Triton International Limited
Q3 2013 Earnings Call Transcript

Published: 24 Oct 2013

[Operator:]

Good morning, and welcome to the TAL International third quarter 2013 earnings release conference call. (Operator Instructions) I would now like to turn the conference over to Mr. Jeff Casucci, Vice President of Treasury and Investor Relations. Mr. Casucci, Please go ahead.

[Jeffrey Casucci:]

Good morning and thank you for joining us on today's call. We are here to discuss TAL's third quarter 2013 results, which we reported yesterday evening. Joining me on this morning's call from TAL are Brian Sondey, President and Chief Executive Officer; and John Burns, Senior Vice President and Chief Financial Officer. Before I turn the call over to Brian and John, I would like to point out that this conference call may contain forward-looking statements as that term is defined under the Private Securities Litigation Reform Act of 1995 regarding expectations for future financial performance. It is possible that the company's future financial performance may differ from expectations due to a variety of factors. Any forward-looking statements made on this call are based on certain assumptions and analysis made by the company in light of its experience and perception of historical trends, current condition, expected future developments and other factors it believes are appropriate. Any such financial statements are not a guarantee of future performance and actual results or developments may differ materially from those projected. Finally, the company's views, estimates, plans and outlook as described within this call may change subsequent to this discussion. The company is under no obligation to modify or update any or all of the statements it has made herein, despite any subsequent changes the company may make in its views, estimates, plans or outlook for the future. These statements involve risks and uncertainties are only predictions and may differ materially from actual future events or results. For a discussion of such risks and uncertainties, please see the Risk Factor section listed in the company's Annual Report filed on Form 10-K with the SEC. With these formalities out of the way, I would now like to turn the call over to Brian Sondey. Brian?

[Brian Sondey:]

Thanks, Jeff. Welcome to TAL International's third quarter 2013 earnings conference call. TAL continues to achieve strong operational and financial results. In the third quarter of 2013, we generated $1.60 of adjusted pre-tax income per share. This level of income represents a very strong return on our equity and it allows us to fund aggressive growth in our business, while also returning a substantial amount of cash to our shareholders through our dividend program. A strong financial performance is being driven by the high utilization of our container fleet. Our utilization averaged 97.3% in the third quarter and currently stands at 96.9%. We are also benefiting from the refinancing activity completed earlier this year, which lowered our average effective interest rate by nearly a full percentage point compared to the third quarter of 2012. Our strong utilization is being supported by a generally tight supply and demand balance for containers and our high-quality lease portfolio. While TAL has been able to grow our business rapidly over the last few years, the overall production of new containers has been fairly low. As we've discussed before, our shipping line customers have traditionally purchased 55% to 60% of new containers, but they have significantly decreased their buying over the last few years in response to the financial pressure created by excess special capacity. TAL and other leasing companies have increased our purchasing to fill some of this gap, but overall container production has remained well below pre-crisis levels. Mainly because of this, container supply is fairly tight across all parts of the chain. Our customers are forcing themselves to operate with less spare container capacity. Leasing companies continue to hold limited depot inventories of used containers and the factory inventory of new leasing company and shipping line containers is currently moderate. Our shipping lines have responded to lower than expected trade volumes in 2013, by reducing their new container ordering in the second half of the year. TAL's strong utilization is also supported by a high-quality lease portfolio. Over 75% of our containers on hire are covered by multi-year, long-term or finance leases, and these leases have an average remaining duration of 42 months. In addition, TAL's leasing strategy places a strong focus on contractual protections and we generally have been willing to trade lower lease rates for longer lease durations and tighter lease logistics. While this sometime prevents us from capturing the full upside potential of strong markets, our lease portfolio gives us valuable downside protection when our market softens. We think this is one of the main reasons why TAL's utilization seems to be currently outperforming that of many of our peers. While we remain very profitable and our existing fleet of containers continues to perform exceptionally well, the market environment for new investment has been more challenging this year. Containerized trade growth has been disappointing in 2013 and market forecasters are now expecting global containerized trade growth will be 4% or less. We also saw an increased number of shipping lines purchase containers at the beginning of this year, making it more difficult for leasing companies to grow significant faster than trade growth. Low cost debt financing has become widely available for the smaller and midsized container leasing companies. And many leasing companies continue to hold on to aggressive investment and growth ambitions, despite the more difficult investment environment and the more limited pool of investment opportunities. This mix of factors has led to a deterioration in the pricing and quality of new lease transactions. And we have passed on an unusually large number of deals this year, due to concerns about pricing, logistical risk or other contractual features. Fortunately though, our strong customer relationships and extensive supply capability still provide us with a solid volume and good business opportunities, and we've been able to grow even in this difficult market for new investment. Year-to-date, we have purchased over $620 million of new and sale-leaseback containers for delivery in 2013. And our leasing revenues increased 6.4% from the third quarter of 2012 to the third quarter of this year. As mentioned in the press release, we are increasing our dividend again this quarter to $0.70 per share. This increase reflects our continued strong performance and our expectations that market conditions have remained supportive for some time. The increased dividend also reflects the growth of our long-term lease portfolio and the growing share of our profitability coming from occurring leasing revenues. I'll now hand the call over to John Burns, our CFO.

[John Burns:]

Thank you, Brian. As we noted in earnings release, adjusted pre-tax income for the third quarter was $53.8 million or $1.60 per share, up 8% from the third quarter of last year. The increase in pre-tax income from the prior year quarter was a result of the 6% increase in leasing revenue driven by our ongoing investment in new and sale-leaseback containers and continued strong utilization. In addition, ownership cost, which are depreciation and interest expense, actually decreased despite the 9% growth in average revenue earning assets. Depreciation expense was essentially flat from the prior year quarter due to the change in residual values used in our container depreciation calculations implemented in the fourth quarter last year. This change reduced depreciation expense by $4.7 million compare to what it would have been under the prior residual estimates. Interest expense decreased by $3.3 million from the prior year quarter, as we refinanced several credit facilities and extended and lowered the fixed rates on our swap portfolio during the first half of the year. Through this process, we lowered our average effective interest rate in the third quarter to 3.8% or nearly a 100 basis points lower than the prior year quarter. Our gain on sale remained strong at $4.3 million, but was down $3.7 million from the second quarter of this year and $7 million from the prior year's third quarter, largely driven by a reduction in disposal prices of 5% from the second quarter and 15% from the prior year third quarter. The ongoing decline in disposal prices reflects the industry-wide moderation of utilization levels, leading to increased supply of containers available for sale. While we have been forecasting moderating disposal prices, the 5% decline in prices from the second to the third quarter of this year was more than expected, as our third quarter is typically a strong demand period for container disposals. Other factors contributing to the decline in gain on sale were lower disposal volume of high margin original TAL units. Also, high-end net book value of these original TAL units reflecting the increases made in residual values over the prior years. And lower margins and sale-leaseback units purchased over the last few years at prices above our long-term residual values. We recorded a very small bad debt provision of $250,000, as our customers payment performance remain strong and the estimated recovery cost accrued in the second quarter are expected to be sufficient for the recovery of units and hire to a few small shipping lines, which are defaulted. Overall, customers continue to experience a very challenging operating environment due to the continued excess vessel supply and accordingly credit risk levels remain elevated. Our direct operating expenses remain low at 4.7% of leasing revenue. So they are up $650,000 from the prior year quarter. The increase in operating expense is largely attributed to higher storage expense driven by slightly lower utilization and an increase in off-hire units designated for sale. The low volume of direct operating expenses reflects our strong contractual discipline, but requires the vast majority of containers to be redelivered to demand locations, which leads to higher utilization and lower positioning and repair expenses. As Brian noted, we have increased our quarterly dividend to $0.70, representing a relatively high payout ratio on our adjusted net income, but representing only 44% payout ratio of adjusted pre-tax income. At this dividend level, we believe we have plenty of capital to continue to invest in and grow our business. We base our dividend payout on pre-tax income, as we have not paid cash taxes and do not expect to pay cash taxes for a long time, because of the accelerated tax depreciation on our container fleet. This beneficial tax position also results in our dividend distributions, typically qualifying as a return of capital rather than a taxable dividend for U.S. tax purposes. As always, investors should consult a tax advisor to determine the proper treatment of TAL's dividend distribution. I will now return you to Brian for some additional comments.

[Brian Sondey:]

Thanks, John. We currently expect the market conditions to hold fairly steady, as we finish this year and head into 2014, while we expect our operating and financial performance to remain at a high level. Our profitability per container will likely continue to trend down, as our utilization and used container disposal gains continue to normalize from the peak levels reached over the last few years. In addition, the profit contribution coming from new investments and fleet growth to be fairly limited for the next few quarters, as we head through the slow season for dry containers and due to the aggressive competition for new business. As a result, we expect our adjusted pre-tax income to decrease slightly from the third quarter of 2013 to the fourth. Overall though, we are pleased that we continue to achieve strong results in a more difficult market environment. And now we continue to deliver solid fleet growth, strong profitability, high equity returns and a sizeable dividend to our investors. I'll now open up the call for questions.

[Operator:]

(Operator Instructions) The first question is from Michael Webber of Wells Fargo.

[Michael Webber:]

A couple of things I guess here, and I'll just start with Brian. I guess the competitive pricing environment you alluded to in your prepared remarks, and it seems like we've been in here for a while. One, can you talk to whether or not that's a wide spread throughout the space or whether that's purely a function of smaller player with kind of parity in terms of access to capital that are able to get more aggressive in terms of pricing? And then, maybe you can give us some sort of idea in terms of where yield or net spreads are? Maybe not pinpointing a number, I know you guys will be reluctant to do that. But maybe on a sequential basis, how does that trend it quarter-over-quarter, whether yields are still in the single digits? And any sort of guidance there would be helpful?

[Brian Sondey:]

I think what I tried to describe in the comments was that the very competitive pricing environment, in my opinion at least, is caused by several factors combining together to make it difficult. I think that the first factor is just trade growth being less than expected. That combined with the shipping lines at the beginning of the year, purchasing more equipment than we thought, just had the effect of limiting the overall amount of investment opportunities available to the leasing industry. And then, the fact I think that you pointed out, Mike, that the ABS market has become widely acceptable over the last year, widely accessible over the last year or two to smaller and mid-sized container leasing companies, which just made low cost financing generally available in our space. That has combined also with the growth ambitions of smaller and mid-sized players, primarily I'd say to have a larger number of companies with more dollars tracing a smaller set of opportunities. Well, naturally I think what falls out is more competitive pricing. In terms of the yields, I think as you indicated, we typically don't like to point out what we think the current market yield is out there. That said, I think the way I describe it is, typically we're pretty determined to hold our minimum levels of return and would rather pass on business then significantly a road we see as the line for a good investment. That said, the normal market environment, you have some deals that are much better than your minimum hurdles and some deals that barely clear it, and a few deals of course that miss and we pass on. What we've seen really over the last 12 month or so is that a much larger share of deals are falling entirely below our hurdle rate. And then the deals that we are doing typically are just kind of scraping over barely. And so the average yield is down, even though we haven't, say, moved our minimum investment return tremendously.

[Michael Webber:]

When you think about it kind of sequentially in terms of the deals that are kind of falling below your minimum hurdle rates, has that delta kind of picked up at all? If it moves across to the summer has it gotten more competitive I guess, as we kind of move from Q2 to Q3 or has it been pretty consistent?

[Brian Sondey:]

I'd say it's pretty consistent Q2 versus Q3. I think they got worse from Q1 to Q2. And then has stayed at the same level for a little while here.

[Michael Webber:]

Kind of backing off, and maybe talking about CapEx for a second. Last year we saw a little bit of a pre-buy heading into kind of in late Q4, early Q1, as people got a bit more comfortable with kind of the box pricing cycle. Do you think we're going to see that again, as we kind of move through December or do you think kind of shelves in new inventory levels are going to kind of keep that that kind of off the table at this point?

[Brian Sondey:]

It's a very good question. Last year, I think at the end of last year, in the first quarter of this year, the shelf of equipment at the factory got pretty big. It was driven by a few things. First, the leasing up on us included, bought more in the fourth quarter of last year than we typically do, to try to take advantage of seasonal pricing and would seem pretty wide variations in seasonal pricing in 2010, 2011 and 2012. And so all of us were trying to kind of head that off for 2013 and bought a lot kind of seasonally. On top of that, we then saw a number of shipping lines coming at the very end of the year or early in 2013, and that kind of doubled down the amount of factory inventory heading into the peak season. And I think we saw a fact, our inventories of new equipment getting up into the million TEU or more range. Relative to the overall size of containers in the world, that's not an unreasonably huge number, it is bigger than typical, and the numbers were down. The last estimates I have seen is something in the 600,000 TEU range. I think you will see leasing companies like us continue to try to take advantage of counter seasonal buying. And you will have to see how that plays out, but I wouldn't be surprised to see the leasing companies doing similar things. And then the question just is then, what will the shipping lines do? Will we again see more shipping lines jumping in kind of seasonally as well or not. Actually, as I mentioned, we've seen very limited shipping line ordering sense really at the end of the second quarter. And that really is going to limit the amount of containers produced this year and it also makes the factory inventory heavily pointed toward the leasing companies. If the shipping lines decide to be cautious and that would certainly help set us up well for next year, but we're going to have to see how that plays out.

[Michael Webber:]

So the container line is kind of backing off the gap a little bit. I know you noted in your prepared remarks, but it seems like we were in a bit more of an even split between lessors and lines kind of year-to-date. And I guess that that kind of -- I guess what seem to indicated that that was more just kind of a thin data set as opposed to real legitimate shipping, could start a strategic thinking from the container lines. Is that accurate or do you think that we will start seeing kind of a renewed interest in container lines in '14 in terms of buying more containers or bringing that split closer to 50-50?

[Brian Sondey:]

I mean we'll have to see. Quite frankly, we were a little surprised by the fact that the container lines did makeup almost 50% of production in the first half of the year. Certainly they continue to face a lot of operating and financial pressure from the excess vessel capacity. And we had expected initially that their stance on container buying would be similar to what it was in 2010, 2011 and 2012, which was very cautious. My own thinking is that the shipping lines did come in at the end of 2012 and early 2013, because container prices had just fallen a lot. And that sort of the buying opportunity and being able to purchase that, recent historical lows of container prices as well as financing them at very cheap interest rates, was just an interesting investment opportunity. And my belief at least is that we are going to see leasing companies generally being a majority of purchases for a little while here, a few more years, given that the vessel capacity is expected to remain in surplus for quite a while. I'm hoping that the caution we've seen by the shipping lines over the last quarter or so would be indicative of what we'll see in 2014. But we'll have to see when we get there.

[Michael Webber:]

One more from me and I'll turn it over, and also this one is for John actually. You talked about counter-party risk and credit risk still being a little bit higher right now. And I just kind of wanted to comp that against 2009 and 2011. And I know you mentioned some smaller lines that have exited, but it seems like there are always kind of tiny container lines either entering or exiting the market kind of at the bottom of that top-100 list or top-75 list. If you were to kind of comp the current counter-party risk environment and kind of credit risk environment against kind of '09 and '11 in some of those rougher years. How would the current environment stack up? And is that kind of that threshold level that you guys that are kind of at that mid-tier line or small-to-mid tier line that you guys will get concerned about, is the size of that lines and maybe moving up a bit now or is it basically in line where it has been in the past, so just a little bit more color on that?

[John Burns:]

Just relative to ourselves to specifically, we've said that we focus our investment on the top-20, top-25 guys. We certainly do business throughout the whole universe and we did have booked some reserves in the second quarter for some small exposure. But that's a very, very small part of our portfolio. And relative to the big guys, I think overall, they are in better position than they were in 2009 and 2010. But they clearly have a challenge in front of them, the guys that have the best and the most fuel efficient vessels are certainly outperforming the others. And you see that from Maersk, you see that from CMA, et cetera. So the other guys have to make a decision whether to get on and get those new vessels or effectively get out. So it puts in rock in a hard place. What it also does is that, it means there is a lot more vessel capacity coming in chasing a slower growth trade environment. So you've seen for a couple of quarters, they're able to push freight rates up and have a pretty descent operating quarter or two. But then as they go into the slow season, the freight rates fall pretty quickly then. So it's really a matter of how long that trend takes for an equilibrium to come back to supply and demand of vessel capacity. But there certainly we've seen that they've been able to get capital to fund the new investment. And overall I'd say in a good shape, as they've been over the last couple of years, but certainly challenging operating environment.

[Operator:]

Our next question is from Greg Lewis of Credit Suisse.

[Greg Lewis:]

My first question is if, I guess, you're highlighting the fact that the effective interest rate has really come down. As we think about next year at a certain point, you'd have to believe that interest rates are going to go higher. How should we think about how that impacts spreads and I guess really pricing? And should we think that that starts to negatively impact some of the smaller players?

[Brian Sondey:]

It's good question. Interest rates generally for TAL tend not to have much of an impact on our business. For new leasing transactions or writing new leases for new containers, the lease rate is really directly correlated to the current interest rate environment, so that the lease rate relative to equipment prices goes up pretty much dollar for dollar, as financing cost of that equipment goes up. Some times the impacts that have changes in interest rates is in the existing book of business, the existing lease portfolio. At TAL, we typically try to run ourselves a 100% hedged, so that we fully match our lease portfolio with fixed interest rates, as lease portfolio runs off. Our interest matching rolls off and we don't expect to re-price the leases and interest rates in whatever new environment we find ourselves in. I think we described in previous calls that, actually currently, we've been a little bit more than a 100% hedged. We're not more hedged than the dollar value of our assets, but we've extended the duration of the interest rate, beyond the duration of our lease portfolio on average, so that we've kind of locked in our financing cost to hold relatively flat, even if interest rates rise. And so we might get some re-pricing benefit on expiring leases and be able to hold the financing cost for us at least the same. We do find that a lot of others in the business do not fully hedge their interest rates. Some players hedge very little and kind of play to some extent I guess the yield curve of filing short and leasing long, some other players hedge partially. I think those guys are more exposed to fluctuations and interest rates than we are, but there's different theories out there, why they do what they do.

[Greg Lewis:]

And then, just the other question Brian is, in terms of fleet retirement attrition. When we think about, I know you don't get too specific, but on a percentage basis could you maybe provide a little bit of color in terms of how much of the fleet this year do should we think that's going to be retired on a percentage basis?

[Brian Sondey:]

We had, going a few years back, say way back to '05, '06, '07, I know you were looking out at for some of those years, during that time we had a relatively high attrition rate. TAL had bought a lot of equipment in the early 90s and hadn't invested much from, say, the late 90s to the early 2000. And so we are selling those high production years in the early 90s a few years ago. Right now, the attrition rate of our original TAL equipment is exceptionally low. And I think John pointed out in his comment, that's one reason why the gains are trending down. It's just we don't have a lot of original equipment left to sell, because we just had a very few units purchased from 1997 perhaps to 2003, which is the equipment that sort of coming up for sale right now. We've been supplementing that fleet of 10 to 15 year old TAL equipment by doing a high volume of sale-leaseback transactions. And we are getting an increasing portion of those back and a larger share of what we're selling. Our units that we purchased through sale-leaseback transactions, which typically have a lower margin on disposal and because we buy them, in this strong sale market we purchase them for higher prices than our book residuals. But in terms of the overall attrition rate of say original TAL units plus our leaseback units, it's still probably fairly low. And that's because we've added so much new equipment over the last three or four years. And I'd say, if you just think about a standard fleet, we bought the same number of units every year for 15 years and you're selling at maybe 13 or 14 years of age, you might typically sell 6% or 7% of your equipment every year. Currently our attrition rate is well below that.

[Operator:]

Our next question is from Steven Kwok of KBW.

[Steven Kwok:]

I guess, the first question I have was around, are there any early thoughts on how 2014 could potentially turn out? And how the company is positioned around that?

[Brian Sondey:]

It's a good question. I think there is a lot of speculation by everybody in the shipping business on just how is trade growth going to progress over the next few years. We've seen now three years in a row really, 2011, 2012 and 2013 where trade growth expectations have deteriorated over the course of the year. I think in each of those years, shipping industry participations and investors probably as well have been waiting for the global economy to finally to catch fear again after the financial crises, and ended up being disappointed. As say, some early promising signs in the first quarter for global economic growth kind of dissipate by the time the summer rolls around. One of these years, we're going to have to have finally a recovery in Europe and the States, which I think will have, of course positive effects on trade volumes. But yes, I wouldn't say I'm a better market forecaster than anybody else. And we're hopeful that 2014 will be a better trade environment than this year, but we're just going to have to wait till we get there. For TAL, I think we positioned ourselves well to handle whatever comes up down the road. One of the great strengths of the leasing business is that you don't have to commit to CapEx far out into the year. We always maintain a shelf of equipment ready for our customers when they need it, which typically for us is in the range of $200 million of equipment. As customers come for deals or replace if they don't come as fast as we like, we'll have a less than expected CapEx year, but we don't necessarily put ourselves at risk of being overexposed.

[Steven Kwok:]

And then just around the gain on sale, how should we think about that line item going forward?

[Brian Sondey:]

We've been talking for a while now that the gain on sale line is going to go down. While sale prices and gains got to extraordinary high levels in 2010 and 2011, because effectively the global container fleet was fully utilized and there was very little equipment that either shipping lines or leasing companies could push-out in the sale market. And sale prices on an absolute basis, increased by more than 100% from our normal price levels, say in 2005, '06, '07 and '08 to where they reached in 2010 and 2011. We've now been seeing a gradual reduction in sale prices heading back towards normal levels of selling prices. We think there is still some room to go on that. That we still are seeing prices above where they were historically. Still seeing the ratio of used prices compared to new prices, also above where it was historically and we generally think it's going trend down. It's hard for us to predict exactly how fast it's going to trend down, because it does tend to be a thing that both the volume of disposals as well as the price can move, it moves around in the short-term. But as we've been saying we think the general trend is that they're going to come back to normalize for little while longer here.

[Operator:]

Our next question comes from Ken Hoexter from Bank of America.

[Unidentified Analyst:]

This is [ph] Sean Collins from Ken's team. I know you have cited in your release about excess capital out there and banks providing attractive financing terms. Can you go into some specifics on rate in terms and some of the providers out there? Is it banks? Is it other capital provider of this attractive financing that you're seeing your competition have access to?

[Brian Sondey:]

I think it's a variety of sources. I mean of the most distinctive one is actually in the ABS markets where historically only maybe the top three or four leasing companies had frequent access to the ABS markets and that tends to be pretty competitively priced financing. It's also very long-term financing, which gives you greater security on your investment. We're seeing that universe expand greatly as the rating agencies and investors have for some reason taken the view that it doesn't matter who manages the equipment because if one manager stumbles, the investors could replace that manager with somebody else like us. The wisdom of that is questionable, but that is the wisdom out there at the moment. And that has, again, really increased the level, the playing field on the financing side at least, if not the operating side among the leasing companies. We also are seeing banks. We've gone very quickly from the market where we had to call banks ourselves to get to mentioned in financing to now where banks are calling us. My assumption is that it's probably true for lot of our competitors as well and not just the bigger ones, that that there are banks out there looking to put money to work. I think one of the strengths of this business is how well they performed in the downturn and in just the way we're insulated from market volatility due to our short ordering cycle, the high percentage of our equipment on leasing. All that's great for investors, but certainly the capital markets and banks have noticed the same thing and have been putting money to work in this space.

[Unidentified Analyst:]

Turning over to kind of operations, can you briefly comment on box construction costs? It seems like steel prices have remained pretty low, FX has been in your favor, wages have remained fairly reasonable. Can you talk about kind of what you're seeing on pricing there?

[Brian Sondey:]

Box prices really fell quite a bit towards the end of 2012, down into the low-2,000s where they have been more like the mid-2,000s since 2010. For most of this year, box prices say, ranged between 2,200 and the low-2,000s. Right now, they are down towards the low-2,000s and you'll say 2,075; 2,100 in that range and partially driven by the fact that steel prices are lower than they were a few years ago, little bit been fairly stable in the last 12 months at least. And partially it was driven by the order volume, has been pretty well this year. And so the manufacturers haven't been able to add much of a margin over the materials costs.

[Operator:]

Our next question is from Helane Becker of Cowen.

[Helane Becker:]

Maybe like two questions or maybe three. One is with respect to yields, what gets them going again? Like how do you, aside from just maybe better trade growth, how do you get yields moving, if we assume maybe trade growth's pace at this level going forward?

[Brian Sondey:]

Well, just trying to guide, I think there is a whole mix of factors leading to the pressure on yields that we're seeing, which again starts with trade growth as you pointed out, but also does include more than expected buying by shipping lines earlier in the year, and then also just the ongoing growth ambitions of many of the smaller mid-size guys even in the phase of a difficult CapEx environment. Some of the things that could improve the environment certainly would include an increase in trade volume. Especially, if it ended up for once at least -- what we haven't seen recently is it will be great, that will be higher than expectations that all of our, say, customers start the year expecting 4%, 5% growth and end up at 5% to 6%, that's what really drives great years for the leasing industry. Well, I guess I shouldn't get into too much focus on how we focus on yield and return, but I think obviously as company shift focus from growth at any cost to try to maximize the value of their franchises, maybe that shifts their decision making around investment as well. But I think there is a variety of things that can happen. And really it's just the fact that so many things are contributing to making the market tough now, is why I think the pricing is so extreme and if we see any of those things ease up, that would be helpful.

[Helane Becker:]

I guess so but maybe 4% or 5% trade growth would be normal going forward instead of 8% or 9%. I guess I am seeing some signs of improvement, I guess at the end of August in trade from Asia to the U.S. and Europe, are you seeing that at all?

[Brian Sondey:]

And we certainly saw that in the numbers that I think the August comps were pretty good year-over-year. I'd say to be honest, what we hear from our customers is that trade growth overall has been a little bit disappointing this year. And I don't think I haven't heard anything from customers that say August and September has changed that overall perception. Similarly, I don't hear our customers being wildly optimistic about trade growth for 2014, but that said, I certainly don't here any great concerns that it's going to be a disaster either. And again, in our business for the leasing industry, it really isn't even the absolute amount of growth that's so important, what tends to be more important is how much growth is there relative to what was expected, because again our shipping line customers really become quite, in need of our services, when growth is more than expected than they under-planned their fleet additions. And so what we're really hoping for is that again, finally, a recovery in the U.S. or Europe catches people by surprise and shifts the actual versus expectations comparisons.

[Operator:]

Our next question is from John Mims of FBR.

[John Mims:]

So Brian, you started talking about, as far as inventory, but just on a general production standpoint for the industry, I think I had heard before like 2 million boxes were sort of the outlook, is that still pretty a good number for full year 2013 production?

[Brian Sondey:]

It's a pretty good estimate, which is actually quite low. There is something in the range of 35 million or more TEUs being operated in the world. And so even with 4% just straight growth, you'd expect something in the 1.5 million TEU range of containers needing to be added to the fleet just to kind to keep pace. On top of that of course it's about probably 1 million or more TEU every year sold off. So that you probably could make an argument that that fleet growth is actually lagged for containers at least, but the container fleet growth has lagged trade growth this year, which I do thing sets us up very well, if we do get to a market where actual trade growth is a little higher than expectations.

[John Mims:]

What's a normal, I mean you talked about TAL specifically, but what's your normal attrition rate, is it like 5%, which I guess would be close to?

[Brian Sondey:]

Let's say, if there wasn't any trade growth and the same number of containers were out there for every vintage year, it would probably be 6% or 7%, but of course this bench rate growth for the old vintage years are smaller than the new vintage years. And so I think typically it's probably somewhere in the 4% range.

[Operator:]

The next question is from Bill Carcache from Nomura.

[Bill Carcache:]

Brian, you talked a little bit about how you guys are inclined to old levels of returns, when evaluating new business opportunities. It's seems like that kind of discipline is great from a long-term management perspective, but could possibly lead to some slower growth over the near term? Can you talk about how you balance? Do you kind of interplay between growth and kind of that longer-term discipline?

[Brian Sondey:]

Yes, for sure. And no doubt, there is a tension between growth ambitions and returns. And I think in general we've said for many years that, and I'm just throwing these numbers out for examples, we'd rather be a company that grows at 10% and has a return on equity of 20% than be the opposite, a company that grows a 20% and has returns of 10%. And I think that remains our philosophy. We think container investments are great investments with stable cash flow and very predictable future performance, if you do them right. And that requires you to get a fair return on your capital, requires you to cover the cost of your infrastructure and the lease rates, and also it really requires a lot of lease and operating discipline to make sure that you're keeping your containers in places where other customers want them. And then you have this table of customers that can pick up containers from all the places that you need. I think there is some minimum investment level that we need to do to maintain our position with customers and sometimes if we feel we're risking of perhaps losing a customer or stopping to get favorable treatment if we say no too often, we do take that into consideration when comparing the investment return versus our hurdles. But for any investment above that kind of franchise maintenance level of investment, we typically take a fairly -- we think disciplined view on the lease has to have, pricing is sufficient to cover the cost of capital and the cost of our organization, we have to have disciplined that's going to allow us to get a good return over the equipments full life, not just during the first lease. And it's something we're pretty hardheaded about.

[Bill Carcache:]

One other question the dynamic that we're seeing on the split of new container purchases becoming more even, apologize if I miss this, but I guess, I'm just wondering if you see a possibility that we'll swing a bit to the opposite of where we were with shipping companies purchasing a greater percentage of new containers, perhaps even well above their historical average levels?

[Brian Sondey:]

Our view has been and one thing I did talked about earlier is that a lot of the shipping line buying that we saw this year was at the first part of this year, which was it seems to me at least mainly driven by the fact that container prices had just dropped a lot from where they were in 2010, '11 and '12, as well as driven by the fact that interest rates are really low and there is some concerns that they weren't going to remain low for so long. I am actually hopeful sort of the other way that that the leasing industry will continue to be, the majority of equipment buying for sometime here, just driven by the fact that most people expect vessel capacity to remain in surplus, well into the medium term in the next two, three, four years. And that that, it's just going to make it very, naturally difficult for our customers to earn strong returns. And so more than usual, at least more than historically, have it incentive to use leasing not just for flexibility, but also for capital. I am hopeful that dynamic continues and that about we're willing to see.

[Operator:]

Our next question is from Doug Mewhirter from SunTrust.

[Doug Mewhirter:]

Most of my questions have been answered, first on the CapEx. Do you actually have a number that you actually spent this quarter on CapEx, either growth or net of disposals?

[Brian Sondey:]

Well, we don't have a net. The gross you can get just from the difference in what we reported at the end of the second quarter. John, I believe it was 470? Is that right? And what we reported at the end of this quarter, which was 620. So my quick math, tells about a 150 of additional CapEx this year for deliveries this year.

[Doug Mewhirter:]

The second, actually slightly more bigger picture question. Have you seen any signs of life in Europe? I know their GDP finally turned positive and there been sort of rumblings that things are not all as that as they that as they seem anymore. Have you noticed that in the shipping patterns or your order patterns with Europe?

[Brian Sondey:]

Europe has actually held up okay. We don't typically see where our containers go. We just kind of see the net demand for our containers globally and that net demand typically is out of Asia, regardless of whether the boxes are going to Europe or the States or South America or wherever. But we hear from our customers a lot and I think what we hear generally is that there are some positive signs in Europe as you're pointing out. And I don't hear so much about strong growth, but what I do hear is less concern that it's going to be a disaster. I think for a while there in 2011, 2012 there was real concern that European trade volumes might suddenly fall off a cliff and kind of drag down, that the good support we are seeing from the intra-Asia and other regional trade volumes. Again, I don't hear anyone talking about a real surge for European trade, but we do hear the fact that it shouldn't drag everything else down.

[Operator:]

Our next question is from Sal Vitale from Sterne, Agee.

[Sal Vitale:]

Just a few quick questions. And I know you addressed this earlier, sorry I had to hop off the call, then I came back in the midst of your response to a question. But you talked a little bit about the factory inventory and how it continues to decline? Just looking at my notes, I think back in on the July call you said that earlier in the year it was roughly 1 million TEUs and it came down to about 800,000 by July, where is it about now? Where would you point it now?

[Brian Sondey:]

And now the numbers I see are in the range of 600 million and it's mainly due to the fact that the shipping lines have reduced buying, really since the end of the second quarter.

[Sal Vitale:]

So that's because of the lines. That was the other part of my question. So you also said that your shipping lines since the end of the second quarter are pretty much stepped back from the purchasing?

[Brian Sondey:]

They've been cautious since the second quarter. I think mainly just because those that wanted to buy, bought early in the year to take advantage of what they thought were very low prices and then also just because trade volumes have been disappointing.

[Operator:]

We have a follow-up question from John Mims of FBR Capital Markets.

[John Mims:]

So I just wanted to finish the thought from earlier, if container growth is lagging a little bit behind trade growth, as we go into '14 and assuming we have a decent trade year. Are you starting to see anything at all that would be indicative of maybe with your shortage or the reverse being that the box usage is getting a little bit more efficient, if that's either through a better box-to-slot-ratio or just a shift of trade length in more kind of balanced trade flows. I mean, is there a kind of bare call to be made on the number of boxes or are you more in the camp that were just lagging from a production standpoint that sets us up better for next year, does that make sense?

[Brian Sondey:]

Yes. And we always like it when overall production volumes are low compared to the trade growth. I mean, of course we want our production number to be big, but the overall production, we want to be low. And there's no doubt also the shipping lines have gotten much more focused and aren't being efficient with the use of containers. And not only has the ratio of boxes-to-slot dropped, but also certainly the ratio of, say loaded movements to total containers that the total container numbers has gotten smaller relative to movement. I think quite frankly that sets us up for some opportunity. And certainly, we hear from our customers that they think they've kind of rung out in terms of container operating efficiencies about as much as they can ring. And we actually even in the fourth quarter here, despite difficult trade volumes continue to see customers running out of containers in a particular size, in a particular location, because we're trying to run with such efficient fleets. And again, I think one of these years, we're going to find them an environment where trade growth beats the expectations. And I think the limited factory inventory, that relatively limited number of used equipment in depots as well as all the efficiencies that shipping lines have tried to achieve in their container fleets, all of that would lead to a relatively quick translation of excess trade growth that leads container demand really fast. And it's hard to predict exactly when we're going to hit that environment, but we will eventually and I think its hopeful we'll tighten things up pretty fast.

[John Mims:]

And where is the box-to-slot-ratio for the industry now, would you guess?

[Brian Sondey:]

I am definitely not the guy to quote that number, but at least the numbers I think I read are somewhere maybe like the 1.7 range, something like that.

[Operator:]

We have a follow-up question also from Sal Vitale from Sterne, Agee.

[Sal Vitale:]

Sorry Brian, I think we got cutoff a little earlier. Just a follow-up question I had to the container lines purchasing was I think in the release you mentioned that you think that this year that the breakdown will come out to about 50%, that the lines will buy about 50% of new production. So would that imply that in the first half of the year that it was more like, say, 55%, 60% and then the second half is going to be 45-ish percent?

[Brian Sondey:]

What we actually said I think in the second quarter, the number was looking sort of like 50-50. And because the shipping lines had purchased quite a bit at the beginning of the year, what we've seen since the end of the second quarter is that it's been mainly leasing companies. And so I think actually we're going to see the leasing industries again in 2013 be a majority of equipment purchases. But that said a lot of the containers that are being purchased right now aren't really being brought with an eye towards supplying the market this year, it's been brought with an eye to supplying the market next year. And so it really depends on how you break it down. I think that the mix of shipping lines owned equipment and leasing equipment that went to service trade in 2013 is likely say in the range of 50-50. But if you look at in terms of production date, it's probably going to be majority leased.

[Sal Vitale:]

And then the 600,000 factory inventory level you mentioned earlier. Is that about the normal level, I guess for this time of year?

[Brian Sondey:]

That number changes a lot in terms how many boxes are at the factory. And so it is hard to say what's normal. And because right now people are buying containers not necessarily to handle shortages in the fourth quarter, but to a large, we're speculating on what's going to be needed next year early on and whether it's good or not to try to buy more than we need at the moment to take advantage of current pricing. I would say 600,000 actually relative to the size of the fleet is relatively smallest historically. And again, there is 35 million containers or more out there operating, 600,000 is less than 2% of that. And that say, again I think a relatively tight number.

[Sal Vitale:]

And then the other question I have relates to, I guess the composition of your leased portfolio when the timing of when the leases come up for renewal, just looking back at your CapEx in '09, I think it was actually low-to-non-existent. So assuming, you have five-year leases when you enter into them, you basically should be looking at very little re-pricing risk in '14, is that the right way to look at it.

[Brian Sondey:]

I mean in general we say, our lease portfolio tends to be fairly smooth, that we try to avoid big peaks of expirations, but we write the dominant lease duration is five year. And because we did very little buying in 2009, you'd expect probably a less than usual amount of expirations in 2014, that will be offset by a higher than usual expirations in 2015 and 2016 and 2017, because of the very big production years in 2010 and 2011. But we've got some time.

[Sal Vitale:]

So basically it allows time for the market to recover from the current low lease rates that we have now. So you shouldn't face too much of a headwind in '14, and by '15 period the market should have recovered by that time.

[Brian Sondey:]

Again 2014, right, we should have a less than usual amount of expirations. And certainly I think all of us are hoping for better market environment by the time we get out two, three years.

[Sal Vitale:]

And then nearer term, just looking at your guidance for 4Q. I think I understand the lower trading gains, the lower sales on gains, what are the other puts and takes that drive the lower forecast results for 4Q. Utilization, do you expect that to trend down significantly? I wouldn't think so.

[Brian Sondey:]

What we've been saying really I think in sense that maybe the real peak in the summer of 2011 has been and we expect per container performance to generally trend down, as just conditions normalize. As we get a little further away from those years of just exceptional tightness in container supply and demand, we just think utilization just naturally has to come back to earth a little bit. And then as I was describing earlier, the used container sale prices again have to come back to earth. From the summer of 2011 for this year, we've been able to offset that kind of per container normalization by combination of fleet growth and really valuable investments in '11 and '12 as well as some other things like refinancing benefits of all that we get at the beginning of this year with our interest expense, and then also just the accounting change and the depreciation residuals, all those things, the valuable CapEx, the lower interest expense and the depreciation to offset that per container normalization. What we're saying is for the next couple of quarters we don't really expect so much more benefit on the interest expense line. Our average effective rate at 3.8 for this quarter is pretty close to what's out there in the market right now. So it's not so much more juice that we had by squeezing that. And in terms of the CapEx, just the overall volume of equipment going on higher tends to be pretty low in the fourth quarter and the first quarter. So you don't get a revenue on higher growth offsetting the continued normalization of the existing fleet. And so those are the ingredients into at lower expectation from this quarter to next.

[Sal Vitale:]

And then just the last question I have is really combination question and observation on the dividend side. I look at though, what your yield is, it's currently about 5.5% given the recent dividend increase. And just comparing that to some of the other leasing companies not only the container leasing companies, but looking at for example companies like Ryder truck leasing or GATX, Aircastle, and there is like an equipment company, I forgot the name right now, but they all yield about, call it 2.5% or 3%. And I look at what could be the reasons, what's the disconnect that's driving that, and a couple of observations. I mean some of those companies probably have longer track records. They probably have a less concentrated revenue base and maybe shipping is perceived as a much more far little business than say trucking or rail. But that shouldn't account for -- you're basically trading it, say, double the yield that they are, so I guess the question there is that leads me to believe that maybe the market, the investors they discount the sustainability of your dividend, which I don't think that's the case. I don't think your dividend is not sustainable. Can you maybe just provide some parameters as to how you look at the dividend? I mean, I know you said you look at the payout ratio on pre-tax?

[Brian Sondey:]

It's something that we always like to talk about. And we do think investors to some extent, and it's our first-to-know of course, what exactly they're thinking, but we do think in a lot of cases our dividend is misunderstood. We often do see, even analyst on this call, talking about our dividend payout ratio as a share of our net income. And as John pointed out in his comments our dividend looks like a very high share of our net income, almost 70%. Well, in fact we don't pay any cash taxes. And I think the dividend is best analyzed as a share of our pre-tax income. That's certainly how we think about it. And a payout ratio in the mid-40% range to us is very comfortable. I mean we see set the dividend at a level that allows us to sell fund the equity required for the growth we think we can capture in the market and we've gradually been raising the dividend over time, over the last few years. Our earnings really grew dramatically from 2009 through 2013 as just we grew our fleet very rapidly and as our performance became really exceptional, we didn't grow the dividend as quickly. We've kind of been growing the dividend into our performance to make sure we don't overshoot and we're still kind of our fielding our way there. Also the fact that there is a slightly more difficult investment environment it actually gives us more room to increase the dividend, because the biggest use of our cash is actually funding growth CapEx. And so we still feel we've got a very comfortable payout ratio even at our current dividend. In terms of why do investors value our stock to give us such a high dividend yield, who knows really? I think there is a lot of factors that go in. I think the shipping industry does have a negative reputation in the United States. I think we some times get thrown into the shipping industry, even though our dynamics in terms of our revenue predictability and in the lack of a fair leasing cycle, I think means we shouldn't be thrown into that bucket, but we are. And then finally, I think as I look at the way we trade, it seems to me we continue to trade mostly on the basis of GAAP earnings relative to our peers. With our peers being offshore, not accruing taxes, and us being onshore and accruing taxes, so that puts us at very big disadvantage in terms of our value relative to cash flow. And since we pay dividends out of cash flow, I think that just not naturally leads to a high dividend yield. We certainly hope other people notice the same thing that you mentioned there, Sal.

[Operator:]

This concludes our question-and-answer session. I would like to turn the conference back over to Mr. Sondey for any closing remarks.

[Brian Sondey:]

I'd just like to thank all of you for your ongoing interest in TAL. And we look forward to talking with your soon. Thank you.

[Operator:]

The conference has now concluded. Thanks for attending today's presentation. You may now disconnect.