Overseas Shipholding Group, Inc.
Q1 2017 Earnings Call Transcript

Published:

  • Operator:
    Good morning and welcome to the Overseas Shipping Holding Group First Quarter 2017 Earnings Conference Call. All participants will be in a listen-only mode. [Operator Instructions] After today’s presentation, there will be an opportunity to ask questions. Please note this event is being recorded. I would now like to turn the conference over to Sam Norton, President and CEO of OSG. Please go ahead.
  • Sam Norton:
    Thank you, Anita. Good morning everyone. Prior to beginning, our review of the past quarter, I would like to direct everyone to the narrative on Page 1 of the PowerPoint presentation available on our website regarding forward-looking statements, estimates and other information, which maybe provided during the course of this call. The contents of this narrative are an important part of this presentation and I urge to everyone to read and consider them carefully. With that important housekeeping matter having been dealt with, I would like to thank you all for joining us for our 2017 first quarter earnings call. It’s highlighted in our press release this morning, we had a solid first quarter start to 2017, despite challenging market conditions. Our ability to attain high utilization rates, which exceeded 95% across our fleet of vessels throughout the first quarter, helped to drive revenue in a deteriorating spot market environment. We also made progress in ongoing efforts to be more efficient with general and administrative costs, the impact of which helped sustain our bottom line results. Income from continuing operations for the first quarter was $5.4 million or $0.06 per diluted share, compared to a net loss from continuing operations of $8.7 million or $0.09 per diluted share, for the first quarter 2016. A platform to develop our natural businesses remained solid. Shuttle tankers in the U.S. Gulf Coast continue to contribute welcome cash flow stability. Our lightering vessels operating in the Delaware Bay performed ahead of plan, as imported crude volumes continued the fourth quarter trend. Additionally, results from our two tankers operating in the Maritime Security Program contributed to dampening the effects of market volatility in other areas of our business. Please turn to Slide 4 in the presentation. We reported adjusted EBITDA in the quarter of $36.2 million on TCE revenues of $102.3 million. We realized – we utilized some of our cash to accelerate the payment of $14.5 million in principal amount of outstanding debt, continuing to strengthen the capital structure of our company. Further, we announced an agreement with the SEC to fully resolve a previously disclosed SEC investigation. This agreement also resolved the last remaining claim in our bankruptcy case and allowed us to receive a final decree and order from the court closing our bankruptcy case. Please turn to Slide 5. As of March 31, 2017, we owned or operated a fleet of 24 vessels totaling an aggregate of approximately 1 million deadweight tons. Our fleet includes tankers and articulated tug barges of which 22 operate under the Jones Act and 2 operate internationally in the U.S. Maritime Security Program. The details of vessels owned and operated by OSG provided in Slide 5 provide a good reference point for considering the diversity that our portfolio of assets provides us. Ours is not a homogenous fleet of commoditized vessels. Rather it's a mix of assets, many of which operate within specialized niches that help us sustain higher-quality cash flows than what might otherwise be expected. Notwithstanding the mix of asset types illustrated in this chart, the company's revenues are highly sensitive to patterns of supply and demand. In the quarter, Jones Act trades, within which the majority of our vessels operate, demand factors for transportation have historically been affected almost exclusively by supply and distribution decisions of oil producers, refiners and distributor based in the United States. The rise and subsequent fall in demand for domestic crude oil transportation has in recent years added a new dimension to understanding traditional Jones Act trade. In fact, in the current market, the demand for transportation of domestically produced crude oil is an important swing factor in determining the balance between available vessel supply and the overall transportation demand. Please turn to Slide 6. We reported adjusted EBITDA in the quarter – sorry my bad, between 2012 and 2015, increased availability of shale oil produced in Texas created a new market of Jones Act transportation as the then ban on export of U.S. produced crude oil and the discount to international benchmark crudes that arose as a result of that ban created strong economic incentives for U.S. East Coast refineries to utilize domestically produced light shale oil as their primary feedstock. This demand was serviced both by rail and by increased utilization of Jones Act tonnage. As noted in earlier presentations, this dynamic reversed in 2016 as lower domestic production, coupled with a lifting of the crude oil export ban, caused the East Coast refiners to ship their feedstock preference back to internationally supplied crude oil. Demand for coast-like transportation of crude oil declined, causing vessels previously engaged in these trades to switch back to transporting refined petroleum into traditional Jones Act trade. This development is the primary driver of the current condition of excess supply, declining utilization and lower day rates in our core business segments. As indicated in the charts on Slide 6, domestic crude oil production has recovered nearly 600,000 barrels per day from a low reach last summer. Forecasts are for production to increase by further 500,000 to 700,000 barrels per day over the balance of 2017. To-date, much of this increased production has been exported, mainly to China. Whether this trend continues or whether revised demand for Jones Act movements will be seen in the coming months is an important question in trying to understand how our markets will develop over the coming year. Key to understanding this question is the relative price differentials of U.S. produced crude oil and refined petroleum products as compared with comparable product sourced from or destined for foreign markets, including the cost of transportation on international flag vessels to or from these markets. Please turn to Slide 7. During 2016, the decline in the use of U.S. crude feedstocks by East Coast refineries led to a decrease in demand for coast-like transportation for domestic crude oil. The narrow price spread between Brent and WTI made it more attractive for U.S. Northeast refineries to import foreign crude. The fourth quarter 2016 figures that appear in the chart on Page 7 suggested over 90% of daily East Coast refining capacity was served by imported crude during that period. Interesting to note is that this trend may have shifted during the first quarter of 2017. Whether the decline in imports is a fashion of inventory management at the East Coast refineries or a reflection of changing pricing dynamics that might begin to favor the use of U.S. crude at these refineries has implications on the Jones Act trade. Brent-WTI price spreads have widened out to close to $3 a barrel, a differential which on paper should begin to induce a shift in procurement patterns. Expectations are that increased supply of shale oil available in the U.S. Gulf over the balance of this year should continue to impact this trend. A revival of coastwise demand, the transport of crude oil in the United States would be a favorable development for our business and bears watching. Clearly, the markets for international tanker rates, as well as the relative pricing of other international benchmark crudes, will also have an impact on the story line. So the multivariable calculus that goes into refinery procurement decisions will continue to make a complex math problem to resolve with any degree of confidence. In this environment of heightened uncertainty, we nonetheless consider obtaining the stability of cash flow offered by time charters to be a fundamental characteristic of the objective of our chartering approach. As such, we intend over time to pursue an overall chartering strategy that seeks to cover the majority of available vessel operating days with medium-term charters. Notwithstanding the aspirations of our chartering party – policy, medium-term charters will not always be remunerative nor proved achievable under certain market conditions. As such, during periods of uncertainty in the markets within which we operate, more of our vessels will be exposed to the more volatile and less predictable spot market. A corresponding impact on the visibility and the amount of revenue, which our vessels may earn, can be expected. At this time 64% of our expected tanker revenue days and 42% of expected vessel revenue days for our ATBs are covered for the balance of 2017. Offsetting our rising exposure to the spot market, we have maintained continued fixed contractual cover and are experiencing increasing additional volumes handled by our Delaware Bay lightering assets. As a reference point, lightering volumes averaged 172,000 barrels a day for the first quarter, up 64% compared with the same period in 2015. Further protection from the spot marks can be found in our two non-Jones Act tankers that operate in the U.S. Flag international market under the Maritime Security Program, the only tankers in the 60-ship MSP program. The Maritime Security Program is another U.S. government-sponsored program to encourage U.S. Flag operation with U.S. crew and U.S. compliance and features. The ships are not built in the United States, which is why they are distinguished from our Jones Act vessels. Beginning in 2017 in the MSP program, Congress has approved an increase in the annual fees applicable to these vessels from $3.5 million to $5 million. Last week, the bill appropriating these funds were signed into law, confirming the availability of these funds retroactive to October 1, 2016. These MSP vessels service a contract of affreightment with the government of Israel which accounts for approximately 60% of their available days and extends through 2020, further improving the visibility of our forward revenue streams. I will now turn the call over to Chris Wolf to provide additional details on our first quarter results.
  • Chris Wolf:
    Thanks, Sam. Good morning, everyone. Now let's review the first quarter 2017 results in more detail. Please turn to Slide 9. TCE revenues for the first quarter of 2017 were $102.3 million, a decrease of $9.9 million or 8.8% compared to the first quarter of 2016, primarily due to lower average daily rates earned by our Jones Act tankers and Jones Act rebuilt ATBs. Excluding Delaware Bay lightering TCE revenues, TCE revenues declined by $12 million, of which $10.9 million was due to lower average daily rates. This decrease in TCE revenues was partially offset by a $2 million increase in Delaware Bay lightering revenues, which was driven by increased volumes that Sam touched on earlier. Shipping revenues were $108.1 million for the quarter, down 6.1% compared to the first quarter of 2016. The decrease in shipping revenues were also driven by lower charter rates. Moving to Slide 10, first quarter 2017 adjusted EBITDA was $36.2 million, down 11.2% from $40.7 million in Q1 of 2016. The decrease was driven primarily by the decline in TCE revenues discussed previously, partially offset by a $4.7 million reduction in G&A expense in the current period. As Sam discussed earlier, we have been very focused on reducing general and administrative costs. Some of this decrease is a result of emerging from bankruptcy and from completing the spin-off of INSW, both of which reduced legal and other professional fees compared to last year. But we have made real cost reductions in other areas of overhead, including compensation, consulting, rent and insurance which has reduced expense and added to the bottom line. Adjusted EBITDA margin was 35.3% of TCE this quarter compared with 36.3% for Q1 of FY2016. For the trailing 12 months ended March 31, 2017, adjusted EBITDA was $171.6 million or 39.3% of TCE compared to $169.5 million or 37.7% of TCE for the trailing 12 month period ended March 31, 2016. Moving to Slide 11. Income from continuing operations for the first quarter was $5.4 million compared to a loss from continuing operations of $8.7 million for the first quarter of 2016. In addition to items previously discussed, the current period saw a decreased depreciation expense on vessels and reduced interest expense on lower outstanding principal balances. In addition, tax expense in the current period was lower relative to last year mainly because of the recording of a deferred tax liability in the first quarter of 2016 on the unremitted earnings of International Seaways. Net income for the current year quarter was also $5.4 million compared to net income of $50.7 million for the first quarter 2016. The prior year period included income from INSW of $59.4 million, which is accounted for as discontinued operations. Please turn to Slide 12. Let's discuss the major changes in cash for the quarter. Moving from left to right on the chart, we ended 2016 with total cash of $206.9 million, which included $15.8 million of restricted cash. During Q1, we earned $36.2 million of adjusted EBITDA from continuing operations. We received a $3.7 million cash distribution from our equity investment in Alaska Tanker Company. In addition, we spent $730,000 in the current quarter on drydocking. Cash interest paid during the current quarter on the term loan and the notes totaled $9.3 million. Pursuant to the terms of our settlement with the Securities and Exchange Commission, we made a payment of $5 million to the SEC. Reductions in working capital and other were $12.9 million, this includes changes in receivables, accounts payable, accrued expenses and deferred revenue. Last item I'll point out is that during Q1, we repurchased and retired $14.5 million of the 8 1/8% 2018 notes. The effect of these changes was we ended the quarter with approximately $204.4 million of cash, including $6.3 million of restricted cash. Let's turn to Slide 13. Continuing our discussion of cash and liquidity, as we mentioned on the previous slide, we had $204.4 million of cash at year-end, including $6.3 million of restricted cash. Our total debt, unreduced for unamortized discounts and deferred costs related to the term loan and bonds of $11 million, is $523 million, consisting of $455 million of the term loan and $68 million of bonds. We also have a $75 million revolver, which is presently undrawn. Combining our undrawn revolver with unrestricted cash, we had $279 million of liquidity at quarter end. With $259 million of equity, our net debt-to-equity ratio is 1.3x. Our total net leverage at March 31, 2017, was 1.5x our trailing 12-month adjusted EBITDA. Finally, we are not subject to any mandatory amortization on our term loan, and we don't expect to have to make any required payments under the term loan in 2017. And with that, this concludes my comments on the financial statement. I'd now like to turn the call back to Sam for his closing comments.
  • Sam Norton:
    Thank you, Chris. Please turn to the final slide of the presentation, Slide 14. We are facing progressively uncertain market conditions as the year unfolds, but niche businesses, like our shuttle tankers, Delaware Bay lightering and Maritime Security Program, help provide stability in the face of increased market volatility. While we believe we have a diversified portfolio of assets that will allow us to manage through the current market cycle, we are keeping a close eye on the variables that will drive feedstock procurement decisions among U.S. refiners, which will have important consequences in determining transportation demand at the margins. Developments in this respect could well be a driver of short-term volatility in spot and longer-term charter rates with Jones Act vessels, with important implications on results achieved by vessels becoming open to spot rates in the coming months. We believe we are well positioned to respond to developing market trends and to build on the company's strength, address future growth opportunities and drive shareholder value. We will now open the call up for questions. Operator?
  • Operator:
    We will now begin the question-and-answer session. [Operator Instructions] Our first question comes from George Schultze with Schultze Asset Management. Please go ahead.
  • George Schultze:
    Hey, good morning, gentlemen. Thanks for taking my question. I had a question about capital allocation. I noticed that your former parent or maybe your former subsidiary, I forget which it is, today in their press release say they have announced a $30 million share repurchase program. And I'm curious if you folks have looked at the same potential opportunity, given where your stock price is trading these days.
  • Chris Wolf:
    Yes, thanks. This is Chris. I'll take a shot at that. I think we spoke last quarter about where we're allocating capital. Right now we are focused on growing the business organically and looking at opportunities that may be outside of organic growth as well. We think there's opportunity out there. So we are looking at that and looking primarily to invest in the business. Also, we do have some debt that comes to due at the end of the year in the form of the bonds, the 2018 bonds. And I think as I've mentioned previously, we have a unique feature in our revolver that if we want to keep our revolver outstanding, that we need to redeem the bonds by the end of December 2017, which is a few months earlier. So we are looking at the debt side as well. Now having said that, we do constantly evaluate where we are in our capital structure, and that's part of an ongoing focus. We do have a history of doing share repurchases. So I think it is something that the board does look at periodically. And so we are looking at all things at this time. So – but as you're aware, at this time, we really haven't been active in the market. But it's something we constantly consider. And if it makes sense and the board decides under their prerogative that they want us to do that, we will go ahead and do that.
  • George Schultze:
    Okay. Thanks and just one follow-up question regarding – actually, it's regarding the capital markets again and the stock. I noticed that for your company, it's one of the few that I follow, that Wall Street analysts have sort of zero expectations or knowledge of what to expect in terms of future revenues and EBIT and EBITDA trends. And as a result, there are no forecasts available. There are no consensus expectations on Wall Street for your stock. I wonder if that may have an influence on where your stock price is currently trading. And if so, whether you plan to give a little bit more transparency to analysts that may be covering your stock in terms of future expectations.
  • Chris Wolf:
    Sure. This is Chris. I'll start there and Sam probably have some color on this as well. So we have, just as you know, completed the spin in – at end of November. So we are pretty young at this and just getting started out. I think we have been talking to folks, both on the sell-side and the buy-side, and we are trying to create interest in the stock obviously there. So we are working at that. I do think that as a pure-play Jones Act company, there is limited understanding, and I think people have – in other shipping companies, they might have that as a piece of their business and it's part of it. So we are a little bit of a niche business, and so there is a little bit of education that's going on there. But we are trying to get the message out, and we were trying to cultivate some interest. So we're very sensitive to that, as you can imagine. As far as guidance is concerned, and maybe Sam would add a little color here, but I think since we are just starting out a little bit, and as Sam has made a lot of comments that we are in a period of uncertainty, I think our view here has been to be a little bit conservative because it is somewhat of a rapidly changing market. So it does make forecasting a little bit more challenging for us. Having said that, we're well aware of that, and as we spend a lot of time internally thinking about it, there is a way to get that message out and to cultivate that. So getting input from folks like you is very helpful and something we will clearly consider.
  • George Schultze:
    Okay.
  • Sam Norton:
    If I can just add some color to that, George. The – I think that the past presentations will reflect the fact that my own characterization of the Jones Act market is that in normalized periods, it should be a market that is defined by medium-term charters of the core group of companies providing distribution capacity for the oil refiners and producers. And that, that kind of market will lend itself to a higher degree of visibility of forward cash flow and, therefore, make a degree of visibility for that forward cash flow a lot easier to address. The current condition in the market is a bit of an aberration from historical trends. There is – there was a response to increased crude production that increased availability of vessels that were constructed in United States over the last three or four years. And that market is – has changed. The lifting of the export ban has fundamentally changed the direction of where that crude is heading. And so now the market is in the period of adjustment. Now one or two things will happen over time, or a combination of both
  • George Schultze:
    Okay. Thanks. I had just one last question and thanks for your time with me today, about the company's NOL. Can you give us an updated approximate value of the NOL?
  • Chris Wolf:
    Yes, right now, I believe it is just over $300 million at gross cost. That's not tax affected. That's the actual carryforward itself, right? So we'll be tax affected. I'd have to check the rate on the exact – how much it's sitting on as the deferred tax asset, but that's the approximate NOL carryforward.
  • George Schultze:
    Okay. And are there any restrictions on it? Or is it available to offset future income unrestricted?
  • Chris Wolf:
    There are some caveats there. It is technically subject to under the Internal Revenue Code Section 382 limitations, which do limit the utilization of it. However, we have built up enough years, if you will, in the net operating loss that we don't believe that is a deterrence, if you will, that would affect utilization of the NOL. One thing I do want to point out is that it's – there is a different net operating loss for alternative minimum tax, and we will likely find ourselves in an alternative minimum tax situation this year, even though it's not – well, I would consider it less material than regular income tax. So I do want to make sure that people understand that we will pay some current federal primarily on the expectation that will be in AMT. The other thing I wanted to point out is that we do have various state net operating losses, but not in all states that we file in. So there will be certain tax liabilities on uncertain states because we don't have the same net operating loss carryforwards at the state level.
  • George Schultze:
    Okay. Well, thank you very much gentlemen.
  • Chris Wolf:
    Great. Thank you.
  • Operator:
    [Operator Instructions] Our next question comes from Thomas Sweeney [ph] with Sweeney Holdings. Please go ahead.
  • Unidentified Analyst:
    Yes, good morning guys. Can you tell me how much your 2018 bonds you plan to pay off at the end of the year? I haven't followed your company before. That's number one. And number two, if you have normal earnings, and I realize they're pretty low. Will you be able to pay down or reduce your net debt by $14 million, $15 million per quarter, maybe more because you had the $5 million SEC settlement moving forward? Thank you.
  • Chris Wolf:
    Let me start there and – this is Chris, and see if I can answer that. Bonds all in, we're about $68 million. I think fewer than $2 million of it relates to the 2021 and 2024 bonds. So the bulk of it are the 2018 bonds. So I think the answer here is that there's an expectation that we will be deal with those before year-end, before December 29. However, there are multiple courses of action that we can go there, so I just want to advise or caution folks that redeeming the bonds is really just one avenue. We can go out. We can make repurchases periodically. We might choose to refinance our whole capital structure. So I want to be careful about making the presumption that it's going to be – we're going to take all the bonds out by repurchase at the end of the year. That's clearly an option, but it's one of several options. I want to point that out. But we do, if we do want to keep the revolver, we do have to make some accounting for it by year-end. So I want to be clear there. Going back on the debt repurchase there, we have been opportunistic historically, and we'll continue to look at that. I did – part of what I did want to go back and say kind of to reiterate what I said earlier, we are looking at things in the business as well, and that will dictate where we go. But I would expect that periodically, that we – I don't want to give a definitive number each quarter, but we will be opportunistic on repurchases of both the term loan and the bonds.
  • Unidentified Analyst:
    Okay, very good. And last thing, can you give us a feel on how you would rank reducing your debt, reducing your net going forward versus expanding your fleet and any other things that might pop up?
  • Sam Norton:
    So reiterating comments made earlier by Chris, I think that our view, our very strong view is that we would give a higher preference to reinvesting in the business. We think that the platform that OSG provides within the U.S. Flag market is a relatively unique platform and one that, over time, will generate premium returns due to the characteristics of that market that have been touched on many times in the past. The period of transition that we are currently entering into is, in our view, at it's early stages. A number of assets that we consider to be interesting assets still have contractual cover that date back to periods of boom in the market, 2014, 2015. And we're only entering in the early stages of the run off of those contracts, which would, at least on paper, give rise to opportunities and looking at alternatives to the current asset base that we have. So we'd like to keep our powder dry, so to speak, so that we are well positioned to participate in opportunities that we consider will be available in the months and years ahead. And that will be the primary focus of our capital decisions. Clearly, if we don't see opportunities, or over time we feel that our resources exceed the amount that we think are prudently necessary to be able to satisfy our expectations for those opportunities, then we will look to do other things with our cash so that we can be prudent and efficient in the use of our capital.
  • Unidentified Analyst:
    Thank you very much for taking my two questions and for holding the conference call and great presentation. Thanks.
  • Operator:
    The next question comes from Melinda Newman with TCW. Please go ahead.
  • Melinda Newman:
    Good morning, just a quick question, regarding your thoughts about Jones Act tanker fundamentals and shifting patterns for U.S. productions. So U.S. crude production is up. I know, generally there's been a good relation – Eagle Ford has been a good driver. But now we are talking more about crude from West Texas and Oklahoma, so probably not going to see the rebound as much in Eagle Ford. How do you – can you talk about the difference between how the Permian will impact Jones Act tanker volumes versus Eagle Ford. Thanks.
  • Sam Norton:
    Thank you, Melinda. I'll give a shot at it although I refer to my earlier comments that a multivariable calculus, it's difficult to solve as a math problem, and I think that's the right analogy. The procurement decisions of refineries in the United States run in a true – today, in a truly competitive and international market. There's all kinds of factors that bear on the price differentials between international benchmark crudes and U.S. crudes as well as the lubricant of – affecting the trades of those feedstocks are the rail and transportation costs, both Jones Act versus international, as well as interest costs and other factors that bear in the total delivered price of a feedstock. With that sort of overview, I would say that based on our understanding of the developments in the U.S. crude production market, expectations are that production will increase progressively over the year, both out of Permian and Eagle Ford. But as well, crude produced in the Bakken region in North Dakota will progressively have access to the Gulf Coast markets through the opening of the Dakota Access Pipeline. And all of that light tight oil or shale oil will progressively find its way into the Gulf Coast for utilization either through export or through transportation to the East Coast. It is the considered opinion of most analysts that we talk to that the refining capacity of the complex Gulf Coast refineries to process light tight oil is at/or nearly at its capacity and, therefore, excess light tight oil that flows into the Gulf Coast region will be in excess to local demand and will need to find an outlet for marketing and realizing the value of that crude. As I said earlier in my comments, in February and March, it was quite clear that, that outlet was in the export markets. I believe there were anecdotally 20 to 30 VLCCs that loaded out of the Gulf during the first quarter of this year, carrying crude oil that was domestically produced to mostly Chinese market. My understanding was that was the result primarily of price differentials that arose because of maintenance cost on the Siberian pipeline so that the ESPO crude price relative to the U.S. crude price elevated and created an arbitrage for that crude. Expectations – the pipeline servicing has now been completed, and so expectations are that price differential will now come back in line with normal factors. So there's a big question right now as to where that – the excess crude that will likely build up in the Gulf Coast will go over the second half of this year. As I said earlier in my comments, the differential of WTI to Brent benchmark crudes of about $3 a barrel, which is right about where we are right now. That should be sufficient to begin to focus some of the procurement decisions of the East Coast refineries on utilization of light tight oil in the Gulf of Mexico in – as an alternative to the Nigerian crudes, which is where they've been buying crude for the last six or eight months. But all of those factors are dynamic
  • Melinda Newman:
    Thanks.
  • Operator:
    This concludes our question-and-answer session. I would like to turn the conference back over to Sam Norton for any closing remarks.
  • Sam Norton:
    Okay. So I just want to thank everyone for joining us on our call today. We are continuing to establish ourselves as the new OSG with our primary focus on U.S. businesses, U.S. Flag businesses. We look forward to continuing this dialogue in future quarters and delivering satisfactory results as we try and build and grow our business into the future. Thank you very much.
  • Operator:
    This conference has now concluded. Thank you for attending today's presentation. You may now disconnect.