Overseas Shipholding Group, Inc.
Q2 2017 Earnings Call Transcript

Published: 9 Aug 2017

[Operator:]

Good morning and welcome to the Overseas Shipholding Group Second Quarter 2017 Earnings Conference Call. All participants will be in a listen-only mode. [Operator Instructions] Please note this event is being recorded. At this time, I would like to turn the conference over to Sam Norton, President and Chief Executive Officer. Please go ahead, sir.

[Sam Norton:]

Thank you, Denise. Good morning everyone. Prior to beginning our review of the past quarter, I would like to direct everyone to the narrative on Pages 1 and 2 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 everyone to read and consider them carefully. We will be offering you more than just an historical perspective on OSG today and our presentation include forward-looking statements, including statements about future results. These statements are subject to uncertainties and risks. Actual results may differ materially from projections and could be affected by a variety of risk factors, including factors beyond our control. For a discussion of these factors, we refer you specifically to our annual report on Form 10-K for the fiscal year ended December 31, 2016, our Form 10-Q for the first quarter and our other filings with the SEC, which are available at the SEC’s Internet site, www.sec.gov as well as our own website www.osg.com. Forward-looking statements in this presentation speak only as of the date of the used materials and we assume no obligation to update forward-looking statements or the reasons why actual results could differ. In addition, our presentation today includes certain non-GAAP financial measures which we define and reconcile to GAAP in our filings with the SEC. I would like to acknowledge and to welcome the participation on this call of Dick Trueblood, our recently appointed Interim CFO, who brings to OSG a wealthy prior experience in the CFO role. Dick has acclimated extremely quickly in the week since taking a seat here and appreciation for the work that he has done in heading efforts to complete and present our most recent results is deservedly due. Please turn to Slide 4. I would like to thank you all for joining us for the 2017 second quarter earnings call. We appreciate the opportunity to provide added depth and perspective to our written public disclosures. As highlighted in our press release this morning, the progressive and anticipated transition of our vessel assets away from legacy time charter contracts to the spot market has begun to show through in our financial results. Time charter equivalent earnings for the second quarter of 2017 declined sequentially from the first quarter by $11.3 million and nearly 21% from the comparable period of 2016 as more vessels competed in the challenging spot market. As of the end of June, OSG had 4 of our conventional tankers and 4 rebuilt ATBs seeking cargoes in the spot markets. A further ATB has been taken out of service and placed in lab. Broker reports indicate that a total of 29 spot fixtures for tank vessels in excess of 150,000 barrels were concluded during the second quarter, 10 crude oil movements and 19 fixtures to transport refined products. OSG vessels covered 15 of those voyages or 52% of the total. Notwithstanding the apparent success and competing for and securing available spot cargoes, declines in both nominal spot rates and effective utilization factors negatively impacted top line results. For our ATB fleet in particular, a sharp decline in utilization rates to around 55% of available vessel days, time charter equivalent earnings for the quarter at below breakeven cash rates, clearly an unsustainable condition. TCE results for our conventional tankers were as well disappointing, although the timing of revenue recognition on what was effectively a backhaul voyage performed by the Overseas Houston returning from the U.S. to the U.S. from the Mediterranean skewed these results. It is important to reiterate that strategically we consider attaining the stability of cash flow offered by time charters to be a fundamental characteristic of the objectives of our charter approach. Over time, we continued to pursue an overall chartering strategy that seeks to cover the majority of available vessel operating days with medium term charters. Nonetheless, medium term charters will not always be remunerative nor prove achievable under certain market conditions. As such we accept that 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 66% of our expected tanker revenue days and 48% of expected vessel revenue days for our ATBs are covered for the balance of 2017. Considerations about the appropriate amount of capacity remain active in the spot market on a regular management discussion point. As the data suggest, we are exposed currently to the spot market than any of our competitors. Balancing supply availability in an uncertain demand environment is a persistent challenge, but one that as noted earlier, we have chosen consciously to accept. Tactically – operator can you just pause for a minute.

[Operator:]

Certainly. Ladies and gentlemen, we will pause for one moment. I will place music back on. You are ready, thank you.

[Sam Norton:]

I had a technical [indiscernible], I apologize everyone. Considerations about the appropriate amount of capacity remain active in the spot markets from a regular management discussion point. As the data suggests, we are more exposed currently to the spot market than any of our competitors. Balancing supply availability in an uncertain demand environment is a persistent challenge, but one that as noted earlier we have chosen consciously to accept. Tactically, we feel that OSG has both the necessary liquidity and the appropriate asset mix to accept this challenge. In essence we consider the cost of acquiring short-term cash flow visibility at what are today sustained loss making rates as being too high when measured against the asymmetrical potential upside benefit of being positioned for an earlier than anticipated recovery in rates. Measured against a declining top line we consider the cash flow generated by our operations during the second quarter have been very solid. Material progress and ongoing efforts to be more efficient with general and administrative costs as well as efforts to streamline some of our vessel operating costs have contributed to helping sustain our bottom line results. Income from continuing operations for the second quarter was $3.4 million or $0.04 compared per diluted share compared to a net loss from operations of $4.2 million or $0.04 per diluted share for the second quarter of 2016. General and administrative costs for the quarter dropped to $6.3 million, a 23% improvement over the first quarter of 2017 and a 45% reduction over second quarter of 2016. Over the first six months of 2017, we have achieved nearly $10 million reduction in general and administrative expenses compared to 2016 and 40% year-on-year improvement. While we have accomplished much in right sizing administrative cost structure of our business, we consider there is still room for improvement and hope to achieve our visions and realizing further efficiencies in the quarters that lie ahead. Complementing our approach to cost discipline, we want to continue to highlight the three differentiated niche operations that we are confident will play an important continuing role on the future development of our business as we transition through the cyclical downturn in our more conventional tanker and ATB markets. Shuttle tankers operating in the U.S. Gulf Coast continued to contribute welcome cash flow stability. These purpose-built assets provide a critical logistics function in the value chain of the offshore production units, which they reliably serve. The continued high level operational performance of these assets underscores OSG’s commitment to providing safe and environmentally responsible service to our customers. Our lightering vessels operating in the Delaware Bay once again performed ahead of plan, as imported crude volumes continued to provide steady and profitable business for these assets. Lightering volumes averaged 174,000 barrels per day during the second quarter. Time charter equivalent returns for each of our two lightering vessels once again approached $70,000 per day during the second quarter. While it dropped from what we achieved during the extremely active first quarter, the 6-month time charter average for each of these two assets was still a very strong $72,137 per day. Finally, our two tankers operating in the Maritime Security Program dampened the effects of market volatility in other areas of our business by contributing over 10% of EBITDA during the quarter. Beginning in fiscal 2017, Congress has approved an increase in annual fees applicable to these vessels from $3.5 million to $5 million. The bill appropriating these funds was signed into law during the second quarter confirming availability of these funds retroactive till October 1, 2016. We realized the benefit of this retroactive increase fully during the past quarter. The combined impact in the stabilizing effect of our niche businesses and our focus on attaining available cost efficiencies allowed us to report adjusted EBITDA in the quarter of $29.6 million on TCE revenues of $91 million. As has been the case in recent quarters, we utilized some of our cash to accelerate the payment of $4.6 million in principal amount of outstanding debt and to increase our cash reserves continuing to strengthen the capital structure of the company. We ended the quarter with $205 million of unrestricted cash and $75 million of undrawn availability under our existing revolver facility. Please turn to Slide 5. As of June 30, 2017, we owned or operated an active fleet of 23 vessels totaling an aggregate of approximately 1 million deadweight tons. Our active fleet includes tankers and articulated tug barges, of which 21 operate under the Jones Act and 2 operate internationally in the U.S. Maritime Security Program. 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 distributors 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 underlying – to understanding traditional Jones Act trades. As noted in previous quarterly communications, the demand for transportation of domestically produced crude oil is today an important swing factor in determining the balance between available vessel supply and overall transportation demand. Early stages of the shale oil production boom created a new market for Jones Act Transportation and induced a supply side response in the form of active newbuilding programs intended to service was anticipated to be a sustained demand for coast-wide crude oil transportation. This demand surge was worst in 2016 as lower domestic crude oil production, coupled with a lifting of the crude oil export ban resulted in a dramatic decline in demand for coastwise transportation of crude oil. Vessels previously engaged or contracted to be engaged in these trades were compelled to switchback to transporting refined petroleum in the traditional Jones Act trades. This development is the primary driver of the current condition of excess supply, declining utilization and lower day rates in our core business segment. We continue to believe that there exists latent demand for return of some of the crude transportation demand that has disappeared over the past 18 months. A revival of coastwise demand for transport of crude oil in the United States would be a favorable development for our business and bears watching. Key to understanding this potential demand catalyst is relative price differentials of U.S. produced crude oil as compared with internationally sourced crudes including the cost of transportation on international flag vessels from foreign markets. Expectations are that increased supply of shale oil available in the U.S. Gulf over the balance of this year should result in a widening of WTI-Brent spreads from current levels. A byproduct of widening price spread, if it were to materialize, would be to make crude oil available in the U.S. Gulf Coast marine terminals a cost effective option for East Coast refineries. A round voyage from Texas to Philadelphia takes 14 days. Any movement in feedstock decisions favoring Gulf Coast supply over competing international crudes would thus result in a meaningful increase in ton-mile demands with Jones Act tank ships and a sizeable draw on available Jones Act capacity. A favorable spot rate development in the short-term could be expected if this were to occur. We consider the existence of further potential catalyst demand to demand side surprises as support of our view to stay the course on maintaining our spot vessels with short employment durations. Whether as a result of unanticipated geopolitical development and unforeseen disruption in conventional production and distribution infrastructure where a longer term shift in supply patterns that are currently accepted is being unchangeable, experience suggest that variables which impact our market rarely remains stat. Further, history has taught us to respect the musings of former Defense Secretary, Donald Rumsfeld whose characterization of the world’s unknown unknowns as being the most impactful of all it equally is applicable to the energy markets as it is the management of defense policy. I will now turn the call over to Dick to provide additional details on our second quarter and year-to-date results.

[Dick Trueblood:]

Thanks Sam. Good morning everybody. Let’s move directly to reviewing the second quarter 2017 results in more detail. If you would turn to Slide #7, TCE revenues, time charter equivalent revenues for the quarter totaled $91.1 million, a decrease of $23.6 million or 20.6% compared with the second quarter of 2016. TCE revenues sequentially declined to 11% from 2017 first quarter resulting in first half 2017 TCE revenues of $193.4 million. This represents a 14.8% decline from the first half of 2016. The decline was primarily driven by lower daily rates earned as we experienced the continuing shift to a greater proportion of spot market activity for our Jones Act tankers and Jones Act rebuilt ATBs. Lower daily rates accounted for $21.9 million of the decrease in Q2 2017 TCE revenues. More than half of this Q2 2017 TCE revenue decrease was attributable to our rebuilt ATBs. TCE revenues for the ATBs declined by $12.7 million year-over-year, the daily TCE rate for ATBs this quarter was $20,539 compared to $37,134 in the second quarter of 2016. TCE revenues sequentially declined 11% from the first quarter resulting in the first half against TCE revenues of $183.4 million. If we move to Slide 8, second quarter 2017 adjusted EBITDA was $29.6 million, down 35.7% from $46 million in Q2 of 2016. These decreases were driven primarily by the decline in TCE revenues discussed previously, partially offset by a reduction in G&A expense in the current periods that Sam previously discussed. As a company, we continue our strong focus on reducing general and administrative costs as well as other operating 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. However, there have been real cost reductions in other areas of overhead, including compensation, consulting, rent and insurance, which has reduced expense and added to the bottom line. We experienced EBITDA margin compression during the quarter as our margin was 32.5% of TCE this quarter compared to 40.1% for Q2 FY ‘16. For the 6 months ended June 30, 2017, adjusted EBITDA was $65.7 million or on a margin rate 34% of TCE compared to $86.7 million or 38.2% of TCE for the first half of 2016. Moving to Slide 9. Income from continuing operations for the second quarter was $3.2 million compared to a loss from continuing operations of $4.2 million for the second 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 resulting from recording a deferred tax liability in the second quarter of 2016 on the un-remitted earnings of International Seaways. Net income for the current year quarter was also $3.2 million compared to net income of $29.9 million for the second quarter of 2016. It’s important to note that the prior period included net income from INSW of $34 million, which is accounted for as discontinued operations. Please turn to Slide 10. Moving from left to right on the chart, we ended the second quarter of 2017 with total cash of $204.4 million, which included $6.3 million of restricted cash. During Q2, we earned $29.6 million of adjusted EBITDA from continuing operations. We spent $2.6 million on drydocking and improvements to our vessels. Cash interest paid during the current quarter on the term loan and the notes equaled $9.5 million. Reductions in working capital and other were $6.8 million. This includes changes in receivables, accounts payable, accrued expenses and deferred revenue. During the second quarter, we repurchased and retired $4.6 million of the 8 1/8% 2018 notes. As a result of these changes, we ended the quarter with $210.5 million of cash, including $5.9 million of restricted cash. Please turn to Slide 11. Continuing our discussion of cash and liquidity, as we mentioned on the previous slide, we had $210.5 million of cash at June 30, 2017, $5.9 million of which is restricted. Our total debt is $519 million consisting of $455 million of the term loan and $64 million of bonds. We also have an unused $75 million revolver. If you combine the revolver with the total cash, we had $283 million of liquidity at June 30, 2017. With $264.3 million of equity, our net debt-to-equity is 1.2x. Our total net leverage at June 30, 2017 was 2x our trailing 12 months adjusted EBITDA. We are not subject to any mandatory amortization on our term loan and we don’t expect to make any required payments under the loan in 2017. This concludes my comments on the financial statements. I would now like to turn the call back to Sam for his closing comments.

[Sam Norton:]

Thanks, Dick. Please turn to the final slide of the presentation, Slide 12. We continue to face progressively difficult market conditions in our conventional tanker and ATB markets, but niche businesses, like our shuttle tankers, Delaware Bay lightering and participation in the Maritime Security Program, help provide a solid platform to accept the consequences of reduced earnings visibility and increased 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 and potentially other triggers of demand for Jones Act vessels could accelerate resolution of the current excess of supply. Generally, we consider the market in real terms to be tighter than what appears on a static analysis. Restoration of sustainable spot and longer term charter rates for Jones Act vessels could well arrive sooner than current consensus thinking, a development which were to occur would have important implications on the value proposition embedded in OSG’s business model. 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 to questions. Operator?