11.      Executive Compensation

We incorporate by reference the information contained under the headings "Executive Compensation" and "Corporate Governance - Director Compensation" from our definitive Proxy Statement to be delivered to our shareholders in connection with the 2006 Annual Meeting of Shareholders to be held May 24, 2006; provided, however, that the Compensation Committee Report on Executive Compensation that appears under the heading "Executive Compensation" in such Proxy Statement is not incorporated by reference.

Item 12.      Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters

Securities Authorized For Issuance Under Equity Compensation Plans

The following table provides certain information, as of December 31, 2005, with respect to our compensation plans and other arrangements under which shares of our Common Stock are authorized for issuance.

Equity Compensation Plan Information

 
Number of securities to be
issued upon exercise of
outstanding options, warrants
and rights
Weighted average exercise price
of outstanding options warrants
and rights
Number of securities
remaining eligible for future
issuance under equity
compensation plans (excluding
securities reflected in column
(a))
Plan category
(a)
(b)
(c)
Equity compensation plans approved by security holders
4,562,511
$10.68
2,259,528
Equity compensation plans not approved by security holders
0
0
0
Total
4,562,511
$10.68
2,259,528

We incorporate by reference the information contained under the heading "Security Ownership of Certain Beneficial Owners and Management" from our definitive Proxy Statement to be delivered to our shareholders in connection with the 2006 Annual Meeting of Shareholders to be held May 24, 2006.

Item 13.      Certain Relationships and Related Transactions

We incorporate by reference the information contained under the headings "Executive Compensation - Compensation Committee Interlocks and Insider Participation" and "Certain Relationships and Related Transactions" from our definitive Proxy Statement to be delivered to our shareholders in connection with the 2006 Annual Meeting of Shareholders to be held May 24, 2006.

Item 14.      Principal Accounting Fees and Services

We incorporate by reference the information contained under the heading "Principal Accounting Fees and Services" from our definitive Proxy Statement to be delivered to our shareholders in connection with the 2006 Annual Meeting of Shareholders to be held May 24, 2006.  


30


PART IV

Item 15.      Exhibits, Financial Statement Schedules

(a)     The following documents are filed as part of this report on Form 10-K at pages F-1 through F-20, below.

1.      Consolidated Financial Statements:

Knight Transportation, Inc. and Subsidiaries

Report of Deloitte & Touche LLP, Independent Registered Public Accounting Firm

Report of KPMG LLP, Independent Registered Public Accounting Firm

Consolidated Balance Sheets as of December 31, 2005 and 2004

Consolidated Statements of Income for the years ended December 31, 2005, 2004 and 2003

Consolidated Statements of Comprehensive Income for the years ended December 31, 2005, 2004 and 2003

Consolidated Statements of Shareholders’ Equity for the years ended December 31, 2005, 2004 and 2003

Consolidated Statements of Cash Flows for the years ended December 31, 2005, 2004 and 2003

Consolidated Selected Quarterly Financial Data (unaudited) for the years ended December 31, 2005 and 2004

Notes to Consolidated Financial Statements


2.     Consolidated Financial Statement Schedules required to be filed by Item 8 and Paragraph (b) of Item 15:

Valuation and Qualifying Accounts and Reserves

Schedules not listed have been omitted because of the absence of conditions under which they are required or because the required material information is included in the Consolidated Financial Statements or Notes to the Consolidated Financial Statements included herein.

3.     Exhibits.

The Exhibits required by Item 601 of Regulation S-K are listed at paragraph (b), below, and at the Exhibit Index appearing at the end of this report.

(b)     Exhibits:

The following exhibits are filed with this Form 10-K or incorporated herein by reference to the document set forth next to the exhibit listed below:

Exhibit
Number
Descriptions
   
3.1
Restated Articles of Incorporation of the Company. (Incorporated by reference to Exhibit 3.1 to the Company’s Registration Statement on Form S-1 No. 33-83534.)
3.1.1
First Amendment to Restated Articles of Incorporation of the Company. (Incorporated by reference to Exhibit 3.1.1 to the Company’s Report on Form 10-K for the period ended December 31, 2000.)
3.1.2
Second Amendment to Restated Articles of Incorporation of the Company. (Incorporated by reference to Exhibit 3.1.2 to the Company’s Registration Statement on Form S-3 No. 333-72130.)
3.1.3
Third Amendment to Restated Articles of Incorporation of the Company. (Incorporated by reference to Exhibit 3.1.3 to the Company’s Report on Form 10-K for the period ended December 31, 2002.)
3.2
Amended and Restated Bylaws of the Company. (Incorporated by reference to Exhibit 3.2 to the Company’s Report on Form 8-K dated March 2, 2005 and filed on March 4, 2005.)
3.2.1
First Amendment to Restated Bylaws of the Company. (Incorporated by reference to Exhibit 3.2.1 to the Company’s Report on Form 10-K for the period ended December 31, 2002.)

31



3.2.2
Second Amendment to Restated Bylaws of the Company. (Incorporated by reference to Exhibit 3.2.1 to the Company's Report on Form 8-K dated March 2, 2005 and filed on March 4, 2005.)
4.1
Articles 4, 10 and 11 of the Restated Articles of Incorporation of the Company. (Incorporated by reference to Exhibit 3.1 to this Report on Form 10-K.)
4.2
Sections 2 and 5 of the Amended and Restated Bylaws of the Company. (Incorporated by reference to Exhibit 3.2 to this Report on Form 10-K.)
4.3
Knight Transportation, Inc. 2003 Stock Option Plan. (Incorporated by reference from Exhibit 1 to the Company's Proxy Statement filed April 4, 2003 on Schedule 14A.)
4.3.1
First Amendment to Knight Transportation, Inc. 2003 Stock Option Plan. (Incorporated by reference to Exhibit 10.10.1 to the Company's Report of Form 10-Q for the period ended March 31, 2005.)
10.1
Purchase and Sale Agreement and Escrow Instructions (All Cash) dated as of March 1, 1994, between Randy Knight, the Company, and Lawyers Title of Arizona. (Incorporated by reference to Exhibit 10.1 to the Company’s Registration Statement on Form S-1 No. 33-83534.)
10.1.1
Assignment and First Amendment to Purchase and Sale Agreement and Escrow Instructions. (Incorporated by reference to Exhibit 10.1.1 to Amendment No. 3 to the Company’s Registration Statement on Form S-1 No. 33-83534.)
10.1.2
Second Amendment to Purchase and Sale Agreement and Escrow Instructions. (Incorporated by reference to Exhibit 10.1.2 to Amendment No. 3 to the Company’s Registration Statement on Form S-1 No. 33-83534.)
10.3
Form of Purchase and Sale Agreement and Escrow Instructions (All Cash) dated as of October 1994, between the Company and Knight Deer Valley, L.L.C., an Arizona limited liability company. (Incorporated by reference to Exhibit 10.4.1 to Amendment No. 3 to the Company’s Registration Statement on Form S-1 No. 33-83534.)
10.4
Amended Indemnification Agreements between the Company, Don Bliss, Clark A. Jenkins, Gary J. Knight, Keith Knight, Kevin P. Knight, Randy Knight, G. D. Madden, Minor Perkins and Keith Turley, and dated as of February 5, 1997. (Incorporated by reference to Exhibit 10.6 to the Company’s Report on Form 10-K for the period ended December 31, 1996.)
10.4.1
Indemnification Agreements between the Company and Timothy M. Kohl and Matt Salmon, dated as of October 16, 2000, and May 9, 2001, respectively. (Incorporated by reference to Exhibit 10.6.1 to the Company’s Report on Form 10-K for the period ended December 31, 2001.)
10.4.2
Indemnification Agreements between the Company and Mark Scudder and Michael Garnreiter, dated as of November 10, 1999, and September 19, 2003, respectively. (Incorporated by reference to Exhibit 10.5.2 to the Company’s Report on Form 10-K for the period ended December 31, 2003.)
10.5
Master Equipment Lease Agreement dated as of January 1, 1996, between the Company and Quad-K Leasing, Inc. (Incorporated by reference to Exhibit 10.7 to the Company’s Report on Form 10-K for the period ended December 31, 1995.)
10.7
Purchase and Sale Agreement dated as of February 13, 1996, between the Company and RR-1 Limited Partnership. (Incorporated by reference to Exhibit 10.9 to the Company’s Report on Form 10-K for the period ended December 31, 1995.)
10.8
Consulting Agreement dated as of March 1, 2000 between Knight Transportation, Inc. and LRK Management, L.L.C. (Incorporated by reference to Exhibit 10.12 to the Company’s Report on Form 10-K for the period ended December 31, 1999.)
10.9
Credit Agreement by and among Knight Transportation, Inc., Wells Fargo Bank and Northern Trust Bank, dated April 6, 2001. (Incorporated by reference to Exhibit 10(a) to the Company’s Report on Form 10-Q for the period ended June 30, 2001.)
10.9.1
Modification Agreement to Credit Agreement by and among Knight Transportation, Inc. and Wells Fargo Bank, dated February 13, 2003. (Incorporated by reference to Exhibit 10.14.1 to the Company’s Report on Form 10-K for the period ended December 31, 2002.)
10.9.2
Modification Agreement to Credit Agreement by and among Knight Transportation, Inc. and Wells Fargo Bank, dated September 15, 2003. (Incorporated by reference to Exhibit 10.13.2 to the Company’s Report on Form 10-K for the period ended December 31, 2003.)
10.9.3
Modification Agreement to Credit Agreement by and among Knight Transportation, Inc. and Wells Fargo Bank, dated December 15, 2003. (Incorporated by reference to Exhibit 10.13.3 to the Company’s Report on Form 10-K for the period ended December 31, 2003.)
10.9.4
Modification Agreement to Credit Agreement by and among Knight Transportation, Inc. and Wells Fargo Bank, dated May 13, 2004. (Incorporated by reference to Exhibit 10.9.4 to the Company’s Report on Form 10-K for the period ended December 31, 2004.)
10.9.5
Modification Agreement to Credit Agreement by and among Knight Transportation, Inc. and Wells Fargo Bank, dated October 4, 2004. (Incorporated by reference to Exhibit 10.9.5 to the Company’s Report on Form 10-K for the period ended December 31, 2004.)
10.9.6
Modification Agreement to Credit Agreement by and among Knight Transportation, Inc. and Wells Fargo Bank, dated April 13, 2005. (Incorporated by reference to Exhibit 10.9.6 to the Company’s Report on Form 10-Q for the period ended March 31, 2005.)

32



10.10
Knight Transportation, Inc. 2003 Stock Option Plan. (Incorporated by reference to Exhibit 1 to the Company’s Definitive Proxy Statement on Schedule 14A relating to its Annual Meeting of Shareholders held on May 21, 2003.)
10.10.1
First Amendment to Knight Transportation, Inc. 2003 Stock Option Plan. (Incorporated by reference to Exhibit 10.10.1 to the Company's Report of Form 10-Q for the period ended March 31, 2005.)
10.11
Credit Agreement between Knight Transportation, Inc. and Wells Fargo Bank, N.A., dated September 15, 2005. (Incorporated by reference to Exhibit 10.11 to the Company's Report on Form 10-Q for the period ended September 30, 2005.)
21.1*
Subsidiaries of the Company.
23.1*  
Consent of Deloitte & Touche LLP.  
23.2*  
Consent of KPMG LLP.  
31.1*  
Certification pursuant to Item 601(b)(31) of Regulation S-K, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002, by Kevin P. Knight, the Company’s Chief Executive Officer.  
31.2*  
Certification pursuant to Item 601(b)(31) of Regulation S-K, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002, by David A. Jackson, the Company’s Chief Financial Officer.  
32.1*  
Certification pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, by Kevin P. Knight, the Company’s Chief Executive Officer.  
32.2*  
Certification pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, by David A. Jackson, the Company’s Chief Financial Officer.  

*
Filed herewith.
 
Management contract or compensatory plan or arrangement.
 


33



SIGNATURES

Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.

   
KNIGHT TRANSPORTATION, INC.
     
 
By:
/s/ Kevin P. Knight
   
Kevin P. Knight
Date: March 7, 2006
 
Chief Executive Officer, in his capacity as such
   
and on behalf of the registrant

Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacities and on the dates indicated.

Signature and Title
 
Date
     
/s/ Kevin P. Knight
 
March 7, 2006
Kevin P. Knight, Chairman of the Board,
Chief Executive Officer, Director
(Principal Executive Officer)
   
     
/s/ Gary J. Knight
 
March 8, 2006
Gary J. Knight, Vice Chairman, Director
   
     
/s/ Timothy M. Kohl
 
March 8, 2006
Timothy M. Kohl, President, Secretary
   
     
/s/ David A. Jackson
 
March 7, 2006
David A. Jackson, Chief Financial Officer
(Principal Financial Officer)
   
     
/s/ Wayne Yu
 
March 7, 2006
Wayne Yu, Interim Chief Accounting Officer
(Principal Accounting Officer)
   
     
/s/ Randy Knight
 
March 8, 2006
Randy Knight, Director
   
     
/s/ Mark Scudder
 
March 7, 2006
Mark Scudder, Director
   
     
/s/ Donald A. Bliss
 
March 7, 2006
Donald A. Bliss, Director
   
     
/s/ G.D. Madden
 
March 6, 2006
G.D. Madden, Director
   
     
/s/ Kathryn Munro
 
March 8, 2006
Kathryn Munro, Director
   
     
 
 
 
Michael Garnreiter, Director
   
     
/s/ Richard Lehmann
 
March 6, 2006
Richard Lehmann, Director
   

 
 
 

 

34



 
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
 
 

 
 
To the Board of Directors and Stockholders of
Knight Transportation, Inc.
Phoenix, Arizona
 
 
We have audited the accompanying consolidated balance sheets of Knight Transportation, Inc. (the "Company") as of December 31, 2005 and 2004, and the related consolidated statements of income, statements of comprehensive income, shareholders' equity, and cash flows for the years then ended. Our audits also included the financial statement schedule for the year ended December 31, 2005 and 2004. These financial statements and financial statement schedule are the responsibility of the Company's management.  Our responsibility is to express an opinion on these financial statements and financial statement schedule based on our audits.
 
We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States).  Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement.  An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements.  An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation.  We believe that our audits provide a reasonable basis for our opinion.
 
In our opinion, such 2005 and 2004 consolidated financial statements present fairly, in all material respects, the financial position of Knight Transportation, Inc. and subsidiaries as of December 31, 2005 and 2004, and the results of their operations and its cash flows for the years then ended in conformity with accounting principles generally accepted in the United States of America. Also, in our opinion, such financial statement schedule, when considered in relation to the basic consolidated financial statements taken as a whole, present fairly, in all material respects, the information set forth therein.
 
We have also audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the effectiveness of the Company's internal control over financial reporting as of December 31, 2005, based on the criteria established in Internal Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission and our report dated March 6, 2006 expressed an unqualified opinion on management's assessment of the effectiveness of the Company's internal control over financial reporting and an unqualified opinion on the effectiveness of the Company's internal control over financial reporting.
 
/s/ Deloitte & Touche LLP

Phoenix, AZ
March 6, 2006
 

 

F - 1




 
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

 
The Board of Directors
Knight Transportation, Inc.:

We have audited the accompanying consolidated statements of income, comprehensive income, shareholders’ equity and cash flows of Knight Transportation, Inc. and subsidiaries (the Company) for the year ended December 31, 2003. In connection with our audit of the consolidated financial statements, we have also audited the financial statement Schedule II for the year ended December 31, 2003. These consolidated financial statements and financial statement schedule are the responsibility of the Company's management. Our responsibility is to express an opinion on these consolidated financial statements and financial statement schedule based on our audit.

We conducted our audit in accordance with the Standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audit provides a reasonable basis for our opinion.

In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the results of operations and cash flows for the year ended December 31, 2003 of Knight Transportation, Inc. and subsidiaries, in conformity with U.S. generally accepted accounting principles. Also, in our opinion, the related financial statement Schedule II for the year ended December 31, 2003, when considered in relation to the basic consolidated financial statements taken as a whole, presents fairly, in all material respects, the information set forth therein.

 
/s/ KPMG LLP

Phoenix, Arizona
January 21, 2004







F - 2


KNIGHT TRANSPORTATION, INC. AND SUBSIDIARIES

Consolidated Balance Sheets
December 31, 2005 and 2004
(In thousands)

   
2005
 
2004
 
Assets
         
 
         
 Current Assets:              
Cash and cash equivalents
 
$
18,809
 
$
23,155
 
Short Term Investments
   
2,278
   
2,202
 
Trade receivables, net of allowance for doubtful accounts of $1,677 and $1,708, respectively
   
79,848
   
58,733
 
Notes receivable, net of allowance for doubtful notes receivable of $49 and $63, respectively
   
241
   
171
 
Inventories and supplies
   
3,355
   
2,332
 
Prepaid expenses
   
7,156
   
5,215
 
Income tax receivable
   
-
   
3,216
 
Restricted cash
   
211
   
-
 
Deferred tax assets
   
8,533
   
7,493
 
               
Total current assets
   
120,431
   
102,517
 
               
Property and Equipment:
             
Land and land improvements
   
18,163
   
16,516
 
Buildings and improvements
   
34,482
   
26,944
 
Furniture and fixtures
   
7,518
   
6,610
 
Shop and service equipment
   
2,803
   
2,739
 
Revenue equipment
   
430,048
   
338,413
 
Leasehold improvements
   
378
   
833
 
     
493,392
   
392,055
 
               
Less: accumulated depreciation
   
(141,053
)
 
(104,125
)
               
Property and equipment, net
   
352,339
   
287,930
 
Notes receivable, net of current portion
   
344
   
77
 
               
Goodwill
   
8,119
   
7,504
 
Other assets
   
2,594
   
4,839
 
               
Total assets
 
$
483,827
 
$
402,867
 


The accompanying notes are an integral part of these consolidated financial statements.


F - 3


KNIGHT TRANSPORTATION, INC. AND SUBSIDIARIES

Consolidated Balance Sheets
December 31, 2005 and 2004
(In thousands, except par value)

   
2005
 
2004
 
Liabilities and Shareholders' Equity
         
           
Current Liabilities:
             
Accounts payable
 
$
7,464
 
$
5,044
 
Accrued payroll
   
5,452
   
4,558
 
Accrued liabilities
   
13,307
   
5,684
 
Dividends payable
   
1,713
   
-
 
Claims accrual
   
26,155
   
23,904
 
Other current liabilities
   
211
   
-
 
               
Total current liabilities
   
54,302
   
39,190
 
               
Deferred tax liabilities
   
76,597
   
72,660
 
               
Total liabilities
   
130,899
   
111,850
 
               
Commitments and Contingencies (Note 4)
             
               
Shareholders' Equity:
             
Preferred stock, $0.01 par value; 50,000 shares authorized; none issued
   
-
   
-
 
Common stock, $0.01 par value; 100,000 shares authorized; 85,666
and 84,995 shares issued and outstanding at December 31, 2005
and 2004, respectively
   
857
   
850
 
Additional paid-in capital
   
87,148
   
81,834
 
Retained earnings
   
264,923
   
208,333
 
               
Total shareholders’ equity
   
352,928
   
291,017
 
               
Total liabilities and shareholders’ equity
 
$
483,827
 
$
402,867
 


The accompanying notes are an integral part of these consolidated financial statements.

F - 4



KNIGHT TRANSPORTATION, INC. AND SUBSIDIARIES

Consolidated Statements of Income
For the Years Ended December 31, 2005, 2004 and 2003
(In thousands, except per share data)


   
2005
 
2004
 
2003
 
               
Revenue:
             
Revenue, before fuel surcharge
 
$
498,996
 
$
411,717
 
$
326,856
 
Fuel surcharge
   
67,817
   
30,571
   
13,213
 
                     
Total revenue
   
566,813
   
442,288
   
340,069
 
                     
Operating Expenses:
                   
Salaries, wages and benefits
   
162,778
   
133,822
   
104,756
 
Fuel
   
133,469
   
85,071
   
56,573
 
Operations and maintenance
   
34,449
   
26,369
   
20,345
 
Insurance and claims
   
25,159
   
22,319
   
16,558
 
Operating taxes and licenses
   
12,412
   
9,798
   
9,148
 
Communications
   
4,267
   
3,602
   
3,002
 
Depreciation and amortization
   
52,603
   
40,755
   
30,066
 
Lease expense - revenue equipment
   
183
   
3,047
   
7,635
 
Purchased transportation
   
31,787
   
29,342
   
25,194
 
Gain on sale of equipment
   
(2,803
)
 
-
   
-
 
Miscellaneous operating expenses
   
10,814
   
8,801
   
7,343
 
                     
Total operating expenses
   
465,118
   
362,926
   
280,620
 
Income from operations
   
101,695
   
79,362
   
59,449
 
                     
Other Income (Expense):
                   
Interest income
   
658
   
398
   
560
 
Interest expense
   
-
   
-
   
(881
)
Other income (expense)
   
361
   
-
   
(330
)
Total other income (expense)
   
1,019
   
398
   
(651
)
                     
Income before income taxes
   
102,714
   
79,760
   
58,798
 
                     
Income Taxes
   
(41,000
)
 
(31,900
)
 
(23,340
)
                     
Net income
 
$
61,714
 
$
47,860
 
$
35,458
 
                     
Basic Earnings Per Share
 
$
0.72
 
$
0.57
 
$
0.42
 
                     
Diluted Earnings Per Share
 
$
0.71
 
$
0.55
 
$
0.41
 
                     
Weighted Average Shares Outstanding - Basic
   
85,302
   
84,599
   
84,022
 
                     
Weighted Average Shares Outstanding - Diluted
   
86,647
   
86,459
   
86,036
 


The accompanying notes are an integral part of these consolidated financial statements.


F - 5


KNIGHT TRANSPORTATION, INC. AND SUBSIDIARIES

Consolidated Statements of Comprehensive Income
For the Years Ended December 31, 2005, 2004 and 2003
(In thousands)


   
2005
 
2004
 
2003
 
               
Net Income
 
$
61,714
 
$
47,860
 
$
35,458
 
                     
Other Comprehensive Income:
                   
Fair value adjustment of interest rate swap
   
-
   
-
   
383
 
Comprehensive Income
 
$
61,714
 
$
47,860
 
$
35,841
 


The accompanying notes are an integral part of these consolidated financial statements.



F - 6


KNIGHT TRANSPORTATION, INC. AND SUBSIDIARIES


Consolidated Statements of Shareholders' Equity
For the Years Ended December 31, 2005, 2004 and 2003
(In thousands)

   
Common Stock (a)
 
Additional
Paid-in
Capital (a)
 
Accumulated
Other
Comprehensive
Income (Loss)
 
Retained
Earnings
 
Total
 
   
Shares Issued
 
Amount
 
                           
Balance, January 1, 2003
   
83,575
 
$
835
 
$
73,057
 
$
(383
)
$
126,148
 
$
199,657
 
Exercise of stock options
   
772
   
9
   
2,214
   
-
   
-
   
2,223
 
Issuance of common stock
   
2
   
-
   
23
   
-
   
-
   
23
 
Tax benefit of stock option exercises
   
-
   
-
   
2,179
   
-
   
-
   
2,179
 
Fair value adjustment of interest rate swap
   
-
   
-
   
-
   
383
   
-
   
383
 
Net income
   
-
   
-
   
-
   
-
   
35,458
   
35,458
 
                                       
Balance, December 31, 2003
   
84,349
   
844
   
77,473
   
-
   
161,606
   
239,923
 
Exercise of stock options
   
644
   
6
   
2,075
   
-
   
-
   
2,081
 
Issuance of common stock
   
2
   
-
   
28
   
-
   
-
   
28
 
Tax benefit of stock option exercises
   
-
   
-
   
2,258
   
-
   
-
   
2,258
 
Cash dividend - common at $.02 per share
   
-
   
-
   
-
   
-
   
(1,133
)
 
(1,133
)
Net income
   
-
   
-
   
-
   
-
   
47,860
   
47,860
 
                                       
Balance, December 31, 2004
   
84,995
   
850
   
81,834
   
-
   
208,333
   
291,017
 
Exercise of stock options
   
669
   
7
   
2,786
   
-
   
-
   
2,793
 
Issuance of common stock
   
2
   
-
   
35
   
-
   
-
   
35
 
Tax benefit of stock option exercises
   
-
   
-
   
2,493
   
-
   
-
   
2,493
 
Cash dividend - common at $.02 per share
   
-
   
-
   
-
   
-
   
(5,124
)
 
(5,124
)
Net income
   
-
   
-
   
-
   
-
   
61,714
   
61,714
 
                                       
Balance, December 31, 2005
   
85,666
 
$
857
 
$
87,148
 
$
-
 
$
264,923
 
$
352,928
 

(a)
Common stock and additional paid-in capital have been restated to reflect 3-for-2 stock splits on December 23, 2005 and July 20, 2004.

The accompanying notes are an integral part of these consolidated financial statements.



F - 7


KNIGHT TRANSPORTATION, INC. AND SUBSIDIARIES

Consolidated Statements of Cash Flows
For the Years Ended December 31, 2005, 2004 and 2003
(In thousands)

   
2005
 
2004
 
2003
 
Cash Flows From Operating Activities:
             
Net income
 
$
61,714
 
$
47,860
 
$
35,458
 
Adjustments to reconcile net income to net cash provided by operating activities-
             </