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Edited Transcript of TRTN earnings conference call or presentation 25-Jul-19 12:30pm GMT

Q2 2019 Triton International Ltd Earnings Call

HAMILTON Jul 27, 2019 (Thomson StreetEvents) -- Edited Transcript of Triton International Ltd earnings conference call or presentation Thursday, July 25, 2019 at 12:30:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Brian M. Sondey

Triton International Limited - Chairman & CEO

* John C. Burns

Triton International Limited - Senior VP & CFO

* John F. O'Callaghan

Triton International Limited - Executive VP and Global Head of Field Marketing & Operations

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Conference Call Participants

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* Ariel Luis Rosa

BofA Merrill Lynch, Research Division - Associate

* Michael C. Brown

Keefe, Bruyette, & Woods, Inc., Research Division - Associate

* Scott Jean Valentin

Compass Point Research & Trading, LLC, Research Division - MD & Research Analyst

* Tyler Oliver Seidman

Cowen and Company, LLC, Research Division - Research Associate

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Presentation

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Operator [1]

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Good day and welcome to the Triton International Limited Second Quarter 2019 Earnings Release Conference Call and Webcast. (Operator Instructions) Please note, this event is being recorded.

I would now like to turn the conference over to Mr. John Burns, Chief Financial Officer. Please go ahead, sir.

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John C. Burns, Triton International Limited - Senior VP & CFO [2]

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Thank you. Good morning, and thank you for joining us on today's call. We are here to discuss Triton's second quarter 2019 results, which were reported this morning. Joining me on this morning's call from Triton is Brian Sondey, our CEO; and John O'Callaghan, our Executive Vice President and Head of Global Marketing and Operations.

Before I turn the call over to Brian, I'd like to note that our prepared remarks will follow along with the presentation that can be found in the Investors section of our website. I would also like to point out that the company will be making statements on this conference call that are forward-looking statements as the term is defined under the Private Securities Litigation Reform Act of 1995. Any forward-looking statements made on this call are based on certain assumptions and analysis made by the company and are not a guarantee of future performance. Actual results may vary materially from these -- those expressed or implied in the forward-looking statements. The company's views, estimates, plans and outlook as described in this call may change subsequent to this discussion.

The company is under no obligation to modify or update any of these statements that are made despite any subsequent changes. These statements involve risks and uncertainties and are only predictions. A discussion of such risks and uncertainties is included in our earnings release and presentation as well as SEC filings. In addition, certain non-GAAP financial measures will be discussed on this call. A reconciliation of these non-GAAP measures to the equivalent GAAP financial measures is included in our earnings release.

With these formalities out of the way, I will now turn the call over to Brian.

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Brian M. Sondey, Triton International Limited - Chairman & CEO [3]

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Thanks, John, and welcome to Triton International's Second Quarter 2019 Earnings Conference Call. I'll start with Slide 3 of the presentation. Triton achieved solid performance in the second quarter of 2019. Triton generated $86.4 million of adjusted net income or $1.15 per share, an increase of 4.5% from the second quarter of last year. We also achieved an annualized return on equity of 16.2%. Triton achieved these solid results while facing mixed market conditions.

In general, container supply and demand were well balanced, but lease transaction and container pickup activity remained slow. The second quarter typically marks the start of the summer peak season for dry containers.

We have not yet seen a real acceleration of activity. Growth rates have slowed in a number of major European and Asian economies and the lack of resolution in the U.S/China trade dispute continues to generate uncertainty and impact trade. In this market, our utilization has decreased slightly, and our investments in new containers has been limited. Still, our financial performance remains strong, and we're using our substantial and steady cash flow to drive shareholder value in a variety of ways. Our regular dividend provides over a 6% yield. We repurchased the remaining outside partnership interest in one of our container owning subsidiaries, and we have repurchased almost 9% of our shares since last August without increasing leverage.

I'll now hand the call over to John O'Callaghan, our Global Head of Marketing and Operations.

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John F. O'Callaghan, Triton International Limited - Executive VP and Global Head of Field Marketing & Operations [4]

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Thank you, Brian. Turning to Slide 4. As Brian mentioned, Triton's operating performance continued to be solid in the second quarter of 2019 with utilization averaging 97.2%, down 40 basis points in the first quarter. Used container sale prices have decreased slightly, but overall held up well and continue to generate substantial gains. Container pickup activity was slow through the second quarter. The U.S. China trade disputes continued to create uncertainty. Our customers continue to run tight fleets and remain cautious about additional container capacity, whilst at the same time, retaining their existing position. And as such, we have seen relatively few drop offs.

There was a limited amount of new container transactions in the second quarter. We participated selectively in some transactions and walked away from others. Given the limited investment, Triton instead allocated equity cash flow to higher-yielding investments.

Overall, the market is poised. Our customers continue to expect trade growth to remain moderately positive. Inventory is under control. We expect our customers will continue to rely heavily on leasing. We are well placed to serve their requirements and win the deals we want.

Turning to Slide 5. Slide 5 shows Triton's key operating metrics. The second quarter was unseasonably slow. Our utilization is slightly down by about 40 basis points over the quarter. That's a very reasonable change in the existing market, and utilization remains high and is presently at 96.8%. The chart on the lower left of the slide shows our quarterly picks and drops of containers. You can see that although the picks remained low, there has been an increase, while over the same period, drops remain more or less static and at moderate levels. We expect drops to remain well controlled and container picks to increase as we get deeper into the third quarter.

Slide 6 looks at the key measures of container supply and demand. On the upper left chart, we see current expectations for trade growth. The container trade expectations from forecasters is that growth for 2019 will be in the 3% range. This is consistent with what our customers are also telling us. The bottom 2 charts are measure of supply. Factory inventory increased to about 1.1 million TEU due to lower absorption volumes in the second quarter. This represents about 3% of the global fleet. We're presently not seeing a rush for additional orders and are hearing that some container factories will be closing over August, taking capacity out of the market. The bottom right chart shows Triton's inventory. We've seen a small increase in our depot fleet of [our fires] in Asia, but it remains under control. We have very few leasing containers in inventory outside of Asia.

To sum up, with trade growth expectations of 3% and supply under control, we have a good shelf of equipment and are ready to supply our customers and wrap up investment as and when the market picks up.

I'll now hand you over to John Burns, our CFO.

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John C. Burns, Triton International Limited - Senior VP & CFO [5]

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Thank you, John. Turning to Page 7. On this page, we presented our consolidated financial results. Adjusted net income for the second quarter was $86.4 million or $1.15 per share, up 4.5% on a per share basis from the prior year, supported by the solid operating performance of our lease portfolio and the repurchase of nearly 9% of our outstanding shares over the last year. These strong results represent a return on equity of 16.2%.

Turning to Page 8. Our results for the quarter were driven by several factors. Leasing revenue increased 2.7%, reflecting an increase in our fleet size, driven by our strong fleet investment during the second half of last year. The benefit of this fleet growth was partially offset by a reduction in utilization. While utilization remained high, averaging 97.2% for the quarter, it was down from 98.8% in the prior year quarter. In addition to the impact on leasing revenue, the lower utilization drove an $8 million increase in direct operating costs, reflecting higher storage and repair expenses.

Our container disposals results remained quite positive, generating combined gains on sale and trading margins of $12 million in the second quarter, down $3 million from the prior year, reflecting a moderation in disposal prices though these prices remain well above our accounting residuals. We also continued to experience incremental benefits from purchase accounting adjustments related to our 2016 merger, and we will realize further improvements in our effective tax rate. The last item driving our year-over-year increase in earnings per share is our share buyback program.

Turning to Page 9. This page highlights our long-term financial stability and how this has enabled us to create significant shareholder value over an extended period. The keys to this financial stability and growth in shareholder value is our strong cash flow over multiple economic cycles, as shown in the graph on the top left. These cash flows, together with the short order cycle for containers enables us to maintain our leverage in a steady range over the long term, as shown in the graph on the bottom left. The graph on the right demonstrates how these strong cash flows and financial stability have enabled us to create significant shareholder value by steadily growing the book value of the business from $10 per share to $35 per share while paying over $25 per share in dividends.

I'll now return you to Brian for some additional comments.

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Brian M. Sondey, Triton International Limited - Chairman & CEO [6]

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Thanks, John. I'll continue the presentation with Slide 10. This slide shows how Triton has invested our equity cash flow over the last few years. During 2017 and 2018, the vast majority of our equity cash flow was used to invest into our container fleet. And here the equity cash flow used for investments is shown as 25% invested amounts, reflecting our typical leverage. Triton's high level of container investments in 2017 and '18 were driven by solid trade growth, the increasing share for leasing and Triton's large share of the leasing market. We estimate that Triton represented over 40% of new container purchases by leasing companies in 2017 and '18. And the projected lifetime equity IRRs of those investments are well into the upper teens.

Over the last few quarters, we have shifted our focus from adding new containers to repurchasing portions of our business from investors. This change in focus reflects the limited number and size of new container leasing transactions this year as well as tighter pricing on the available deals. The shift in focus also reflects what we consider to be compelling values on our repurchases. In a series of transactions in the first and second quarters, we repurchased all the outside investor interests in one of Triton's container owning subsidiaries for $103 million, which is well below the book value of the investor interests. We've also been actively repurchasing our common stock. The average price we've paid for our shares is well below our adjusted tangible net book value and our projections for lease runoff value. It's also important to note that we are not increasing financial risk with our share repurchases. We've been able to repurchase almost 9% of our shares since last August without increasing leverage.

I'll conclude the presentation with a few summary comments on Slide 11. Triton achieved solid results in the second quarter of 2019. We generated $1.15 of adjusted earnings per share, and we achieved an annualized return on equity over 16%. Lease transaction and container pickup activity were slow in the second quarter, but our operating metrics remain at a high level and continue to support strong financial performance. And while our investments in new containers have been limited so far this year, we're putting our cash flow to good use. Our customers continue to expect trade growth will be modestly positive in 2019, and we expect some increase in third quarter leasing activity. We expect our adjusted earnings per share will hold fairly steady from the second to the third quarters.

Overall, we're optimistic we'll achieve another excellent year. Our financial performance remains strong. We have repurchased meaningful portions of our business for compelling values. Our customers and market forecasters continue to expect trade growth will be modestly positive. We expect our customers will continue to rely heavily on leasing. We have significant advantages in our market. And our strong and stable cash flow gives us many levers to create shareholder value.

We'll now open up the call for questions.

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Questions and Answers

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Operator [1]

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(Operator Instructions) The first question is from Scott Valentin with Compass Point Research.

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Scott Jean Valentin, Compass Point Research & Trading, LLC, Research Division - MD & Research Analyst [2]

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Just with regard, you mentioned U.S./China, the trade dispute having an impact. I think in the past, you've said that U.S./China trade is about 12% of global trade. Just wondering, one, if you can maybe -- I don't know if you can, quantify maybe what the decline has been in the U.S./China trade and maybe demand for containers? And two, obviously, reports of supply chain shifts and movement around Vietnam and in these other countries picking up. Just wondering if you're seeing any supply -- any shifts in consumer -- customer demand for containers within Inter-Asia? Is that growth in Inter-Asia able to offset some of the decline in U.S./China?

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Brian M. Sondey, Triton International Limited - Chairman & CEO [3]

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Yes. So in the past, our comment about the share of trade made up by U.S. and China really was driven by statistics that are published around the deployment of vessel capacity. And where we don't really see the movements of containers on a daily basis. We see where they are picked up and dropped off. And so we don't have great real-time visibility into how trade patterns are changing. We just see really how the overall demand for containers and supply -- container supply and demand is changing. We hear from our customers. In fact, I think the Maersk CEO was quoted a few weeks ago, as saying that they have seen production shift or at least export shift from China to Southeast Asia, and that is making up some of the difference of -- in the shortfall of China/U. S. trade. But we don't really have that great visibility for that.

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Scott Jean Valentin, Compass Point Research & Trading, LLC, Research Division - MD & Research Analyst [4]

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Okay. Fair enough. And then just a question regarding the manufacturer inventory. Obviously, it's grown quite a bit. I think you mentioned it's $1.1 million TEU, about 3% back to where it was back in '15, which was a tough period. Just wondering, $1,700 seems like a low price for a new container to really -- given seasonality. I know, seasonality is weaker than usual, but I would have thought that you'd be maybe $1,850, $1,900 level for containers. Just wondering, one, if you can comment, I guess, manufacturer profitability has got to be close to 0, given steel prices have been, I think, relatively flat. And two, expectations, if they do close factories in August, do you think that can boost container prices?

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Brian M. Sondey, Triton International Limited - Chairman & CEO [5]

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Yes. So certainly, container prices are very low, both on an absolute sense, and also, in particular, they're very low relative to steel prices. And we always track the margin between the price for the container and the cost of the steel in the container and that margin is very close to historical lows. And in fact, probably only a few quarters in the last 12 or 15 years have been in the range where it is now. And so I think, while we don't have perfect visibility into the manufacturing profitability, our guess is, they're certainly not doing very well right now at these margins. And I think as John O'Callaghan mentioned, we have heard from several manufacturers that they are considering closing their factories or at least some of their factories for portions of the third quarter, which would certainly be helpful, both from a tightening of supply, and then ultimately helpful for the manufacturers, I think, and allowing them to sort of bunch orders after they reopen and get more normal margins. And so our expectations would be that all else equal, we should see container prices push up from here.

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Operator [6]

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The next question is from Michael Brown with KBW.

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Michael C. Brown, Keefe, Bruyette, & Woods, Inc., Research Division - Associate [7]

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So I mean, the new purchase of containers year-to-date, it's been light, and appreciate the color there. But how should we kind of think about your CapEx trajectory from here I guess, kind of relative to last year's levels? I mean clearly, it seems like it's going to be trending lower, but kind of some guidance there would be helpful.

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Brian M. Sondey, Triton International Limited - Chairman & CEO [8]

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Sure. So we have the ability to turn on and to ramp down CapEx very quickly. And so I think our CapEx trajectory will mainly just reflect the trajectory in trade growth and the market. Our CapEx has been light for 2 reasons, mainly just the overall volume of lease transaction activity has been light, and that reflects the fact that, as we've said, container supply and demand are well balanced overall. But there's been very little interest in customers in expanding the size of their container fleets, both due to, say, cautious outlooks on what growth might be this year as well as just a very tight focus on cost control. And so we have a reasonably good shop of equipment ready to supply customers as we always do, and as soon as we see customers coming for containers and us winning deals because we like the returns, I think then we'll start buying again. And really, the timing of that again just depends on the market. We still think we're very well positioned to win the deals we want to win. I think we're the supplier of choice still to most of the major shipping lines, and the deals that have been out there this year that we haven't participated in, again, very much driven just by our preference to use capital for what we consider to be higher-value uses rather than, say, a loss of competitive positioning or anything like that. We still think we're -- we can go out there and win the deals we want.

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Michael C. Brown, Keefe, Bruyette, & Woods, Inc., Research Division - Associate [9]

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Great. And then, I mean, just kind of given this weaker start to the peak season. Are you kind of seeing -- in the competitive environment are you seeing some of your peers kind of giving concessions, whether they're capitulating on rate or terms on deals?

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Brian M. Sondey, Triton International Limited - Chairman & CEO [10]

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Yes, certainly, pricing is down from where it was in 2017 and 2018 in those years was -- we took a lot of leasing share and customers very much valued our capacity to supply large numbers of containers on short notice, and that's a good pricing environment from a leasing company standpoint. This year, I think just due to the lack of deals we have seen certain companies compete aggressively to win the deals that are out there, and they're always are a few leasing companies that seem to prioritize investment volume or achieving investment budgets above investment returns. At Triton, our priority always is on returns and also with servicing our customers. But I wouldn't say, like, deal terms aren't crazy. But there -- some are above our threshold and we're participating in them, some are below, and we're not. We do typically think we get a 3% to 5% ROE margin over most of our competitors. And so the deals that are marginal for us, we do question what they must look like over time to some of our peers. But that said, we don't know exactly what their thresholds are compared to ours.

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Michael C. Brown, Keefe, Bruyette, & Woods, Inc., Research Division - Associate [11]

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Okay. And just one more for me. What's kind of your views on the outlook for the shipping industry? I mean you've seen a pickup in the amount of blank sailings recently. So are you kind of seeing any cracks in the outlook for the profitability of the shipping sector, anything that we should be kind of concerned about?

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Brian M. Sondey, Triton International Limited - Chairman & CEO [12]

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Yes. I think in general, it's another year where it's a tough environment for the shipping companies. They're still -- where container supply and demand are relatively well balanced, there still is excess vessel capacity for a variety of reasons. And that's been keeping freight rates now for many years at levels that don't provide a lot of profitability for most of the shipping lines. In particular, the smaller ones and medium-sized ones can struggle. But I think so far, at least this year, it looks like a lot of the last 3 or 4 years. And so we don't see anything sort of uniquely challenging about it. The one thing that has been talked about from a credit standpoint is the IMO 2020 regulations that come on at January of next year, around the sulphur emissions. And that's requiring some of our customers -- requiring customers to either invest into scrubbers or LNG vessels or to -- will require them to purchase low sulphur fuel. And most of the customers feel that they'll be able to pass those costs on effectively to the shippers. But -- and it doesn't seem like they or others in the industry are terribly concerned about it. But that is something that's been talked about.

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Operator [13]

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The next question is from Ari Rosa with Bank of America Merrill Lynch.

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Ariel Luis Rosa, BofA Merrill Lynch, Research Division - Associate [14]

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So I just wanted to get a little bit of additional color. You said your outlook for the second half was a little bit more optimistic. Maybe you could just give a little bit more color around what you're seeing specifically that leads you to that conclusion.

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Brian M. Sondey, Triton International Limited - Chairman & CEO [15]

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Sure. So it comes from a few different things. I mean first is, I think we've mentioned a few times, we are hearing from customers that, despite the uncertainty created by the trade dispute that they still expect trade growth to be in the 3% range. And based on that and just the way that containers will age out of service on a regular basis, we expect them to have to come to market and supplement their container fleets, which will drive leasing demand. We've also been seeing over the last month or 2, customers regularly coming to market for spot requirements. And so we know that their fleets are fairly tight and driving demand at a particular port at a particular time. And those requests and spot requirements have increased over the last month or 2, and we think will remain at a higher pace than they were earlier in the year. And so it's really those things.

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Ariel Luis Rosa, BofA Merrill Lynch, Research Division - Associate [16]

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Got it, but it's not like it's contingent on a resolution to the U.S./China trade dispute or something of that sort?

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Brian M. Sondey, Triton International Limited - Chairman & CEO [17]

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No, I don't think so. I think if you ask the -- most people in the industry the last time we did our call at the end of April, would we see a resolution, I think everyone was quite confident we would. I think the base case expectations now have shifted to who knows, and no one counting on it in the near term.

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Operator [18]

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The next question is from Helane Becker with Cowen.

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Tyler Oliver Seidman, Cowen and Company, LLC, Research Division - Research Associate [19]

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This is Tyler on for Helane. I'm just curious, the deals that you walked away from in the quarter, and I know that you walk away from deals all the time, but I'm wondering, what were the primary factors of you deciding to walk away from a few of the deals in the quarter?

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Brian M. Sondey, Triton International Limited - Chairman & CEO [20]

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Yes. So generally, we look at expected returns which includes not just the most likely return, but a balance of upside opportunity relative to risk. And most of the deals we walked away from had some combination of just expected returns and most likely return to below our thresholds, which typically, for us, our thresholds are somewhere in the low teens equity IRRs. We typically like to do much better than that on average. And so some combination of expected returns below that level, and coupled with -- or leasing structures like large possibilities for returns of containers outside of demand areas or giving away repair conditions and things like that or credit situations that we just didn't feel comfortable with. But it was a variety of those factors that just led us to conclude that those deals didn't provide the kind of returns we like to get on our capital. And I think just also driven by the fact that we have very good deployment opportunities in the other things we've been doing.

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Tyler Oliver Seidman, Cowen and Company, LLC, Research Division - Research Associate [21]

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Got it and then, this might be more for John. Just out of curiosity, LIBOR is going away in a few years. And I'm wondering, you guys have a low exposure to the benchmark. And I'm wondering if you have thought at all about a new benchmark and how you plan to roll over that debt when LIBOR goes away, I think, in 2021 or 2022.

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John C. Burns, Triton International Limited - Senior VP & CFO [22]

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Yes, that's correct, Tyler. And the industry is responding. All the refinancings of LIBOR-based debt that we have over the last 1.5 years have included language that the -- that we would work with the lenders to make the adjustment to whatever the index is at that time. People seem to be very much focused on SOFR, which is the secured overnight lending rate and exactly how that rolls out remains to be seen. But all of our facilities are incorporating that type of language as we've refinanced them.

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Operator [23]

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(Operator Instructions) This concludes our question-and-answer session. I would like to turn the conference back over to Mr. Burns for any closing remarks.

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John C. Burns, Triton International Limited - Senior VP & CFO [24]

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Yes, we'd just like to thank everyone for your continuing interest in Triton International, and we look forward to speaking with you soon. Thank you.

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Operator [25]

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The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.