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Executives

James I. Edelson - General Counsel

Morten Arntzen - President and CEO

Myles Itkin - EVP, CFO and Treasurer

Jonathan Whitworth - Sr. VP and Head of the U.S. Flag Strategic Business Unit

Mats Berglund - Sr. VP and Head of Crude Transportation Strategic Business Unit

Lois K. Zabrocky - Head of International Product Carrier Strategic Business Unit

Analysts

Jonathan Chappell - JPMorgan

Douglas Mavrinac - Jeffries & Company

Omar Nokta - Dahlman Rose

Urs Dur - Lazard Capital Markets

Natasha Boyden - Cantor Fitzgerald

Gregory Lewis - Credit Suisse

Justine Fisher - Goldman Sachs

Darren Gacicia - Morgan Stanley

Overseas Shipholding Group, Inc. (OSG) Q1 FY08 Earnings Call April 30, 2008 11:00 AM ET

Operator

Ladies and gentlemen, thank you for standing by. Welcome to the OSG First Quarter 2008 Earnings Conference Call. At this time, all participants are in a listen-only mode. Later, we'll conduct a question-and-answer session and instructions will be given at that time. [Operator Instructions]. As a reminder, this call is being recorded today, Wednesday, April 30, 2008. I would now like to turn the conference over to Mr. Jim Edelson, General Counsel. Please go ahead, sir.

James I. Edelson - General Counsel

Thank you. Before we start, let me just say the following. This conference call may contain forward-looking statements regarding OSG's prospects, including the outlook for tanker and articulated tug barge markets, changing oil trading patterns, anticipated levels of newbuilding and scrapping, prospects for certain strategic alliances and investments, prospects for the growth of the OSG gas transport business, estimated TCE rates achieved for the second quarter of 2008 and estimated TCE rates for the third and fourth quarters of 2008, projected drydock and repair schedule, timely delivery of newbuildings and prospects of OSG's strategy of being a market leader in the segments in which it competes, the projected growth of the world tanker fleet and the forecast of world's economic activity and world's oil demand.

Factors, risks, and uncertainties that could cause the actual results to differ from the expectations reflected in these forward-looking statements are described in OSG's Annual Report on Form 10-K for 2007. For this conference call, we have prepared and posted on OSG's website supporting slides to supplement our prepared remarks. This supporting presentation can be viewed and downloaded from the Investor Relations Webcast and Presentations section on osg.com.

With that out of the way, I would like to turn the call over to our Chief Executive Officer and President, Morten Arntzen. Morten?

Morten Arntzen - President and Chief Executive Officer

Good morning, and thank you for joining our conference call this morning. Let me introduce the management team members that are here with me in New York. Jonathan Whitworth, the CEO of our OSG America and Head of our U.S. Flag Business Unit; Jennifer Schlueter, Head of Corporate Communications and Investor Relations; Jim Edelson, General Counsel; Lois Zabrocky, Head of our International Product Tanker Strategic Business Unit; Mats Berglund, Head of our Crude Transportation Business Unit; Captain Bob Johnston, Senior Vice President and Head of Ship Operations; and Myles Itkin, our Chief Financial Officer.

As Jim indicated, our remarks will follow a presentation that is posted on the website, so if you'd please now turn to slide 3. Well, the first bullet. As anticipated, the first quarter of 2008 was another quarter of strong performance by the company. Net income came in at $112.4 million and EBITDA at $178.4 million. EPS was up 67% quarter-over-quarter and up 88% when adjusted to exclude first quarter '07 special gain.

And what particularly pleased me about our performance is that these greatly improved numbers compared with last year came almost entirely from earnings from operations, no significant special items and with expenses substantially in line with our internal budget and guidance. We had solid year budget performance from our U.S. Flag and International Product Tanker businesses and exceptional results from our Crude Transportation business.

Second bullet. The big story of the first quarter was our Crude Transportation business, and within this... that segment, it was the very strong performance of the VLCC's spread out. Powered by 99,000 a day VLCC rates, Crude revenues rose 70% during the quarter compared to last year. This enabled U.S. to grow first quarter top line revenues to $376 million, the best first quarter in the company's history.

Now, our numbers ended up below the consensus forecast, which was disappointing, especially considering how good the first quarter numbers were. The differences can be explained by four line items, of which the weaker performance were V-Pluses or ULCC's during the quarter accounted for slightly more than half the shortfall. The positioning of the Suezmaxes upon joining the fleet was also... also contributed in the shortfall. Now, with the V-Pluses, they are heavily impacted by loading activity in the Arabian Gulf. So when Saudi Aramco cuts back on allocations of crude to the U.S. customers, which they did in the first quarter, this has a direct result on the V-Pluses, which were forced to wait longer than usual for cargo.

In addition to the cutbacks, the TI Oceania encountered significant waiting time waiting for employment following her first quarter scheduled drydock. Now, while the... results of the V-Pluses were below expectations, in absolute terms, they remained very healthy, well in excess of our cost of capital. In addition, in seven months, two of the four ULCC's that we own jointly with Euronav will exit the market in order to be converted to FSOs and then moving onto profitable eight-year charters to Maersk Qatar.

The bottom line is the ships have done well even though they have been challenged due to trade and now we're attacking this challenge by moving two V-Pluses onto attractive alternative long-term employment. The way I've looked at these ships, I have said that with four V-Pluses we're low on one ship, with two V-Pluses we'll be short one V-plus.

Moving on, we continued with our share repurchase program during the first quarter. We repurchased 400,000 shares at an average price of $57.33. We used... $21.8 million remains outstanding under the current program. We have now bought back close to 23% of our outstanding shares since the buyback program commenced two years ago. We intend to complete this program in the near-term and we will be reviewing both our dividend and buyback programs at the June Board meeting coinciding with our annual shareholders meeting.

Point five. We gave notice this month of our intention to call our eight-and-a-quarter senior notes due 2013, in the principal amount of $176 million. They will be redeemed on May 15th at 104.125%. We will draw under our revolving credits from the redemptions and have locked in the interest expense on this amount. Thus we anticipate interest savings of $7 million per annum on the same amount of debt.

Just as with the first quarter, we are pleased to put forward strong second quarter bookings so far. I am confident now that you have seen our... now that you have seen our second quarter bookings to date that the analyst consensus forecast will go up from the $1.85 per share that currently stands at the second quarter, through April 18th. We've locked in 67% of our second quarter VLCC revenue days at $78,000 per day. Our Aframax and Suezmax rates are so far running ahead of what we've seen in the prior quarter, and international Product Tanker spot rates are also up. Right now, there appears to be more upside risk in rates than downside in the balance of the quarter, reflecting the tight balance in the double-hull VLCC markets.

Moving to the next page, in order to stabilize earnings in OSG America and to manage some newbuilding delivery delays encountered and importantly, as an owner with a 75% interest in the success of a newly public MLP, OSG has entered into a charter arrangement on seven vessels with OSG America. This involves the chartering in of five vessels from OSG at fixed rates and chartering out to OSG America two of the vessels we have currently handling the lightering in the Delaware Bay. Now, while beneficial for the MLP, these transactions are not material for OSG.

Now, I already mentioned the solid performance by our international Product Tanker unit in the first quarter. It is important to recognize that this unit's performance while good remains burdened by bareboat arrangements on 13 older non-double hull product tankers. We'll redeliver the first two of these units in the second quarter of '08. Two would be redelivered in the first quarter of '09 and the remaining nine in July 2009. Over time, these 13 ships will be replaced with 15 double-hull vessels, which will enable U.S. to significantly increase the margins of this business.

We forecast that the double-hull vessels should be able to earn in excess of 5,000 per day more than the older non-double hull units they replace and in the process transform our international Product Tanker business.

Moving to the next slide, when we laid out our balanced growth strategy, which was predicated on strong in-house technical ship management, one of our objectives was to capture premium long-term business. The first award to this strategy were the initial time charters we obtained from nine of our ten Aker Philadelphia Jones Act newbuildings.

In the last 12 months, the scalable platform we have built has enabled U.S. to secure the first U.S. Flag Jones Act shuttle tanker business and then the last quarter, the eight-year FSO contract with Maersk Qatar. We would not have won these premium high margin contracts unless we had in place a high quality scalable operating and technical platforms. We will continue to pursue incremental high margin business like this and believe that our shareholders will benefit enormously as a result.

Moving onto the next slide, the strength of the VLCC market has surprised most analysts, but it shouldn't. We have kept our fleet trade spot for clear reasons, of which the supply side of the equation is the most obvious, and I think the slide speaks for itself. The VLCC fleet was 483 units at the beginning of '07, exactly the number of units where it ended the year. Today, it stands at 475 trading units.

Next slide, living in the USA and particularly in New York, it is very easy to get caught up in the gloom of the sub-prime crisis and the debate on whether or not the U.S. is in recession or not. The fact shows the USA has imported slightly less crude in 2008 than it did in the same period in 2007. This is not the case in the rest of the world and notably in China, where crude imports were up 6% in the first quarter. This slide shows the strong demand we saw in January from China, which is reflective of how the year has evolved so far.

Moving onto the next slide, we have been telling investors for several years that the commercial obsolescence of the single-hull tanker fleet would precede the mandatory phase-out and that the gap in earning between single-hull ships and double-hull ships would widen as the double-hull fleet grew and this will keep rates at attractive levels. The current market demand for double-hull VLCC's has resulted in now $30,000 a day earning premium to single-hulls. Now, if you look at the slide here, which shows the number of rating Gulf fixtures in '07 and '08 by month. And what you see in '07 was that the ratio of those cargos taken by double-hull vessels, and when you look at '08 and you compare month to month, in every single month but March, the ratio... the number of cargos percentage taken by double-hulls had going up dramatically; from 47 to 53 in November to 64 in December, 61 in January. This is a trend that is not going away, and as you see the average of 58 double-hull VLCC's fixtures in the month in '07, was 74 so far in '08.

Another way to look at this percentage of... is the percentage of voyages done by double-hull vessels in the key discharge areas, and I am now at slide nine. Those areas still accept single-hull vessels. If you look at Japan for example and look at spot only, in '07, 18% of the cargos were taken by double-hulls, in '08, 56. The number in Korea, 23% rising to 45, China 63 to 71%. This trend is irreversible and will gather steam as we approach the mandatory phase update and as the single-hull fleet becomes a smaller percentage of the overall tanker fleet. Today, that number is approaching 20%.

I am now into my... next slide, I am now into my fifth year with OSG. I have never felt better about the prospects for our company and the technical and commercial platform we now have in place. Combine this with a much better market outlook and I feel good about our ability to generate sustainable growth in shareholders returns. Looking at some of the key catalysts for growth, the balance of 2008 looks strong, more upside risk than downside risk, and 2009 outlook looks much better than prior expectations, notably for our Crude business. The rate outlook now for 2010 and 2011 is compelling as the single-hull tank fleet is phased out completely. I already mentioned OSG's international Flags Product fleet is poised for significant earnings jump when the 13 older double-sided MRs were replaced with 15 new double-hull MRs and R-1s.

The U.S. Flag segment cash flows have been stabilized and that fleet will nearly double in the next three years. New long-term contracts have improved margins in U.S. Flag and Crude Oil segments, now that the FSO will provide incremental earnings growth for OSG also, and then the appreciating value of OSG's newbuilding program. With that said, we are very happy that we have a 41-ship newbuilding program today and that we committed this program in many cases two or three years back. We will be taking delivery of our new crude tankers in 2009 and 2010 as opposed to waiting more than into '11 and '12. So, we have built in growth into this system already and we have done that ahead of this... rapid increase we've had in newbuilding prices.

Going to the last page, our aim at OSG is to build long-term sustainable value for our shareholders. Now, we understand the need to both deliver good current returns and long-term value. We think we have the platform that can do this and we think we have the market with us.

Looking at the key elements of our strategy, and this will not be new news to a lot of you, we will continue the expansion of our crude oil sector and retain our heavy spot trading focus. As mentioned, we have 10 new vessels that delivers through 2010. The FSO project is now moving forward. This is the new high growth market and we will look for incremental opportunities in this segment.

We have the lightering business in the Gulf and we're expanding on the West Coast and we believe the U.S. will be importing more, not less crude in the coming years and this will provide growth for that business. And as you learnt at the investor day, we have been active users of the FFA markets to hedge attractive rates.

In addition to crude, the offset... the balanced growth, we have expansion in sectors that provide for earnings growth and stability. And the second quarter of '08 will be the first time we have all four LNG vessels on the water for the full quarter. In the Products, you will see the effect of the... modernization will fully come into our numbers in the second... in the second half of '09. I already mentioned that Jones Act fleet will double and the overall majority of those ships are already on long-term contracts. I should mention the U.S. shuttle tankers' first mover advantage in the first new Jones Act trade in 25 years and our intention is to go after incremental business in that area, and we believe we are the best positioned to capture that. The core of what we do and everything depends on focused, best-in-class technical operations. Technical performance is critical, particularly in time-chartered customers and if we are to win incremental premium long-term business.

We have very proactive efforts underway to recruit, retain, train and motivate high quality crews, and this is going to be one of the biggest challenge the industry faces the next decade. And as I said before, regulation and legislation will only increase over time and demands on shipping companies will grow. The other core part of the strategy we've had long is the importance of scale. This provides U.S. opportunities to invest in projects that deliver superior returns. We would not have gotten the FSO business if we didn't have a large technical staff at Newcastle that is able to allocate the people resources and imagination to pursue it. Technical excellence in fact is a critical differentiator to the higher margin long-term business. On top of that, scale gives you superior market information with the global businesses like we are in is critical.

Finally, and something we've talked about before and we are grateful for today, we will maintain a solid balance sheet and financial flexibility. We always want to be the best or among the best rated companies in our segment and that's the case today. Today, we sit with $1.9 billion in liquidity. We have liquidity-adjusted debt of 30.8%. We have the best liability structure we think in the industry. And we are able to pursue as a result capital efficient growth. All this adds up to easily the formulas of building sustainable long-term value for our shareholders.

With that, I am going turn the microphone over to Myles Itkin, our CFO, to continue with financial review.

Myles Itkin - Executive Vice President, Chief Financial Officer and Treasurer

Thank you, Morten, and good morning. Please turn to slide 13, the results for the quarter ended March 31, 2008 reflect robustness of the crude tanker market, the company's earning power and our ability to deliver superior returns as evidenced by a 30% net profit margin for the quarter and a similar margin in the prior year's quarter.

Slide 14 outlines the composition of Q1's time charter equivalent revenue. Of the $376 million of time charter equivalent revenue earned during the first quarter, $249 million or 66% is attributable to the Crude sector, $66 million or 18% to the Product sector and $53 million or 14% to the U.S. Flag sector. The 45% increase in Q1 revenues over the prior year's quarter reflects an over 1000-day increase in revenue days and over 100% increase in spot rates for VLCC's. For the quarter, 73% in the company's TCE revenue was derived in the spot market compared with 64% for Q1 2007.

Please turn to slide 15 for a discussion of expenses. The positive impact of the increases in spot rates and revenue days was partially offset by higher voyage expenses, mostly in fuel costs and core charges. Average fuel cost per day was $15,000 in the current quarter, about double the average daily rate in Q1 '07. Vessel expenses across the entire fleet increased by $12 million for the quarter to $73 million from $61 million in Q1 2007.

Vessel expenses for the Crude sector increased by $9 million to $29 million in the first three months of 2008, reflecting an increase of 184 owned and bareboat chartered-in days and an increase in average daily vessel expenses, principally as a result of increases in crude costs than repairs. Similarly, Product sector vessel expenses increased by $2.5 million to $21.5 million in the first quarter due to an increase in operating days attributed to the purchase of two Panamax Product Carriers and an increase in average daily vessel expenses resulting from increases in crude costs, environmental compliance costs and the timing of delivery expires. Vessel expense for the U.S. Flag sector remained essentially unchanged quarter-over-quarter.

Charter hire expense increased to $91 million in the current quarter, up by $42 million or 86% including $14 million in charter hire expense associated with the April 2007 acquisition of Heidmar Lightering. The increase was further attributable to a greater number of vessels charted-in during the first quarter, 4,500 days, relative to the first quarter of the prior year 3,250 days. Profit share component to charter hire expense was 8 million higher in Q1 as a result of the higher earnings generated on VLCC's.

Compared with Q1 2007, there was a $5 million increase in depreciation and amortization due to the inclusion of Heidmar Lightering representing $2.3 million of this amount, the 2007 purchase of two LR1s and increased amortization from drydocks incurred, reflecting first drydocks on the former Maritrans fleet and the impact of shortened amortization periods on the older double-sided MRs. Depreciation and amortization for the quarter also reflects the effect of the change in accounting estimates with salvage values increasing to 300 per lightweight from $150 per lightweight, constituting $2.7 million for the quarter and $10.9 million for the full-year 2008. Please note that current salvage values exceed $700 per lightweight.

G&A expenses increased by $8 million in Q1 '08 to $37 million from $29 million in the first quarter of the prior year. The increase is attributable to increase in salaries and stock-based incentive compensation of $4 million, incremental costs associated with the Manila and Houston offices of $1 million, and higher travel and consulting cost associated with newbuild activities and systems integrations.

Equity income decreased to $1.3 million in the first quarter from $3.3 million in Q1 2007. The decrease was primarily due to the loss of earnings following the sale of our holdings in DHT as well as a $1.4 million non-recurring severance charge applicable to an entity, which the company accounts for under the equity method. This $2 million decrease was offset partially by earnings from our four L&G carriers.

Other income for the quarter was $3 million, a decrease of $20 million from the prior year's quarter. Please note however that Q1 2007 included a $15 million gain on the sale of shares in DHT. In addition, Q1 2008 concludes a $3.3 million loss on derivative transactions $2.8 million realized and $0.5 million unrealized, and a $600,000 reduction in interest income due to a drop in interest rates. The combined effect of these changes was that EBITDA for the quarter increased by 22% to $178 million from $146 million in the comparable period of 2007. Net income for the period increased to $112 million and EPS to $3.60 per share compared with $85 million or $2.16 per share for the same period a year ago.

The guidance we provided earlier this year remains essentially unchanged for all categories other than D&A where the change in accounting estimates for depreciation reduces depreciation by $10.9 million for the full year, other income where our lower earning rates and lower cash deposits will cause results to be at the lower end of guidance, and adjustments to interest expense reflecting the repurchase of the bonds as well as the costs associated with the repurchase of those bonds.

In furtherance of our strategy, if you'll turn to slide 16, to provide an increased level of stable earnings, we have expanded in markets characterized by a higher level of term coverage. As a result, the amount of locked-in revenue has grown nine-fold from $186 million at the end of 2004 to more than $1.7 billion at the end of March 2008. 77% of this amount is attributable to our U.S. Flag business unit and 11% to our International Flag Product Carrier business unit. The fixed revenue streams associated with our Gas business unit and our new FSL joint venture, which are accounted for as equity income in affiliated companies, amounts to an additional $1.8 billion, bringing aggregate locked-in revenue to $3.5 billion, a 1900% increase over year-end 2004. Details regarding both locked-in revenue and days per sector are included in the appendix at the end of the slide presentation.

Slide 17 lays out our review of OSG's net asset value in comparison with our share price. An analysis of each category of NAV is included in the appendix to this presentation. As of the market close yesterday, we were trading north of $77 per share in comparison with a net asset value of $110 per share. Please note that the $110 per share net asset value excludes the difference between the fair market value and estimated delivered cost of our newbuilding portfolio as well as the value of our in-the-money vessel purchase options and charter extension options.

We believe the combination of this valuation gap, the contracted growth in our U.S. Flag business, our expansion into sectors characterized by long-term stable cash flows, our active asset management program, and our continued distribution of capital to shareholders makes U.S. a compelling investment.

This concludes my formal remarks. Before opening up the call for questions, I would like to turn the call back to Morten.

Morten Arntzen - President and Chief Executive Officer

Thank you very much. I think we will turn the floor over to the operator, if we can get the questions.

Question And Answer

Operator

Thank you. [Operator Instructions]. Our first question comes from the line of Jonathan Chappell from JPMorgan. Please go ahead.

Jonathan Chappell - JPMorgan

Thank you. Good morning.

Morten Arntzen - President and Chief Executive Officer

Good morning.

Jonathan Chappell - JPMorgan

Morten, my first question is around your chartering-in policy, with rates where they are right now and your optimistic outlook on the sector, it seems that the charter-in costs are increasing a little bit faster versus revenue than they had in the past. How nimble are you with the charter-in strategy? And do you think you may be racking that in a little bit, as some of these ships roll off given the current market environment.

Morten Arntzen - President and Chief Executive Officer

It's a very good question. One of the reasons we expanded our S&P and chartering just last... two years ago was so that we would have a presence in the market day-in day-out and then be able to see opportunities. And we have had opportunities in the Product Tanker markets recently, and these really stem from people who need to have long-term charters in order to secure bank loans. And as you know, the banking market hasn't got any easier in the last two months. So, we are still seeing deals. If you look at on the Crude side last year, even in the rising market we were able to take in fairly significant number of ships on time charter. The one difference I'd say today and when we first started out our active chartering-in, is you can also hedge some of these positions you do in the paper market from time-to-time, so we continue to believe that we will be able to find opportunities, we will be in the market every day. We will be disciplined at what we are prepared to pay. And it makes sense to do something, if and only if you can hedge with paper, we'll consider that option. So we think it's still a very much a viable strategy and we are still finding opportunities.

Jonathan Chappell - JPMorgan

Okay, second question on the Gulf of Mexico shuttle tanker business, Aker made some comments in the last couple of days about their interest in ramping-up that sector. I know you have a relationship with Aker, but as far as the shuttle tankers are concerned, do you have any right of first refusals? What's the outlook for you getting these ships filled to capacity and also what do you view as the competitive nature of this U.S. shuttle tanker business?

Morten Arntzen - President and Chief Executive Officer

I'm going to let Jonathan answer this because he lives this market everyday.

Jonathan Chappell - JPMorgan

Okay.

Jonathan Whitworth - Senior Vice President and Head of the U.S. Flag Strategic Business Unit

Good morning, Jonathan. With regards to the contracts in the projects that are out there, we certainly see a lot of discussions and we are having a lot of discussion with different customers about shuttle tankers and obviously the FPSOs that would be required in the Gulf of Mexico. But those projects are long-lead items right now that funnily enough match up to yard capacity, which I think is part of your question, that we have in the market. Right now, all of the major yards are... in the U.S. are full through 2011. If a project was to start this year with an RFQ that would come out from a customer, first of all it wouldn't be till 2011, 2012. So the ability to build vessels in the U.S. for shuttle tankers to match those projects are okay. There is a shortage of yards to build these at. We have relationships of course as you know with Aker who you mentioned earlier, but also other yards in the United States that can possibly build larger shuttle tankers.

Morten Arntzen - President and Chief Executive Officer

There is no exclusivity to Aker to build shuttle tankers, if that's the question.

Jonathan Chappell - JPMorgan

Yes, that's correct. Okay. And then finally, and maybe this one's for Mats, the Nigeria shut-in... just the period decline in Nigeria exports, has that been having an impact in the long-haul VL trade and do you expect it to continue to benefit the VLs as we see ton miles expand?

Mats Berglund - Senior Vice President and Head of Crude Transportation Strategic Business Unit

Not really. Nigeria is more Suezmaxes; Angola is more Vs, that... and there has been problems there before, it just has not had an impact yet, and we are not impacted on as we primarily load Angola for China.

Jonathan Chappell - JPMorgan

But if we do lost Suezmax cargos out of West Africa coming across the Atlantic, could that open the opportunity for more VLs out of maybe the AG, which could add to the ton miles of the Crude segment?

Mats Berglund - Senior Vice President and Head of Crude Transportation Strategic Business Unit

Yeah, exactly. So the replacements... most of Nigeria comes to U.S. So, if Nigeria goes down, it probably needs to be replaced by AG, which is a longer ton mile. So, that's positive.

Jonathan Chappell - JPMorgan

Okay, Thanks Morten, Jonathan and Mats.

Morten Arntzen - President and Chief Executive Officer

Thank you.

Operator

Thank you. And our next question comes from the line of Doug Mavrinac from Jefferies & Company. Please go head.

Douglas Mavrinac - Jeffries & Company

Great, thank you. Good morning, guys. Just had a few questions for you all, and the first one is somewhat of a follow-up to the last question. We've seen average VLCC Flag charter in relation to December top 200,000 a day and then they declined down to 57,000 a day only two weeks ago, but what specifically do you attribute to strength in the VLCC market over the past two weeks? Is it maybe some... the anticipation of more long-haul cargos going to the west, is it a port strike? What sort of factors do you read the strength in the market over the... just the last few weeks and do you believe those factors are sustainable?

Mats Berglund - Senior Vice President and Head of Crude Transportation Strategic Business Unit

I think it's just a very tight balance. You may have heard about NITC having up to 10, 12 ships in storage, which combined with dry cargo conversions just makes the supply too tight. We have seen China take a record number of cargos, both from West Africa and AG recently, and the combination of those two factors is what's driving the market.

Douglas Mavrinac - Jeffries & Company

So, during the last couple of weeks, Mats?

Mats Berglund - Senior Vice President and Head of Crude Transportation Strategic Business Unit

Yeah.

Douglas Mavrinac - Jeffries & Company

Okay, great. And then, Morten, this is a comment that... a question about a comment that you had made during your presentation. Last month at Overseas investor presentation you guys mentioned that you believe that it would be prudent to take some downside protection for 2009 that can position the FFA market to hedge the equivalent of about seven vessels for next year. What have you seen over the past month to make you feel the outlook for the crude tanker market is now better than your prior expectations as you mentioned?

Morten Arntzen - President and Chief Executive Officer

I think... I was trying to show that was my chart; perhaps there is too much data on that, but what you are seeing is increased discrimination against the single-hull vessels. If you look at China in particular, they have strong preference to double-hull. Anything that's going near Beijing for example, that part of China is in a double-hull today. If you look how quickly Japan turned around it's usage of single-hulls to primary double-hulls, Japan... the big Japanese carriers will soon have finished their fleet replacement programs. So we think a commercial phase-out is simply going to happen fast and you're seeing that... the divergence between single-hull and double-hull rates, but that's the big change. This commercial lot slots has come quicker than we thought.

Douglas Mavrinac - Jeffries & Company

Okay. Has the fact that we have seen a number of VLCC's scrapped over the month or so, also been in similar way a pleasant surprise? Is it sooner than you thought that we may see that?

Morten Arntzen - President and Chief Executive Officer

I think we expect the commercial obsolescence with the conversion. Scrapping was a positive thing, but when you can get 700... 7, $800 per light ton, it's compelling.

Douglas Mavrinac - Jeffries & Company

Right

Morten Arntzen - President and Chief Executive Officer

I think we have our very old drag in VLCC that nobody wants you to spend a lot of money to maintain and just do drydocking.

Douglas Mavrinac - Jeffries & Company

Got you. Okay, and then just one final question; you guys have bought back a lot of stock, you've retired from debt, yet you still have a very strong balance sheet. At what point do we see OSG maybe looking to expand the number of crude tankers that they own either in their existing fleet or on order?

Morten Arntzen - President and Chief Executive Officer

I think we have continued to... we believe very strongly in scale as a critical differentiator in this business. In the VLCC... in the crude market, we are big enough, we are the leader in the VLCC market for TI and we are the number two player in Afras and in Panamaxes, so we are big enough. So, anything we do there will be opportunistic and/or make sure that we have enough ties to service existing customer obligation, it will be opportunistic. On the Product tanker side, we have a very good business that is growing. We still think we need to get a little bit bigger simply so that we will have as much information as those with whom we compete as well as our clients and that we have a good presence in both Pacific, the Atlantic and in the time charter market; so you could see that. We have not said that much about the Gas market because it is a small business, but we are working very hard on CNG projects and we are optimistic about that area.

In the U.S. Flag, we don't have to do anything to make that business into a terrific business, but we've every intention of doing that. We are looking at projects. We are looking at incremental shuttle tanker business and we are looking at other areas. So, we will continue to build scale in the segments that we are in. For example, the lightering business, that was a Gulf presence. We now have a workload on the West Coast, so we're going to go after more West Coast lightering business for example. So, there is no slowdown there. And then the FSO business, I just said, we've spent $150 million to convert the Yew into an FSO. It's not a small investment and it's handy to have the money available in today's banking markets be able to do that.

Douglas Mavrinac - Jeffries & Company

Okay, great. Thank you very much for that, and thank you for earlier, Mats.

Operator

Thank you. And our next question comes from the line of Omar Nokta from Dahlman Rose. Please go ahead.

Omar Nokta - Dahlman Rose

Thank you, good morning. Just real quick, you said the $150 million would be the conversion price of the one ULCC?

Morten Arntzen - President and Chief Executive Officer

Yes.

Omar Nokta - Dahlman Rose

Okay, and you said it's still early to give U.S. details on the charter rate, right?

Morten Arntzen - President and Chief Executive Officer

We are prevented by our confidentially agreement just like on the LNG carriers from this growth in the rate. But we do put... lump all that revenue together into one item that Miles reviewed. We just can't do it under the confidentiality agreement. I think ultimately you guys will figure it out.

Omar Nokta - Dahlman Rose

Okay. And then just a follow-up to what Doug was asking with respect to buying vessels or bordering new ships, you said in your call that you are not a seller of VLCC's here, and sure enough vessel prices continue to move higher. But we have seen lately some your peers placing orders for 2011 VLCC deliveries. Do you see yourself as a buyer at these prices?

Morten Arntzen - President and Chief Executive Officer

I think we've been pretty consistent saying this... the price levels of today is very tough. We were able to pick up a resale of a VLCC which is what we have coming in the first quarter of 2010, we were able to pick up a couple Product tankers last year when a window opened, but at these kind of levels it is unlikely that we're going to do that. But what I would say, is even at today's high levels for VLCC that today's... in a spot rate for VLCC's and time charter rates actually justify going out and buying them. Having said that, we are not going to be going out and spending $150 million for VLCC or 85 million for Suez... for an Aframax, whatever it is people are paying today or 60 million for an MR. We are simply not going to do that.

Omar Nokta - Dahlman Rose

Okay. Would you consider maybe partnering with someone or would you probably just stick with chartering in more vessels?

Morten Arntzen - President and Chief Executive Officer

The economics would have said, we will wait and wait until we find rates, whether it's through chartering, bareboat time charter or other wise and we will wait or what we might do things is synthetically where you take the risk in the paper market and that you look at, that's a different game. But we are going to be very disciplined about our buying and we are not convinced yet that $170 million VLCC is an economic long-term proposition.

Omar Nokta - Dahlman Rose

Understood. And just one final question; back to the ULCC's, you were talking about Aramco with the cutback in the first quarter. Is that going to stick with just the first quarter or do you see that following through into second? Is this just a one-time event?

Morten Arntzen - President and Chief Executive Officer

The allocation strategy is one that we don't see a sort of pattern to.

Omar Nokta - Dahlman Rose

Okay.

Morten Arntzen - President and Chief Executive Officer

I think despite more upside risk than downside risk, given where we are today, but certainly Saudi Aramco is not that easy to read.

Omar Nokta - Dahlman Rose

Okay. And then I guess your experience so far this quarter, is it better than what it was on those ULCC's versus the first?

Morten Arntzen - President and Chief Executive Officer

This will sound like a bad answer.

Omar Nokta - Dahlman Rose

Okay.

Morten Arntzen - President and Chief Executive Officer

One of the things we've found with ULCC's is because there's only four of them that we've constantly been picked off in the whole charter negotiation desk. So we are going to be a lot more careful about how we release rates on those ships because we need to do a better job training them and take more of a challenge, in part it's basically been picked off and we don't want that to continue.

Omar Nokta - Dahlman Rose

Okay, and is... we'll go... sorry?

Morten Arntzen - President and Chief Executive Officer

Please don't be offended by that.

Omar Nokta - Dahlman Rose

No, not at all. And just a double check, is it going to go into conversion at the end of this year?

Morten Arntzen - President and Chief Executive Officer

Yes

Omar Nokta - Dahlman Rose

Okay. Thank you so much.

Operator

And do you have any further questions at this time, sir?

Omar Nokta - Dahlman Rose

No, sorry. Thank you.

Operator

Thank you. Your next question comes from the line of Urs Dur from Lazard Capital Markets. Please go ahead.

Urs Dur - Lazard Capital Markets

Hi, gentlemen.

Morten Arntzen - President and Chief Executive Officer

Good morning, Urs.

Urs Dur - Lazard Capital Markets

Good morning. I guess, my main question is you've got a great amount of liquidity, fantastic; very nice balance sheet. I mean you have mentioned a lot of things you are working on like FSOs and so on. Where do you go next outside of what you're currently working on, any other gas sectors, smaller vessels, different sectors, can you elaborate on it a little bit?

Morten Arntzen - President and Chief Executive Officer

We will continue to build scale in the segments we are in.

Urs Dur - Lazard Capital Markets

Right.

Morten Arntzen - President and Chief Executive Officer

We have said repeatedly we will look at business opportunities in segments that are immediately adjacent to our existing ones. So, moving from crude translation to lightering, to shuttle tankers, to FSO projects. We have looked at chemical tankers as we've got more comfortable with our prior tanker business and in carrying the cargos where we can see to the chemical guys and charter times. So... but we are going to stick close to where we are today, continue to build those scale and look at adjacent areas where we can manage the commercial and technical and financial risks, the same way we do in existing business.

Urs Dur - Lazard Capital Markets

All right. Thank you very much, that's all I've got. Thanks.

Operator

Thank you. And our next question comes from the line of Natasha Boyden from Cantor Fitzgerald.

Natasha Boyden - Cantor Fitzgerald

Thank you, operator. Good morning, gentlemen and ladies. Just following up on the balance sheet question, you ended the quarter with the balance I think about 580 million in cash. Can you give U.S. a breakdown of how much of that is overseas and what the tax impact will be if that will repatriate it?

Myles Itkin - Executive Vice President, Chief Financial Officer and Treasurer

The vast majority, Natasha, is overseas. There is... would be no tax effect inherent in repatriating 545 million of that amount, which constitutes previously taxed income.

Natasha Boyden - Cantor Fitzgerald

Okay. Now I think on just annual taxes that you'd described on the note that you had I think as of December 2007 about $700 million that had not been impacted, is that correct?

Myles Itkin - Executive Vice President, Chief Financial Officer and Treasurer

It's really $2 billion.

Natasha Boyden - Cantor Fitzgerald

It's $2 billion?

Myles Itkin - Executive Vice President, Chief Financial Officer and Treasurer

Yeah.

Natasha Boyden - Cantor Fitzgerald

Of no impact?

Myles Itkin - Executive Vice President, Chief Financial Officer and Treasurer

Right.

Natasha Boyden - Cantor Fitzgerald

And when does that come due?

Myles Itkin - Executive Vice President, Chief Financial Officer and Treasurer

It doesn't as long as we continue to reinvest in foreign shipping assets.

Natasha Boyden - Cantor Fitzgerald

Okay, all right. So that's just of a third... sort of infinitely until you keep investing?

Myles Itkin - Executive Vice President, Chief Financial Officer and Treasurer

Exactly.

Natasha Boyden - Cantor Fitzgerald

Okay. Well, that is good news. Okay, thank you, while I am saying that. I appreciate that. Now, this may be... a question here, I think you said in the presentation that with the bond redemption you expected to lower interest by about 7 million per annum. Was that correct?

Myles Itkin - Executive Vice President, Chief Financial Officer and Treasurer

Yeah, that's correct. There is a redemption premium of course on those, it's north of $7 million, and a write-off of differed managing costs.

Natasha Boyden - Cantor Fitzgerald

Okay, is that why we are seeing the guidance of 85 to the 95 staying the same?

Myles Itkin - Executive Vice President, Chief Financial Officer and Treasurer

Yeah.

Natasha Boyden - Cantor Fitzgerald

Okay, that's helpful. And now just sort of a general question on the macro side. Morten, are you seeing any newbuild resell opportunities from buyers that have been able to obtain financing, given sort of general credit crisis?

Morten Arntzen - President and Chief Executive Officer

Not yet, but we have seen for the ships that were originally committed to one owner who couldn't get financing, that went to another owner, and then we're subsequently put out on ten-year charters I guess would be the highest rates I have seen for ten-year charters. So, you are starting to see some of that circulating deals... newbuilding commitments falling apart. That's the first crack you're seeing. I think we've got be patient.

Natasha Boyden - Cantor Fitzgerald

Right. Is there anything that you think you might be able to sort of jump from? Do you think it might get worse I suppose is what I'm asking and that you might be able to sort of pounce on?

Morten Arntzen - President and Chief Executive Officer

I think what you are seeing... you are seeing some owners actually starting to sell newbuilding commitments that they have, they might not otherwise. That's an indication that people are rethinking their financial liabilities. We are certainly following that all very closely, but this is not a market where you jump at things... you be patient and you wait for things to come your way, at levels that make sense. I believe that that's... that we'll find things.

Natasha Boyden - Cantor Fitzgerald

Sure. And then lastly, with the price of steel being where it is, I mean it's come up dramatically, I'm sure you've seen that, are you seeing any increase or any substantial increase in scrapping that's sort of raising your levels of optimism in terms of strengthening the market?

Morten Arntzen - President and Chief Executive Officer

Yeah, I think all those things are actually a very positive for our market right now, both in terms of what it does to newbuilding prices and what it does to the up slightly phase of the single-hulls. If you have a single-hull vessel and you're probably right now going to budget one voyage less a year than a double-hull and you are looking at max another year to trade it, the single-hull VLCC fleet now is 20% of the fleet. When it gets to 15 and 10%, what we've been saying all along and I think the trend is showing it, they will be waiting longer, it will be harder to earn money. So if you can capture 700, $800 per live ton, that sounds attractive, so yes. Is it overwhelming, no, I think the market... the commercial market is going to drive these old dogs out and that'll force these conversions or scrapping that will happen.

Natasha Boyden - Cantor Fitzgerald

Okay, great. Thank you very much.

Operator

Your next question comes from the line of Greg Lewis from Credit Suisse. Please go ahead.

Gregory Lewis - Credit Suisse

Good morning. In my first question I wanted to circle back on I guess what's going on in Nigeria with the shut in production. I guess... and really what I am trying to get at is for ton mile to expand, I guess there has to be spare capacity that could make up that shortfall in potentially the AG- are we seeing basically about 1 million barrels of spare capacity in the AG that could sort of be dropped on the market?

Morten Arntzen - President and Chief Executive Officer

Spare capacity in AG, it's many people who debate about. We believe there is some spare capacity there. I mean we believe in... shut-in in Nigeria is roughly 500,000 barrels per day. They are producing maybe 2 million, but they have hardly ever been up to the 2.5, that people talk about as their max. So, the impact is not that dramatic, and is there 400,000 barrels per day of spare capacity in the AG, I would say, yes, personally; but again, there is a million views on that.

Gregory Lewis - Credit Suisse

Okay, great. And then I guess my last question would be on... I noticed that there were two vessel sales during the quarter, but that actually will be delivered out of the fleets. I guess first, are those two sales included in the March 31st fleet list in the presentation or are those going to be in addition? And then sort of what was the rationale, was that just a strategic opportunity or are they more... you have the newbuildings coming online and those two tankers will be replaced by newbuilding?

Morten Arntzen - President and Chief Executive Officer

One was an Aframax, the Ruby. It's our oldest, slowest, smallest Aframax; and again, we have four Aframax newbuildings coming from China. So, it makes commercial sense to get rid of that ship at the price we were able to get, so part of the replacement strategy there. Again, the count is included in the March 31 count because it won't deliver until second quarter and there is a 13 million capital gain on the Ruby.

Gregory Lewis - Credit Suisse

Okay, thank you.

Lois K. Zabrocky - Head of International Product Carrier Strategic Business Unit

The other vessel is the Overseas Aquamar, which was... is a 1998 bulk product carrier and is a simple four-grade vessel and it really does not perform as well as our IMO III modern tonnage and we were able to get a very premium price for her, and that is a $9.5 million gain on that vessel.

Operator

Thank you. And our next question comes from the line of Justine Fisher from Goldman Sachs. Please go ahead.

Justine Fisher - Goldman Sachs

Good morning.

Morten Arntzen - President and Chief Executive Officer

Good morning.

Justine Fisher - Goldman Sachs

The first question that I have is about the CapEx for the additional newbuilds. Have guys put out... I didn't see it in the presentation or the press release, but do you have numbers for how much more you have to pay for those CapEx commitments for the rest of '08 and then 2009?

Myles Itkin - Executive Vice President, Chief Financial Officer and Treasurer

Yeah. I can give you CapEx commitments by quarter for '08.

Justine Fisher - Goldman Sachs

Okay.

Myles Itkin - Executive Vice President, Chief Financial Officer and Treasurer

Though... the first quarter was 144 million; second quarter, 75 million; third quarter, 98 million; fourth quarter, 87 million, for a total of just slightly over 400 million. Looking at 2009, current indication is, first quarter, 163 million; second quarter, 39 million; third quarter, 37 million; and fourth quarter, 54 million.

Justine Fisher - Goldman Sachs

Okay. Thanks very much. And then, a question related to Natasha's issue of... but in a bit of a different way. Historically, I think that most companies have commented the... your... the contracted newbuilds don't include reopeners for the fuel cost for the yard. So, first, I wanted to check whether or not any of your newbuild contracts have reopeners, but then if they don't, I would just love to hear your opinion as to how you think the yards are going to deal with $1200 plates.

Morten Arntzen - President and Chief Executive Officer

The answer is no. There is no steel adjusted frame in any newbuilding contact we have or I believe have ever had. I think if you go to the yards in Asia and you look at their profit margins, they are pretty high right now. I think... HHI I think made 1.8 billion last year, not a bad number. So I think that they have used their market... the balance to secure much higher prices for the products. So I think there is room within their earnings to handle that. I think if you haven't secured your steel and you have an issue in your marginal yard, you may have a discussion with your owner, but for the most part I think the shipbuilding industry right now, which I know surprises lots of U.S. is a very profitable business to be in.

Justine Fisher - Goldman Sachs

So from the ship owners' perspective, the thought is that some owners may have been taken to the cleaners on vessel prices before and so now are kind of happy to take it back to the yards with lower margins because --. I'll say that, you don't have to say that.

Morten Arntzen - President and Chief Executive Officer

We're good citizens--.

Justine Fisher - Goldman Sachs

Okay. And then the other question that I had is about the variable rates for those older vessels. Have you disclosed what those rates are for the older vessels that you are going to get rid of?

Lois K. Zabrocky - Head of International Product Carrier Strategic Business Unit

No. What we disclose in the chart was simply the differential of the positive.

Morten Arntzen - President and Chief Executive Officer

Right.

Lois K. Zabrocky - Head of International Product Carrier Strategic Business Unit

Right, per day. Essentially, the net benefit as Morten mentioned is $5000 per day and the reason for that is that the low variable rate is somewhat offset by the fact that these older vessels had very high drydocks and are amortized over a short period until we get rid of them. So they have a very high depreciation cost per day and that is why although we do have a slightly higher charter... higher base on the new tonnage the net differential is positive by $5000 per day.

Justine Fisher - Goldman Sachs

Okay. And then the last question that I have is about the Jones Act trade and I know that the Crude and Product trade is very, very different from the container trade in numerous ways, but this has been an issue that's been spoken about with the Jones Act container companies. A lot of them are now being investigated for anti-trust issues and I know even price ending is different, but I think it's probably a concern for some investors I mean, is there anything like this that could potentially be brought for the Crude and Product Jones Act trade because different as it is, so quite a small trade?

Morten Arntzen - President and Chief Executive Officer

I'll let Jonathon answer them. My first remark was most of our competitors won't talk to us. They don't like us, at least these days.

Jonathan Whitworth - Senior Vice President and Head of the U.S. Flag Strategic Business Unit

With regard to the case as kind of come to light in the last couple of weeks, there has been a number Jones Act operators that have been spoken with. But because we are not in the container trade and we are also not in the Puerto Rico trade, which is where the claim and the issue is lying, we have not been met with and actually don't plan to be met with since we don't have vessels that are either of that type or in that trade.

Justine Fisher - Goldman Sachs

Okay. Just wanted check. Thanks a lot.

Morten Arntzen - President and Chief Executive Officer

No problem.

Operator

Thank you. And our next question comes from the line of Darren Gacicia from Morgan Stanley. Please go ahead.

Darren Gacicia - Morgan Stanley

Hi. Thank you. One thing I wanted to ask is, it strikes me that the oil market may be a little tight and inventories remain well, and over the last quarter as you've sort of have seen that counter-seasonal rally in rates, are you seeing any sort of unconventional roots that seem to be dominating maybe more than others, maybe Venezuela to China or something other than maybe Cross Straits and the Med.

Morten Arntzen - President and Chief Executive Officer

Will Mats take it?

Mats Berglund - Senior Vice President and Head of Crude Transportation Strategic Business Unit

Certainly, we've seen... and that's another reason why the V market is the number of the cargos from Venezuela and the Caribbean to in China and Singapore, both crude and fuel oil. So, that's certainly a... not a new trade, but it's a trade that's grown a lot there recently.

Darren Gacicia - Morgan Stanley

Is that something where... I know the forward curves have rates coming off a bit they, are wrong if that continues?

Morten Arntzen - President and Chief Executive Officer

I think the... I think rates right now they are very tight because this December shift is very tight. Would you expect to have some seasonal fall-off up to third quarter, I think you have to expect that. We certainly would expect that, but when that fleet is barely growing for the first eight months of the year and demand is flat, but its traveling longer distances, you're going to have attractive rates whenever any loading port is short or balanced with double-hull and that's what's happening. So it's going to take quite an incremental supply to change that in the short run. And I think so far the forward rates have generally been long enough for two or three years unlike crude market.

Darren Gacicia - Morgan Stanley

Sure. Usually, they are a little bit more right in the near-term and a little bit longer in the long-term. But one last question, a little bit more technical, in terms of the product tanker trade, international product tankers, I was curious in terms of the foreign built U.S. flag ships and what portion of the earnings that are included into that number are attributable to those vessels?

Lois K. Zabrocky - Head of International Product Carrier Strategic Business Unit

The foreign built U.S flag vessels are formerly recorded, the Luxmar and the Maremar, are in the OSP.

Darren Gacicia - Morgan Stanley

Okay.

Lois K. Zabrocky - Head of International Product Carrier Strategic Business Unit

The only one of the three that is in our foreign earnings is the Overseas Ambermar, and so it's only vessel.

Darren Gacicia - Morgan Stanley

Great. Thank you very much.

Operator

Thank you. And our next question comes from the line of Richard Babel from FH [ph]. Please go ahead.

Unidentified Analyst

Hi. You announced in February some asset provisions and you... I arrived five minutes late for this call, I sorry if I repeat anything here. But on page 3, you referred to FFA loss of $3.3 million, which is reported under other income. I guess the mark-to-market loss on those FFA provisions should be somewhat higher, and if so... if they are higher than the 3, where is that reported in the P&L?

Myles Itkin - Executive Vice President, Chief Financial Officer and Treasurer

Those that constitute cash flow hedges, effective hedges are treated as balance sheet liabilities and are reflected in other comprehensive income. The 3.3 that you have shown reflects a hedge that does not constitute a cash flow hedge and therefore flows through other income, Of that 3.3, approximately 2.8 was realized and 0.5 million unrealized.

Unidentified Analyst

Okay.

Operator

And pardon me, do you have any further questions.

Unidentified Analyst

No. Thank you.

Operator

The next question comes from the line of John Rogers, Private Investor. Please go ahead.

Unidentified Analyst

Good morning, Mr. Arntzen. Maybe this is not the right time in the markets with the U.S. Flag Container business association, but have you contemplated spinning off the U.S. Flag ship business into separate companies to unlock shareholder value?

Morten Arntzen - President and Chief Executive Officer

Well, it already is in OSG America, but I think the... right now, what we have is a business that provides very solid earnings today. It will double in three years. Now, roughly you could say the EBITDA will close to double within that period time. With each vessel that comes into this fleet, we have margin expansion, we have a very attractive long-term supply and demand outlook for that market. If you look beyond 2011, 12, we actually think probably new product tanker is needed. We have 10-year contracts for our new ATBs that go into the lightering business. We have the highest barriers to entry in the shipping world because of the tightness of U.S. shipbuilding and the cost of doing that.

If you mark our newbuilding market contrast to market, there is a huge pickup in that. So, this is a business that is going to grow, if we do nothing else but just sit still and take delivery of what we have, and I don't think you have any other businesses in the shipping world where today you can sit and say that. But we have it and our foreign competitors can't get into this business. So, we love this business. We think it's going to generate enormous shareholder value in the future and we hope that the market will work that with multiple expansion over time, as the ships come in and the EBITDA grows. I hope that was clear.

Unidentified Analyst

Great. Thank you.

Operator

Thank you. And our next question comes from the line of Effren Westerin from HBK. Please go ahead.

Unidentified Analyst

My questions have been answered. Thanks.

Morten Arntzen - President and Chief Executive Officer

Terrific.

Operator

Thank you very much. And I am sure that we have no further questions at this time. Please continue.

Morten Arntzen - President and Chief Executive Officer

Okay. Thank you very much for joining again. If you have any questions you want to raise to anybody of this team here, feel free to do that. And we look forward to meeting with as many of you face to face either in your offices or ours in the coming quarter. Thank you very much for joining.

Operator

Ladies and gentlemen, that does conclude our conference for today. Thank you for your participation. You may now disconnect.

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Source: Overseas Shipholding Group, Inc. Q1 2008 Earnings Call Transcript
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