CAI International, Inc. (NYSE:CAP)
The J.P. Morgan Aviation, Transportation & Defense Conference Call
March 05, 2013, 01:10 pm ET
Victor Garcia - President & CEO
Rick Shane - JPMorgan
Rick Shane - JPMorgan
Good afternoon. I am Rick Shane from the JPMorgan Specialty Finance Research team. It is my pleasure to introduce Victor Garcia, CEO and President of CAI International. As I think everybody in the room knows CAI is one of the largest lessors of shipping containers in the world. The company manages a fleet of just over 1.1 million TEU, 65% of that fleet is owned, 35% managed, that's a very significant transformation. We don't follow CAI at JPMorgan, but we have followed in the past or I followed in the past and going back three or four years ago, CAI owned only about 30% to 35% of their containers and so that's really been a big corporate initiative over the last three or four years that Victor has overseen and he has significantly changed the P&L with the company now generating quarterly leasing revenues of just under $50 million.
And with that I'll turn it over to Victor.
Thanks Rick. I've known Rick for almost six years now since the first day we went public, so when he was at another firm, so a good friend and in terms of understanding the industry, a good friend to the industry. So Safe Harbor statement, as usual.
So I am going to start on slide three, which talks about our business as an overview. We are an intermodal marine container leasing company. 95% of our assets are marine containers. We have about 5% of our assets in railcars which is a new initiative that we started last year; I will take a little bit about that. As Rick mentioned, we have 1.1 million TEUs which is a significant increase from where we were just a few years ago, representing [$1.6 billion] in total asset value and approximately two-thirds of that is own by us, one-third own by a third-party, average age is about 7.1 years, making us the fifth largest container leasing company up from number seven just a couple of years ago, with about 7% market share.
We lease our equipment to all the major shipping lines around the world. We have overall 280 customers, but I would say, the vast majority of our revenue comes from the top 30 global shipping lines which is where most of the volume is and we've had a long standing relationships with all these customers really since our inception back in 1989. We have had significant growth over last couple of years. Last year was our biggest investment year where we invested over $500 million which has resulted in us containing to report pretty steady and significant revenue cash flow and earnings per share growth. Market cap is about a little over $600 million; insider ownership is approximately 24% which is largely represented by our Chairman Hiro Ogawa, who founded the company back in 1989.
Moving on to page four, overall what we are trying to do in our business is to continue to grow the business, but have long term profitable consistent cash flows. The way we are focusing on being able to achieve that objective is by focusing on long-term leases, our typical lease life is five to eight years on an asset life that is expected to be about 15 years. So we can usually get above 60% payback on our initial investment within the first lease period.
We are trying to, because we have an overall fixed customer base, we are trying to use our existing platform with the people we have to continue to leverage off of that, so the scalability of the business and being profitable through the business cycles, so with long term leases, focusing on the global carriers, which we think are the strongest carriers, we expect and hope to be able to work through the business cycle.
Overall, for the market, we are optimistic about the opportunity in 2013. We think that the trend that we have seen last couple of years really since the financial crises where shipping lines are leasing more boxes than they are owning is going to continue this year and the reason for that is because capital budgets remain constrained; European banks continue to lend less to shipping companies than pre-crises levels and we don’t think those trends are likely to change, which means that the expected market share from the leasing community to be up from what it was historically. And we expect somewhere around 60% of the boxes to be purchased by the leasing community.
That coupled with the fact that we think trade growth overall is going to grow about 6% which is up from 4% last year, should also give us plenty of market opportunities and we are starting off from a base of very high utilization, we are coming off of seasonal lumpiness in the leasing companies including ourselves reporting utilization in the 90% plus range which means that there is very limited additional equipment available and so most of the incremental capacity is going to come from new equipment additions.
Touching on the page five, as I mentioned before, we had very significant growth as a result of our investment last quarter. We reported $70.4 million of net income which was a 35% increase from the same period we had in 2011, and 5% above what we had in the third quarter, so sequentially we are continuing to grow the business. And you can see the same thing on the rental revenue side where we increased 43% and we have been able to do this while still maintaining very strong margins, so if you look at it from an operating income margin standpoint, we had 59% operating income margins and net income after tax was 35%. So not only are we getting growth, but we are getting with good margins and those margins are supported by the fact that we have a lot of long-term business. Cash flow was about $160 million on a trailing 12 month basis; run rate is about a $187 million.
As I mentioned last year, we had our biggest investment and reinvestment of over $500 million in containers. We are very selective and how we invest our capital; only about half of our equipment went into new boxes, the other half was evenly split between buying back our own portfolios which Rick mentioned we have been active in buying back managed portfolios and from sale lease back opportunities, and we look at that because those were the highest return opportunities that we could find and that’s the way we are always looking how to deploy our capital. We have a diversified customer base, we have some product diversification but where we are going to deploy our capital is going to be the most important is where should we get the highest return for the risk we assume and we will continue to do that over the course of this year.
In December, we raised $52 million of equity in equity offering because we saw after we had completed a number of asset purchases in 2012, we saw additional opportunities which we are expecting to close on the first quarter, which we have since announced that about a $100 million of investment in either sale lease backs or buyback portfolios we are going to be closing this quarter and it gave us the capital to be able to do this.
We are happy that we were able to achieve that while also bringing a lot of new investors and improve the float of our shares on an average daily basis. We've also completed a couple of debt offerings which have been done at very attractive rates. We have historically been primarily a floating rate issuer. We've done a couple of debt offers, our most recent was a fixed rate funding at 3.47% which allows us to go from floating to fixed without taking any kind of earnings and we hope to do more of that over the coming year.
Page six talks about our overall infrastructure. We have our headquarters in San Francisco. We have offices throughout Europe as well as Asia. Our main office in Europe is in the UK where our head of marketing is. It is our largest overseas office.
And then in Asia, we have offices, small offices in all the major areas where either there's a significant amount of export or trend shipment locations. So we have offices in Korea, Taiwan, China both in Hong Kong and Shanghai, we have offices in Japan, Singapore so where we have customers and we have people.
You could see some of our major customers we deal with all the major shipping lines. We've had long standing relationships. We talked to them on a literally a daily basis. When you have as much equipment as we have out to them there's always reason to talk to our customers and we do it to get a sense for where the market is going and to try to find opportunities.
So next slide page seven talks about overall container trade growth. The top line chart which is the red shows overall container trade growth. This has been shown on a number of different presentations but this prior to the crisis was an administrative group sequentially about 9% to 10% a year and never had seen a down period.
2009 was the first time that we have actually seen contraction in the world of containerized trade growth. It rebounded in 2010 and has continued to grow since then. I would say that the expectation that we have for this year although better than last year is that world containerized trade will be below the trend line.
However, with ongoing sector shift between ownership to leasing, we think there will still be a lot of investment opportunity for us and as the world economies improve, we expect that world containerized trade growth will move back to that 8% to 10% overall growth.
Page eight has four different charts, and I would like to point out a few things in each one of them. One is when you look at the upper left hand side; you can see the utilization chart. The last we've had a decline in utilization in any significant way was in 2009. We went from essentially full utilization around 96% to troughing as an industry in the mid 80s.
We were able to do this over a period of from peak to trough of around six to nine months. By the end of the third quarter of 2009, we’re already starting to see a moving up and by the middle of 2010, we were at full utilization.
Now I note that for two reasons. One is in an industry down cycle, if you assume a recession last 15, 12 to 15 months, we usually curtail that three months on the front end and three months on back end. Three months on the front end because it takes a while for our customers to realign all of their equipment needs and so it takes them that much time to just equipment organized to bring it back and then when the markets start to trading up, we're the marginal available equipment.
So our equipment starts to get picked up very soon. So our downturn tends to be fairly sharp, particularly in an overall growing market with a significant amount of replacement need. And then, when you would look at our longer term basis, we're very optimistic about the opportunity within our space.
If you look at the bottom left hand side chart, and you look at the blue line graph, it depicts the price of a 20 foot dry back container really since 1990 and if you look at 1990, we're almost paying $2,800 for a box and today we're probably paying around $2,300. That box price consistently came down up until the year 2000, which was part of a deflationary environment that included moving production of containers down to lower cost areas.
Where we have seen since that period of time is that there had been a steady but jagged increase in box prices and it's due in fact to the fact that we're already in a low cost area that container prices which has significant commodity cost in it, will be supported by rising commodity cost.
If you look at the price of a steel box, steel represents about 60% to 65% of the box price, with lumber representing another 10%. So 75% to 80% of the container cost is just on those raw materials. We expect that those commodity prices will go up overtime and if we are correct, we will expect the container prices to go up, with rise in container prices, new lease rates we expect will go up, which will mean that the existing assets that we have will be more valuable and we will be able to released at higher rates that will be more desirable by our customers.
And that should allow us a high utilization and the same environment that we are in right now which is very attractive secondary prices. I just quickly mention the other two slides; we serve in an industry that's highly cyclical, shipping lines are notorious for being cyclical, significant supply demand shifts. The reason they are cyclical because they manage to make long range investment projections and where it might take four years to delivery of a ship and they have contracts with their customers that probably are 30 days in duration.
Whereas for the leasing community, we have an order cycle that’s about two months, and we can put those assets on five to eight year contracts. So when you look at the performance of the leasing community which is the upper right hand chart, compared to the performance of the shipping like where you can see that there is although we serve our customer base whose earnings are volatile, our performance has actually been very consistent and as fundamental reasons for that and where again you see that the pictures that difference between our market and shipping line market.
If you look on the lower chart, you can see that supply and demand of containers which is the yellow line and blue shade area have been largely in sick that’s because again of the order cycle. We will not buy containers if there is demand for container, there is no need to store containers and when you get the market downturn all you have is additional containers. So we can recalibrate when I say we not only we as a company but historically we as an industry.
We calibrate our investment based on demand, whereas you look on the ship side containership there has been much more growth there, its much more of the market, the order cycle is completely different and so you had this location in the quantity of ships versus the demand for ships, and so that is put pressure on fair rates.
Page 9, summarizes some other things that we talked about, we think there will be solid trade growth, limited buying by the shipping lines, we are starting up from a position of having tight supply demands to begin with and we done a result of we think and leasing becoming pavement and with increase in trade growth, we should continue to see good demand going into 2013.
The next slide really picks our fleet we are primarily dry (inaudible), 90% of our equipment is dry van containers which is consistent with what the industry as a whole. 90% of all dry vans 90%, of all containers are dry vans, when you look on a cost equivalent basis which is what we have termed to our CEU, about 76% of our equipment is on dry vans, 17% in refrigerated containers and 6% in (inaudible). Our primarily long-term lessor, 70% of our equipment is our long-term lease and finance leases represented about 6% with 23% we term short term leases, now some of those short-term leases don't have the fix end date but customers hold down to that equipment for very long period of time, So they are willing to pay a premium for the flexibility but it is not like that they are just looking at 30 day rental contract.
Below shows our fleet mix overtime which again shows that we've been increasing our road percentage significantly. Today again we are 66% of our fleet is owned and what the benefit is of owning your own fleet is not only you get the benefit of all the cash flows, but you are bringing into the company contractual cash flow. So we are able to build upon each quarter what we did in the previous quarter.
Slide 11 depicts our market share. Again we are 7% of the market and we expect to be able to continue to increase market share. We are going to do so by continuing to focus on our customers. We think availability of equipment is a key differentiator. So having the capital available and making the commitments on new investments are keys to success, and so we have the resources to be able to succeed. When you look at some estimates of what the amount of capital that needs to be invested in the shipping business this year for containers, if you just use an estimated number of TEUs overall there's a population of containers of about 30 million TEUs, replacement by itself is going to represent 1.2 million to 1.5 million TEUs with growth representing another 1 million to 1.5 million.
If you assume in 2012 about 2.6 million TEUs which is the estimate of what was produced that was a $6 billion investment. That was in the year where we had 4% trade growth. If we start projecting forward now off a bigger base you are looking at more significant trade growth, we would expect that there could be an investment level for containers of $7 million to $8 million which is significant. So where are we going to be focused primarily organic growth. We are going to continue to focus on buying new containers. We also consider sale lease back containers as organic growth and we are buying containers from our customers. We have announced that we are buying some portfolios from our managed fleet. Those are the most attractive investments that we could find and so when there's opportunities to do that we will do that.
We will look at corporate acquisitions, but it’s not a major focus for us. We really need to supplement what we do and we need to maintain balance sheet strength in order to be able to execute on all this. From a product standpoint, we are focusing on refrigerating containers, road trailers which is a specialized piece of equipment, European special (inaudible) containers and we have made some investments in railcars. Slide 13 shows our financial highlights. You can see as we have continued to invest in our business we've had the revenue and earnings cash flow come through. So we've had consistently quarter-over-quarter revenue growth both in rental revenue and total revenue.
On a cash flow we've been able to maintain our EBITDA margins, most recent quarter 94% and our net income margins in the mid 30s. So even though we are the fastest growing of all of our peer group which in the following slide you can see, year-over-year we've had by far the fastest growth both in leasing revenue and overall total revenue but what we are really proud is that we've been able to do this without sacrificing margins. We are not going to try to grow market share and grow our business by cutting price, and so you can see our operating income margins are the highest amongst our peer group. Last year our pretax margin was amongst the highest and our return on equity. We've driven about what we can bring in terms of return to our shareholders and so we are going to continue to focus on areas of enhancing our margins and return on capital.
Page 15 shows our capital structure. We historically were primarily bank funded, but we have commenced a focus of increasing our institutional debt. So we've done a couple of transactions last year where we have done fixed rate fundings with longer-term debt. We think the long-term fixed rate market today is very attractive. So we're going to continue to focus on that. We will have a combination of bank debt and institutional debt. We would hope overtime to keep our floating and our fixed rate debt somewhere around 50:50 to keep a good balance between that.
So with that, I’ve done with my presentation. I would be happy to take any questions.
We depreciate all our assets based on an estimated, the majority of our assets, we depreciated are over 13 years and we have fixed residual values. Our residual values we tend, we believe to be conservative estimates. So on a 20 foot container today we depreciate it down to a $1050. That compares to our actual recent experience of getting anywhere from $1,400 to $1,600 on used containers and that’s on average we realize $1,500 dollars. So that’s it. These assets actually, although we depreciate over 13 years, could go as long as 20 years. And we're actually selling equipment more on average closer to 15 years. So these have long lives associated with it.
Could you comment on how it would impact your business if interest rates were to rise significantly and somewhat of a related question, if there is rampant inflation in the world how does that affect your business, is inflation good for you or if not good?
Sure. If interest rates rise obviously our funding costs rise, because we have some floating rate done. We would expect that in rising interest rate environment lease rates will go up too, even and so as assets come off lease we should be able to reprice into the new environment. So a general rise in the interest rates likely will cause lease rates to rise along with it. That’s kind of the basic of how the business goes. Longer term basis, we have long life assets, as I mentioned before inflation by itself, if inflation causes container prices to rise, that will be a strong back drop for us because again we get higher residual values, we will get higher release rates, we should keep high utilization because of that. Some level of inflation in terms of the underlying cost of the equipment is good for our business; it should create some tailwind in our business.
What’s driving the lease period of five or six years and why is that taking such a long time relative to what I should return overtime is?
Well, it’s where I think we as an industry and our customers have found really little value. For us to make a 15 year or 12 year investment and get a one year contract, we have to price up for that and it doesn't make a lot of sense for us. So it’s been the balance you are not banks so we can't do straight full payout leases and be competitive with banks. It’s been in that in between period. Now some shipping lines expect that they are going to keep the assets of much longer period of time, so they would rarely get slightly lower lease rate but have a longer duration and we work with those, we prefer longer leases. We can lock them in and not have to worry about remarketing the assets. So it’s been more that sweet spot where it makes sense for us, where we are not taking too much releasing risk and our customers see value in the business.
Victor, one other things that was observed before the crisis was that if you listen to managements they were talk about very rational (inaudible) large players in the industry but pre crisis there was some aggressive pricing by smaller players and I think that was the function of just lower operating cost due to some scale issues, but the first time in listening to calls this year we started to hear a little bit about lease rate compression, are you starting to see smaller players come back into the market or there is something that is driving that dynamic?
We are not saying new players coming, so we are actually less competition from smaller players, a lot of the smaller players have investor owned funding, so third party investor who want to invest in hard assets, that market has not really recovered since the 2009 crisis, so there is a whole significant segment of capital that use to come into the sector that is no longer available. And it sense also not to be the most efficient capital. Now, if you are not the one who is putting capital at work, you maybe willing to do some aggressive deals as was done in the past, that's really not the dynamic there.
Today, what we are seeing is more of the larger players last year. We are aggressive in certain segments. So in the refrigerator segment was very aggressive. We decided not to put a lot of capital there but my feeling is that that margin compression that we saw last year is (inaudible). We will have to see how it goes but there was just everybody seemed to be wanting to put capital to work in the refrigerator segment and so we scale back and we put our capital elsewhere.
Rick Shane - JPMorgan
Its interesting observation, we heard a lot of companies intending to gain market share in that sub segment. So the other question I have is you talked about the market growth dynamics and the relatively high potential for retirements of containers this year and the implications for higher overall investment for the industry talking in the $7 billion to $8 billion range. Is your strategy to try to continue to gain market share against that backdrop or are you going to, are you satisfied with where you are right now in terms of market share?
Well, our focus isn't necessarily market share. I mean we think market share is the end result of a lot of focused marketing effort and I'll give you an example. Half of our investment last year did not help us with market share. When you buy back your own portfolios, you are moving it from one ledger to another. It didn't do anything but it was the best return opportunities by far the best return opportunities we had, that's where we are going to put our capital.
When I look at market opportunities and you know, we have had a very focused strategy, really since coming out of the crisis of focusing on the top shipping lines and so we really try to figure what's the value proposition that we give to our customers, how do we gain market share with these customers. And one is just a dedicated commitment to it.
So we have spoken to our customers in bigger volumes, we have committed equipment in bigger volumes and we've had it available when they need it and that has been a winning successful formula, its what our customers expect and we are not going to, its hard actually to move market share from year-to-year because of the amount of capital in the business but you start incrementally making significant moves up and I think over time if we continue this effort, we can see ourselves moving up to 12% to 13% market share.
It takes a lot of capital to be able to do it but it’s a significant growth opportunity for us. If you look at the top three or four players they are all like that kind of arranged. It’s not going to have an overnight but we think we can with a consistent focused strategy we should be able to move in that direction.
Rick Shane - JPMorgan
And if you would for the audience, I think it’d be really helpful you talked in your comment about buying back your own equipment, can you explain that, can you talk about the historical rationale for why you didn't own the equipment and why that shifting impact on P&L because I think that that underlies what I had talked about in the beginning about the transition from managed to owned and also if you could perhaps talk about what the opportunity in 2013 for that is as well?
Sure. We manage our capital in the same way private owner would manage his capital. We try to make sure we get, as I mentioned, the highest return as possible. So in pre-crisis time, we were able to put portfolios together and sell those lease portfolios to third-party investors. We would get 12% to 13% gains, cash gains when we sold those portfolios. It was a great way to supplement our equity base highly accretive and we thought we can get sell the container grow our ownership while still doing this, and if those opportunities were to come back, I think we would consider. We like to grow our managed fleet if it makes economic sense.
What we've seen is post-crisis is that some of these portfolios that are now getting towards the end of their stated lives, the proposal coming up for sale and because of the financial crisis in Europe, investors are happy with being able to make back some what we term modest returns and we're in the best position to buy those assets. They are in our fleet. We have a history with those assets. We know the condition of the assets, our contracts do not allow for the assets to be sold to competitors. So it takes another segment out. So we're in the best position and we have the capital available. So being able to buy, you know, to write a check quickly, it allows us to buy the assets at an attractive price and so we've been able to do that and it's worked out to be a tremendous opportunity for us.
Rick Shane - JPMorgan
Any other questions from the audience?
Not one that we've. I am sure there are people who lease in to the energy market, little segments there. Clearly the shale opportunities are huge opportunity, but it would be outside of what we're doing. Great. Well I appreciate everybody’s interest and time thank you.
Rick Shane - JPMorgan
Victor, thank you. Thank you everyone.
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