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DryShips Inc. (NASDAQ:DRYS)

Q4 2013 Earnings Conference Call

February 19, 2014 09:00 ET

Executives

George Economou - Chairman and Chief Executive Officer

Ziad Nakhleh - Chief Financial Officer

Analysts

Taylor Mulherin - Deutsche Bank

Fotis Giannakoulis - Morgan Stanley

Operator

Thank you for standing by, ladies and gentlemen and welcome to the DryShips, Inc. Conference Call on the Fourth Quarter 2013 Financial Results. We have with us Mr. George Economou, Chairman and Chief Executive Officer; and Mr. Ziad Nakhleh, Chief Financial Officer of the company. At this time, all participants are in a listen-only mode. There will be a presentation followed by a question-and-answer session. (Operator Instructions) I must advise you that this conference is being recorded today on Wednesday, February 19, 2014.

Matters discussed in this release may constitute forward-looking statements. Forward-looking statements reflect current views with respect to future events and financial performance and may include statements concerning plans, objectives, goals, strategies, future events or performance, and underlying assumptions and other statements, which are other than statements of historical facts.

Please take a moment to read the Safe Harbor statement on Page 2 of the slide presentation. Risks and uncertainties are further described in the report filed by DryShips, Inc. with the U.S. Securities and Exchange Commission.

And I will pass the floor to Mr. Ziad Nakhleh. Please go ahead, sir.

Ziad Nakhleh - Chief Financial Officer

Thank you. Good morning, ladies and gentleman. I am starting on Slide 4. For the fourth quarter of 2013, DryShips posted a U.S. GAAP net loss of $24.4 million, or $0.06 per share. This result was mainly driven by solid results of Ocean Rig, which recorded a profit of close to $40 million. Ocean Rig maintained high utilization levels for the quarter and generated incremental revenue from the operational startup of the Ocean Rig Mylos in Brazil.

For the full year of 2013, our group reported revenues of $1.5 billion, adjusted EBITDA of $572 million and generated cash from operations of approximately $256 million. For the remainder of this presentation, we will be primarily focusing on our shipping segment’s operations. For additional information on our drilling segment, please refer to Ocean Rig’s fourth quarter presentation available on www.ocean-rig.com.

On to Slide 5, for the fourth quarter of 2013, our shipping operations were challenging. On one hand, we had certain above market charters in dry bulk segment and on the other all our tankers and a large number of our bulk carriers were earning spot market rates, which were barely above operating cost levels. It is important to note that during this quarter, we did not capture the dramatic uplift in Suezmax and Aframax fleets, which commenced this decline mid to late December 2013. We expect a much rosier picture next quarter when our results should reflect the recent upturn in the market.

During the fourth quarter, we made principal repayments of $81.5 million under our long-term credit facilities. This amount includes the $55 million prepayment we agreed with our previous – under our previously disclosed supplemental agreement with the HSH-led lending syndicate. Furthermore, we made no payments to Rongsheng Heavy Industries for our ships under construction, as these vessels are experiencing significant delays. For the quarter, our average TCE levels were close to 13,000 per day for our tankers and bulkers.

On to company updates on Slide 7. On February 7, 2014, Ocean Rig refinanced its existing short-term Tranche B-2 Term Loans with a fungible add-on to its existing long-term Tranche B-1 Term Loans. As a result of this financing, the total $1.9 billion of Tranche B-1 Term Loans will mature no earlier than the third quarter of 2020. On January 27, 2014, the Ocean Rig Skyros arrived in Angola and commenced the acceptance testing under the contract with Total.

On December 31, 2013, the DryShips resumed sales under its previously announced $200 million ATM program. During January 2014, approximately 20.8 million common shares were issued and sold at an average share price of $4.14 per share resulting in net proceeds of $84.5 million. On December 30, 2013, Ocean Rig agreed with a major oil company to further extend until March 30, 2014, the expiration of the previously announced LOA for its ultra deepwater drillship, Ocean Rig Skyros. Finally, on December 20, 2013, Ocean Rig took delivery of its ultra deepwater drillship, the Ocean Rig Skyros and drew down $450 million under its $1.35 billion syndicated secured term loan facility.

On to Slide 8, the lucrative charters entered into the height of the dry bulk market are running out on a staggered basis. For fiscal year 2014, we have 36% fixed rate coverage. Our fixed rate coverage falls to 21% for 2015 and then 15% for 2016. We are expecting the market to be stronger through 2014 and believe that with our spot exposure, we are well positioned to take advantage of the positive rate outlook for 2014 and 2015.

On to Slide 9, we highlighted the earnings power of our shipping fleet. We have significant leverage to the dry bulk and tanker spot market and positive developments in these sectors will result in substantial cash flow to our bottom line. We remain committed to our strategy, which is to operate all our vessels both dry and wet on the spot markets in order to take advantage of a sustainable recovery in these markets in 2014 and beyond. During 2014 and 2015 we have 12,669 and 15,491 spot fleet capacity days respectively. It is interesting to note that our Panamax fleet represents approximately 60% of the spot days. A $20,000 per day increase in average charter rates will add another $250 million and $310 million of additional EBITDA to our shipping segment in 2014 and ’15 respectively.

On Slide 10, we have four Ice Class Panamax bulkers under construction at Jiangsu, Rongsheng Heavy Industries in China, with total remaining yard installments of $124.4 million. As we stated in the preceding quarter the deliveries of these vessels are severely delayed. We still to this date cannot confirm the steel cutting for these vessels has commenced. And the contractual delivery dates are just around the corner. As per the ship building contracts we can only formally cancel the contracts 255 days after the contractual delivery dates of the vessels. We have provided the cancellation dates for the vessels on the right hand column in the slide.

Unfortunately, the situation at the shipyard is deteriorating everyday and the financial troubles are taking a toll affecting the construction and quality of all vessels coming out of Rongsheng. We may have no other option, but to cancel the contracts. As we said before the refund guarantees are issued by the Bank of China and we stand to recoup not only the payments we have made to-date, but potentially 8% interest as well. We will keep you updated in this respect.

On to Slide 11, a brief banking update. On the back of our supplemental agreement with an HSH led banking syndicate, we are in discussions with the Nordea-led bank banking syndicates of our $325 million senior secured credit facility to defer certain principal repayments to maturity. While this will not transform our liquidity situation dramatically, it will provide an additional cushion to our free cash balance. We are optimistic to enter into such an agreement. On December 31, 2013, approximately 5.4 million shares of Ocean Rig previously pledged to Piraeus Bank under two facilities will automatically release back to us. In addition as of today no shares of Ocean Rig are pledged under any of our loan facilities.

On to Slide 12, our value to loan compliant situation on the shipping side has improved significantly. On this slide we chart our shipping vessel values against secured shipping loans outstanding. The value of our shipping fleet has increased by 43% on average over the course of the year and stood at around $1.4 billion in total at the end of 2013, while our secured long-term debt at that date was $942 million. Our fleet wide value to loan ratio has jumped from 106% at the beginning of the year to 152% at the end of the year. To give you some context, the market standard minimum required value to loan ratio by banks today is in the range of 125% to 140%. We still have some work to do at some of our facilities on the borderline, but there is no doubt that the covenant issues of the past are well behind us.

On Slide 13, we outlined the secured debt profile of the dry bulk and tanker segments as of December 31, 2013. The mandatory debt amortization for our shipping segment, excluding balloons of loan maturities, is $94 million, $138 million and $68 million for 2014, ‘15 and ‘16 respectively. As I have mentioned in the previous slides, we expected to be a modest amendment to these amortization schedules once we sign an agreement with the lenders under our $325 million senior secured credit facility. In addition to our secured debt, our $700 million convertible bond matures at the end of 2014 and we are considering our options in this respect.

On to Slide 14, our consolidated capital structure at the end of 2013 is robust evidenced by 52% net debt to cap ratio. Short-term, this ratio will be impacted negatively, i.e., higher by a $425 million net drawdown under our $1.35 billion senior secured credit facility in February 2014. At the same time, we have been active in the equity markets and have raised $84 million under our ATM program during 2014. This equity is not reflected in the year end capital structure. On the right hand, we highlight our share count as there seems to be some confusion of what number people should use in their EPS calculations. Our pro forma share capital today, which reflects the issuances of shares under our ATM program in January 2014, is approximately 453 million shares. However, in this amount our two categories that are not usually included in the EPS calculation for various reasons. Firstly, approximately 15 million shares have been lent under the borrow facility to our convertible bond and which must be returned back to the company by maturity end of 2014. Secondly, approximately 21 million of shares are held by the company as treasury stock. This marks the end of the company update and we will now move into the industrial review.

On to Slide 16, on to the dry bulk industry section. During the fourth quarter of 2013, we continue to enjoy a significant increase in transportation demand for dry bulk commodities. More specifically, we have seen that Brazil and Australia’s Q4 combined iron ore exports were up 10% year-over-year with Australian exports increasing by 20%. Big 3 Q4 iron ore imports were up 11.8% year-over-year with China importing approximately 78 million tons in November, an all-time monthly high. Combined Chinese and Japanese Q4 coal imports were up 5.2% year-over-year with Japan’s imports increasing by approximately 9% year-over-year. Going forward, there are numbers of factors that can really set the markets on fire, amongst of which are the commodity trade growth as a result of improving fundamentals in global economic outlook; steel production demand as well as steel margins, which are expected to further improve during 2014; the economies of slow steaming, which are unlikely to change effectively reducing the feed supply; seasonal factors, which can positively affect freight rates such as port congestion, which effectively reduce the supply.

On to Slide 17, the graphs on the left illustrate the development of the order book to the outstanding situation. As you can see, the order book as a percentage of the fleet has been steadily declining since the highs of 2008 and ‘09 with Capesize and Panamax order books representing 21% and 20% of the respective fleets as of the end of 2013. While the order book has been expanding recently on the back of the improved market outlook and freight environment, we believe that it still remains at manageable levels as we expect demand growth to mitigate the fact of further addition to the fleet. Additionally, we expect the Capesize fleet to grow by 4.9% and 4% in 2014, 2015, far below the 10 year average fleet growth of 12%.

As for the Panamaxes, we expect the fleet to grow by 9.3% and 3.7% in 2014, 2015 which compares with 10 year average fleet growth of approximately 9%. In any case with the bulk of new orders coming in at the end of 2015 and beyond the scene is set for sustainable bull market. Finally we’d like to point out that there is still considerable scrapping potential as more than 8% of both Cape and Panamax fleets are over 20 years old, an additional 10% and 12% respectively are between 15 and 19 years old.

On to Slide 18, we’ll now switch to the industry section of the crude tanker market. The prospects of the tanker market are starting to look more promising as evidenced by the significant increase in freight rates particularly in the large asset classes during December and the good part of January 2014. While we believe that the freight levels witnessed recently are partly the result of seasonal factors, the magnitude of the increase shows us of the supply demand balance is tighter than anticipated. As such with stable positive figures presented by the IMF and the IEA on GDP growth and global oil demand in conjunction with the slowdown in new building deliveries and a manageable order book, we expect 2014 to be a transitional year with increased volatility and an overall best of freight environment.

On to Slide 19, the graphs in the left illustrate that the development of the order book to the outstanding fleet ratio. As you can see the order book as a percentage of the fleet has been declining since the end of 2008 would be Aframax, the Suezmax and the Aframax order book representing 9.8% and 12% of the respective fleets at the end of 2013. We expect the Suezmax fleet to grow by 5.8% and 2.6% in 2014 and 2015 below the 10 year average fleet growth of approximately 6.1%.

On the Aframaxes, we expect the fleet to grow by just 1% and 1.8% in 2014 and 2015 which compared to the 10 year average fleet growth of approximately 5.1%. To sum up we believe that the fears over severe oversupply may have been overstated. And the depressed freight environment we’ve experienced during the past several years was more a result of lackluster demand rather than an oversupply issue, a situation we see reversing in the coming years.

We expect Europe and Asia to continue covering for a large percent of the lost imports from West Africa and the development of new trade rules which often involve longer than traditional voyages due to the startup of new refineries to be supportive of ton-miles and improved utilization across the tanker fleet. This marks the end of the industry section.

I’ll now turn the call over to Mr. Economou for closing remarks.

George Economou - Chairman and Chief Executive Officer

Thank you, Ziad. In closing I would like to clarify for everyone once again that DryShips is a pure shipping company with predominantly spot market exposure in 2014 and beyond and then majority stake in Ocean Rig which operates ultra deepwater drill ships. We continue to be proactive in managing our liquidity. We have previously reached an agreement with an HSH led syndicate to reduce our cash needs over the next one to two years and now we’re in advanced discussions with the Nordea led syndicate for the same purpose. So far the (long-term) Saga is concerned we may have no choice but to cancel all four shipbuilding contracts at some point in time in the near future. Finally we raised $108 million to-date with our ATM program which has proved to be inefficient to derive the equity capital.

Based on our current debt service profile and even if the industry does not stage a recovery we estimate that DryShips is now fully funded. In addition please know that Ocean Rig’s recent announcement that it plan to initiate a quarterly dividend for $25 million stable in mid May starting rebate in mid May 2014, which will provide a different liquidity at DryShips.

As far as the broader dry bulk in tanker markets are concerned, we’re optimistic; expect that the payment will be recovered in 2014 and beyond. And believe DryShips is well positioned to take advantage or be in soon recovery in charter rates in the dry bulk and tanker sectors. This marks the end of our fourth quarter earnings presentation. And we now open the floor for questions. Operator?

Question-and-Answer Session

Operator

Thank you very much sir. (Operator Instructions) Your first question today comes from the line of Justin Yagerman from Deutsche Bank. Please go ahead.

Taylor Mulherin - Deutsche Bank

Good afternoon. This is Taylor Mulherin on for Justin this morning?

George Economou

Hi, Taylor.

Ziad Nakhleh

Hi, good morning.

Taylor Mulherin - Deutsche Bank

Good morning. I first wanted to start off just to kind of confirm or clarify what you’re saying with the convert, last quarter you mentioned how you wanted to try to focus on DryShips exclusively as you’re trying to reach after that and not involve ORIG at all. Is that still the thinking at this time and then more specifically do you have any sense of timing about when you think something like this will be done versus having a wait and go last minute?

George Economou

Well it’s more of the stages foe us. So we’re pretty aware of what we need to do. We’re working at it. The overall business are in our favor, we’re not in a rush, we would not do it until it’s most advantageous for us, we cannot give you the line, but we’ll do it.

Taylor Mulherin - Deutsche Bank

Understood. And then move on to the equity issuances so far in 2014. You’ve been pretty active just in terms of the dollar amount raised, but looking at the average price that you sold the shares at, it looks like almost all that occurred really in the first few days of 2014 and please correct me if I’m wrong. But I was just trying to get an idea of how you’re thinking about equity issuances in terms of whether it’s based – where the stock is trading or just the capital needs sort of at that time?

George Economou

Well the first thing to consider was to cover the capital needs for 2014 because everybody was worried more than we were. And though everybody’s expectation was of a $200 million to $300 million hold, we now feel that with the cash at hand we are very comfortable in being (indiscernible) covered for the repayments that we have in hand. If we’re delaying additional equity it will be for a purpose and that will be because we can put it to good use. So there is no specific plan, but what is for certain that we’ll not need to raise anymore funds for the cash equity of the company for 2014.

Taylor Mulherin - Deutsche Bank

Just a follow-up to that. You mentioned you’ve raised $108 million so far this quarter. How much share…

George Economou

It was since the beginning of the (indiscernible) for this quarter.

Taylor Mulherin - Deutsche Bank

Okay. I got you. So it’s what’s in the press release, okay. And then just one final quick one, could you just provide an update of DryShips ownership in ORIG either on a share or…

George Economou

89.6%.

Taylor Mulherin - Deutsche Bank

Alright, great. Thanks so much for your time.

George Economou

Sure.

Operator

Thank you. Your next question comes from the line of Fotis Giannakoulis from Morgan Stanley. Please go ahead.

Fotis Giannakoulis - Morgan Stanley

Yes, good morning, and thank you. Can you please clarify what is the restricted cash, there was about $170 million for the total group last quarter. What is the level of the restricted cash this quarter both for DryShips at the product level and also for Ocean Rig?

George Economou

Yes.

Ziad Nakhleh

Yes. Well in general the bulk of their cash today mainly relates to (NYSE:NIM) liquidity requirements under our loan facilities. And we’ll be filing, we expect to file our year end financials by the end of this week. So you can get a good idea of what they’re up both for Ocean Rig and DryShips.

Fotis Giannakoulis - Morgan Stanley

Okay, thank you. As you mentioned earlier Ziad about potential cancellation of the new building contracts, if you had to give us some probability, how probable do you think that substantial lay when it is?

Ziad Nakhleh

I think it will happen. The yard obviously and it’s a common knowledge, public knowledge so we’re not saying something there is not, has severe financial issues they attain it will resolve, you have on that slide, on the previous slide you were given a date but would like to keep this conference because we feel they’re advantageous both in terms of the price that we paid for them and of the quality of the ships because we did go out to order Panamax’s with (high-skilled) trading capability. So it will only depend on the yard. We think that we’ll not be able to deliver in time including the permissible delays, they would be more than happy to take delivery of the ships if they can deliver in time. There is nothing more we can provide in this time.

Fotis Giannakoulis - Morgan Stanley

Thank you, George. One last question about the market, we have seen that the BDI has declined seasonally during January and February. How do you see the period market and are there opportunities to charter the vessels under time charters? And what is your outlook for the rest of the year?

George Economou

Yes, on the Panamax side you see requirements for 4, 6 months or 11, 13 months or call it 6 months or a year on average. Then there is increased requirement. There is more so in the Cape market, which is well controlled by very few player, probably say around 5 series one, than not series 5 that are active enough and very few that are not very active. And those views tend to be even longer. So, it could be one year to two years. We – I think obviously that the market would rise. There is going to be seasonality this year, which is the use of seasonality. We are taking sometime around end April or in April-May and then again in October-November, but the rates will be moving up. So and ‘15 is going to be a much better year than ‘14.

Fotis Giannakoulis - Morgan Stanley

Can you give us your view what kind of rates do you think that you can achieve today and what is your expectation about the levels that rates might develop throughout the year?

George Economou

I can give you where they are today. The expectations, I think that’s something you have to figure in your models. Today, the one year Panamax is anywhere from 14,000 and sometimes a little more for a very good spec. On the Capesize for the one year, it would be around 22, 23 pushing to 24. Expectations are something you have to make your own assumptions.

Fotis Giannakoulis - Morgan Stanley

Thank you very much for your time.

George Economou

Sure.

Operator

(Operator Instructions) I would now like to pass the floor back to the speakers today for any closing remarks. Thank you.

George Economou - Chairman and Chief Executive Officer

We would like to thank everybody that participated in the call. And have a nice day. Thanks.

Ziad Nakhleh - Chief Financial Officer

Thank you.

Operator

Thank you, ladies and gentlemen. That does conclude our conference for today. Thank you all for participating and you may now disconnect.

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