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American Railcar Industries, Inc.(NASDAQ:ARII)

Q1 2014 Earnings Conference Call

May 1, 2014 10:00 AM ET

Executives

Jeffrey S. Hollister – President and Interim Chief Executive Officer

Dale C. Davies – Chief Financial Officer, Senior Vice President and Treasurer

Analysts

Justin Long – Stephens, Inc.

Derek S. Rabe – Raymond James & Associates, Inc.

Matt S. Brooklier – Longbow Research LLC

Mike J. Baudendistel – Stifel, Nicolaus & Co., Inc.

Eric Crawford – UBS Securities LLC

Tyson Lee Bauer – KC Capital

Kristine Kubacki – Avondale Partners LLC

Operator

Good day, ladies and gentlemen, and welcome to the Q1, 2014 American Railcar Industries Incorporated Earnings Conference Call. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session and instructions will follow at that time. (Operator Instructions)

I would now like to introduce your host for the today’s conference Mr. Dale Davies, Senior Vice President and CFO. Sir you may begin.

Dale C. Davies

Thank you. Good morning, I’d like to welcome everyone to the American Railcar Industries first quarter 2014 conference call. For those who are interested a replay of this call will also be available on our website www.americanrailcar.com, shortly after this call end.

Joining me this morning is Jeff Hollister, our President and Interim Chief Executive Officer. Our call today will include comments about the Railcar Industry, our operations and financial results. Following these remarks, we will have a Q&A session.

This conference call will include forward-looking statements, including statements as to estimates, expectations, intentions and predictions of future financial performance based on currently available information.

Participants are directed to our SEC filings and press releases for a description of certain business issues and risks, a change in any one which could cause our actual results or outcomes to differ materially from those expressed in the forward-looking statements. Also, please note, the company does not undertake any obligation to update any forward-looking statements made during the call.

EBITDA and adjusted EBITDA are non-GAAP financial measures we will discuss today are reconciled to net earnings in our press release, which was issued yesterday. The press release is available through the Investor Relations page of our website.

Now, it is my pleasure to introduce Jeff Hollister.

Jeffrey S. Hollister

Thank you, Dale, good morning to everyone. The industry reported the 24,050 railcars were we ordered and 13,954 railcars we delivered during the first quarter of 2014, producing a book-to-bill ratio of 1:7 to 1. Industry backlog was 81,927 railcars at March 31. Approximately 90% of the industry backlog is for tank and hopper railcars which are our primary products.

The FTR, Rail equipment outlook for North American railcar markets expects new railcar deliveries to be approximately 64,000 cars in 2014. Tank railcar deliveries remain historically strong levels due primarily to North American crude oil production.

Over the past several months there has been renewed momentum to effect changes to federal tank railcar design and construction standards for new tank railcars used to transport crude oil.

If these new regulations take effect they would likely impact future new rail car production rates and orders from our customers. Additionally, there is possibility that the new regulations will require retrofit and maintenance work to existing railcars which we believe our company would be well positioned to support.

However, the regulatory process and the scope of any potential regulatory change as well as the impact of any such change on our company remain uncertain. In addition to a strong market for tank railcars for the crude oil market we have also receive inquiries for tank railcars that service other products, inquiry activity for hopper railcars is growing, specifically for railcar servicing that sand and plastic pellet market, consistent with industry expectations we anticipate demand for hopper railcars will strengthened for delivery from 2015 to 2017.

We are extremely pleased with another quarter a strong earnings and operating results. Our consolidated operating margins at 20% for the first quarter of 2014 were 4 percentage points higher as compared to the same period in 2013, driven by the strength of earnings on tank railcar shipments and increase earnings from our railcar leasing segment.

We believe the outlook for the hopper railcar market is good. And we’re ramping up reduction at hopper railcar facility to fulfill committed orders for delivery later this year. We have limited availability at our hopper facility in the fourth quarter 2014. And we are currently expecting our orders for both hopper and tank railcar facilities into 2015.

Our backlog increased to 8,600 railcars as of March 31 which includes 2,800 and 40 railcars to be manufactured for firm lease orders.

We continue to focus on the growth of our lease fleet due to high demand and favorable lease rate because revenues and earnings related to the lease fleet shipment are recognized over the last, but not the least our quarterly result can vary depending on the mix of lease versus direct sale railcar that we shift during the giving period.

During the first quarter of 2014, we had higher mix of tank railcar added to our lease fleet at favorable lease rates. The investment in more tank railcar for our lease fleet it expected to provide significant future cash flow and earnings for our company.

Our railcar services segment continues to grow. And it experiencing increase demand for paying and letting work at the repair facility. Our results for this segment for the first quarter of 2014 were slightly impacted by four weather conditions cardamom efficiencies. By the end of the first quarter, activity for the railcar services segment has strengthened. And we expect this strength to continue through the reminder of 2014.

I’ll now turn it back to Dale for a discussion of the first quarter financial results.

Dale C. Davies

Thanks, Jeff. First quarter consolidated revenues were $182 million, consolidated revenues excludes $64 million of estimated revenues related to railcars built for our lease fleet.

Estimated revenues related to these railcars increased by $9 million compared to the first quarter of 2013, these are higher quantitative of tank railcar ship for lease, partially offset by lower quantity of hopper railcars ship for our lease fleet.

Consolidated manufacturing revenues were $154 million for the first quarter of 2014 compared to a 173 million for the same period of 2013. Primary reason for the decrease in revenues from the first quarter of 2013 was an increase amount of tank railcar ship for our lease fleet relative to the direct sales shipments and the timing of certain hopper railcar shipments.

We ship 1,130 direct sale railcars during the first quarter of 2014 and 480 railcars to our leasing segment customers.

This is compared to 1,370 direct sale railcars shipped during the first quarter of 2013 and 530 railcars to our leasing segment customers. Additionally we benefited from our purchasing and services agreement with ACF industries which provided 6 million of revenue during the quarter related to part sales and our share of profits, ACF is generating tank railcars they sale.

Our railcar leasing revenues for the first quarter of 2014 were $12 million compared to $7 million from the same period of 2013. This increase was due primarily to the growth in our lease fleet from 3,120 railcars at March 31, 2013 to 4,930 railcars at March 31, 2014. Additionally we saw higher average lease rates there in 2014.

Revenues for railcar is build for our railcar at lease fleet or not recognize in consolidated revenues as railcar sale but recognize monthly over the term of releases railcar leasing revenues.

Our railcar services revenue for both the first quarter of 2014 and 2013 were approximately $16 million. So there were a slight increased in revenues in 2014 which tripled to healthy demand for paint and lining work at our repair facilities.

Consolidated earnings from operations for the first quarter of 2014 were $37 million compared to $31 million for the same period of 2013. Our consolidated operating margins were 20% for the first quarter 14 compared to 16% for the same period of 2013.

The increase in earnings from operations was driven primarily by the strength of earnings on tank railcar shipments increased earnings from our railcar leasing segment and a decreased in our selling general and administrative expenses.

Railcar leasing earnings from operations were $6 million for the first quarter of 2014 compared to $2 million for the same period of 2013. This increase was due to the growth in the number of railcars in the company’s lease fleet and in increase an average lease rates.

The decrease in company’s selling general and administrative expenses was driven by decrease in share base compensation expense, while the company’s share base compensation expense is fluctuate with stock price past exercises stock have resulted in fewer sales outstanding, which is reduced the impact the changes in the stock price have on our quarterly sales expense.

During the first quarter of 2014 our stock price increased by $24 per share compared to a $15 per share increase in the same period of 2013.

However we saw those expenses included in selling general and administrative costs was $3 million in the first quarter of 2014 compared to $5 million in the same period of 2013. Adjusted EBITDA, which excludes share-based compensation, and other income on short-term investments, was $48 million for the first quarter of 2014. This was a 11% higher than the $43 million for the first quarter of 2013.

In January of 2014, we refinanced the debt for the leases to increase the borrowing capacity, extended term and lower the interest rate. As a result, we had a loss on debt extinguishment of $2 million for the first quarter of 2014 to write-off to remainder of deferred debt issuance costs incurred in connection with the original lease financing that was done in 2012.

During the same period of 2013, we had a loss on debt extinguishment of $400,000 related to earlier redemption of the remainder of our 7.5% senior’s unsecured notes that we redeemed in March 2013.

Interest expense was $2 million for the first quarter of 2014 compared to $3 million for the same period of 2013. The decrease is a result of savings realized on lower interest rate as part of the refinancing partially offset by higher average debt balance.

Net earnings for the first quarter of 2014 were $21 million or $0.97 per share compared to $18 million $0.84 per share for the same period of 2013. As of March 31st 2014, we had working capital of $245 million, including a $154 million of cash and cash equivalents.

Net cash used during the first quarter of 2014 was $7 million due to changes in various operating assets and liabilities, including account receivable and inventories due to the timing of shipment and customer payments. The refinancing of the lease fleet credit facility provided net cash of $122 million. As of March 31, 2014, we had $317 million of debt outstanding under our lease fleet credit facility.

On April 29, our board of directors, declared a cash dividend of $0.40 per share of common stock of ARI to shareholders of record as of June 17, 2014. It will be paid on July 1, 2014.

At this time, I’d like to turn it back to Jeff for a few comments about the outlook for the remainder of 2014 and our joint ventures.

Jeffrey S. Hollister

Thanks, Dale. We expect our manufacturing operations to remain strong in 2014, as a result of the continued strength of the tank railcar market and the ramped up production at our tank railcar manufacturing facility, which is running very efficiently. The increasing order inquires in the hopper railcar market are also expected to generate good operating margins and we expect to increase hopper railcar production for the remainder of 2014 to meet increases in hopper railcar demand.

Our March 31, 2014 backlog is at its highest levels since the first quarter of 2008. Additionally, we believe we are in a position to benefit from the potential demand for retrofit work that may result from any new tank railcar regulations. As of March 31, we had 2,840 railcars to be manufactured for lease in our backlog. The majority of which are expected to be delivered in 2014.

With the addition of these railcars, we expect our lease fleet to exceed 7,700 railcars by the end of 2014. Railcar leasing has become a significant segment and play the pivotal role in our long term strategy providing future cash flows over the terms of the railcar leases. We anticipate the recent refinancing of this lease split credit facility will continue to support the growth of this business.

Demand for railcar services remained strong. We are further expanding our railcar repair capabilities through the construction of our Brookhaven, Mississippi repair plan, which we expect to be completed during the second quarter and operational by the third quarter.

We continue to actively pursue new opportunities for our railcar services segment. Our two joint ventures, Ohio Castings and Axis produced railcar casting and axels that are critical parts for both tank and hopper railcars as well as other railcar types.

These joint ventures continue to provide benefits by supporting our assembly operations. The Ohio Castings joint venture is running well, producing components for its partners and we expected to increased production in the coming months to meet forecasted demand. The Axis joint venture is increasing production rate and expensed higher sales volume in the first quarter of 2014 compared to the first quarter of 2013, due to higher sales to third party customers. We expect results for these joint ventures will be driven by industry demand for all railcar types.

Now we turn the call back over to operator and we will be happy to take your questions. Operator, would you please explain how our participants can registered the questions.

Question-and-Answer Session

Operator

(Operator Instructions) And our first question comes from Justin Long from Stephens. Your line is open.

Justin Long – Stephens, Inc.

Thanks, good morning guys.

Jeffrey S. Hollister

Good morning.

Justin Long – Stephens, Inc.

I was little surprised by the third party order number in the quarter I think it was around 660 units and just given the strength in the industry order book particularly for hopper cars I was wondering if you could talk about what draw that lower market share in this quarter and was it primarily a result of you are being more priced disciplined or was there is something out so that is driving that?

Dale C. Davies

Yeah. We are taking a lot of what is release cars these days we think its good opportunity for us and so third party sales probably have gone down from what they were and historically but the lease sales have gone up substantially so I think that’s what you’ve seen our order book.

Jeffrey S. Hollister

I think I add to that just to add to that this Jeff you know it’s a little bit of mix issue from quarter-to-quarter as well. I mean in the first quarter I think you are going to see a little stronger mix on the lease side. The second quarter it might bounce back more on a direct sales side. We try to take these orders as they can available and fit them into our plants to beat the run the most efficiently based on the product types. So that you know we don’t give guidance you know that will bounce out a little bit from quarter-to-quarter between the percentages of lease versus direct sale.

Justin Long – Stephens, Inc.

Okay, great. That’s helpful. My second question was on the services business and I was wondering is there any way to frame up the excess capacity you have in your services business today? I know it’s really tough to quantify the potential benefit that you could see from regulation or retrofit they could be coming. But getting that data point might be helpful and coming up with the rough number.

Jeffrey S. Hollister

Most of our repair plans at this time it was a little soft starting out the year in January but here about the end of the first quarter most our repair plans are running pretty much at capacity on a one ship operation we are looking into plans to ramp some of those up into maybe two ships operation if the retrofit opportunities and the maintenance on the tank cars increase over the next few years.

So there should be some opportunities to increase. So I wouldn’t say doubled the capacity. But there are some incremental capacities as we could do it at several of our bigger plans.

Justin Long – Stephens, Inc.

Okay. Okay. That’s helpful. Another question I had on the regulatory front, I was wondering, if you could provide the number of DOT111 tank cars inflammable service that are in lease fleet today. And also if you add the number on how many of those are legacy cars built before October 2011.

Jeffrey S. Hollister

Well, in our fleet we don’t have any legacy tank cars built before 2011. And I don’t think we have – I am not aware of cars inflammable service that our legacy cars.

Dale C. Davies

Any legacy cars we would have some 1230 the newer tank cars that we’ve built over the last couple of years.

Jeffrey S. Hollister

But not older cars.

Justin Long – Stephens, Inc.

Okay. And none of them are inflammable service?

Jeffrey S. Hollister

And 1232 would be.

Dale C. Davies

Yeah.

Jeffrey S. Hollister

We don’t have the number of what we have been crude service yeah, we do have some others in crude service.

Justin Long – Stephens, Inc.

Okay.

Jeffrey S. Hollister

New design cars.

Justin Long – Stephens, Inc.

Okay. Got it. My last question and then I’ll pass it along. I was wondering if you had the dollar value of the backlog at the end of the quarter and how that breaks down between third party backlog and leasing backlog?

Jeffrey S. Hollister

Total value of the backlog at the end of first quarter is $978 million, because I don’t have split between leasing and third party customer at this point on my fingertips.

Justin Long – Stephens, Inc.

Okay, great. I can follow-up on that. I know you give it Q as well. I’ll leave it to that and pass along. I appreciate the time.

Dale C. Davies

Thanks.

Operator

Thank you. And our next question comes from Art Hatfield from Raymond James. Your line is open.

Derek S. RabeRaymond James & Associates, Inc.

Thanks. Good morning, guys. This is Derek Rabe on for Art.

Dale C. Davies

Hi, Derek.

Derek S. RabeRaymond James & Associates, Inc.

Hi. Just wanted to revisit your level of interest in expanding tank production capabilities just in light of what – some of the plants of your competitors might be and then also potential regulation from Canada or the U.S. which clearly are uncertain.

I know that last call you mentioned that you were not quite prepared to expand those, but we are definitely looking into that. Has that changed in light of some of the recent activities from your competitors or from Canada, or even yesterday’s derailment at Lynchburg, has anything changed on that front?

Dale C. Davies

Well, we have already made plans to like we mentioned it last quarter to kind of minimal investment to change the mix where we can do manufacture more jacketed cars at our facility as far as tank cars.

We’re also looking into ways, minimal investment that may increase capacity, somewhat into the 2015 and 2016 if demand merited. We have the ability I know that the tank regulations are concerns for everybody and with all the changes that are possibly come and all the different variables.

We have the ability to build renew tank regulations comes out there. I mean we’ve got equipment, we’ve got people train. So we are ready to react whenever the regulations come out and so we don’t see a disruption in our production process.

Derek S. RabeRaymond James & Associates, Inc.

Okay. Thanks for that. And then on the lease fleet I just want to take you back on the earlier question. You had mentioned that more tank cars had gone into your lease feet in 1Q relative to hoppers. Could you maybe provide a breakdown as the lease fleet composition between tank and covered hoppers and maybe other car types?

Dale C. Davies

Well, its primarily covered hoppers and tanks. But I think maybe in the quarter as we said it was heavier for tanks. And in the past I think we have said we were maybe 50-50 and we will probably get a little more than 50% on tanks now.

Derek S. RabeRaymond James & Associates, Inc.

Okay. Great. And then the timing of the covered hopper shipment that seems to be pushed out from 1Q, is that a 2Q event now and if not, when will that be pushed out too?

Jeffrey S. Hollister

Yeah. That’s – we built some cars just under 100 cars and they were finished in the first quarter, but due to some delivery issues the revenue won’t be recognized till second quarter, so approximately 100 cars.

Derek S. RabeRaymond James & Associates, Inc.

Okay. Perfect. And then my last question I will turn it over. What is the current capacity utilization at your hopper’s facility?

Jeffrey S. Hollister

Its probably – we are probably at half capacity right now and ramping up the second half of this year to be probably two thirds capacity. And then have the ability in the next year to even ramp up a little further if the hopper car demand stays like we think it’s going to be.

Derek S. RabeRaymond James & Associates, Inc.

Perfect. Thanks for the time guys.

Jeffrey S. Hollister

Okay.

Operator

And our next question comes from Matt Brooklier from Longbow Research. Your line is open.

Matt S. BrooklierLongbow Research LLC

Yeah. Thanks, good morning.

Jeffrey S. Hollister

Good morning, Matt.

Matt S. BrooklierLongbow Research LLC

So I just had a question I think Dale you mentioned it the ACF total contribution in the quarter was at $6 million?

Dale C. Davies

That’s a revenue number.

Matt S. BrooklierLongbow Research LLC

Okay.

Dale C. Davies

Yeah, that’s combination of our share-to-profit. But we also make a parts for them too. So we earned some profit on the parts and I think we made $2 million on the whole deal of parts and our share-to-profits for the first quarter.

Matt S. BrooklierLongbow Research LLC

Okay. I guess the expectation is that $2 million as you get run rate moving forward?

Dale C. Davies

It could be a little more than that because the deliveries were down a little bit in the first quarter, but I think they will pick up a little bit more in the second and third quarter, so it could be lower than that.

Matt S. BrooklierLongbow Research LLC

Okay and just with the really nice covered hopper order industry order that we saw in first quarter, you kind of talked to your plans for hopper production this year, but I’m just trying to get a sense for what hopper deliveries could look like in 2014, I think last call you mentioned you think they are going to be up versus 2013, but have your thoughts changed in terms of – I guess the magnitude of potential hopper deliveries given the pick-up that we saw in first quarter?

Dale C. Davies

Yeah, I think we – as Jeff mentioned, we have started ramping up the plan a little bit for second shift one of the lines early fourth quarter. That will pick up the volume a bit. So I think we say we will probably operate it about half capacity and we are going to move on up to may be two-thirds by the end of the year. So for the whole year maybe we will be at bit 55 or 60% of our capacity.

Matt S. BrooklierLongbow Research LLC

Okay. And then final question on the tank side, it sounds like you’re exploring the potential to produce more I guess, what are the options there? Is it potentially adding an additional line or lines at ECF that doesn’t sound like that that’s the possibility at your other facilities? Is it looking at opening a new facility, maybe just if you could provide some higher level color on how you are thinking about that?

Dale C. Davies

I think it’s really focused more on trying to deep bottleneck capacity constraints that we have in our existing facility. I don’t think we’re looking to open a new facility to manufacture tanks at this time, but there are certain bottlenecks in our production process. And certainly when you start producing all jacketed cars, if that’s what the demand is going to be and we believe it probably headed at that direction. There are certain bottlenecks in our current facility. We’re going to trying to deal with and open those up a little bit, and probably improve our efficiencies in the few areas. And actually just get more volume out of the assets that we have today with some investments, but it’s not major investment.

Matt S. BrooklierLongbow Research LLC

Okay. That’s helpful. Thank you.

Dale C. Davies

Yep.

Operator

Thank you. And our next question comes from Mike Baudendistel from Stifel. Your line is open.

Mike J. BaudendistelStifel, Nicolaus & Co., Inc.

Thank you. I wanted to ask about the duration of your leases. How long are either the new durations of the new leases, or the duration of the average leases?

Jeffrey S. Hollister

Well, we generally take leases that are five to seven years. Our lease really does some in there that are 10-year leases on specialty cars. And I think we have to see there, three but it’s not too many that three, but most time will probably be five to seven years leases.

Dale C. Davies

I mean, we look at it on a commodity – by commodity basis and if the rights are better and it’s a commodity that we think is going to be strong long-term we maybe willing to take a little less than average five year lease. But we do have some others once that are seven to 10 year that offset some of those.

Mike J. BaudendistelStifel, Nicolaus & Co., Inc.

Okay. And the lease fleet since you’ve expanding quickly I think you said 7,700 cars plus at the end of the year given ultimate target how large you like it to be either in absolute numbers or as a percentage of revenue?

Dale C. Davies

You know we’re going to continue to grow, and there is also we believe that you know the rates are attractive and it make sense for us to add more cars to regulate customers and good car types to put in there.

You know for us we like to maintain some balance between lease cars and sale cars to make sure that the company is generating profits and there is an opportunity to take advantage of the tax benefits of leasing. So we try to balance out that. But I think we really like the leasing business at this time and so I think we are going to continue to pursue our leases, that we think the right for us, and the returns are right.

Mike J. BaudendistelStifel, Nicolaus & Co., Inc.

Good. And notice in the industry data the covered hopper serge in order that people referenced earlier, you know lot of those with the smaller cubed covered hoppers, I was wondering if, do you have a preference for other car types that we think covered hopper’s have a little bit higher value or just any detail there would be great?

Dale C. Davies

One of our car types that we are proud of that we feel we have one of the quality cars and design car out of the plastic pellet cars. So there is several large plastic pellet enquiries that have been came out recently and we expect a few more over this year and next year that we feel like we will be have to take advantage of and there more of specialty car for the plastic pellet market.

But we’re going to get it, we think we’re going to get our shares the sand cars as well, there is several enquiries out there that we’re looking at, we’ve actually already taken some orders into Q2. So it will be mix between the smaller sand cars and some of the larger specialty cars.

Mike J. BaudendistelStifel, Nicolaus & Co., Inc.

Great. That’s very encouraging. And then I just want to ask on the SG&A with the share price having little bit less impact, if you could give us just any sort of framework first thinking SG&A going forward?

Dale C. Davies

Yes. I think, our SG&A – we’ve kind to get a run rate on normal SG&A without the SARs in there, that will be about some million a quarter some like that. But if you put the SG&A and there for SARs, it can be somewhere volatile, but as we said in our press release, its less volatile than it was because we have fewer outstanding SARs at this time.

So a dollar stock price is probably going to move, our SARs expense by 150,000 some like that. Our stock was to go up by couple of bucks that could be 300,000 of expense. If it comes down and it could similar type number, but there is some normal investing that goes along with this every quarter and for your purposes there maybe 400,000 quarter investing on the SARs that are outstanding.

Mike J. BaudendistelStifel, Nicolaus & Co., Inc.

Great. Thanks very much.

Dale C. Davies

Okay.

Operator

Thank you. And our next question comes from Eric Crawford from UBS. Your line is open.

Eric CrawfordUBS Securities LLC

Hey, guys. Good morning.

Jeffrey S. Hollister

Good morning.

Eric CrawfordUBS Securities LLC

Real quick. Just Matt covered hopper delivers, but I just still trying to figure out, are the majority of covered hopper deliveries going into the lease fleet or external customers for the balance of the year?

Jeffrey S. Hollister

Yes. Its kind of work, because some going to least feet, some outside. Jeff, do you have that.

Dale C. Davies

We have the big plastic pellet order that will be starting this second half of the year and that’s a direct sale order and but – and then on the – the sand car side the orders we’ve taken – it’s about a 50/50 split between direct sale and lease.

Eric CrawfordUBS Securities LLC

Okay. Great. That’s really helpful. Impressive margins in the quarter, can we expect those to creep a little bit higher as you increase the utilization at the covered hopper facility?

Dale C. Davies

Well, I think in percentage wise you are probably not going to see them creep higher, but in absolute dollars they should creep high as we ramp up the Paragould plant. I mean it’s no secret there is a hopper car margins aren’t what the tank car margins are, but they are acceptable and based on historic numbers, we feel comfortable with the hopper car margins. So we are focused with our strategy and been very disciplined on our lease fleet and our pricing strategy.

We are not going to get the huge big orders because we are focused on leasing strategy, but the awards we do get or going to have favorable margins and we are always driving to improve efficiencies at the plant. So on a percentage times, we are probably right around where we are going to be, but in total dollar should increase from a gross profit.

Eric Crawford – UBS Securities LLC

Got it. Okay, that’s great. Couple more from me I missed a little bit of the 2015, to 2017 growth comment made in the prepared remarks was that a covered hopper comment and was that sequential growth for the industry or for ARI or was that orders or deliveries could you just?

Dale C. Davies

I think it’s a general comment on industry deliveries. We believe the demand for the covered hopper is increasing and it will be stronger as we move into 2015, 2016, 2017 because that’s when we believe some of the plastic pellets cars will be needed. We have got one order that starting up this year, but we believe lot of the demand is going to be 2015, 2016 maybe 2017 for those plastic pellets cars. And right now there is good demand for the sand cars and I guess the question is, how long does that continues.

But I think our view is that hopper business is improving and the longer term deal is driven by the plastic pellet cars.

Eric Crawford – UBS Securities LLC

Thank you. And then lastly, you are expanding, you mentioned you expanding repair facilities, is that a sign that you think retrofit is likely or you just trying to be improving there?

Dale C. Davies

Well, I think we believe retrofit is likely. And the question is to what extent the work will be on each of these cars? So our expansion is why as anyway just because it’s a good geographical location and we believe this is going to be good work in that location. But I just said we have been evaluating how we could get more work through each of shops. And we think we have a way to do that and if the retrofit work there is a lot more work into the shops. So we are going to prepare to try to take some of that.

Eric Crawford – UBS Securities LLC

Great. Thanks so much, guys.

Dale C. Davies

Okay.

Operator

Thank you. And our next question comes from Tyson Bauer from KC Capital. Your line is open.

Tyson Lee BauerKC Capital

I am going to jump on the last topic I was just ask in regard to retrofitting and the availability of doing replacement of the DOT 111 and then of course there may be retrofits of designs that were produced thereafter.

The universally it’s a lot of big numbers there been run out there is that universally available to American rail or much smaller number because it’s unlikely you will be doing any kind of work on cars they are in lease fleets or something your other competitors, the manufactures that have lease fleet themselves. Give us a sense of what the opportunity is for American rail. If those car types are likely to be service by their own manufacturing companies?

Dale C. Davies

You know, I think some of these are going to depend on what the time window is for these retrofits to be done. They need to be done in the short period of time. I think almost every shops are going to be pretty busy doing this work.

And I would expect that the time it’s not going to be too long, but we don’t have good deal on that just yet. So, yes, I am sure car owner, they has a lease fleet and has shops who have a preference to put in their own shop. They are probably also want to do a little evaluation of what the freight cost is to get it to their shop versus one is closed by. It’s a major retrofit. I pay the freight and get it done on shop.

But there’s still a lot of cars out there. They are going to need work that they don’t belong to companies that have at least fleet and shops. There are big leasing companies; they are not in the manufacturing business, they don’t run repair shops and so we would expect piece of that business.

Jeffrey S. Hollister

This is Jeff. I have two more comments to that. We do have a fleet management group, so we do manage a group of cars for variety of different customers. So we would be pushing to move those cars to our shops. And then secondly, the customers, they are not going to want these cars out of service longer than they have to, so they are going to want these cars moved in and retrofit back into services quick as possible. So we think there’s a lot of opportunities with our shops across the country.

Tyson Lee BauerKC Capital

Is there a possibility where they categorize and talk about flammable service where is more than operational oriented regulations where maybe cars that are currently not suited for flammable service today, get taken out of that area, as new cars that are suited go into that area, so the total number is in question and what really needs to retrofitted or replaced?

Jeffrey S. Hollister

I think that’s possible because every owner is going to make decision about whether they want to spend capital to retrofit a car, or if they want to buy the new car and if they don’t retrofit the car they get maybe couple of choices, can they find another useful car at some other service or is it older and maybe approaching timeline should be scrapped anyway. So, I think some of these decisions have been made and there will be a cars that are order new car to replace some other cars and almost spend money on?

Dale C. Davies

When you taking tanks order now either contingencies of past – that are depending upon what the final regulations are so adjustment are made and that may excuse some of the ASPs because of those options that are would be compile with either Canadian or U.S. loss.

Jeffrey S. Hollister

I think we’re not our contracts say that we’re not build the car to the requirements the specifications that are required, so if that cause the cost for cargo up and we would have an adjusted price of the customer for there.

Tyson Lee BauerKC Capital

Okay. How you’re seeing a more of boarder demand increase across different rail types and how we seen return of any significance by some of the major leasing companies?

Dale C. Davies

I think we are seeing increase for different types of tank cars for more traditional services as well as cars for crude service on the hopper side has been search here up cars for same but I think we also seeing some other car types been requires on those two.

Jeffrey S. Hollister

What is your last question there I mean it’s where now secrete that crude oil car inquiries have drop down I think your based waiting on the new regulations to come out but Dale’s point we can built a variety of different tank cars that have Marmaduke facility including LPG pressure cars any type especially tank cars.

We’re seeing demand of those car types still out there. There is no more replacement demand. So we feel comfortable we’re going to get out our share of those and then when the regulations come out that we feel strongly that crude oil demand is going to pick back up. The hopper car we’ve talked about.

Tyson Lee BauerKC Capital

Last question that’s one to Jeff, you made the comment that you expect your margins to on a percentage basis kind of stay flat as suppose increase because the increase utilization, because of the product mix and some of the other factors, which would actually be an accomplishment, given that allow us tank cars and we’ve seen this in years past, a fairly low margin and the initial orders on hopper cars are certainly lot less than tank cars then you have ramp up cars on getting that facility up and going in third quarter.

Are we seeing that much increase in the tank margins to offset that product mix because one would think that on a percentage basis manufacturing margins would actually down because of those items because we’re not going to produce any more tank cars, we already add capacity?

Jeffrey S. Hollister

Let me go down a little bit as we – as you mentioned as we ramp up Paragould plant, but you got to get keep in mind that our backlog that we’re working through or orders that we’ve taken over the last six months to a year, and we’ve required stronger margins and processing on those. So some of that will offset, maybe lower margins that the hopper car plant. So I’ve got some strong objectives.

My guys with the plant do a great job. And they were always driving to keep efficiencies and margins as high as they can be. But you may have a little small depth as we ramp up Paragould, but by the end of the year we’re hoping to try to hold those margins.

Tyson Lee BauerKC Capital

Got it. Thank you, gentlemen.

Operator

Thank you. And our next question comes from Kristine Kubacki from Avondale Partner.

Jeffrey S. Hollister

Hi, Kristine.

Operator

Your line is now open.

Kristine Kubacki – Avondale Partners LLC

Good morning. Lot of the questions on the end markets have been answered. But I just wanted to ask a question kind of an emerging theme that’s been absent for the last few quarters I might say industrial companies we follow. Is seems like input cost or certainly a quick back up again whether it would be steel or others. Can you comment a little bit about what you are seeing out there on the input cost sign and is there any reason we should worry about maybe some margin compression from that?

Jeffrey S. Hollister

Well the good news is that our sales contracts do provide for the pass-through surcharges escalations or cost increases. So, I don’t think you going to see margin compression as a result, because we have ability to pass it through. I think steel cost there might be in certain areas some increases come in, but I don’t think we are seeing any real drastic cuts I have it anyway. But to the extend we do see that we do have the ability pass this through or to the customers in selling price.

Kristine Kubacki – Avondale Partners LLC

Okay, that’s helpful. And then just a question on there is a quite a bit of comments coming out of the even the NTSB. But there is also and it’s been over the last few quarter people talking about the corrosion issues specifically with the barking crude. Are you seeing any increase or uptake in increase on people already moving to put lining in there cars, existing cars already because of that issue?

Jeffrey S. Hollister

Yeah, actually I think there are several customers that have chosen to go ahead and spend the money to line his cars that’s what’s driving some of the increase at our repair shops they allow to paint and lining it’s the lining of these tankers we are evaluate our own internal fleet. And you pointed out based on the (indiscernible) that’s running these cars.

So we are in a process now evaluating whether we’re going to land our cars and our fleet and we have made that decision here. But if a customer request that we do have planning capabilities down at our Marmaduke plant to do some of those. And then we have repair shops that are doing them for variety of customers.

Kristine Kubacki – Avondale Partners LLC

Just generally, can you tell us how much that would, that cost for an individual car?

Jeffrey S. Hollister

It varies on a tap or coating you put in that, some are putting one coat system. Some are putting a two coat system, so it could run 5 to $8,000 per car.

Kristine Kubacki – Avondale Partners LLC

Okay. That’s helpful. Thank you very much.

Operator

Thank you. (Operator Instructions) And our next question comes from Steve Barger from Keybanc Capital Markets. Your line is now open.

Unidentified Analyst

Hi, guys. This is Ken in for Steve, this morning.

Dale C. Davies

Good morning.

Unidentified Analyst

Good morning. Hey, I may have missed it, but could you give any commentary regarding maybe just the timing on when you would expect this final ruling for tank car design will come out. Are you thinking maybe later this year or early on next year?

Dale C. Davies

Unless we really have a good fix on that, I’ve heard some comments about later this year, I’m guessing – we’re kind of thinking maybe the first of next year, but we’re hopeful, we’re hopeful to do later this year.

Jeffrey S. Hollister

My understanding on it, something will come out probably late summary or early fall and then there is a common period where everybody get the put and puts in to what is been drafted. So the final decision we think its going to be probably early next year to be honest. But I know some others who would probably argue they hope later this year and we ready to handle that as well as they come our center.

Unidentified Analyst

Got it. Thanks. And just one more actually, do you have any of those A515 cars in service in Canada new fleet?

Jeffrey S. Hollister

No, that’s before we put started our lease fleet here.

Unidentified Analyst

Great. Thanks.

Operator

Thank you. I’m showing no further questions in queue at this time. I now like to turn the call back over to Mr. Hollister for further remarks.

Jeffrey S. Hollister

We want to thank for joining us today and we appreciate your interest in ARI. We look forward to talking to you at the end of the second quarter guys. Thank you.

Operator

Ladies and gentlemen, thank you for your participation in today’s conference. This does conclude you program you may all disconnect. Everyone have a wonderful day.

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