Overseas Shipholding Group, Inc.
Q1 2021 Earnings Call Transcript

Published: 10 May 2021

[Operator:]

Good morning. Welcome to Overseas Shipholding Group First Quarter 2021 Earnings Conference Call. Please note, this event is being recorded. I would now like to turn the conference over to Sam Norton, President and Chief Executive Officer. Please go ahead.

[Sam Norton:]

Thank you very much, Kate. Good morning, everyone, and thank you all for joining Dick and me on this call for the presentation of our 2021 first quarter results, and for allowing us to provide additional commentary and insight into the current state of our business, and the opportunities and challenges that lie ahead. As usual, Molly Arcia and Princeton McFarland are participating with us on this presentation. To start, I would like to direct everyone to the narrative on Pages 2 and 3 of the PowerPoint presentation available on our website regarding forward-looking statements, estimates and other information that may be provided during the course of this call.

[Dick Trueblood:]

Thanks, Sam. Our first quarter results, as Sam mentioned, were consistent with our expectations. The market continued to be depressed as COVID-19 lockdowns and reduced economic activity persisted in the face of higher disease levels. Elevated inventory levels depressed refinery operations and reduced mobility characterized the quarter. Winter storm, Uri, effectively shut down many Gulf Coast refineries. Additionally, international petroleum markets continued to be unsettled, and international transportation rates were at historic lows. These circumstances resulted in our customers' continued unwillingness to make transportation commitments. Spot market activity for the first 2 months of the quarter was virtually nonexistent, and those moves that did occur were small and accommodated on ATBs. March saw an increase in spot market activity, but again, all were accommodated on ATBs. We continued to manage our costs by maintaining ships in layup for which there is no current demand. The daily per vessel operating cost reduction is approximately $15,000. As we indicated during our last call, our expectation was for breakeven adjusted EBITDA in the first quarter with a modest increase in the second quarter. Overall, we continue to expect approximately the same level of combined first half EBITDA as we look ahead. Vaccinations and declining disease levels are resulting in wider reopening of society. Airlines are reactivating their fleets and jet fuel consumption is beginning to rise. Observers are predicting that pent-up travel demand will result in a spike this summer. One of our vessels currently in the spot market has been performing a series of voyage charters, all in direct continuation subsequent to the end of the first quarter. We have another vessel currently available in the spot market on the West Coast.

[Sam Norton:]

Thank you, Dick. Largely speaking, we consider the financial results achieved during the first quarter of 2021 to be satisfactory, given the continuing pandemic environment. While our forward planning contemplates the continued layup of several vessels for the immediate future, we consider the prospects for demand recovery during the second half of this year to be a reasonable expectation, spurred by a return of the healthy gasoline and diesel demand in the United States, increased fiscal stimulus and a return to more normalized levels of mobility. As seen from the results of the just completed quarter, we expect continuing strong contributions from the ATC vessels on charter as well as the expected revenue streams from our other niche businesses, in particular, our 2 active shuttle tankers in our existing MSP vessels. In addition, during 2021, we have committed revenue streams for the full year from both of our 2 new barges, the OSG 204 and OSG 205. These cash flow stabilizers provide confidence that we will ride out the market weakness and carry through to what we believe to be a fundamentally promising medium and long-term future. Challenges remain as new opportunities. Our renewed fleet provides us a profile of assets with a reduced average age. We continue to achieve lower costs and material improvements in our key safety and operational performance measures. We are focused on achieving high health and safety performance in the continuing COVID-19 environment, and we remain confident in the long-term success of our business model and of OSG's ability to maintain its position as the leading U.S. flag tank vessel operator in the years to come. Kate, we can now open up the call to questions.

[Operator:]

Our first question is from Ryan Vaughan from Needham.

[Ryan Vaughan:]

Sam and Dick, I have two, if you don't mind. The first one is just listening to your call, peer calls and even some of the consumer -- U.S. consumer travel companies, it really sounds like business travel is coming back nicely. And without the Texas freeze and, let's say, the international imports, it sounds like your -- a lot of your vessels would probably have some charters now or be back in business, at least running on the spot market. So clearly, the Texas event was a onetime event. But just, Sam, you touched on it briefly in your remarks, just on the international imports being quite high. Do you think there's been a permanent shift there? Or do you think it's more just some of the European countries have just been slower to reopen? So if it is that, any sort of best guess on timing, early summer, late summer, anything you can add on that? And then number two, Dick, liquidity at $45 million at the end of the year. I think you said $60 million at the end of 2Q. Can you just update -- I know you told us last month, you felt comfortable, but just 1 month later just you're going to bring in the Gulf Coast cash. Just how you're feeling going into 2Q, 3Q as business probably come back at some point in time, whether it's late 2Q or sometime in 3Q, just how you're feeling about liquidity over the next couple of quarters?

[Sam Norton:]

All right. Okay. So I'll try and deal with your first question. We have frequently pointed in response to questions in the past that although the United States and the Jones Act are from time to time characterized as being insulated or isolated marketplaces, they really are not. The energy markets are global markets. Price differentials and other factors that can influence those price differentials can be arbitraged through transportation capacity and through traders that are moving commodities around the world to arbitrage those differences. My view right now is what you're seeing in the international markets is a very weak international tanker market, a reflection of the fact that outside of the United States, with possibly the exception of China, most countries are still suffering badly from the pandemic, and many countries are -- have either been in or currently entering into increased lockdown conditions, which, obviously, has an impact on mobility and transportation fuel demand. You see that in Europe, you see that now in South Asia, Latin America also having spikes in the pandemic spread. That creates weak markets for international products for the time being. You couple that weak demand for product with weak demand for transportation and international MR rates hovering in the sort of single digits, $6,000, $7,000, $5,000 per day. That opens up the opportunity to take excess production out of Europe, in particular, and move it into the United States. And that's been what we've been witnessing for the last 4, 5, 6 weeks as large surplus gasoline production in Europe is finding its way into the East Coast of United States, even as far Southeast Florida. You look at that picture and again, logic dictates that, that's not sustainable. International tanker rates of $4,000, $5,000, $6,000 a day are below operating costs for international operators. It can be sustained for a period of time, but not for a long period of time, eventually leading to either a culling of capacity or laying up of vessels that would have the impact of shortening up supply. I think the international market commentary also believes that fuel consumption, transportation fuel consumption globally will rebound in the second half of this year. So I think a lot of that capacity is being held available, anticipating that recovery. And as you know, rates can move quickly based on short-term shifts in demand. So I said in our last call, we need to see the international MR tanker rates move back up to above $10,000 a day. That would be certainly a big help in trying to remove that transportation arbitrage that currently exists and bringing product in -- from Europe. The other thing is just to see European economies begin to get back on their feet because some of that excess production would then be absorbed in -- locally in Europe. And there would be less incentive to be able to push -- to basically dump that excess product in the United States. What I find encouraging and I addressed in my remarks is notwithstanding all of this increased import activity, refining rates in the U.S. continue to inch up. And ultimately, the principal driver of tanker demand in the Gulf Coast region is that movement of transportation fuel from PADD 3 into Florida. And one of the charts that I see up there that was a continuation of the presentation we made in April, you can see that mobility in Florida has regained its pre-pandemic levels. Now that's not necessarily a tried and proven data set. It's a Google data set that people are looking at as a high-frequency data set. But it certainly indicates improved conditions. And I can tell you, Dick and I talk about this all the time. There's plenty of traffic here in Florida. There is no indication anecdotally as you look around in Miami, in Tampa, in Orlando and places that I visited in recent weeks. Florida is full on. And we feel that every day we see the inventory levels, you'll see the PADD 3, one see inventory levels, they continue to be at reduced levels. Eventually, product needs to move in to fill those inventory drawdowns. And we think that's coming. Timing, I've said 100 times of the skill sets that we have in our toolbox, predicting the future with a high level of accuracy is probably the least developed that we have. But we look at the logic, we look at the fundamentals that are there. We feel it's all pointing in the right direction. And our job right now is not to call that turn, but to make sure that we're ready to be able to participate in that turn with sufficient levels of liquidity to ensure that we have the runway to get there.

[Dick Trueblood:]

So to go on to the second part of your question, Ryan, we entered into the sale of the Gulf Coast to sort of provide some additional insurance that we had adequate liquidity to get where we need to go to realize the recovery that we see coming in the second half of the year. We will -- by the time the second quarter ends, as I indicated, we will have spent most of our capital dollars for the year. And so, the remaining capital commitments will be relatively minor in nature. The ships that -- and all of those are on-time charter. The on charter will be fully in service, so they will generate their normal levels of cash flow on that basis. And we think we have the kind of runway that we need to get to the other side of this really demand dislocation that we're experiencing right now. For all the reasons that Sam has gone through, we see business coming back in the second half of the year. Much of our business generates positive cash flow today. Part of it consumes cash today, and that's we need to get past that. And the part that is cash consumer today, we've taken all the steps that are prudent and reasonable to take to minimize the daily cost of those ships and operating them or at least maintaining them in layup. And the rebound, as you put one of these ships back in service will be dramatic. I mean you're talking somewhere incremental cash flow on an annualized basis per vessel somewhere in the order of $17 million per vessel. So it's -- we believe we're on the cusp. We have the kind of resources we need to get to that point in time, and we expect to start realizing that in the second half of this year.

[Operator:]

Our next question is from J. Mintzmyer from Value Investor's Edge.

[J. Mintzmyer:]

Sam, Dick. It seems like we just talked a few weeks ago. So a quick turnaround here. I'm glad to see Q1 back on time. So look, Q1 was a difficult quarter. There's a lot of stuff going on. You had the COVID overhang. We had the Texas freeze. Obviously, a trough quarter. We're starting to see green shoots, as you mentioned. But I know there's a little bit of a lag effect in the way vessel revenues are recognized and layup costs come in and that sort of thing. Is Q1 going to be the trough to bottom here in terms of reporting EBITDA earnings or Q2? What's kind of the vector on this next quarter?

[Dick Trueblood:]

I think without making real solid predictions, I mean, I think what I said was in the last call that we may be kind of breakeven EBITDA for the first half of the year. And I don't think my opinion hasn't changed there that we will be about breakeven for the first half of the year. There is a lag, and our customers need to get to a point where they're willing to make commitments again. And we need to bring -- when they do that, we need to bring ships back into service. There will be a little lag because we'll need several weeks to accomplish getting them prepared to operate again. So you've got the sort of the cycle is enter into a contract, which will consume a certain amount of time all by itself and then follow-on that with the restoration of the ship to service and the preparing of that ship for service. So I think the likelihood is you'd see the performance really started to change in Q3 and thereafter.

[J. Mintzmyer:]

Yes. I think that makes sense. It's just important to have realistic expectations on this sort of thing. And it's looking really nice for Q3. So we're excited there. Can you give us an update on the related debt to your second international tanker, the Sun Coast? I know you repaid the debt associated with the Gulf Coast, just sold that one. How much is left directly against the Sun Coast?

[Dick Trueblood:]

In round numbers, about $23 million.

[J. Mintzmyer:]

$23 million. Okay. Good. I mean, hopefully, you'll be able to operate that one and look at the tanker security program expansion next year. But if not, it's good to see that there's a pretty nice equity cushion there. The MR values have improved nicely. Looking at your second half of this year, it's obvious that you're spending almost all your drydock costs front loaded. All the ballast water upgrades are front loaded. We're in the biggest trough of the market right now. Q3 is looking like we could shift to strong free cash flow mode. If your shares remain at these ridiculous valuations -- obviously, today, it's all about playing defense, but if these shares remain at these very low valuations in Q3 or Q4 and the free cash flow is very positive, are there any mechanisms you can pull to start to correct that? Is there any appetite for like a share repurchase or something of that manner?

[Sam Norton:]

We've been asked this question frequently in the past. My general opinion -- and this is my opinion, and everybody has differing opinions. But my general opinion is dividends in the shipping market or shipping companies that pay dividends, don't get much value for that because the market looks historically and says that shipping companies' capacity to maintain a sustained dividend in what is historically a pretty volatile and cyclical market is questioned. So you don't really get much value for paying a dividend, although large shareholders would probably like to get the seat of that money. It's also tax inefficient to do that. Share buybacks, yes, that's something that could be in the toolbox. But again, the volumes of our share on a daily basis, the trade and the limitations that we have in terms of regulation, in terms of how much shares we can actually buy in a buyback program, given those sort of daily averages, that takes a long time to kind of move the needle to be able to actually acquire significant numbers of shares. So I'm not certain that, that really works for us as well. So that leads me to believe that if the pretty picture that you paint that we return to a healthy surplus cash flow environment, if that materializes in the near term, the bias will probably be to direct money towards reduction of debt as a first order of priority. In theory, if your business like ours is valued as an enterprise value, then reducing debt has the same impact as whatever is buying back shares. Your equity value is going up on that calculation. It's delevering the business, reducing the risk level of the business to some extent. And also, it just generates more earnings for the company because we pay less interest expense. And so, as I said, I'm one voice in a room of people that have an opinion on that. But conversations that we've had in the past lead us in the short run to probably look at, focus on trying to delever the business a little bit more in the near term. I would say that we still believe that there are opportunities for us to deploy capital in assets that would generate incremental revenue, incremental cash flow. So the first priority would always be to try and look for opportunities to do that. Those opportunities are episodic. And we really don't have much control over the timing or the emergence of those. But there are opportunities to acquire like assets in our sector and there are opportunities, in my view, to start looking at sort of the evolution of shipping into whatever comes next and how we're going to be able to -- how we're going to be able to participate in that evolution. I'm talking about over the next 20 years, changes in propulsive systems, changes in the carbon footprint that our industry leaves. These are all larger issues that we're going to have to start dealing with in the next 5 years or so. And opportunities even that exist in adjacent spaces, maybe that have to do with renewable energy or new ideas about how energy would be produced and transported around the United States. And so those questions do come up and they exist on our longer-term agenda. So if there are opportunities to profitably deploy capital in those kind of areas, something that we would give regular consideration to.

[J. Mintzmyer:]

Sam, I appreciate the rundown there. Yes, but definitely a lot of different things you can look at for free cash. And first off, we just have to get there. So we're looking forward to Q3 and looking forward to that. The only frustrating thing here is that you guys trade -- if you normalize the EBITDA, you guys traded about 5x, 5. 5x enterprise value to EBITDA. Every single one of your peer comps, U.S. transportation, U.S. energy, logistics, whatever you want to slice and dice it, they're all 8x, 9x, 10x, 11x, right? And you guys are at 5x. So that's the only reason I really kind of harp on the repurchases. I know we're kind of in a defensive spot right now. And I do like hearing about debt reduction. So keep up the good work, and we're looking forward to a much better second half.

[Operator:]

As we have no more questions, this concludes our question-and-answer session. I would like to turn the conference back over to Sam Norton for closing remarks.

[Sam Norton:]

Thank you, Kate, and thanks again to everyone for participating on today's call. And we look forward to speaking with you again in August. We expect to be able to have better news to share with you then. Until then, wishing you all well. Thank you.

[Operator:]

The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.