Triton International Limited (NYSE:TRTN) Q4 2022 Earnings Call Transcript

Triton International Limited (NYSE:TRTN) Q4 2022 Earnings Call Transcript February 14, 2023

Operator: Good morning and welcome to the Triton International Limited fourth quarter 2022 earnings conference call. All participants will be in listen-only mode. Should you need assistance, please signal a conference specialist by pressing the star key followed by zero. After today’s presentation, there will be an opportunity to ask questions. To ask a question, you may press star then one on your touchtone phone. To withdraw from the question queue, please press star then two. Please note this event is being recorded. I would now like to turn the conference over to Michael Pearl, CFO. Please go ahead.

Michael Pearl: Thank you Anthony. Good morning and thank you for joining us on today’s call. We are here to discuss Triton’s fourth quarter and full year 2022 results, which were reported this morning. Joining me on today’s call from Triton is Brian Sondey, our CEO, and John O’Callaghan, our Head of Global Marketing and Operations. Before I turn the call over to Brian, I would like to note that our prepared remarks will follow along with the presentation that can be found in the Investors section of our website under Investor Presentations. I’d like to direct you to Slide 2 of that presentation and remind you that today’s presentation includes forward-looking statements that reflect Triton’s current view with respect to future events, financial performance and industry conditions.

These forward-looking statements are subject to various risks and uncertainties. Triton has provided additional information in its reports on file with the SEC concerning factors that could cause actual results to differ materially from those contained in this presentation, and we encourage you to review these factors. In addition, reconciliations of non-GAAP measures to the most directly comparable GAAP financial measure are included in our earnings release and the presentation. I will now turn the call over to Brian.

Brian Sondey: Thanks Michael. Welcome to Triton International’s fourth quarter and full year 2022 earnings conference call. Before I start with our formal presentation, I would like to congratulate Michael on his promotion to Chief Financial Officer and welcome him to our quarterly calls. Congratulations, Michael. I’ll now start with Slide 3 of our presentation. Triton’s strong results in the fourth quarter capped an outstanding year for the company. In the fourth quarter, we generated $2.76 of adjusted net income per share and achieved an annualized return on equity of 25.4%. For the full year 2022, we generated $11.32 of adjusted earnings per share and achieved a return on equity of 28.4%. Our 2022 adjusted earnings per share were up more than 20% from 2021, which had been a record year for Triton.

While market environments slowed in 2022 following nearly two years of exceptional container demand, trade volumes have retreated from the 2021 surge. Consumers are shifting spending back from goods to services and the various headwinds facing the global economy are hitting trades as well. In addition, the logistical bottlenecks that impacted pandemic-era supply chains have eased, speeding container turn times and freeing container capacity. As a result, most of our customers are off-hiring containers and our utilization is gradually decreasing from last year’s record level. We expect our performance will remain strong despite the challenging environment. We have significant operational and financial advantages in our market. The large number of containers we purchased over the last few years are locked away on long duration, high IRR leases.

We have strengthened our overall lease portfolio. The vast majority of our containers are on multi-year long term leases. We have significantly increased the average remaining duration of our leases and almost 60% of our containers are on life cycle leases, which are structured to keep containers on hire until the end of their leasing lives. We have also locked in low cost financing with long term fixed rate debt. We continue to use our strong cash flow to drive shareholder value. We shifted our investment focus from fleet growth in 2021 to share repurchases in 2022. We purchased over 9.1 million shares in 2022, representing nearly 14% of our outstanding shares at the beginning of the year while also decreasing our leverage. Market conditions are currently challenging, but we expect our financial performance will remain strong.

We expect our adjusted earnings per share will decrease from the fourth to the first quarter as negative seasonality adds pressure to the generally soft market conditions. In addition, we do not expect the recurring–excuse me, the non-recurring items which benefited the fourth quarter will recur, but we expect our utilization will remain high and expect our share repurchases will remain highly accretive. Overall, we expect our cash flow, profitability and return on equity will remain strong throughout 2023 and into the longer term. I’ll now hand the call over to John O’Callaghan, our Global Head of Marketing and Operations.

John O’Callaghan: Thank you Brian. Page 4 shows Triton operating metrics. In the lower left chart, you can see the monthly trend of our pick-up and drop-off activity. Pick-up volumes decelerated in the first half of 2022, while drop-offs remained low as shipping lines contended with the lingering effects of port congestion and other supply chain bottlenecks. We started to see drop-offs accelerate in the third quarter as our customers reacted to a muted peak season and an easing of logistical bottlenecks. This continued through the fourth quarter as the lines started to rebalance their fleets in response to declining trade volumes. The result of this increase in drop-off volumes is a gradual reduction in our utilization rate, as shown in the upper left chart.

Nevertheless, utilization remains high at 97.6%, reflecting the durable protection provided by our long term and finance leases which now make up over 88% of our lease portfolio as weighted by net book value. A key part of our enhanced lease protection has been the increase in the percentage of our containers on life cycle lease, as shown on the upper right. In the chart, you can see that nearly 60% of our containers are on life cycle leases, which are structured to keep containers on hire through their full remaining leasing life and so have very little utilization risk. The bottom chart on the lower right shows the volume of our new dry container transaction activity. The volume of new container leases has significantly decreased as a result of the market environment changes and our clients’ increased emphasis on operational effectiveness.

Page 5 illustrates the shipping market is normalizing following two years of exceptional conditions. In the upper left chart, you can see the spot freight rates for our customers have decreased steeply over the last few quarters in response to cooling trade activity and have returned to pre-pandemic levels on most trade lanes. In the upper right, you can see that new container prices have also normalized as container capacity is no longer in shortage and demand for new containers has eased. The chart in the lower right looks at an index of used container sales prices. Used prices have come down in concert with new container prices, although we continued to generate solid disposal gains in the fourth quarter. Finally in the lower left, you can see that port congestion has mostly dissipated as reduced trade volumes and improved productivity have allowed ports to work through their vessel backlogs.

Page 6 looks at the supply of new and used containers, as well as new container production volumes which have decreased in response to slower demand. The chart at the upper left shows the inventory of new containers awaiting deployment. After reaching historically low levels in 2021, factory inventory is now back around the long term average as a percent of the total dry container fleet. You can see in the lower left that Triton’s depot inventory of used containers has grown, reflecting the increased pace of off-hires. Relative to our fleet size, our depot inventory remains very low and we expect it to remain well under control due to the durable enhancements we have made to our lease portfolio. Importantly, the vast majority of our depot stocks are located in key demand locations in Asia and we expect the containers to go on hire quickly as the market enters the next up cycle.

2022 production orders, as shown by the graphs on the right, dropped by more than 50% year-over-year in response to our customers’ shift in aggressively adding containers in 2021 back to fleet efficiency. As you can see on the lower right chart, production volumes dropped way below the replacement range as demand increased through the fourth quarter of 2022. The market has a natural balance of new container production and we expect very limited production of new containers in the first half of 2023. We have talked in the past about the short order cycle for containers, which is just a few months, and the natural order of how container production as well as the overall container fleet adjusts quickly to changes in the global container supply and demand balance.

I’ll now hand you over to Michael Pearl, our CFO.

Michael Pearl: Thank you John. On Slide 7, we have presented our consolidated financial results. Adjusted net income for the fourth quarter was $160.7 million or $2.76 per share, a decrease of 4.2% from the third quarter. For the full year of 2022, adjusted net income was $702.8 million or $11.32 per share, an increase of 23.6% from 2021. This outstanding performance represents another record year of earnings that is built upon our impressive results from last year. In addition, we achieved an annualized return on equity of 25.4% in the fourth quarter and a return on equity of 28.4% for the full year. On Slide 8, I will discuss the key drivers of our performance focusing on sequential changes from the third to the fourth quarter.

Limited capex led to a 1.7% decrease in our average revenue earning assets in the fourth quarter. Average utilization for the quarter was down 70 basis points due to more challenging market conditions but still remains very high and is supported by our well structured, long duration leases. Driven in part by an increase in storage costs, we saw operating expense increase by $7.7 million in the quarter. This increase was partially offset by an increase in revenue for repairs and handling costs that are re-billed to our customers. Interest expense increased slightly in the quarter as higher rates somewhat offset the decrease in our average debt balance; however, our effective interest rate remained low as we continued to benefit from the high portion of our debt that is fixed at attractive levels.

At year end, 88% of our debt was either fixed or swapped to fixed. Gain on sale and trading margin decreased 11% in the fourth quarter but still remains at a high level, and we continue to see pricing well above our residual values. The fourth quarter included several unusual items that added $0.13 per share to our earnings. We recorded a $3 million benefit from the reversal of a credit charge taken earlier this year and the recovery from a default that occurred several years ago. We also had $4.8 million of gains from lease buyout transactions that benefited gain on sale. We do not expect these items to recur in the first quarter. As Brian mentioned earlier, we continue to use our strong cash flow to actively buy back shares, resulting in a continued decrease in our share count.

Slide demonstrates the meaningful increase in our leasing margin over the last several years and the durable enhancements we have made to help support this high level of profitability into the future. The chart on the left of the page shows this increase in leasing margin, which is being driven by several factors including our elevated level of investment in high returning leases, attractive transactions for existing depot units, exceptional levels of utilization, and the impact from our significant refinancing activity. We have created a new level of durable profitability, and the chart on the right of the page shows what we have done to help lock in this high level of leasing margin. The chart on the upper right shows the evolution of our leasing portfolio.

A combination of new long duration leases along with attractive terms on renewals and depot pick-ups have enabled us to extend our average lease duration to almost 80 months, and as of the end of the year, 88% of our units by book value were either on long term or finance leases. The chart on the lower right illustrates the improvements we have made to our debt structure. We have locked in long duration financing at low levels that will help keep the effective interest rate on our current fleet from meaningfully increasing over the next several years. I will now turn the call over to Brian.

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Brian Sondey: Thanks Michael. Slide 10 summarizes the cash flow power of our business. In 2022, we generate slightly over $1.6 billion of cash flow. We need to allocate a little more than half of this cash flow for replacement capital spending in order to maintain our fleet size as containers age out of service. This leaves us with a little over $700 million of steady state cash flow. We use roughly $160 million per year for our regular dividend. As a result, we have about $545 million of steady state cash flow after our substantial regular dividend. The next set of numbers shows a few things that we can do with this $545 million and illustrates why we’re able to create value across a wide range of market environments. If we focus on capital investment like we did in 2021, we can self-fund the equity needed for nearly 20% asset growth while keeping our leverage ratio constant.

Alternatively, if we focus on share repurchases like we are now, we can repurchase about 13% of our shares at the current trading range. If we wanted instead to focus on dividends, we could pay well over $9 per share on top of our regular dividend, bringing the total annual dividend into the range of $12 per share. We have also included a table at the bottom of the slide that shows how we’re able to use our strong cash flow to drive per-share fleet growth almost regardless of market conditions, again while holding our leverage ratio steady. Revenue earning assets per share have increased from $134 per share at the end of 2020 to $199 per share at the end of 2022, an increase of almost 50% across two very different market environments. This strong growth in our assets per share is another key reason we expect our higher level of financial performance will be durable.

Slide 11 looks at how Triton has created long term value. Triton is the scale, cost and capability leader in a fundamentally attractive market, and we have a long history of delivering solid growth, strong profitability, and above-market shareholder returns. The chart on the upper left looks at the long term growth of our container fleet. We have grown the net book value of our fleet 8% annually over the last 17 years. The chart on the upper right looks at our long term cash flow before capital spending. You can see how our cash flow has increased as we have grown our fleet, and you can see the stability of our cash flow even in very challenging years for the global economy. The chart on the lower left shows how we’ve used our cash flow to both reinvest in our business and regularly return cash to shareholders.

At the time of TIL’s IPO in 2005, TIL had an adjusted net book value of around $12 per share. Our adjusted net book value has increased steadily recently at an accelerated pace and is now almost $50 per share. We have also paid over $30 per share in dividends, and as you can see on the lower right, we have generated a 15% annual total shareholder return since our 2005 IPO, significantly outperforming the S&P 500. I’ll talk about our outlook on Slide 12. As you can see on the chart, we expect our adjusted earnings per share will decrease from the fourth quarter of 2022 to the first quarter of 2023. This reflects the combination of several factors. The first quarter is typically the slow season for dry containers, which adds pressure to the generally slow market conditions.

In addition, the first quarter has two fewer days and we charge our customers on a daily usage basis. We also do not expect the unusual items which added $0.13 to the fourth quarter will be repeated. We expect the mix of factors will be different after the first quarter and expect the pressure on our key operating metrics and profitability will ease. Seasonality typically improves as we move toward the summer and we expect customer off-hires will slow due to this positive seasonality and as their excess container inventories shrink. We expect sales prices will stabilize after their return from elevated to normal ratios compared to new container prices, and we expect we’ll continue to benefit from ongoing share repurchases. The chart also highlights the durable enhancements we’ve made to our business.

We expect our 2023 earnings per share to be in the range of two times our pre-pandemic level despite the challenging market environment. I’ll finish the presentation with Slide 13. Triton has an exceptional franchise and we delivered outstanding performance in 2022. Our market is currently challenging but we are confident about our performance and optimistic about our opportunities. We have significant market advantages and have made durable enhancements to our business. We expect our profitability and return on equity will remain high. We are confident we will continue to build shareholder value quickly even while the market remains slow, and Triton will be ready to support our customers and well positioned to capitalize on renewed fleet investment opportunities when market conditions inevitably inflect positively.

We’ll now open up the call for questions.

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Q&A Session

Operator: We will now begin the question and answer session. Our first question will come from Larry Solow with CJS Securities. You may now go ahead.

Larry Solow: Great, thank you so much. Good morning everybody. I guess my first question, Brian, is sort of just a high level question. You discussed things seem to be normalizing, less congestion. Curious just on the fleet size, the shipping container fleets. Do you feel like–you know, are they inflated versus historical? I’m just wondering if you have any color or feel for that. Do they plan on–you know, do you feel like they’re remain higher than where we were, just because of all this stuff that happened with the ports and maybe shippers don’t want to risk that happening again? Just getting a feel, your feel if there is one, of directionally where the size of these fleets, what they are today and where they might be in a couple years.

Brian Sondey: Yes sure, thanks for your question, Larry. When we look at what happened over the last couple of years, we saw very large new container production volumes in 2021, and it was large to accommodate both the surge in trade volumes as well as just a variety of pandemic-era bottlenecks, like waiting times at the ports and a shortage of truckers. When we look at the level of production in 2021, say compared to trade growth, we estimate that there was something in the range of probably 5% to 10% too many containers in the fleets of our customers, when market conditions slowed during the middle of 2022 and as the bottlenecks eased. So that still is our estimate, that something in the range of–you know, the fleet has to normalize between 5% and 10%, bringing container supply and demand back into balance.

Fortunately, one of the great strengths of our business is that there’s a short order cycle for containers, typically only a few months, and we’ve already seen new container production volumes fall significantly, to the point now where the container fleet is shrinking month over month. Even though the economy outlook is tough, I think the outlook for trade growth is still somewhat positive, and that eats into that excess as well. I think as you maybe referred to in your question, we do expect customers to hang onto a little bit more container fleet, say, resiliency than they had before the pandemic, when their focus was almost exclusively on efficiency, and so I think it really is a question of just how long it takes for the reduction in the container fleet, for low production and ongoing sales and then that coupled with hopefully some trade growth as inventories normalize and retailers and wholesalers start stocking the shelves again, and then just, I think, some extra containers in the fleet due to the focus of our customers on resiliency, and perhaps some of the impacts of slow steaming due to the tighter IMO rules on emissions, and also just the cost savings that customers get from that.

I think there’s a variety of things that have to happen, and they’ll happen – we’ll see when, but it’s already underway.

Larry Solow: Got you. Then in terms of just container purchases for you guys, it looks like you basically were close to your maintenance level in 2022. Per your example, you repurchased almost 14% of your shares, so it kind of matches your example there, but just curious, you’re spending–obviously your trajectory in the back half of the year, you spent less than $200 million, I think $50 million in Q4, and it sounds like maybe this year starts off slow. I realize some of this is just replacement, so how should we think about any gauge in what spending will be this year, is it potentially below that maintenance level?

Brian Sondey: Yes, our level of spending was around the replacement level in the first part of 2022. It feel below replacement level towards the back half as the market really slowed down, and our fleet size decreased a little bit during 2022 especially in the second half. Right now, we’re investing at below our replacement level just because there’s not much need for customers for additional containers. That said, we do try to anticipate the change in market dynamics and we try to invest ahead of that inflection, and so we do expect at some point here, we’re going to turn the taps back on for repurchases, both anticipating the market inflection and then obviously to serve it when it occurs. But in the meantime, we do remain quite focused on share repurchases – we think that’s a great use of our capital and builds shareholder value quickly for our shareholders, and so again for the moment, we’re focusing on share repurchases but that will change.

Larry Solow: Great, and if I could just sneak one more in for Michael – first of all, congratulations and welcome. Just on the direct operating expenses line item, I think you kind of called this out a little bit, directionally it was–I see why it went up, it went up a little bit more than I thought, but I guess perhaps most of that was due to repair, handling costs that you guys get reimbursed for. Was that higher than normal this quarter and that kind of drove that direct expense number a little bit higher sequentially?

Michael Pearl: Yes, there’s two parts in there. One is storage, so as we showed, utilization is down a little bit so we do experience higher storage expense, and then with pick-ups and drop-offs from our customers, that does generate ancillary fees, so some of that shows up in opex but then there’s also some offsets in the revenue line as well for that.

Larry Solow: Got it, great. Okay, appreciate that. Thanks everybody.

Operator: Our next questions will come from Michael Brown with KBW. You may now go ahead.

Michael Brown: Great, hi. Good morning. How are you guys?

Brian Sondey: Hey Michael – good, thank you.