GATX 2Q23: ‘Continued Strong Demand’ (UPDATED July 26, TD Cowen)

“We see continued strong demand globally for the majority of railcar types in our existing fleets,” GATX President and CEO Robert C. Lyons said during a report on second-quarter 2023 financials, which included Rail North America fleet utilization of 99.3% and a renewal success rate of 85.3%.

“GATX’s Lease Price Index was positive 33.1% for the quarter, with an average renewal term of 61 months,” continued Lyons. “Our commercial team remains focused on improving renewal lease rates and lengthening lease terms on many car types.”

In 2Q23, Chicago-based GATX reported net income of $63.3 million, or $1.74 per diluted share, compared to net income of $2.6 million, or $0.07 per diluted share, in 2Q22. The 2Q23 results “include a net positive impact of $0.2 million, or $0.01 per diluted share, from Tax Adjustments and Other Items,” GATX noted. The 2Q22 results “include a net negative impact of $35.9 million, or $1.00 per diluted share, from Tax Adjustments and Other Items.”

Net income for the first six months of 2023 was $140.7 million, or $3.87 per diluted share, compared to $78.4 million, or $2.18 per diluted share, in the prior year period. The 2023 year-to-date results “include a net negative impact of $1.1 million, or $0.03 per diluted share, from Tax Adjustments and Other Items,” GATX noted. “The 2022 year-to-date results include a net negative impact of $44.4 million, or $1.23 per diluted share, from Tax Adjustments and Other Items.”

“Rail International performed well and continued to experience higher renewal lease rates compared to expiring rates for most railcar types,” said Lyons. “For the second consecutive quarter, GATX Rail Europe and GATX Rail India expanded their fleets with a combined total of nearly 1,000 newly built railcars.

“In Portfolio Management, results were driven by improved performance at the Rolls-Royce and Partners Finance affiliates as international air passenger demand continues to recover. In addition, we identified attractive opportunities to increase our direct investment in aircraft spare engines, acquiring nine additional engines for $239 million during the quarter.

“Based on year-to-date performance and our outlook for the remainder of the year, we expect our 2023 full-year earnings to be at the upper end of or modestly exceed our previously announced guidance range of $6.50–$6.90 per diluted share, with variability around this guidance driven primarily by the timing of remarketing events. This guidance excludes any impact from Tax Adjustments and Other Items.”

Rail North America

GATX’s Rail North America segment reported a profit of $79.3 million in 2Q23, compared to $53.1 million in 2Q22. Year to date 2023, Rail North America reported segment profit of $174.5 million, compared to $173.5 million in the same period of 2022. Higher 2Q23 and year-to-date results were due to “higher lease revenue and higher gains on asset dispositions, partially offset by higher interest and maintenance expenses,” according to GATX.

At June 30, 2023, Rail North America’s wholly owned fleet was composed of approximately 109,500 cars, including approximately 9,000 boxcars. The following fleet statistics and performance discussion exclude the boxcar fleet. Fleet utilization was 99.3% at the end of 2Q23, compared to 99.3% at the end of the prior quarter and 99.4% at the end of 2Q22.

During 2Q23, the renewal lease rate change of the LPI was positive 33.1%. This compares to positive 28.3% in the prior quarter and positive 6.1% in 2Q22. The average lease renewal term for all cars included in the LPI during 2Q23 was 61 months, compared to 55 months in the prior quarter and 51 months in 2Q22. The 2Q23 renewal success rate was 85.3%, compared to 77.9% in the prior quarter and 87.7% in 2Q22. Rail North America’s investment volume during 2Q23 was $161.3 million.

Rail International

GATX’s Rail International segment profit was $27.3 million in 2Q23, compared to $28.3 million in 2Q22. Year to date 2023, Rail International reported segment profit of $50.8 million, compared to $53.2 million in the same period of 2022. “Results in the comparative periods were favorably impacted by more railcars on lease and negatively impacted by changes in foreign currency exchange rates,” according to GATX.

At June 30, 2023, GATX Rail Europe’s (GRE) fleet consisted of approximately 28,800 cars. Utilization was 96.9%, compared to 98.5% at the end of the prior quarter and 99.9% at the end of 2Q22. “Demand for most railcar types remains solid with the decline in utilization driven primarily by weakness in the European intermodal sector,” GATX said.

During 2Q23, GATX Rail India took delivery of more than 570 newly built cars, bringing its total fleet to more than 6,900 railcars at the end of the second quarter. “Demand for railcars in India remains robust driven by continued growth in the economy and infrastructure development,” GATX said.

Portfolio Management

GATX’s Portfolio Management reported segment profit of $26.6 million in 2Q23, compared to segment loss of $15.7 million in 2Q22. Year-to-date 2023, segment profit was $54.9 million, compared to segment loss of $19.6 million in the same period of 2022.

2Q23 and 2Q22 results include a net positive impact of $0.2 million and a net negative impact of $31.5 million, respectively, from Tax Adjustments and Other Items. 2023 and 2022 year-to-date results include net negative impacts of $1.4 million and $46.8 million, respectively, from Tax Adjustments and Other Items.

“Excluding these impacts, higher 2Q23 and year-to-date segment results were driven primarily by increased earnings from the Rolls-Royce and Partners Finance (RRPF) affiliates and GATX Engine Leasing, the Company’s wholly owned engine portfolio,” GATX said. “Higher affiliate earnings from RRPF was due to improved performance across the existing engine leasing portfolio and higher remarketing income.”

More information can be found through GATX Investor Relations.

TD COWEN INSIGHT

Downgrade to Market Perform: We Can Finally See the Peak in the Distance

“We downgrade GATX to Market Perform as we can finally see absolute lease rates peaking late this year,” reported OEM Transportation Analyst Matt Elkott. “We are raising our 2023 and 2024 EPS estimates to $7.00 each, which is likely to represent peak earnings in this cycle, as we believe the lease revenue growth benefit next year could be offset by lower remarketing income. Our price target rises from $135 to $137, reflecting 5% upside.”

A Dive Into the Valuation-Lease Rate Dynamic

“We now expect three key metrics to peak late this year: absolute lease rates, secondary market valuations, and GATX’s earnings,” reported Elkott. “For 2024, we expect secondary market valuations to decrease mildly and lease rates and earnings to plateau. Meanwhile, the shares are trading at 18.8x 2024 consensus EPS, compared to a five-year historical next-year average P/E of 16.2x. Examined another way, GATX is currently trading at a ~3% discount to the S&P, compared to its 12% historical five-year average discount to the index. This 9-point favorable variance is the largest within our coverage.

“GATX’s Q/Q percentage changes in absolute lease rates (estimated by us based on management’s general commentaries on earnings calls) typically do not deviate significantly, directionally, from the stock’s P/E multiple or price. But we demonstrate that a divergence in favor of the latter two metrics has emerged, and some correction cannot be ruled out.

“Valuation typically tends to inflect around the same time that average lease terms do but in a nearly opposite direction. This phenomenon likely illustrates the market’s tendency at times to look beyond a well-documented current inflection to the next. Valuation and average lease term have been moving in the same upward direction since 3Q22, another trend that could see somewhat of a correction (we use average lease term as a loose proxy for absolute lease rates since they tend to move in similar directions and due to the lack of absolute lease rate disclosures by GATX or other lessors).

“We’re raising our 2023 and 2024 EPS estimates modestly from $6.90 and $6.80, to $7.00 and $7.00, respectively. This is likely to represent peak earnings in this cycle, as we believe the higher lease revenue benefit next year will be offset by lower remarketing income as secondary market valuations begin to ease and GATX’s asset-sale opportunities may not be quite as compelling after three consecutive record years (2021-23e). Our price target rises from $135 to $137, as we move to valuing the shares based on 2024 earnings (2023 previously).”