Last week CAI International (NYSE:CAI) priced a new issue of fixed-to-floating preferred stock with an initial coupon of 8.50%. At first glance at the initial coupon and the 5.82% spread when the issue goes to floating rate in 5 years we thought this would be a decent issue to buy. Since that time we have drilled down much deeper into historical data of the company and have determined we should hold up for now.
CAI has become one of the largest owners of shipping containers on the globe with a fleet of over 1.2 TEU (20 foot equivalent) million units. These containers range from the standard 20′ dry units we see all around the county on rail flatbeds to refrigerated units and specialized swap bodies which are made for over the road use in Europe.
In addition to their container ownership the company owns and leases over 7,000 rail cars of all types from dry bulk to tankers.
The company has done an excellent job of keeping the fleet utilized with over 97% of the fleet leased.
Additionally the company has a sizable logistics company which provides truck brokerage, warehousing and freight forwarding.
It is easy to see that this business (all of them whether containers, rail cars or logistics) is heavily dependent on the health of the global economy. Of course almost all businesses are dependent on a healthy economy, but a limited number of them have debt of almost 5 1/2 times revenue. This ranks right up there with the ocean shippers from a financial perspective–huge investment with high debt loads. This is $2 billion in mostly floating rate debt that has to be paid for in good economies and bad. This is a tremendous burden and honestly except for utilities we don’t like to see this high debt level in an investment.
As we review the last 5 years 2013-2017 we see the net income has ranged from $5 million in 2016 to $72 million in 2017 with free cash ranging from $111 million in 2016 to $183 in 2017. Stellar number–depreciation is huge on a fleet of containers and rail cars so the non cash depreciation charge is over $100 million/year.
In the 1st 9 months of 2017 the company had revenue of $254 million with net income of $35 million ($1.83/share). With cash flow of $117 million (net plus depreciation). Tremendous numbers. At the same time here is what the common stock did–
So when an investor looks at these numbers at 1st glance they appear to be excellent–and they are excellent. But is the reward adequate for the risk? There is no common stock dividend which would help to be a margin of safety. Would seem to me that a common dividend would be warranted. Also 1 look at the common which has headed sharply lower while huge profits are announced seems strange–someone smells a rat here.
To determine if the reward is adequate to compensate us for the risk we have to look at the general global economic condition as well as a deeper history.
Briefly we think that the economies of the world are improving, but the growth rate is fairly modest and we think unlikely to speed up much if any from here. Interest rates are being raised and while long term rates are not responding to higher short rates and investor has to wonder why if economies are doing well why won’t interest rates go higher. Debt levels around the globe are higher than at any point in history and the U.S. has new budgets that will put the bond markets under stress (we believe) as buyers demand higher interest rates (which they haven’t done as of yet). At the same time the U.S. is moving to quantitative tightening and other central banks are planning to do so by the end of the year. Something has to give.
At the same time we are staring into higher interest rates CAI is buying containers and rail cars—to us chasing the economic growth that is currently in place, but which may very well wane later this year. Additionally since CAI is a very international company any trade disruption will serve to pressure earnings.
This smells of the ocean shippers chasing current business by ordering bunches of ‘new builds’ that will never be needed. The 1 saving grace is that containers and rail cars have a much shorter lead time that ocean ships.
CAI spent $370 million on new containers during the 1st 6 months of 2017 and while the claim is that they are spoken for with 8 year leases we are highly skeptical of these leases–as with ocean shippers the leases are only as good as the counter party and sometimes they aren’t very good. Bottom line is this is one heck of a large investment for a company with $348 million in revenue last year. Remember that the company borrows money for these purchases.
We do note that the company claims that inflation and higher interest rates are good for the company blah, blah, blah. Not buying that line irrespective of lease terms etc.
We could go on–but the bottom line is we think we need to wait and watch these shares. We think the risk is high and the reward not quite high enough for us. We think maybe another percent would help, but we shall see.