UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-K
ý | ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
For The Fiscal Year Ended December 31, 2014
Or
o | TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
Commission file number- 001-32638
TAL International Group, Inc.
(Exact name of registrant as specified in the charter)
Delaware (State or other jurisdiction of incorporation or organization) | 20-1796526 (I.R.S. Employer Identification Number) | |
100 Manhattanville Road, Purchase, New York (Address of principal executive office) | 10577-2135 (Zip Code) | |
(914) 251-9000 (Registrant's telephone number including area code) | ||
Securities registered pursuant to Section 12(b) of the Act:
Title of Each Class | Name of Exchange On Which Registered | |
Common stock, $0.001 par value per share | The New York Stock Exchange | |
Securities registered pursuant to Section 12(g) of the Act: None
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes ý No o
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act. Yes o No ý
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirement for the past 90 days. Yes ý No o
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes ý No o
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. o
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reporting company. See definitions of "large accelerated filer," "accelerated filer" and "smaller reporting company" in Rule 12b-2 of the Exchange Act.
Large Accelerated Filer ý | Accelerated Filer o | Non-accelerated filer o | Smaller reporting company o | |||
(Do not check if a smaller reporting company) | ||||||
Indicate by check mark whether the registrant is a shell company (as defined in rule 12b-2 of the Exchange Act). YES o NO ý
The aggregate market value of voting common shares held by non-affiliates of the registrant as of June 30, 2014 was approximately $1,461.0 million.
As of February 12, 2015, there were 33,253,190 shares of the Registrant's common stock outstanding.
DOCUMENTS INCORPORATED BY REFERENCE | |
Part of Form 10-K | Document Incorporated by Reference |
Part III, Items 10, 11, 12, 13, and 14 | Portion of the Registrant's proxy statement to be filed in connection with the Annual Meeting of the Stockholders of the Registrant to be held on April 28, 2015. |
Table of Contents
Page No. | ||
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CAUTIONARY NOTE REGARDING FORWARD-LOOKING STATEMENTS
This annual report on Form 10-K contains forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, or the Securities Act, and Section 21E of the Securities Exchange Act of 1934, as amended, or the Exchange Act, that involve substantial risks and uncertainties. In addition, we, or our executive officers on our behalf, may from time to time make forward-looking statements in reports and other documents we file with the Securities and Exchange Commission, or SEC, or in connection with oral statements made to the press, potential investors or others. All statements, other than statements of historical facts, including statements regarding our strategy, future operations, future financial position, future revenues, projected costs, prospects, plans and objectives of management are forward-looking statements. The words "expect," "estimate," "anticipate," "predict," "believe," "think," "plan," "will," "should," "intend," "seek," "potential" and similar expressions and variations are intended to identify forward-looking statements, although not all forward-looking statements contain these identifying words.
Forward-looking statements in this report are subject to a number of known and unknown risks and uncertainties that could cause our actual results, performance or achievements to differ materially from those described in the forward-looking statements, including, but not limited to, the risks and uncertainties described in the section entitled "Risk Factors" in this report as well as in the other documents we file with the SEC from time to time, and such risks and uncertainties are specifically incorporated herein by reference.
Forward-looking statements speak only as of the date the statements are made. Except as required under the federal securities laws and rules and regulations of the SEC, we undertake no obligation to update or revise forward-looking statements to reflect actual results, changes in assumptions or changes in other factors affecting forward-looking information. We caution you not to unduly rely on the forward-looking statements when evaluating the information presented in this report.
WEBSITE ACCESS TO COMPANY'S REPORTS AND CODE OF ETHICS
Our Internet website address is http://www.talinternational.com. Our annual reports on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K, and amendments to those reports filed or furnished pursuant to Section 13(a) or 15(d) of the Exchange Act are available free of charge through our website as soon as reasonably practicable after they are electronically filed with, or furnished to, the SEC.
We have adopted a code of ethics that applies to all of our employees, officers, and directors, including our principal executive officer and principal financial officer. The text of our code of ethics is posted within the Corporate Governance portion of the Investors section of our website.
Also, copies of our annual report and Code of Ethics will be made available, free of charge, upon written request to:
TAL International Group, Inc.
100 Manhattanville Road
Purchase, New York 10577
Attn: Marc Pearlin, Vice President, General Counsel and Secretary
Telephone: (914) 251-9000
SERVICE MARKS MATTERS
The following items referred to in this annual report are registered or unregistered service marks in the United States and/or foreign jurisdictions pursuant to applicable intellectual property laws and are the property of TAL International Group, Inc. and our subsidiaries: TAL®.
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PART I
ITEM 1. BUSINESS
Our Company
We are one of the world's largest and oldest lessors of intermodal containers and chassis. Intermodal containers are large, standardized steel boxes used to transport freight by ship, rail or truck. Because of the handling efficiencies they provide, intermodal containers are the primary means by which many goods and materials are shipped internationally. Chassis are used for the transportation of containers domestically.
Business Segments
We operate our business in one industry, intermodal transportation equipment, and have two business segments:
• | Equipment leasing - We own, lease and ultimately dispose of containers and chassis from our lease fleet, as well as manage containers owned by third parties. The Equipment leasing segment contributed 96.7%, 96.1%, and 97.3% of the sum of our Total leasing revenue, Trading margin, and Net gain on sale of leasing equipment for the years ended December 31, 2014, 2013, and 2012, respectively. |
• | Equipment trading - We purchase containers from shipping line customers and other sellers of containers, and resell these containers to container retailers and users of containers for storage or one-way shipment. The Equipment trading segment contributed 3.3%, 3.9%, and 2.7% of the sum of our Total leasing revenue, Trading margin, and Net gain on sale of leasing equipment for the years ended December 31, 2014, 2013, and 2012, respectively. |
Certain financial information for each of our business segments is incorporated by reference to Note 7 "Segment and Geographic Information," to the consolidated financial statements contained in Item 15 of this report.
Equipment Leasing Segment
Our equipment leasing operations include the acquisition, leasing, re-leasing and ultimate sale of multiple types of intermodal transportation equipment, primarily intermodal containers. We have an extensive global presence, offering leasing services through approximately 230 third-party container depot facilities in 40 countries as of December 31, 2014. Our customers are among the world's largest shipping lines and include, among others, CMA CGM, NYK Line, Mediterranean Shipping Company, Mitsui O.S.K., and Hapag-Lloyd.
We lease five types of equipment: (1) dry freight containers, which are used for general cargo such as manufactured component parts, consumer staples, electronics and apparel, (2) refrigerated containers, which are used for perishable items such as fresh and frozen foods, (3) special containers, which are used for heavy and oversized cargo such as marble slabs, building products and machinery, (4) tank containers, which are used to transport bulk liquid products such as chemicals, and (5) chassis, which are used for the transportation of containers domestically.
We generally lease our equipment on a per diem basis to our customers under three types of leases: long-term leases, finance leases and service leases. Long-term leases typically have initial contractual terms ranging from three to eight years and provide us with stable cash flow and low transaction costs by requiring customers to maintain specific units on-hire for the duration of the lease. Finance leases are typically structured as full payout leases, and provide for a predictable recurring revenue stream with the lowest cost to the customer because customers are generally required to retain the equipment for the duration of its useful life. Service leases command a premium per diem rate in exchange for providing customers with a greater level of operational flexibility by allowing the pick-up and drop-off of units during the lease term. We also have expired long-term leases whose fixed terms have ended but for which the related units remain on-hire and for which we continue to receive rental payments pursuant to the terms of the initial contract. Some leases have contractual terms that have features reflective of both long-term and service leases, and we classify such leases as either long-term or service leases, depending upon which features we believe are more predominant.
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Our leases require lessees to maintain the equipment in good operating condition, defend and indemnify us from liabilities relating to the equipment contents and handling, and return the equipment to specified drop-off locations. The following table provides a summary of our equipment leasing fleet portfolio by lease type, based on cost equivalent units (CEU), as of December 31, 2014:
Lease Portfolio | December 31, 2014 | ||
Long-term leases | 68.9 | % | |
Finance leases | 8.0 | ||
Service leases | 17.7 | ||
Expired long-term leases (units on-hire) | 5.4 | ||
Total | 100.0 | % | |
As of December 31, 2014, our long-term and finance leases had an average remaining lease term of 41 months.
The most important driver of our profitability is the extent to which leasing revenues, which are driven primarily by our owned equipment fleet size, utilization and average rental rates, exceed our ownership and operating costs. Our profitability is also driven by the gains or losses we realize on the sale of used containers because, in the ordinary course of our business, we sell certain containers when they are returned to us.
Equipment Trading Segment
Through our extensive operating network, we purchase containers from shipping line customers and other sellers of containers and resell these containers to container retailers and users of containers for storage and one-way shipments. Over the last five years, we have sold an average of approximately 29,000 twenty-foot equivalent units (TEU) per year of containers purchased for resale.
Total revenues for the equipment trading segment are primarily made up of equipment trading revenues, which represents the proceeds from sales of trading equipment. The profitability of this segment is largely driven by the volume of units purchased and sold, our per-unit selling margin, and our direct operating and administrative expenses.
Industry Overview
Intermodal containers provide a secure and cost-effective method of transporting raw materials, component parts and finished goods because they can be used in multiple modes of transport. By making it possible to move cargo from a point of origin to a final destination without repeated unpacking and repacking, containers reduce freight and labor costs. In addition, automated handling of containers permits faster loading and unloading of vessels, more efficient utilization of transportation equipment and reduced transit time. The protection provided by sealed containers also reduces cargo damage and the loss and theft of goods during shipment.
Over the last twenty-five years, containerized trade has grown at a rate greater than that of general worldwide economic growth. According to Clarkson Research Studies ("Clarkson"), worldwide containerized cargo volume increased at a compound annual growth rate ("CAGR") of 8.8% from 1990 to 2014. We believe that this high historical growth was due to several factors, including the shift in global manufacturing capacity to lower labor cost areas such as China and India, the continued integration of developing high growth economies into global trade patterns and the continued conversion of cargo from bulk shipping into containers. However, worldwide containerized cargo volume growth has been lower over the last few years, averaging 4.4% CAGR from 2010 to 2014, due to weak economic growth in many developed countries.
Container leasing firms maintain inventories of new and used containers in a wide range of worldwide locations and supply these containers primarily to shipping line customers under a variety of short and long-term lease structures. Based on container fleet information reported by Drewry Maritime Research, we estimate that container lessors owned approximately 17.3 million TEU, or approximately 48% of the total worldwide container fleet of 36.3 million TEU, as of the end of 2014.
Leasing containers helps shipping lines improve their overall container fleet efficiency and provides the shipping lines with an alternative source of equipment financing. Given the uncertainty and variability of export volumes, and the fact that shipping lines have difficulty in accurately forecasting their container requirements on a day-by-day, port-by-port basis, the availability of containers for lease on short notice reduces a shipping line's need to purchase and maintain larger container inventory buffers. In addition, the drop-off flexibility provided by operating leases also allows the shipping lines to adjust their
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container fleet sizes and the mix of container types in their fleets both seasonally and over time and helps to balance trade flows. Leasing containers also provides shipping lines with an additional source of funding to help them manage a high-growth, asset intensive business.
Spot leasing rates are typically a function of, among other things, new equipment prices (which are heavily influenced by steel prices), interest rates and the equipment supply and demand balance at a particular time and location. Average leasing rates on an entire portfolio of leases respond more gradually to changes in new equipment prices or changes in the balance of container supply and demand because lease agreements are generally only re-priced upon the expiration of the lease. In addition, the value that lessors receive upon resale of equipment is closely related to the cost of new equipment.
Operations
We operate our business through 17 offices located in 11 different countries as of December 31, 2014. Our field operations include a global sales force, a global container operations group, an equipment resale group, and a logistics services group. Our headquarters are located in Purchase, New York, USA.
Our Equipment
Intermodal containers are designed to meet a number of criteria outlined by the International Standards Organization (ISO). The standard criteria include the size of the container and the gross weight rating of the container. This standardization ensures that containers can be used by the widest possible number of transporters and it facilitates container and vessel sharing by the shipping lines. The standardization of the container is also an important element of the container leasing business since we can operate one fleet of containers that can be used by all of our major customers.
Our fleet consists of five types of equipment:
• | Dry Containers. A dry container is essentially a steel constructed box with a set of doors on one end. Dry containers come in lengths of 20, 40 or 45 feet. They are 8 feet wide, and either 8½ or 9½ feet tall. Dry containers are the least expensive and most widely used type of intermodal container and are used to carry general cargo such as manufactured component parts, consumer staples, electronics and apparel. |
• | Refrigerated Containers. Refrigerated containers include an integrated cooling machine and an insulated container, come in lengths of 20 or 40 feet, are 8 feet wide, and are either 8½ or 9½ feet tall. These containers are typically used to carry perishable cargo such as fresh and frozen produce. |
• | Special Containers. Most of our special containers are open top and flat rack containers. Open top containers come in similar sizes as dry containers, but do not have a fixed roof. Flat rack containers come in varying sizes and are steel platforms with folding ends and no fixed sides. Open top and flat rack containers are generally used to move heavy or bulky cargos, such as marble slabs, steel coils or factory components, that cannot be easily loaded on a fork lift through the doors of a standard container. |
• | Tank Containers. Tank containers are stainless steel cylindrical tanks enclosed in rectangular steel frames with the same outside dimensions as 20 foot dry containers. They carry bulk liquids such as chemicals. |
• | Chassis. An intermodal chassis is a rectangular, wheeled steel frame, generally 23½, 40 or 45 feet in length, built specifically for the purpose of transporting intermodal containers domestically. Longer sized chassis, designed solely to accommodate domestic containers, can be up to 53 feet in length. Once mounted, the chassis and container are the functional equivalent of a trailer. When mounted on a chassis, the container may be trucked either to its destination or to a railroad terminal for loading onto a rail car. Our chassis are primarily used in the United States. |
Our Leases
Most of our revenues are derived from leasing our equipment fleet to our core shipping line customers. The majority of our leases are structured as operating leases, though we also provide customers with finance leases. Regardless of lease type, we seek to exceed our targeted return on our investments over the life cycle of the equipment by managing utilization, lease rates, and the used equipment sale process.
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Our lease products provide numerous operational and financial benefits to our shipping line customers. These benefits include:
• | Operating Flexibility. The timing, location and daily volume of cargo movements for a shipping line are often unpredictable. Leasing containers and chassis helps the shipping lines manage this uncertainty and minimizes the requirement for large inventory buffers by allowing them to pick-up leased equipment on short notice. |
• | Fleet Size and Mix Flexibility. The drop-off flexibility included in container and chassis operating leases allows shipping lines to more quickly adjust the size of their fleets and the mix of container types in their fleets as their trade volumes and patterns change due to seasonality, market changes or changes in company strategies. |
• | Alternative Source of Financing. Container and chassis leases provide an additional source of equipment financing to help shipping lines manage the high level of investment required to maintain pace with the rapid growth of the asset intensive container shipping industry. |
Operating Leases. Operating leases are structured to allow customers flexibility to pick-up equipment on short notice and to drop-off equipment prior to the end of its useful life. Because of this flexibility, most of our containers and chassis will go through several pick-up and drop-off cycles. Our operating lease contracts specify a per diem rate for equipment on-hire, where and when such equipment can be returned, how the customer will be charged for damage and the charge for lost or destroyed equipment, among other things.
We categorize our operating leases as either long-term leases or service leases. Some leases have contractual terms that have features reflective of both long-term and service leases. We classify such leases as either long-term or service leases, depending upon which features we believe are predominant. Long-term leases typically have initial contractual terms ranging from three to eight years with an average term of approximately five years at lease inception. Our long-term leases require our customers to maintain specific units on-hire for the duration of the lease term, and they provide us with predictable recurring cash flow. As of December 31, 2014, 68.9% of our on-hire containers and chassis were under long-term operating leases.
We also have expired long-term leases whose fixed terms have ended but for which the related units remain on-hire and for which we continue to receive rental payments pursuant to the terms of the initial contract. As of December 31, 2014, 5.4% of our on-hire containers and chassis were on long-term leases whose fixed terms have expired but for which the related units remain on-hire and for which we continue to receive rental payments.
Some of our long-term leases give our customers Early Termination Options ("ETOs"). If exercised, ETOs allow customers to return equipment prior to the expiration of the long-term lease. However, if an ETO is exercised, the customer is required to pay a penalty per diem rate that is applied retroactively to the beginning of the lease. As a result of this retroactive penalty, ETOs have historically been exercised infrequently.
Service leases allow our customers to pick-up and drop-off equipment during the term of the lease, subject to contractual limitations. Service leases provide the customer with a higher level of flexibility than term leases and, as a result, typically carry a higher per diem rate. The terms of our service leases can range from twelve months to five years, though, because equipment can be returned during the term of a service lease and since service leases are generally renewed or modified and extended upon expiration, lease term does not dictate expected on-hire time for our equipment on service leases. As of December 31, 2014, 17.7% of our on-hire containers and chassis were under service leases and this equipment has been on-hire for an average of 35 months.
Finance Leases. Finance leases provide our customers with an alternative method to finance their equipment acquisitions. Finance leases typically have lease terms ranging from five to ten years. Finance leases are generally structured for specific quantities of equipment, generally require the customer to keep the equipment on-hire for its remaining useful life, and typically provide the customer with a purchase option at the end of the lease term. As of December 31, 2014, approximately 8.0% of our on-hire containers and chassis were under finance leases.
As of December 31, 2014, our long-term and finance leases had an average remaining duration of 41 months, assuming no leases are renewed. However, we believe that many of our customers will renew operating leases for equipment that is less than sale age at the expiration of the lease. In addition, our equipment on operating leases typically remains on-hire at the contractual per diem rate for an additional six to twelve months beyond the end of the contractual lease term due to the logistical requirements of our customers having to return the containers and chassis to specific drop-off locations.
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Lease Documentation. In general, our lease agreements consist of two basic elements, a master lease agreement and a lease addendum. Lease addenda typically contain the business terms (including daily rate, term duration and drop-off schedule, among other things) for specific leasing transactions, while master lease agreements typically outline the general rights and obligations of the lessor and lessee under all of the lease addenda covered by the master lease agreement (lease addenda will specify the master lease agreement that governs the addenda). For most customers, we have a small number of master lease agreements (often one) and a large number of lease addenda.
Our master lease agreements generally require the lessees to pay rentals, depot charges, taxes and other charges when due, to maintain the equipment in good condition, to return the equipment in accordance with the return condition set forth in the master lease agreement, to use the equipment in compliance with all federal, state, local and foreign laws, and to pay us for the value of the equipment as determined by us if the equipment is lost or destroyed. The default clause gives us certain legal remedies in the event that the lessee is in breach of the lease.
The master lease agreements usually contain an exclusion of warranties clause and require lessees to defend and indemnify us in most instances from third-party claims arising out of the lessee's use, operation, possession or lease of the equipment. Lessees are generally required to maintain all risks physical damage insurance, comprehensive general liability insurance and to indemnify us against loss. We also maintain our own off-hire physical damage insurance to cover our equipment when it is not on-hire to lessees and third-party liability insurance for both on-hire and off-hire equipment. Nevertheless, such insurance or indemnities may not fully protect us against damages arising from the use of our containers.
Logistics Management, Re-leasing, Depot Management and Equipment Disposals
We believe that managing the period after our equipment's first lease is the most important aspect of our business. Successful management of this period requires disciplined logistics management, extensive re-lease capability, careful cost control and effective sales of used equipment.
Logistics Management. Since the late 1990's, the shipping industry has been characterized by large regional trade imbalances, with loaded containers generally flowing from export oriented economies in Asia to North America and Western Europe. Because of these trade imbalances, shipping lines have an incentive to return leased containers in North America and Europe to reduce the cost of empty container backhaul. TAL attempts to mitigate the risk of these unbalanced trade flows by maintaining a large portion of our fleet on long-term and finance leases and by contractually restricting the ability of our customers to return containers outside of Asian demand locations.
In addition, TAL attempts to minimize the costs of any container imbalances by finding local users in surplus locations and by moving empty containers as cheaply as possible. While we believe we manage our logistics risks and costs effectively, logistical risk remains an important element of our business due to competitive pressures, changing trade patterns and other market factors and uncertainties.
Re-leasing. Since our operating leases allow customers to return containers and chassis, we typically are required to place containers and chassis on several leases during their useful lives. Initial lease transactions for new containers and chassis can usually be generated with a limited sales and customer service infrastructure because initial leases for new containers and chassis typically cover large volumes of units and are fairly standardized transactions. Used equipment, on the other hand, is typically leased out in small transactions that are structured to accommodate pick-ups and returns in a variety of locations. As a result, leasing companies benefit from having a large number of customers and maintaining a high level of operating contact with these customers.
Depot Management. As of December 31, 2014, we managed our equipment fleet through approximately 230 third-party owned and operated depot facilities located in 40 countries. Depot facilities are generally responsible for repairing our containers and chassis when they are returned by lessees and for storing the equipment while it is off-hire. We have a global operations group that is responsible for managing our depot contracts and they also regularly visit the depot facilities to conduct inventory and repair audits. We also supplement our internal operations group with the use of independent inspection agents.
We are in constant communication with our depot partners through the use of electronic data interchange, or EDI. Our depots gather and prepare all information related to the activity of our equipment at their facilities and transmit the information via EDI and the Internet to us. The information we receive from our depots updates our fully integrated container fleet management and tracking system.
Most of the depot agency agreements follow a standard form and generally provide that the depot will be liable for loss or damage of equipment and, in the event of loss or damage, will pay us the previously agreed loss value of the applicable
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equipment. The agreements require the depots to maintain insurance against equipment loss or damage and we carry insurance to cover the risk that the depots' insurance proves insufficient.
Our container repair standards and processes are generally managed in accordance with standards and procedures specified by the Institute of International Container Lessors (IICL). The IICL establishes and documents the acceptable interchange condition for containers and the repair procedures required to return damaged containers to the acceptable interchange condition. At the time that containers are returned by lessees, the depot arranges an inspection of the containers to assess the repairs required to return the containers to acceptable IICL condition. This inspection process also splits the damage into two components, customer damage and normal wear and tear. Items typically designated as customer damage include dents in the container and debris left in the container, while items such as rust are typically designated as normal wear and tear.
Our leases are generally structured so that the lessee is responsible for the customer damage portion of the repair costs, and customers are billed for damages at the time the equipment is returned. We sometimes offer our customers a repair service program whereby we, for an additional payment by the lessee (in the form of a higher per-diem rate or a flat fee at off-hire), assume financial responsibility for all or a portion of the cost of repairs upon return of the equipment (but not of total loss of the equipment), up to a pre-negotiated amount.
Equipment Disposals. Our in-house equipment sales group has a worldwide team of specialists that manage the sale process for our used containers and chassis from our lease fleet. We generally sell to portable storage companies, freight forwarders (who often use the containers for one-way trips) and other purchasers of used containers. We believe we are one of the world's largest sellers of used containers.
We have sold approximately 87,000 TEU per year of our owned and managed used containers on average over the last five years. The sale prices we receive for our used containers from our lease fleet are influenced by many factors, including the level of demand for used containers compared to the number of used containers available for disposal in a particular location, the cost of new containers, and the level of damage on the containers. While our total revenue is primarily made up of leasing revenues, gains or losses on the sale of used containers can have a significant positive or negative impact on our profitability.
Equipment Trading. We also buy and sell new and used containers and chassis acquired from third parties. We typically purchase our equipment trading fleet from our shipping line customers or other sellers of used or new equipment. Trading margins are dependent on the volume of units purchased and resold, selling prices, costs paid for equipment sold and selling and administrative costs. We have sold approximately 29,000 TEU per year of containers purchased from third parties for resale on average over the last five years.
Management Services
Approximately 1.2% of our fleet is managed for third-party owners. We receive a specified percentage of the net revenue generated by our managed containers in return for our management services. If operating expenses were to exceed revenues, the owners are obligated to pay the excess or we may deduct the excess, including our management fee, from future net revenues. We typically receive a commission for selling managed containers, though in some cases, we are compensated for sales through a percentage sharing of sale proceeds over an agreed upon floor amount. Typically, the terms of the management agreements are 10 to 12 years from the acceptance dates of containers under the agreement.
Environmental
We face a number of environmental concerns, including potential liability due to accidental discharge from our containers, potential equipment obsolescence, retrofitting expenses due to changes in environmental regulations and increased risk of container performance problems due to container design changes driven by environmental factors. While we maintain environmental liability insurance coverage, and the terms of our leases and other arrangements for use of our containers place the responsibility for environmental liability on the end user, we still may be subject to environmental liability in connection with our current or historical operations. In certain countries like the United States, the owner of a leased container may be liable for the costs of environmental damage from the discharge of the contents of the container even though the owner is not at fault. Our lessees are required to indemnify us from environmental claims and our standard master tank container lease agreement insurance clause requires our tank container lessees to provide pollution liability insurance.
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We also face risks from changing environmental regulations, particularly with our refrigerated container product line. Many countries, including the United States, restrict, prohibit or otherwise regulate the use of chemical refrigerants due to their ozone depleting and global warming effects. Our refrigerated containers currently use R134A or 404A refrigerant. While R134A and 404A do not contain CFC's (which have been restricted since 1995), the European Union has instituted regulations to phase out the use of R134A in automobile air conditioning systems beginning in 2011 due to concern that the release of R134A into the atmosphere may contribute to global warming. While the European Union regulations do not currently restrict the use of R134A or 404A in refrigerated containers or trailers, it has been proposed that R134A and 404A usage in intermodal containers will be banned beginning in 2025, although the final decision has not been made as of yet. Further, certain manufacturers of refrigerated containers, including the largest manufacturer of cooling machines for refrigerated containers, have begun testing units that utilize alternative refrigerants, such as carbon dioxide, that may have less global warming potential than R134A and 404A. If future regulations prohibit the use or servicing of containers using R134A or 404A refrigerants, we could be forced to incur large retrofitting expenses. In addition, refrigerated containers that are not retrofitted may become difficult to lease and command lower rental rates and disposal prices.
Also, the insulation foam in the walls of refrigerated containers requires the use of a blowing agent that contains CFC's. Manufacturers are in various stages of phasing out the use of this blowing agent in the manufacturing process, however, if future regulations prohibit the use or servicing of containers with insulation manufactured with this blowing agent, we could be forced to incur large retrofitting expenses and refrigerated containers that are not retrofitted may become more difficult to lease and command lower rental rates and disposal prices.
An additional environmental concern affecting our operations relates to the construction materials used in our dry containers. The floors of dry containers are plywood usually made from tropical hardwoods. Due to concerns regarding de-forestation of tropical rain forests and climate change, many countries which have been the source of these hardwoods have implemented severe restrictions on the cutting and export of these woods. Accordingly, container manufacturers have switched a significant portion of production to more readily available alternatives such as birch, bamboo, and other farm grown wood species. Container users are also evaluating alternative designs that would limit the amount of plywood required and are also considering possible synthetic materials to replace the plywood. These new woods or other alternatives have not proven their durability over the typical 13-15 year life of a dry container, and if they cannot perform as well as the hardwoods have historically, the future repair and operating costs for these containers could be significantly higher and the useful life of the containers may be decreased.
Credit Controls
We monitor our customers' performance and our lease exposures on an ongoing basis. Our credit management processes are aided by the long payment experience we have with most of our customers and our broad network of relationships in the shipping industry that provides current information about our customers' market reputations. Credit criteria may include, but are not limited to, customer payment history, customer financial position and performance (e.g., net worth, leverage and profitability), trade routes, country of domicile and the type of, and location of, equipment that is to be supplied. To mitigate the impact from potential defaults, we currently maintain credit insurance that in certain circumstances covers losses and costs incurred in default situations. However, this insurance must be renewed annually and it has significant deductibles, exclusions, payment and other limitations, and therefore may not protect us from losses arising from customer defaults.
Marketing and Customer Service
Our global sales force and our customer service representatives are responsible for developing and maintaining relationships with senior operations staff at our shipping line customers, negotiating lease contracts and maintaining day-to-day coordination with junior level staff at our customers. This close customer communication helps us to negotiate lease contracts that satisfy both our financial return requirements and our customers' operating needs, and ensures that we are aware of our customers' potential equipment shortages and that they are aware of our available equipment inventories.
Customers
We believe that we have strong, long standing relationships with our largest customers, most of whom we have done business with for over 20 years. We currently have equipment on-hire to more than 300 customers, although our twenty largest customers account for 81% of our leasing revenues. Our customers are mainly international shipping lines, but we also lease containers to freight forwarding companies and manufacturers. The shipping industry has been consolidating for a number of years, and further consolidation could increase the portion of our revenues that come from our largest customers. Our five largest customers accounted for 52% of our leasing revenues in 2014. Our largest customer is CMA CGM, which accounted for 16%, 17%, and 16% of our leasing revenues in 2014, 2013 and 2012. No other customer exceeded 10% of our leasing
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revenues in 2014, 2013 and 2012. A default by one of our major customers could have a material adverse impact on our business, financial condition and future prospects.
Currency
Although we have significant foreign based operations, the U.S. dollar is the operating currency for the large majority of our leases and obligations, and most of our revenues and expenses are denominated in U.S. dollars. However we pay our non-U.S. staff in local currencies; and our direct operating expenses and disposal transactions for our older containers are often structured in foreign currencies. We record realized and unrealized foreign currency exchange gains and losses primarily due to fluctuations in exchange rates related to our Euro and Pound Sterling transactions and related assets and liabilities.
Systems and Information Technology
We have a proprietary, fully integrated fleet management system. The system tracks all of our equipment individually by unit number, provides design specifications for the equipment, tracks on-hire and off-hire transactions, matches each on-hire unit to a lease contract and each off-hire unit to a depot contract, maintains the major terms for each lease contract, calculates the monthly bill for each customer and tracks and bills for equipment repairs. Our system is EDI capable, which means it can receive and process equipment activity and transactions electronically.
In addition, our system allows our business partners to conduct business with us through the Internet. It allows customers to check our equipment inventories, review design specifications, request clearances for returning equipment (the system will issue the clearance electronically if the return to the specified location is currently allowed by the contract covering the equipment), request bookings for equipment pick-ups and review and approve repair bills.
Suppliers
We have long relationships with all of our major suppliers. We purchase most of our containers and chassis in China. There are five large manufacturers of dry containers and three large manufacturers of refrigerated containers, though for both dry containers and refrigerated containers, the largest manufacturer accounts for nearly 50% of global production volume. Our operations staff reviews the designs for our containers and periodically audits the production facilities of our suppliers. In addition, we use our Asian operations group and third party inspectors to visit factories when our containers are being produced to provide an extra layer of quality control. Nevertheless, defects in our containers do sometimes occur. We work with the manufacturers to correct these defects, and our manufacturers have generally honored their warranty obligations in such cases.
Competition
We compete with over ten other major intermodal equipment leasing companies, many smaller lessors, manufacturers of intermodal equipment and companies offering finance leases as distinct from operating leases. It is common for our customers to utilize several leasing companies to meet their equipment needs.
Our competitors compete with us in many ways, including lease pricing, lease flexibility, supply reliability and customer service. In times of weak demand or excess supply, leasing companies often respond by lowering leasing rates and increasing the logistical flexibility offered in their lease agreements. In addition, new entrants into the leasing business have been attracted by the high rate of containerized trade growth in recent years, and they are often aggressive on pricing and lease flexibility.
While we are forced to compete aggressively on price, we attempt to emphasize our supply reliability and high level of customer service to our customers. We invest heavily to ensure adequate equipment availability in high demand locations, dedicate large portions of our organization to building customer relationships and maintaining close day-to-day coordination with customers' operating staffs, and we have developed powerful and user-friendly systems that allow our customers to transact with us through the Internet.
Employees
As of December 31, 2014, we employed 170 people in 17 offices, in 11 countries. We believe that our relations with our employees are good and we are not a party to any collective bargaining agreements.
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ITEM 1A. RISK FACTORS
Our business, financial condition and results of operations are subject to various risks and uncertainties noted throughout this report, including those discussed below, which may affect the value of our securities. In addition to the risks discussed below, there may be additional risks not presently known to us or that we currently deem less significant that also may adversely affect our business, financial condition and results of operations, perhaps materially. You should carefully consider the risks and uncertainties described below and elsewhere in this report. Some statements in our risk factors constitute forward looking statements. Please refer to the section entitled "Cautionary Note Regarding Forward-Looking Statements" in this report.
Market lease rates are currently historically very low. As a result, TAL’s profitability may decline due to reduced returns on new investments and reduced profitability on existing containers as leases expire and lease rates are re-priced.
Market leasing rates decreased significantly from 2012 through 2014 due to a substantial decrease in new container prices, widely available low-cost financing for leasing companies and aggressive competition. This decrease in market leasing rates has negatively impacted the expected investment returns on our new container investments and it is reducing the profitability of the existing containers in our fleet as existing leases expire and are re-priced. From 2012 to 2014, the average lease rate in our fleet decreased 7% on a CEU basis. We expect our average lease rates will decrease in 2015. If market lease rates remain near their current low level for an extended period of time, we expect the decrease in our average lease rates to accelerate in 2016 and 2017 and have a substantial negative impact on our profitability.
The size of our owned fleet increased significantly in 2010 to 2011 due to our large purchases of new equipment and investments in sale-leaseback transactions. Many of the containers purchased in those years were purchased at relatively high prices and leased out at lease rates well above our portfolio average. As a result, the high level of procurement from 2010 through 2011 has created a concentration of leases with historically high leasing rates that will generally expire from 2015 through 2020. If container prices and market leasing rates remain near their current level for an extended period of time, we could be forced to re-lease those containers at significantly reduced lease rates. We estimate that the average lease rates on containers purchased in 2010 and 2011 are roughly 41% higher than current market leasing rates. We calculate that our annual leasing revenue would decrease by $2.0 million for each 1% reduction in the average lease rate on the containers purchased in 2010 and 2011.
Container leasing demand can be negatively affected by numerous market factors as well as external political and economic events that are beyond our control. Decreasing leasing demand could have a material adverse effect on our business, financial condition, results of operations and cash flows.
Demand for containers depends largely on the rate of world trade and economic growth. Demand for leased containers is also driven by our customers' "lease vs. buy" decisions. Cyclical recessions can negatively affect lessors' operating results because during economic downturns or periods of reduced trade, shipping lines tend to lease fewer containers, or lease containers only at reduced rates, and tend to rely more on their own fleets to satisfy a greater percentage of their requirements. As a result, during periods of weak global economic activity, we typically experience decreasing leasing demand, decreasing equipment utilization, lower average rental rates, decreased leasing revenue, decreased used container resale prices and significantly decreased profitability. These effects can be severe.
For example, our profitability decreased significantly from the third quarter of 2008 to the third quarter of 2009 due to the effects of the global financial crisis, and our profitability would have decreased further if trade activity did not start to recover at the end of 2009. TAL's performance and profitability will likely be similarly impacted if current economic uncertainties or other events lead to slower global economic growth and reduced containerized trade growth in the future.
Other general factors affecting demand for leased containers, container utilization and per diem rental rates include:
• | the available supply and prices of new and used containers; |
• | changes in the operating efficiency of our customers, economic conditions and competitive pressures in the shipping industry; |
• | the availability and terms of equipment financing for our customers; |
• | fluctuations in interest rates and foreign currency values; |
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• | import/export tariffs and restrictions; |
• | customs procedures; |
• | foreign exchange controls and |
• | other governmental regulations and political or economic factors that are inherently unpredictable and may be beyond our control. |
Any of the aforementioned factors may have a material adverse effect on our business, financial condition, results of operations and cash flows.
Lease rates may further decrease due to a decrease in new container prices, weak leasing demand, increased competition or other factors, resulting in reduced revenues, lower margins, and reduced profitability and cash flows.
Market leasing rates are typically a function of, among other things, new equipment prices (which are heavily influenced by steel prices), interest rates, the type and length of the lease, the equipment supply and demand balance at a particular time and location, and other factors more fully described below. A decrease in leasing rates can have a materially adverse effect on our leasing revenues, profitability and cash flow.
A decrease in market leasing rates negatively impacts the leasing rates on both our new container investments and the existing containers in our fleet. Most of our existing containers are on operating leases, which means that the lease term is shorter than the expected life of the container, so the lease rate we receive for the container is subject to change at the expiration of the current lease. Lower new container prices, widespread availability of attractively priced financing, and aggressive competition for new leasing transactions continue to pressure market lease rates, and market lease rates are currently well below our portfolio average. As a result, during periods of low market lease rates, the average lease rate we receive for our containers is negatively impacted by both the addition of new containers at low lease rates as well as the turnover of existing containers from leases with higher lease rates to leases with lower lease rates.
Lessee defaults may adversely affect our business, financial condition, results of operations and cash flow by decreasing revenues and increasing storage, positioning, collection, recovery and lost equipment expenses.
Our containers and chassis are leased to numerous customers. Lease rentals and other charges, as well as indemnification for damage to or loss of our equipment, are payable under the leases and other arrangements by the lessees. Inherent in the nature of the leases and other arrangements for use of the equipment is the risk that once the lease is consummated, we may not receive, or may experience delay in realizing, all of the amounts to be paid in respect of the equipment. A delay or diminution in amounts received under the leases and other arrangements could adversely affect our business and financial prospects and our ability to make payments on our debt.
The cash flow from our equipment, principally lease rentals, management fees and proceeds from the sale of owned equipment, is affected significantly by our ability to collect payments under leases and other arrangements for the use of the equipment and our ability to replace cash flows from terminating leases by re-leasing or selling equipment on favorable terms. All of these factors are subject to external economic conditions and performance by lessees and service providers that are beyond our control.
In addition, when lessees or sub-lessees of our containers and chassis default, we may fail to recover all of our equipment, and the containers and chassis we do recover may be returned in damaged condition or to locations where we will not be able to efficiently re-lease or sell them. As a result, we may have to repair and reposition these containers and chassis to other places where we can re-lease or sell them, and we may lose lease revenues and incur additional operating expenses in repossessing, repositioning and storing the equipment.
We believe that the risk of large lessee defaults remains elevated. Persistent excess vessel capacity has pressured the freight rates our customers receive for moving cargo, and many of our customers have generated large financial losses over the last several years. Several of our customers have or are going through significant financial restructurings as a result of the large losses they incurred. Over the next several years, new vessel deliveries are anticipated to remain at a high level. As a result, we expect excess vessel capacity to persist for several more years and expect the financial performance of our customers to remain under pressure.
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Our balance sheet includes an allowance for doubtful accounts as well as an equipment reserve related to the expected costs of recovering and remarketing containers currently in the possession of customers that have either defaulted or that we believe currently present a significant risk of loss. However, we do not maintain a general equipment reserve for equipment on-hire under operating leases to performing customers. As a result, any major customer default would have a significant impact on our profitability at the time the customer defaulted. Such a default could also have a material adverse effect on our business condition and financial prospects.
Our customer base is highly concentrated. A default from any large customer, and especially our largest customer, could have a material adverse effect on our business, financial condition and future prospects. In addition, a significant reduction in leasing business from any of our large customers could have a material adverse impact on demand for our containers and our financial performance.
Our five largest customers represented approximately 52% of our leasing revenues in 2014, with our single largest customer representing 16% of our leasing revenues during this period. Furthermore, the shipping industry has been consolidating for a number of years, and further consolidation is expected and could increase the portion of our revenues that come from our largest customers.
Several of our major customers underwent significant financial restructurings as a result of the large financial losses they incurred in recent years and they continue to face significant financial headwinds due to excess vessel capacity. Given the high concentration of our customer base, a default by any of our largest customers would result in a major reduction in our leasing revenue, large repossession expenses, potentially large lost equipment charges and a material adverse impact on our performance and financial condition. In addition, the loss or significant reduction in orders from any of our major customers could materially reduce the demand for our containers and result in lower leasing revenue, higher operating expenses and diminished growth prospects.
Used container selling prices may decrease, leading to lower gains or potentially large losses on the disposal of our equipment.
Although our revenues primarily depend upon equipment leasing, our profitability is also affected by the gains or losses we realize on the sale of used containers because, in the ordinary course of our business, we sell certain containers when they are returned to us. The volatility of the selling prices and gains or losses from the disposal of such equipment may be significant. Used container selling prices, which can vary substantially, depend upon, among other factors, the cost of new containers, the global supply and demand balance for containers, the location of the containers, the supply and demand balance for used containers at a particular location, the repair condition of the container, refurbishment needs, materials and labor costs and equipment obsolescence. Most of these factors are outside of our control. Operating leases, which represent the predominant form of leases in our portfolio, are subject to greater selling price risk than finance leases.
Containers are typically sold if it is in our best interest to do so after taking into consideration local and global leasing and sale market conditions and the age, location, repair condition and net book value of the container. As these considerations vary, gains or losses on sale of equipment will also fluctuate and may be significant if we sell large quantities of containers.
Used container selling prices and the gains or losses that we have recognized from selling used containers have varied widely over the last fifteen years. From 1999 through 2003, our average sale prices for used containers were historically low due to low prices for new containers and an extreme over-supply of used containers in North America and Europe following the Asia crisis. We recorded large losses on the disposal of our equipment during those years.
Selling prices for used containers and our disposal gains were exceptionally high from 2010 to 2012 due to a generally tight global supply and demand balance for containers. Since then, used container prices and our disposal gains have decreased and disposal prices are nearing our current residual values. However, they could decrease further from current levels which would have a negative impact on our financial performance and cash flow. These effects could be significant if used container sale prices decreased rapidly.
Equipment trading is dependent upon a steady supply of used equipment.
We purchase used containers for resale from our shipping line customers and other sellers. If the supply of equipment becomes limited because these sellers develop other means for disposing of their equipment or develop their own sales network, we may not be able to purchase the inventory necessary to meet our goals, and our equipment trading revenues and our profitability could be negatively impacted.
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Abrupt changes in selling prices on equipment purchased for resale could negatively affect our equipment trading margins.
We purchase and sell containers opportunistically as part of our equipment trading segment. We purchase equipment for resale on the premise that we will be able to sell this inventory in a relatively short time frame. If selling prices rapidly deteriorate and we are holding a large inventory that was purchased when prices for equipment were higher, then our gross margins could decline or become negative.
Our customers may decide to lease fewer containers. Should shipping lines decide to buy a larger percentage of the containers they operate, our utilization rate and level of investment would decrease, resulting in decreased leasing revenues, increased storage costs, increased positioning costs and lower growth.
We, like other suppliers of leased containers, are dependent upon decisions by shipping lines to lease rather than buy their container equipment. Should shipping lines decide to buy a larger percentage of the containers they operate, our utilization rate would decrease, resulting in decreased leasing revenues, increased storage costs and increased positioning costs. A decrease in the portion of leased containers would also reduce our investment opportunities and significantly constrain our growth. Most of the factors affecting the decisions of our customers are outside of our control.
While the percentage of leased containers has been fairly consistent historically, this percentage decreased steadily from 2004 to 2008. We believe that the increasing share of containers owned directly by the shipping lines during this time was the result of the improved financial performance, increased operating scale and improved information systems of our customers, which made it easier for our customers to finance and deploy new container purchases efficiently.
We face extensive competition in the container leasing industry.
We may be unable to compete favorably in the highly competitive container leasing and sales business. We compete with more than ten other major leasing companies, many smaller lessors, manufacturers of container equipment, companies offering finance leases as distinct from operating leases, promoters of container ownership and leasing as a tax shelter investment, shipping lines, which sometimes lease their excess container stocks, and suppliers of alternative types of equipment for freight transport. Some of these competitors may have greater financial resources and access to capital than we do. Additionally, some of these competitors may, at times, accumulate a high volume of underutilized inventories of containers, which could lead to significant downward pressure on lease rates and margins.
Competition among container leasing companies depends upon many factors, including, among others, lease rates, lease terms (including lease duration, drop-off restrictions and repair provisions), customer service, and the location, availability, quality and individual characteristics of equipment. New entrants into the leasing business have been attracted by the high rate of containerized trade growth, and new entrants have generally been less disciplined than we are in pricing and structuring leases. As a result, the entry of new market participants together with the already highly competitive nature of our industry may reduce lease rates and undermine our ability to maintain our current level of container utilization or achieve our growth plans.
If we are unable to finance capital expenditures, our business and growth plans will be adversely affected.
We make capital investments to, among other things, maintain and expand the size of our container fleet. We have relied heavily on debt financing to help us fund our new container investments. During the financial crisis of 2008 and 2009, bank financing became much more difficult to obtain and the asset securitization market was not available to us. In the future, our bank financing and asset-backed financing capacity could decrease, our financing costs and interest rates could increase, or our future access to the financial markets could be limited, as a result of risks and contingencies, many of which are beyond our control, including: (i) the acceptance by credit markets of the structures and structural risks associated with our bank financing and asset-backed financing arrangements; (ii) the credit ratings provided by credit rating agencies for our asset-backed indebtedness; (iii) third parties requiring changes in the terms and structure of our asset-backed financing arrangements, including increased credit enhancements (such as lower advance rates) or required cash collateral and/or other liquid reserves; or (iv) changes in laws or regulations that negatively impact the terms on which the banks may finance us or any of our asset-backed financing arrangements. If we are unsuccessful in obtaining sufficient additional financing on acceptable terms, on a timely basis, or at all, then our costs of financing could increase significantly and have a material adverse effect on our liquidity, interest costs, financial condition, cash flows and results of operations.
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We have a substantial amount of debt outstanding on a consolidated basis and have significant debt service requirements. This increases the risk that adverse changes in our operating performance, our industry or the financial markets could severely diminish our financial performance and future business and growth prospects, and increases the chance that we might face insolvency due to a default on our debt obligations.
As of December 31, 2014, we had outstanding indebtedness of $3.0 billion under our asset backed securities, capital lease obligations and other debt facilities. Our interest and debt expense for the year ended December 31, 2014 was $109.3 million. As of December 31, 2014, our total net debt (total debt plus equipment purchases payable less cash) to total revenue earning assets was 76%.
Our substantial amount of debt could have important consequences for investors, including:
• | making it more difficult for us to satisfy our obligations with respect to our debt facilities. Any failure to comply with such obligations, including a failure to make timely interest or principal payments, or a breach of financial or other restrictive covenants, could result in an event of default under the agreements governing such indebtedness, which could lead to, among other things, an acceleration of our indebtedness or foreclosure on the assets securing our indebtedness and which could have a material adverse effect on our business, financial condition, future prospects and solvency; |
• | requiring us to dedicate a substantial portion of our cash flow from operations to make payments on our debt, thereby reducing funds available for operations, capital expenditures, future business opportunities and other purposes; |
• | limiting our flexibility in planning for, or reacting to, changes in our business and the industry in which we operate; |
• | limiting our ability to borrow additional funds, or to sell assets to raise funds, if needed, for working capital, capital expenditures, acquisitions or other purposes; |
• | making it difficult for us to pay dividends on our common stock; |
• | increasing our vulnerability to general adverse economic and industry conditions, including changes in interest rates; and |
• | placing us at a competitive disadvantage compared to our competitors having less debt. |
Despite our substantial leverage, we and our subsidiaries may be able to incur additional indebtedness. This could further exacerbate the risks described above.
We and our subsidiaries may be able to incur substantial additional indebtedness in the future. Although our asset backed securities and other credit facilities contain restrictions on the incurrence of additional indebtedness, such restrictions are subject to a number of qualifications and exceptions, and, under certain circumstances, indebtedness incurred in compliance with such restrictions could be substantial. To the extent that new indebtedness is added to our and our subsidiaries' current debt levels, the risks described above would increase.
We will require a significant amount of cash to service and repay our outstanding indebtedness. This may limit our ability to fund future capital expenditures, pursue future business opportunities or make acquisitions.
Our high level of indebtedness requires us to make large interest and principal payments. These debt service payments currently represent a significant portion of our cash flow, and if our operating cash flow decreases in the future, or if it becomes more difficult for us to arrange financing to refinance existing debt facilities or fund our new equipment purchases, we may need to reduce or delay future capital expenditures or other business investments, which could have a material adverse impact on our growth rate, profitability and cash flow.
Our asset backed securities and other credit facilities impose significant operating and financial restrictions, which may prevent us from pursuing certain business opportunities and taking certain actions.
Our asset backed securities and other credit facilities impose, and the terms of any future indebtedness may impose, significant operating, financial and other restrictions on us and our subsidiaries. These restrictions will limit or prohibit, among other things, our ability to:
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• | incur additional indebtedness; |
• | pay dividends on or redeem or repurchase our stock; |
• | issue capital stock of TAL and our subsidiaries; |
• | make loans and investments; |
• | create liens; |
• | sell certain assets or merge with or into other companies; |
• | enter into certain transactions with stockholders and affiliates; |
• | cause our subsidiaries to make dividends, distributions and other payments to TAL; and |
• | otherwise conduct necessary corporate activities. |
These restrictions could adversely affect our ability to finance our future operations or capital needs and pursue available business opportunities. A breach of any of these restrictions could result in a default in respect of the related indebtedness. If a default occurs, the relevant lenders could elect to declare the indebtedness, together with accrued interest and fees, to be immediately due and payable and proceed against any collateral securing that indebtedness, which will constitute substantially all of our material container assets.
Environmental regulations may result in equipment obsolescence or require substantial investments to retrofit existing equipment, especially for our refrigerated containers. Additionally, environmental concerns are leading to significant design changes for new containers that have not been extensively tested, which increases the risks we face from potential technical problems.
Many countries, including the United States, restrict, prohibit or otherwise regulate the use of chemical refrigerants due to their ozone depleting and global warming effects. Our refrigerated containers currently use R134A or 404A refrigerant. While R134A and 404A do not contain CFC's (which have been restricted since 1995), the European Union has instituted regulations to phase out the use of R134A in automobile air conditioning systems beginning in 2011 due to concern that the release of R134A into the atmosphere may contribute to global warming. While the European Union regulations do not currently restrict the use of R134A or 404A in refrigerated containers or trailers, it has been proposed that R134A and 404A usage in intermodal containers will be banned beginning in 2025, although the final decision has not been made as of yet. Further, certain manufacturers of refrigerated containers, including the largest manufacturer of cooling machines for refrigerated containers, have begun testing units that utilize alternative refrigerants, such as carbon dioxide, that may have less global warming potential than R134A and 404A. If future regulations prohibit the use or servicing of containers using R134A or 404A refrigerants, we could be forced to incur large retrofitting expenses. In addition, refrigerated containers that are not retrofitted may become difficult to lease, command lower rental rates and disposal prices, or may have to be scrapped.
Also, the insulation foam in the walls of refrigerated containers requires the use of a blowing agent that contains CFC's. Manufacturers are in various stages of phasing out the use of this blowing agent in the manufacturing process, however, if future regulations prohibit the use or servicing of containers with insulation manufactured with this blowing agent we could be forced to incur large retrofitting expenses and those that are not retrofitted may become more difficult to lease and command lower rental rates and disposal prices.
An additional environmental concern affecting our operations relates to the construction materials used in our dry containers. The floors of dry containers are plywood usually made from tropical hardwoods. Due to concerns regarding the de-forestation of tropical rain forests and climate change, many countries which have been the source of these hardwoods have implemented severe restrictions on the cutting and export of these woods. Accordingly, container manufacturers have switched a significant portion of production to more readily available alternatives such as birch, bamboo, and other farm grown wood species. Container users are also evaluating alternative designs that would limit the amount of plywood required and are also considering possible synthetic materials to replace the plywood. These new woods or other alternatives have not proven their durability over the typical 13-15 year life of a dry container, and if they cannot perform as well as the hardwoods have historically, the future repair and operating costs for these containers could be significantly higher and the useful life of the containers may be decreased.
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Litigation to enforce our leases and recover our containers has inherent uncertainties that are increased by the location of our containers in jurisdictions that have less developed legal systems.
While almost all of our lease agreements are governed by New York law and provide for the non-exclusive jurisdiction of the courts located in the state of New York, our ability to enforce the lessees' obligations under the leases and other arrangements for use of the containers often is subject to applicable laws in the jurisdiction in which enforcement is sought. It is not possible to predict, with any degree of certainty, the jurisdictions in which enforcement proceedings may be commenced. Our containers are manufactured primarily in China, and a substantial portion of our containers are leased out of Asia, primarily China, and are used by our customers in a wide range of global trades. Litigation and enforcement proceedings have inherent uncertainties in any jurisdiction and are expensive. These uncertainties are enhanced in countries that have less developed legal systems where the interpretation of laws and regulations is not consistent, may be influenced by factors other than legal merits and may be cumbersome, time-consuming and even more expensive. For example, repossession from defaulting lessees may be difficult and more expensive in jurisdictions whose laws do not confer the same security interests and rights to creditors and lessors as those in the United States and where the legal system is not as well developed. As a result, the remedies available and the relative success and expedience of collection and enforcement proceedings with respect to the containers in various jurisdictions cannot be predicted. As more of our business shifts to areas outside of the United States and Europe, such as China, it may become more difficult and expensive to enforce our rights and recover our containers.
The success of our recovery efforts for defaulted leases has been hampered by undeveloped creditor protections and legal systems in a number of countries. In these situations, we experienced an increase in average recovery costs per unit and a decrease in the percentage of containers recovered in default situations primarily due to excessive charges applied to our containers by the depot or terminal facilities that had been storing the containers for the defaulted lessee. In these cases, the payments demanded by the depot or terminal operators often significantly exceeded the amount of storage costs that we would reasonably expect to pay for the release of the containers. However, our legal remedies were limited in many of the jurisdictions where the containers were being stored, and we were sometimes forced to accept the excessive storage charges to gain control of our containers. If the number and size of defaults increases in the future, and if a large percentage of the defaulted containers are being stored in countries with less developed legal systems, losses resulting from recovery payments and unrecovered containers could be large and our profitability significantly reduced.
We may incur future asset impairment charges.
An asset impairment charge may result from the occurrence of unexpected adverse events or management decisions that impact our estimates of expected cash flows generated from our long-lived assets. We review our long-lived assets, including our container and chassis equipment, goodwill and other intangible assets for impairment, when events or changes in circumstances indicate the carrying value of an asset may not be recoverable. We may be required to recognize asset impairment charges in the future as a result of reductions in demand for specific container and chassis types, a weak economic environment, challenging market conditions, events related to particular customers or asset types, or as a result of asset or portfolio sale decisions by management.
Effective October 1, 2012, we further increased the estimated residual values used in our depreciation calculations for several of our containers types from the last increase made in the fourth quarter of 2010. If, in the future, we experience weak demand for these specific container types the amount of a potential impairment charge would be higher than if we had not increased our residual estimates.
Manufacturers of our equipment may be unwilling or unable to honor manufacturer warranties covering defects in our equipment.
We obtain warranties from the manufacturers of our equipment. When defects in the containers occur, we work with the manufacturers to identify and rectify the problem. However, there is no assurance that manufacturers will be willing or able to honor warranty obligations. If defects are discovered in containers that are not covered by manufacturer warranties we could be required to expend significant amounts of money to repair the containers, the useful lives of the containers could be shortened and the value of the containers reduced.
For example, there has been an increase in the number of premature failures of wood floors on our containers. A shortage of mature tropical hardwood has forced manufacturers to use younger and alternative species of wood to make container floors, and it is likely that the number and magnitude of warranty claims related to premature floor failure will increase. If container manufacturers do not honor warranties covering these failures, or if the failures occur after the warranty period expires, we could be required to expend significant amounts of money to repair or sell containers earlier than expected. This could have a material adverse effect on our operating results and financial condition.
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Changes in market price or availability of containers in China could adversely affect our ability to maintain our supply of containers.
China is currently the largest container producing nation in the world, and we currently purchase substantially all of our dry containers, special containers and refrigerated containers from manufacturers based there. Currently, there are two manufacturers controlling a majority of the market. In the event that it were to become more expensive for us to procure containers in China because of further consolidation among container suppliers, a dispute with one of our manufacturers, increased tariffs imposed by the United States or other governments or for any other reason, we would have to seek alternative sources of supply. We may not be able to make alternative arrangements quickly enough to meet our equipment needs, and the alternative arrangements may increase our costs.
We may incur significant costs associated with relocation of leased equipment.
When lessees return equipment to locations where supply exceeds demand, we routinely reposition containers to higher demand areas. Positioning expenses vary depending on geographic location, distance, freight rates and other factors. Positioning expenses can be significant if a large portion of our containers are returned to locations with weak demand. For example, prior to the Asia crisis of the late 1990's containerized trade was relatively evenly balanced globally, and as a result, many of our lease contracts provided extensive drop-off flexibility in North America and Europe. However, global containerized trade patterns changed dramatically in the aftermath of the Asia crisis, and demand for leased containers in North America and Europe substantially decreased. We incurred significant positioning expenses from 2000-2003 to shift our inventory of containers from North America and Europe to Asia.
We currently seek to limit the number of containers that can be returned to areas where demand for such containers is not expected to be strong. However, future market conditions may not enable us to continue such practices. In addition, we may not be successful in accurately anticipating which port locations will be characterized by weak or strong demand in the future, and our current contracts will not provide much protection against positioning costs if ports that we expect to be strong demand ports turn out to be surplus container ports at the time leases expire. In particular, we could incur significant positioning costs in the future if trade flows change from net exports to net imports in locations such as the main ports in China that we currently consider to be high demand locations and where our leases typically allow large numbers of containers to be returned to us.
Sustained Asian economic, social or political instability could reduce demand for leasing.
Many of the shipping lines to which we lease containers are entities domiciled in Asian countries. In addition, many of our customers are substantially dependent upon shipments of goods exported from Asia. From time to time, there have been economic disruptions, financial turmoil and political instability in this region. If these events were to occur in the future, they could adversely affect these customers and lead to reduced demand for leasing of our containers or otherwise adversely affect us.
It may become more expensive for us to store our off-hire containers.
We are dependent on third party depot operators to repair and store our equipment in port areas throughout the world. In many locations the land occupied by these depots is increasingly being considered as prime real estate. Accordingly, local communities are considering increasing restrictions on the depot operations which would increase their costs and in some cases force depots to relocate to sites further from the port areas. If these changes affect a large number of our depots it could significantly increase the cost of maintaining and storing our off-hire containers.
We rely on our information technology systems to conduct our business. If these systems fail to adequately perform their functions, or if we experience an interruption in their operation, our business and financial results could be adversely affected.
The efficient operation of our business is highly dependent on two of our information technology systems: our equipment tracking and billing system and our customer interface system. For example, these systems allow customers to place pick-up and drop-off orders on the Internet, view current inventory and check contractual terms in effect with respect to any given container lease agreement. We correspondingly rely on such information systems to track transactions, such as container pick-ups and drop-offs, repairs, and to bill our customers for the use and damage to our equipment. We also use the information provided by these systems in our day-to-day business decisions in order to effectively manage our lease portfolio and improve customer service. The failure of these systems to perform as we anticipate could limit our ability to bill customers for the use of our containers, disrupt our business and cause our relationships with our customers to suffer. In addition, our information technology systems are vulnerable to damage or interruption from circumstances beyond our control, including fire, natural
19
disasters, power loss and computer systems failures and viruses. Any such interruption could have a material adverse effect on our business.
A number of key personnel are critical to the success of our business.
Most of our senior executives and other management level employees have been with us for over ten years and have significant industry experience. We rely on this knowledge and experience in our strategic planning and in our day-to-day business operations. Our success depends in large part upon our ability to retain our senior management, the loss of one or more of whom could have a material adverse effect on our business. Our success also depends on our ability to retain our experienced sales force and technical personnel as well as recruiting new skilled sales, marketing and technical personnel. Competition for experienced managers in our industry can be intense and we may not be able to successfully recruit, train or retain qualified personnel. If we fail to retain and recruit the necessary personnel, our business and our ability to retain customers and provide acceptable levels of customer service could suffer.
The international nature of the container industry exposes us to numerous risks.
We are subject to risks inherent in conducting business across national boundaries, any one of which could adversely impact our business. These risks include:
• | regional or local economic downturns; |
• | changes in governmental policy or regulation; |
• | restrictions on the transfer of funds into or out of countries in which we operate; |
• | compliance with U.S. Treasury sanctions regulations restricting doing business with certain nations or specially designated nationals; |
• | import and export duties and quotas; |
• | domestic and foreign customs and tariffs; |
• | international incidents; |
• | military outbreaks; |
• | government instability; |
• | nationalization of foreign assets; |
• | government protectionism; |
• | compliance with export controls, including those of the U.S. Department of Commerce; |
• | compliance with import procedures and controls, including those of the U.S. Department of Homeland Security; |
• | potentially negative consequences from changes in tax laws; |
• | requirements relating to withholding taxes on remittances and other payments by subsidiaries; |
• | labor or other disruptions at key ports; |
• | difficulty in staffing and managing widespread operations; and |
• | restrictions on our ability to own or operate subsidiaries, make investments or acquire new businesses in these jurisdictions. |
Any one or more of these factors could impair our current or future international operations and, as a result, harm our overall business.
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The lack of an international title registry for containers increases the risk of ownership disputes.
There is no internationally recognized system of recordation or filing to evidence our title to containers nor is there an internationally recognized system for filing security interests in containers. Although this has not occurred to date, the lack of a title recordation system with respect to containers could result in disputes with lessees, end-users, or third parties who may improperly claim ownership of the containers.
Certain liens may arise on our containers.
Depot operators, repairmen and transporters may come into possession of our containers from time to time and have sums due to them from the lessees or sublessees of the containers. In the event of nonpayment of those charges by the lessees or sublessees, we may be delayed in, or entirely barred from, repossessing the containers, or be required to make payments or incur expenses to discharge such liens on the containers.
We are subject to the U.S. Foreign Corrupt Practices Act, and any determination that we violated this act may affect our business and operations adversely.
As a U.S. corporation, we are subject to the regulations imposed by the Foreign Corrupt Practices Act (FCPA), which generally prohibits U.S. companies and their intermediaries from making improper payments to foreign officials for the purpose of obtaining or keeping business. Any determination that we have violated the FCPA could have a material adverse effect on our business, financial condition, results of operations and cash flows.
We are subject to U.S. Executive Orders and U.S. Treasury Sanctions Regulations regarding doing business in or with certain nations and specially designated nationals (SDNs).
As a U.S. corporation, we are subject to U.S. Executive Orders and U.S. Treasury sanctions regulations restricting or prohibiting business dealings in or with certain nations and with certain SDNs (individuals and legal entities). Any determination that we have violated such Executive Orders and U.S. Treasury sanctions regulations could have a material adverse effect on our business, financial condition, results of operations and cash flows.
We may incur increased costs associated with the implementation of new security regulations, which could have a material adverse effect on our business, financial condition, results of operations and cash flows.
We may be subject to regulations promulgated in various countries, including the United States, seeking to protect the integrity of international commerce and prevent the use of containers for international terrorism or other illicit activities. For example, the Container Safety Initiative, the Customs-Trade Partnership Against Terrorism and Operation Safe Commerce are among the programs administered by the U.S. Department of Homeland Security that are designed to enhance security for cargo moving throughout the international transportation system by identifying existing vulnerabilities in the supply chain and developing improved methods for ensuring the security of containerized cargo entering and leaving the United States. Moreover, the International Convention for Safe Containers, 1972 (CSC), as amended, adopted by the International Maritime Organization, applies to containers and seeks to maintain a high level of safety of human life in the transport and handling of containers by providing uniform international safety regulations. As these regulations develop and change, we may incur increased compliance costs due to the acquisition of new, compliant containers and/or the adaptation of existing containers to meet any new requirements imposed by such regulations. Additionally, certain companies are currently developing or may in the future develop products designed to enhance the security of containers transported in international commerce. Regardless of the existence of current or future government regulations mandating the safety standards of intermodal shipping containers, our competitors may adopt such products or our customers may require that we adopt such products in the conduct of our container leasing business. In responding to such market pressures, we may incur increased costs, which could have a material adverse effect on our business, financial condition, results of operations and cash flows.
Terrorist attacks could negatively impact our operations and our profitability and may expose us to liability and reputational damage.
Terrorist attacks may negatively affect our operations. Such attacks have contributed to economic instability in the United States and elsewhere, and further acts of terrorism, violence or war could similarly affect world trade and the industries in which we and our customers operate. In addition, terrorist attacks or hostilities may directly impact ports our containers come in and out of, depots, our physical facilities or those of our suppliers or customers and could impact our sales and our supply chain. A severe disruption to the worldwide ports system and flow of goods could result in a reduction in the level of international trade and lower demand for our containers. The consequences of any terrorist attacks or hostilities are
21
unpredictable, and we may not be able to foresee events that could have an adverse effect on our operations.
It is also possible that one of our containers could be involved in a terrorist attack. Although our lease agreements require our lessees to indemnify us against all damages arising out of the use of our containers, and we carry insurance to potentially offset any costs in the event that our customer indemnifications prove to be insufficient, our insurance does not cover certain types of terrorist attacks, and we may not be fully protected from liability or the reputational damage that could arise from a terrorist attack which utilizes one of our containers.
Environmental liability may adversely affect our business and financial situation.
We are subject to federal, state, local and foreign laws and regulations relating to the protection of the environment, including those governing the discharge of pollutants to air and water, the management and disposal of hazardous substances and wastes and the cleanup of contaminated sites. We could incur substantial costs, including cleanup costs, fines and third-party claims for property damage and personal injury, as a result of violations of or liabilities under environmental laws and regulations in connection with our current or historical operations. Under some environmental laws in the United States and certain other countries, the owner of a leased container may be liable for environmental damage, cleanup or other costs in the event of a spill or discharge of material from a container without regard to the owner's fault. We have not yet experienced any such claims, although we cannot assure you that we will not be subject to such claims in the future. Liability insurance policies, including ours, usually exclude claims for environmental damage. Some of our lessees may have separate insurance coverage for environmental damage, but we cannot assure you that any such policies would cover or otherwise offset any liability we may have as the owner of a leased container. Our standard master tank container lease agreement insurance clause requires our tank container lessees to provide pollution liability insurance. Such insurance or indemnities may not fully protect us against damages arising from environmental damage.
Adverse changes in U.S. tax rules or a reduction in our level of investment and growth could negatively impact our income tax provision or future cash tax payments.
While we record a tax provision in our financial statements, we currently do not pay any meaningful income taxes primarily due to the benefit we receive from accelerated tax depreciation on our container investments. A change in the rules governing the tax depreciation for our containers, in particular, a change that increases the period over which we can depreciate our containers for tax purposes, could reduce or eliminate this tax benefit and significantly increase our cash tax payments.
In addition, even under current tax rules, we need to make substantial, ongoing investments in new containers in order to continue to benefit from the tax deferral generated by accelerated tax depreciation. If our investment level slows due to a decrease in the growth rate of world trade, decisions by our customers to buy more of their containers, a loss of market share to one or more of our peers, or for any other reason, the favorable tax treatment from accelerated tax depreciation would diminish, and we could face significantly increased cash tax payments.
Also, our net deferred tax liability balance includes a deferred tax asset for U.S. federal and various states resulting from net operating loss carryforwards. A reduction to our future earnings, which will lower taxable income, may require us to record a charge against earnings in the form of a valuation allowance, if it is determined that it is more-likely-than-not that some or all of the loss carryforwards will not be realized.
Fluctuations in foreign exchange rates could reduce our profitability.
The majority of our revenues and costs are billed in U.S. dollars. Most of our non-U.S. dollar transactions are individually of small amounts and in various denominations and thus are not suitable for cost-effective hedging. In addition, almost all of our container purchases are paid for in U.S. dollars.
Our operations and used container sales in locations outside of the U.S. have some exposure to foreign currency fluctuations, and trade growth and the direction of trade flows can be influenced by large changes in relative currency values. Adverse or large exchange rate fluctuations may negatively affect our results of operations and financial condition.
Most of our equipment fleet is manufactured in China. Although the purchase price is in U.S. dollars, our manufacturers pay labor and other costs in the local currency, the Chinese Yuan. To the extent that our manufacturers' costs increase due to changes in the valuation of the Chinese Yuan, the dollar price we pay for equipment could be affected.
22
Increases in the cost of or the lack of availability of insurance could increase our risk exposure and reduce our profitability.
Our lessees and depots are required to maintain all risks physical damage insurance, comprehensive general liability insurance and to indemnify us against loss. We also maintain our own contingent liability insurance and off-hire physical damage insurance. Nevertheless, lessees' and depots' insurance or indemnities and our insurance may not fully protect us. The cost of such insurance may increase or become prohibitively expensive for us and our customers and such insurance may not continue to be available.
We also maintain director and officer liability insurance. Potential new accounting standards and new corporate governance regulations may make it more difficult and more expensive for us to obtain director and officer liability insurance, and we may be required to incur substantial costs to maintain increased levels of coverage or it may not continue to be available.
We currently maintain credit insurance that in certain circumstances covers losses and costs incurred due to defaults by our lessees. However, this insurance has significant deductibles, exclusions, payment and other limitations, and therefore may not protect us from losses arising from customer defaults. We typically need to renew these insurance policies on an annual basis, and the cost of such insurance may increase or become prohibitively expensive for us and our customers and such insurance may not continue to be available.
The price of our common stock may be highly volatile and may decline regardless of our operating performance.
The trading price of our common shares is likely to be subject to wide fluctuations. Factors affecting the trading price of our common shares may include:
• | variations in our financial results; |
• | changes in financial estimates or investment recommendations by securities analysts following our business; |
• | the public's response to our press releases, other public announcements and filings with the Securities and Exchange Commission; |
• | changes in accounting standards, policies, guidance or interpretations or principles; |
• | future sales of common stock by us and our directors, officers and significant stockholders; |
• | announcements of technological innovations or enhanced or new products by us or our competitors; |
• | our failure to achieve operating results consistent with securities analysts' projections; |
• | the operating and stock price performance of other companies that investors may deem comparable to us; |
• | changes in our dividend policy; |
• | fluctuations in the worldwide equity markets; |
• | recruitment or departure of key personnel; |
• | our failure to timely address changing customer preferences; |
• | broad market and industry factors; and |
• | other events or factors, including those resulting from war, incidents of terrorism or responses to such events. |
In addition, if the market for intermodal equipment leasing company stocks or the stock market in general experiences a loss of investor confidence, the trading price of our common shares could decline for reasons unrelated to our business or financial results. The trading price of our common shares might also decline in reaction to events that affect other companies in our industry even if these events do not directly affect us.
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If securities analysts do not publish research or reports about our business or if they downgrade our stock, the price of our stock could decline.
The trading market for our common shares relies in part on the research and reports that industry or financial analysts publish about us or our business or our industry. We have no influence or control over these analysts. Furthermore, if one or more of the analysts who do cover us downgrades our stock, the price of our stock could decline. If one or more of these analysts ceases coverage of our company, we could lose visibility in the market, which in turn could cause our stock price to decline.
Our failure to comply with required public company corporate governance and financial reporting practices and regulations could materially and adversely impact our financial condition, operating results and the price of our common stock. Further, our internal controls over financial reporting may not detect all errors or omissions in the financial statements.
We are subject to meet the regulatory compliance and reporting requirements applicable to us as a public company, including those issued by the Securities and Exchange Commission and the New York Stock Exchange. Failure to meeting these requirements may lead to adverse regulatory consequences, and could lead to a negative reaction in the financial markets due to a loss of confidence in the reliability of our financial statements. If we fail to maintain effective controls and procedures, we may be unable to provide the required financial information in a timely and reliable manner or otherwise comply with the standards applicable to us as a public company. Any failure by us to timely provide the required financial information could materially and adversely impact our financial condition and the market value of our common shares. Furthermore, testing and maintaining internal controls can divert our management’s attention from other matters that are important to our business.
The Sarbanes Oxley Act requires that we maintain effective internal controls for financial reporting and disclosure controls and procedures. If we do not maintain compliance with the requirements of Section 404 of the Sarbanes Oxley Act, or if we or our independent registered public accounting firm identify deficiencies in our internal controls over financial reporting that are deemed to be material weaknesses, we could suffer a loss of investor confidence in the reliability of our financial statements, which could cause the market price of our stock to decline. We can also be subject to sanctions or investigations by the New York Stock Exchange, the Securities and Exchange Commission or other regulatory authorities for failure to comply with public company corporate governance and financial reporting practices and regulations.
Section 404 of the Sarbanes Oxley Act requires an annual management assessment of the effectiveness of internal controls over financial reporting and a report by our independent registered public accounting firm. If we fail to maintain the adequacy of internal controls over financial accounting, we may not be able to conclude on an ongoing basis that we have effective internal controls over financial reporting in accordance with the Sarbanes Oxley Act and related regulations. Although our management has concluded that adequate internal control procedures are currently in place, no system of internal controls can provide absolute assurance that the financial statements are accurate and free of material errors. As a result, the risk exists that our internal controls may not detect all errors or omissions in the financial statements.
We may decide to pursue acquisitions and joint ventures that may present unforeseen integration obstacles or costs.
We may selectively pursue acquisitions and joint ventures, which could involve a number of risks and present financial, managerial and operational challenges, including:
• | dilution of shareholders' ownership interest of TAL if new shares are issued to fund an acquisition; |
• | potential disruption of our ongoing business and distraction of management; |
• | difficulty with integration of personnel and financial and other systems; |
• | hiring additional management and other critical personnel; and |
• | increasing the scope, geographic diversity and complexity of our operations. |
In addition, we may encounter unforeseen obstacles or costs in the integration of acquired businesses. Also, the presence of one or more material liabilities of an acquired company that are unknown to us at the time of acquisition may have a material adverse effect on our business. Our acquisition and joint venture strategy may not be successfully received by customers, and we may not realize any anticipated benefits from acquisitions or joint ventures.
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ITEM 1B. UNRESOLVED STAFF COMMENTS
None
ITEM 2. PROPERTIES
Office Locations. As of December 31, 2014, our employees are located in 17 offices in 11 different countries. We have 6 offices in the U.S. including our headquarters in Purchase, New York. We have 11 offices outside the U.S. We lease all of our office space.
ITEM 3. LEGAL PROCEEDINGS
From time to time we are a party to litigation matters arising in connection with the normal course of our business. While we cannot predict the outcome of these matters, in the opinion of our management, any liability arising from these matters will not have a material adverse effect on our business. Nevertheless, unexpected adverse future events, such as an unforeseen development in our existing proceedings, a significant increase in the number of new cases or changes in our current insurance arrangements could result in liabilities that have a material adverse impact on our business.
ITEM 4. MINE SAFETY DISCLOSURES
Not applicable.
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PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY, RELATED STOCKHOLDER MATTERS, AND ISSUER PURCHASES OF EQUITY SECURITIES
Our common stock has been traded on the New York Stock Exchange under the symbol "TAL" since October 12, 2005. Prior to that time, there was no public market for our common stock.
The following table reflects the range of high and low sales prices, as reported on the New York Stock Exchange, for our common stock in each quarter of the years ended December 31, 2014 and 2013.
High | Low | |||
2014: | ||||
Fourth Quarter | $45.91 | $37.67 | ||
Third Quarter | $47.60 | $41.09 | ||
Second Quarter | $45.63 | $41.18 | ||
First Quarter | $57.60 | $40.35 | ||
2013: | ||||
Fourth Quarter | $57.82 | $45.32 | ||
Third Quarter | $48.76 | $38.50 | ||
Second Quarter | $45.40 | $39.26 | ||
First Quarter | $46.87 | $36.42 | ||
On February 12, 2015, the closing price of our common stock was $40.63, as reported on the New York Stock Exchange. On that date, there were approximately 48 holders of record of our common stock and approximately 37,144 beneficial holders, based on information obtained from our transfer agent.
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PERFORMANCE GRAPH
The graph below compares our cumulative shareholder returns with the S&P 500 Stock Index and the Russell 2000 Stock Index for the five years ended December 31, 2014. The graph assumes that the value of the investment in our common stock, the S&P 500 Stock Index and the Russell 2000 Stock Index was $100 as of December 31, 2009, and that all dividends were reinvested.
Comparison of Cumulative Total Return
Five Years Ended December 31, 2014
Base Period as of | INDEXED RETURNS FOR THE YEARS ENDED | ||||||||||
Company / Index | 12/31/2009 | 12/31/2010 | 12/31/2011 | 12/31/2012 | 12/31/2013 | 12/31/2014 | |||||
TAL International Group, Inc. | 100.00 | 245.94 | 245.01 | 330.99 | 561.29 | 461.19 | |||||
S&P 500 Index | 100.00 | 115.06 | 117.49 | 136.29 | 180.43 | 205.13 | |||||
Russell 2000 Index | 100.00 | 126.85 | 121.55 | 141.42 | 196.32 | 205.92 | |||||
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Dividends
We paid the following quarterly dividends during the years ended December 31, 2014 and 2013 on our issued and outstanding common stock:
Record Date | Payment Date | Aggregate Payment | Per Share Payment | ||
December 2, 2014 | December 23, 2014 | $23.8 Million | $0.72 | ||
September 3, 2014 | September 24, 2014 | $24.2 Million | $0.72 | ||
June 3, 2014 | June 24, 2014 | $24.2 Million | $0.72 | ||
March 3, 2014 | March 24, 2014 | $24.2 Million | $0.72 | ||
December 2, 2013 | December 23, 2013 | $23.4 Million | $0.70 | ||
September 3, 2013 | September 24, 2013 | $22.8 Million | $0.68 | ||
June 4, 2013 | June 25, 2013 | $22.1 Million | $0.66 | ||
March 7, 2013 | March 28, 2013 | $21.4 Million | $0.64 | ||
Historically, most of our dividends have been treated as a return of capital, and we believe that 100% our dividends paid in 2014 will also be treated as a return of capital to TAL shareholders. The taxability of the dividends to TAL shareholders does not impact TAL's corporate tax position. Investors should consult with a tax advisor to determine the proper tax treatment of these distributions.
Stock Repurchase Program
On March 13, 2006, our Board of Directors authorized a stock repurchase program for the repurchase of our common stock. The stock repurchase program, as now amended, authorizes us to repurchase up to 4.0 million shares of our common stock. Since September 1, 2014, TAL repurchased 900,000 shares of its stock at an average price of $41.95. As of February 10, 2015, there were 88,157 shares authorized for purchase under TAL's stock repurchase program.
On February 11, 2015, TAL's Board of Directors authorized a new share repurchase program of up to 3.0 million of its outstanding shares. These shares augment the remaining 88,157 shares authorized for purchase under TAL's existing stock repurchase program. Repurchases will be made from time to time at TAL's discretion, based on ongoing assessments of the capital needs of the business, the market price of TAL's common stock and general market and other conditions. No time limit was set for the completion of the repurchase program.
Stock repurchases under this program may be made through open market and/or privately negotiated transactions at such times and in such amounts as a committee of our Board of Directors deems appropriate. The timing and actual number of shares repurchased will depend on a variety of factors including price, corporate and regulatory requirements, restrictions regarding a repurchase program included in our credit facilities and other market conditions. The stock repurchase program does not have an expiration date and may be limited or terminated by the Board of Directors at any time without prior notice.
Recent Sales of Unregistered Securities; Use of Proceeds From Registered Securities
None.
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ITEM 6. SELECTED FINANCIAL DATA
The following table sets forth certain selected historical financial, operating and other data of TAL International Group, Inc. The selected historical consolidated statements of income data, balance sheet data and other financial data for each of the five years ended December 31, 2014 were derived from the Company's audited consolidated financial statements and related notes. The data below should be read in conjunction with, and is qualified by reference to, our Management's Discussion and Analysis and our consolidated financial statements and notes thereto contained elsewhere in this report. The historical results are not necessarily indicative of the results to be expected in any future period.
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Year Ended December 31, (Dollars and shares in thousands, except per share data) | |||||||||||||||||||
2014 | 2013 | 2012 | 2011 | 2010 | |||||||||||||||
Statements of Income Data: | |||||||||||||||||||
Leasing revenues: | |||||||||||||||||||
Operating leases | $ | 573,778 | $ | 552,640 | $ | 511,189 | $ | 434,668 | $ | 310,221 | |||||||||
Finance leases | 18,355 | 14,728 | 13,781 | 16,394 | 18,309 | ||||||||||||||
Other revenues | 1,873 | 2,485 | 3,227 | 3,301 | 3,634 | ||||||||||||||
Total leasing revenues | 594,006 | 569,853 | 528,197 | 454,363 | 332,164 | ||||||||||||||
Equipment trading revenues | 56,436 | 73,004 | 60,975 | 62,324 | 34,636 | ||||||||||||||
Equipment trading expenses | (49,246 | ) | (62,726 | ) | (53,431 | ) | (51,330 | ) | (28,814 | ) | |||||||||
Trading margin | 7,190 | 10,278 | 7,544 | 10,994 | 5,822 | ||||||||||||||
Net gain on sale of leasing equipment | 6,987 | 26,751 | 44,509 | 51,969 | 25,765 | ||||||||||||||
Operating expenses: | |||||||||||||||||||
Depreciation and amortization(1) | 224,753 | 205,073 | 193,466 | 152,576 | 115,927 | ||||||||||||||
Direct operating expenses | 33,076 | 27,142 | 25,039 | 18,157 | 24,489 | ||||||||||||||
Administrative expenses | 45,399 | 44,197 | 43,991 | 42,727 | 41,724 | ||||||||||||||
Provision (reversal) for doubtful accounts | 212 | 2,827 | (208 | ) | 162 | (843 | ) | ||||||||||||
Total operating expenses | 303,440 | 279,239 | 262,288 | 213,622 | 181,297 | ||||||||||||||
Operating income | 304,743 | 327,643 | 317,962 | 303,704 | 182,454 | ||||||||||||||
Other expenses (income): | |||||||||||||||||||
Interest and debt expense | 109,265 | 111,725 | 114,629 | 105,470 | 79,104 | ||||||||||||||
Write-off of deferred financing costs | 5,192 | 4,000 | — | 1,143 | 675 | ||||||||||||||
Net loss (gain) on interest rate swaps(2) | 780 | (8,947 | ) | 2,469 | 27,354 | 13,029 | |||||||||||||
Total other expenses | 115,237 | 106,778 | 117,098 | 133,967 | 92,808 | ||||||||||||||
Income before income taxes | 189,506 | 220,865 | 200,864 | 169,737 | 89,646 | ||||||||||||||
Income tax expense | 65,461 | 77,699 | 70,732 | 60,013 | 31,922 | ||||||||||||||
Net income | $ | 124,045 | $ | 143,166 | $ | 130,132 | $ | 109,724 | $ | 57,724 | |||||||||
Earnings Per Share Data: | |||||||||||||||||||
Basic income per share applicable to common stockholders | $ | 3.70 | $ | 4.28 | $ | 3.92 | $ | 3.39 | $ | 1.90 | |||||||||
Diluted income per share applicable to common stockholders | $ | 3.68 | $ | 4.25 | $ | 3.87 | $ | 3.34 | $ | 1.88 | |||||||||
Weighted average common shares outstanding: | |||||||||||||||||||
Basic | 33,482 | 33,483 | 33,224 | 32,414 | 30,441 | ||||||||||||||
Diluted | 33,664 | 33,694 | 33,623 | 32,821 | 30,717 | ||||||||||||||
Cash dividends paid per common share | $ | 2.88 | $ | 2.68 | $ | 2.35 | $ | 1.99 | $ | 1.30 | |||||||||
_____________________
(1) | Depreciation expense was reduced by $5.2 million ($3.4 million after tax or $0.10 per diluted share) beginning October 1, 2012 and by $5.5 million ($3.6 million after tax or $0.12 per diluted share) beginning October 1, 2010 as the result of the increase in residual value estimates included in the Company's depreciation policy (see Note 2 in the Notes to Consolidated Financial Statements). |
(2) | Net losses and gains on interest rate swaps are primarily due to changes in interest rates, and reflect changes in the fair value of interest rate swaps not designated as cash flow hedges. |
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As of December 31, (In thousands, except fleet data) | |||||||||||||||||||
2014 | 2013 | 2012 | 2011 | 2010 | |||||||||||||||
Balance Sheet Data (end of period): | |||||||||||||||||||
Cash and cash equivalents (including restricted cash) | $ | 114,781 | $ | 98,001 | $ | 101,680 | $ | 175,343 | $ | 85,612 | |||||||||
Accounts receivable, net | 85,681 | 74,174 | 71,363 | 56,491 | 46,342 | ||||||||||||||
Revenue earning assets, net | 3,953,764 | 3,730,122 | 3,418,446 | 2,857,233 | 2,286,831 | ||||||||||||||
Total assets | 4,274,984 | 4,045,296 | 3,701,194 | 3,197,303 | 2,517,557 | ||||||||||||||
Total debt | 3,040,842 | 2,817,933 | 2,604,015 | 2,235,585 | 1,770,332 | ||||||||||||||
Stockholders' equity | 666,528 | 691,918 | 615,975 | 562,802 | 428,410 | ||||||||||||||
Other Financial Data: | |||||||||||||||||||
Capital expenditures | 670,529 | 660,492 | 831,826 | 815,730 | 844,214 | ||||||||||||||
Proceeds from sale of equipment leasing fleet, net of selling costs | 165,990 | 140,724 | 133,367 | 123,659 | 102,176 | ||||||||||||||
Selected Fleet Data(1)(2): | |||||||||||||||||||
Dry container units | 1,189,707 | 1,105,433 | 1,021,642 | 847,902 | 720,008 | ||||||||||||||
Refrigerated container units | 65,010 | 64,030 | 57,229 | 50,751 | 45,215 | ||||||||||||||
Special container units | 56,180 | 56,761 | 57,198 | 48,039 | 45,234 | ||||||||||||||
Tank container units | 9,282 | 8,100 | 6,608 | 5,396 | 2,648 | ||||||||||||||
Chassis | 19,116 | 13,724 | 13,146 | 10,789 | 9,208 | ||||||||||||||
Equipment trading units | 32,448 | 40,374 | 45,860 | 46,767 | 33,373 | ||||||||||||||
Total container units/chassis | 1,371,743 | 1,288,422 | 1,201,683 | 1,009,644 | 855,686 | ||||||||||||||
Total containers/chassis in TEU | 2,249,619 | 2,113,215 | 1,957,776 | 1,645,868 | 1,397,183 | ||||||||||||||
Total containers/chassis in cost equivalent units(3) | 2,778,284 | 2,640,743 | 2,404,516 | 2,044,012 | 1,699,053 | ||||||||||||||
Average utilization %(4) | 97.6 | % | 97.4 | % | 97.9 | % | 98.7 | % | 97.6 | % | |||||||||
____________________
(1) | Includes both owned and managed units, as well as units on finance leases. |
(2) | Calculated as of the end of the relevant period. |
(3) | The Company has included total fleet count information based on cost equivalent units (CEU). CEU is a ratio used to convert the actual number of containers in the Company's fleet to a figure based on the relative purchase price of various equipment types to that of a 20 foot dry container. For example, the CEU ratio for a 40 foot standard height dry container is 1.6, and a 40 foot high cube refrigerated container is 10.0. These CEU ratios are from the Company's debt agreements and may differ slightly from CEU ratios used by others in the industry. |
(4) | Average utilization is computed by dividing total units on lease (in CEU) by the total units in the Company's fleet (in CEU) excluding new units not yet leased and off-hire units designated for sale. |
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ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The statements in this discussion regarding industry outlook, our expectations regarding our future performance, liquidity and capital resources and other non-historical statements are subject to numerous risks and uncertainties, including, but not limited to, the risks and uncertainties described under "Risk Factors" and "Cautionary Note Regarding Forward-Looking Statements" as discussed elsewhere in this Form 10-K. Our actual results may differ materially from those contained in or implied by any forward-looking statements.
Our Company
We are one of the world's largest and oldest lessors of intermodal containers and chassis. Intermodal containers are large, standardized steel boxes used to transport freight by ship, rail or truck. Because of the handling efficiencies they provide, intermodal containers are the primary means by which many goods and materials are shipped internationally. Chassis are used for the transportation of containers domestically.
We operate our business in one industry, intermodal transportation equipment, and have two business segments:
• | Equipment leasing—we own, lease and ultimately dispose of containers and chassis from our lease fleet, as well as manage containers owned by third parties. |
• | Equipment trading—we purchase containers from shipping line customers, and other sellers of containers, and resell these containers to container retailers and users of containers for storage or one-way shipment. |
Operations
Our consolidated operations include the acquisition, leasing, re-leasing and subsequent sale of multiple types of intermodal containers and chassis. As of December 31, 2014, our total fleet consisted of 1,371,743 containers and chassis, including 16,378 containers under management for third parties, representing 2,249,619 twenty-foot equivalent units (TEU). We have an extensive global presence, offering leasing services through 17 offices in 11 countries and approximately 230 third party container depot facilities in approximately 40 countries as of December 31, 2014. Our customers are among the largest shipping lines in the world. For the year ended December 31, 2014, our twenty largest customers accounted for 81% of our leasing revenues, our five largest customers accounted for 52% of our leasing revenues, and our largest customer, CMA CGM, accounted for 16% of our leasing revenues.
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The following tables provide the composition of our equipment fleet as of the dates indicated (in units, TEU and cost-equivalent units, or "CEU"):
Equipment Fleet in Units | ||||||||||||||||||||||||||
December 31, 2014 | December 31, 2013 | December 31, 2012 | ||||||||||||||||||||||||
Owned | Managed | Total | Owned | Managed | Total | Owned | Managed | Total | ||||||||||||||||||
Dry | 1,174,154 | 15,553 | 1,189,707 | 1,087,462 | 17,971 | 1,105,433 | 1,000,612 | 21,030 | 1,021,642 | |||||||||||||||||
Refrigerated | 64,977 | 33 | 65,010 | 63,967 | 63 | 64,030 | 57,124 | 105 | 57,229 | |||||||||||||||||
Special | 55,388 | 792 | 56,180 | 55,295 | 1,466 | 56,761 | 55,485 | 1,713 | 57,198 | |||||||||||||||||
Tank | 9,282 | — | 9,282 | 8,100 | — | 8,100 | 6,608 | — | 6,608 | |||||||||||||||||
Chassis | 19,116 | — | 19,116 | 13,724 | — | 13,724 | 13,146 | — | 13,146 | |||||||||||||||||
Equipment leasing fleet | 1,322,917 | 16,378 | 1,339,295 | 1,228,548 | 19,500 | 1,248,048 | 1,132,975 | 22,848 | 1,155,823 | |||||||||||||||||
Equipment trading fleet | 32,448 | — | 32,448 | 40,374 | — | 40,374 | 45,860 | — | 45,860 | |||||||||||||||||
Total | 1,355,365 | 16,378 | 1,371,743 | 1,268,922 | 19,500 | 1,288,422 | 1,178,835 | 22,848 | 1,201,683 | |||||||||||||||||
Percentage | 98.8 | % | 1.2 | % | 100.0 | % | 98.5 | % | 1.5 | % | 100.0 | % | 98.1 | % | 1.9 | % | 100.0 | % | ||||||||
Equipment Fleet in TEU | ||||||||||||||||||||||||||
December 31, 2014 | December 31, 2013 | December 31, 2012 | ||||||||||||||||||||||||
Owned | Managed | Total | Owned | Managed | Total | Owned | Managed | Total | ||||||||||||||||||
Dry | 1,901,299 | 27,183 | 1,928,482 | 1,759,100 | 31,875 | 1,790,975 | 1,607,232 | 37,796 | 1,645,028 | |||||||||||||||||
Refrigerated | 123,288 | 54 | 123,342 | 122,466 | 113 | 122,579 | 109,316 | 186 | 109,502 | |||||||||||||||||
Special | 100,680 | 1,385 | 102,065 | 99,473 | 2,481 | 101,954 | 98,888 | 2,883 | 101,771 | |||||||||||||||||
Tank | 9,282 | — | 9,282 | 8,100 | — | 8,100 | 6,608 | — | 6,608 | |||||||||||||||||
Chassis | 33,877 | — | 33,877 | 24,505 | — | 24,505 | 23,432 | — | 23,432 | |||||||||||||||||
Equipment leasing fleet | 2,168,426 | 28,622 | 2,197,048 | 2,013,644 | 34,469 | 2,048,113 | 1,845,476 | 40,865 | 1,886,341 | |||||||||||||||||
Equipment trading fleet | 52,571 | — | 52,571 | 65,102 | — | 65,102 | 71,435 | — | 71,435 | |||||||||||||||||
Total | 2,220,997 | 28,622 | 2,249,619 | 2,078,746 | 34,469 | 2,113,215 | 1,916,911 | 40,865 | 1,957,776 | |||||||||||||||||
Percentage | 98.7 | % | 1.3 | % | 100.0 | % | 98.4 | % | 1.6 | % | 100.0 | % | 97.9 | % | 2.1 | % | 100.0 | % | ||||||||
Equipment Fleet in CEU | ||||||||||||||||||||||||||
December 31, 2014 | December 31, 2013 | December 31, 2012 | ||||||||||||||||||||||||
Owned | Managed | Total | Owned | Managed | Total | Owned | Managed | Total | ||||||||||||||||||
Operating leases | 2,451,007 | 24,511 | 2,475,518 | 2,260,404 | 30,232 | 2,290,636 | 2,104,460 | 36,062 | 2,140,522 | |||||||||||||||||
Finance leases | 196,712 | 825 | 197,537 | 210,535 | 830 | 211,365 | 137,909 | 818 | 138,727 | |||||||||||||||||
Equipment trading fleet | 105,229 | — | 105,229 | 138,742 | — | 138,742 | 125,267 | — | 125,267 | |||||||||||||||||
Total | 2,752,948 | 25,336 | 2,778,284 | 2,609,681 | 31,062 | 2,640,743 | 2,367,636 | 36,880 | 2,404,516 | |||||||||||||||||
Percentage | 99.1 | % | 0.9 | % | 100.0 | % | 98.8 | % | 1.2 | % | 100.0 | % | 98.5 | % | 1.5 | % | 100.0 | % | ||||||||
In the equipment fleet tables above, we have included total fleet count information based on CEU. CEU is a ratio used to convert the actual number of containers in our fleet to a figure based on the relative purchase prices of our various equipment types to that of a 20 foot dry container. For example, the CEU ratio for a 40 foot standard height dry container is 1.6, and a 40 foot high cube refrigerated container is 10.0. The CEU ratios used in this calculation are from our debt agreements and may differ slightly from CEU ratios used by others in the industry.
We lease five types of equipment: (1) dry freight containers, which are used for general cargo such as manufactured component parts, consumer staples, electronics and apparel, (2) refrigerated containers, which are used for perishable items such as fresh and frozen foods, (3) special containers, which are used for heavy and over-sized cargo such as marble slabs, building products and machinery, (4) tank containers, which are used to transport bulk liquid products such as chemicals, and (5) chassis, which are used for the transportation of containers domestically. Our in-house equipment sales group manages the
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sale process for our used containers and chassis from our equipment leasing fleet and buys and sells used and new containers and chassis acquired from third parties.
The percentage of our equipment fleet by equipment type as of December 31, 2014 and the percentage of our leasing revenues by equipment type for the year ended December 31, 2014 are as follows:
Equipment Type | Percent of total fleet in units | Percent of total fleet in CEU | Percent of leasing revenues | |||||
Dry | 86.7 | % | 60.6 | % | 64.1 | % | ||
Refrigerated | 4.7 | 22.7 | 20.9 | |||||
Special | 4.1 | 4.9 | 7.2 | |||||
Tank | 0.7 | 5.3 | 3.5 | |||||
Chassis | 1.4 | 2.7 | 2.2 | |||||
Equipment leasing fleet | 97.6 | 96.2 | 97.9 | |||||
Equipment trading fleet | 2.4 | 3.8 | 2.1 | |||||
Total | 100.0 | % | 100.0 | % | 100.0 | % | ||
We generally lease our equipment on a per diem basis to our customers under three types of leases: long-term leases, finance leases and service leases. Long-term leases, typically with initial contractual terms ranging from three to eight years, provide us with stable cash flow and low transaction costs by requiring customers to maintain specific units on-hire for the duration of the lease. Finance leases, which are typically structured as full payout leases, provide for a predictable recurring revenue stream with the lowest cost to the customer because customers are generally required to retain the equipment for the duration of its useful life. Service leases command a premium per diem rate in exchange for providing customers with a greater level of operational flexibility by allowing the pick-up and drop-off of units during the lease term. We also have expired long-term leases whose fixed terms have ended but for which the related units remain on-hire and for which we continue to receive rental payments pursuant to the terms of the initial contract. Some leases have contractual terms that have features reflective of both long-term and service leases and we classify such leases as either long-term or service leases, depending upon which features we believe are predominant.
The following table provides a summary of our equipment leasing fleet portfolio by lease type, based on CEU as of the dates indicated below:
Lease Portfolio | December 31, 2014 | December 31, 2013 | December 31, 2012 | |||||
Long-term leases | 68.9 | % | 68.0 | % | 67.5 | % | ||
Finance leases | 8.0 | 9.2 | 6.6 | |||||
Service leases | 17.7 | 18.0 | 21.0 | |||||
Expired long-term leases (units remaining on-hire) | 5.4 | 4.8 | 4.9 | |||||
Total | 100.0 | % | 100.0 | % | 100.0 | % | ||
As of December 31, 2014, 2013 and 2012, our long-term and finance leases combined had average remaining contractual term of approximately 41 months, 44 months, and 43 months, respectively, assuming no leases are renewed.
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Operating Performance
Our profitability is primarily determined by the extent to which our leasing and other revenues exceed our ownership, operating and administrative expenses. Our profitability is also impacted by the gains or losses that we realize on the sale of our used equipment and the net sales margins on our equipment trading activities.
Our leasing revenues are primarily driven by the size of our owned fleet, our equipment utilization and the average lease rates in our lease portfolio. Our leasing revenues also include ancillary fees driven by container pick-up and drop-off volumes. Leasing revenues for the year ended December 31, 2014 increased 4.2% from 2013.
Owned fleet size. As of December 31, 2014, our owned fleet included 2,752,948 CEU, an increase of 5.5% from December 31, 2013. The increase in our fleet size in 2014 was primarily due to our purchases of new containers and the completion of several large sale-leaseback transactions. In 2014, we invested approximately $638 million in our fleet, purchasing approximately 231,000 TEU of new containers and approximately 71,000 TEU of used containers through sale-leaseback transactions.
These investments in our fleet were supported by solid leasing demand. In 2014, leasing demand was supported by improved trade growth and the continued market share shift from owned to leased containers. Global trade growth was estimated to be between 5% and 6% in 2014 and our customers have continued to lease a larger than normal share of their new container requirements due to strains on their financial performance created by excess vessel capacity and weak freight weights.
Utilization. Our average utilization was 97.6% during 2014, up slightly from 97.4% in 2013, and our ending utilization was 98.1%, up from 97.2% at the end of 2013. Our high utilization in 2014 was supported by a relatively tight supply/demand balance for containers and the high percentage of our units that are on-hire to customers on long-term or finance leases. In general, we expect our utilization will remain historically high in 2015.
The following tables set forth our equipment fleet utilization (1) for the periods indicated below:
Quarter Ended | ||||||||||
Average Utilization | Year Ended December 31, | December 31, | September 30, | June 30, | March 31, | |||||
2014 | 97.6% | 98.1% | 97.9% | 97.3% | 97.1% | |||||
2013 | 97.4% | 97.0% | 97.3% | 97.5% | 97.7% | |||||
2012 | 97.9% | 97.7% | 97.7% | 97.8% | 98.2% | |||||
Quarter Ended | |||||||||
Ending Utilization | December 31, | September 30, | June 30, | March 31, | |||||
2014 | 98.1% | 98.1% | 97.7% | 96.9% | |||||
2013 | 97.2% | 97.0% | 97.5% | 97.6% | |||||
2012 | 97.9% | 97.4% | 97.6% | 97.7% | |||||
_______________________________________________________________________________
(1) | Utilization is computed by dividing our total units on lease (in CEU) by the total units in our fleet (in CEU) excluding new units not yet leased and off-hire units designated for sale. |
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Average lease rates. Average lease rates for our dry container product line decreased by 4.9% in 2014 compared to 2013. Excluding the impact of sale-leaseback transactions, average lease rates for our dry container product line decreased by 5.8% in 2014 compared to 2013. Lower new container prices, widespread availability of attractively priced financing, and aggressive competition for new leasing transactions continue to pressure market lease rates, and market lease rates for dry containers are currently well below our portfolio average. Low market lease rates negatively impact our overall average lease rates as we add new containers to our fleet and as existing containers either have leases renegotiated and re-priced at expiration or as the containers are dropped-off from older leases with higher lease rates and picked-up onto new leases with lower lease rates. We expect our average dry container lease rates will decrease in 2015 and if market lease rates remain near their current low level for an extended period of time, we expect the decrease in our average dry container lease rates will accelerate in 2016 and 2017 due to the large number of leases with high lease rates that are scheduled to expire in those years.
Average lease rates for refrigerated containers decreased by 4.2% in 2014 compared to 2013. For several years our average lease rates for refrigerated containers have been negatively impacted by the addition of new refrigerated containers placed on lease at rates lower than our portfolio average. The cost of the refrigeration machines included in refrigerated containers has trended down over the last few years, which has led to lower refrigerated container prices and lease rates. Lease rates for new refrigerated containers are also being negatively impacted by aggressive pricing from new entrants seeking to build market share and the widespread availability of attractively priced financing and aggressive competition.
The average lease rates for special containers were approximately 4.3% higher in 2014 than in 2013. Excluding the impact of sale-leaseback transactions, average special container rates were 3.4% higher in 2014 compared to 2013. This increase is mainly the result of the drop-off and sale of older special containers that were on leases with rates well below our portfolio average.
Equipment disposals. During 2014, we recognized a $7.0 million gain on the sale of our used containers compared to a gain of $26.8 million in 2013. During 2014, our gain on sale decreased primarily due to lower average sale prices. Average used container selling prices in 2014 decreased approximately 23% from our average prices in 2013 as leasing companies and shipping lines have increased disposal volumes in response to the lower cost of new containers and the gradual normalization of the global container supply / demand balance. We expect used container selling prices and our disposal gains will continue to trend down toward historical levels as the global supply and demand balance for containers continues to normalize.
Our gain on equipment disposals has also continued to be negatively impacted by the low disposal volume of original TAL dry containers and by high purchase prices paid for sale-leaseback containers. In general, used dry container sale prices remain above our long-term estimated residual values, and the per unit gains on the disposal of original TAL dry containers remain relatively high. However, TAL purchased few new containers in the late 1990’s and early 2000’s, and as a result, we have a limited amount of original TAL dry containers currently available for sale.
TAL has been supplementing its reduced sale volume of original TAL containers with older containers purchased from our customers through sale-leaseback transactions. These containers have generally been purchased for prices higher than the net book value of original TAL containers of similar ages. The higher purchase prices are supported by leasing revenues received by TAL under the terms of the sale-leaseback agreements, and these sale-leaseback transactions remain profitable on an overall basis. However, TAL has started to recognize losses on the disposal of a portion of our sale-leaseback containers due to the current reduction in sale prices for used containers and the fact that lease revenue and fees are excluded from the gain or loss calculations upon disposal.
Equipment ownership expenses. Our ownership expenses, which consist of depreciation and interest expense, increased by $17.3 million or 5.5% in 2014 as compared to 2013. The increase in ownership expenses was less than the increase in the net book value of our average revenue earning assets, which increased 7.0% from 2013 to 2014.
Depreciation expense increased $19.7 million or 9.6% in 2014 as compared to 2013 due to the net increase in the size of our depreciable fleet. Depreciation expense increased faster than our revenue earning assets mainly reflecting a decrease in the portion of our fleet that is fully depreciated. TAL purchased few new containers in the late 1990's and early 2000's, and as a result, we have relatively few original TAL containers reaching the end of their depreciable lives. We expect the portion of fully depreciated containers in our fleet will continue to trend down for the next several years.
Interest expense decreased $2.4 million or 2.1% in 2014 as compared to 2013. The decrease was due to a decrease in our average effective interest rate, partially offset by an increase in our average outstanding debt mainly due to new equipment purchases. Our average effective interest rate decreased to 3.69% in 2014 as compared to 4.01% in 2013 as the result of new debt issuances at interest rates lower than those on our existing debt facilities. Our average outstanding debt increased by 6.1% mainly due to the 7.0% increase in average revenue earning assets.
Credit performance. We recorded a $0.2 million provision for doubtful accounts during 2014, compared to a provision of $2.8 million in 2013. The provision in 2013 was related to payment defaults and equipment recovery costs for a few small
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regional shipping line customers. While our credit performance during 2014 was strong, our overall concern about credit risk remains heightened due to the difficult market conditions facing our customers. Many of the major shipping lines have reported modest or negative profitability over the last few years due to persistent excess vessel capacity and weak freight rates. Several shipping lines are also currently undertaking significant financial restructurings due to high current financial leverage and ongoing sizable losses. In addition, it is anticipated that the volume of new vessels entering service over the next several years will cause the global container vessel fleet to grow at a higher rate than global containerized trade. As a result, we expect freight rates and our customers' financial performance to remain under pressure.
Operating expenses. Our direct operating expenses were $33.1 million in 2014, compared to $27.1 million in 2013, an increase of 22.1% . This increase was mainly due to an increase in the volume of pick-up and drop-off activity and an increase in the number of containers we are holding for sale.
Administrative expenses. Our administrative expenses were $45.4 million in 2014 compared to $44.2 million in 2013, an increase of 2.7%. The increase was mainly due to an increase in employment costs and foreign exchange losses on our Euro and GBP denominated assets.
Dividends
We paid the following quarterly dividends during the years ended December 31, 2014 and 2013 on our issued and outstanding common stock:
Record Date | Payment Date | Aggregate Payment | Per Share Payment | ||
December 2, 2014 | December 23, 2014 | $23.8 Million | $0.72 | ||
September 3, 2014 | September 24, 2014 | $24.2 Million | $0.72 | ||
June 3, 2014 | June 24, 2014 | $24.2 Million | $0.72 | ||
March 3, 2014 | March 24, 2014 | $24.2 Million | $0.72 | ||
December 2, 2013 | December 23, 2013 | $23.4 Million | $0.70 | ||
September 3, 2013 | September 24, 2013 | $22.8 Million | $0.68 | ||
June 4, 2013 | June 25, 2013 | $22.1 Million | $0.66 | ||
March 7, 2013 | March 28, 2013 | $21.4 Million | $0.64 | ||
Historically, most of our dividends have been treated as a non-taxable return of capital, and we believe that our dividends paid in 2014 will also be treated as a return of capital to TAL shareholders. The taxability of the dividends to TAL shareholders does not impact TAL's corporate tax position. Investors should consult with a tax adviser to determine the proper tax treatment of these distributions.
Stock Repurchase Program
On March 13, 2006, our Board of Directors authorized a stock repurchase program for the repurchase of our common stock. The stock repurchase program, as now amended, authorizes us to repurchase up to 4.0 million shares of our common stock. Since September 1, 2014, TAL repurchased 900,000 shares of its stock at an average price of $41.95. As of February 10, 2015, there were 88,157 shares authorized for purchase under TAL's stock repurchase program.
On February 11, 2015, TAL's Board of Directors authorized a new share repurchase program of up to 3.0 million of its outstanding shares. These shares augment the remaining 88,157 shares authorized for purchase under TAL's existing stock repurchase program. Repurchases will be made from time to time at TAL's discretion, based on ongoing assessments of the capital needs of the business, the market price of TAL's common stock and general market and other conditions. No time limit was set for the completion of the repurchase program.
Stock repurchases under this program may be made through open market and/or privately negotiated transactions at such times and in such amounts as a committee of our Board of Directors deems appropriate. The timing and actual number of shares repurchased will depend on a variety of factors including price, corporate and regulatory requirements, restrictions regarding a repurchase program included in our credit facilities and other market conditions. The stock repurchase program does not have an expiration date and may be limited or terminated by the Board of Directors at any time without prior notice.
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Results of Operations
The following table summarizes our results of operations for the years ended December 31, 2014, 2013, and 2012 (in thousands of dollars):
Year Ended December 31, | |||||||||||
2014 | 2013 | 2012 | |||||||||
Leasing revenues: | |||||||||||
Operating leases | $ | 573,778 | $ | 552,640 | $ | 511,189 | |||||
Finance leases | 18,355 | 14,728 | 13,781 | ||||||||
Other revenues | 1,873 | 2,485 | 3,227 | ||||||||
Total leasing revenues | 594,006 | 569,853 | 528,197 | ||||||||
Equipment trading revenues | 56,436 | 73,004 | 60,975 | ||||||||
Equipment trading expenses | (49,246 | ) | (62,726 | ) | (53,431 | ) | |||||
Trading margin | 7,190 | 10,278 | 7,544 | ||||||||
Net gain on sale of leasing equipment | 6,987 | 26,751 | 44,509 | ||||||||
Operating expenses: | |||||||||||
Depreciation and amortization | 224,753 | 205,073 | 193,466 | ||||||||
Direct operating expenses | 33,076 | 27,142 | 25,039 | ||||||||
Administrative expenses | 45,399 | 44,197 | 43,991 | ||||||||
Provision (reversal) for doubtful accounts | 212 | 2,827 | (208 | ) | |||||||
Total operating expenses | 303,440 | 279,239 | 262,288 | ||||||||
Operating income | 304,743 | 327,643 | 317,962 | ||||||||
Other expenses: | |||||||||||
Interest and debt expense | 109,265 | 111,725 | 114,629 | ||||||||
Write-off of deferred financing costs | 5,192 | 4,000 | — | ||||||||
Net loss (gain) on interest rate swaps | 780 | (8,947 | ) | 2,469 | |||||||
Total other expenses | 115,237 | 106,778 | 117,098 | ||||||||
Income before income taxes | 189,506 | 220,865 | 200,864 | ||||||||
Income tax expense | 65,461 | 77,699 | 70,732 | ||||||||
Net income | $ | 124,045 | $ | 143,166 | $ | 130,132 | |||||
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Comparison of Year Ended December 31, 2014 to Year Ended December 31, 2013
Leasing revenues. The principal components of our leasing revenues are presented in the following table. Per diem revenue represents revenue earned under operating lease contracts; fee and ancillary lease revenue represent fees billed for the pick-up and drop-off of containers in certain geographic locations and billings of certain reimbursable operating costs such as repair and handling expenses; and finance lease revenue represents interest income earned under finance lease contracts.
Year Ended December 31, | |||||||
2014 | 2013 | ||||||
(in thousands) | |||||||
Leasing revenues: | |||||||
Operating lease revenues: | |||||||
Per diem revenue | $ | 545,561 | $ | 528,499 | |||
Fee and ancillary lease revenue | 28,217 | 24,141 | |||||
Total operating lease revenue | 573,778 | 552,640 | |||||
Finance lease revenue | 18,355 | 14,728 | |||||
Other revenues | 1,873 | 2,485 | |||||
Total leasing revenues | $ | 594,006 | $ | 569,853 | |||
Total leasing revenues were $594.0 million in 2014, compared to $569.9 million in 2013, an increase of $24.1 million, or 4.2%.
Per diem revenue increased by $17.1 million, or 3.2%, compared to 2013. The primary reasons for this increase are as follows:
• | $37.6 million increase due to an increase of approximately 156,300 CEU in the average number of units on-hire under operating leases; partially offset by a |
• | $20.5 million decrease due to lower average per diem rates. |
Fee and ancillary lease revenue increased by $4.1 million in 2014, compared to 2013 primarily due to a $3.2 million increase in reimbursable costs and an increase of $1.1 million in fee revenue due to higher pick-up and drop-off volumes.
Finance lease revenue increased by $3.6 million in 2014, compared to 2013 due to an increase in the average size of our finance lease portfolio, partially offset by a decrease in the average interest rate.
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Equipment Trading Activities. Equipment trading revenues represent the proceeds on the sale of equipment purchased for resale. Equipment trading expenses represent the cost of equipment sold, including costs associated with the acquisition, maintenance and selling of trading inventory, such as positioning, repairs, handling and storage costs, and estimated direct selling and administrative costs.
Year Ended December 31, | |||||||
2014 | 2013 | ||||||
(in thousands) | |||||||
Equipment trading revenues | $ | 56,436 | $ | 73,004 | |||
Equipment trading expenses | (49,246 | ) | (62,726 | ) | |||
Equipment trading margin | $ | 7,190 | $ | 10,278 | |||
The equipment trading margin was $7.2 million in 2014 compared to $10.3 million in 2013, a decrease of $3.1 million. The trading margin decreased mainly due to $2.0 million due to lower per unit margins on equipment sold and decreased by $0.9 million due to lower sales volume.
Net gain on sale of leasing equipment. Gain on sale of equipment was $7.0 million in 2014 compared to $26.8 million in 2013, a decrease of $19.8 million. The primary reasons for this decrease are as follows:
• | $20.1 million decrease due to a decline of approximately 23% in used dry container selling prices; |
• | $2.5 million decrease due to larger gains in 2013 related to units declared lost by one of our customers, which was not repeated in 2014, partially offset by a |
• | $2.6 million increase due to an increase in sales volume. |
Depreciation and amortization. Depreciation and amortization was $224.8 million in 2014, compared to $205.1 million in 2013, an increase of $19.7 million or 9.6%. Depreciation expense increased by $23.9 million due to the net increase in the size of our depreciable fleet, partially offset by a decrease of $4.2 million due to equipment becoming fully depreciated.
Direct operating expenses. Direct operating expenses primarily consist of our costs to repair equipment returned off lease, to store the equipment when it is not on lease and to reposition equipment that has been returned to locations with weak leasing demand.
Direct operating expenses were $33.1 million in 2014, compared to $27.1 million in 2013, an increase of $6.0 million primarily driven by the following:
• | $1.8 million increase in repair expense due to a larger volume of dry containers; |
• | $1.8 million increase in operating, handling and repositioning expenses resulting from a larger volume of pick-up and drop-off activity; |
• | $1.6 million increase in storage costs due to an increase in the number of idle units, mainly an increase in the number of containers held for sale; and a |
• | $0.6 million increase in survey costs due to increased procurement activity. |
Administrative expenses. Administrative expenses were $45.4 million in 2014 compared to $44.2 million in 2013, an increase of $1.2 million or 2.7%. This increase was mainly due to increased employment costs and greater foreign exchange losses on Euro and GBP denominated assets.
Provision for doubtful accounts. Our provision for doubtful accounts was $0.2 million in 2014 compared to a provision of $2.8 million in 2013. In 2013, we recorded a provision related to payment defaults and estimated recovery costs for several small regional shipping lines. We made no such provisions for defaults this year.
Interest and debt expense. Interest and debt expense was $109.3 million in 2014, compared to $111.7 million in 2013, a decrease of $2.4 million or 2.1%. The decrease in interest and debt expense was mainly driven by a $9.2 million decrease due to a lower average effective interest rate of 3.69% in 2014 compared to 4.01% in 2013. This was primarily offset by an increase of $6.8 million due to a higher average debt balance of $2,916.9 million in 2014, compared to $2,750.1 million in 2013.
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Net loss (gain) on interest rate swaps. Net loss on interest rate swaps was $0.8 million in 2014, compared to a gain of $8.9 million in 2013. The fair value of our interest rate swap agreements decreased during 2014 due to a decrease in long-term interest rates. Under the majority of our interest rate swap agreements, we make interest payments based on fixed interest rates and receive payments based on the applicable prevailing variable interest rate. As long-term interest rates decreased during 2014, the current market rate on interest rate swap agreements with similar terms decreased relative to our existing interest rate swap agreements, which caused the fair value of our existing interest rate swap agreements to decrease. However, we designated the majority of our interest rate swaps as hedges starting in 2013, which limits the size of our recognized gains or losses on our swap portfolio as long-term interest rates change.
Income tax expense. Income tax expense was $65.5 million in 2014, compared to $77.7 million in 2013. The effective tax rate was 34.5% in 2014 and 35.2% in 2013. Our effective tax rate decreased due to changes in state apportionment factors for several states which lowered our state effective tax rate.
While we record income tax expense, we do not currently pay any significant federal, state or foreign income taxes due to the availability of net operating loss carryovers and accelerated tax depreciation for our equipment. The majority of the expense recorded for income taxes is recorded as a deferred tax liability on the balance sheet. We anticipate that the deferred income tax liability will continue to grow for the foreseeable future.
Comparison of Year Ended December 31, 2013 to Year Ended December 31, 2012
Leasing revenues. The principal components of our leasing revenues are presented in the following table. Per diem revenue represents revenue earned under operating lease contracts; fee and ancillary lease revenue represent fees billed for the pick-up and drop-off of containers in certain geographic locations and billings of certain reimbursable operating costs such as repair and handling expenses; and finance lease revenue represents interest income earned under finance lease contracts.
Year Ended December 31, | |||||||
2013 | 2012 | ||||||
(in thousands) | |||||||
Leasing revenues: | |||||||
Operating lease revenues: | |||||||
Per diem revenue | $ | 528,499 | $ | 487,832 | |||
Fee and ancillary lease revenue | 24,141 | 23,357 | |||||
Total operating lease revenue | 552,640 | 511,189 | |||||
Finance lease revenue | 14,728 | 13,781 | |||||
Other revenue | 2,485 | 3,227 | |||||
Total leasing revenues | $ | 569,853 | $ | 528,197 | |||
Total leasing revenues were $569.9 million in 2013, compared to $528.2 million in 2012, an increase of $41.7 million, or 7.9%.
Per diem revenue increased by $40.7 million, or 8.3%, compared to 2012. The primary reasons for this increase are as follows:
• | $56.1 million increase due to an increase of approximately 211,400 CEU in the average number of units on-hire under operating leases; partially offset by a |
• | $12.2 million decrease due to lower average per diem rates; and a |
• | $3.3 million decrease due to the recognition of revenue during the second quarter of 2012 for the early termination of certain lease contracts, which did not reoccur in 2013. |
Fee and ancillary lease revenue increased by $0.8 million in 2013 compared to 2012 due to an increase in drop-off volumes partially offset by a decrease in the average drop-off fee per unit.
Finance lease revenue increased by $0.9 million in 2013, compared to 2012 due to an increase in the average size of our finance lease portfolio, partially offset by a decrease in the average portfolio yield.
Equipment Trading Activities. Equipment trading revenues represent the proceeds on the sale of equipment purchased for resale. Equipment trading expenses represent the cost of equipment sold, including costs associated with the acquisition,
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maintenance and selling of trading inventory, such as positioning, repairs, handling and storage costs, and estimated direct selling and administrative costs.
Year Ended December 31, | |||||||
2013 | 2012 | ||||||
(in thousands) | |||||||
Equipment trading revenues | $ | 73,004 | $ | 60,975 | |||
Equipment trading expenses | (62,726 | ) | (53,431 | ) | |||
Equipment trading margin | $ | 10,278 | $ | 7,544 | |||
The equipment trading margin increased $2.7 million in 2013 compared to 2012 due to higher sales volumes.
Net gain on sale of leasing equipment. Gain on sale of equipment was $26.8 million in 2013 compared to $44.5 million in 2012, a decrease of $17.7 million. The primary reasons for this decrease are as follows:
• | $14.7 million decrease due to a decrease in average selling prices; |
• | $4.9 million decrease due to lower volume of higher margin original TAL units sold. A larger portion of containers sold in 2013 were purchased through sale-leaseback transactions for values above the net book values of our typical sale age units; and |
• | $1.9 million increase due to larger gains resulting from payments by customers for lost units. During 2013, one of our customers declared an unusually large number of units as lost. |
Depreciation and amortization. Depreciation and amortization was $205.1 million in 2013, compared to $193.5 million in 2012, an increase of $11.6 million or 6.0%. Depreciation expense increased by $29.9 million due to the net increase in the size of our depreciable fleet, partially offset by a decrease of $4.4 million due to equipment becoming fully depreciated and a benefit of $13.8 million, resulting from the change in residual value estimates effective October 1, 2012.
Direct operating expenses. Direct operating expenses primarily consist of our costs to repair equipment returned off lease, to store the equipment when it is not on lease and to reposition equipment that has been returned to locations with weak leasing demand.
Direct operating expenses were $27.1 million in 2013, compared to $25.0 million in 2012, an increase of $2.1 million primarily driven by the following:
• | $4.2 million increase in storage costs due to an increase in the number of idle units partially offset by |
• | $0.7 million decrease in survey and inspection expense due to lower new equipment purchases; |
• | $1.0 million decrease in repair expense due to a lower volume of repairs on refrigerated and special containers; and |
• | $0.6 million decrease in repositioning costs. |
Administrative expenses. Administrative expenses were $44.2 million in 2013 compared to $44.0 million in 2012, an increase of $0.2 million or 0.5%.
Provision (reversal) for doubtful accounts. Our provision for doubtful accounts was $2.8 million in 2013 compared to a reversal of $0.2 million in 2012. During 2013, we recorded a $2.8 million provision for doubtful accounts related to payment defaults and estimated recovery costs for a few small regional shipping lines.
Interest and debt expense. Interest and debt expense was $111.7 million in 2013, compared to $114.6 million in 2012, a decrease of $2.9 million. The decrease in interest and debt expense was mainly driven by a $20.6 million decrease due to a lower average effective interest rate of 4.01% in 2013 compared to 4.75% in 2012. This was mostly offset by an increase of $18.0 million due to a higher average debt balance of $2,750.1 million in 2013, compared to $2,374.4 million in 2012.
Net (gain) loss on interest rate swaps Net gain on interest rate swaps was $8.9 million in 2013, compared to a loss of $2.5 million in 2012. The fair value of our interest rate swap agreements increased during 2013 due to an increase in long-term interest rates. Under the majority of our interest rate swap agreements, we make interest payments based on fixed interest rates and receive payments based on the applicable prevailing variable interest rate. As long term-interest rates increased during 2013, the current market rate on interest rate swap agreements with similar terms increased relative to our existing interest rate swap agreements, which caused the fair value of our existing interest rate swap agreements to increase.
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Income tax expense. Income tax expense was $77.7 million in 2013, compared to $70.7 million in 2012. The effective tax rate for 2013 and 2012 was 35.2%.
While we record income tax expense, we do not currently pay any significant federal, state or foreign income taxes due to the availability of net operating loss carryovers and accelerated tax depreciation for our equipment. The majority of the expense recorded for income taxes is recorded as a deferred tax liability on the balance sheet. We anticipate that the deferred income tax liability will continue to grow for the foreseeable future.
Business Segments
We operate our business in one industry, intermodal transportation equipment, and in two business segments, Equipment leasing and Equipment trading.
Equipment leasing
We own, lease and ultimately dispose of containers and chassis from our leasing fleet, as well as manage containers owned by third parties. Equipment leasing segment revenues represent leasing revenues from operating and finance leases, fees earned on managed container leasing activities, as well as other revenues. Expenses related to equipment leasing include direct operating expenses, administrative expenses, depreciation expense and interest expense. The Equipment leasing segment also includes gains and losses on the sale of owned leasing equipment.
Equipment trading
We purchase containers from shipping line customers and other sellers of containers, and resell these containers to container retailers and users of containers for storage or one-way shipment. Equipment trading segment revenues represent the proceeds on the sale of containers purchased for resale. Expenses related to equipment trading include the cost of containers purchased for resale that were sold and related selling costs, as well as direct operating expenses, administrative expenses and interest expense.
Segment income before income taxes
The following table lists the income before income taxes for the Equipment leasing and Equipment trading segments for the periods indicated:
Year Ended December 31, | % Change Between | ||||||||||||||||
2014 | 2013 | 2012 | 2014 and 2013 | 2013 and 2012 | |||||||||||||
(in thousands) | |||||||||||||||||
Income before income taxes(1) | |||||||||||||||||
Equipment leasing segment | $ | 180,356 | $ | 198,210 | $ | 195,166 | (9.0 | )% | 1.6 | % | |||||||
Equipment trading segment | $ | 15,122 | $ | 17,708 | $ | 8,167 | (14.6 | )% | 116.8 | % | |||||||
Total | $ | 195,478 | $ | 215,918 | $ | 203,333 | |||||||||||
(1) | Income before income taxes excludes net losses on interest rate swaps and the write-off of deferred financing costs. |
Equipment leasing income before income taxes. Income before income taxes for the Equipment leasing segment was $180.4 million in 2014 compared to $198.2 million in 2013, a decrease of $17.8 million. This decrease was mainly due to a decrease in the gain on the sale of leasing equipment of $19.8 million mostly due to lower selling prices. In addition, direct operating expenses increased $5.8 million. This decrease was partially offset by an increase in the leasing margin (leasing revenues net of depreciation and amortization and interest and debt expense) of $6.5 million due to an increase in the fleet size and average number of units on-hire and a reduction in our average effective interest rate.
Income before income taxes for the Equipment leasing segment was $198.2 million in 2013 compared to $195.2 million in 2012, an increase of $3.0 million. The leasing margin (leasing revenue net of depreciation and amortization, interest and debt expense, and direct operating expenses) increased by $24.5 million primarily due to an increase in fleet size and the average number of units on-hire in 2013 and a lower effective interest rate. This increase was partially offset by a decrease in the gain on the sale of leasing equipment of $17.7 million due to lower selling prices and a decrease in the number of original TAL units sold that have higher per unit gains, an increase in the provision for doubtful accounts of $3.0 million and a decrease in management fee income of $0.8 million.
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Equipment trading income before income taxes. Income before income taxes for the Equipment trading segment was $15.1 million in 2014, compared to $17.7 million in 2013, a decrease of $2.6 million. This decrease was primarily due to a decline in the equipment trading margin due to lower per unit margins on equipment sold and lower sales volume.
Income before income taxes for the Equipment trading segment was $17.7 million in 2013, compared to $8.2 million in 2012, an increase of $9.5 million. This increase was due to a $7.1 million increase in leasing margin due to an increase in units on lease purchased for resale that will remain on leases until they are dropped off and eventually sold. In addition, equipment trading margin net of administrative expenses increased by $2.5 million resulting from an increase in sales volume partially offset by a decrease in selling prices.
Liquidity and Capital Resources
Our principal sources of liquidity are cash flows provided by operating activities, proceeds from the sale of our leasing equipment, principal payments on finance lease receivables and borrowings under our credit facilities. Our cash in-flows and borrowings are used to finance capital expenditures, meet debt service requirements and pay dividends.
We continue to have sizable cash in-flows. For the year ended December 31, 2014, cash provided by operating activities, together with the proceeds from the sale of our leasing equipment and principal payments on our finance leases, was $612.4 million. In addition, as of December 31, 2014 we had $79.1 million of unrestricted cash and $853.2 million of additional borrowing capacity under our current credit facilities. During 2014, we issued $795.0 million of fixed rate secured term notes under the asset backed securitization ("ABS") facilities.
As of December 31, 2014, major committed cash outflows in the next 12 months include $376.3 million of scheduled principal payments on our existing debt facilities and $257.4 million of committed but unpaid capital expenditures.
We believe that cash provided by operating activities and existing cash, proceeds from the sale of our leasing equipment, principal payments on our finance lease receivables and availability under our borrowing facilities will be sufficient to meet our obligations over the next 12 months.
At December 31, 2014, our outstanding indebtedness was comprised of the following (amounts in millions):
Current Amount Outstanding | Current Maximum Borrowing Level | ||||||
Asset backed securitization (ABS) term notes | $ | 1,504.2 | $ | 1,504.2 | |||
Term loan facilities | 859.0 | 1,092.2 | |||||
Asset backed warehouse facility | 420.0 | 650.0 | |||||
Revolving credit facilities | 160.0 | 550.0 | |||||
Capital lease obligations | 97.6 | 97.6 | |||||
Total Debt | $ | 3,040.8 | $ | 3,894.0 | |||
The maximum commitment levels depicted in the chart above may not reflect the actual availability under all of the credit facilities. Certain of these facilities are governed by borrowing bases that limit borrowing capacity to an established percentage of relevant assets.
As of December 31, 2014, we had $1,603.4 million of debt outstanding on facilities with fixed interest rates. These fixed rate facilities are scheduled to mature between 2015 and 2024, and had a weighted average effective interest rate of 3.61% as of December 31, 2014.
As of December 31, 2014, we had $1,437.4 million of debt outstanding on facilities with interest rates based on floating rate indices (primarily LIBOR). These floating rate facilities are scheduled to mature between 2016 and 2021, and had a weighted average effective interest rate of 1.72% as of December 31, 2014. Including the impact of our interest rate swaps, the weighted average effective interest rate on our floating rate facilities was 3.16% as of December 31, 2014.
We economically hedge the risks associated with fluctuations in interest rates on a portion of our floating rate borrowings by entering into interest rate swap agreements that convert a portion of our floating rate debt to a fixed rate basis, thus reducing the impact of interest rate changes on future interest expense. As of December 31, 2014, we had interest rate swaps in place with a net notional amount of $1,135.0 million to fix the floating interest rates on a portion of our floating rate debt obligations, with a weighted average fixed leg interest rate of 2.00% and a weighted average remaining term of 7.6 years.
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As of December 31, 2014, the Company had a combined $2,738.4 million of debt on facilities with fixed interest rates or floating interest rates that have been synthetically fixed through interest rate swap contracts. This accounts for 90.1% of total debt. These facilities had a weighted average remaining term of 5.7 years.
Asset Backed Securitization Term Notes
Our Asset Backed Securitization ("ABS") facilities have been the largest funding source used to finance our existing container fleet and new container purchases. Under these facilities, our indirect wholly-owned subsidiaries issue asset backed notes. The issuance of asset backed notes is the primary business objective of those subsidiaries.
Our borrowings under the ABS facilities amortize in monthly installments. The borrowing capacity under the ABS facilities is determined by applying an advance rate against the sum of the net book values of designated eligible containers and accounts receivable for sold containers not aged more than 60 days plus 100% of restricted cash. Advance rates under the ABS facilities range from 76% to 87%. We are required to maintain restricted cash balances on deposit in designated bank accounts equal to five to nine months of interest expense depending on the type of facility.
Term Loan Facilities
We utilize our term loan facilities as an important funding source for the purchase of containers and other equipment. The term loan facilities amortize in monthly or quarterly installments.
The borrowing capacity under the term loan facilities is determined by applying an advance rate in the range of 80% to 90% against the net book values of designated eligible containers, which is determined under the terms of each facility.
Asset Backed Warehouse Facility
The asset backed warehouse facility has a maximum borrowing capacity of $650.0 million. Under the amended facility effective as of October 10, 2014, funds are available on a revolving basis until October 10, 2017, after which if the facility is not refinanced, the notes will convert to term notes with a maturity date of October 10, 2021. We primarily use the proceeds of this facility to finance the acquisition of equipment.
The borrowing capacity under the asset backed warehouse facility is determined by applying the advance rate of 81% against the sum of the net book values of designated eligible containers and accounts receivable for sold containers not outstanding more than 60 days plus 100% of restricted cash. The Company is required to maintain restricted cash balances on deposit in a designated bank account equal to three months of interest expense.
Revolving Credit Facilities
We have revolving credit facilities which have a maximum borrowing capacity of $550.0 million with maturity dates on November 30, 2016 and March 12, 2018. These facilities generally provide for an advance rate against eligible assets defined by the terms of their respective agreements.
Capital Lease Obligations
We have entered into a series of lease transactions with various financial institutions to finance chassis and containers. Each lease is accounted for as a capital lease, with interest expense recognized on a level yield basis over the period preceding early purchase options, if any, which is generally five to ten years from the transaction date.
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Debt Covenants
We are subject to certain financial covenants under our debt agreements. As of December 31, 2014, we were in compliance with all such covenants. Below are the primary financial covenants to which we are subject:
• | Minimum Earnings Before Interest and Taxes ("Covenant EBIT") to Cash Interest Expense; |
• | Minimum Tangible Net Worth ("TNW"); and |
• | Maximum Indebtedness to TNW. |
Non-GAAP Measures
We primarily rely on our results measured in accordance with generally accepted accounting principles ("GAAP") in evaluating our business. Covenant EBIT, Cash Interest Expense, TNW, and Indebtedness are non-GAAP financial measures defined in our debt agreements that are used to determine our compliance with certain covenants contained in our debt agreements and should not be used as a substitute for analysis of our results as reported under GAAP. However, we believe that the inclusion of this non-GAAP information provides additional information to investors regarding our debt covenant compliance.
Minimum Covenant EBIT to Cash Interest Expense
For the purpose of this covenant, Covenant EBIT is calculated based on the cumulative sum of our earnings for the last four quarters (excluding income taxes, interest expense, amortization, net gain or loss on interest rate swaps and certain non-cash charges). Cash Interest Expense is calculated based on interest expense adjusted to exclude interest income, amortization of deferred financing costs, and the difference between current and prior period interest expense accruals.
Minimum Covenant EBIT to Cash Interest Expense is calculated on a consolidated basis and for our wholly-owned special purpose entities ("SPEs"), whose primary activity is to issue asset backed notes. Covenant EBIT for each of our SPEs is calculated based on the net earnings generated by the assets pledged as collateral for the underlying debt issued. The actual Covenant EBIT to Cash Interest Expense ratio for each SPE may differ depending on the specific net earnings associated with those pledged assets. As of December 31, 2014, the minimum and actual consolidated Covenant EBIT to Cash Interest Expense ratio and Covenant EBIT to Cash Interest Expense ratio for each of the issuers of our debt facilities whose initial borrowing capacity was approximately $200 million or greater were as follows:
Entity/Issuer | Minimum Covenant EBIT to Cash Interest Expense Ratio | Actual Covenant EBIT to Cash Interest Expense Ratio | |
Consolidated | 1.10 | 3.03 | |
TAL Advantage I, LLC | 1.10 | 7.51 | |
TAL Advantage III, LLC | 1.30 | ||