This article is intended to be a follow up to my initial writeup of the LPG shipping company Stealthgas (GASS) I wrote three months ago. If you are not familar with the background of the company, please reference my previous article. In my opinion, not enough authors on SeekingAlpha look back and evaluate how their predictions compared to what actually transpired. In the initial company profile, I stated that the Q4 quarterly earnings would be very indicative of the future of the company. With earnings having been released last Thursday (2/23), the time has come to evaluate that statement.
Financial Results: Stealthgas ended 2011 with $45M of cash on hand and $36M of total year free cash flow. With charter rates steadily trending upward and with many company ships being rechartered at higher rates, it is reasonable to expect that Stealthgas should generate $40M of free cash in 2012.
With this is mind, it is worthwhile to consider what buying a share of Stealthgas gets you. As of 2/27, the company traded at $5 per share. With $45M of cash equating to $2.25 of cash per share, the "true" share cost comes to $2.75. For $2.75, you are buying a company that owns 39 ships which are worth $13 per share net debt, is the leader in its field, has never posted an operational loss and generates $2 per share in FCF annually.
From a purely financial standpoint, Stealthgas would appear to be a strong buy. However, if investing was based purely on financials, it would be much easier. There are
other factors to consider, such as management's alignment with shareholders, capital allocation decisions and attitudes regarding company leverage. Unfortunately, these are the areas where I am becoming concerned with Stealthgas.
Expanding the Fleet: After listening to the conference call and reading the company press release, one gets the strong impression that company CEO Harry Vafias is looking to utilize his large cash pile to increase the size of the fleet through the purchase of second hand ships or contracting new builds out of Japan. Either option would represent a huge destruction of shareholder value.
Stealthgas currently trades at a 75% discount to its net asset value. When one operates a company that trades at ¼ of the value of its assets, the logical move is not to continue to buy these assets in the outside market but instead to buy back stock. By purchasing your own stock when it is trading at a such a huge discount, you are effectively buying those assets at that discount.
It is hard to believe that Mr. Vafias can find a deal in the outside market where he can buy an LPG vessel at a 75% discount. As a stockholder in GASS, I am a part owner of the company. If one of my fellow owners is willing to sell their portion of the company at a 75% discount to what it is truly worth, then management should be taking advantage of that opportunity. Stealthgas should be using its cash to repurchase stock until the price becomes prohibitive as it rises to its more intrinsic value. Only when the company stock accurately reflects the current net asset value does it become justifiable to buy new ships.
With this logic, it is hard to understand why the company did not purchase a single share of stock in the fourth quarter. If one were to look back at the past three years of Stealthgas quarterly conference calls, one would find that they generally always end with Mr. Vafias pointing out how depressed the stock price is compared to its intrinsic value. With these statements in mind, it is difficult to defend why no company stock was repurchased in Q4, especially with the company possessing half of its market capitalization in cash.
Increasing Debt: On the conference call, Mr. Vafias referenced the possibility of the company going deeper into debt to increase the size of the fleet. This runs contrary to past conference calls where company management stated that they wished to keep their debt to assets ratio around 0.5.
Stealthgas currently operates with a debt load that is 9X free cash flow. Increasing this already high burden would be extremely risky to the future of the company, especially if the world were to fall into another recession. Running this risk does not seem prudent at a time when the company is being valued at 25% of its net asset value.
Selling the Gas Kalogeros: In the quarterly earnings press release and on the conference call, investors were informed that Stealthgas had agreed to sell the Gas Kalogeros, a 2007 build. This seems to be a highly questionable move based on management's claims that the company is cash rich, operating with a low level of leverage and is ready to expand the fleet. If these statements were true, why would Stealthgas sell an essentially brand new vessel? How does this help the company generate shareholder value? I have reached out to the company CFO regarding this issue and have still not received a satisfactory answer.
I am still holding my Stealthgas shares but I am watching company management closely. If the company announces that they are purchasing additional vessels, I will be selling as company management would clearly not be acting in the best interests of the shareholders. On the other hand, if management were to seize the opportunity in front of them and use their cash to repurchase company stock, then Stealthgas would become a very lucrative investment opportunity.
Disclosure: I am long GASS.