Understanding the Sand Hopper Railcar Lease/Finance Marketplace

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1 Understanding the Sand Hopper Railcar Lease/Finance Marketplace Frac Sands Conference Minneapolis, MN Will Geiger Vice President September 23, 2014

2 Topics to be covered 1. Brief overview on Railroad Financial Corporation 2. Why all this fracking? 3. Fracking s Impact On Railcar Demand 4. The Sand Hopper Railcar Lease Marketplace 5. Railcar Lease Marketplace 6. What is Driving the Lease Market Today? 7. Who is Benefiting from this Market Today? 8. Financial Market Overview 9. Review

3 RFC Background RFC is a financial advisory firm founded in 1989 (Twenty-Five Years!): The only firm focused solely on the global rail industry. Arranged over $20 billion in financing related to rolling stock. The principals in RFC have extensive rail equipment financing experience. Recognized industry leader in advisory work for rail equipment.

4 What does RFC do for its clients? Financial Analysis (before, during and after transactions are completed) Transaction Structuring Currently restructuring fleet of 3,000 railcars for shipper Lease of 1200 tank railcars for crude service Lease of 1300 plastic pellet hoppers Arranging various other lease financing Lease Documentation Fleet Planning and Analysis Market Survey, Input and Study New Railcar Acquisitions Lease End Negotiations

$Why all the fracking?$

5 Why all the fracking? Feedstock cost advantage Energy and feedstocks make up for 60-70% of the costs of chemical production Chemical industry expansions: proof of long-term viability NGL s expanding at rapid pace driven by shale plays Ethane significant and sustainable Ethylene is the largest of the basic chemical building blocks Methane Propane Butane and others!!!"#$%& #'()*& +,-.*'/0&!! 1*)-02& 3,/4-02& 56*-02&!-4)*)-& +227%*/.8&,296',27& :;<=& >?@&?A@&?B@& C?@& 1*)D;202&:D'2;7&E=& F@& A?& CF& C>&

$Why all the fracking?$ Moore, Sr. Dir.

6 Why all the fracking? Feedstock cost advantage (Re)investing at home due to longterm viability of low cost feedstocks In the past four years, chemical companies announced nearly 200 projects worth $124B in the US Martha Moore, Sr. Dir. of Economics and Policy at the ACC They re not coming here just because we ve got great music and beer and BBQ, they re coming here because they know that they can keep more of what they work for and they can in turn pour that back into this company. TX Gov. Rick Perry US ethylene expansions Company Location Capacity (in millions/lbs) Start-up Dow Chemical US Gulf Coast 4, Cedar Bayou, CPChem TX 3, Sasol Lake Charles, LA 3, ExxonMobil Chemical Bayport, TX 3, Braskem/Idesa Coatzacoalcos, Mexico 2, Shell Chemical Monaca, PA 2, LyondellBasell Texas, US Midwest 1, Point Comfort, Formosa TX 1, OxyChem Ingleside, TX 1, Westlake Chemical Williams Partners Louisiana and Kentucky Lake Charles, LA Nova Chemical Corunna, ON Ineos Chocolate Bayou, TX Total 25,480 Source: IHS Chemical Week

$Why all the fracking?$

7 Why all the fracking? Fracking Gives US Energy Boom Plenty of Room to Run WSJ: Sept 14, 2014 Current Top Gas Wells Produce Five Times as Much as Record Setter a Decade Ago While the number of gas and oil rigs has plateaued, production continues to increase The focus has shifted to maximizing a rig s output

$Why all the fracking?$ $legs and fracking repeatedly 3$

8 Why all the fracking? Technological advances Drilling longer horizontal legs and fracking repeatedly 3 railcars 65 railcars

9 Fracking s Impact On Railcar Demand The CBR phenomena is impacting both sand hoppers and tank railcars 12,000 small cube covered hoppers ordered in both q1 and q equals an increase of 28% of the total small cube covered hopper fleet! Orders continue to be placed at a pace that outstrips retirements Today, the threat of overbuilding limited to tank railcar and covered hoppers for sand The narrow scope of the potential for overbuilding is beginning to worry certain investors Lessors/investors are concerned about their residual investments in equipment and the potential for off lease risk once the market has satiated its demand for these car types Build is fueled by low cost of capital, infrastructure build out, increased demand and decreased railroad velocity The cascade effect plastic hopper demand and grain car shifts Rail industry is used to equipment bubbles is this another one?

10 Sand Hopper Railcar Lease Marketplace Lease Rates: High(ish) As backlogs continue to creep towards, and in some cases beyond, 24 months, production capacity and availability is king. Some manufacturers are only building for their own lease fleets. Rates will remain high until the backlog recedes or until the bubble bursts creating excess capacity At high lease rates, lessors are able to write down assets more rapidly and mitigate residual risk when the oversupply bubble finally arrives Lease Terms: Long(er) As renewals approach on existing railcars, and new cars are built, terms are going longer to preserve pricing Commitment to a core fleet that for optimally sized railcars Pay higher rates for more flexibility Lease Terms and Conditions: Lessor Favorable While excess capacity is hard to come by, T s & C s remain lessor favorable Return Condition

11 Railcar Lease Marketplace DOT regulatory modifications is complicating railcar production Likely result is continued long term backlog for tank railcar Higher margin railcars for manufacturers The need for retrofits will increase pressure on new manufacturing marketplace Where will the work be completed Number of cars to be modified (pegged between 45,000 90,000) Fitting in with HM-216 Scope of tank railcar modification work Key issues remain unsettled keep marketplace guessing Timing for implementation Potential for grandfathering of existing cars Where does the regulatory line get drawn on flammable commodities currently hauled in the non coiled and non insulated 111A car Canadian and US modification gap remains large Order book for tank railcars has slowed over the first two quarters

12 What is driving the market today? Demand: The ongoing need for sand hopper railcars continues to drive demand in the market. As shippers jockey for production slots and capacity, demand is somewhat tempered by fear of overbuilding. OT-5 approval remains a concern for manufacturers. Low Cost of Capital: A long period of low interest rates enables investment from many types of institutional investors, allowing for alternative more creative lease structures Buzz: CBR (crude and frac sand) continues to be the talk of the market, with ethanol running a close second (cost in modifying the ethanol tank fleet) Pipelines: How much of the long term capacity for Crude by Rail (CBR) is going to be lost when (and if) pipelines are built. What s the timeframe for pipline construction (such as XL) if and when approvals are given? How much power do the greens have in Canada to hold up the pipeline approval process

13 Treasury Rates 1 Year Treasuries - Weekly Over Past 10 Years 6.00% 5.00% 4.00% 3.00% 2.00% 1.00% 0.00% 7/16/04 7/16/05 7/16/06 7/16/07 7/16/08 7/16/09 7/16/10 7/16/11 7/16/12 7/16/13 7/16/14 10 Year Treasuries - Weekly Over Past 10 Years 6.0% 5.0% 4.0% 3.0% 2.0% 1.0% 0.0% 7/9/04 7/9/05 7/9/06 7/9/07 7/9/08 7/9/09 7/9/10 7/9/11 7/9/12 7/9/13 7/9/14

14 Who is Benefiting from Today s Market? Lessors: Which lessor doesn t love high lease rates? But they re not being egregious. Component Suppliers: After years of purging and consolidation in the supply industry in the early 2000s, the survivors are well capitalized, strong multi platform companies that are earning reasonable returns from the longest bull market in railcars that many of us will ever see. Historic. But concerns remain by the component suppliers themselves about the ability to meet the demands for 2015 and Manufacturers: Heading out of the economic downturn from the recession, the railcar manufacturing group was on the upswing before the rest of the economy while their stock prices languished. With backlogs high and predicted demand strong, building railcars is finally a sexy business. Lessees: Low capital costs continue to fuel a competitive market many lessees are accessing to their benefit. For those lessees that have accessed the competitive furor of the market, they are attracting lease rates that rival the rates of a decade ago for cars that cost 30-40% more in cost. Ask me how!

15 Financial Market Overview The demand for investment opportunities continues at a strong clip. In what has been a recurring theme for the last five years, banks and leasing companies are flush with more investment capital than investment opportunities. While banks remain focused on credit quality and assets. The desire to lend has widened the breadth of companies able to access well priced capital on good terms. Credit spreads (the premium paid to an investor as an incentive to extend credit) remain thin. While for non-investment grade credits, conditions for investment may be more rigid. The demand to deploy capital is allowing for better terms for these lessees. The sweet spot for bank leases remains seven twelve years. Demand for capital deployment has banks acting like operating lessors and bidding deals of five years in length. Steeper yield curve is an incentive to shorter term borrowing maturities.

16 Review The chemical industry will continue to demand NGL s long term How many hopper and tank railcars can the industry absorb? Its all about the regulatory environment for tanks the industry waits, watches, comments and waits. What is the duration of the velocity impacted car supply shortage? For how many years can the CBR boom carry the industry? When will interest rates begin to rise: Is the Fed s latest prediction (sometime in 2015) correct?

17 THANK YOU

U.S. Rail Crude Oil Traffic

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