TRINITY INDUSTRIES INC annual report, FY2018

Business context and reporting period

Trinity Industries, Inc. filed this Form 10-K for the fiscal year ended December 31, 2018. It is an annual report, not a standalone fourth-quarter filing. Trinity’s continuing businesses provide railcar leasing and management, railcar manufacturing and maintenance, and highway products. On November 1, 2018, Trinity spun off Arcosa, Inc.; Arcosa’s results are presented as discontinued operations for all periods, and segment results were recast.

Financial performance and key metrics

2018 revenue increased 4.7%, while operating profit fell 14.4%. Higher railcar sales and maintenance activity contributed to revenue growth; pricing pressure on certain railcar types and lower leasing rates weighed on profit. Operating margin declined year over year. The 2017 earnings comparison is substantially affected by a $476.2 million Tax Act benefit; 2018’s effective tax rate was 28.1%, versus a tax benefit rate of 212.2% in 2017.

Fourth-quarter 2018 revenue was $735.0 million, operating profit was $89.8 million, and income from continuing operations was $28.0 million. Net income attributable to Trinity was $27.3 million, or $0.19 diluted EPS. Fourth-quarter revenue and profit are presented for continuing operations; discontinued-operation results were a $0.3 million loss.

Liquidity, cash flow and capital allocation

At year-end, cash and cash equivalents were $179.2 million; total cash, cash equivalents and restricted cash were $350.8 million. The $450 million unsecured revolving facility had $392.5 million available, after $57.5 million of letters of credit. An additional $375.2 million was available under the railcar warehouse facility, subject to eligible unpledged collateral. Recourse debt was $397.4 million and non-recourse debt was $3,631.8 million; the filing reports total debt to total capital of 61.1%, up from 40.0% in 2017. Management stated it believed capital resources were adequate.

Cash from continuing operations fell to $274.2 million from $610.1 million. Continuing investing activities used $412.3 million, including $948.3 million of net lease-fleet capital expenditures, partly offset by asset-sale proceeds and reduced marketable securities. Continuing financing activities used $291.1 million. Trinity repurchased 17.2 million shares for $430.1 million during 2018 and paid $75.9 million in dividends. The $350 million accelerated repurchase program was expected to be completed in the first quarter of 2019.

Material changes, outlook and management commentary

• Railcar orders were 28,795 and deliveries were 20,105 in 2018, versus 12,900 orders and 18,395 deliveries in 2017. Year-end railcar backlog rose 68.5% to $3,647.6 million; approximately 64% was expected to be delivered in 2019, with the remainder into 2023.
• The company-owned and partially owned lease fleet grew 12% to 99,215 railcars and was 98.5% utilized, compared with 96.8% utilization in 2017. Leasing Group operating profit fell 21.0%, reflecting lower average lease rates, higher fleet depreciation and maintenance costs, fewer gains on older railcar sales, and a $12.6 million non-cash charge related to foregoing certain early-purchase options.
• Management projected 2019 manufacturing and corporate capital expenditures of $90–$110 million and net lease-fleet investment of $1.2–$1.4 billion. No earnings or revenue guidance was provided in the supplied filing text.
• In January 2019, Trinity completed a $218.4 million purchase of 6,779 railcars previously leased from independent trusts, funded with cash and revolving-facility borrowings.
• Trinity redeemed and cash-settled its convertible notes in 2018 for approximately $646.6 million. It also expanded a railcar term loan to $663.0 million and amended its revolving facility to $450 million, maturing in 2023.
• The Arcosa separation reduced diversification and changed Trinity’s scale and financing profile. Spin-off-related costs were $36.3 million in 2018, including $31.2 million in discontinued operations.

Risks, contingencies and unusual items

• Railcar demand, lease rates, customer order timing and manufacturing prices are cyclical; steel and component costs, supplier availability, and competition can pressure margins.
• Highway-products litigation remains a material uncertainty. The U.S. Supreme Court denied the relator’s petition in the federal False Claims Act case in January 2019, ending that action after the Fifth Circuit reversed the $682.4 million judgment. Related state qui tam cases and other claims remain; a Missouri class action is scheduled for trial in April 2020. Trinity recorded no accrual for the state actions because management did not consider a loss probable and could not estimate a loss range. The company disclosed a $23.3–$45.9 million range of reasonably possible losses for other matters, with $29.6 million accrued overall.
• Other key exposures include product liability and warranty claims, environmental and workplace obligations, regulatory changes affecting railcars, access to financing, and risks associated with Mexican operations and trade policy. Trinity reported $834.8 million of non-cancelable purchase obligations, chiefly for materials and components.
• About 25.4% of total debt was variable-rate. Management estimated a one-percentage-point increase in rates would raise 2019 interest expense by $6.4 million after hedges. No open derivatives hedged natural-gas or diesel-price exposure at year-end.
• The Arcosa distribution was structured as tax-free, relying on an IRS ruling and tax opinions; adverse tax treatment could create significant liabilities. The filing also identifies potential indemnification and fraudulent-conveyance risks related to the separation.

Ernst & Young issued unqualified opinions on the financial statements and internal control over financial reporting.

Important facts for investors to verify

• Whether the substantially higher backlog converts to deliveries and acceptable margins, given stated pricing pressure and product-mix changes.
• Whether fleet utilization and lease rates remain strong enough to support the planned $1.2–$1.4 billion 2019 net fleet investment and associated financing.
• Debt composition, refinancing needs, covenant headroom, and the effects of rising interest rates; most reported debt is non-recourse to Trinity but remains a significant consolidated obligation.
• Developments in the remaining ET-Plus state, municipal and product-liability cases, including potential costs not accrued.
• Completion and final share count of the accelerated repurchase program, and the effects of the Arcosa spin-off on continuing cash flows, taxes and indemnity obligations.