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I am an investment analyst working for a private investment firm that is focused on global macro investing. I specifically focus on fundamentally driven ideas in commodities and equities. I almost always express my investment views through the use of medium-dated and long-dated options.
  • Genco Shipping: Overvalued and Overleveraged in a Collapsing Market 21 comments
    Jan 13, 2011 6:53 PM | about stocks: OQ
    Note: all valuation and pricing figures updated as of January 7th, 2011. Time-charter rates, ship resale values and commodity demand estimates from Clarksons, a well respected shipping data provider and brokerage. Forward freight agreement pricing (FFA pricing) from Baltic Exchange.

    Genco Shipping (ticker: GNK US) is an overvalued, overleveraged stock operating in an industry with significant risk to the downside. The Company currently owns 49 dry-bulk spread across various vessel sizes. Genco also has 4 vessels on order that should be delivered by Q3 2011. Lastly, Genco has a 25% stake in a fully consolidated, publically traded subsidiary called Baltic Trading (ticker: BALT US). BALT owns a fleet of 9 dry-bulk vessels.

    – The dry-bulk industry is structurally oversupplied and will become increasingly challenged over the next few years. A healthy demand environment has led to step-wise growth in new shipyard capacity, which in turn has led to a surge in the pace of fleet expansion. The size of the existing order-book and current shipyard capacity ensures that the market will remain over-supplied under almost any commodity demand scenario.

    – Imbalanced fundamentals are already putting tremendous pressure on dry-bulk freight rates. The Baltic Dry Index (a measure of spot freight rates) is down 50% from early September 2010, a period that corresponds with one of the largest deliveries of dry-bulk vessels on record. Long term charter rates are down significantly as well; clear indicator the market does not view this as a temporary issue.

    – Genco’s earnings are poised to fall dramatically as its vessels roll-off of long-term charters that were put in place before the financial crisis. Many of these ships are earning rates that are more than 2x current market rates. As these ships roll-off into the weakened market, Genco’s earnings will fall from $4.20 per share in 2010 to $0.62 in 2012, or a drop of 85% (assuming ships are re-charted at current 1-year charter rates). Genco is currently trading at 25x 2012 EPS.

    – Genco’s debt covenants and mandatory amortization schedule means the Company will not be paying a dividend or buying back share for the foreseeable future.

    – US analysts are positive on Genco, partly because a persistently bullish view on the dry-bulk market. However, the market has continued to weaken and today some of these estimates are implying near term rates that are over 80% above the dry-bulk futures market. These estimates are now so far from reality that they will have to be adjusted downward.

    – In a generally unnoticed move, Genco has decided to completely reverse from its stated operating strategy and move its ships from safe, stable long-term time charters onto the spot market. This move was made despite the Company’s significant fixed cost base and current industry headwinds.

    – As Genco’s fleet rolls off of charter coverage, its financial performance will become increasingly sensitive to freight rates. Greater spot exposure, coupled with its over-levered balance sheet means that even a 10% further drop in freight rates in the next few years could put the Company at going concern risk.

    – Catalysts are in place to drive a re-rating of Genco; 1) continued deterioration in industry fundamentals 2) awareness that Genco diverged from its stated operating strategy as it puts more and more of its expiring time-charter ships onto the spot market 3) continued deterioration in financial performance because of point #1 and #2 4) analyst estimate re-rating that are more inline with where the market is today 5) issues with debt covenants, especially its 5.5x total leverage covenant 6) insufficient cash flow coverage on mandatory debt repayment schedule 7) realization that Genco will not return cash (dividends or buybacks) to shareholders for the foreseeable future.

    The dry-bulk industry is experiencing substantial and increasing headwinds due to structural factors including oversupply

    Exhibit 1A: Dry-bulk historical and projected supply/demand balance

    Exhibit 1B: Dry-bulk historical and projected supply/demand balance

    Dry-bulk vessels are used to transport commodities such as iron ore, coal, grains, minerals, forest products and other dry cargoes throughout the globe. For at least the past 5 years dry-bulk shipping has been supported by surging demand for coal and iron ore. The primary driver for this demand has been China. Today, Chinese demand for iron ore, coal and other dry-bulk commodities continues to remain strong and has recovered to above pre-recession levels. In the several years leading up to the financial crisis, the shipping industry was unprepared for the growth in Chinese demand. Shipyards were producing at full capacity, but this capacity could not keep up with 10%+ per annum demand growth. As a result, freight rates surged, thereby driving increased investment in new ships and new shipyard capacity. Today, shipyard capacity has increased dramatically, as evidenced by the fact that four times more ships were produced in 2010 than in 2004. There is now enough shipyard capacity to ensure the market remains fully supplied even if demand grows at 12% per year for the next 5 years. To put this figure in perspective, in the five years from 2005 to 2010, dry-bulk tonne mile demand (actual commodity demand plus changes in shipping distances) increased at an annualized rate of 8% per year. The effect of supply outstripping demand will lower utilization over time. This will ultimately lead to lower freight rates. Lower utilization is already being reflected in the freight rate markets. In 2009, Capesize freight rates averaged $42,000 per day. In 2010, Capesize rates dropped to $33,000 today. Today, Capesize futures market is pricing in a drop to just under $20,000 per day for 2011.

    Dry-bulk oversupply is likely to continue because the problems facing the industry are structural. One of the most important factors in this structural oversupply has been the growth of shipbuilding capacity, and in particular Chinese shipbuilding capacity. Prior to 2008, China was a minor player in the shipbuilding industry. Today, China has moved ahead of Japan and South Korea to become the world’s largest shipbuilder. Many of these shipyards were built in the years leading up to the recession. At the time, capacity expansion made sense because shipyard production could not keep up with demand. However, the lag-time to complete a new shipyard means much of this new capacity is coming online today, in a market that is vastly oversupplied. Moreover, the emergence of Chinese shipbuilders is important because these shipyards appear willing to build ships even though the market is clearly oversupplied. As shipbuilding is an important source of employment and an important user of Chinese produced steel, the central government has taken a number of steps to support the industry. These measures include attractive financing from Chinaexim Bank (State backed import/export bank) to buyers of Chinese dry-bulk vessels, attractive financing for new yard construction and speedy new yard permit approvals to state backed and “key enterprise” yards (see IPO of China Rongsheng). These measures are designed to, and have succeeded at, ensuring shipyards keep their production lines full. Going forward there is every reason to believe that these shipyards will continue delivering new ships and taking new orders, even as the oversupply issues become more clear.

    Structural oversupply is also evidenced by the booming market for new ship orders. Prior to the financial crisis, new ship ordering greatly exceeded new deliveries. This lead to an average book to bill ratio (ratio of new orders to new deliveries) of 3.3x. Today, new ship ordering has slowed down, but by the end of 2010 was roughly equivalent to the volume of delivered ships. The current book to bill ratio of 1.0x will ensure shipyards have enough orders to continue producing at current rates. While ordering more ships into an already oversupplied market may seem irrational, it makes strategic sense for others. Vale, which is the largest iron ore producer in the world, is also one of the largest customers of dry-bulk shipping. During the run-up in commodities prices in 2008, Vale gave up a substantial portion of its iron ore margins to shipping costs. To counteract this issue going forward, Vale implemented a plan to exert greater control over its shipping supply chain. A core part of that strategy is to create, own and operate one of the largest dry-bulk fleets in the world. New ships, called Very Large Order Carriers will help Vale achieve this goal. These vessels, which will be delivered beginning in 2011, will be the largest dry-bulk vessel ever built. When the deliveries are completed, Vale will have flooded one of the most important dry-bulk routes, Brazil to China, with extra tonnage. While Vale stands as a stark example of continued ordering into an over-supplied market, there are other participants as well. Other iron ore producers, coal producers, steel mills and power plants have also recently placed new shipbuilding orders. As with Vale, these strategic operators have other objectives that would see them benefit from lower freight rates.

    Genco’s financial performance is set to deteriorate

    The deterioration in freight rates has not yet affected Genco because it has historically fixed its fleet on long-term charters. Many of these charters were entered into before the financial crisis and are earnings rates that are more than two times what they would earn today. However, these ships are now coming off their charters and will be entering into a much weaker market. By Q1 2011, 21 out of Genco’s 49 ships (43% of its fleet) will be facing exposure at current market rates. By the end of 2011 that number increases to 86% of Genco’s fleet.

    Exhibit 2: Genco’s Spot Market Exposure

    Genco’s financial performance will continue to deteriorate as more of its ships roll-off charter. The table below illustrates how Genco’s financial performance will trend as its ships come off charter. These figures assume ships coming off charter will earn the current 1-year time charter rate for the vessels size class and age. Note that these figures do not assume any further deterioration in the dry-bulk market.

    Exhibit 3: Genco Current Valuation

    There has been a major shift in Genco’s core chartering strategy, dramatically increasing the Company’s risk profile

    Historically, Genco has sought to maintain long-term charter coverage on 75%+ of its fleet. As recently as November 2010, the Company reaffirmed its intention of fixing a significant portion of its fleet for the next fiscal year.

    “…our goal for next year is to, the original strategy of Genco to get to the 70%, 75% fix, that hasn't changed…” (John Wobensmith, Genco Shipping – CFO, Q3 2010 Earnings Call)

    Genco’s charter coverage, is what gave investors and lenders confidence that the Company would have enough cash flow to service is large debt load and possibly pay a dividend. In fact, in 2010 Genco IPO’ed its subsidiary, Baltic Trading, specifically so it could have a company that utilized a spot exposed / no leverage strategy. At the time, the market view was that a spot exposed company should carry no leverage, due to the shipping market’s notorious volatility. However, it now appears Genco has dramatically shifting its charter strategy. 2010 was, and 2011 will be, a watershed year for Genco. Many of Genco’s ships were put onto long-term charter pre financial crisis boom. Today, those ships are coming off charter. If Genco were to continue with its stated strategy (re-affirmed in November), it would fix 75%+ of expiring vessels on long-term charter. Instead, the Company has decided to gamble with it stakeholders’ money and play the short-term charter and spot markets. For example, Genco had 17 ships came off charter in Q4 2010. Many of these ships came off charters that were put in place in 2007/early 2008. Out of 17 ships, ZERO were placed on charters lasting more than one year. A few ships were placed on one-year index charter, which guarantees employment, but is essentially spot market exposure (since the rate is indexed off of the Baltic Exchange spot rate). The rest were either short term extensions of expiring charters, or 1 to 3 month trip/time charters. By the end of Q1 2011, many of these ships will need to get re-chartered. By then another nine ships (in addition the 12 from Q4) will be coming off charter, meaning 43% of Genco’s fleet will need to be re-chartered by Q1 2011. By the end of 2011 even more ships will come off charter, resulting in 86% of their fleet needing to be re-chartered. No matter how you look at it Genco does NOT have 70% to 75% of its fleet fixed for 2011. Instead, the Company has massive spot exposure. Perhaps not surprisingly, Baltic Trading has also decided to change its core strategy. Though the Company explicitly stated the following in its S-1…

    “We expect to finance our fleet primarily with equity capital and to utilize little to no leverage, and we intend to enter into a revolving credit facility for bridge financing for acquisitions.” (Baltic Trading, S-1, March 2010)  

    …it now carries a permanent debt facility because it was unable to refinance a bridge loan. Clearly, having an actual strategy that runs counter to stated strategy is normal operating procedure for Genco and Baltic Trading.

    Analyst estimates have not been updated to reflect substantial deterioration in the spot, time charter and FFA markets

    US based equity analysts are bullish on Genco Shipping. Most have buy ratings on the stock, none have a sell rate. Underpinning the bullishness on this name are freight rate estimates that are far above current market levels and levels implied by the FFA market and the time charter market. The table below details 2011 freight rate forecasts for a sampling of Genco analysts.  Note that all three analysts have “buy” ratings on Genco, I was not able to obtain detailed freight rate estimate for other analysts. On average, sample analyst estimates for 2011 are 27% above current 1-year time charter rates and 40% above current 2011 FFA rate. Most analysts last updated their freight rate forecasts in early November. Given the market has continued to slide, a downward revision should be expected prior to Genco’s Q4 earnings release in late February / early March 2011.

    Exhibit 4: 2011 Analyst Forecast versus Current Market Rate

    A recalibration of analyst estimates could have a meaningful near term impact on the markets view of Genco. The table below compares two cases for Q1 and Q2 2011. The first assumes Genco puts its expiring vessels into 1-year time-charters at current market rates. The second assumes consensus estimates. The table clearly shows that at current market rates Genco should be earning 12% less than consensus in Q1 2011 and 27% less than consensus in Q2 2011.

    Exhibit 5: Quarterly Forecast versus Consensus Estimate

    Genco may have difficulty staying compliant with debt covenants and current with required debt amortization

    Genco has a significant debt load that comes with a number of financial covenants and large amortization requirements. Genco has three primary credit facilities, each with a number of covenants. All three facilities have a consolidated net debt to EBITDA covenant of 5.5x and interest coverage covenant of 2.0x. Genco’s primary lenders include DnB NordBank ASA, Crédit Agricole, Skandinaviska Enskilda Banken AB, BNP Paribas, DVB Bank SE and Deutsche Bank. The impact from the roll-off of Genco’s above market charters will increase its leverage profile over the next several years. The table below illustrates how the Company’s leverage will trend through 2013. Also shown is how its leverage increases with decreases in freight rates. Should Genco breach a covenant, it will have difficulty negotiating a cure due to the number of facilities and lender that the Company would have to deal with.

    Exhibit 6: Projected Total Net Debt to EBITDA
    At Current 1-Year Time-Charter Rate
    10% Below 1-Year TC Rate
    20% Below 1-Year TC Rate
    Genco’s credit facilities also come with significant required repayment schedules. Genco will have mandatory debt repayments of $77 million in 2011, $184 million in 2012 and $220 million in 2013. These repayments are significant relative to its free cash flow. At the very least these repayments will likely mean Genco will not be paying a dividend or buying back shares for the foreseeable future. Also, as with its debt covenants, Genco’s ability to meet mandatory amortization is highly sensitive to freight rates. Should the market slip further, the Company’s ability to continue meeting its rigorous amortization schedule will be questionable.  

    A further slip in freight rates would create a going-concern risk for Genco
    Genco’s financial performance is highly sensitive to freight rates. The Company’s large fixed cost base (including interest) means even a 10% move in freight rates can more than double earnings per share. The figures below illustrate how Genco’s earnings move with freight rates.

    Exhibit 7: Genco Projected Earnings Sensitivity
    20% Above Current 1Yr TC Rate
    10% Above Current 1Yr TC Rate
    1-Year TC Rate
    10% Below Current 1Yr TC Rate
    20% Below Current 1Yr TC Rate
    20% Above Current 1Yr TC Rate
    10% Above Current 1Yr TC Rate
    1-Year TC Rate
    10% Below Current 1Yr TC Rate
    20% Below Current 1Yr TC Rate

    Genco is trading at a significant premium to its liquidation value

    Genco is also trading at a premium to its liquidation value. The table below estimates what Genco could be worth today in liquidation. The resale values are from Clarksons. They are updated as of December 31, 2010 and take into account vessel class, size (within each class) and age.

    Exhibit 8: Liquidation Value Analysis
    ($ in millions)
    Est. Resale
    Value (mm) [1]
    Capesize Vessels
    Panamax Vessels
    Supramax Vessels
    Handymax Vessels
    Handysize Vessels
    Total Resale Value
    Less: Debt (GNK Only)
    Plus: BALT Investment [2]
    Plus: Jinhui Investment [3]
    Less: Additional Vessel Contributions [4]
    Plus: Cash (GNK Only)
    Total Value to Equity
    % Premium to Mkt Cap
    Implied Liquidation Price
    [1] Values are estimates provided by Clarksons.
    [2] Represents current public market value for GNK's stake in Baltic Trading.
    [3] Represents current public market value for GNK's stake in Jinhui.
    [4] Represents additional cash GNK will have to deposit for on order vessels.

    Two important things to note about the liquidation analysis; 1) the resale values used are meant for single asset sales. Genco might get lower rates in a wholesale liquidation and 2) current resale values are high relative to current charter rates. On the second point, a modern, 2nd hand Capesize currently trades at over 6.5x annual revenue (when using 1-year time-charter rate). This roughly comes out to a pre-tax equity return of about 7% assuming 50% LTV financing, 10-year charter at $24,240 and resale value of 50% of purchase price. Over the past twenty years, the average vessel price to annual revenue multiple has averaged closer to 4x and pre-tax equity returns closer to 15% using the same financing assumptions.
    Genco’s high leverage means its equity liquidation value is highly sensitive to vessel resale values. The table below shows how sensitive Genco’s equity value is to small changes in ship resale values.

    Exhibit 9: Liquidation Value Sensitivity
    Per Share
    Diff From Current
    Resale Value
    Value (mm)
    Stock Price
    Plus 20%
    Plus 15%
    Plus 10%
    Plus 5%
    Less 5%
    Less 10%
    Less 15%
    Less 20%
    Target Valuation

    Genco’s financial performance should continue to deteriorate through 2013, when the last of its pre-recession charters rolls off. Using current 1-year time charter rates for ships that roll off, Genco should essentially be breakeven in 2013. From 2014 onward, Genco’s financial performance should begin to improve as it continues to pay-down debt. Given the length of time it will take for Genco’s earnings to trough and begin rising again, a DCF is the most appropriate way to value the Company. The following assumptions were made to come to a DCF value for Genco:

    – Revenue assumes current 5-year time charter rates as provided by Clarksons. Uses forecasted projections through 2013 (factors in the impact of existing, above market charters).

    – 20 year life for Genco ships. On average, Genco’s ships are 5 years old, so analysis uses a 15 year DCF. Assumes ships are sold for scrap value (~$400 per light weight tonne) at the end of 20 years.

    – Cost of capital assumptions: Risk free rate using 15 year swap rate, average cost of debt assumed to be 250bps over LIBOR, projected beta inline with historical beta.

    – DCF values Genco at $8.85 per share, or 42% below current trading value.

    DCF valuation of $8.85 per share would imply a 14x PE multiple off of 2012 EPS. It would also imply a 7.5x EV to EBITDA multiple and an 18x EV to EBIT multiple for 2012.

    Disclosure: I am short GNK.
    Stocks: OQ
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Comments (21)
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  • Adam Gefvert, CFA
    , contributor
    Comments (1448) | Send Message
    Great article, professionally written. I'd be reluctant to buy the stock after reading this. I was wondering where you got the information for exhibit 2? Also, what do you think the chances are that spot rates go up?


    23 Jan 2011, 09:10 PM Reply Like
  • FalseConviction
    , contributor
    Comments (12) | Send Message
    Author’s reply » Thanks for the comment. I got all of the Company specific information from public filings. I build up exhibit 2 from information provided in the following link.




    I think for Capes and Panamax vessels there is a good chance spot rates rally from current levels. Spot rates are currently at $8.7k per day for a Cape and $12.7k per day for a Panamax whereas FFAs are at ~$20k for Q2 2011 and beyond for Capes and $15k for Panamax. I think the current level for Capes is unsustainable and may be driven by flooding issues in Queensland.


    In the analysis above my figures are run using $21.75k for Capes and $17.5k for Panamax. So as you can see I'm being very generous to the Company relative to market levels. Even under these numbers the Company doesn't look good.
    24 Jan 2011, 11:13 AM Reply Like
  • Adam Gefvert, CFA
    , contributor
    Comments (1448) | Send Message
    Looks like you were right. Although I don't think I should short it at these levels, there probably isn't enough downside in the near term, the company has so much cash.


    Your report was so clear and concise, I'm surprised you didn't get more comments.


    I'd like to learn to write reports like this.
    25 Jan 2011, 11:18 AM Reply Like
  • FalseConviction
    , contributor
    Comments (12) | Send Message
    Author’s reply » The analysis above was done three weeks ago. Since then GNK has fallen 20%. However, should also note that the shipping market has fallen dramatically during that period too. The BDI (a measure of spot rates) is also down 20%, and long term FFAs are down an average of 11%. When i run these longer term rates through my model (which are far more generous to GNK than shorter term rates) a 11% drop in longer term rates has a huge impact on their fundamentals. For example, if i run GNK on yesterday's 2012 FFA rates I show them blowing their net leverage covenant by Q4 2010. So yes, GNK is now closer to my original price target of $8.85, but that price target is no longer realistic. I'm not ready to come out with a revised number, but I think its still a very attractive short at these levels.


    The Company's cash pales in comparison to its debt ($200m vs. $1.7bn in debt). The Company has a net debt covenant that will start getting pretty tight so it can't afford to do much with that cash. Also, beginning in mid-2012, the Company will start having mandatory debt repayment of ~$50m per quarter, so it will need to preserve cash for that.


    So to reiterate, i still think this is a very attractive short. If you are worried about potential volatility in this name given the recent dramatic move I would recommend getting short exposure through out-of-them-money put options.
    27 Jan 2011, 10:32 AM Reply Like
  • FalseConviction
    , contributor
    Comments (12) | Send Message
    Author’s reply » Sorry, I need to make a correction to the above. At current long-term FFA rates, GNK will blow its net leverage covenant (according to my model) in Q4 2011, not 2010.
    27 Jan 2011, 11:00 AM Reply Like
  • Stanislav Oleynikov, CFA
    , contributor
    Comments (134) | Send Message
    Great article. A couple of years ago, I wrote something similar: seekingalpha.com/artic...
    That short worked fined for me. GNK is still overvalued, though. Now, I am shorting EXM, NMM, VLCCF. Great short or arbitrage opportunities, in my opinion.
    31 Jan 2011, 03:02 PM Reply Like
  • j_remington
    , contributor
    Comments (1341) | Send Message
    All of your assumptions are based on oversupply beyond 2011. China shipbuilding is not going to be financed without a profit cushion in the equation. Do you really think shippers want to build more ships to operate at a loss? You do not mention any FACTS regarding ships being ordered by Vale and others. Where is the data? Where are your references? Do you really think these companies want to expose themselves to the non-core business of shipping?


    "Many of these ships are earning rates that are more than 2x current market rates. As these ships roll-off into the weakened market, Genco’s earnings will fall from $4.20 per share in 2010 to $0.62 in 2012, or a drop of 85% (assuming ships are re-charted at current 1-year charter rates). Genco is currently trading at 25x 2012 EPS."


    Current 1-year charter rates are due to the occurrence of natural disasters and the cyclical nature of shipping along with a known slowdown in shipping demand during the Chinese New Year. You fail to recognize these very important facts. Thus, your earnings calculations are low balling beyond an extreme.


    "Genco’s financial performance is highly sensitive to freight rates. The Company’s large fixed cost base (including interest) means even a 10% move in freight rates can more than double earnings per share. The figures below illustrate how Genco’s earnings move with freight rates."


    So, a 10% move up in freight rates is a possibility. Also, a 20% or 30% or higher improvement is a possibility. Talk about a stock shorting disaster. Or you can watch your capital disappear by playing a bearish bet with options.
    10 Feb 2011, 09:21 AM Reply Like
  • shiftingsands
    , contributor
    Comments (3) | Send Message
    Legimate concerns for not believing a short GNK thesis. However, you seem to be mistaken on certain points.


    1) It has been referenced by Eagle Bulk Shipping and various other media sources that Vale is in the process of acquiring 35/36 Chinamax ships @ 400,000 dwt as well as 12 converted VLCCs @ 300,000 dwt. The driver behind this is for Vale to push shipping costs lower so that they are more competitive with iron ore exporters from Australia who currently have lower shipping costs due to mine distance. Vale is due to take delivery of its first Chinamax ship in June of 2011. (Just as a reference point. The 35/36 Chinamax ships alone would displace as many as 168 Capesize ships) This will place significant supply side pressure on the current shipping market.


    2) Though it is true that the floods and natural disasters in Australia along with Chinese New Years have softened the market, it is simply not enough to alleviate the upcoming supply pressure.


    I would actually counter with the argument that with China increasing their interest rates and attempting to cool their domestic markets due to inflation concerns, I would be surprised to see a huge push in demand. In addition
    10 Feb 2011, 04:58 PM Reply Like
  • FalseConviction
    , contributor
    Comments (12) | Send Message
    Author’s reply » Here is my response to the comment above.




    New ships are still getting financed because even at current time-charter rates (1year, 5year, take your pick) these ships are still profitable. According to Clarksons, a modern second hand Capesize is going for about $56 million. If we assume that vessel can get do a 25-year charter at $20,000 per day, 50% LTV financing at 6.0%, 25-year useful life, scrap value of $10 million (at the end of 25 years) we see that an equity holder can still earn ~9% IRR. So the first point is, banks are willing to lend because they are well covered even at today’s rates. The second point is, while the equity returns don’t look great, they are acceptable to some. The evidence that this level of return is acceptable can be seen in the fact that 76 million dwt of new dry-bulkers were ordered in 2010. This compares to a total fleet of around 500mt, so 2010 new ordering represents 15% of the current fleet. The problem with this math is that it shows $20,000 per day rate working for a new ship-owner, however, the math doesn’t work if you paid $120 million for your Capes (like GNK did in 2007)


    If banks and shipowners are pulling back, its not really coming through in the numbers. December and January were pretty dismal for freight rates but both months saw a good amount of 1) new ship deliveries and 2) new ship ordering.


    Dec 10 and Jan 11 New ship deliveries: 13.77m dwt (~2.7% fleet growth)


    Dec 10 and Jan 11 New ship ordering: 9.4m dwt


    Obviously, if we see Capesize rates under $10,000 for an extended period of time, it will discourage new ordering and deliveries and encourage scrapping. Overtime this will lead to a more balanced market, but with tight debt covenants and mandatory debt amortization, GNK does not have this kind of time.


    Yes, Vale is 100% committed to building a large dry-bulk fleet. These ships have been ordered, financed and are being built today.


    Vale is committed (see page 24 and 25 of “2010 Vale Day NY”):




    Ships are ordered:




    Ships are financed:




    Ships are being built today (see pg 190):






    I agree that flooding issues in Queensland and other parts of the world as well as Chinese New Years could be having an impact on dry-bulk SPOT rates. But, I disagree that they should have an impact on longer term time-charter rates. So, to be very clear about what freight rate assumption I am using in my model, I’ve detailed current spot rates, 1-year TC rates, 5-year TC rates and 2012 FFA rates below (apologies if its confusing, having trouble inserting a table).


    Capesize (Spot, 1yr time-charter, 5yr time-charter, 2012 FFA): $6.4k, $18.5k, $21.75k, $20.18k.


    Panamax (Spot, 1yr time-charter, 5yr time-charter, 2012 FFA): $12.5k, $16.6k, $15.25k, $15.5k.


    Supramax (Spot, 1yr time-charter, 5yr time-charter, 2012 FFA): $11.7k, $14k, $14.2k, $13.5k.


    Handysize (Spot, 1yr time-charter, 5yr time-charter, 2012 FFA): $9.4k, $11.5k, $11.5k, $11.0k.


    So, to be absolutely clear, I am using 1yr time-charter rates, not spot rates. The rates that I am using are 20% to 190% above current spot rates. As you can see from my figures, I could have used 5-year time charter rates of 2012 FFA rates to get to pretty similar figures for Genco (they have mixed fleet exposure). THE FIGURES I AM USING ARE ALREADY PRICING IN A POST-FLOODING/CHINESE NEW YEARS REBOUND. I don’t think you can make the argument that a one week event that happens every year, or a flood that will take several weeks to clean up should impact a 5-year time charter rate. Furthermore, there is a liquid, traded market for future spot rates, its called the FFA market. The FFA market is cash settled on the spot number that the Baltic Exchange publishes. I have the 2012 FFA figures shown above. These figures clearly show that the market is expecting dismal (albeit, higher than spot) rates even through 2012. Its one thing to say you think I’m using the wrong rates because your view is more bullish than mine, but don’t say I’m using the wrong rates because I’m not factoring temporary events like Chinese New Years and Australia flooding.




    I think I made it pretty clear in my write-up. GNK’s leverage works both ways. I present a bearish argument for dry-bulk freight rates. I think freight rates are going to stay at current levels (current time-charter or FFA levels, not spot levels) or continue to decline. This view basically comes down to supply outstripping demand for the foreseeable future. Under this scenario, even where rates remain unchanged from current time-charter levels, Genco will 1) not be generating any money for shareholders for the foreseeable future 2) will be facing debt covenant and debt pay-down issues. Under this scenario, GNK could be forced to issue equity and sell assets. I would point to GNK’s sister tanker company, General Maritime (GMR), as an example of what could happen.


    My view is that at current time-charter rates, GNK will blow a covenant in early 2012 and will be forced to issue stock and/or sell assets to cure default. I think the even if long-term rates rally 20%, GNK is overvalued. To the extent you have a different view on the macro picture for dry bulk and are very bullish, its pretty simple, don’t short GNK. I did my write-up to discuss the fundamentals, not necessarily on how to trade this, though you can probably tell from my profile how I’ve expressed my view.
    10 Feb 2011, 05:03 PM Reply Like
  • sciomako
    , contributor
    Comments (4) | Send Message
    Hi False Conviction,


    Excellent analysis.


    I agree with most of it. My only reservation is the finally DCF projection. Given the volatility nature of the industry, I have no confidence in doing any meaningful multi-year projection. But that doesn't invalidate the thesis of your analysis one bit.


    A quick question: does spot-charter have different cost structure on the ship-owner than time-charter? I think I read somewhere (in some 10-K's?) that the ship-owner bears different expenses in different types of chartering.
    29 Apr 2011, 09:22 AM Reply Like
  • FalseConviction
    , contributor
    Comments (12) | Send Message
    Author’s reply » I probably agree with your point, it no longer makes sense to value GNK on any sort of earnings/cash flow metric or DCF metric. I think best way to think about valuation now is as an option on a ship (or rather a collection of 53 ships).


    Yes, there is a difference in cost structure when you are comparing a spot voyage with a time-charter. In a time-charter (or a spot linked index charter), the charterer pays for fuel and the owner (GNK) pays for everything else (crew, insurance, etc). In a spot voyage, the owner (GNK) is responsible for fuel in addition to all other operating expenses. So when you look at GNK's income statement, you actually see an expense line item called "voyage expenses". This represents the fuel component of spot voyages. Most analysts in the industry like to look at a "time-charter equivalent" form of revenue (for comparability) and to get that figure you simply take the voyage revenue line item and subtract it by the voyage expense. For GNK, spot voyages represent a pretty small part of their business. However, don't be fooled into thinking they have a lot of revenue/cash flow coverage. Many of their time-charters are actually 100% spot index linked, so there is no revenue guarantee. Furthermore, the vast majority of their fixed rate time-charters will be expiring in 2011. Hope this helps.
    29 Apr 2011, 06:37 PM Reply Like
  • sciomako
    , contributor
    Comments (4) | Send Message
    I see, thanks.


    Now, this is counter-intuitive: at the moment, Capesize average spot rate is $6.7k while 1yr time-charter is $12k-14k. (Source: DryShips daily report.) But given what you said, a ship-owner bears more expense in spot arrangements and should charge more. What causes the discrepancy?


    I suppose $6.7k is bear enough to cover all the expenses.
    30 Apr 2011, 05:56 AM Reply Like
  • seeraj
    , contributor
    Comments (4) | Send Message
    Thanks for the detailed article. I had a question on the debt covenants. I thought the 2009 amendment of their credit facility (see article link below) would be financially very beneficial to them since all the debt collateral requirements would be waived indefinitley. To me it meant that even if the market value of the vessels dropped significantly in the short term they would not be in default of their collateral requirements. That has been one of the main reasons why i thought such a high debt would still not be a bad thing for Genco. Can you please enlighten.


    13 Feb 2011, 02:22 PM Reply Like
  • FalseConviction
    , contributor
    Comments (12) | Send Message
    Author’s reply » You are correct, GNK had is collateral maintenance requirements indefinitely waived when it renegotiated covenants in 2009. However, the Company still has a 5.5x total net debt to EBITDA covenant (among others). My analysis focuses on this particular covenant as it seems like they could breach this covenant if weak freight rates persist.
    14 Feb 2011, 07:23 PM Reply Like
  • Adam Gefvert, CFA
    , contributor
    Comments (1448) | Send Message
    Do you have anything to say about GNK's 15% rebound off it's 2 year low two weeks ago? Or is it an even better shorting opportunity now? The long term story is still the same?
    16 Feb 2011, 08:31 PM Reply Like
  • sts66
    , contributor
    Comments (3455) | Send Message
    That's one of the best and well researched articles I've ever read on SA - excellent job! Wish more were this detailed....certainly helped me decide whether to hold or sell going into earnings next Thursday. Just sold 1/3, will be completely out by next Wednesday - perhaps some foolish retailers will take the bait and run it up early next week if I'm lucky :-)
    18 Feb 2011, 12:03 PM Reply Like
  • Pat Carroll
    , contributor
    Comments (32) | Send Message
    First, I'd like to echo comments that this is an excellent, thorough analysis of everything that is wrong with the bulk shipping industry. That said, I feel that any analysis which does not consider GNK in the context of its competition is somewhat incomplete. One can easily make an argument in favor of staying away from the entire sector, but it's sort of strange to single out GNK as unattractive when it (to my eyes, at least) has a more favorable debt position than most of its competition. It has less than $600MM is maturing before 2015, compared to closer maturities and poorer cash generation abilities for most of its competition, which have the majority of their debt maturing in the next 3 years.


    The dry bulk shipping business is crowded and unprofitable right now, but I think it's likely that companies like EGLE and PRGN are going to encounter "acute financial distress" before GNK. Elimination of these weaker names should boost rates significantly for the survivors, and to my novice eye it looks like GNK will be one of them.


    This is more of a long term thought. I agree that GNK is overvalued based on its estimated P/E for 2012, but I don't think the market is valuing it based on that at the moment so you shouldn't expect it to crash when it (shockingly!) reveals deteriorating profits over the next few quarters.
    18 Feb 2011, 02:14 PM Reply Like
  • cengizoezdemir
    , contributor
    Comments (22) | Send Message
    Management-wise, it is smart to make long term contracts when the rate is high and to make short term contracts when the rate is low. I beieve GNK management is doing the right thing by not commiting a long term lock on current low levels.
    23 Feb 2011, 02:47 PM Reply Like
  • sts66
    , contributor
    Comments (3455) | Send Message
    Could you update your model with the just released charter data from Feb 23rd, 2011? See:




    Quite a different picture than what you used for your first analysis, but of course you didn't have the new info. I'm seriously considering dumping the rest of my GNK (already sold 1/3), but this new info doesn't make things seem as dire in my eyes.
    25 Feb 2011, 06:47 PM Reply Like
  • FalseConviction
    , contributor
    Comments (12) | Send Message
    Author’s reply » Sorry about not responding earlier, I’ve been tied up. So quick background, the Company announced Q4 2010 earnings and provided an updated charter list.


    Q4 earnings were inline with what I expected (inline/slight miss with the street as well). GNK (not including Baltic) ended the quarter with $245m of cash and $1.6 billion of debt, so $1.355 billion of net debt. If we include the par value of the convertible notes the Company’s net debt at the end of the quarter was $1.38 billion of net debt, this compares to the net debt figure I have in my analysis above of $1.4 billion, so my balance sheet estimates were very close.


    On the charter list update, the Company has continued to fix its expiring vessels onto index-linked charters. As a reminder, an index linked charter means these ships are earning around 100% of spot rate. So, for example, GNK has 3 of its Capesize vessels on index linked charters (one at 100%, the other 2 at 98.5%). So these ships are currently earning about $4,600 per day. GNK now has 22 out of its 49 vessels operating on index linked charters or operating in the spot market. GNK has chosen to do this because they are anticipating a sharp rally in shipping rates in the back half of the year (or sooner). So I think this is a very important point about GNK. There should be no disagreement here, GNK is a levered, spot exposed Company. So to the extent you have a very bullish view on freight rates, then GNK’s strategy is a good thing and you should be long the Company. To the extent you have a negative view on freight rates (as I do) GNK is a short.


    As another reminder, I don’t think Cape rates will remain under $5k per day. Instead, I run my models at the current 1-year time-charter rate. As of today, those rates are as follows:


    Capesize: $17,000
    Panamax: $17,500
    Supramax: $15,500
    Handymax: $13,250
    Handysize: $11,750


    Using these rate assumptions, which for Capes are over 3x current spot rates, I show GNK trading at a non-meaningful PE figure for 2012 and 9x EV to EBITDA. I also show them at over 6x net debt to EBITDA. This second point is important, as it would imply a covenant breach for GNK. Now, I can’t say what will happen to the Company in a covenant breach. Obviously lenders could waive them by without much penalty. But my view is that this is a risk that is not really being priced in by the market. So to reiterate, I still believe GNK is overvalued, over-levered, won’t be returning cash to shareholders for the foreseeable future and is at risk for a covenant breach. I am still short the Company
    28 Feb 2011, 11:19 AM Reply Like
  • sts66
    , contributor
    Comments (3455) | Send Message
    Thnx for the update, appreciate your work here!


    BTW, some industrious guy on a different web site ran an updated liquidation analysis using data from the Feb 23rd 8-K filing and after making a few corrections pointed out by other posters arrived at pretty much the same value you calculated in Jan, ~$10.37 (includes cash and BALT holdings).
    1 Mar 2011, 01:59 PM Reply Like
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