The lowdown on shipping trusts

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#1
Business Times - 22 Nov 2010

Hock Lock Siew
The lowdown on shipping trusts


By JOYCE HOOI

IT hasn't been much fun being a shipping trust, lately. If your creditor isn't leaning on you, your client is reneging on you or asking for a 30 per cent discount on charter rates.

At some point in the past 18 months, at least one or a combination of these three vexing situations has been a reality for all three shipping trusts listed here - Rickmers Maritime Trust, First Ship Lease Trust (FSL) and Pacific Shipping Trust (PST).

Consequently, the past 18 months haven't been a barrel of laughs for investors either. The share price for PST has lost about 23 per cent of its offer price value since the trust listed in 2006, while FSL and Rickmers have lost 55 per cent and 75 per cent respectively since they went public in 2007.

While the headlines for the trust sector have been glum in general, they have varied for each of the trusts across a spectrum of harrowing news.

Glum news

At one end of the spectrum has been Rickmers, which found itself unable to raise enough equity to buy seven vessels that it had committed itself to for US$918.7 million, even as it scrambled to refinance US$130 million in loan facilities with its banks.

About the same time, charterer Groda Shipping & Transportation told FSL to take back two tankers about four years early in May - but not before running up a US$4.1 million tab for unpaid bunker bills that led to tanker arrests and a 10 per cent dive in FSL's share price.

Amid renewed fears of counter-party risk, some threw up their hands. OCBC Investment Research's Meenal Kumar ceased coverage of the entire sector in June, citing 'subdued trading volumes'. He also noted the difficulty of getting publicly available information on some of the trusts' clients, such as Groda.

At the opposite end of the spectrum, however, PST's trials were milder by comparison - and already seem to be receding into the past. Chilean liner CSAV, which charters two vessels from PST, caused a bit of a flap in April last year when it looked likely to negotiate a temporary 30 per cent reduction in charter hire payments.

But now, with CSAV's turnaround in fortunes - it posted a record Q3 profit earlier this month - the threat of renegotiation has been reduced to a panicky footnote.

It is fitting that for Q3, only PST reported an increase in its distribution per unit (DPU) - albeit a small one of 1.7 per cent year on year.

Of the lot, PST has been favoured by analysts for its conservative financing strategy. It also scored points for its canny move to diversify into bulk carriers and multi-purpose vessels in measured doses that precluded any frantic equity-raising exercises.

FSL, on the other hand, is still being hobbled by the fall in revenue from the two tankers that Groda returned prematurely. Its Q3 distribution per unit of 0.95 US cent was 36.7 per cent lower year on year - and the outlook appears subdued.

DBS Group Research's Suvro Sarkar cut DPU estimates for FY 2011 by 17 per cent to about one US cent per quarter.

FSL's payout ratio is at 40 per cent as of Q3 - which is relatively prudent and not abysmal unless you are an investor who remembers getting 100 per cent of distributable cash flow in 2008 before the sector hit an ice patch.

What FSL does have in its favour is its vessel portfolio, which is the most diversified of the three - at a time when diversification has become a hedge against events that the sector cannot control, such as falling vessel values.

Diversification, on the other hand, is not on the immediate horizon for Rickmers' all-containership fleet. After a period of giddy acquisition that preceded its financing woes - at one point, it had 11 containerships waiting to be delivered within a two-year span - it will be content with its existing 16 while it regroups.

While containership rates have recovered convincingly and are poised to improve next year, the much-dreaded double dip could undo it all.

And all else remaining equal, there is the 0.6 US cent cap on Rickmers' DPU per quarter. It will be in place for at least as long as the trust is protected by the value-to-loan waiver granted by its creditors for up to three years. Its latest DPU of 0.57 US cents was a payout of just 13 per cent of distributable cash flow.

Stable and boring bet

It could work out for everyone, of course, and the sector could become the more exciting alternative to Reits that it was originally branded - and not in a way that causes indigestion.

But as things stand, PST - which its sponsor's MD called 'stable and boring' in March, according to Lloyd's List - looks like the sector's best bet. When 'boring' is the best adjective for a sector, investors might just stock up on antacid tablets and move elsewhere.

My Value Investing Blog: http://sgmusicwhiz.blogspot.com/
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#2
MW don't sleep one ah?

Wake up 430AM post thread..

Well, I am vested in RMT...
Mainly contrarian play and I like it's deep discount...
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#3
The Biggest Domino - ABC Foreign Correspondents

This is a little old video that was released back in may 2010 but still interesting, gives a glimpse about China economy. The message here - overbuilding & overcapacity there's a section on shipbuilding in that video.

Since then many events have happened, QE1 QE2 and interest rates in china have gone up the real estate bubble have burst and europe is back in trouble again.
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#4
The number of shipping trust listed in Singapore is pretty small so investors don't have much variety to choose from. Hopefully this will change with time.

It has been 2 years since the axe fell on shipping trust in general and there has been a few interesting lessons -

1) There is a huge difference between expansion and diversification. Diversifying means expanding while reducing your overall risk by getting stronger charterers and reducing your exposure to any single asset class. If you are expanding your fleet by leasing it to a second grade charterer, are you really reducing your risk ? I don't think shipping trust here will ever do sale and lease back with second grade charterers in the near future. The recent PST acquisitions shows that Management would prefer blue chip operators.

2) Vessels are depreciating assets so a 100% cash-flow payout is simply foolish since the NAV will slowly deplete away leaving no room to repay loans. I believe this is the source of FSLT troubles. PST model here is pretty good - pay out what you earn and nothing more. Rickmers is now being compelled to do the same. FSLT is paying out less than half of its distributable income.

3) LTV covenants is a big no no. Long term amortizing loans with no LTV feature is safer provided the Trust's cash-flow remains unaffected. This is why PST remains relatively unaffected by the 2 year shipping recession unlike RMT and FSLT - it has no LTV features in its 10-12 year amortizing loan. It just repays US$4 million every quarter so bankers have no room to complain.

4) Don't over-commit the Trust to M&A. Rickmers ordered over US$1 billion worth of vessels even though its NAV was less than half of the amount ! PST recently acquired 4 vessels so it faces financing risk until it gets the equity and debt fund raising settled.

Overall, it is a pretty high risk investment since the asset valuation cycle is more volatile than properties. As always, do your own research !

Disclaimer: Vested in RMT and PST
Disclaimer: Please feel free to correct any error in my post. I am not liable for anything. Do your own research and analysis. I do NOT give buy or sell calls and stock tips. Buy and sell at your risk. I am not a qualified financial adviser so I do not give any advice. The postings reflects my own personal thoughts which may or may not be accurate.
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#5
(22-11-2010, 08:59 AM)Zelphon Wrote: MW don't sleep one ah?

Wake up 430AM post thread..

Well, I am vested in RMT...
Mainly contrarian play and I like it's deep discount...

Yeah, I do have trouble sleeping sometimes, and I wake up in the middle of the night thinking about stuff too. Occupational hazards of being an investor? Tongue
My Value Investing Blog: http://sgmusicwhiz.blogspot.com/
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#6
Nick Wrote:Vessels are depreciating assets so a 100% cash-flow payout is simply foolish since the NAV will slowly deplete away leaving no room to repay loans.

This is the heart of the problem. If payout exceeds earnings, ships can't be replaced. But if payout is reduced to a sustainable level, the yield is very low. So it's a catch-22. Shipping trusts are an inherently flawed structure.

A high payout policy can inflate the unit price, allowing the raising of fresh equity to prolong the trust's life. But since high payouts don't leave money to renew the fleet, fund raising must occur regularly, otherwise the trust will self-liquidate.

A low payout policy allows the trust to self-renew. But the low payout will result in a low yield. The trust has to trade at a discount in order to give an acceptable yield to investors. But if it trades at a discount, fundraising will be dilutive, so the trust cannot grow.

Investors lose either way. A high-payout trust will eventually be unable to fundraise when it hits a bear market, and must either go to a low-payout policy or self-liquidate. A low-payout trust will not be able to grow and will trade at a discount to give an acceptable yield.
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#7
(22-11-2010, 10:56 AM)d.o.g. Wrote:
Nick Wrote:Vessels are depreciating assets so a 100% cash-flow payout is simply foolish since the NAV will slowly deplete away leaving no room to repay loans.

This is the heart of the problem. If payout exceeds earnings, ships can't be replaced. But if payout is reduced to a sustainable level, the yield is very low. So it's a catch-22. Shipping trusts are an inherently flawed structure.

A high payout policy can inflate the unit price, allowing the raising of fresh equity to prolong the trust's life. But since high payouts don't leave money to renew the fleet, fund raising must occur regularly, otherwise the trust will self-liquidate.

A low payout policy allows the trust to self-renew. But the low payout will result in a low yield. The trust has to trade at a discount in order to give an acceptable yield to investors. But if it trades at a discount, fundraising will be dilutive, so the trust cannot grow.

Investors lose either way. A high-payout trust will eventually be unable to fundraise when it hits a bear market, and must either go to a low-payout policy or self-liquidate. A low-payout trust will not be able to grow and will trade at a discount to give an acceptable yield.

I don't think a low payout policy will lead to 'too low a yield'.

Using PST as an example - it has paid out 90% of its net earnings in 2008 and 1H 2009 which gave a yield of 8.8% based on a DPU of US$0.035 and unit price equivalent to its NAV of US$0.40. This isn't very low since the Trust is only paying out what it earns which is similar to most listed company. Since 3Q 09, it has retained a further US$2 million a quarter for growth hence it only pays out 70% of its net earnings (the lowest for a business trust with no loan problems). This translates to an annual DPU of US$0.032 per unit. The unit price is trading at 9% yield based on the last traded share price which isn't very high nor low. I guess there is room for further yield compression if the Trust can prove to investors that its policy of retaining income (and hence growing the NAV organically) is feasible. The recent US$183 million acquisitions does lend some credence to the Management plans since retained earnings/cash should be sufficient to fund around 15% of the acquisition cost. Lets see how its model will continue to work out in the coming years.

Disclaimer: Please feel free to correct any error in my post. I am not liable for anything. Do your own research and analysis. I do NOT give buy or sell calls and stock tips. Buy and sell at your risk. I am not a qualified financial adviser so I do not give any advice. The postings reflects my own personal thoughts which may or may not be accurate.
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#8
Nick Wrote:The recent US$183 million acquisitions does lend some credence to the Management plans since retained earnings/cash should be sufficient to fund around 15% of the acquisition cost.

I have a different view.

Do the math - based on 9M10, PST reported US$20.5m of profits. Annualizing this, it will earn about US$28m for the year. Debt repayment consumes US$17m per year. That leaves US$11m per year to buy a ship. There is depreciation of US$16m per year, but you need that to renew the fleet.

So we have US$11m per year that can fund fleet expansion. Even if we get 70% financing (today it's more like 60%), PST can only spend US$37m per year. That buys a very small ship, and this already requires 100% of earnings.

Since PST pays out 70% of earnings we are left with only US$3.3m of retained earnings, or buying power of at most US$10m with 66% financing.

As at 30 Sep 2010, shareholders' equity was US$239m, and the fleet was valued at US$433m. It should be clear that using 30% of earnings to add US$3.3m of equity per year (US$10m of vessels) results in a growth rate of roughly 2%, a total waste of time.

A shipping trust that pays out a meaningful proportion of earnings simply cannot grow organically. M&A is the only way. Investors who are not prepared to cough up money regularly for rights issues should stay away.
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#9
I remembered at one of the AGM when I was still vested in RMT, the CEO replied that ships operate under great stresses to a question about the lifespan of ships being considered as 30 years. From that moment onwards, I have decided I do not wish to invest under "great stresses". Wink

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#10
Quote:Do the math - based on 9M10, PST reported US$20.5m of profits. Annualizing this, it will earn about US$28m for the year. Debt repayment consumes US$17m per year. That leaves US$11m per year to buy a ship. There is depreciation of US$16m per year, but you need that to renew the fleet.

Hi d.o.g,

I think your figures are incorrect...or perhaps I have mis-understood them.

Debt payment is derived from cash-flow from depreciation (which is considered to be an expense). After debt payment, PST still has US$27 million worth of cash to either retain or distribute to unit-holders.

9M 10 Financials

Net Profit: US$20.5 million
Add in Depreciation of US$12.55 million: US$33 million (total cash-flow)
Substract Loan Payment of US$13 million
Distributable Income left: US$20 million (this matches with the net profit)
Less Cash Retained of US$6.8 million: US$14.2 million

This means that PST is retaining a further US$9 million a year (annualized) AFTER repaying its loans and its distribution to shareholders. Unit-holders distribution of US$14.2 million comes after PST pays US$13 million to the banks (income from depreciation) and retaining US$6.8 million (30% of net profit). Using a VTL ratio of 60%, PST is able to acquire a US$23 million vessel annually free from any new equity fund raising. The increased revenue from the new ships will increase the amount of cash PST retains quarterly.


Disclaimer: Please feel free to correct any error in my post. I am not liable for anything. Do your own research and analysis. I do NOT give buy or sell calls and stock tips. Buy and sell at your risk. I am not a qualified financial adviser so I do not give any advice. The postings reflects my own personal thoughts which may or may not be accurate.
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