CAI International, Inc. (CAI) Q4 2019 Earnings Conference Call March 5, 2020 5:00 PM ET
Timothy Page - Chief Financial Officer
Victor Garcia - President & Chief Executive Officer
Conference Call Participants
Brian Hogan - William Blair
Michael Webber - Webber Research
Ladies and gentlemen, thank you for standing by and welcome to the CAI 2019 Q4 Earnings Conference Call. At this time, all participants are in a listen-only mode. After the speakers' presentation, there will be a question-and-answer session. [Operator Instructions] Please be advised that today's conference is being recorded. [Operator Instructions]
I would now like to hand the conference over to Timothy Page, Chief Financial Officer. Thank you. Please go ahead, sir.
Good afternoon. Thank you for joining us today. Certain statements made during this conference call may be forward-looking and are made pursuant to the Safe Harbor provisions of Section 21E of the Securities Exchange Act of 1934 and involve risks and uncertainties that could cause actual results to differ materially from our current expectations, including but not limited to, economic conditions, expected results, customer demand, increased competition and others.
We refer you to the documents that CAI International has filed with the Securities and Exchange Commission, including its Annual Report on Form 10-K, its quarterly reports filed on Form 10-Q and its reports on Form 8-K. These documents contain additional important factors that could cause actual results to differ from current expectations and from forward-looking statements contained in this conference call.
Finally, we remind you that the company's views, expected results, plans, outlook and strategies as detailed in this call might change subsequent to this discussion. If this happens, the company is under no obligation to modify or update any of the statements the company made during this discussion regarding its views, estimates, plans, outlook or other strategies for the future.
I will now turn the call over to our President and Chief Executive Officer, Victor Garcia.
Good afternoon, and welcome to CAI's fourth quarter and full year 2019 earnings conference call. Before I begin, I would like to take a moment to address our strategic alternatives review process. As we previously announced, CAI has been working with Centerview Partners as its strategic financial adviser to explore and evaluate strategic alternatives to maximize stockholder value. As we noted in our press release today, that review is ongoing and we will not be sharing any additional information on that topic today.
With that, I'll turn to earnings. I'll start by sharing our results for the quarter then I'll walk through our progress and outlook for each of our business segments, before turning the call over to Tim to discuss our financial results in more detail.
For the fourth quarter of 2019 and full year 2019, our results have been supported by continued strength in our fleet utilization. The average utilization of our own container fleet during the fourth quarter was 98.5%, as compared to 98.6% in the third quarter and 98.3% currently.
We reported container lease revenue of $73.5 million in the fourth quarter, a 3% decrease from the third quarter due to limited investment during the quarter and the extension of two large operating lease contracts that converted to finance leases. While the lease extensions had no impact on cash flow, the GAAP accounting treatment resulted in a reduction in overall revenue.
For the fourth quarter, we reported $9.5 million or $0.54 per fully diluted share attributable to CAI common stockholders from continuing operations, compared to $0.68 in the third quarter of 2019. Our operating results in the fourth quarter were impacted by an accounts receivable reserve of $5.2 million related to one of our shipping line customers. This customer has fallen behind on its regular payment schedule, but continues to operate and has made intermittent payments.
We're closely monitoring the customer's efforts to restructure and strengthen its financial position. However, we have determined that the best course of action is to fully reserve our outstanding receivables. We are proactively working with the customer to reduce the number of containers we have on lease to them. We are also working with them to implement schedule to bring payments back in line with our existing agreements.
To contextualize the potential go-forward impact of this, we have approximately 30,000 units on lease to the shipping line and are currently building 1.2 million per month. Until the situation is resolved, lease revenue will be impacted by -- as our credit policy in these situations is to only recognize revenue as it's received.
The developing coronavirus matter has resulted in the extended closure of Chinese manufacturing operations, including container manufacturing and reduced cargo exports out of Chinese ports. While manufacturing in China is slowly resuming and exports from the region are increasing, we expect container shipping activity overall to be down during the first half of 2020. While we expect a rebound in production and increase in cargo demand the economic impact overall remains uncertain at this time. We are engaging in ongoing discussions with our customers regarding potential impacts to their operation and outlook for the remainder of the year.
CAI has positioned itself for the slower demand by limiting investment commitments over the past year, and focusing on enhancing its free cash flow. We're continuing to drive improvements to our rail business as well. While the overall market for railcar leasing has experienced modest customer demand, during the past three months we have made substantial progress in reducing the level of our idle railcars.
During the fourth quarter, we entered into lease commitments representing nearly 30% of our off-hire fleet, and expect most of those – these railcars will be placed on lease during the first quarter of 2020.
For the three months ended December 31, 2019 rail segment net income from discontinued operations was $1 million or $0.06 per fully diluted share. Despite a very challenging freight market the performance of our logistics segment improved in the fourth quarter as well. We reduced our overhead costs and developed customer relationships with highest potential for improved margins. In the fourth quarter of 2020, we reduced personnel in our logistics – international logistics operation, which was an important step towards profitability.
To close in the fourth quarter, we continue to take strategic steps to strengthen our business in light of today's challenged market conditions and other headwinds. We are focused on improving our performance by increasing utilization, disposing of low-yielding assets and reducing operating costs. The company's financial position remains strong and we continue to benefit from high levels of committed cash flow. We are currently working to further optimize our business and position our company for the future.
With that, I'll turn it over to Tim Page, our Chief Financial Officer to review the financial results for the quarter in greater detail.
Thanks, Victor. Good afternoon, everyone. Total revenue in the fourth quarter was $103 million as compared to $106 million in Q3, a decrease of 2%. For the full year 2019, total revenue was $417 million compared to $396 million in 2018, an increase of 5%. Container lease revenue in the fourth quarter was $73.5 million, 3% less than Q3 as a result of slightly lower utilization in the fourth quarter and the conversion of some leases from operating lease treatment of finance leases.
As Victor mentioned in his remarks, the GAAP lease treatment has no impact on our cash flow. As a result of this conversion of set of recording lease revenue and depreciation expense for an operating lease on the income statement, we are now recognizing finance lease, interest income, as part of our container lease revenue, and the principal payment portion of the cash flow on finance leases is recognized in the cash flow statement.
For the full year 2019, container lease income was $299 million as compared to $285 million in 2018, an increase of 5%, which primarily reflects the full year impact of new leases that were put in place during 2018, offset by slightly lower average utilization in 2019 as compared to 2018.
We expect Q1 2020 container lease revenue to be sequentially lower than Q4 revenue, primarily due to the cash basis revenue recognition associated with the shipping line customer Victor discussed in his remarks and because there's one less calendar day in the quarter than in Q4.
Logistics revenue in Q4 was $29.9 million as compared to $30.3 million in Q3. This 1.2% decrease is better than what we had anticipated as the seasonal decline between Q3 and Q4 is typically more pronounced. Logistics gross margin in Q4 improved to $3.4 million or 11.5% increase versus the $3.2 million – excuse me, $3.4 million or an 11.5% margin versus $3.2 million, or a 10.7% margin in Q3. We are optimistic that we can maintain this trend of gross margin improvement by continuing to apply our strategy of rationalizing the types of business that we accept to focus on and markets where we have the most robust carrier network.
EBITDA for the logistics business in Q4 was roughly breakeven as compared to a loss of $0.6 million in Q4 of last year and a loss of $0.3 million in Q3. The improvement in EBITDA is a direct result of the strategic targeted overhead cost reductions we made at the end of Q2. Those reductions had little or no impact on top line revenue.
Revenue and margin trends in January and February have been encouraging but results for the quarter will be dependent on March. The uncertainty surrounding the impact of the coronavirus on the economy limits our line of sight into March results.
Container depreciation expense during the fourth quarter was $27.5 million, 1.8% lower than the third quarter and reflects the conversion of the two operating lease contracts and finance leases, ongoing equipment sales and limited new investment.
Given the low level of recent container investment, we expect depreciation expense in Q1 to be at or slightly below the Q4 level. Gain on sale of containers was $1.6 million in the fourth quarter. We expect a similar result in Q1.
Storage and handling costs were $4.9 million in the fourth quarter slightly higher than the $4.7 million reported in the third quarter. This is consistent with the utilization trend during the quarter. And based on utilization trends, we expect a slight increase in storage handling and related costs in Q1.
SG&A was $14.6 million in the fourth quarter of 2019, an increase of $1.9 million from the third quarter. Our fourth quarter SG&A includes the accounts receivable of reserve of $5.2 million Victor mentioned, previously as well as higher professional fees partly offset by lower costs associated with employee compensation. We expect overall SG&A to be in the $12 million to $12.5 million range in Q1.
Interest and other expense was $18.9 million in Q4 as compared to $20.5 million in Q3, a decrease of $1.6 million. We expect our average debt balance to decrease as a result of a limited container investment in Q1 – we expect our average debt balance in Q1 to decrease as a result of limited container investment.
In addition, as our mix of fixed and floating rate debt continues to skew towards the increasing floating rate, we will continue to see a decrease in average rate in the coming quarters. Consequently, we expect the recent trend of decreasing interest expense to continue in the first quarter.
The total book value of our container revenue earning assets at the end of Q4 was $2.4 billion, a decrease of $42 million as compared to Q3. At the end of the fourth quarter we had total funded debt, net of restricted cash and cash held in variable interest entities of approximately $2 billion, a $30 million decrease from Q3. We expect to fund the debt balance to continue to decline during Q1 based on the cash flow generated from our container leasing operations, ongoing sales of rental equipment and the limited level of container investment in Q4 and Q1.
That concludes our comments operator. Please open the call for questions.
[Operator Instructions] And your first question is from Brian Hogan of William Blair.
Starting on the customer credit quality, the $5.2 million reserve built in the quarter, I guess how are you – with the coronavirus and all that going on, obviously there's a lot of uncertainty out there. But how are you thinking about the customer credit quality overall? Is it just this one or you have increased concern? And then how do you hold insurance currently?
So let me answer the last first. Yes we do have some insurance in place for customer development. And as far as the – where we are in terms of the effect on our customers of the coronavirus, it's certainly – in this situation this is a company that we were working through it was already being challenged by its leverage overall in the market. So I think the impact of the coronavirus and the closure only exacerbated the situation. And it's part of the reason why we have decided to reserve against it.
But that being said, given all the uncertainty and the closures that already had been happening the blank sailings that the number of shipping lines have had we're certainly -- we're in a higher risk position right now. And so, we're very mindful of our exposures to all of the shipping lines.
We're monitoring and discussing with all of our customers how they see the current situation impacting them. I would say to this point, we've not seen other shipping lines with -- showing payment problems. So we don't have those at this point, but it's certainly something that we're watching.
Okay. Can you discuss on the -- I've read various reports about the availability of containers and being shortages in the United States and Europe, and obviously box maybe just talking in China and what have you. And can you talk about the supply and demand and how you're managing your location of your boxes? Obviously a lot depends on China.
Now that starts to resolve and you're back up to speed and there's a return to normalcy. But I guess where is your box fleet and then overall from an industry perspective is it -- what is the inventory like?
Okay. Well two fronts. As far as manufacturing inventory, we have very little manufacturing inventory. We have not been purchasing containers over the last several months. And so our inventory level overall is modest at the factory. The utilization that we have around 98.3%, we don't have a lot of boxes sitting idle anywhere in the globe. And most of the boxes that we do have are in China or Southeast Asia.
We're seeing some activity in Southeast Asia over the last couple of weeks in particular where customers are needing more equipment. For us that's a good sign. We've seen some demands coming out of Europe, but we have very little inventory there and we have very little lease inventory in the United States.
So we have not seen significant pickups in demand coming or requests coming out of China. And we would not -- we normally at this time of year wouldn't expect it anyway. But certainly given the supply disruptions that occurred a couple of weeks ago we wouldn't expect a lot right now.
Sure. And then I guess as you're leasing out the new boxes you – obviously, it's limited at this point in the year, but can you discuss ROE trends your returns on those new investments or new leases if you will?
Well like I said, we haven't bought any new boxes in the market, right? I mean we are being more cautious right at the moment in terms of investment until we have a clearer picture of the market situation as well as, what we're seeing in terms of demand. So we'll continue to assess that over the course of the next couple of months and see how comfortable we are that the market is improving.
Is the competitive environment being pretty rational? Or what -- from what do you see from that standpoint?
There hasn't been much activity at all. But I would say typically the first quarter, we tend to see it being more competitive, but there really haven't been a lot of activity in terms of requests. We're reporting the fourth quarter, but obviously we're a significant part into the first quarter. So the trends that we saw in the fourth quarter and so far what we see are the same. It's just been very, very quiet.
Sure. And then one last one for me at the moment -- you had previously talked about refinancing your -- some of your ABS securitizations. Is that still a plan given the -- or what's your status there?
So, certainly the interest rates have come down to historic levels. One of the things we just have to evaluate is what's the state of the credit markets and would it be advantageous right now to try to issue something but it is something that we are looking at and would consider.
All right thanks.
[Operator Instructions] You have a question from Michael Webber of Webber Research.
Hey good afternoon guys. How are you?
Victor I just wanted to start off with macro environment and let me just refresh our memory. So, if I look at your overall lease book maybe stripping out rail what percentage of that is tied directly to container -- Chinese container lines as opposed to Asia -- and your Asia on China and Europe?
We have very little out to Chinese shipping lines. It's we intended not to do a lot of business with Chinese domestic -- I will say domestic Chinese shipping lines. COSCO is a major global line that we believe is a shipping line that we would look to do more business with. But they have--
Yes. COSCO is who I meant, yes.
We don't have -- COSCO for the last few years has been owning their own boxes and haven't been aggressively out in the lease market, so there hasn't been much of an opportunity there.
Just ballpark on just the topline, 10% 15% there's just vaguely trying to get a sense of scale.
Nowhere near that.
Okay. All right.
It's -- let's call it customer--
Okay. That's helpful. And then I guess we've seen this within some other -- some of the international shipping segments and commodity segments where we've actually seen Chinese players declare force majeure have you seen or heard any rumblings of that happening in the box leasing space?
And maybe going back I don't know if -- going back to even SARS, is there a precedent for force majeure to be declared on box leases outside of say some sort of marine disaster where the box is lost or something along those lines? Is there -- is force majeure in play in the box leasing space right now?
We've -- to the best of my recollection, we've never had a situation where somebody declared force majeure and nor have I heard of a shipping line declaring force majeure.
Okay. All right. That's helpful. And then finally I think at the beginning you mentioned not wanting to get in too many details around the strategic review, but if you just maybe help me kind of nibble around the edges there when we -- I guess, first of all, what do you think -- how should we think about a real estate time line just vaguely around some sort of resolution or your ability to get some sort of update there? Is there something we would have -- be reasonable to expect in later Q1 Q2 or no?
Mike I completely understand the interest around the topic. But as we've kind of said and we've read publicly the strategic review will continue and there are not going to be intermittent announcements. And when the Board and our financial advisers feel like there's something to announce, I think they will. And we won't put a timeframe around that.
Okay. I think that I can follow-up with anything else offline. I appreciate the time guys. Thanks.
Right. Thank you.
And there are no further questions in queue. I would now like to turn the call over to Victor Garcia, President and CEO for closing remarks.
I want to thank everyone for being on the call. We look forward to reporting our first quarter results in a matter of a few weeks. Thank you very much.
Ladies and gentlemen, this concludes today's conference call. Thank you for participating. You may now disconnect.