Shipping: This Rally Doesn't Add Up

Includes: EGLE, EXM, GNK
by: Basileus

Shipping stocks soared yesterday, but investors shouldn't be cheering just yet. Eagle Bulk Shipping (NASDAQ:EGLE) shot up from trading just over $3.50 per share on 5/15 to closing over $5.30 just a day later, a single day gain of around 50%. Why? Because the company solidly beat revenue expectations, posting $72.22 M in revenue for the quarter over an expected $38.24 M. Furthermore, EPS were sharply higher as well with EGLE reporting a $0.08 gain versus a predicted loss of $1.12. Also receiving notable one-day bumps were Genco Shipping (NYSE:GNK) and Excel Maritime (NYSE:EXM), which both operate drybulk fleets like Eagle.

The problem: for these companies leading the shipping rally there really isn't all that much to be bullish about. All of these companies have major debt issues that should have investors more than a little worried about their solvency next year and beyond. Excel recently even had to address rumors that it was preparing to enter Chapter 11 bankruptcy that caused a huge selloff in the stock about a month ago.

Another SA contributor recently shined a spotlight on this specific situation for Genco, but Excel and Eagle are in a similar position: without significant improvements in shipping rates very soon, they will not only be unable to pay down their debt owed, but will have very weak positions from which to negotiate any debt restructuring. As you can see on the table below, Eagle has a much better current ratio than either Excel or Genco, and its most recent positive results can help keep their situation less dire, but longer term I don't think a real reversal of course is possible.

Precarious balance sheets don't inspire confidence


Market Cap Cash Total Debt Current Ratio '13 EPS estimate
EGLE 82 M 18.2M 1.15B 1.29 -7.34
EXM 53 M 27.24M 1.07B 0.45 -1.86
GNK 71 M 65.2M 101.25M 0.07 -3.83

source: Yahoo finance

Debt is only one opponent for Eagle and its compatriots. While these companies may have been titans back in the boom days of shipping, they face a glut of competition from other companies, some of which are far better positioned to rebound. The true winners of an eventual upturn in shipping will not be any of these debt laden companies with aging fleets, but those companies that have managed to keep conservative balance sheets and opportunistically update their fleets. The average cost to run and maintain newer vessels is generally significantly lower than to do so for older ones, which directly impacts margins. Consequently, competitors like Diana Shipping (NYSE:DSX) which, has managed to keep its debt levels in check while keeping its fleet up to date, will be the real winners in this space as time goes on.

Previously these companies seemed like risky investments at best, but their rock bottom valuation made downside look limited. However, after the earnings pop, Eagle in particular looks poised for a dive. Its stock price has increased some 200% year-to-date while shipping industry remains as cut throat as ever. Shorting these stocks did not offer as attractive a risk/reward profile despite their apparent weakness before, but now I think a much better case can be made for doing so.

Please remember to perform your own due diligence before making any investment decisions. Particular to the shipping industry are things such as vessel utilization rates, exposure to spot market versus long term charters, spot shipping rates, and fleet composition (ie. tonnage, age, number of vessels, etc.) that should be carefully considered.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.