DryShips (NASDAQ:DRYS), a leading player in the shipping industry, has performed exceedingly well in 2013 as the stock has gained almost 140%. But in my opinion, investors should now book their gains and consider selling DryShips. The company reported its third-quarter results in November, and the report carried some worrying signs.
DryShips reported a mixed quarter as it managed to beat estimates on revenue but missed out on earnings. Revenue was up 18% from last year and comprehensively beat the consensus estimate of $343 million. But a look at the bottom line shows that all is not well for DryShips. DryShips' performance on the bottom line was disappointing as losses rose from $51 million to $64 million year-over-year.
The deterioration of the bottom line can be expected as DryShips is facing a heavier debt burden now. The company's debt-to-capitalization ratio jumped from 0.52 to 0.58 in the previous quarter. This indicates that DryShips will have to pay more interest going forward on account of increased debt. Additionally, DryShips saw a year-over-year increment of 6.3% in expenses. Thus, rising expenses and a worsening debt situation could strain DryShips' cash reserves in the future.
Rising debt is a big worry
DryShips has gained this year because of investor optimism that has been built upon the belief that the company is well-positioned to capitalize on the recent revival in shipping rates. But, DryShips might not be able to capitalize on this revival in shipping rates, as it might not generate enough money to pay off its huge debt.
According to Yahoo! Finance, DryShips' total debt in the most recent quarter was a whopping $5.30 billion. This is certainly gigantic when you consider that DryShips had just $506 million in cash at the end of the last quarter. This huge debt can further strain the operating margins in the future and could even force the company into liquidation as the debt looks daunting.
DryShips reported $13.4 million in EBITDA in its shipping segment, but it spent more than $33 million in debt payments. So, it is obvious that DryShips is not earning enough money to service its debt payments, and it will have to triple its earnings to provide for the debt repayments adequately. Hence, it will be too optimistic to assume that the recent revival in shipping rates will turn around the company's fortunes so drastically.
Poor management and share dilution
DryShips' management had decided to issue around 6 million shares for $20 million in the previous quarter, as it looks to tap every possible stream of cash that it can lay its hands on. This wasn't the first time that DryShips resorted to share dilution to get more cash. Such share dilution doesn't make DryShips an ideal buy for a long-term investor, as it might never yield a good return due to poor management.
Ideally, DryShips management should have considered selling off underperforming assets to keep its financial condition intact rather than dilute shareholder equity. However, the company seems to be doing the opposite. It paid a buyer $21.4 million earlier this year to get rid of two unfinished tankers.
Ocean Rig is no savior
It is believed that DryShips' financial situation will get better due to drilling operations it provides through its partially owned subsidiary -- Ocean Rig. Even though DryShips owns a 59% stake in Ocean Rig, it has no control over the capital and resources of Ocean Rig. So, investors would be wrong to believe that Ocean Rig's order backlog of $5.8 billion will benefit DryShips much.
DryShips has gained strongly this year despite a huge debt burden, poor cash position, and poor management decisions. But under such circumstances, one cannot expect the stock to sustain its bullish run for long. So, investors who have made some good money this year by investing in DryShips should book their gains and look for safer and more stable investment options.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.