Navios Maritime Partners (NYSE:NMM) has never made an accounting loss, despite the unprecedented all time low dry bulk market (spot rates are now well below OPEX). On paper, NMM is still healthy in terms of earnings, cash flow generation and net debt to book capitalization. This is attributed to its long-term charter business model, which generally insulates NMM from the spot market. Also, NMM entered the containership segment in 2013 and has been acquiring vessels with very long term charters attached, most expiring after 2023. The long term containership charters now represent approximately 50% of EBITDA. This percentage will increase as dry bulk vessels opening in 2016 are being re-chartered at today's record low rates.
Unitholders have been burnt, not necessarily because of the poor dry bulk market but because of abrupt changes in Management's behavior and strategy, resulting to a lack of trust, increased uncertainty and no returns to unitholders. One could argue that NMM is currently doing the job of its sponsor, Navios Holdings (NYSE:NM), of acquiring cheap dry bulk assets, since NM is unable to do so due to its poor financial condition. NMM is now a penny stock.
Many are wondering what happened to NMM's solid business model of 8 years of uninterrupted and increasing distributions, rising from 35 cents/unit in mid 2008 to 44.25 cents until November 2015. NMM even managed to successfully navigate the Great Recession by maintaining and increasing distributions. However, the dry bulk market was in a much better state during the 2008 financial crisis and rebounded sharply. Back then, NMM had no containerships with very long term contracts however the dry bulk fleet was chartered out with long term contracts signed before the crisis and the coverage was fairly good. Also, NM was in a decent financial situation back then, able to support NMM.
Rationale of the First Cut
After the first 50%+ distribution cut was announced in Q3 2015 earnings, many investors were disappointed but at least some understood the rationale behind the cut. The dry bulk market had collapsed. The distribution coverage ratio was below 1. The distribution yield was at ridiculously high levels meaning NMM was blocked from the equity capital markets due to the prohibitive cost of capital. Also, NM was in a terrible financial situation unable to support NMM with a loan or preferred equity offering to fund vessel acquisitions and/or buybacks, in order to bring the distribution coverage above 1. In fact, NMM had the option not so long ago to buy another containership similar to the MSC Cristina chartered out until 2027 at around $60,000/day. This acquisition would have arguably made NMM's distribution sustainable. However, NMM did not have the financial resources (nor did NM) to buy this containership and walked away from the deal.
Therefore, NMM was in a way forced to cut the distribution. Management went for an aggressive cut from $1.77 to 85 cents annualized, in order to "reset" the mechanism at a high coverage ratio (close to 1.7) in case NMM cannot access the capital markets for a prolonged period of time. The high coverage would generate adequate surplus cash after paying distributions of 85 cents to be able to invest in accretive deals or pay down debt. Many were hoping that NMM would go for a unit buyback program as the yield, even after the distribution cut, was still above 30%, even reaching 50%, as the unit price kept on falling. In effect, for every $10m invested in buybacks at an average yield of 30%, NMM would have saved $3m in annual distribution payments, thereby increasing the coverage ratio substantially. Also, many believed that the buyback would be the catalyst required for the unit price to pick up.
The Elimination of the Distribution
NMM suggested that the revised distribution of 85 cents annualized is sustainable for 5 years based on the long term containership contracts and certain dry bulk vessels. However, just next quarter in the Q4 2015 earnings release, Management deviated again and eliminated the distribution completely, with no unit buyback announcement. The new rationale is to pursue distressed deals primarily in the dry bulk space, which contradicts the previous intention for NMM to become a containership focused MLP. Management suggested that unitholders could realize value via capital gains and eventually at some point in the future a distribution might be reinstated.
Investors are Lost
As a result, investors are angry, confused and don't trust management. On the one hand, for those who are patient, the strategy of acquiring dirt cheap dry bulk vessels should pay off handsomely, as rates and asset values will eventually revert to the mean. The question is how long.
On the other hand, investors are afraid that they will never have the chance to recoup their losses and see a gain due to the relationship with NM. Many investors fear that NM will find a way to benefit at the expense of NMM e.g. through increased management fees (already happened), increased G&A, buying vessels from NM, etc. Some are afraid that since the market cap of NMM is so low at the moment, NM can actually afford (possibly with the help of its other subsidiaries) to acquire and roll up NMM into NM. Others are afraid of a forced merger. Others suggest the lenders will not allow a merger or NM acquiring NMM. In any case, we advise investors to read the Partnership Agreement, which explains the framework and requirements for the above scenarios. Another fear is what happens to NMM if NM goes bust.
Exposure to Hyundai Merchant Marine
Another major uncertainty is that Hyundai Merchant Marine (HMM) is a major charterer, accounting for almost 30% of NMM's contracted revenue. It recently become known to the public that HMM is seeking to restructure charter contracts of its chartered-in fleet e.g. see Hellenic Shipping News, Tradewinds. HMM is facing financial difficulties and therefore is likely to attempt to renegotiate with ship owners to reduce above the market charters. Some reports have suggested HMM will seek 20-30% reduction in charters. You can obtain more information about HMM in a recent article we wrote on Capital Product Partners (NASDAQ:CPLP).
As things stand, assuming no HMM or other charter defaults, NMM is currently highly cash flow positive, generating operating cash similar to its market cap. Over the next couple of years, NMM should (in theory) be able to invest more than $100m from cash piled up from operating activities to acquire distressed dry bulk assets. Diana Shipping (NYSE:DSX) is the only other listed dry bulk company which has the resources and balance sheet strength to invest in an all time low asset price environment. The difference is that DSX has the cash on the balance sheet (more than $200m) now, whereas NMM will have to wait to pile it up from operating activities. However, DSX will be cash flow negative whereas, all else constant, NMM will be cash flow positive due to the containership contracted backlog. However, if the containership contracted backlog is under threat due to HMM, things will get really tight for NMM. Also, as long as NM is in distress, there will be pressure on NMM's unit price.
Even though on paper NMM has a strong chance to make it, investors should be very careful due to the relationship with NM and monitor how the HMM situation unfolds. NM needs help and NMM is no longer paying a distribution to NM. So how will NMM support NM? Will NMM continue operating independently? Also, based on the insurance agreement, NM pays NMM for the Navios Aurora II around $40k per day since the charterer (Samsun Logix) filed for rehabilitation. Will NM be able to honour this insurance agreement?
If NM can make it without sacrificing NMM as an independent entity, then we are hopeful for NMM. It all boils down to malintent. After all, NMM is still cash flow positive, the balance sheet is decent (given current market conditions) and will strengthen over time (as cash piles up). There are no CAPEX commitments. Even accounting earnings are positive, all else constant (due to the long term contracts). NM is at the heart of the problem. Management is clearly working for NM, as the CEO owns around 30% of NM, and therefore has to protect her wealth.
Disclosure: I am/we are long NMM.
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.
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