SFL Corporation Ltd.
Q1 2021 Earnings Call Transcript

Published: 13 May 2021

[Operator:]

Good day, and thank you for standing by. Welcome to the Q1 2021 SFL Corporation Earnings Conference Call. . I would now like to hand the conference over to your speaker for today, Ole Hjertaker. Thank you. Please go ahead.

[Ole Hjertaker:]

Thank you, and welcome all to SFL's first quarter conference call. I will start the call by briefly going through the highlights of the quarter. And following that, our CFO, Aksel Olesen, will take us through the financials, and the call will be concluded by opening up for questions. Before we begin our presentation, I would like to note that this conference call will contain forward-looking statements within the meaning of the U.S. Private Securities Litigation Reform Act of 1995. Words such as expects, anticipates, intends, estimates or similar expressions are intended to identify these forward-looking statements. Forward-looking statements are not guarantees of future performance. These statements are based on our current plans and expectations and are inherently subject to risks and uncertainties that could cause future activities and results of operations to be materially different from those set forth in the forward-looking statements.

[Aksel Olesen:]

Thank you, Mr. Hjertaker. On this slide, we have shown a pro forma illustration of cash flows for the first quarter. Please note that this is only a guideline to assess the company's performance and is not in accordance with U.S. GAAP and also net of extraordinary and noncash items. The company generated gross charter hire for approximately $135 million in the first quarter with approximately 84% of the revenue coming from our fixed charter rate backlog, which currently stands at $2.4 billion, providing us a strong visibility on our cash flow going forward. During the first quarter, the liner generated gross charter hire of approximately $74 million, including approximately $2.4 million in profits with contribution related to fuel savings on some of our large container vessels. Of this amount, approximately 95% was derived from our vessels on long-term charters. SFL's backlog currently stands at approximately $1.9 billion with an average remaining charter term of approximately 4.5 years or approximately 7.5 years, if weighted by charter hire. With the recent acquisitions and charter extends in the liner segment, more than 75% of our total backlog is to the world's leading container shipping lines and automobile manufacturers.

[Operator:]

. And we now have our first question that comes from the line of Randy Giveans from Jefferies.

[Randall Giveans:]

All right. So looking at your fleet here, you've done a few acquisitions, mainly on the car carrier side. You also bought the 5,300 TEU from Maersk. At these levels, kind of are you interested in buying or selling? And if so, what asset classes are attractive right now? Obviously, asset values are rising pretty much all - across all subsectors, so any sector you prefer at these levels?

[Ole Hjertaker:]

Yes. Thanks. We look at - I would say we look at opportunities across our sectors, so I would say we are, of course, very much more cautious on offshore assets for natural reasons. Also, what we have seen, for instance, on the liner side and the container side, we've seen asset prices going up very quickly. So there, we would be cautiously looking at opportunities. And our focus would be to do deals where we can take down, call it, our effective asset exposure to a more normalized mid-cycle-type residual value, also factoring in expectations for changes in propulsion technology going forward. But if that works and we have a good, strong charter to a strong counterparty where we are confident that they will pay also when the market cools down, we wouldn't have a problem with adding more capacity in that segment. Of course, our preference is to buy assets with long-term charters. And we have seen over the years that it's been more in the liner, call it, space, where we have seen the long-term charters. But we've also seen it from time to time in other sectors. Like in the dry bulk side, we've seen it, and we looked at projects, on the tanker side, too. And we will, of course, also follow developments in segments where we are not exposed currently. And - but of course, until or unless we do a deal there, we cannot really comment on specifics. But we look at many opportunities and try to be selective on which we do.

[Randall Giveans:]

Sure. I guess did you look at or participate in the LNG-powered VLCC tenders by some of the oil majors or the cutter LNG newbuild tenders that are kind of out there currently?

[Ole Hjertaker:]

What I can say there is that we have seen essentially, I would say, all or certainly most of the opportunities that have been out there. And we've spent more time, I would say, on the opportunities where there have been, call it, new technology and dual-fuel opportunities. What we have and where we are, we have spent quite a lot of time. And our COO, Trym Sjølie, he's focused a lot on that. We are focusing on what we call well-to-wake perspective on assets. And what we have seen is that a dual-fuel vessel - you cannot always compare a dual fuel to a dual fuel. You have different technologies there. And there are technologies there, we believe, are better from a long-term perspective and more versatile as an owner from a long-time perspective. And many of the projects we saw, particularly during last year, were based on technology where we were not so interested in taking a lot of, call it, residual exposure. So if you combine that with shorter charters than we would prefer, we've seen others be more eager to get the projects and therefore bid lower rates or accept higher risk. But again, we have our preference from a risk-adjusted return. Others have theirs. We will only know later what - which was right, but we try to be cautious and mindful when we make these investments. And we see a lot of focus on technology shift. And we, of course, will prepare and watch that carefully as it develops.

[Randall Giveans:]

Got it. All right. And then for the upcoming converts maturity, I know you mentioned you did the $150 million senior unsecured bonds. I guess will that entire amount be used to repay the converts? And when will you repay those?

[Aksel Olesen:]

I think the convert will - I mean the purpose of the sustainability-linked bond was, of course, to tap on a very kind of attractive market in terms of cost of capital. We did that with a national investor base, and proceeds for that bond is partly to address the convert, general corporate purposes. And the balance can be then addressed with some cash at hand, so also a combination of the above, really. So for all practical purposes, that maturity has been addressed. We also have in the existing indenture on the new bond this year, we have a borrowing limit of up to $200 million, so $50 million in - on top of the $150 million that we have already raised, so given those additional flexibility.

[Randall Giveans:]

Right. And can you confirm the amount and the date that you plan on repaying those converts?

[Aksel Olesen:]

I mean I cannot confirm the exact date and amount, but...

[Ole Hjertaker:]

It's early October...

[Aksel Olesen:]

I think it's mid-October. And I think at quarter end, outstanding amount was approximately $212 million, yes.

[Operator:]

And our next question comes from the line of Greg Lewis from BTIG.

[Gregory Lewis:]

I was actually hoping for a little color around interest rate guidance. Congrats on doing the sustainability-linked bonds. I imagine you're going to be doing more of those in the future. But I guess what I'm kind of curious is as we think about a good run rate, just looking at your debt position, at the end of Q1, any kind of color around interest rate guidance you can give us for the next few quarters, how we should be thinking about that number?

[Aksel Olesen:]

You're thinking about the secured debt, the senior secured debt?

[Gregory Lewis:]

No. Just that if I look at the interest expense in Q1, there was a nice step down from Q4. And so just how we should think about that?

[Aksel Olesen:]

Sure. I think - I mean it will be, I would say, as the base gets rather stable from what you saw in the first quarter, but the step down is really related to the divestment on - of the 50.1% on the River Box Holding and how that's reflected. So that's basically the main difference there.

[Ole Hjertaker:]

Although, generally, we have a lot of interest rate hedges. So when we do a long-term charter, we typically fix the interest rate. So we have - we don't have so much, call it, market-related movements such on a cash interest basis. We do see, on some of the swaps, we have some swaps that are so-called designated, and there - while we have others where we have - where we don't have them so closely tied to the underlying, call it, loan. And therefore, we have some mark-to-market movement on the value there. But our interest swaps are really based as hedges to ensure that we really have a stable interest rate when we have visibility on cash flow.

[Gregory Lewis:]

Okay. Perfect for that. And then Ole, I was hoping you could dig in a little bit around this acquisition that would be announced with Maersk. I mean, I guess my first question is, if I were to look back when you previously kind of worked through this uncertainty around the last Seadrill restructuring, the company was kind of quiet on the acquisition front. As I think about this acquisition, is this kind of - how should we think about this acquisition in terms of the company's financial position and your kind of outlook, I guess, is how I'd ask.

[Ole Hjertaker:]

Yes. You're absolutely correct. We were quite cautious through last year given the uncertainty relating to Seadrill and also whether or not Seadrill were going to file for Chapter 11 again or not as they did. So as we now have more clarity there, we know that the 2 rigs that are working are producing good cash flows for Seadrill, covering full, call it, OpEx for them, also a contribution to their G&A. And there is a buildup on top of that, net-net, after also paying that charter rate to us. That gives us, of course, better visibility on the cash flow from those 2 assets. Also now when effectively the convert maturity has been addressed, we are, I would say, from a corporate perspective, in a better position to do more transactions hopefully. But again, we are cautiously evaluating all deals. And we hope, of course, to execute on more transactions, and we'll announce them and comment then. But I think it's certainly a much better, call it, setting for us now than last year, just due to the rig situations.

[Gregory Lewis:]

Okay. Great. And then just based - and realizing we don't want to talk about specific customers on the call, I would kind of characterize a lot of liner companies, not all, but a lot of liner companies' decisions to kind of focus on owning the new tonnage. And then kind of as the vessels age, you'd typically be on - after they're maybe halfway through their useful life, the liners typically then go out and sale and leaseback vessels. Is there anything to glean from the fact that this transaction that you did was for a 2020-built vessel versus, say, a 2005 to '10 build-out? So is anything changing in how the liner companies are thinking about the positioning of their fleets? And is that an opportunity for SFL going forward?

[Ole Hjertaker:]

Yes. Thanks. Yes. The vessel we have agreed is essentially a brand new - it's a newbuild vessel, but it's been on the water a few months. And therefore, it's a - you could call it a secondhand, but it's with all the new, call it, bells and whistles that you would build on a new vessel. But if we look at the order book, and of course, there's been a lot of activity on the newbuilding ordering side the last 6 months, in particular, still, the order book is lower than it's been historically. I think over the years, it's hardly been below this level ever. So it's only been the last 2 or years or so that we've seen lower order books than we saw up until, call it, this new, call it, surge. But if you look at the assets that have been ordered, I would say most of the assets are very conventional-type vessels. They are very similar to specifications you would order 10 years ago. Only around 1/3, I think, of the vessels have been ordered as scrubbers, at least based on the market data we've seen. And very few vessels, I believe sort of 10%, 12% or so, have been ordered with dual fuel. So if you look at containerships and the way we look at it, there was a big technology shift from vessels ordered before the financial crisis, i.e., delivered maybe as late as 2011, 2012 and the vessels that were ordered after the financial crisis, which started delivering in 2013 and onwards. The early - call it, the vessels that were ordered before were designed for much higher speeds, bigger engines, less fuel efficiency and really built for higher speed, while the vessels built from 2013 and onwards were really designed very similar to what has been ordered recently. Of course, a new vessel is always marginally better than the previous vessel, so there are some gradual improvements, but it's not really been a real shift in that. So I would say the liner companies, as we see them, experience it, they are, of course, more focused on the - what we call the modern eco-type vessels built from 2013 onwards. But of course, in the frenzy that we've seen right now where there have been a shortage of capacity because of bottlenecks, they will charter anything. So that's also why you've seen asset values and charter rates for vessels that were barely covering their operating expenses for many years now suddenly shooting through the roof, and you get phenomenal rates currently. We believe that, that is something that will subside when the market cools down again, but we believe that modern vessels built after the financial crisis have much better prospects also in the long run.

[Gregory Lewis:]

Okay. Great for that. And I guess just because it is so topical, I will squeeze in another question. Clearly, the dry bulk market has been very strong year-to-date. And just as I think about that and I look at a lot of the vessels you have that are on short-term charters, as we think about the opportunity for a lot of the vessels that are on short-term charters, is it - how should we think about the opportunity for those? Is that something where SFL would think about putting them on a 1-year charter? Or is it - if you can't get something multiyear, we'll just kind of keep these vessels operating on kind of short-term spot-type market work?

[Ole Hjertaker:]

Yes. Well, so far, we've been operating them in the spot term market for a while. The market has been soft a few years, and all these were chartered on longer-term charters previously. And then as they have come off, we've traded them in the market. And we haven't had - because we have the platform, operating platform, we haven't had to effectively flip them and recharter them at very low rates as they came off those charters. But we are - from an asset perspective and charter perspective, we are agnostics. And of course, we like long-term charters, but you could also buy them from us, if you like, too. I mean we are agnostics from that perspective. As we like to say, everything is for sale here, except my dog. You won't get that one. So yes, we look at opportunities also relating to charters. But again, if you look at the main bulk of our portfolio are employed on long-term charters. And while the number, there are around, I think, around 16 vessels in the short-term market, if you look at the aggregate value of our portfolio, it's a very, very small portion, maybe 8% to 10% perhaps. I don't have the number on the top of my head.

[Gregory Lewis:]

Absolutely. It is a small handful of vessels. But nevertheless, it seems like that could be a nice driver of EBITDA or even some asset monetization here over the next couple of quarters.

[Operator:]

And the next question comes from the line of Liam Burke from B. Riley.

[Liam Burke:]

With the stated strategy emphasizing container and dry bulk fleet assets, are you going to manage your tanker assets any differently? And as asset values or NAVs improve, how do you expect to manage the fleet, that part of the fleet?

[Ole Hjertaker:]

Well, if you - of course, we look at the transaction opportunities in all segments, and we've also looked at opportunities on the tanker side. Of course, we have in mind also, we call it the wider shift in the market where we see that I think many investors and stakeholders prefer liner assets and dry bulk assets over oil production and oil transportation assets. So - but it's all down to risk/reward. And if the opportunity is interestingly enough and also factoring in that assets like tanker assets over time may be more expensive to fund because of relative less interest in the market, it doesn't mean that you cannot develop interesting opportunities also around those. I think the reason why we have more on the liner side and dry bulk side now is simply because that is where we have seen more compelling investment opportunities that combines both a counterpart that is strong assets we like, both from a technological aspect where we have long-term charter coverage and where we believe the residual value, call it, exposure or the asset where they are at the end of the charter is at an attractive level. So the fact that we've done more on the liner side now is not excluding new deals. And we did the deal with Phillips 66 a couple of years ago. And of course, we can do other deals also with oil majors going forward.

[Liam Burke:]

Sure. Now getting back to the dry bulk fleet, obviously, it's less smaller part of it, and your propensity is to go with the longer-term charters to match to your financing. Asset prices on the container side are higher. Is there anything you see in the dry bulk area that's interesting to you which would meet your pretty specific criteria?

[Ole Hjertaker:]

Yes. We look at opportunities there as well. So - but we cannot be specific on what we should look at - what we do look at. And it's a nice cocktail of asset, counterparty, charter tenure and residual exposure, yes. So we may do more in - also on the dry side, and we've also seen projects with some of the major sort of manufacturers from time to time but not something that where we have announced any specific transactions at least today.

[Operator:]

. Our next question comes from the line of Chris Wetherbee from Citi.

[James Monigan:]

James on for Chris. Just wanted to follow up on a couple of points Greg brought up. You mentioned that, basically, the interest rate - on the interest rate side from a liability perspective, are there any step-ups or protections on the - from basically in terms of lease rates that we should be thinking about moving forward, where if there's a sizable increase, potentially the spread between your financing costs and the top line might extend?

[Ole Hjertaker:]

The way it works, I mean, what we typically do when we do a new long-term charter, we typically try to match financing term with the charter term. And then we also normally hedge the interest rate either through a fixed rate agreement with the financial institution or we do, call it, interest rate hedge on the side. If you then look at what you have then, then you have - you say at the end of the charter period, you're looking at the new charter opportunity. And of course, any charter opportunity and the charter rate, call it, in the market will have the prevalent interest rate as a component in the structure at the time. And therefore, you could say that if the market - if the interest rate should go up significantly, you will have - you will effectively see a higher charter rate at that time. We also have, on some of the assets like - or 8 containerships with the Golden Ocean, we have a charter, an interest rate adjustment factor where they effectively absorb the interest rate volatility, which means that we can then be financed on a short-term interest market. And if the market rates - and if the interest rate should go up, they will absorb it. Is that not correct, Aksel?

[Aksel Olesen:]

Exactly. Except from that, we actually have case assets of two gold knots.

[Ole Hjertaker:]

There's a lot of talk about container assets. I don't know effect feels like it.

[James Monigan:]

Got it. So from like an asset liability matching perspective, it seems like it's pretty tightly matched. And it's not necessarily that there's downside or upside to the - from an interest rate perspective, excluding sort of the impacts of rechartering activity. Is that the right way to sort of think about this moving forward in terms of how we...

[Aksel Olesen:]

We have a very conservative strategy in terms of interest rate exposure. It's kind of not very - to take any risk. And also if you look at the latest one we did was also a fixed rate bond. So that's kind of the philosophy we have here.

[Ole Hjertaker:]

So maybe owning shipping assets is the perfect interest hedge, if there's a hedge.

[James Monigan:]

Yes, yes. And then separately or connected as well, I guess, the sustainability bond that you had issued. Now understanding sort of like the 7% rate, what do you think it would have been had it not been sort of sustainability linked? Or are cost savings really something that you don't see here, but it was like a repeat issue or sustainability bonds, you might see that rate move down further overall? Just trying to understand about essentially what was gained with that transaction in particular.

[Aksel Olesen:]

I think - look, we discussed this a lot internally with kind of the managers that placed the notes. I think - I don't think there will be kind of a significant difference in the pricing, but what's interesting is that you reach a much broader audience of investors in the paper that you have far more liquidity. We also have a kind of fairly international broad placement, I think, kind of 45-ish percent was from international investors outside of Nordic. So it's basically kind of making the paper more attractive for investors and hence create liquidity, which, overall, is positive for the trading of the bond in the aftermarket, yes.

[Ole Hjertaker:]

I think also an added factor is that raising capital on Norwegian documentation, as this was, is also much more cost efficient from a legal perspective. And so - and sort of I would say also, maybe also on a fee perspective compared to some of the U.S. issuances we have seen. So if you look at the all-in cost, we think it's - that's also a significant positive contributor.

[Aksel Olesen:]

Exactly, yes.

[James Monigan:]

Got it, all right. And then your outlook and your approach to the market, are you being consistent with sort of your outlook and approach to the market from a sector perspective? But kind of wanted to get your sense of where you are in sort of the terms that you might look at on the deals themselves. Obviously, you want like something longer term, secured, perfect world. But like relative to the market, what sort of deals that are sort of the most likely to get done and sort of the most attractive? Like what kind of terms are you seeing or things with long term that are like sort of capped downside available to you, along with upside? Just trying to understand sort of like where the market is in terms of what you see across - coming across incrementally and what's attractive. And then if you could layer in sort of like what essentially the terms are you're getting on the bank debt side versus the - what's available on the market to someone else in terms of bank debt, that would be great.

[Aksel Olesen:]

Exactly. So I think in terms of kind of deal flow, I think we see quite a bit these days. I think we - of course, again, we are being quite selective. I mean some segments, call it, the enterprise starts to be quite rich. You have also had a lot of forward starting dates on a lot of the cash flow, where we basically - and that comes back to kind of financing and the ability to lock in interest costs. So I think, I mean, we have evaluated a broad deal of deal opportunities across, I would say, all segments

[James Monigan:]

Got it. Actually, two very small points of clarification. On the deal flow you're seeing, is there more of a reluctance to take on the residual value risk from your customers' perspective? I think it was layered in there. I just kind of want to clarify that. And then also just to be clear, the access to sort of like the broadband group in the Eastern banks, like that's not necessarily something that's sort of like broadly available throughout the market. Or is that something more specific to you? Just trying to understand if that's an industry trend or an SFL trend.

[Aksel Olesen:]

On the first one, I think all customers try to put the residual risk to you. I think that is something you see in the market. But I think we have a big group of existing clients, very good relationship. And I think that's where you'll often see that we can expand relationships, and we basically take a common approach to what's a sensible residual value risk for both parties. And those are the deals you can execute on. But could you please repeat the last part of your question?

[James Monigan:]

You mentioned the trend about the pulling out from the banks and them being replaced by Eastern banks. Is the ability to access like the replacement bank is something that's available to the entire market? Or is that something more specific to you given the scale and scope? Just trying to understand if it's an SFL trend or an industry trend.

[Aksel Olesen:]

Yes. As I said, I mean, there's a general flight to quality. And I think SFL, as a company, due to its kind of strong track record, affiliation with the Seatankers group of companies, we are fortunate to have strong access to banks. I think it's really the, call it, second, third tier shipowners that basically are losing out on bank capacity. So even from European banks, we have a very, very strong support. With regards to the Japanese banks, they are very fond of our business strategy, always to acquire an asset with a long charter attached. And that's kind of very familiar with them because that is the approach that most of the Japanese shipowners have as well, so kind of resonates to kind of their approach to risk.

[Operator:]

And there are no further questions at this time. Please continue.

[Ole Hjertaker:]

Thank you. With that, I would like to thank everyone for participating in our first quarter conference call and also thank the SFL team on board the vessels and onshore for their efforts in a challenging time with continued uncertainty caused by the COVID-19 situation and particular for our vessel crews. If you have any follow-up questions, there are contact details in the press release or you can get in touch with us through the contact pages on our web page, www.sflcorp.com. Thank you.

[Operator:]

Thank you. This concludes today's conference call. Thank you for participating. You may now disconnect.