Time to celebrate corporate governance?

Time to celebrate corporate governance?

While applauding recent decisions among some listed shipping firms J Mintzmyer from Value Investor’s Edge sets them all a challenge.

The shipping sector has historically attracted a wide range of investors – ranging from private equity and family offices to day traders and retail income seekers. These stocks are known for their volatility and occasionally for their large payouts. Unfortunately, what the shipping sector is not known for is strong corporate governance and capital allocation decisions. Sadly, shipping names have historically suffered at the hands of management teams who care more about growing their fleet size, either due to ego-driven leaders or because of direct conflicts of interest such as related-party ship management contracts.

As one example, when shipping stocks fall well below net asset value (NAV), the absolute best allocation of capital is to repurchase stock. This allows companies to effectively invest in their own fleets at 80, 70, or even 60 cents on the dollar. Historically many of these management teams haven’t taken advantage of the situation. Even more infuriating, some, such as Navios Maritime Partners (NMM) in early 2018 actually issued more equity around 60% NAV. This sort of equity issuance is an abuse to shareholders. It is virtually impossible to gain a stronger return than buying stock at 60% NAV; however, in the case of Navios, they were clearly pursuing alternative goals. Due to these sorts of moves, NMM currently trades at 35 cents on the dollar, a clear sign of the market’s absolute disgust.

After years of witnessing similar examples of frustrating allocations, over the past few weeks we have seen several very encouraging moves. First, on 21 November, Diana Shipping (DSX) commenced a tender offer to repurchase approximately 4% of their shares at $3.60, roughly 80% NAV. Next, Star Bulk Carriers (SBLK), trading around 60% NAV, announced a $50m program on 29 November and has been steadily announcing open-market purchases. Additionally, GasLog (GLOG) announced a $50m program and paid a special dividend. Most recently, Golar LNG Partners (GMLP) has expanded their repurchase program from $25m to $50m. GMLP trades at nearly a 14% yield despite having rock-solid forward coverage at their new payout. In most of these cases, these repurchases are the best possible allocation of capital and nothing else comes close.

Another problem with shipping stocks has been self-serving deals and questionable related-party transactions. However, this trend was absolutely flipped on 27 November as Capital Product Partners (CPLP) announced one of the most creative and shareholder friendly transactions I’ve ever witnessed in this sector. CPLP was trading underneath 60% NAV despite a huge yield and strong underlying assets, likely because of deep investor distrust. In this transaction, they will be splitting their product tanker assets into a new venture with Diamond S (DSSI) while CPLP will retain all of the purely income-focused assets. CPLP investors will receive shares of DSSI in January and will have the opportunity to retain this growth vehicle or simply divest the new shares and roll proceeds back into the stronger income-focused CPLP.

CPLP took tanker assets which traded at 60% NAV and effectively merged them into a new venture at 105% NAV. This provides instantaneous value creation, but it gets even better. DSSI will be a US-managed firm with strong corporate governance and heavy private equity backers. They will have one of the largest product tanker fleets in the world at a time when rates are starting to surge, recently posting multi-year highs. This is noteworthy because CPLP traded as low as 55% NAV, which suggested the market had extremely low confidence in management’s alignment. I was also skeptical of their long-term goals, but upon fully reviewing the deal, as mentioned its one of the best I’ve ever seen. Kudos to them! CPLP stock is now starting to move, but we could see significantly higher levels in short order.

All of these positive moves have occurred in the past couple weeks, but there is room for substantial improvement to continue. Shipping management teams should put off misguided fleet growth and instead repurchase equity anytime discounts exceed 10%. Recent stock prices are not reflecting current fundamentals and instead illustrate a significant level of fear. In several sectors, notably LNG and crude tankers, rates are at multi-year highs and the forward prospects for 2019-2020 are incredibly strong. Firms like DHT Holdings (DHT), Euronav (EURN), and Golar LNG (GLNG) are drowning in cash flow. For DHT in particular as just one example, VLCC rates have been consistently in the $50,000-$60,000/day range. At these levels, DHT generates over $2/sh in cash flow per year, yet the stock trades in the mid-$4s, with a NAV discount of over 20%. Last time rates were this high, DHT had a smaller fleet, and traded in the $7-$8 range.

Euronav is also fairly cheap and Golar LNG is trading well below its earnings potential. I challenge these firms, as well as other industry peers, to continue the positive trend in corporate governance.

Related Posts