Triton International Limited

Good day and welcome to the Trenton International Limited Second Quarter 2022 Earnings Call. All participants will be in listen-only mode. If you need assistance, please signal a conference specialist by pressing the start key followed by zero. After today's presentation, there will be an opportunity to ask questions. Please note that this event is being recorded. I'd like to turn the conference over to Mr. John Burns, CFO. Please go ahead.

Thank you. Good morning, and thank you for joining us on today's call. We are here to discuss Triton's second quarter 2022 results, which were reported this morning. Joining me on this morning's call from Triton is Brian Sunday, our CEO, and John O'Callaghan, our head of global marketing and operations. Before I turn the call over to Brian, I'd like to note that our prepared remarks will follow along with a presentation that can be found in the investor section of our website. I'd like to direct you to slide two 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 measures are included in our earnings release and the presentation. With these formalities out of the way, I'll now turn the call over to Brian.

Thanks, John, and welcome to Triton International's second quarter 2022 earnings conference call. I'll start with slide three of our presentation. Triton achieved record performance again in the second quarter of 2022. We generated $2.92 of adjusted net income per share, an increase of 5.8% from the first quarter, and an increase of 36% from the second quarter of last year. And we achieved an annualized return on equity of nearly 30%. Our gain on sale benefited by $6.8 million in the second quarter, from several finance lease transactions for older containers, though we still would have achieved record results without these transactions. Market conditions remain constructive. New container transactions have been limited this year following the exceptional demand we experienced in 2021, but container drop-offs are low. Our utilization remains well over 99%, reflecting our strong long-term lease portfolio and container supply conditions that are still fairly tight. And container prices remain historically high, providing support for leasing rates and our disposal gains. Our strong financial performance also reflects the durable enhancements we've made to our business. We invested $4.5 billion in new containers over the last two years, leading to over 30% growth in our revenue-earning assets. We have placed these containers onto high-margin, long-duration leases. We have extended lease durations across our fleet and increased the portion of our containers on lifecycle leases to almost 60 percent. And we have achieved meaningful interest expense savings through aggressive refinancing and locked in these savings by focusing on fixed-rate, long-duration debt. We continue to use our strong cash flow to drive shareholder value. We have shifted our investment focus to share repurchases this year, and believe they offer a compelling value for the company. Year to date, we have repurchased 3.9 million shares, or about 6% of our total. We accelerated our repurchases over the last two months, and our board of directors has increased our repurchase authorization back to $200 million. We've also announced a quarterly dividend of 65 cents per common share. We expect our financial performance will remain strong. The durable enhancements to our lease portfolio and capital structure should continue to sustain our strong leasing margin, and our share repurchases are highly accretive. We expect our adjusted net income per share in the third quarter will remain in line with our record results in the second quarter, excluding the extra gains from the finance lease transactions. And we expect our cash flow, profitability, and return on equity will remain very high throughout 2022 and into the longer term. I will now hand the call over to John O'Callaghan, our Global Head of Marketing and Operations.

John O' Thank you, Brian. Page four. Page four shows Triton's key operating metrics. Market conditions generally remain favorable, and operating metrics remain very strong. In the upper right chart, you can see pickups have been limited. as our customers focus on absorbing the large number of containers they added last year, but drop-offs continue to be very low. Our utilization is shown in the upper left, and it remains at near maximum levels, reflecting the strong protections provided by our long-term lease portfolio and a high percentage of the lifecycle leases, as illustrated by the bottom right chart. The lower left bubble chart details the pace of new container transaction activity, and it shows the lower volume of new deal activity and the trajectory of lease rates, which have come off from their peak levels of 2021, but are still historically high. It's important to note that lease rates shown for the last two years, including the first half for this year, represent much longer lease transactions than the bubbles before 2020. Therefore, the relevant benefit on these lease rates is actually considerably higher. Page 5. Page 5 illustrates that spot freight rates, new box prices, and disposal prices, although lower than the peaks of 2021, still remain well above normal levels. The chart in the upper left shows an index of spot freight rates for the Trans-Pacific and East-West trades. Freight rates are down from last year's peak as the extreme shortages of vessel and container capacity have eased. But freight rates remain well above pre-pandemic levels, reflecting continued robust trade volumes and the ongoing logistical challenges that continue to disrupt shipping line operations and eat up effective capacity. In the upper right chart, you can see that new container prices have also reduced from 2021's peak level, but remain historically high at around $2,600. As a result, market leasing rates remain well above the average rates in our lease portfolio, which provides strong support for our lease renewal discussions. Bottom right chart shows used container sale prices also remain historically high, supporting our exceptionally strong disposal gains. The chart in the bottom left shows that port congestion remains as high as it has ever been, reflecting operational challenges across a wide range of global ports. This congestion continues to slow container turn times and create extra demand for containers. Page six. Page six shows that container availability remains fairly tight. The chart on the left shows new container production volumes. Container production has slowed this year, following record production in 2021, and we anticipate the production volumes could slow further in the second half. While trade volumes remain high, our customers have been focused on absorbing the large number of containers they added last year, and they have been more successful moving empty containers back to Asia. The chart in the upper right shows container factory inventory. You can see this has been building, increasing to 833,000 TU versus 357,000 TU for the same period in 2021. However, as a percentage of fleet, it remains fairly low at below 2% of the global fleet. Similarly, On the lower right, you can see that Triton's depot inventory of used containers remains exceptionally low, reflecting the very high utilization of our fleet. Overall, the backdrop for Triton remains strong with very limited drop volume, and we have at the same time locked in most of our equipment. I'll now hand you over to John Burns, our CFO.

Thank you, John. On page seven, we presented our consolidated financial results. Adjusted net income for the second quarter was $186 million of $2.92 per share, an increase of 5.8% from the first quarter and 36% from the prior year quarter. These exceptional results represent an annualized return on equity of nearly 30%. On page eight, I'll discuss the drivers of our strong profitability. Our second quarter performance reflects the durable enhancements we've made to our business over the last two years, along with the current constructive market conditions. Second quarter leasing revenue increased slightly from the first quarter, despite a slight decline in average revenue earning assets, reflecting utilization remaining at maximum levels, incremental container demand, and solid fee income. Revenue in the second quarter was up 14% over the prior year. We expect our utilization and fleet size to decline slightly in the third quarter from the very high levels currently. Interest expense in the second quarter was essentially flat from the first quarter, reflecting a decrease in our average outstanding debt, offset by a slight increase in our effective interest rate to 2.54 percent. Eighty-six percent of our debt portfolio is fixed rate debt, or swapped to fixed, with a weighted average duration of nearly five years. Therefore, we are well protected from the recent and expected future increases in interest rates. We continue to generate exceptional levels of trading and disposal gains, totaling $41.5 million for the second quarter. an increase of $7.8 million from the first quarter. The second quarter figure included $6.8 million of gains generated on several lease transactions, which we accounted for as sales. We expect disposal gains to remain high in the third quarter, though we expect them to trend lower as disposal prices moderate, and we do not currently anticipate a repeat of the lease transaction gains. Since the end of the peak season last year, we have shifted our strong cash flows away from aggressive container investment toward active share repurchases. We have repurchased 3.9 million shares, or 6% of our shares outstanding at year end. We accelerated our share repurchases in the second quarter, repurchasing 1.8 million shares, and have repurchased an additional 850,000 shares in July through the 26th. And in support of the share repurchase activity, we have once again increased our share repurchase authorization back to $200 million. Page nine highlights the durable enhancements we have made to our business over the last two years. On the left, we show how we have leveraged the strong market conditions over the last two years to rapidly expand our leasing margin. On the right, we show why this high level of performance is durable. The top right graph shows the average remaining lease duration for our long-term and finance lease portfolio. You can see that the remaining lease duration is nearly 80 months or six and a half years to the expiration of the lease contract. And if we include the usual time it takes for customers to re-deliver containers after a lease expires, the average duration increases to 90 months. In addition to the long duration of the lease portfolio, 87 percent of our portfolio on a book value basis is on these long-term leases. On the bottom right, we show that we have funded this long-term lease portfolio with long-duration fixed rate or hedge-to-fixed rate debt at very attractive interest rate levels as a result of our refinancing activities over the last two years. This combination of attractive long-term lease and debt portfolios has locked in a high level of leasing margin for years to come. I'll now return you to Brian for some additional comments.

Thanks, John. Slide 10 summarizes the way we think about our equity cash flow and illustrates how this cash flow gives us a variety of powerful levers to drive shareholder value. The top grouping of numbers summarizes the cash flow power of our business. We are currently generating over $1.6 billion of cash flow before capital spending on an annualized basis. 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 around $710 million of steady state cash flow. We currently pay a quarterly dividend of 65 cents per share, which represents about $165 million in annual dividends. As a result, we have about $545 million of steady state annual cash flow after our substantial regular dividend. This next set of numbers shows a few things 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 last year, 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 15% of our shares at their current trading range. If we wanted instead to focus on dividends, we could pay over $8.50 per share on top of our regular dividend, bringing the total annual dividend to over $11 per share. 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. Over the last 17 years, we have grown the fleet 8% per year by unit count and about 9% by year by net book value. 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 TAL's IPO in 2005, TAL had an adjusted net book value of around $12 per share. Our adjusted net book value is now $45 per share, and we have paid out over $30 per share in dividends. And as you can see in the lower right, our total shareholder return since our 2005 IPO is over 14% per year. significantly outperforming the S&P 500. I'll finish the presentation with slide 12. Triton has an exceptional franchise, and we continue to drive outstanding results. We achieved another record quarter of profitability in the second quarter. We expect our financial performance will remain strong throughout 2022 and into the longer term. Our strong cash flow gives us many levers to drive shareholder value across a wide range of market conditions. And we believe our shift to aggressive share repurchases this year is building value quickly and offers a compelling opportunity for Triton and our investors. Before I open up the call for questions, I would like to take a minute to recognize and thank John Burns, our longtime Chief Financial Officer. We recently announced that John intends to retire at the end of this year. John joined one of Triton's predecessor companies in 1996, and he has been our Chief Financial Officer since 2009. John has been a tremendous CFO and a fantastic partner for me. John has graciously offered to stay on while we get a new CFO identified and settled. But even then, he'll be sorely missed. Thank you for everything, John. I will now open up the call for questions.

Thank you. We'll now begin the question and answer session. To ask a question, you may press star then one on your touchstone phone. If you're using a speakerphone, please pick up your handset before pressing the keys. To withdraw your question, please press star then two. We'll pause a moment to assemble the roster. First question comes from Larry Salo, CJS Securities. Please go ahead.

Great. Good morning, guys. Thanks for taking the questions. I guess first question, just on sort of the log jams at the ports and the still sort of market inefficiencies and what, that doesn't sound like we're getting much improvement on that. Is that my, am I reading that correctly? And, you know, has that slowly improved? And who knows on timeline on that, you know, would that even really impact you guys much, you know, sort of, you know, from a high level?

Sure. So, I mean, first of all, we do hear from our customers and we see in the data that's out there that the bottlenecks at the ports continue. We also hear from customers that the bottlenecks extend beyond the ports to still some challenges with trucking capacity and, say, warehouse efficiency. And I think it's a hard guess about exactly when the bottlenecks start to clear and things go back to normal. But our take, by just listening to our customers, is that it's not going to suddenly free up in the near term. It's going to be a long process of of trying to de-bottleneck the operations and bring things back to, say, more efficient levels. In terms of the impact on us, there would be some impact if bottlenecks suddenly eased. Certainly one of the drivers for container demand over the last two years or so has been the increase in turn times for containers, and so therefore the need for more containers for every unit of cargo. And so one reason why we've seen the container fleet grow faster than trade, but not have that lead to an excess of containers. It's just the containers absorbed in these bottlenecks. Again, I think our general view is that they will get eased over time and may, over time, reduce a little bit the amount of container investment needed relative to trade growth. But again, everything we see and hear is that these bottlenecks are likely to persist for some time.

Right. And obviously, as they do start to ease, I guess the comfort we have is your contracts are all pretty long-term. So it would be a inevitable impact on you. And I guess inevitably this has to break, you know, it has to free, you would think, or improve. But I would, you know, from my reading, it seems like it would be, it wouldn't be like a, you know, turning a switch on and off for you would be a much longer term, very slow sort of, you know, impact, right? I mean, that's how I kind of feel.

That's for sure. I mean, we think, you know, long and slow for a few reasons. I mean, one, just as I was saying that I think the expectation is that the deep bottlenecking process itself is going to be long and slow. And then we also think that our customers are likely to change the way they think about their container fleets. I think prior to the pandemic, there'd been a tremendous focus on efficiency and our customers had, you know, year after year kind of screwed down the number of containers relative to their slots. You know, I do think there's likely, you know, at all parts of the supply chain, but including with containers, you know, going to be a rethink about the trade-off between resiliency and efficiency. And so even as the bottlenecks ease, we don't see our customers looking to snap back to, say, where they were operating before in terms of the numbers of containers compared to their slots. And then finally, I think as you pointed out, and probably most importantly for us, is just the protections we have in our lease portfolio. The vast majority of our containers are locked up on very long-duration leases, including all the containers that we put on on high-value, high-margin deals over the last few years. And they're just not subject to redelivery, even if our customers want it. And I think at the margin, there could be you know, fewer pickups for us and especially maybe a little bit less investment as the bottleneck sees. But, you know, we've been trying to be quite clear, you know, over the, you know, last year or two even, you know, that these improvements that we're making in our business, the growth in our leasing margin and so on, you know, we think is going to be very durable, you know, almost regardless of market conditions.

Absolutely. And then just, you know, second question, just in terms of, you know, I realize that the supply of pricing on disposal prices obviously coming down a little bit and you had this one time, gain this quarter, or not one time, but sort of a thing that doesn't occur very often. What about just in terms of your supply of disposable containers to sell in the future? I've got to imagine that's pretty low. How do you sort of view that as you look out the next few quarters?

Certainly, our volume over the last probably 18 months has been very low, really just as our customers have been hanging on to our containers. And I think we've, again, mentioned a few times that just our drop-off volumes have been really low. And, in fact, they continue to be low this year, even as we've seen fewer pickups. And so we do think that as market conditions continue to normalize, we will see drop-off volumes increase, starting to get back toward normal. But, again, we think this is going to be a very controlled increase. And, yeah, probably we'll see an increase in disposal volumes as that happens, which tends to actually offset some of the impacts from the lower prices. But, you know, we continue to generate exceptional gains. We've been saying for a while we think these are going to start to trend down towards normal. It hasn't really happened yet. But that continues to be our view that, you know, over time we're going to see drop-off volumes increase a little bit, sale volumes increase a little bit, sale prices starting to moderate, and our gains starting to moderate over time.

Right. And then just lastly, just on John. John, congratulations on your pen and retirement. That's awesome. Brian, any thoughts on – replacement. It looks like you guys are looking both internally and externally for that.

Yeah, so we're fortunate. We've got a number of great internal candidates, and we're taking a very serious look at that. And obviously, there's lots of positives that come along with doing it internally. Also, we think that it's interesting for us to take a look and see what's out there in the market. We think Triton represents a really interesting opportunity for someone. But we're looking around, and it's a very controlled process. It's a organized process. Again, as I mentioned, John has been very gracious to say, hey, he'll stay as long as we need him. At first I said 10 more years, but no, it's something that's, again, great for John. I think, again, the company, we've got a great team here. The business is in great shape, and we'll manage the process well.

Great. I appreciate all the context.

Thank you. Our next question comes from Nathan O., Bank of America. Please go ahead.

Great. Thanks, guys. This is Nathan calling in for Ken Hexter. So firstly, I kind of wanted to get the team's thoughts on sort of the broader container cycle. When you guys are speaking to liners, are you hearing more about these shipping liners sourcing more containers themselves? And also just on a broader shift in focus towards more on returns and less on sort of expansion. On the three options that you guys noted, growth, CapEx, dividends, and repurchases, I'm just kind of curious on what kind of metrics you guys need to see to sort of drive you guys to deploy more growth CapEx at this stage of the cycle. Thank you so much.

Yeah, sure. So, you know, I guess a couple of different things. In terms of our customers, you know, focus on their fleets right now, In general, I would say our customers or most of our customers have backed off on, say, broadly adding capacity to their container fleets, maybe beginning early this year. They added a tremendous number of containers in 2021 to accommodate the strong goods consumption growth and strong trade growth during that time, as well as these bottlenecks I was just talking about. And I think most of our customers, at least when I speak with them, feel they have enough containers in their fleet. They wish there were more of them in the right places and fewer of them stuck in bottlenecks. But there does seem more of a drive at this point to try to focus on de-bottlenecking as opposed to trying to cover up the bottlenecks with ever more containers. And so I think that's been the main shift. Our customers trying to make their current fleets operate better despite the bottlenecks. We have seen, say, the ratio of containers purchased by shipping lines compared to leased from leasing companies We've seen more containers purchased this year. But frankly, I don't think it's really a shift in the share. I think it just represents really a decrease in purchasing. You know, leasing companies, we, I think, came off of the peak at the end of last year and then felt we might see this, you know, time of less investment. You know, also for a leasing company, we have to be very careful about buying containers in an environment where container prices are going down. You know, we buy containers and then we, on speculation, lease them out, you know, maybe even a month or a few months later. And so that can be kind of a tough financial equation. I think that's made the leasing industry, including us, cautious about speculative investment. So in general, we don't really think it's going to be a significant shift in how our customers source containers, that there's lots of reasons to lease. And we think that'll continue to sway them as it has in the past. In terms of how we think about investing in containers versus buying back our stock, There's a number of different things we look at. First, of course, is the market environment. We're always very cautious about not trying to push investment into a market that doesn't really need investment. And so typically the main thing is just where's the market and how many containers we think our customers are going to need. When it comes to when we have opportunities at the margin to think about investing versus repurchasing, it's kind of a classic corporate finance analysis. We look at the expected returns on what we think we can get from containers and We look at the expected returns we think we can get by buying back our stock, and we see which are more interesting. Often we find they're both compelling. Last year we put our money into buying containers, although our stock I think was a really interesting value as well. I think all else equal, we're biased to investing in our container fleet. It's supportive of our franchise. It builds our scale advantages and supports our cost advantages. But, again, we're also quite disciplined. on not pushing investment when it's not there. And we're also pretty disciplined, actually, well, quite disciplined, at maintaining a high hurdle rate for where it makes sense for us to invest. I hope that was helpful.

Great.

Thanks for the insight. Again, if you have a question, please press star then one. Next question comes from me and Burke of B-Rally. Please go ahead.

Thank you. Good morning, Brian. Good morning, John. Good morning. And John, congratulations on your retirement. If I'm looking at the trade-off you have in the macro environment, congestion will ease over time. Brian, do you see any significant offset to the easing of congestion with the new builds coming onto the market in the second half of 2023?

Yeah, so again, we do think there'll be, first, the process of the bottlenecks coming off will be a gradual process. And I think there's a number of offsets. One, as I mentioned, we think our customers will rethink how they consider the right amount of containers in their fleet. And so we don't think they're going to try to get right back down to the same operating ratios where they were before. And so that kind of extra container slack will be one of the offsets. Another of the offsets is that the emissions rules for vessels tighten in 2023. And while we're not technical experts, our understanding is that for a lot of the older vessels, our customers are going to have to significantly slow their sailing speeds to comply with those emissions. And that is expected to take some effective capacity out of the market, both vessel capacity and container capacity. As you point out, there's a large amount of vessels on order that will start coming in, and there's probably some between the amount of vessel capacity and container capacity. Again, we typically expect or typically think that the correlation for containers is more related to trade volumes rather than vessel capacity. But I think there is still some positive effect of having more ships come in and more container demand. But again, as we were talking earlier, we look at these bottlenecks right now. They're absorbing significant capacity. We do think they will ease over time. That may, again, limit the growth of the container fleet a little bit relative to the growth of trade. But again, we feel pretty well protected from where we sit.

Okay, thanks, Brian. The other question I had is on your ROE. Obviously, you can't stay above 30. It ticked down, but incredibly healthy returns on equity. Assuming things get back to normal in terms of normalized container shipping volume growth, capacity sort of realigning itself, How do you see your more normalized ROE? Would it be higher than historical normalized levels? Or, you know, where do you see that settling?

Yeah, so first I would just say, you know, our historical ROE is pretty high. You know, for many years, probably, you know, over the last 20 years or so, the average ROE has been, you know, in the high teens, probably something close to 18%. And so, again, this has been a business that's been a great business for investment for a long time. Right now, of course, it's a lot higher than that. It's been around 30% now for a few quarters. That reflects, most importantly, just the durable benefits we've made into the business of adding a very large number of containers that are put on really high margin, high return leases. We did a lot of good work on the rest of the containers in our portfolio over the last 18 months or two years, renewing expiring leases onto attractive extensions, pushing out the durations of our existing leases, increasing the share of containers on lifecycle leases. All those things we think are going to lead to a sustained kind of outperformance for our ROE relative to our historical level. One thing that we do see normalizing, as I was saying earlier, is the gains on sale. Part of that 30% ROE are gains that are well above where they are typically. But as I was just saying, we do think that the ROE, even as the gains normalize, We also expect the kind of the returns driven by our sustainable leasing margin, you know, is going to continue to drive, you know, outperformance on the ROE, even as it does start to come down because of the gains.

Great. Thank you, Brian. Congratulations again, John. Thanks, Liam.

Thank you. This concludes our question and answer session. I'd like to turn the call back over to Mr. Brian Sunday for closing remarks.

I'd like to thank everyone again for your interest and support for Triton International. Thank you. The conference is now concluded. Thank you for attending today's presentation. You may now disconnect.