Earnings Call: Q3 2019

Oct 14, 2019

Ladies and gentlemen, welcome to today's Pacific Basin twenty nineteen Q3 Trading Update Call. I'm pleased to present Chief Executive Officer, Mr. Matt Spurgelin, for the first part of this call. Participants will be in a listen only mode and afterwards there will be a question and answer session. Mr. Berglund, please begin. Thank you very much for joining us today. As mentioned, my name is Matt Berglund. I'm the CEO of the company. And with me is also our CFO, Peter Schultz. We'll go straight into our numbers and look at Slide one. In the third quarter, we made $9,480 per day on our Handysize ships and 11,580 on our supermax ships. In the first nine months of the year, we made $9,270 per day on the Handysize ships and $11,120 per day on the Supramaxes. Our outperformance for the first nine months was about $2,750 per day on the Handysize ships and $19.20 dollars on the Supramax ships. Don't be alarmed by the lower outperformance in the third quarter alone that has to do with the sharp increase in index rates during second half August and September because the earnings of those higher index rates do not come to us until the fourth quarter. So you have to look at outperformance over a longer period. And if you look at the nine month period, our outperformance is stronger than the five year average and significantly higher than the last few years. If we do look at the fourth quarter so far, we have covered 67% of our Handysize days at 11,450 per day and 74% of our supermax days at $13,660 per day. So as you can see, the coverage rates so far for the fourth quarter is about $2,000 per day, each higher than the third quarter actuals. For 2020, we have covered 17% of our Handysize days at $8,980 per day and 22% of our Supras at $11,330 per day. And as we normally do for the longer term cover, we highlight that those rates are backhaul heavy because those are the contracts that we primarily protect and renew even in weaker times as we have had in the early part of 2019. But don't worry, these lower cover rates will combine with higher fronthaul rates and combine to higher TCEs. Looking at some other highlights for the quarter. If you look at the box to the right. In the third quarter, we operated on average two thirty six ships. As we announced in September, we committed to buy four modern Japanese vessels for 74,000,030 three percent to be funded by new equity. Note that three of these four ships we had on charter already, So we're continuing the strategy to reduce the number of long term charters and own the ships instead. Also this year, we have sold two older, smaller Handysize vessels. And following the delivery of these bought and sold ships, our owned fleet will grow to 117 ships. So as you can see, we are continuing to do exactly what we said we would do, grow our Supramax fleet with modern Japanese ships and trade up our Handysize ships by buying more than larger Handysize ships and sell a few of our smaller, older Handysizes. And we continue to reduce the long term shorter in number of ships. Turn to Slide two. You can see the rate development by quarter a bit easier in these graphs. And as you can see, we are well below last year in the first three quarters of this year, but the fourth quarter looks strong, and that's when we get the effect of the stronger index rates that we have seen in the last few months. Turn to Slide three. You see market rates in more detail. And just to explain the increase, why have we seen the increase in the third quarter? Well, it's really due to strong grain export volumes out of South America and the Black Sea, combined with strong minor bulk demand, robust demand for bauxite nickel These are the commodities growing the strongest percentage wise. And also a return to normal levels of exports out of the Mississippi River as regards to grain and out of Brazil and Australia after the one off supply disruptions in the first half of this year. We have seen a little bit of a softening of rates, as you can see on the graph, up to and through the Chinese Golden Week holiday. You can hardly see it on these graphs, but rates have actually increased a bit again in the last week, primarily in The Pacific on the supermax and Panamax side. So a good sign of a stronger fourth quarter in front of us. Slide four, where in the graph to the right, we make the point that it's really minor bulk that is driving overall drybulk demand. Look at the blue field in the bar graphs to the right. Minor bulk is growing quite solidly with about 4% in 2017, 2018, 2019, and is expected to grow at 3.7% in 2020 in spite of a weakening world economy. If we look at China, in particular, demand and import wise so far this year, look at the second bullet point below the graphs. Miner bugs in coal in the first eight months of the year grew at 17%, that's minor bug, and 8% coal. Actually, coal grew 10% if we include the September numbers that were just released, while imports of grain and iron ore fell 13% grain and 3% fall of iron ore. And the grain reduction is due to The U. S.-China trade War and the effect of the African swine fever on the demand for soybean. But note that both grain and iron ore volumes returned to positive growth in July and August, and we also just saw positive import numbers for iron ore in September just released. We're obviously keeping our fingers crossed for more grain from The U. S. To China if Trump and Xi can agree the deal that is talked about right now. Going back to the graph on the right side of this slide, see that in this case, Clarkson is estimating a bounce back to growth for all the four major drybulk commodity types in the year of 2020. And overall, dry bulk growth is expected to grow with 2.9% next year in spite of a slower world economy. Slide five, we go to the supply side. And in the graph to the left, we're showing the overall drybulk supply situation with the newbuilding deliveries, the bars going up and scrapping the bars going down. And the line is the net fleet growth. We're seeing a net fleet growth of about 3% per year at the moment. But if you look at the graph to the right, where we have carved out the two segments that we are invested in, which is Handysize and Supramax, you see a very clear reducing trend of lower net fleet growth from a growth of 5.7% net per year in 2015 down to an estimate of 2.4% net fleet growth for 2019 and an estimate of 1.8 net fleet growth for next year and an even lower number for 2021. So much better favorable fundamentals on the supply side for our segments. And that's further illustrated on Slide six, where you see that it looks much better for Handysize in particular. Handysize segment has an order book, which is about 5% and twice as many ships over 20 years old. 10% of the fleet is more than 20 years old. You much rather have that than the Capes and larger vessels where the order book is much bigger and the number of older ships is much smaller. So we much prefer exposure to our segment, both supply and demand wise. This is what we're showing in Slide seven, where we combine the line graph here showing both demand and supply in the same graph. The chart to the left shows the overall net fleet growth of about 3% that I mentioned, but it looks much better for the smaller vessels with minor bulk demand well above the Handysize and Supramax net fleet growth. This is the chart to the top right and the highlighted box there. So what we're showing here is the demand growth for Mine and Bulk going from 5%, reducing down to 3.7% for 2020. And we put against that the net fleet growth of combined Handysize and Supramax reducing to 1.8%. So the point here is that we can afford slower world economic growth and still get a tighter market in our segments since the fleet the net fleet growth is reducing more than what demand is growing at. In addition to these fundamentals, we also have the IMO effect that we will get to in a minute. So remember that there's more factors than supply and demand that can affect the tightness of the market such as speed and off hire. But before going to that, look at Slide eight, where we show the development of vessel values. Handysize vessel values to the left and Supras to the right, the upper line is typical newbuilding prices and the lower line, the price of a typical five year old ship. And secondhand values remain low, as you can see here, both historically and relative to newbuilding prices. And this, together with the uncertainty about future technology, is discouraging newbuild ordering, which bodes well for the years ahead. We expect the supply side to remain disciplined because of these two factors. And we see upside in secondhand values, and we will continue to cautiously grow by looking opportunistically at good quality secondhand ship acquisitions of both modern supermax and handysize ships, while we will trade likely out of some of our older and smaller vessels, just as we have done earlier this year. Slide nine. We mentioned other factors that new billing and scrapping can affect the supply side. And here, we show one such example. The graphs here show the number of ships. This is the worldwide fleet, not our ships, but the world fleet of handysizes and supervisors that are positioned to the Pacific region compared to last year levels. And as you can see, we have unusually many ships positioned to the Pacific and in particular to China to do work in dry docks preparing for IMO twenty twenty, fitting ballast water treatment systems, scrubbers and regular dry docking and repair works. This effect is even more visible on the larger ships. Here, we show it for our sizes. But as you know, a larger proportion of the larger ships are fitting scrubbers and a larger proportion of normal are therefore in The Pacific. So we're showing this to explain partly why the rates have increased recently. So at the same time, as we have more ships off hire in Chinese dry docks, we had a bounce back in Atlantic demand. I mentioned the grain demand out of Black Sea and South America. We mentioned the Brazil iron ore bouncing back. So more demand for ships in the Atlantic, while we have fewer ships than normal in the Atlantic. So we got a significant increase in freight rates, primarily in the Atlantic market. And we're also highlighting here that the repair yards are overbooked. The waiting time is high. We have delays. There's shortage of labor and pipe workers in particular, etcetera. And this is causing also more off hire than normal. And this will go on through at least the 2020. And again, the point here is that this is contracting supply compared to a normal year, and we're feeling the effects of that already. And we think it will continue at least through the first half of next year. Turn to Slide 10, starting to ramp up. We are cautiously optimistic on the markets in our sectors. We saw an increase in market freight rates in August and early September. As mentioned, rates moderated a little bit through the Chinese Golden Week holidays, but rates are still at around the peak levels on last year, and Pacific rates have improved in the last weeks. We expect to see the continuation of generally tight market conditions in the fourth quarter. This is the normal peak season, and we have the effect of more ships in drydocks. This also goes for us, by the way, and we have successfully installed scrubbers so far on 15 of our Supramax vessels. And this is causing more off hire than normal in the second half, especially in the 2019, but it sets us up for what we believe will be stronger years ahead. Very importantly, as we go into 2020, a majority of the world's ships are not installing scrubbers. That goes for us as well, right? We're not installing any scrubbers on any of our Handysize ships. So majority of the world's fleet will be switching to more expensive low sulfur fuel. This lowers ships' optimal operating speeds, which we expect will have a positive effect on the drybulk supply and demand balance. And note that this is not a temporary effect, but a permanent one. The cost of the more expensive bunkers is passed on to the customers. And the effect is a contracting effect on the supply side, which, of course, subject to the underlying oil price, all things equal, is positive for the supplydemand balance. Again, Clarkson estimates minor bulk demand growth of 4.6% this year versus Handysize and Supermax net fleet growth of two point four percent 2019 and one point eight percent for 2020. And all this combined means that we remain cautiously optimistic about the minor bulk markets despite the continued uncertainties about The U. S.-China trade war and prospects for slower global economic growth. Slide 11. Our business model continues to outperform. It takes all the components listed to the left of this slide to achieve that. It's not so easy to copy. It takes a long time to build the platform that we have built. We're beating the Handysize rates on average the last five years with almost $2,000 per day and on Supramax with about $1,400 per day. Again, note that year to date, we are well above this five year average on outperformance. But turn to Slide 12. Remember that it's not only on TCE revenue where we outperform, but we also compare really well with our listed peers as regards our competitive cost structure. This goes for OpEx and G and A, which has a lot to do with our scale. And we also borrow and have low finance costs, thanks to being able to borrow at very attractive terms. This means that we are well positioned to benefit from a stronger market, and we have significant leverage due to our now much larger owned fleet. Remember, as you do your modeling, looking at the sensitivity box to the right, that $1,000 per day means $35,000,000 to $40,000,000 on our results. Note, though, that we no longer have the owner's contract utilization write back with $16,000,000 last year that no longer exists. So don't forget to build that in. But wrapping up, we feel there's a lot of things going for us. We keep our fingers crossed for a U. S.-China trade deal on agricultural products, which would be very valuable to get The U. S. Soybean moving again to China. We have the IMO effects that we're already feeling the effects of as regards the docking time, but the slower speeds we have in front of us soon as the low sulfur fuel regulation comes into effect close to year end. And we have attractive fundamentals for Miner Bugs and E and R segments. Peter, any balance sheet highlights? Thank you, Matt. I just wanted to remind listeners again that after the close of the interim period, June 30, we paid back in full our $125,000,000 convertible bond. And pro form a for that repayment and the drawdown on our final facilities, we have about $212,000,000 of cash, which is a very robust cash position. However, bear in mind, as Matt mentioned before, 2019 is a big investment year for us. We are drydocking over 50 vessels. We are putting ballast water treatment systems on all the vessels we drydock, and we're also investing in scrubbers on a majority of our Supra fleet. So we will have more capital expenditure this year than what we've had in the past. But the flip side, of course, is as we go into 2020, capital expenditure will be lower. But in general, we continue to operate with a very solid balance sheet. All right. Operator, let's open up for questions. Thank you, sir. We will now begin our question and answer session. After you are announced, please ask your question. If you find that your question has been answered before it's your turn to speak, please press the pound or the hash key to cancel your question. We have the first question from the line of Paresh Jain. Please ask your question. Thank you. Thanks, Matt and Peter. I have actually two or three questions. I'll try to put that together. First, maybe if we, Matt, if you can go to Slide seven and the story that the demand and supply fundamental looks significantly better in case of minor bulk compared to compared to the major bulk. But when we look at the freight rate direction, it tells us that is the overall demand and supply or other major bulk demand and supply, which has a bearing on the overall freight rate environment, I. E. For the first three months first three quarters, we have seen the Handysize Supramax rates are trailing that of 2018 despite over two twenty basis points of spread in terms of demand and supply. So like how should we think about it going forward? Does it the bearing of overcapacity in iron ore and coal will continue to have a significant impact on the smaller vessels? And my second question and then you can respond to both of them together. Going into the fourth quarter and more to 2020, the supply side story is well understood. But on the demand, if you can share some color with respect to the new surfacing around the import restrictions again in the 2019 similar to what we saw in 2018? And the impact potential medium term impact of the swine flu fever in China, Does it reshape the soybean demand into China going into the remaining 2019 and 2020 even if we see cordial dialogue or a more positive interaction between U. S. And China? Thank you. Thanks, Parash. As regards minor bulks versus major bulks and rate development this year, on this Slide seven, we're only showing yearly numbers, right? That hides a lot of what's going on. So the first half we in the first half interim report, we try to explain why was the market weak in the first half and why is it stronger in the second half. In the first half, you had a lot of one off negatives that happened. You had the Brazil and Australian supply disruption. You have floodings in the Mississippi, etcetera. And we're getting a bit of a bounce back in the second half where people were reducing volumes in the first half and now filling up again, right? So there is a correlation between the two segments, but there has also been long periods where miner bulk rates have been much higher than Capesize rates in spite of being 5x smaller. But the fundamentals simply look better, both supply and demand wise for the smaller vessels and minor bugs. But we had negative disruptions from both grain that's important for the smaller vessels and we had grain problems in the first half. We are kind of through, we believe, the effect of the swine fever and that, that can potentially come back. We took the hit of the trade war primarily last winter. This is now the high season for normally for U. S. Soybean exports that starts in October, right? So more upside than downside on these things, and we've been through these negative disruptions. Coal imports to China, May, yes, there's talk about restrictions. There's no sign of that so far, right? September was also up significant. And again, there are other commodities that are growing very solidly, bauxite, manganese ore Yes, cement import as well. Forest products, etcetera, right? We enjoy the benefit in smaller vessels of an extremely diverse set of demand drivers and a change in one commodity does not necessarily have that big impact because there's other factors offsetting. But again, U. S. Grain exports was really zero soybean moving in the fourth quarter last year. So it cannot be a negative change this year, but it can't be less than zero. Peter, anything? Yes. I mean, it would be nice if the rates were only determined by headline demand and supply, but there are a lot of other things going on in the market. Speed is obviously a crucial factor. And off hire that we've seen increasing amount of off hire in the last couple of months is obviously another very important factor. And I think if you look at the effects of off hire and speed on the supply and demand balance, these effects can often be much greater than changes up and down in demand. So they can have a very big impact. And at the moment, most of sort of non market or non supply demand directly related factors have probably more upside than downside. So and given and a lot of that is IMO 2020 driven, of course, right? So whereas last year, say, coal restrictions had a cooling effect on the market towards the end of last year, what's happening at the moment is we're starting to fill up our ships with more expensive fuel at the same time, which has an improvement in the balance because of the slow steaming, right? So it doesn't necessarily mean that the effect negative effect last year will get give a negative effect this year. There are many things driving freight rates. Perfect. Thank you. We have the next question from the line of Andrew Lee. Please ask your question. Yes. Hi. Thanks for your time. I have a few questions. The first question I have is, could you explain sorry, could you provide a little bit of detail in terms of the revenue recognition lag? Is that four weeks, six weeks, two months? That's the first question. Second question I have is on the 15 scrubbers that were installed. Have there been any surprises both on the positive, on the negative side on how it operates, etcetera? At the interim results, I think you mentioned that the scrubbers were taking around fifteen to eighteen days, additional time to be installed above the dry docking time. Is that still the same fifteen to eighteen days or is that taking a little bit longer? Next question I have is to switch off trading out of the older and smaller Handysize vessels. How do you define older in terms of what age? And also what's the size of the smaller vessels? Revenue recognition, the average lag between fixing and voyage is about forty five days we've calculated before. I don't know, Peter, if you want to add anything on revenue recognition. Yes. It depends on the length of the voyage, of course. But I think average length is about forty five days. And then, of course, there is time to get from fixing to the low point as well, right? So say two months maybe on average, but we haven't done any sort of very detailed analysis. So two months is between one to three months, which I think we're staying somewhere in our paces. So there is a bit of a lag there. The scrubbers that we have installed have gone as per plan substantially cost wise, time wise a little bit longer than expected, but not that material. But the time out of service for the supermaxes that are where we're installing scrubbers would be between thirty and forty days total, right? So that consists of a normal dry docking time of around twenty days and then an additional ten to twenty days work for the scrubber. And we're also installing then the ballast water treatment system. So a lot of work going on. The fixed travel fire for the scrubber, yes, fifteen, twenty days. The underlying normal drydocking maybe a few days longer than normal due to the congestion and the yards being extremely busy. So those are the numbers. They are operating as per plan. No they're successfully installed, successfully in operation, About $2,000,000 per ship is the investment on our Supramaxes. As regards to ships that we are selling or have sold, they are 28,000 tonners. Our oldest ships built around 02/2002, so getting to about 18 years old. Thank you. Okay. We have our next question from the line of Andrew Lee. Please ask your question. Hi guys. Sorry, maybe just one more question, right, so there's no questions online. The U. S. Grain season has already started, right, and it's probably close to ending. Has there been an inventory buildup? Because there's a lot of talk about The U. S.-China trade negotiations being concluded, and that could lead to stronger grain imports. So I'm just trying to work out in terms of are we going to see a strong rebound in terms of U. S. Grain immediately? Or do you think there will be a delay? And it all depends on hydros with these negotiations. China has been buying some U. S. Soybean in the last few months from The U. S, but not close to the normal high season volumes that's starting now. We do believe that there's more in the silos than normal. There have been disruptions in the Mississippi River barge traffic as well, right? So that is back to substantially normal now. So it's just extremely difficult to forecast how that is going to do. Obviously, U. S. Is selling to every other buyer they can find, but it's just impossible to replace China being the, by far, biggest soybean buyer. So again, more upside than downside there certainly compared to where we have been seasonally before because we're entering the high season. It's not ending. It moves it's harvested, but then it goes into silos and onto barges and stuff and exports go on through the fourth quarter. And certainly, upside compared to last year when there was very little, it was hard to replace China as a buyer straight away. So it took a while for U. S. To develop other buyers of their soybean. Okay? Okay. Thanks. Thanks, Andrew. We have the next question from the line of Holly Birkett. Please ask your question. Hi, Matt. Hi, Peter. Thank you so much for the presentation. It's Holly from Tradewinds. I just wish I just wanted to ask a quick question just confirming the names of the four vessels that were bought in August. I have the two Supramaxes down as King Island and the Navios Oriana. And the two Handys, I have a Saldana Bay and Seal Island. Is that correct? We never comment on specific vessel deals, so I apologize. But that's the policy we stick to both when buying and selling. Those contracts are confidential with the counterpart and we cannot breach that contract. So I apologize for not being able to comment on that. Okay. But the the deals have been completed then, I guess. So it's just a case of waiting for them to enter the fleet? Yes. The the the the deal is is signed, And I think we have announced that we expect two of these ships will deliver to us in the fourth quarter and two will deliver to us next year, latest by April. By April. Okay. And and one more. It's it's less relevant for you guys, I'm I'm gonna ask you anyway. I just wondered if you'd be making any changes to safety and security on board your vessels with regards to what's happening in the Red Sea and in The Gulf and attacks on the Iranian vessels. I just wondered if that had changed your approach to how you operate vessels in those high risk areas? Sorry, we just kind of echo on your line there. Could you just repeat that question, speak as slowly as possible, see if we can hear your question, sorry. I'm sorry about that. I just wondered with regards to the attacks on vessels in The Middle East and The Red Sea, has there been any way in which Pacific Basin has changed safety and security procedures on its vessels recently? I think you're asking about the The Middle East situation and security. Yes. Yes. That is not a big trading area for us and drybulk in general. We do have ships there occasionally. The changes that we have made there is out during course to stay away from that coast longer further away from that coast than normal. And obviously be alert and following all our normal safety procedures. But we have not significantly changed our trading pattern. As a result of that, it is targeted or affecting tankers more than bulkers. Sure. Okay. Well, that's it from me. Thank you so much. Thank you. Okay. If no further questions, thank you very much again for listening, and thank you for your interest in our company. And please don't hesitate to come back to us for any further questions or information. Thank you very much. Thank you, sir. Ladies and gentlemen, this concludes our conference call. Thank you all for attending.