GATX Corp (GATX) 2005 Q3 法說會逐字稿

Good morning. My name is Darla, and I will be your conference facilitator today. At this time, I would like to welcome everyone to the GATX Corporation third quarter earnings conference call. [OPERATOR INSTRUCTIONS]. Ms. Johnson, you may begin your conference.

Good morning everyone and thanks for joining our third quarter conference call. With me today of Brian Kenney, President and CEO of GATX Corporation, and Bob Lyons Vice President and Chief Financial Officer. I'll provide you with a brief overview of the numbers which were presented in our press release this morning, and then we'll open it up to your questions.

Before we begin, I need to remind you that any forward-looking statement made on this call represents our best judgment as to what may happen in the future. The Company's actual results will depend on a number of competitive and economic factors, some of which may be outside the control of the Company For a discussion of the most important of these factors, I'll refer you to our Form 10-K filing for the year ended December 31st, 2004 filed with the SEC last March. The factors outlined in that statement also pertain to today's call.

Today we report a third quarter net income from continuing operations of $34.3 million, or $0.61 per diluted share compared to third quarter net income in 2004 of $40.7 million or $0.85 per diluted share, which included $0.48 income per diluted share from an insurance recovery. Net income from continues operations for the first nine months of 2005 was 97.2 million or $1.75 per diluted share compared to 87.6 million or $1.62 per diluted share in the prior year. The prior year-to-date results included the $0.49 per diluted share in insurance recoveries. Our third quarter results again reflect the strength of our underlying markets, particularly the rail and shipping markets.

In rail, our North American fleet utilization remains high at 98%, and strong lease renewal rates continue to provide revenue lift. Renewal rates were 11% over the expiring lease rate in the third quarter on our basket of common car types. While the percentage increase was lower this quarter than in second quarter, the absolute lease renewal rate was higher than in the second quarter.

As we noted in our earnings call last quarter we expect continued revenue lift at rails even if lease spots level off as we renew lower rate leases from the depths of the market. As we've discussed in the past, This revenue improvement will be somewhat offset by increased maintenance expenses at rail, as we undertake rail car conversions, refurbishments, and wheelset replacements. With these increased maintenance expenses, GATX management is focused on continuing to improve efficiency in our maintenance network.

In air, 100% of our aircraft are on lease, and lease rates on certain aircraft, particularly the most desirable aircraft types, continue to recover and lift lease revenues as the aircraft rolled over into the higher rate environment. Additionally, we're encouraged by a number of management engagements that we have received and look forward to the earnings contribution from these initiatives in future quarters.

Together with improving airline traffic and load factors, yields at the airlines are also recovering, but are not keeping pace with rising fuel costs as evidenced by the recent near simultaneous air carrier bankruptcy announcements here in the U.S., the air industry remains volatile and we'll continue to monitor the portfolio for the impact of high fuel prices on our customers.

In a specialty portfolio, our marine joint ventures continued their strong performance, reflecting high asset utilization and charter rates. Specialty again benefited from solid re-marketing activities from assets both 100% and jointly owned. These remarketing gains are found on our financial statements in both asset remarketing income and share affiliate's earnings, respectively.

Investment volume in the quarter was comparable to the 2004 third quarter. However, year-to-date, the investment of 335 million is approximately 182 million below the prior year period. The bulk of the difference comes from a reduction in air investments, but the lower investment also is reflective of the high prices and competitive secondary market in our assets. In this environment, we are mindful of the long-term nature of our assets and are maintaining our disciplined investment approach to achieve attractive long-term returns.

Year-to-date, we've added 3800 railcars to the fleet compared to 4800 in 2004. Portfolio quality remains high with $5 million in net charge offs and impairments in the second quarter, and nonperforming assets remain at a manageable level. As you saw in our press release, we broadened our 2005 earnings guidance from $1.90 to $2 to $1.90 to $2.10. Based on where we are, year-to-date, this implies a fourth that is below the first three quarters in terms of EPS run rate.

This is due to the fact that year-to-date, we've had a substantial amount of remarketing income at our joint ventures and the over 42 million on our own portfolio, which include the unusually large residual sharing fee in the second quarter. Like last year, we expect very little in terms of remarketing income in the fourth quarter. We raised the upper band to $2.10 to reflect a solid fourth quarter, but without much in the way of remarketing gains.

In addition, we left the low end at $1.90 to possibly accommodate some items in the fourth quarter that are currently under review, such as cash repatriation and other tax-related items. Overall, we once again achieved solid results in the third quarter and we feel positive about our market for the remainder of the year.

With that overview, let's open up to your questions. Darla?

Yes, ma'am. I'm here.

We're opening it up to questions.

[OPERATOR INSTRUCTIONS]. We'll pause for just a moment to compile the question and answer roster. Your first question comes from Art Hatfield with Morgan Keegan.

Morning, guys. Just a few questions. First on the guidance, you kind of went through that in some detail, Rhonda, but if I look at my number for Q3, I had been at $0.43 and you guys put up a very good number, $0.61. The big differential there was the remarketing income in the specialty portfolio.

If I back that out, roughly the number for Q3 is in the low 40s. Given the guidance that you've talked about and what you said, Rhonda, for Q4, that still implies some sequential downdrift in your business. Is there something that I'm missing as I look at my numbers for Q4, or is this your effort to be somewhat conservative about the environment as it stands today?

Well, I appreciate, Art, it's Bob Lyons -- the comment about conservatism; because I think historically and by nature we tend to be, but there's also remarketing income that has flown through the JV line which doesn't stand out as clearly on the income statement because it's included in all of the income from affiliates, so we had some positive events there in the third quarter which we expect in the future but we just don't see anything on the horizon right now in the fourth quarter in the very near term.

That's not unusual. There doesn't tend to be a lot of remarketing activity during the fourth quarter of the year, and we really only have two months left, so we have a little bit of a window into that and don't see much happening there. As far as rail goes, we continue to see the renewal rates pick up, so we feel good about that, but we'll also, as we indicated back in the second quarter earnings call, anticipate higher maintenance costs in the fourth quarter -- in the third quarter versus the first half of the year as we undertake a number of refurbishments and conversions.

Those are real positive economic transactions for GATX long-term but do boost your maintenance a little in the first turn. Fundamentally we feel very good about where we're at, but we're also providing ourselves -- there's a little bit of leeway there on the down side as well.

That's helpful. I guess just to get into some specifics then, on the rail side of things, have you seen much change in the spot market for lease rates?

Well, it's continued to move up. We don't specifically put that number out there, but the renewal rate, again we had positive renewal rate performance during the third quarter and the spot rate, if we're looking at kind of the renewal rates in absolute dollar terms versus where they were in the first and second quarter, they continue to move up absolutely.

Good. And secondly you mentioned a little bit in the press release about the tough investment environment for you and on the rail side. Has that improved at all over the last six months? Are you seeing any signs that prices for new equipment are coming down at all?

No. Not at all. This is Brian. No, we have not seen that. It continues to be very difficult in terms of asset prices across all our businesses in terms of trying to make new investments.

Fortunately, as I've said before, we have the committed purchase program in rail which gives us a very advantaged car cost, and we still continue to do some spot purchases and high asset prices, but generally in we can get the lessee, for instance, to commit to a very long-term that helps us amortize that high cost. In general, it's very difficult to make some of those new investments with the way asset prices are. You have to make some pretty aggressive assumptions about follow-on rent to do that. We're being very disciplined and that's the comment we made in the press release.

One thing jumped out at me looking at the Air update you put on your web site. In 2006, it looks like you had 16 A320s that are up for renewal. Are those with one customer? If they are, is it a customer that we need to be -- watch cautiously?

Well, no, they are not all with one particular customer. I think you have to watch all airlines cautiously, which is something that we have continued to do over the course of the years. But this is really something that you're seeing -- a phenomenon you're seeing that was done purposely. Those are the aircraft we took delivery of in post 9/11.

We took delivery of a substantial number of aircraft then into the teeth of what was really a bad market and so very low rates. What we tried to do with those initial lease terms was keep them short. For that reason, you're seeing a large number of the A320s and the 737-800s coming up for renewal next year and the following two years.

So that we should see some positive improvements in terms of lease revenue as we roll those lower lease rate aircraft over into a higher lease rate environment.

Is there any way to quantify that in the same way that you quantify renewal rates in the rail portfolio?

That's really difficult. As you know, with an aircraft, it can have difference configurations, different flight hours, different engines. So it makes it much more of an anecdotal type information than in rail where it's rolling over 26,000.

You can make some sort of generalizations about trends. What we have seen is that anecdotally, the lease rates on some of the best aircraft types, those 737-800s and the newer A320s have improved to levels that we were seeing prior to 9/11.

Great. Thanks, guys. Good quarter.

Thanks, Art.

[OPERATOR INSTRUCTIONS]. Your next question comes from Robert Napoli, Piper Jaffray.

Good morning, guys. Question first of all on the pricing trends in railcar. The pricing gap declined this quarter. It had spiked last quarter. I'm just wondering.

Kind of if you could give us some outlook for the trend. It seems to us that generally three to five-year leases -- and I know you shortened up as much as you could, but I think the worst year was probably 2002, and it seems like a lot of '01 / '02 leases should still be running off 2006.

It seems like that pricing gap shouldn't be coming down. It should still be either going up or stable for several more quarters before it declines. What am I missing there?

Bob, we do our best through the use of the baskets to take mix out of the equation. But you can't do it entirely. And so, when you look at the cars that rolled over in the third quarter, for example, and you look at the average rate they were coming off of, it was actually up a little bit from the average rate of the cars rolling over in the second quarter.

So while we still had very positive renewal experience and the absolute renewal rate was higher in the third quarter than the second quarter, just the percentage declined a little bit. It's not something we're overly concerned about. We think, as long as that spot rate holds or continues to move up, we feel that it will continue to move up here.

You're going to continue to see the renewal rate in positive territory for quite some time. Is it 5%, 10 or 15? It'll move around a bit per quarter, so I'm a little hesitant to throw a prediction up on the wall, but we still feel we're in a very good rate environment.

Okay. On the air business, and you just talked about this. Can you give some examples of kind of the gap that you're getting on new leases versus some of the leases that are on just -- I know they kind of vary quite a bit. If you can give a couple of examples of the pricing gap you're getting on those individual aircraft? 2006, is that a really important year for lease rates to hold up for those 16 aircraft to get the ROE to a more acceptable level?

Well, I think we have a long way to go, Bob, to get the ROE to an acceptable level. I don't want to give you the impression that one year of renewal will get us there, because it won't. Even if the renewal rate is very solid -- and we think it will be -- we still have a long way to go to improve returns there, and we're focused on doing that through management initiatives and other things.

But it's an important year for us because we do have a lot of newer aircraft rolling over, and we think, as long as things hold right now, we'll see pretty good rate pickup. We've seen rates pick up anywhere in the 10% plus range, 10 to 20, depending on the aircraft type, and that's very good news and something we're trying to capitalize on.

We hope that holds going into '06. But again, we're in a good spot, because we did the right thing as far as post 9/11 keeping those lease rates at a point or those leases at a point where they're going to roll over here, a lot of them, in the next two years. But we've still got a lot of work to do.

I think the guidance for the fourth quarter kind of throws some confusion. You guys try to give us some color on that. The core earnings power of the business is the thing that people are trying to figure out and where that's going.

It seems that somewhere around $0.50 per share is a reasonable quarterly average earnings powered level for the Company, which should be moving up with the continued benefit on repricing. Is that out of line as kind of a ball parkish kind of an earnings power number normalized or not?

I don't believe that's out of line as a ball park. As you know, we're not in markets where it's real easy to get a lot of precision, but that's a reasonable level, and as we've talked about, we had between the remarketing gains and really warrant income in the first nine months of the year, those accounted for about 50 million of the 150 in pre-tax income.

So that's great. We were able to capitalize on a lot of opportunities. We think we'll be able to do that again going forward. Just not a lot of it really here in the fourth quarter.

Last question. Your leverage is ridiculously low, and I hope the rating agencies are listening. You guys have been around a long time. You have a pretty good history through some pretty difficult environments, and I know you're trying to get an upgrade to investment grade, but at these leverage levels -- and the rating agencies have made some movements, but at some point it doesn't make any sense to wait for them to become a bit more normalized on the leverage side and you could do that through raising the dividend or buying back stock or through growth. But what is your feeling on the dividend, on leverage, on stock buybacks or with the leverage level it seems like the rating agencies' unwillingness to kind of look at you as an industrial company instead of a financial company.

Bob and I are fighting about who's going to answer the question, so we probably both will. On the rating side, I actually will let him answer his progress on that. But we're not going to do anything to jeopardize our access and cost of capital, and I'll have him discuss where that's going right now. In terms of leverage, it looks low, but look at it from the ratings perspective as well. I would agree it's historically low, but we also have 30% of our assets in air, and they consider that to be a risky part of the portfolio. If you were to consider that if you were going mark that to market to add to our leverage, so it's not a complete agreement, and we're trying to work that out with them. I'll let Bob answer where that rating's going in the short term.

We are investment grade, and we are on the outlook for upgrade at both agencies. I wanted to correct that. And so we're going to have to balance that. We're working towards getting an upgrade, cementing our access to sufficiently priced capital, decreasing our cost of capital, but we're not going to do anything ridiculous in terms of impacting the shareholder here. We're either going to continue to decrease our cost-of-capital or we're going to have to do something else.

And, Bob, I'll just add where we are with the rating agencies. We've had very good meetings with them during the course of the year. Both agencies have us on positive outlook. S and P has had us on positive outlook for quite a while now, and we continue to turn out good solid quarters, and the balance sheet's in real solid shape, and certainly greatly strengthened from where we were a couple years ago.

So we can't speak for the rating agencies, but we definitely have continual dialogue with them with hopefully our performance and the strategic moves that we're executed here to date will have benefit for us in the rating in the near term. But ultimately there's their call, as you know.

If you could add to your previous question, I want to be a little more expressive about that. Rail is getting better. Even if prices were to cap out here, which they show no signs of doing at this point, we'd still have a revenue increase over the next year or two because of the very phenomenon you talked about which is those lower rate leases expiring. The revenue trend is up. We feel the profitability trend is up.

In air, it's the same thing. Things are getting better. There's just a lot of volatility about that situation because of high fuel prices and the state of the airline industry, but it's getting better. Lease rates are getting better, but we're recognizing and tying up more management initiatives that are generating some fees. Core earnings power is going up.

The harder question to answer is on the specialty side because that portfolio has been decreasing over the last couple years. We're starting to see some solid new investment, and you'll be seeing some of that in the first three quarters, and the answer on the specialty side is how fast can we replace that core earning power?

In general, we feel pretty good about it. We don't feel like we've seen any kind of slide at all and think it will continue.

Thanks, guys.

You have a follow-up question from Art Hatfield with Morgan Keegan.

Thank you. Bob, I want to follow-up. You mentioned that on your affiliate income in the quarter and in the prior quarters a portion of that had come from remarketing income. In the quarter, you were at 29.2 million. How much of that was related to remarketing income?

About 7 million, Art. So a real good number. A couple transactions that we executed in specialty.

Is it fair to say kind of somewhere around 20 million is a good number looking forward the way the industry stands right now for your share of affiliates' income going forward?

Some of that is going to be driven, obviously, by -- in Air. Most of the business we do in air is through the joint venture line. The large majority of it. We also have our Rolls Royce engine leasing venture in there, which is a big income and a real good solid generator for us.

A lot will depend on what happens really in the Air business going forward. But it will remain a very, very big contributor and a healthy contributor to us going forward.

Thank you.

[OPERATOR INSTRUCTIONS]. At this time, there are no further questions.

Thanks everyone. And I'll be around all day if you have any additional follow-up questions. Thanks.

This concludes today's GATX Corporation third quarter earnings conference call. You may now disconnect. This concludes the conference call.