DryShips Inc. (NASDAQ:DRYS) was suffering from a massive hangover post a 1:4 reverse stock split ("Reverse Split"). The 56% decline in DRYS stock price from April 6th to April 11th hammered down its equity market value to a low of $80+ million. To counteract this decline, DRYS declared a $2.5 million dividend payable to shareholders with a May 1st record date (see below) after the close on April 11th.
DRYS followed the dividend declaration with an April 12th press release disclosing a 1-year time charter on a Newcastlemax vessel. DRYS stated the time charter would generate $7.1 million in gross revenue, equal to $19,450/day, most likely prior to a 5% brokerage fee. The TC is a departure from DRYS spot market strategy for its dry bulk fleet. A change in chartering strategy would certainly be a positive and it would help in the effort to raise debt financing. The stock rallied sharply into the close on the news.
The dividend and time charter announcements arrested the downward stock price trajectory, but the April 12th bounce may prove ephemeral if DRYS tries to cram the remaining $188 million of equity issuance under the recent Prospectus Supplement down the market's gullet. The last two weeks have clearly demonstrated there is a limited appetite for DRYS equity. If it chooses to force equity into the market, DRYS would remain in danger of falling below the minimum equity market value threshold to use an F-3 filing for the issuance of securities (read this primer on S-3s and F-3s).
If DRYS loses its ability to use an F-3 filing, it would not be able to issue stock through a continuous offering program and it would be restricted in the number of shares it could issue annually. Maintaining an equity market value of more than $75 million is therefore an existential crisis for DRYS. It has to address the root cause of the sharp drop in its stock price, which is the seemingly unending issuance of stock followed by reverse stock splits. A competent and honest management team would be able to increase the equity market value of DRYS 2x-3x in several weeks by pursuing a properly structured debt, using a more balanced TC strategy, and slowing down the acquisition and equity issuance binges.
The April 11th dividend press release referenced above included the following "updated key information" per DRYS.
- Cash and cash equivalents about $422 million.
- Book value of vessels, including deposits, about $194.3 million.
- Third party loan for the Raraka of $16.5 million.
- Sifnos loan balance of approximately $200 million.
- Shares outstanding of 47.01 million.
Here are the important takeaways:
- Assuming $21.9 option exercise payments were made on the third and fourth VLGCs, the book value of vessels of $194.3 would indicate that DRYS has not closed any of the vessel acquisitions to date.
- The Sifnos loan balance of $200 million indicates that it has drawn down the remainder of the facility to boost cash and cash equivalents listed in the press release.
- 47 million shares outstanding post split equals the number of outstanding shares disclosed in the 6-K dated April 7th. This indicates that no new shares were issued under the Prospectus Supplement on April 10th and 11th.
- The record date for the dividend is May 1st (the ex-dividend date is, therefore, Thursday, April 27th).
Alternatives to the Equity Issuance
DRYS is a useful vehicle for George Economou ("GE") to execute transactions that financially benefit him. It would likely take him about 6 to 9 months to take DRYS private and then create a new entity to float in the public market, so I am making the simplifying assumption that he will pursue the easiest path to satisfy his personal interests by maintaining DRYS as an F-3 filer by removing or reducing the near-term equity overhang.
DRYS has several clear choices to reduce the amount of equity it needs to fund its acquisition spree or eliminate it all together.
- Cancel approximately $150 million in acquisitions.
- Raise debt financings, most likely from non-traditional lenders such as hedge funds and non-bank lenders.
- Sell assets either to third parties or to a GE-controlled entity such as Cardiff.
Based on the Sifnos revolver restructuring and the new TC, it looks like he is opting for the debt pathway. The following sources and uses table calculates DRYS' remaining total funding needs.
|Aframax - Newbuild||$43,000|
|Kamsarmax 2x 2014||$45,500|
|Down Payments VLGCs||$87,600|
|Cash/Cash Equiv @ 4/11||$422,000|
|Total Funding Needs||$182,400|
Given the recent spike above $12,000/day for Panamax Dry Bulker spot rates and the fact that the bulk of DRYS acquisitions will close during the 2nd quarter and be cash flow accretive, the cash burn/WC figure is high. $10 million of it is assumed to fund a debt service escrow account for a possible debt financing (see below).
As discussed in this prior article, DRYS restructured its revolver with Sifnos (a GE-controlled entity) and it is now unsecured. With the exception of the Panamax vessel Raraka, which is used as security on a loan with a third party, DRYS may now use its current vessels and future acquisitions as security in a debt financing.
The four VLGCs have initial time charters of five years at $30,000/day. The charterers have been described as oil majors and Shell has been mentioned as a potential counterparty. As detailed in this article projecting DryShips post offering cash flow, the VLGCs would generate about $29.78 million of margin (after OpEx, but before payment of per vessel management fees to DRYS).
Let's make the following assumptions (very generous to the lenders) regarding debt financing.
- $185 million principal
- 8% interest rate (supported by over-collateralization and the charterer credits)
- 6% per annum principal amortization (higher than normal)
- $10 million of proceeds used for debt service escrow account
- First year debt service of approximately $21.1 million
The $29.78 million of margin from the VLGCs alone would provide debt service coverage of 1.4x. Assuming about $10k/day of margin from the Newcastlemax TC would boost the first year TC only debt service coverage to 1.58x. These are robust coverage ratios, particularly factoring in the aggressive principal amortization assumption.
From a loan to value perspective, the coverage would also be quite strong. Due to the recent increase in Panamax rates and the related increase in second hand values, DRYS 13 vessel Panamax fleet is worth approximately $100 million, despite the high average age of the vessels. DRYS is also in the process of acquiring a variety of additional vessels for $660 million (detailed in the table above). Even assuming a haircut of $50 million on the VLGCs and Tankers while ignoring the increase in value of some of the Dry Bulkers, the Fair Market Value of the fleet would be greater than $700 million. This would result in a loan to value of approximately 26%.
There is a great deal of skepticism regarding DRYS securing debt financing and there are sound reasons supporting that skepticism. DRYS is very unlikely to secure debt from the commercial banks that have traditionally funded the shipping industry. There are plenty of pools of debt capital, however, with sophisticated creditors capable of structuring a deal that would provide sufficient collateral, legal, and debt service coverage protection. Given the steps taken to restructure the Sifnos revolver and secure some additional short-term time charter coverage, DRYS appears to be progressing down the debt capital raise pathway.
Disclosure: I/we have no positions in any stocks mentioned, but may initiate a long position in DRYS over 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.
Additional disclosure: Please note that I have traded DRYS on a regular basis, sometimes intraday round trips, for the last several weeks on the long side. I do not short stocks. I will likely aggressively trade DRYS over the next several days, increasing and decreasing my position based on the stocks performance. I expect DRYS to be volatile over the next several weeks and I view trading DRYS as extremely risky.
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