Ultrapetrol: A Case Study On Questionable Corporate Governance

| About: Ultrapetrol (Bahamas) (ULTR)

Ultrapetrol Ltd. (NASDAQ:ULTR) is a Bermuda-based shipping company that has seen its stock price slide from a high of $5.34 in June 2011 to close at $1.48 on Tuesday. The company operates three business segments: a barge transporting business in the Hidrovia Region of South America, an offshore supply business in Brazil and the North Sea, and an ocean business that operates two regional container vessels and several product tankers.

The company has been plagued by delays in deliveries of new ships, expenses growing in excess of revenues (see pg. 11 of the company's 6-K dated May 15, 2012), periodic droughts on the Hidrovia River Region, and a balance sheet saddled with over $500 million in debt and a net debt/EBITDA ratio of 9.4 (as of March 31, 2012). While management continues to point toward brighter times in the future, a recent 6-K (which is like an 8-K for a U.S.-based company) announcing a special meeting of shareholders in July suggests the future of Ultrapetrol isn't as rosy as shareholders have been led to believe. You can read the entire filing here. I will just hit the high (or are they low?) lights.

The company is increasing the number of authorized shares from 100,000,000 to 250,000,000 (see pg. 8 of the 6-K dated June 8, 2012). There are currently approximately 30,000,000 shares outstanding. If the company is contemplating an equity raise of some sort, it must be a very large one. Raising equity after a 70%-plus drop in the per-share price over the past year can certainly be called bad timing, to say the least.

It gets really interesting when one reviews the proposed changes to the Articles of Association.

From pg. 9 of the 6-K dated June 8, 2012: "Shares can be issued by the board without prior shareholder approval." If the Sixth Amended and Restated Articles of Association (the "New Articles") are approved and adopted, the company's board of directors will have the power to cause the company to issue shares of capital stock without the vote, approval or consent of shareholders, up to the amount of the company's authorized share capital, in connection with any offer, sale or issuance of any of the company's equity securities or securities convertible into or exchangeable for any of its equity securities. The company refers to any such transaction herein as an "Equity Offering." Any Equity Offering would likely have a dilutive effect on existing shareholders that do not receive shares in such an Equity Offering, and also would likely decrease the relative voting power of existing shareholders. You should be aware that the Board of Directors and management evaluate the industry and the capital markets as a matter of course and engage in discussion concerning potential Equity Offerings and other potential transactions from time to time. If the New Articles are approved and adopted, the company may conduct an Equity Offering or other transaction at any time, without any prior notice to, or any vote or consent of, shareholders.

From pg. 9 of the 6-K dated June 8, 2012: "The board of directors may increase authorized capital." If the Third Amended and Restated Memorandum of Association and the New Articles are approved and adopted the company may, by resolution of its board of directors or shareholders, amend its Memorandum of Association to increase or reduce its authorized capital, including the dividing and combining of shares among other actions. In the Old Memorandum of Association, such dividing and combining of shares could be undertaken by the company only upon resolution by the shareholders.

From pg. 10 of the 6-K dated June 8, 2012: Mandatory arbitration. The New Articles provide that any disputes between the company on the one hand and any of the shareholders or their executors, administrators or assigns on the other hand with respect to the New Articles or The International Business Companies Act 2000 of the Bahamas must be referred to arbitration to be conducted in accordance with the Arbitration Act, 2009 of the Bahamas. This means that if the New Articles are approved and adopted, you may not be able to bring any dispute as described above that you may have in court but may need to submit such dispute to arbitration. The Old Articles did not contain such a provision.

From pg. 10 of the 6-K dated June 8, 2012: Distribution upon winding up or dissolution of the company. If the New Articles are approved and adopted, in the event of a liquidation of the company the Liquidator may, with the authority of a resolution of shareholders, divide the assets of the company among the shareholders and may for such purpose set such value as he deems fair upon any one or more class or classes of property and may determine how such division shall be carried out as between the shareholders. In the Old Articles, upon liquidation, dissolution or winding up of the company, the net proceeds were to be distributed among the common stock holders pro rata to their respective percentage ownership of such common stock as of such liquidation, dissolution or winding up.

If you just skimmed the last four paragraphs, I would encourage you to read them carefully. Ultrapetrol is controlled (board level) and run (management) by the Menendez Family. Two entities (Inversiones Los Avellanos and Hazels Investments, Inc.) controlled by the family together own 7.8 million shares, but these shares have 7 votes each so they effectively control 70.97% of the voting rights of the company (see "Quorum and Required Vote" in the above mentioned 6-K on pg. 7).

Shareholders have already ceded control of the company to the Menendez Family, but these revisions to the Articles of Association are truly disturbing. I have no idea what the company is planning to do with its capital structure, but clearly some of these changes are abusive to minority shareholders. Allowing the assets of the company (in the event of a liquidation) to be valued as a "Liquidator" deems fair upon any one or more class of classes of property and to divide them between shareholders as the Liquidator sees fit is shameful. The Articles of Association previously stated that the net proceeds from a liquidation would be split pro rata to shareholders, as it should be.

I find the changes regarding a liquidation scenario to be the most egregious. Again, I do not know what the company is planning to do as a result of these changes, but I am worried that us minority shareholders' rights will not be protected. Let this be a lesson to all investors that corporate governance does matter. Director independence matters. Voting rights matter.

The next six months should prove quite insightful. If the company continues to post lackluster operating results (little or no cash flow from operations), it will not be able to make any meaningful debt in its massive debt load and likely will have trouble making scheduled principal payments. The company has burned through $80 million in cash in the past 15 months, left with only $25 million as of March 31 (see March 31 quarterly report). Where we go next is anyone's guess -- asset sales? equity and/or debt raise? -- but I am very worried minority shareholder rights will not be protected.

Disclosure: I am long ULTR. I am considering selling my shares in ULTR in the coming weeks.