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Teekay Tankers Ltd. (NYSE:TNK)

Q2 2008 Earnings Call

August 7, 2008 1:00 pm ET

Executives

Bjorn Moller - President and Chief Executive Officer

Vincent Lok - Executive Vice President and Chief Financial Officer

Peter Evensen - Chief Strategy Officer

Kent Alekson - Investor Relations Officer

Analysts

Christian Wetherbee - Merrill Lynch

Daniel Burke - Johnson Rice & Co

Jonathan Chappell - J.P. Morgan

Operator

Welcome to Teekay Tankers second quarter 2008 earnings release conference call. (Operator Instructions) Now for opening remarks and introductions I would like to turn the call over to Bjorn Moller, Teekay's President and Chief Executive Officer and Mr. Vince Lok, Teekay's Chief Financial Officer.

Kent Alekson

Before Mr. Moller begins, I would like to direct all participants to our website at www.teekaytankers.com where you will find a copy of the second quarter 2008 earnings presentation. Mr. Moller and Mr. Lok will review this presentation during today's conference call.

Please allow me to remind you that our discussion today contains forward-looking statements. Actual results may differ materially from those projected by those forward-looking statements. Additional information concerning factors that could cause actual results to materially differ from those in the forward-looking statements is contained in our earnings release and the earnings presentation available on our website.

I will now turn it over to Mr. Moller to begin.

Bjorn Moller

With me today from Teekay Tankers is Vince Lok, Chief Financial Officer and we also have Peter Evensen, our Executive Vice President available for the Q-and-A session.

Turning to slide three of our presentation and reviewing the second quarter highlights, I’m pleased to report on a very strong second quarter for Teekay Tankers. The company earned $22 million or $0.88 per share in net income which included $5 million or $0.20 per share in unrealized gains relating to an interest rate swap. We also generated $22.5 million of cash available for distribution for the three months period ended June 30 2008. As a result we declared a cash dividend of $0.90 per share for the quarter.

The cash distribution is payable on August 22, to all stockholders of record on August 15. On April 7, 2008 we required two double-hulls Suezmax-class oil tankers, the 2002 built Ganges Spirit and the 2003 build Narmada Spirit from Teekay Corporation for a total cost of $186.9 million. The company financed the acquisition by assuming existing debt related to the vessels and utilizing the company’s un-drawn revolving credit facility for the remainder of the purchase price.

We recognized approximately $1 million in profit sharing on the Ganges Spirit for the months of April and May upon payment, but in the accordance with U.S. GAAP we didn’t accrue any of the profit sharing for the month of June. Had we accrued for the profit sharing for June, we would have accrued approximately $700,000.

Turning next to slide four, our current fleet employment mix demonstrates the technical management of our fleet. As mentioned in the second quarter we required two Suezmaxs tankers. The Ganges Spirit will be employed on its pre existing time charter contract that expires in May 2012 and the Narmada Spirit is currently employed in the spot market.

We also time chartered one of our Aframax tankers, the National Sprint at the rate of $39,000 a day for one year. Both the charter and Teekay Tankers have the option to extend the charter period for a further year at $39,250 or $32,500 a day respectively. This charter serves to replace the $32,500 day charter of the Falster Sprit which expires later this month and so we’re raising the earrings flow provided by our fixed rate tonnage while preserving the amount of tonnage we have exposed to the upside, once the Falster Spirit reenters the stock market.

On slide five we show the projected annualized cash per share available for distribution at various rates earned by our swap trading fleet. The technical management of our fleet is expected to generate significant cash available for distribution based on the current five tanker market.

Q3 is shaping to be another strong quarter for us having already booked 15% of Q3 Aframax days in the average of $48,000 a day and 50% of Q3 Suezmaxs days at an average rate of $75,000 per day. This is indicated by the circled area on the table, which you will see suggests that we should be able to pay a very health dividend for the third quarter.

Given the very strong quarter Q2, I wanted to spend a few minutes discussing the latest market fundamentals. The graph on slide number six compares tanker rates to oil production, which is the most direct driver of tanker demand. Q2 was the second highest quarter ever for tanker rates, indicated by the blue line and easily the strongest Q2 on record. For 2008 year-to-date, crude oil tanker rates are at record highs.

We’re seeing the familiar picture of tanker rates closely tracking rising Middle East OPEC oil output over the past year with Saudi Arabia leading the upward charge, raising its tone mile and sensitive crude production to the highest level in 25 years.

Saudi Arabia expects to reach production capacity of 12.5 million barrels a day by the end of next year and has announced that it is starting plans to raise its capacity to 15 million barrels a day. With non-OPEC production growth coming up short year-after-year, this ramp up in spare capacity by Saudi Arabia is likely to become a very significant source for future tanker demand growth.

On slide seven, we look at the impact on tanker demand created by the combination of oil demand volumes and transportation distances. In recent months, oil demand forecasts have been gradually reduced due to weakness in the OECD. However, global oil demand is still expected to grow by 1% this year and another 1% next year driven by China, India and other developing economies and as is evidenced from tanker rates, tanker demand is running very high.

As we stated in the past, China is an excellent example of how tanker demand is being created not only by increasing oil import volumes, but also by the souring of that oil from further fields. The bar chart on this slide presents this information visually giving you a sense of the leverage effect on tanker demand growth when both volumes and transportation distances increased.

Since 2003, China's oil imports shown with the colored bars have grown by 100% or 1.8 million barrels a day, but because the proportion of long haul crude shown in red has risen faster than other supply sources, the ton-mile effect of China's imports shown in the blue bars has grown even faster, estimated to be up by 133% over the same period. Today 25% of China's oil imports originate from West Africa and a growing amount of its oil comes from Venezuela.

However, this effect is in no way unique to China; in fact, there are more and more examples of increasing average voyage lengths. And just to mention a few examples, U.S. imports of Venezuela and the Mexican crudes, which are a short haul, are down by 0.5 million barrels a day over the past five years, while longer haul import from West Africa and Mediterranean are up by 700,000 barrels a day.

U.S. West Coast refiners are replacing depleting short haul Alaskan crude volumes with longer haul oil from West Africa, Brazil and the Middle East. India is ramping up its import from the Atlantic to supply is rapidly expanding refining base. The bottom line is that nowadays because of the growing average transportation distances, you need more tankers than before to move the same amount of oil.

Looking at crude tankers supply on slide eight, the left half of the table shows that the fleet grew by only seven vessels during the first half of this year; its slowest rate of growth since 2002. 45 ships delivered while 38 vessels were scrapped or converted for dry cargo offshore use.

On the right hand side of the table, we've projected these figures out to the end of the year using conservative assumptions. Consistent with the format we used last quarter, we've assumed that 50% of new building due for delivery from China in the second half of this year will be delayed into 2009. And of the Teekay Corporation level, we’re first-hand experiencing some of these delays on our own Chinese new building projects.

Secondly, we’ve assumed that only a few IMO mandated scrapings will take place, despite the temptation of today's high scrap prices. And we’ve assumed that only 75% of the ships are already sold for conversion earlier this year, but not yet converted, will leave the fleet by year end and also that no additional vessels will be sold for conversion in time to leave the fleet this year.

Even for these conservative projections, we suggest in the table that tanker supply should grow only marginally for the rest of the year. On top of this a variety of factors contribute to growing inefficiencies in the world fleet and this includes some of the items we talked about before, the growing discrimination against single hull tankers, which still make up 20% of the world fleet. And so far this year single hull fleets just to South Korea for example are down by 25% from last year.

Another factor that’s beginning to add up and which is also being seen in the Teekay fleet is the longer duration of dry docking some repairs due to bottlenecking at repair yards. Steel renewals on 15 year older ships that used to take maybe 30 to 40 days are now routinely taking 60 to 80 days or even more.

Thirdly, higher bunker prices are expected to lead to more slow steaming, even in relatively strong markets. Our estimate show that at bumper prices of $700 per ton the approximate threshold TCE rates below which voyage economics would improve for modern tanker by slowing down are $110,000 a day for VLCC, $60,000 for Suezmax and $50,000 for an Aframax.

Finally, adding it all up on slide nine, we’ve updated of our chart measuring tanker rates shown by the red line in relation to tanker fleet utilization shown by the green area. According to Platou, world fleet utilization in Q2 was extremely high at 92.6%, levels not seen since the record year 2004.

Underscoring the cumulative effect of changes in transportation distances, Platou calculates that average tanker ton mile demand in the first half of this year, was 6.8% higher than the average for all of last year; while tanker supply according to Platou only rose 2.1%. What this tells us is, that the world fleet is fully stretched, explaining the high volatility and the spikes in tanker rates that we’re seeing to new highs.

Turning finally to slide 10, in closing we are pleased with Teekay Tankers strong second quarter results and the dynamics I just described, give us reasons to be excited about the outlook for tanker rates in the second half of the year and through the winter. As you can see on slide 10, there are several ways for Teekay Tankers to grow and we look forward to continue our growth with the objective of maximizing dividends per share.

I am now available to take the questions.

Question and Answer Session

Operator

(Operator Instructions) Your first question comes from Jonathan Chappell - J.P. Morgan.

Jonathan Chappell - J.P. Morgan

Bjorn, on the Teekay call you’d mentioned the 50-50 spilt of the Pacific and the Caribbean basin for the Aframax’s in the second quarter, but made some reference to the fact that rates have been a lot stronger in the med. I don’t recall hearing a statement about the third quarter so far; do you have more med, Black Sea exposure into your fleet in the third quarter than you did in the second quarter?

Bjorn Moller

We did reposition, I think, three to five vessels from the East to the Atlantic in the beginning of the second quarter and I think there is a constant arbitrage with both cargo movements or vessel heading out for f dry-dock where it is still cheaper to do that in the Indo-Pacific. So, I don’t have the number right in front of me, but I think we are little bit longer in the Atlantic now than we were just three months ago. But we’re also positioning vessels all the time, because the time charter shifts we’ve taken on, I think most of those are in the Atlantic, I haven’t got it in front of me, but that would also give us disproportionate higher voice state in the Atlantic.

The other thing that I should mention is the LR 2 product tanker market, which was lagging the crude markets a long time is quite strong at the movement out in the far east, so that’s providing I guess, a diversion of some Aframaxs so that’s a more general comment on Aframax rates seeing a flow because of some of the large clean product movement.

Jonathan Chappell - J.P. Morgan

And if the equity prices continue to remain under pressure, the two dropdowns to the Suezmax that have yet to happen so far, are they completely relying on the ability to issue equity or is there some potential debt flexibility to take those ships.

Bjorn Moller

I would venture that we would want to issue equity in connection with adding two such ships. Pete I don’t know if you want to add anything to that?

Peter Evensen

I think it’s our preference to make an acquisition with equity and in much as we did with the first two with that, although we do have debt capacity, but that’s our preference.

Jonathan Chappell - J.P. Morgan

And then finally, could you just give us some insight as to what happened with the Nassau Spirit; why was it out for almost the entire second quarter and I’m assuming it’s back on line since it’s starting that contract in August and then also just the second half dry-dock schedule for this year.

Bjorn Moller

Yes, the vessel was in dry-dock during some steel renewals and as I mentioned in my comments, that that’s an item that’s actually biting the industry as a whole. It’s just productivity and shipyards is way down because of over commitments and so. So that was a schedule dry-docking the turned into a much longer dry-docking than expected because of the time it took to effect the planned repairs. So, it wasn’t like there were unplanned repairs, it was just productivity at the yards and the work needed to be done, but the ship is returning to service now.

Jonathan Chappell - J.P. Morgan

And are there any dry-docks planned for the remainder of this year?

Peter Evensen

We have a relatively light schedule in the second half of ’08. There are no scheduled dry-docks in the third quarter and we have one Suezmax scheduled for the fourth quarter.

Operator

Your next question comes from Daniel Burke - Johnson Rice.

Daniel Burke - Johnson Rice & Co

Bjorn I wanted to follow-up on your assessment of the likelihood of delays in the Chinese shipyards. Could you discuss more broadly your view of the evolution of those yards, you’ve provided some assumptions sort of for the near-term here with respect to deliveries. I’ll be curious to know if you think that gets better as those yards become more competent or if conversely the number of Greenfield yards that have yet to deliver means that you really don’t think that the delays you’re witnessing and observing now will improve materially over that 2009 and 2010 period?

Bjorn Moller

It’s an area we follow with great interest and I guess the best example I can say, I think the delays we’re experiencing are not in significant, but we are progressing and things are coming along. We are comfortable that we’ll get good ships at a reasonable time. If you look at [Long Sang] which is the largest auto book of Suezmax, that’s at Greenfield yard. I forget the number of vessels that they were supposed to have delivered this year, but it was maybe 10 or 15 ships, and they haven't delivered a single ship yet and so I think you are going to us some very dramatic delays there.

In the meantime you’re seeing significant ordering going into Chinese yards of non-tankers. I saw the other day that a series of very large bulk areas was placed at one of the Chinese yards, which would gobble up a huge amount of capacity in those yards. So, clearly their eyes maybe bigger than their stomach at the moment. So I guess there’s a risk that you could actually have compounding of this problem. They’re capacity is growing, but they are also building the order book in other sectors as quickly as they can, so it’s a very dynamic situation.

If you ask me, the bottom line, I think we can expect slippage for the next couple of year’s at all key yards. So, I would take the delivery numbers with a significant grain of salt.

Daniel Burke - Johnson Rice & Co

And then on the spot market side it seems like we’re coming pretty close to these, if not through some of these slow steaming thresholds, as you bottomed them out Bjorn. I was wondering if you could make any comments about the way Teekay and Teekay Tankers are now operating the spot Aframax fleet; are you slowing down on the ballast part or the ballast (inaudible).

Bjorn Moller

Well it’s being very carefully managed and we have vessels that are slow steaming, or ballast vessels (inaudible).

Operator

Your next question comes from Chris Wetherbee - Merrill Lynch.

Christian Wetherbee - Merrill Lynch

I just wanted to touch on the scraping for a minute. You mentioned in the press release and on the call regarding seeing some vessels get scrapped. Can you just sort of give a sense of how much, quantify the amount, that’s actually being scrapped with the rates where they are right now?

Bjorn Moller

It’s not a significant amount just because the number of ships that are either being sold for conversion, despite their low productivity and because they’re being discriminated against, they are still hanging in there because the strength a voyage you can get on the written down Tankers is very effective.

As we saw on slide eight, there were only nine vessels scrapped in the first half of the year, which is a low number, but there were 29 that left the fleet for conversion. Of course the big issue is the 20% of the world tanker fleet, which is single-haul, and the 2010 deadline that is looming and so as we go into the next year and to the proximity of that deadline comes closer , then ships are not going to go in want to spend money on the steel repairs. And we’re going to more scrapping we believe at that time. The other day an Aframax tanker was scrapped, so there is scrapping going on.

Christian Wetherbee - Merrill Lynch

I guess just touching on the single-haul, the kind of divergence with single-hauls. You mentioned a 25% number, I jumped on a little late, I wanted to make sure I understood if that was a decline in chartering or was that the spread between rates, the long-haul and single-haul. And if not, what is that spread between rates going on right now that you’re seeing?

Bjorn Moller

Well, the number I referred to was the reduction in the number of voyages involving single-haul vessels to Korea. they were the biggest user of single-haul tankers and they have significantly reduced their use of single-haul tankers on a voluntary basis. And from next year the biggest refiners in Korea have stated they will not use single-haul tanks at all, so that number could comedown more. Of course these vessels then we’ll look for other employment, but the more you stratify ships that have already face discrimination, you’re going to have very inefficient use. As far as the rate differential, I have seen anecdotal reports of Suezmax and VLCCs, with numbers of $30,000 to $50,000 day differential.

Christian Wetherbee - Merrill Lynch

I think you ran through the percent of fleet booked and at what rate; I just want to make sure I caught those numbers correctly?

Bjorn Moller

Right, so for Q3 50% of Suezmax and 50% of Aframax days and Suezmax days were sold at 75,000 a day and the Aframax rates of 48,000 a day. And that table in our earnings presentations, you can read that table where that points to as far as the annualized cash level of distribution. It already takes into account that some of our vessels are franchised and out at lower rates, so you can read this straight of the chart.

Operator

Thank you. There are no further questions at this time.

Bjorn Moller

Thank you very much for joining us and we’re pleased with the strong result and we are looking forward to Q3 with great optimism based on the strong market we’re seeing. Enjoy the rest of your day. Thank you.

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Source: Teekay Tankers Ltd. Q2 2008 Earnings Call Transcript
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