For TRN, Production Ramp, Continued Leasing Strength in 2024

(Trinity Industries Photograph)

As supply chain, labor and border challenges ease, Trinity Industries’ (TRN) year-to-date choppy execution, despite a backdrop of decidedly favorable supply dynamics, should improve leading to 14% 2024 production growth and accompanying operating leverage. This and continued lease rate strength should help narrow the valuation gap for a company that has approximately 50% of the manufacturing backlog and one of the largest lease fleets.

Summary of Our Thesis

With an approximately 50% share of the railcar industry’s manufacturing backlog at the end of third-quarter 2023, TRN is well positioned for a manufacturing ramp next year. At TD Cowen, we are modeling for a 14% increase in deliveries and a near doubling of the manufacturing margin to 9.8%, from the underwhelming 5.1% we estimate for this year. Leasing revenue should see multi-year growth driven by the ongoing rate strength and lagging nature of the cycle. These favorable dynamics should more than offset any potential moderation in gains from asset sales, although secondary market valuations continue to hold up well against high interest rates.

What Is Underappreciated or Misunderstood?

TRN’s year-to-date choppy execution against a backdrop of decidedly favorable supply dynamics caused frustration for some investors. The sub-optimal performances are partly due to supply disruptions, labor tightness and border tumult. TRN’s fluidity has lagged some peers, so as disruptions ease, the company stands to have the largest improvement. The execution hiccups do not change a still favorable fundamental outlook, but the relative valuation is reflecting more than hiccups. Within our coverage, TRN’s current valuation relative to the S&P has the most negative variance from its historical valuation relative to the index.

Catalysts, Milestones To Watch

The lease rate recovery of the last three years has been driven largely by supply-side dynamics, while rail traffic has been weak for much of that period. Traffic has shown small signs of improvement in recent weeks, up 1.8% for the cumulative four-week period, up 0.5% quarter-to-date, and down 3.5% year-to-date. Following a couple of bolt-on acquisitions, we expect the company to prioritize optimizing existing operations for the foreseeable future. On the leasing side, absolute rates remain robust and could improve modestly quarter-over-quarter in fourth-quarter 2023, after which we expect TRN to plateau at elevated levels for much of next year and continue to benefit renewals. A possible pull-ahead of the flammable liquid tank car phase-out timeline (even if not mandated by new regulation) could create modest incremental build/retrofit opportunities in the next few years. If equity markets’ risk-on posture on the heels of somewhat subsiding inflation concerns continues, smidcap equities could have greater
upside than larger counterparts.