An Underappreciated Industrial

Trinity (TRN) is a diversified industrial with 5 segments: rail group (manufactures rail cars, 38% of revenue), rail car leasing (18%), construction products (19%), energy equipment (12%), and inland barges (13%). It sounds like a pretty straight forward, well-diversified industrial. However, what the market is failing to accurately price in is the shift in weight of TRN’s segments.

The rail car leasing business is growing rapidly as TRN recently entered this segment. The leasing business brings the highest margins of any of Trinity’s businesses, allowing this growth to translate more directly into bottom line results.

The major area of growth, however, is in wind power. Trinity’s segment that manufactures wind towers has grown very well, from $11M in revenue in 2004 to an expected $400M in 2008. From Dec. '07 to March '08, backlog in the wind business grew from roughly $750M to $1.6BN. Operating margins to date on the wind business have been about 20%, and if these margins are maintained, $400M in wind revenue would translate to a 15.6% in operating income all else held constant. However, the company has been making their towers domestically, in places like Illinois. With their new wind tower facility in Mexico, where they manufacture rail cars and have 25+ years of experience, almost complete, it seems inevitable that margins will improve as that facility ramps. I think a realistic, but bullish expectation is that the wind business adds just under $1 to EPS in 2009 (2007 EPS was $3.65). Just to add one other plus to the wind business, Trinity’s transportation business hauls the towers and their concrete segment of their construction group pours many of the foundations; it’s a pretty synergistic operation.

I recognize that the rail, barge, and construction have some significant cyclicality to them. However, the growth TRN is experiencing in higher margin businesses is more than sufficient to offset the cyclical effects. If you have doubts about the demand for rail cars, read any railroad’s conference call to see that the demand is strong, and factor in 41% of rail cars in the US are over 25 years old.

The construction business is really more of a highway business. They make concrete and asphalt highway guard rails and beams and girders used for building highway and railway bridges. Given the state of transportation infrastructure in the US, this business is well positioned.

Trinity currently trades at 8.3 times trailing twelve months (TTM) earnings. Consensus estimates on the street have 2008 EPS declining by 10% and 2009 EPS growing by only 2.1%. If these estimates prove to be accurate, the management of this company will have been a true disaster. There is no reason why this company cannot earn at least $4.25 a share in 2009. If it were to trade at 12 times those '09 earnings, it’s a $50 stock. Trinity broke some resistance today and is up over 3% to about $35.50 - you can calculate that return.

Full disclosure: I am long TRN