ARH's  Instablog

Send Message
Value oriented, event-driven, industrial focused.
My company:
Hvalbye Capital Markets
My blog:
Hvalbye Capital Markets
  • Flex LNG: Big John Sees Value In Settlement Leftovers 0 comments
    Oct 11, 2013 5:22 AM

    Oslo Axess-listed Flex LNG Ltd. (FLNG:NO) was established in 2006 by three young entrepreneurs with a vision of a floating liquefied natural gas (NYSEMKT:LNG) vessel system that theoretically could produce, liquefy, store and transfer LNG at sea (imagine a vastly more complicated FPSO vessel intended for gas). Although nothing new at the time (conceptual studies were done all the way back in the 1970′s), the company was able to attract investor interest and rounded up several million dollars in equity financing, off of which $458.7 went straight to Samsung Heavy Industries (NYSE:SHI).

    Contracts were signed in the course of 2007-2008, and this was the initial down-payment for the supposed $2.4 billion project, whereupon Samsung was to supply a total of four vessels and perform all front-end engineering, procurement and construction. However, with credit markets freezing up in midst of the financial crisis, Flex LNG were unable to come up with funds for additional installments. The parties have been in a stalemate ever since 2011, with FLNG initially seeking full repatriation of the money. Months of "discussions" (i.e. angry letters from costly lawyers) followed, with FLNG seeking a resolution where parts of the capital would be redeployed to new contracts for the construction of alternative tonnage.

    Arbitrage proceedings were initiated before the summer, and the outcome was as uncertain as a fledgling in first-flight, with the reimbursement potentially ranging anywhere between $400 million and 0 (yes, that's zero) dollars. This uncertainty is not appreciated in the stock market and it made FLNG an unattractive and binary case, leading to trading liquidity completely drying up. Lo and behold, a settlement was reached at the beginning of September, pegging the compensation at $210 million, which is to be redeployed towards two (2) top-spec 174,000cbm tri-fuel (TFDE) LNG carriers. Korean news sources suggest they are fixed at $201 million each, which seem like a fair market price (considering recent similar orders), and terms where the balance is not due until delivery in early 2017. My intention is not to delve into the fairness of the settlement, but for FLNG's investors it came as a great relief that doubled the value of their severely underwater investments overnight. The liquidity explosion that ensued enabled worn-out shareholders to rid their holdings of the stock. One company that did so was InterOil Corporation, which sold its entire 7.1% holding to none other than shipping tycoon and multi-billionaire John Fredriksen's holding company Geveran Trading.

    Fredriksen is no stranger to M&A activity, well known for his numerous opportunistic takeovers and corporate raids. John and his companion, Tor Olav Trøim, has a sixth sense for takeover targets in financial distress and companies trading below intrinsic value. The methodology is based on leveraging said situations in order to pick up discounted tonnage that is implemented in the group's companies with a resulting accretive valuation effect. This is the drill (pun intended) for Seadrill, Frontline, Golden Ocean and Golar LNG - which for years have been the destination for bolt-on assets acquired by Fredriksen personally at substantial discounts.

    Not surprisingly, Fredriksen is seeing similar potential in FLNG. Post-settlement, the company is no longer a jeopardy gamble, but on the contrary, a very transparent case with a balance sheet that is cleaner than a virgin soaked in detergent. Crunching the numbers is amusingly easy, today's (strong) USD/NOK, a trivial debt load and last trading price pegs the enterprise value at $135.1 million, which gives an implied per-unit valuation of $163.5mn. for each of the LNG carriers. My own fair-value estimate comes out to 10.39 NOK/share when taking into consideration the cash position pr. Q2 ($3.9mn.) and (potential) resale value of the LNG loading arms ($0-10mn.).

    Like a kid getting his milk money stolen in the school yard, Fredriksen has for the last three weeks clutched his fists around the shareholders' legs shaking them upside down in order relieve them of all the "loose stocks". Now, the grip is getting firmer and the stock price has been allowed to climb fractionally. A not unknown strategy of dispersing the purchases between several different brokers, to suppress the attention of a potential takeover, is willfully being employed. Another factor that speaks in John's favor, is the fact that Flex LNG is a British Virgin Islands-domiciled company, therefore it is exempt from the normal disclosure requirements which also tends to give stock prices a boost. Normally being required to flag the crossing of both the 10% and 15% ownership threshold, Fredriksen has been able to vacuum the market for stocks in silence due to this slight loophole. A rough estimation indicates that Fredriksen has gotten his hands on in excess of 19 million shares, equivalent to about 15% of the outstanding stock.

    Taking into account the weighted average guesstimation of his purchases thus far, Big John can choose to bid 9,- NOK/share (~ 35% upside from closing) for the remainder of the shares and still walk away with a respectable deal. The before-mentioned offer would at imply a minimum discount a hair under $30 million on the combined order, but more likely be closer to $40 million when considering the cash position and sales proceeds from the buyer's supplies. Considering the contract price for the LNG carriers, this still equates into a financial rebate in the order of 7.5 - 10% on the ships, which is substantial for an industrial player like Golar LNG (or Golar LNG Partners) which have highly compatible and well-lubricated operational organizations.

    My bet is that John Fredriksen, in his signature penny-pinching style, will start out with a low(er) bid, attempting to gain interest from the more short-term owners. Nonetheless, the company's direction is likely to be somewhat dictated by the two main industrial ownership fractions (both of which are represented in the board), Hamburg-based Schulte Group (5%) and Japanese Kawasaki Kisen Kaisha (better known as K-Line), which operates its own fleet of 40-odd LNG carriers. Controlling 18.7% between them, these parties may both have interest in the newbuilding contracts, paving the way for a potential bidding war - or at least being instigators for a (more) fair valuation of the ship duo.

    The aforementioned value estimation does not take into account the potential upside value of said contracts. Maylasian oil major Petronas only just ordered a set of four 150,000bcm LNG carriers from Hyundai Heavy Industries (HHI), also with delivery in 2017, at a contract price reported by shipbrokers to be $212.5mn/each. This bodes well for FLNG's contracts, as it is an indication that the newbuilding market for this type of specialized tonnage is tightening as slot availability at the top-tier Korean yards is becoming constricted.

    With a likely 20-35% bid premium, this stock is the closest thing you get to picking up money from the street on the Oslo Stock Exchange. Additionally, a board of directors which is exclusively remunerated in company stock, gives investors great comfort in knowing that interests are aligned and the company is well-appointed for a takeover - hostile or otherwise.

    Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

    Additional disclosure: I am long FLNG.

Back To ARH's Instablog HomePage »

Instablogs are blogs which are instantly set up and networked within the Seeking Alpha community. Instablog posts are not selected, edited or screened by Seeking Alpha editors, in contrast to contributors' articles.

Comments (0)
Track new comments
Be the first to comment
Full index of posts »
Latest Followers
Instablogs are Seeking Alpha's free blogging platform customized for finance, with instant set up and exposure to millions of readers interested in the financial markets. Publish your own instablog in minutes.