Earnings Call Transcript - TRN Q2 2020

Operator, Operator

Welcome to the Second Quarter Results Conference Call. All participants are currently in listen only mode. Before we get started, let me remind you that today's conference call contains forward-looking statements as defined by the Private Securities Litigation Reform Act of 1995 and includes statements as to estimates, expectations, intentions, and predictions of future financial performance. Statements that are not historical facts are forward-looking. Participants are directed to Trinity's Form 10-K and other SEC filings for a description of certain business issues and risks, a change in which could cause actual results or outcomes to differ materially from those expressed in the forward-looking statements. I would now like to turn it over to Jessica Greiner, Vice President of Investor Relations. Please go ahead.

Jessica Greiner, Vice President of Investor Relations

Thank you, Bree, and good morning, everyone. I'm Jessica Greiner, Vice President of Investor Relations and Communications for Trinity. We appreciate you joining us for the Company's second quarter 2020 financial results conference call. Our prepared remarks will include comments from both, Trinity's Chief Executive Officer and President, Jean Savage; and Eric Marchetto, the Company's new Chief Financial Officer. We will hold a Q&A session following the prepared remarks from our leaders. Joining the call today, we will refer to a few slides highlighting key points of discussion. These supplemental materials are accessible on our IR website at www.trin.net. These slides can be found under the Events & Presentations portion of the site along with the second quarter earnings call event link. It's now my pleasure to turn the call over to Jean.

Jean Savage, Chief Executive Officer and President

Thank you, Jessica, and good morning everyone. The pandemic and economic events of the second quarter created a very challenging operating environment for Trinity. Today, I'd like to share with you Trinity's responses to these challenges and our longer-term plans to become a return-focused company. During these challenging times, Trinity's leadership and employees remain focused on taking the right actions now to best position the Company for future success. Our first priority remains the health and safety of our people, including the protocols we implemented to help prevent the spread of COVID-19 in our production facilities and offices, in alignment with CDC and WHO guidance. I want to thank the people of Trinity for their hard work and continued focus on safety. Together, we are ensuring Trinity's high-quality railcars continue to deliver essential goods across North America and the world. We experienced weak railcar demand in the second quarter due to the economic ramifications of the pandemic and the major energy price and demand declines earlier in the year. The major decline in crude oil prices led to a number of bankruptcies for frac sand providers in the second quarter. As a result, Trinity reduced the carrying value of our small cube covered hopper fleet in our lease portfolio. Derek will discuss more details about the resulting actions we've taken in his prepared remarks. While railcar loading has improved somewhat recently, increasing COVID-19 cases in the U.S. potentially threaten the resurgent economic and rail market activity. We are closely monitoring our supply chain and engaging with our customers to keep our production plan and lease fleet operations aligned with demand for railcars and related services. Industry metrics report that approximately 32% of the North American railcar fleet is underutilized. We expect the pricing environment for rail equipment, both new and existing, to remain pressured as long as this number is elevated. In this type of environment, our commercial focus is to maintain the utilization of our lease fleet and meet demand for newly manufactured railcars as appropriate for our customers. Recently, railcar inquiries from strategic buyers have increased relative to last quarter, and I expect a number of these opportunities will convert to orders or lease contracts soon. I am proud of recent transactions in which we leveraged the full breadth of our platform. In one case, we provided a strategic customer existing railcars within our lease portfolio, modification services, and new rail equipment in one transaction. This carefully crafted solution created a differentiated experience that met the customer's business needs and will create long-term value for shareholders. The best near-term opportunity for demand improvements for new and existing equipment, in our belief, will be in the agricultural markets. Not only has agricultural traffic experienced relatively fewer headwinds during the pandemic, but a significant portion of the existing covered hopper fleet for grain is reaching the end of its useful life. We also see potentially large replacement needs in the boxcar and aggregate open hopper and gondola fleet in the coming years. Managing through a cyclical downturn is very challenging. Our leasing operations delivered a solid second quarter given the environment. Declines in revenue from lease rates and utilization pressure were offset by effective cost management, among other items. Our lease operations team has continued to experience high levels of customer satisfaction as we've invested in state-of-the-art tools and technology. These tools are an important element of our focus on customer experience, as well as driving operating efficiencies while maintaining a safe railcar fleet. In our product group, I also commend our plant leadership and employees for their continued focus on safely meeting production requirements. During the second quarter, Trinity delivered just under 3,000 railcars and reported a 2% margin in the rail product segment. Volume fell quicker than our ability to reduce costs as we manage the impacts of the coronavirus. The impact of having higher-risk and potentially exposed employees shelter-in-place did have an impact on our ability to align some of the costs to the volume. Pricing was more aggressive also. Since the beginning of the year, we reduced our manufacturing workforce by 35%, which has resulted in almost $40 million in overhead cost savings. Additional efforts are underway to align our cost structure with production levels for the rest of 2020, while we simultaneously work to move lower value-added applications to the supply base. This will allow us to reduce our cyclical risk by reducing the internal labor required through a cycle. For the remainder of my remarks, I want to focus on some additional actions Trinity is taking to improve the performance of our platform going forward, our focus on cash flow in the current environment, our optimization progress to accelerate the Company's financial performance, and our longer-term strategic planning to continue creating shareholder value. Trinity's unique rail platform, strong balance sheet, and cash flow generation enable us to manage through the COVID-19 pandemic from a position of strength. The scale of our leasing business and the long-term nature of the lease contracts protect the Company from short-term market disruptions and are critical to our relative stability. Right now, we are highly focused on managing the effects of the coronavirus to minimize the disruption of our business and maximize our cash flow. Our financial position is sustained by committed future lease payments of $2 billion, our product backlog of $1.3 billion, our solid liquidity, and approximately $1.6 billion of unencumbered rail assets. I'd also like to highlight our efforts to accelerate the Company's longer-term financial performance through platform optimization, which has been a key focus for management and the board in the last year. We are addressing optimization in all areas of our organization, including our operations and our balance sheet. Trinity's business leaders have made difficult people-related decisions in recent months. Organizationally, we have restructured the Company from Trinity's former holding company model to a more effective and efficient operating model aligned around our customers and markets. When combined with our actions from the first quarter, the results of these efforts will yield a total annualized cost savings of $30 million in SG&A and cost of sales, achieving a $25 million to $30 million target we set at the beginning of 2020. Slide 4 of the supplemental materials provides a few details of our cost activities. As we work through the process flows for various production and service functions, with the implementation of our new organizational model, we are establishing additional structural savings goals that will be part of our near-term focus. The management teams are reviewing aspects of our business operations, including our supply chain costs, idle facility carrying costs, and various service fees. Looking specifically at our balance sheet optimization efforts, we delayed our plans to access the capital markets in the second quarter to allow the pandemic-related volatility around interest rates spread to slow. Subsequent to quarter end, we are pleased to complete the upsizing of TRL 2017 with an additional $225 million of promissory notes, which bear interest at LIBOR plus 1.5%. We also maintained our dividend during the second quarter, highlighting our commitment to shareholder returns as part of our capital allocation strategy and our confidence in the strong cash flow generation capability of our platform. In addition to the shorter-term initiatives to accelerate our financial performance, we are actively engaged in our longer-term strategic planning process. We are evaluating both further platform optimization initiatives as well as growth opportunities. These efforts aim to improve the performance of our lease fleet, reduce the cyclicality of our platform of businesses, continue our operational improvements, and evaluate growth into the rail transportation services space. We believe Trinity is positioned as a provider, servicer, and the owner of railcar assets, ideally positioning us to engage with our customers on innovative products, services, and solutions that increase the attractiveness of moving freight by rail. Our analysis is ongoing, and we look forward to sharing the results and decisions from this work at Trinity's Investor Day in the near future. We aim to be the premier provider of rail products and services and are motivated to drive freight onto the North American rail network. We see Trinity's purpose as moving goods and commodities by rail for the good of all, an integral part of our commitment to sustainability. We have a strong financial position to weather the current economic storm and be opportunistic when attractive value propositions arise. Trinity's rail platform is built to deliver essential goods to society, deliver innovative solutions and high-quality products to our customers, and deliver high-quality earnings and returns to shareholders through the railcar cycle. I'll now turn the call over to Eric to discuss specific financial details for the quarter.

Eric Marchetto, Chief Financial Officer

Thank you, Jean, and good morning everyone. Trinity's performance in the second quarter reflects the steps we're taking to create liquidity in the near term while improving our returns for disciplined capital allocation. We're not providing specific financial guidance given current uncertainty, but we believe the Company will continue to generate significant cash flow due to the resiliency of our platform of businesses and our inherent financial synergies. Referring to Page 5 of the supplemental material, we're focused on maximizing the cash flow of the businesses and maintaining a strong level of liquidity. As of the end of the second quarter, the Company had liquidity of nearly $710 million. Our liquidity position is further enhanced by the recent $225 million financing noted in our press release. We continue to expect over $300 million of cash refunds from prior year tax losses by year-end resulting from tax provisions in the CARES Act. Our June 30th balance sheet also reflects our expectation for an additional $150 million of cash tax refunds to be received in 2021 associated with our 2020 tax year, demonstrating the value-enhancing tax attributes of our platform. Furthermore, Trinity has encumbered assets of approximately $1.6 billion as dry powder, which could be available for monetization through additional leverage for secondary market transactions. We believe our balance sheet and financial strength enable Trinity to navigate the COVID-19 pandemic and capitalize on opportunities that may emerge for value creation. We work diligently to maintain a diversified portfolio of railcars, manage the credit profile of our customers, and stagger our portfolio expirations to maximize risk-adjusted returns. On our last call, we've referenced challenges faced by many of our frac sand customers as a result of the one-two punch from the structural changes within the frac sand supply chain and the drastic fall of energy prices, including increased pressure related to the COVID-19 pandemic. We have been closely monitoring the structural changes in the frac sand market and working aggressively with our customers as appropriate to restructure lease arrangements and maintain the cash flows associated with these assets. Ultimately in the second quarter, four of these frac sand customers filed for bankruptcy while others remain financially vulnerable, changing the expected recoverability of cash flows from the lease contracts for this railcar type. As a result, these filings necessitated the Company to estimate the fair value of these railcars. Our analysis concluded with a $369 million pre-tax noncash charge against the small cube covered hopper fleet within Trinity's railcar portfolio, which reflects our estimates of the fair value of the assets based on the cash flows that have been stressed by continued pressure on the lease contracts and the future salvage value of the assets. This impairment charge does not impact our liquidity position, nor does it affect our compliance with a debt covenant within our rail securitizations. A portion of the impairments are for railcars in our personally owned portfolios and therefore has been a portion to the non-controlling interest on our balance sheet. Following the impairment charge, our small cube covered hopper fleet represents 3% of the net book value of our owned and partially owned portfolio. During the second quarter, we sold a portfolio of railcars to one of our RIV partners. The total proceeds of the portfolio were $74 million with a gain of 6%. These high-quality lower yielding assets were a good risk-adjusted fit for our partner's portfolio. This allows Trinity to deploy capital to higher yielding investments while we continue to earn fee income by managing the assets. This sale highlights our ability to leverage our platform to create mutually beneficial transactions for ourselves and our partners as well as our renewed focus on a disciplined capital allocation framework to drive long-term value creation. As we evaluate the future growth for our lease fleet, we're highly focused on the returns of the portfolio as part of our plan to drive the performance of the Company to the mid-teens pre-tax return on equity. We believe we're taking the necessary actions to position the Company for accelerated performance as the market recovers, with heightened focus on the levers within our control. Turning to Page 6 of the supplemental materials, in lieu of guidance last quarter, we presented base and stressed case scenarios as guideposts that management would use to determine our actions and capital allocation considerations. Following market uncertainty continues to cloud our ability to predict the timing of a rail recovery. Our actions and our performance from the second quarter have improved upon some of the assumptions in the scenarios we provided. The 2020 production plan is essentially sold, and we expect approximately 41% of our backlog value to be delivered by year-end. Given the North American railcar loading trends and our success in renewing railcars in the quarter, we expect our lease fleet utilization will remain above 90% in a downside case. Our prior stress assumptions for limited railcar sales would also improve following the small portfolio sale in the second quarter. Furthermore, we have additional visibility on potential smaller railcar portfolio sales in the balance of the year. Our cost initiatives will also yield savings, achieving our targets set for the year, with more actions to come. Of the $70 million in annual savings actions year-to-date, as Jean mentioned, approximately $30 million is structural and will result in decreases in SG&A and other overhead related items in the future. Regarding capital allocation, our net investment in the lease fleet will now likely fall between $350 million and $450 million, as a result of RIV and secondary market activity. We've also deferred some manufacturing CapEx projects; however, we still plan to complete the expansion project for our new maintenance facility in Iowa. Our expectations for the year now include approximately $90 million to $100 million of manufacturing CapEx for the year. We did not repurchase any shares during the quarter in order to preserve our liquidity and bolster our cash position, but this tool is available as we continue to optimize our balance sheet. In May, the Company announced our 225th consecutive dividend, maintaining the dividend at $0.19 per share for an annualized yield of approximately 3.5% as opposed to market yesterday. Trinity is in the middle of a very exciting transformation, while combating the economic ramifications of the pandemic; we're putting the building blocks in place for the Trinity of tomorrow. We expect to share specific insights into our operational strategy and long-term performance expectations at an Investor Day in the week following our third quarter conference call. We will ask that you stay tuned for further details as we look forward to sharing these plans with you very soon. In closing, management is aligned in our expectations with the financial and commercial synergies of the rail platform enabling both meaningful investments in the business and substantial return of capital to shareholders. We are demonstrating these results even in a sharp economic downturn. We believe our platform has the ability to generate positive cash flow, even in down cycles, and we remain committed to investing in our railcar lease fleet through the cycle with a focus on returns to the portfolio. As we navigate the COVID-19 environment, we're committed to a prudent capital allocation strategy and strong liquidity to maintain our position of strength. Through it all, we believe Trinity's rail platform is built to deliver.

Operator, Operator

And we'll go first to Steve Barger with KeyBanc Capital.

Steve Barger, Analyst

So, first I just want to ask a big picture question. One of your leasing competitors talked about how years of strong deliveries have resulted in an overbuild. That's going to take a while to unwind by building below replacement. So first, can you tell us how you think about that, both in the context of your position as a leading OEM and then from your perspective as a lessor?

Jean Savage, Chief Executive Officer and President

This is Jean. I'll go ahead and start, Steve. Thanks for the questions. When you look at it, it's really going to vary by the different markets that you're looking at and different prototypes that go into those. So some of our top car types are already seeing a pickup in momentum there, agriculture is one of those. Flat cars and also vehicular flats and boxcars are already seeing the upswing, and we don't have as much of a new repeat in there over-supply maybe to absorb. If you look at some of the harder areas, say energy right now, they will be absorbed. It may be a little bit slower for that absorption to happen. But over time, you'll see some of those cars start to age out and need replacements or you will see them go out because of HM-251 or other requirements to upgrade that car type.

Steve Barger, Analyst

And so, I guess to that point about the various car types, you mentioned in your prepared remarks that you have inquiries that you expect to convert to orders of lease contracts. Can you talk about the size of any of that in terms of units?

Jean Savage, Chief Executive Officer and President

So, I can't talk about the size, but I will tell you they are substantive, well above what we had in the last quarter.

Steve Barger, Analyst

Okay. And so, you said that slots in the back half were basically sold out. Is the 2Q run rate a reasonable way to think about production for the back half just for our models?

Jean Savage, Chief Executive Officer and President

So coming out of 2Q, we are holding some people toward the opportunities that are in front of us. If those do close shortly, we will have to start production in the third and fourth quarters to be able to meet the delivery timeframe for those orders that are out there. I would say that, if those don't come to fruition, we will have additional downsizing in the third and fourth quarter.

Eric Marchetto, Chief Financial Officer

Steve, this is Eric. I'll just add to my comments. I mentioned that 41% of our backlog value we expect to deliver by the end of the year, so that will give you a little more insight into run rates.

Jean Savage, Chief Executive Officer and President

Perfect. And just one more and I'll get back in line. Just similar question on revenue per car, is the mix that you expect in the back half similar to what you saw in 2Q in terms of revenue per car?

Eric Marchetto, Chief Financial Officer

Yes, our mix is going to continue to change as it slows down, so I'm not sure it'll be an exact one-for-one just as the mix will become a little less tank car weighted as we move on. So that'll have a bit of an impact on the average selling price.

Operator, Operator

And we go next to Matt Elkott with Cowen.

Matt Elkott, Analyst

Can you guys talk about your manufacturing margin outlook in both the base case scenario and worse scenario? Just trying to gain how much more operating manufacturing margin pressure we could see while we deal with this environment?

Jean Savage, Chief Executive Officer and President

Sure, Matt, this is Jean. I'll take that one. So, as we look at the year, as I just mentioned, with a deal that we're currently negotiating, we are holding on to some headcounts to make sure that we can meet their production if necessary. If those do not happen, we have additional optimization or rationalization that we have to do. We also have some work to do where we'll be taking out some of our higher-cost footprint. We're going to be reducing our manufacturing support functions and administrative overhead costs. As you work through that, you're going to have a few bumps and bruises along the way in that transformation to get you to the point where you need to be long-term. So, I would expect that as we finalize those, you may have some pressure, but if we close those deals, you may have some tailwind coming in.

Matt Elkott, Analyst

And you've mentioned potentially looking at some high-cost manufacturing footprint to rationalize, convert, or get rid of. I think historically in the last several years you guys have manufactured most of your cars in Mexico. First of all, how has the split between Mexico and the U.S. been this year during the pandemic? And would the facility that could be eliminated be in Mexico or in the U.S.?

Jean Savage, Chief Executive Officer and President

So when you look at it, we have manufacturing for new cars in both the U.S. and Mexico, and we see ourselves continuing to have both of those. One area that we have recently closed is our wheel shop that was here in the U.S., and we outsourced that product. We're also looking at outsourcing some additional fabrication that are lower value for us. That would give us; one, the ability not to have to have as many people to produce a car; and two, to look for some opportunities to reduce overall costs. So that's the direction that we're heading.

Matt Elkott, Analyst

And just one more follow-up on the uptick in orders question. I think you mentioned an uptick in inquiry as obligated. Can you give us an idea on how much of that is financial buyers looking for cars with leases attached to deploy capital to how much that is shippers with underlying freight needs looking to lease cars or potentially shippers looking to buy cars that are now manufactured?

Jean Savage, Chief Executive Officer and President

So I'm going to start and then let Eric jump in on this one. We've really seen the opportunistic buyers come out. We're in a down cycle right now. Pricing is getting aggressive, and those who have some aging fleets that want to replace them or have some additional demand are coming out and looking for those opportunities. So, that's where we're seeing it happen, and Eric, if you want to add to that?

Eric Marchetto, Chief Financial Officer

Sure. When we're talking about converting inquiries to orders, we're not talking about portfolios or railcar leases. We're talking about users of the railcar equipment that have demand. And as we mentioned earlier, replacement is still a big driver. I think that replacement demand will be a larger driver rather than growth demand over the next several quarters, and that's where we're seeing opportunities as users of rail equipment that have some discrete replacement opportunities that they're looking to take advantage of the current market.

Matt Elkott, Analyst

Just a quick follow-up on the order questions. I believe you received around 40% or slightly more of the industry's orders this quarter or in the second quarter. This is a notable increase compared to the last several quarters, during which you appeared to be less aggressive with orders. Are you reading too much into this? Is there a change in strategy? Are you open to taking smaller orders during the downturn, or is this just an anomaly?

Eric Marchetto, Chief Financial Officer

Yes, Matt, so those numbers just came out as we were preparing to kick off the call, so I haven't had a chance to look at a lot of them. When you look at, when you're talking about quarter orders for the industry of 1,900 units, it's probably too small a number to really get a lot of trends from. I would say that the orders that we took in the quarter were a little more leasing weighted than we had been running, and they're more specialty railcar related. The nice thing about specialty railcar is they tend to have a little higher margin than some of the other railcars. So, we're really happy with the level of orders that we took. The fact that it was 44% of the market is more of an outcome. I wouldn't say it was anything deliberate on our part.

Operator, Operator

We'll go next to Gordon Johnson with GLJ Research.

James Bardowski, Analyst

This is James Bardowski in for Gordon. Thanks for taking my question. Just had a question on your capital allocation. You guys didn't have any stock buybacks last quarter, for the first time in a while. Now, I know that you have a lot of liquidity on hand, but your relative price to book value is now currently above your peers in the leasing group. So, effectively, one of your targets has been reached, and another target you guys had more internally, is your leverage targets. I believe it was between 60% and 65% loan to value. Last quarter at 57.1, it should be a bit higher with the $225 million facilities you disclosed, correct? So that said, should we expect the lack of stock buyback to be the new normal? Or are you raising your leverage targets?

Jean Savage, Chief Executive Officer and President

So, I'm going to say that in the last quarter, the reason we weren't in the market actively buying was we had stated that we wanted to ensure that our liquidity and cash flow were good. We're still trying to see what was playing out with COVID-19 and what that meant for the market and for the future, what was going to happen. So, that was the pause. Eric mentioned in his script that we still have $90 million available to us for our stock share repurchases, and that will go into our future thinking for capital allocation.

Eric Marchetto, Chief Financial Officer

Yes, James, I'll just add that the main thing that we just did doesn't necessarily, it's not just additive to leverage. Some of that will sort of proceed that will be used to pay down a revolver and our warehouse. And as Jean mentioned, we look at capital allocation; we're going to still generate a significant amount of cash flow, and share repurchase is one of the things that we'll look at in terms of what to do with that cash that we're going to generate.

James Bardowski, Analyst

Jean, Eric, thank you. That is very helpful. Then I just have a real quick follow-up. I thought you guys saw $17 million you mentioned in the press release that you have in cost savings currently underway. Just quickly, how much of that is cyclical or variable versus fixed? And how is that allocated amongst segments? Thank you.

Jean Savage, Chief Executive Officer and President

So, James, one thing, if you look at Slide 4, it does talk about executing year-to-date, we've got $58 million total identified of the $17 million. When you look at cyclical it is showing $38 million executed and $14 million identified. One thing that I want to draw your attention to is the fact that we are looking at outsourcing some of the lower-value fabrication items, which will also change some of that cyclical reduction to a more permanent status. So, when you are asking for the percentages, I'm going to look at Eric. I have not looked at that way, and I don't know that we have that answer.

Eric Marchetto, Chief Financial Officer

And I think that's the answer.

Operator, Operator

Justin Long with Stephens, please go ahead.

Justin Long, Analyst

Thanks and good morning. So, I wanted to ask about the secondary railcar market and what you're seeing out there. How has that market progressed in 2Q and quarter-to-date as well? And maybe you could speak about both the level of activity and what you're seeing in terms of competition on any deals that are out there today?

Jean Savage, Chief Executive Officer and President

Well, I'll start and let Eric jump in. So Justin, right now, the secondary market is still open. It's available. It's not as deep as it was last year, but the buyers are out there looking for some good deals, and we're also out there, and we could be out there as a buyer or seller, depending on what we see available and how good the deals are. Eric, I don't know if you'd add.

Eric Marchetto, Chief Financial Officer

I believe we've addressed that. Justin, there are still some deals happening. A few participants who were active in the past couple of years may be on the sidelines now. However, the market remains strong overall, and there are opportunities to engage in transactions, whether buying or selling.

Justin Long, Analyst

Okay, great. And then on the lease rate trends, I was wondering if you could comment on how you've seen lease rates progress here over the last few months? And I know it's going to vary significantly by car type. But just from a high level, would love to understand how much of a pullback we've seen? And as you think about the market going forward with rail volumes getting a little bit better sequentially, do you think there's an opportunity for the lease rate environment to bottom at some point later this year, or do you think it's going to take longer than that?

Jean Savage, Chief Executive Officer and President

Okay, Justin, I'll start with that one. If you look at the lease fleet, we have seen the market get more aggressive there. If you're comparing us with the LPI that others talk about, we've not nearly seen the reduction in rates that they have, but we are still seeing that headwind come in. When we look at what's going on with new cars going into our fleet, we typically have a higher lease rate there. So even though we're seeing some headwinds, it's not been significant for us overall. As far as when we would see them go backup, we would hope for it to be very soon, but with COVID-19 we're really not sure what to expect on that. But you hit the right metric; as car loadings continue to go up, we would expect to see the lease rates starting to rise.

Justin Long, Analyst

And last question just quickly, Jean, it sounds like we're going to hear more about the strategic plan after the third quarter, but I did want to ask just from a high level if you could speak to your commitment to continue operating an integrated platform. Is that something that still has the support of management in the board, or is there any openness to evaluating your strategic alternatives on that front?

Jean Savage, Chief Executive Officer and President

Okay. Sure, Justin, I'll talk to that. So, the board and management are aligned on the platform that we are operating in. We believe we can bring the best value to the Company and to our shareholders with our rail platform. Some of the benefits of that are the cost advantage railcar equipment sources, tax advantages, lease fleet investments, offsetting manufacturing taxable income, and then the lower relative admin costs. Commercially, it gives us direct engagement for the customers over multiple touch points. We get actionable rail intelligence through this and valuable sales channels. So with all that said, our move forward is looking at the platform in total, but as always as a board and as a company, when new things arise we'll take a look and see if we still have the right perspective or if we need to reevaluate.

Operator, Operator

We'll go next to Allison Poliniak with Wells Fargo.

Allison Poliniak, Analyst

I want to go first to the rail products possibility just to go back to that question to make sure I understand it. And I guess two pieces to it. One, it does sound like you're hanging on to some incremental capacity based on sort of the order activity you're seeing in the market. I guess with that, could we assume maybe some level of increased pressure into Q3 depending on the timing of those orders? And I guess how quick would the conversion rate be from orders to production? And the second part of that profitability question will be around COVID. I think you mentioned some costs that sound like they could be more one quarter in nature hopefully, assuming we're getting out of this. Was that impactful or I would say material to the quarter in terms of the headwind?

Jean Savage, Chief Executive Officer and President

I'll start with the COVID and then move on, Allison. So for COVID-19, my estimates are between $4 million to $6 million impact in operations for the quarter, and that was related to not only additional cleaning that we had to do, it was also related to employees that were high risk sheltering at home, or those that were exposed and had to shelter at home until we confirmed they were not affected by this. Do I think that will be as high in the future, if the COVID-19 positivity rate goes down? No, but it's really going to depend on what happens with COVID-19. We do have a lot of our management's time in the facility ensuring people are following rules that are working safely, and that takes a toll over time. So, we are hopeful that that will go down but can't say absolutely that it will. For the third and fourth quarter as far as production, we will know, we think shortly, if those orders will close. We would be able to convert and start producing those very quickly in the third quarter. So we are holding for a short amount of time, if they close, we'll start that operation. Like I said, have some tailwind for us. If they don't close, we'll take the appropriate actions and make the reactions out and then needed.

Allison Poliniak, Analyst

And then I just want to get back to the commentary around the orders trying to reconcile orders this sort of with a story that's out there. It sounds like there are clearly some verticals that are interesting, which makes sense, and then you certainly have a level of replacement needs over the year. I guess if we look at that storage number, and I know it's an elusive question in terms of what's normalized storage here. But it sounds like most of these are either storage in different meanings of vertical versus equipment that wasn't going to come back anyway. Any color that you can provide around that?

Jean Savage, Chief Executive Officer and President

So when you look at the 32% storage, I can't give you a lot of details. But there are two major markets that are driving that storage. And Eric, if you want to add more color?

Eric Marchetto, Chief Financial Officer

So Allison, certainly the small cube covered hopper fleet related to the frac sand fleet is adding a lot of cars in storage. I'd say that 55,000 to 60,000 cars out of that total number. Then, you've got open covered hoppers, coal cars, and there's still some tank cars in that number as well. When you look at the opportunities there; one, that number you call the digital, it is elusive, you still get demand in those categories because the markets not completely efficient. But as I mentioned, the replacement demand will still drive that, and that's going to drive a lot of order activity in the next few quarters. There are still pockets of growth in the petrochemical space. We're still seeing growth there that you're going to have. So, there's not one railcar market; there are markets of railcars, and you're going to continue to see pockets of demand even when the market numbers look like they're sitting there.

Operator, Operator

We'll go next to Bascome Majors with Susquehanna.

Bascome Majors, Analyst

It's unusual to see an asset write down for operating lessor, particularly near the year, but what's happened in the frac sand industry, with the spate of bankruptcy filings and distress and all that is also quite unusual this year. I was hoping you could give us a little color on, after the write down of the covered half, roughly how much book value remains on the books for Trinity? And whether this assessment that you guys did on impaired or not impaired was specific to that fleet or if you also considered other pockets where there are such size as the stress just not as necessarily as acute here? Thank you.

Eric Marchetto, Chief Financial Officer

Sure, Bascome. The impairment charge we took is complex. I recommend looking at Pages 5 and 14 of our press release for details on how it works and its impact on our financials. Regarding other types of cars, we are continuously monitoring our fleet, not just on an annual basis. We are constantly assessing it. You mentioned some unusual and extraordinary changes this quarter that triggered the impairment due to bankruptcies and our expectation that those cars will remain oversupplied. The industry has 125,000 small cube covered hoppers, and I estimate that 55,000 to 60,000 of them are underutilized, particularly with our outlook for domestic drilling and the use of Wisconsin White Sand in the Permian. We don’t expect that to recover as it once did. We closely evaluated the changes in committed cash flows due to the bankruptcies, which led to the impairment. For other car types, I believe that the credit quality of the rest of our portfolio is significantly stronger than that of our primary customers, resulting in a much higher likelihood that those committed cash flows will convert to cash. Therefore, at this time, we do not foresee an impairment issue elsewhere.

Bascome Majors, Analyst

Thank you for that. And can you add how much book value remains?

Eric Marchetto, Chief Financial Officer

Yes, I apologize for the confusion. After the write down, the book value of our small cube covered hopper fleet, which includes not only our standard fleet but also covers other commodities, is approximately 3% of the net book value of our fleet at the end of the quarter.

Bascome Majors, Analyst

And I believe we addressed this at least directionally last quarter, but could you remind everyone who's trying to really assess the book value and what the pay for that? How much book value might be left in some of the larger tank cars exposed to crude oil and/or the coal market? And that's all for me. Thank you.

Eric Marchetto, Chief Financial Officer

I'll refer you to our investor deck that contains those breakouts. Unfortunately, we don't have crude oil tank cars; our tank cars transport crude oil along with other commodities, and those markets are flexible. For instance, we recently completed a significant deal where we converted our crude oil to other refined products, which we finalized at the end of the quarter. That involved existing railcars, and I encourage you to check our investor deck. We will be providing updates in the coming days that will include the updated net book value and the percentages across all categories.

Bascome Majors, Analyst

Thank you for that. I'll refer back, and I know I said that was the last one. But Eric, I thought of one more while you were giving me that answer.

Eric Marchetto, Chief Financial Officer

Yes.

Bascome Majors, Analyst

You said in the slide deck, I know there'll be more disclosure on this in the 10-Q in itself, but you said you had $1.6 billion of unencumbered railcars that looks like that went up 100 million and 150 million quarter-over-quarter, but that happened with a $370 million write down and you guys adding $225 million in debt after quarter end. So how did the unencumbered collateral go up? Can you help us unscramble that and whether or not that's performed or not for the debt you added after quarter end?

Eric Marchetto, Chief Financial Officer

It does not include that we added afterwards, and we can get into all the mechanics of follow up. But effectively, the changes would be the adds to our fleet that were an opening and things that would have affected that in the quarter and then the small cars that we sold in the quarter. Those are the ins and outs, and we'll be happy to walk you through it.

Operator, Operator

And there are no further questions at this time. I'll turn it back to Jessica for any closing remarks.

Jessica Greiner, Vice President of Investor Relations

Thank you, Bree. That concludes today's conference call. The replay of today's call will be available after 1 o'clock Eastern Standard Time through midnight on July 30, 2020. The access number is (402) 220-6088. A replay of the webcast will also be available under the Events & Presentations page on our Investor Relations website, located at www.trin.net. We look forward to visiting with you again on our next conference call. Thank you for joining us this morning.

Operator, Operator

And this does conclude today's program. We appreciate your participation and you may now disconnect.