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Frontline Ltd. (NYSE:FRO)

Q3 2008 Earnings Call

November 28, 2008 9:00 am ET

Executives

Jens Martin Jensen – Interim CEO

Inger Klemp - CFO

Analysts

[Robert Silver – RE Silver & Associates]

[Sheila Lehrman – Independent]

[Steven Williams – Simmons]

[Andy Rose – ABG]

Operator

Good day and welcome to the Frontline Ltd. Q3 2008 results presentation conference call. At this time I would like to turn the conference over to Mr. Jens Martin Jensen; please go ahead sir.

Jens Martin Jensen

Good afternoon and good morning to the people who have dialed in from America, welcome to Frontline Q3 presentation. We will start the presentation with our CFO, Inger Klemp, going through the financial highlights and major transactions and a review of our financial situation and newbuilding program.

After that I will give a rundown on the market situation on how we see markets moving ahead. After that there will hopefully be time for some questions and answers. So Inger if you could start with the financials.

Inger Klemp

Thank you Jens, good morning to all of you. I will guide you quickly through the major transactions and the financial highlights in the third quarter 2008 together with a run through of the newbuilding program as Jens just said.

So then moving to slide four and five in the presentation, in July, 2008 Frontline received approximately $207 million after the completion of a private placement of 3 million new shares at a subscription of NOK 357 per share.

Further in June, 2008 Frontline acquired five double hull Suezmax tankers [on block] from Top Ships and that was at a purchase price of $240 million. One vessel was delivered in June, one was delivered in July, and the remaining vessels were delivered in September.

Further in June, 2008 we also entered into an agreement to take five double hull Suezmaxes on time charter from Eiger Shipping for the balance period of existing charters, all with commencement of charter from June to August and the re-delivery from September, 2009 to April, 2010.

And in September, 2008 Frontline completed a syndicated loan facility for $180 million to part finance the acquisition of the five double hull Suezmaxes purchased from Top Ships. In September, 2008 Frontline chartered out Front Guider and Front Viewer for a period of five years with commencement of charter early December this year and mid-April, 2009 respectively.

Further in November, 2008 Frontline chartered out Front Energy for a three-year period with delivery in mid November and Front Champion for a period of one year with commencement of charter early December, 2008.

And as a consequence of the increased time charter coverage the average time charter [rate] has increased from 2008 to 2009 with $2,500 and further $2,400 from 2009 to 2010.

In early December we will re-deliver Cosglory Lake after a total length for the charter party of approximately three-and-a-half years.

Moving to slide six, we will have a quick run through of the financial highlights in the third quarter. Frontline reports net income of $108 million equivalent to earnings per share of $1.39 in the third quarter 2008.

Net income in the third quarter includes a $29.3 million mark-to-market loss on a forward contract for the shares of OSG which has been recorded under non-operating items. Net income excluding this loss was $137 million in the third quarter which is equivalent to earnings per share of $1.76.

On the basis of this we announced the dividend of $0.50 per share for the third quarter. The decision to reduce the cash dividend payment this quarter compared to previous quarters does not in any way constitute a shift in Frontline’s dividend strategy. The decision was taken after thorough evaluation of Frontline’s newbuilding commitments, the weaker fundamentals in 2009 and also based on the existing squeeze in the credit market.

The decision further effects the fact that we are an interesting number of attractive corporate opportunities. Frontline reports net income of $647.2 million for nine months ended September 30, 2008 equivalent to earnings per share of $8.53. This includes gains and losses on sale of assets and securities in a total amount of $163 million.

Then net income excluding these gains and losses was $484 million in the nine-month period ended September 30, 2008. Moving to slide seven, net income excluding gain is $26 million lower then in the second quarter 2008. The decrease can mainly be explained by the reduction in time charter equivalents in the third quarter compared to the second quarter as a consequence of our strategy to fix short during June and July when the rate differential was more then 100 WS points between long and short voyages which proved wrong when the market took such a sudden fall at the end of July.

Ship operating expenses increased by $13.3 million compared with the second quarter mainly as a consequence of more vessels, more drydocking, costs related to more vessels drydocked, which explains $6.9 million and a general cost increase.

Charterhire expenses have increased by $10.4 million in the third quarter compared with the second quarter of which $16 million is due to the five vessels chartered in from Eiger Shipping, offset by $3 million reduction for the six vessels chartered in from Nordic American Tankers under a floating rate time charter agreement and $2.6 million reduction for the two vessels chartered in from Knightsbridge Tankers under a profit sharing arrangement.

Then moving to slide eight, the VLCC fleet earned in the spot market approximately $88,600 per day for doubles and $11,800 per day for singles with an average spot earning of $86,700 per day.

The average for the whole fleet was about $74,700 per day in the quarter. The earnings for singles related to only one vessel which [posted] from Duchess which was caused by uncertain positioning due to drydocking.

The Suezmax fleet earned in the spot market approximately $66,200 per day for doubles and $60,200 per day for singles with an average spot earning of $65,900 per day. The average for the whole fleet was about $62,700 per day in the quarter and the earnings for the singles relate to only one vessel, the Front Voyageur.

The OBOs earned $44,100 per day in the quarter. The TCE numbers show unfortunately that Frontline this quarter has not managed to outperform their competitors in the third quarter 2008 like we usually do.

As I mentioned this is due to that we followed the strategy to fix shorter in June and July when the rate differential was more then 100 WS points between long and short voyages which proves when the market took such a sudden fall at the end of July.

I just want to mention that the [ITC] vessels are not included in the numbers in time charter and [inaudible] numbers.

Moving to slide nine, we have drydocked eight vessels in the third quarter 2008 which is three more then in the second quarter 2008. As you can see we have average OpEx of approximately $13,500 per day in the third quarter compared to approximately $11,600 per day in the second quarter.

OpEx has increased compared to the second quarter mainly as a consequence of more drydockings in the quarter. This represents $1,150 per day but also as a consequence of high running costs. We have experienced an upward pressure on crew costs and docking costs.

The number of off-hire days in the third quarter is higher then in the second quarter as a consequence of more planned drydockings. We expect to drydock four vessels in the fourth quarter. Here one vessel is overlapped from the third quarter and we expect also to dry three vessels in the first quarter of 2009.

Then moving to slide 10, the total balance sheet is approximately $150 million then in the second quarter of 2008. Book values [inaudible] hire then in the second quarter 2008. Book values of newbuildings have increased with installments paid in the quarter and vessels and equipment have increased as a consequence of taking delivery of four Top Ship vessels.

Total and [portion] of long-term debt and long-term debt is hire then in the second quarter mainly as a consequence of that we had established and drawn down financing of the Top Ship vessels. Minority interest is [booked] with $6 million in the quarter relating to the 17.5% in [inaudible] not owned by Frontline.

Equity is increased as a consequence of the equity offering done in the beginning of July and earnings in the period set off with dividends paid in the period. [inaudible] is included in the balance sheet with a total of $697 million of debts and obligations on the capital lease. Debt related to three of the [inaudible] vessels are not consolidated in the balance sheet with $67 million.

Moving to slide 11, the cash cost break-even rates are approximately $34,700 a day for the VLCCs, $24,800 per day for the Suezmaxes, and $22,800 for the OBOs. These rates are a daily rates our vessels much earn to cover budgeted operating costs, estimated interest and scheduled loan principal repayments, bareboat hire and corporate overhead.

These rates do not take into account capital expenditures, loan balloon repayments at maturity which we expect to be financed with new loans and vessels on short-term time charter in. Cash cost break-even rates have increased for VLCC from the previous quarter mainly due to an increase in docking and running operational costs.

The cash cost break-even rate does not allow for the contract coverage the company has. Assuming that the contract coverage is used to subsidize spot vessels, we’ll need [a lower] break-even rate for the spot vessels.

Moving to slide 12 this is a picture of the launching of the first VLCC, hull number [2326] to be delivered from SWS on January 8, 2009. She will be named Front Katherine. Moving to slide 13, we had 10 VLCC newbuilding contracts and eight Suezmax newbuilding contracts.

Total contractual costs of the newbuilding program is approximately $1.8 billion. Frontline’s newbuilding program is developing according to schedule however we expect that in the Suezmaxes being built Rongsheng Shipyard might be somewhat delayed compared to original schedule.

As of September 30, $393 million in installments have been paid on the newbuildings as compared to $333 million at the end of the second quarter. The remaining installments to be paid for the newbuildings amount to $1.4 billion.

The company has established long-term pre and post delivery on newbuilding financing in an amount of $420 million representing 80% of the contractual cost of four of the newbuildings being built at Rongsheng Shipyard and two of the newbuildings being built at SWS Shipyard.

As of September 30, 2008 $92 million have been drawn down on this financing and expect to draw further $51 million in the fourth quarter of 2008. In addition the company has established short-term pre delivery on newbuilding financing in the amount of $129.6 million representing 80% of the contractual cost of the first installment for the six vessels being built at Jinhaiwan Shipyard. This facility matures in June, 2009 and on September 30, 2008 this facility was fully drawn down.

The total equity investment as of September 30, 2008 is therefore $172 million. Indications on obtainable financing in today’s credit market for the unfinanced newbuilding contracts are a minimum $60 million for VLCC and $45 million for Suezmax.

Then moving to slide 14, in this graph we have shown the installments to be paid under the newbuilding contracts in the different years in the light blue column. In 2009 we have also as a worse case assumption included the short-term pre delivery financing of $129.6 million which matures in June, 2009.

The dark blue columns include the established financing, the estimated financing obtainable for the newbuilding contracts not yet financed, and the fixed contract revenues above cash cost break-even rates.

Based on this the company expects maximum $300 million in additional funds will be needed to complete the full financing of the company’s newbuilding commitments. If credit market doesn’t improve before 2012, this might have to be funded from the operational earnings from existing and new vessels.

Such a solution might reduce the dividend capacity temporarily. Moving to slide 15, this slide shows the different newbuilding contracts with estimated delivery dates, installments paid, and the contract price for your information.

Then moving to slide 16 and 17, the number of vessels in the Frontline fleet is 82 including vessels on commercial management and the ITC vessels and is compounded by 38 double hull VLCCs, seven single hull or double side VLCC, one single hull Suezmax, 28 double hull Suezmaxes, and eight OBOs.

We have contract coverage of 39% in 2008, 36% in 2009, and 20% in 2010. The average net TC rate for the total fleet is about 41,300 per day in 2008, 43,800 per day in 2009, and 46,200 per day in 2010.

In addition to this fixed rate contract coverage we also have an additional 5% time charter coverage on floating income in 2009. With this, I will turn it over to Jens.

Jens Martin Jensen

Thank you Inger, we are now on slide number 18, the earnings slide. As you can see in the grey shown the rates dramatically changed in the third quarter in 2008. There was a complete sentiment turn basically from fear of oil supply to fear of demand.

The high rates for VLCCs were $164,000 per day to lows down to $29,500. At the end of July the market for VLCCs fell more then 100 WS point within one week and our strategy as Inger mentioned of fixing short higher paying [AGE] voyages proved to be wrong. We should instead have gone for longer voyages such as AG west or West Africa east voyages or maybe voyages into the US west coast.

The steep fall in the spot rates have to some extent been compensated by the falling bunker prices however the positive effect of this is lagging, e.i. it takes time to consume the expensive bunkers. The negative oil demand sentiment has turned, has continued and obviously the OPEC cut on the 24th of October did not help the sentiment.

With further oil company tanker relet hitting the market there was pressure on the market. We estimate that the spot VLCC rate today is about $45,000 per day with spot bunkers. The Tulin incident in the [Malaga] Strait which is a single hull VLCC has proven that there is definitely rate pressure on single hull VLCCs and the gap is widening.

If you look at the Suezmax graph a similar pattern as the VLCCs from high rate of $153,000 per day down to $41,000 however in relative terms the Suezmax market has remained more healthy compared to VLCCs.

The main positive factor on the Suezmax rates in the third quarter has been that many VLCC cargos traditionally, many cargos traditionally moving out of west Africa was in VLCC and instead they put on Suezmaxes and we have seen resumed loading of the various pipelines in the Mediterranean plus we have seen an increased number of export cargos from Brazil.

If you move to slide 19 this is the traditional slide we normally show for the order book for the VLCCs and this is from Fearnley’s beginning of November report. Twenty-seven ships has been added this year, 24 has been taken out for various conversion, [inaudible] and scrapping. Thirteen ships on paper remains to be delivered for the rest of the year however we think some of them will be deferred into beginning of the new year.

If you look at the order book for 2009 and 2010 it is almost matching the corresponding phase out of the single hull fleet. We think that the single hull phase out will be accelerated because of the deteriorating market factors.

If you look at the Suezmax fleet similar patterns there. We actually had a negative fleet growth this year with only two to four more ships being delivered rest of the year.

Slide number 21, we have put a slightly different and closer look at the order book and this could maybe make things a little bit more interesting if you look from a tanker market, if you look at the Suezmaxes first, the main wildcard in the tanker order book for Suezmaxes is that basically half of the order book is ships going to be built at Greenfield Shipyards, e.i. shipyards that have not built any Suezmax tankers before and delays will happen and is already happening.

As Inger mentioned the yard where we ourselves have eight ships on order, have seen delays and we have already adjusted our deliveries with one quarter and we expect further delays there. The light blue in 2008 is five ships from Rongsheng should have been delivered this year and they’ll be delayed onto next year. So we see further delays there.

If you look at the VLCC graphs, that’s the number for Greenfield yards is obviously quite limited. There’s not many new yard who are able so far to build VLCCs is only in 2011 onwards. I think though both the Suezmaxes and VLCCs one thing is important to remember, the present financial crisis will have an impact on both the yards and the owners and I think if you look at this graph in the years to come the order book will look quite different and the deliveries will be quite different then what we see now on paper.

Page 22, a dramatic fall in the bulk rates mainly on the capesize as witnessed on the graphs on the left hand side. I think its safe to say there’ll be very few tankers converted into bulkers. In 2008 has seen a very high number of conversions. We have tracked 29 VLCCs being converted, 19 to bulkcarriers of VLOCs, six to FPSO/FSO, and four to scrapping.

As mentioned before the present spot market for single hull VLCCs is around [45 AGEs] which equivalents to about $10,000 a day only which we think would mean there’ll be further scrapping despite the low scrap prices.

There are two more known ULCC projects firmly done which is the two ships from [inaudible] which will be moved into offshore storage.

Now we are on page 23, this is a development of the newbuilding prices. The small dots is where our orders are. They are still well below the line despite falling prices. The last VLCC order which has been recorded was a newbuilding at [STX] and $151 million. There’s been no recent Suezmaxes but we estimate the prices to have gone down to around 90 so we still have some room in our prices compared to the market.

The TC markets we estimate today to be for three years, $55,000 and $40,000 for three years for Suezmaxes, e.i. they’re still a very healthy [inaudible].

We are now on slide 24, some interesting development has happened in the oil movement. Finally the oil prices in contango meaning that the forward price is higher then the present price. The contango right now is around $7 to $8 per barrel six months ahead which has made it attractive for various oil companies and oil traders to fix VLCCs and put the ships in storage.

We ourselves have [fixed] two ships and we have worked on a third. This is periods anything from three to 12 months and the rates are in excess of the spot market. We have also mentioned here as a positive thing in the market is the stimulus package which is being introduced. We hope that of course they will mean increased demand for oil and consumption.

Strategic stock building in China has not happened yet. There has been various discussion that maybe one way of spending money in China is to buy oil at the present low price and then do some stock building. This will of course be a positive for the tanker market.

Changes to the order book as we mentioned before, going forward will mean maybe a less, more positive fleet development and positive consolidation. We have also mentioned there are likely in these financial markets, there will be [inaudible] emerging and there will be various acquisitions and the [owners] phase out will of course also be positive for the market.

Finally the Gulf of Aden we have put in there, that’s a lot of media attention these days of piracy and most likely some owners already have decided they will go around the Cape and we ourselves will put into a policy that we will try and follow the escort ships, or marine ships that are in the region so there will be some delays.

Finally about Frontline, we still believe we are quite a lean and mean positive organization. We have very competitive newbuilding prices. As Inger mentioned we have 36% of our fleet has been secured for time charter on a fixed income for 2009 and in addition we have 5% of the fleet being fixed on time charter on floating rates but still that means there will be no waiting time.

I think we are ready now to take your questions.

Question-and-Answer Session

Operator

(Operator Instructions) Your first question comes from the line of [Robert Silver – RE Silver & Associates]

[Robert Silver – RE Silver & Associates]

When you gave the presentation, you gave a reference to corporate opportunities, could you expand what you mean by corporate opportunities.

Inger Klemp

That of course could be a lot of things but of course you know that it’s a lot of companies which are quite inexpensive in the market nowadays. It could be anything.

Jens Martin Jensen

We are not looking at any specific company but obviously we are following other companies in the industry and as Inger mentioned many of these companies on paper now are looking quite attractive so this is something that we are looking at and I’m sure other companies are as well.

[Robert Silver – RE Silver & Associates]

Is that why the dividend was reduced so much to conserve cash to make it possible to do such corporate opportunities?

Inger Klemp

As we explained in the press release the reduction in the dividend was taken after a thorough evaluation of different items but of course the newbuilding commitments, the weak fundamentals that we foresee in 2009, and also the squeeze in the credit market was important in that consideration.

In addition to that we also considered the opportunities as we just spoke about.

Operator

Your next question comes from the line of [Sheila Lehrman – Independent]

[Sheila Lehrman – Independent]

Can you please tell me what you have set for the ex dividend date?

Inger Klemp

The ex dividend date is December 5, 2008.

Operator

Your next question comes from the line of [Steven Williams – Simmons]

[Steven Williams – Simmons]

Should you have any more difficulty then you current envisage with regards to refinancing or any kind of problems in the credit market, is there any possibility of and would you give any consideration to cancellation of any of your newbuilds?

Jens Martin Jensen

I think there is probably other things we will look at before we do that. Of course that’s always one option but we have quite well priced newbuilding and we believe should we have to we could sell these ships in the market even though overall prices under pressure we still believe that we could sell some of these.

Of course if cancellation is a must, this is something we could look into but we have not done that yet.

[Steven Williams – Simmons]

On a theoretical basis and if you were to go and sell any of these newbuildings today what sort of price do you think you could get?

Jens Martin Jensen

I think without of course knowing for sure, but speaking to a few potential buyers, brokers, in the market today, I believe that a newbuilding you can probably sell in the market between $130 and $140 million basic delivery now.

Operator

Your next question comes from the line of [Andy Rose – ABG]

[Andy Rose – ABG]

I don’t know if I quite heard what you said on reselling a newbuilding contract, but did you say that you expect that you could resell a newbuilding contract for $130 million?

Jens Martin Jensen

Yes.

[Andy Rose – ABG]

But does that also apply to your Chinese vessels which were contracted at a significant discount to the market quotations at the time?

Jens Martin Jensen

That would be for VLCC coming from, being delivered now let’s say the first quarter next year, I believe you could sell that between $130 and $140 million in the market now.

Operator

Your next question is a follow-up from the line of [Robert Silver – RE Silver & Associates]

[Robert Silver – RE Silver & Associates]

I know you have a lag on bunker prices using them up, but with the new bunker pricing where it is, how long do you think it will take before that will significantly impact at the lower prices?

Jens Martin Jensen

On some of the ships of course we have been able to bunker and consume at these lower prices so I would, and of course it depends a little bit on the voyages but within hopefully before the fourth quarter is out we are down to bunkers at the present level. But it will take two to three months to burn the bunkers out.

[Robert Silver – RE Silver & Associates]

Given the same situation that you had now during the third quarter would you anticipate that the dividend would be approximately the same in the fourth quarter?

Inger Klemp

I wouldn’t think that we would say anything about that at the time being. That is for, that’s what the future will show.

Operator

There are no additional questions at this time; I would like to turn it back over to management for any additional or closing comments.

Jens Martin Jensen

I would to thank everybody for dialing in and spending your time and for people dialing in from America Happy Thanksgiving. We are sorry we had to put this conference during your vacation. I think it didn’t cross our mind when we blocked off this date. But thank you everybody for dialing in and showing interest in our company.

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Source: Frontline Ltd. Q3 2008 (Qtr End 09/30/08) Earnings Call Transcript
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