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Executive summary:

  • Strong market fundamentals for future growth.
  • A better balance between the demand and supply.
  • A healthy subsidiary to help in times of need.
  • Strong movement in the stock price over the past few days.

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The things are changing rapidly for DryShips (NASDAQ:DRYS), due to the changing dynamics of the industry. Also, the company has been trying to restructure the huge debt levels. There has been a lot of volatility in the stock price and it has made some wild swings - however, the overall trend has been upward. The stock has gained more than 190% during the last year. However, as the New Year started, a combination of profit taking and an announcement to issue new equity by the company caused the stock to fall. Nevertheless, the stock has started to make a recovery and it has gained over 15% during the last five days. The main reason for an upward movement is the improving conditions of the dry bulk carrier industry and a favorable economic outlook. Let us take a deeper look on the market and the company itself.

Improving Shipping rates

The shipping rates depend on the demand and supply of goods transported. They also depend on the number of vessels available - there is an inverse relationship between the number of vessels and the shipping rates. Analysts have predicted that in 2014, the growth in demand for the services of drybulk carriers is expected to be greater than the growth in the number of vessels by 0.1% to 1.1%. This will result in better shipping rates, subsequently, increase the margins of drybulk carrier companies.

Drybulk carrier companies have been increasing the fleets since last year. Mainly, due to the increased demand over the two-three years. The Baltic dry index is also getting better if we look at it on a yearly basis. During 2013, Baltic dry index rose 200%. However, most of this growth was lost as 2014 started. The problem is that Baltic dry index is extremely volatile which effects DryShips' stock almost instantly. So if we were to evaluate this company by shipping rates, the wise thing would be to consider the long-term year-over-year growth of Baltic dry index rather than any short-term movements in the index. The main reason for drop in Baltic dry index is a decline in demand for capsize, which mainly happened due to the decreased demand of ores from china due to its New Year. However, this effect is temporary and is expected to improve as business gets back in the flow.

The value of vessels has also been increasing significantly for both new and used. Value of a used Panamax increased from $25.5 million to $26.5 while capsize value increased from $41 to $49 million. Additionally, the value of huge number of vessels which DryShips owns is also increasing with increased vessel prices. This will not directly affect the company's earnings but may reflect on the company's balance sheet as the assets get revalued. As a result, total assets to total liabilities ratio will improve.

China is the largest importer of coal as the steel production keeps rising and the number of expected coal fired plants continues to increase, the demand for coal in China and India is expected to increase. By 2030, the demand for thermal coal is expected to double as it is a viable option for many due to higher LNG prices. Also, estimates show that India may face a shortage of 350 million tons of coal by 2017. In other words, the demand for coal in India would increase by 20-32%, annually.

Restructuring the Debt: Increased Free Cash Flow

Long-term debt has been a huge problem for the company driving it profits down and leaving the company with negative free cash flow. Fortunately, the company has restructured its $1.8 billion loan to solve solvency problems and increase its cash in hand. The loan restricting is done through the company's subsidiary, Ocean Rig (NASDAQ:ORIG). The new loan is not going to mature before the third quarter of 2020. Although the company would still have to pay the interest costs but it will certainly increase the free cash flow of the company for at least 6 years. The amount which would have been taken by debt retirement could now be used to provide short-term solvency for the company. DryShips have used Ocean Rig to get out of jail on a number of occasions as it is a healthier arm of the company. For a detailed discussion of the relationship between these companies, please follow this link.

Conclusion

It is understandable that the investors still have doubts about the company after the condition it has been over the past three years. However, looking forward, I believe the growth opportunity in the sector is real and the company will be able to grow. Furthermore, as I have mentioned in the article linked above, the company will soon start to benefit from Ocean Rig in terms of cash (a cash dividend from Ocean Rig in May). There is no denying that the company is still going through tough time; however, the market fundamentals and the economic outlook looks in favor of the company and it should continue its journey towards recovery.

Source: DryShips: The Recovery Should Gather Pace Soon