Financial edge anthony KRuglinsKi
Issues and opportunities in subleasing cars
T
his month, Railroad Financial Corporation’s David Nahass discusses a phenomena taking place in the sometimes superheated railcar leasing marketplace in which he works: Today, discussions with operating lessors and lessees of tank cars often produce the same complaint: The market for tank cars is tight and rents are high. Tank cars, especially those hauling crude in Texas and North Dakota, are in short supply and high demand. Prices have been rising since 2011 on tank cars and the backlog for new builds is out until the second half of 2014 with the exit ramp for 2015 coming up fast. One consequence of the dramatic increase in demand for tank cars is that many lessees have opportunities to sublease cars at a profit! These can be cars leased as far back as 2008 when a car leasing today for more than $2000 per month was leasing for $200 per month. This market imbalance creates a subleasing opportunity for the lessees and a problem for the lessors that own the cars. Lessees, seeing the marketability of their leased assets, may look to take advantage of the current price run-up and sublease those cars for a tidy profit. Lessors, on the other hand, likely are not keen on a customer competing with them in the marketplace or, worse, changing commodities, lessee credit, and annual mileage on cars leased for a specific purpose. Same issue, two different points of view. From the Lessor’s point of view: • The lessor is the owner of the assets and is focused on their residual value. No matter what the commodity or the rental rate, a lessor views its asset as a long lived asset that it hopes to use for its entire useful life. As anyone that has ever been a lessee would tell you,
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Railway age
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lessors are protective of their assets. • The lessor has assumed certain facts about its lease for the equipment that are not likely to be factored into the sublease. These include possible additional insurance, the commodity being loaded into the cars, and the annual mileage that cars may travel. A change in the commodity may cause corrosion; a certain commodity may not work well with a valve or a specific unloading package. The damage to a car’s interior may be severe.
Some guidelines exist to reach resolutions that are effective and productive. • The lessor assumes a liability profile for its lessee. A change in those terms may require added documentation, a revision to the underwriting of the credit, and a different maintenance reserve. • Many lessors are concerned that a breach under a sublease will become their problem and not be solved before the lease with its lessee ends. From the Lessee’s point of view: • The lessee took the risk in leasing the railcars in the first place. If the market for the cars is overheated, why shouldn’t the lessee take advantage of its business savvy and sublease the gear? • Storage and rent are expensive. If a Lessee can find ways to offset those expenses and make some profit, then who is a lessor to stop them? • The concerns of a lessor are
overblown. The commodities most in demand right now are not corrosive. Excess mileage, if any, is covered in the lease agreement. • The lessee is getting insurance from its sublessee. All parties view these issues differently. Some guidelines exist to reach resolutions that are effective and productive, not controversial and divisive. If you are the Lessee, try these options before you take matters into your own hands and potentially cause a default under your lease. 1. Communicate: Reach out to your lessor and find out what is necessary to make a switch for the service of your cars. 2. Honor your commitments:Your lessor is standing behind their commitment to you, so stand behind the commitments you made when you signed the lease. 3. Be prepared to share the upside: Any counterparty may be more willing to grant a sublease right if they are being paid to do so. 4. Don’t blindside your lessor: Call before you have made a commitment to sublease rather than after you have already done so. If you are the Lessor, give your lessee clear guidelines on your expectations. Even in a tight market, a standalone “no” is not good customer service. 1. Remember the long game: The fact is that at some point this market will turn. As the inventory of off-lease cars grows, lessees will remember who worked with them and who didn’t. 2. Offer advice and assistance: Lessors have seasoned professionals handling their contract negotiations. Share those resources to benefit your customers and protect yourself. 3. Honor your commitments: Every proposal letter says something akin to “we are happy to be working with you.” Stand behind your commitment to customer service.