The dry bulk shipping sector has come a long way since many firms struggled to survive the historic downturn in 2016. Safe Bulkers Inc. (SB) hit bottom at 30 cents on 1/18/2016 and is now trading at $3.80 with a $390 million market capitalization. The Baltic Dry Index has trended higher since the January 2016 lows. The rebound continued in Q1 2018 as SB returned to profitability, continued to deleverage the balance sheet and reported a growing cash hoard. Despite the strong rebound, the Safe Bulkers Inc 8% Cum Red Perp Pfd Shs Series D (NYSE:SB.PD) continues to offer a generous 8.5% yield and trade at a discount to par. This article provides the top 10 reasons to consider SB-PD while also discussing the major risk.
What is SB-PD?
SB-PD is a par $25 cumulative preferred issue with an 8% coupon. Dividends are paid quarterly and SB-PD now yields 8.5% at a recent price of $23.52. SB-PD is a perpetual issue, which means that the company is not required to call it. The company has the option to call SB-PD at par anytime after 6/30/2019. See prospectus for additional details. Average daily trading volume is typically around 15K shares. Use limit orders and patience when trading.
Safe Bulkers Inc 8 % Cum Red Perp Pfd Shs Series C (NYSE:SB.PC) is a very similar par $25 cumulative preferred issue. SB-PC is equal in seniority to SB-PD and both issues have an 8% coupon. The covenants are very similar. Note, however, that SB-PD is a larger and somewhat more liquid issue.
1. Excellent Liquidity
Liquidity is always an important consideration for income investors. The company must have plenty of cash to keep dividends coming. SB had liquidity of $105 million as per the Q1 2018 earnings report:
We had liquidity of $105.0 million consisting of $69.4 million in cash and bank time deposits, $9.8 million in restricted cash and $25.8 million net available under committed loan facilities..."
2. SB turned profitable in Q1
While SB has been cash flow positive for several quarters, it's always nice to see actual profitability. SB turned profitable in Q1 2018. Older leases have been renewed at higher current rates. This has increased revenues and resulted in a return to profitability:
Net income for the first quarter of 2018 was $6.0 million as compared to a net loss of $3.3 million, during the same period in 2017."
3. Continued profitability is expected
Nasdaq.com shows 5 analyst estimates for SB using data provided by Zacks Investment Research. All 5 analysts expect continued profitability in 2018, 2019 and 2020. The consensus earnings forecast is 24 cents per share for 2018, 53 cents per share for 2019 and 55 cents per share for 2020.
4. SB-PB was called using strong Q1 cash flow
SB has already been putting strong operating cash flow to work in deleveraging the balance sheet. The remaining 380K shares of the SB-PB "failure to redeem" preferred shares were called on 2/20/2018 at a cost of $9.5 million. This was easily covered by Q1 2018 cash from operating activities of $20.1 million. Calling SB-PB was a high priority since the 8% coupon would have increased if the issue had not been called by 7/30/2018.
5. 2.7X preferred dividend coverage
For Q1 2018, SB reported adjusted EBIDTA of $23.2 million with interest expense of $5.7 million. Quarterly dividends for SB-PC and SB-PD totaled $2.8 million. Therefore, (Adjusted EBIDTA) / (Interest and Preferred Dividend obligation) = $23.2 million / $8.5 million = 2.7X.
Note that capital expenditures will be very limited. There is only 1 new build vessel on order and financing has already been arranged for it.
6. Access to capital
SB does not currently need to raise capital, but they could do so if desired. SB currently has an equity market capitalization of $390 million. A market capitalization at that level would typically support a $50 to $60 million follow-on offering.
7. Conservative management
Some dry bulk peers such as Star Bulk Carriers Corp. (SBLK) are using the good times to aggressively expand their fleet. This type of high risk expansion may benefit common stock holders. However, preferred stock holders would rather see management focus on strengthening the balance sheet during good times. This is exactly what SB intends to do as President Loukas Barmparis commented in the Q1 2018 earnings report:
Our revenues continued to improve supporting gradual increase in our profitability. We intend to continue to use our cash from operations to further improve our capital structure and deleverage in forthcoming quarters."
8. Heavy insider ownership
As of 2/9/2018, the family of CEO Polys Hajioannou controlled 51.6% of the SB common stock. This is detailed on page #71 of the SEC 20F annual report filing. Insiders also own 72,000 shares of SB-PC and 155,000 shares of SB-PD. This is very comforting to preferred stock holders.
9. Moderate balance sheet leverage
Income investors may be surprised to learn that SB has more moderate balance sheet leverage as compared to many shipping sector peers. The ratio of (equity market capitalization) / (total enterprise value) is a useful metric for balance sheet leverage. Note that (book value) / (total enterprise value) does not work well because ship valuations can vary widely from book value. The total enterprise value includes the value of the common stock, the par value of the preferred stock, debt and current assets net of current liabilities. For SB the ratio of (equity market capitalization) / (total enterprise value) works out to 38%.
For comparison, the same metric works out to 28% for Scorpio Tankers Inc. (STNG) and 17% for Global Ship Lease, Inc. (GSL). These peers are considerably more leveraged than SB. Note that GSL-PB trades closer to par than SB-PD, even though GSL is a more highly leveraged company. Note that I am comparing different shipping subsections, and business models also vary somewhat. GSL is in the containership sector and STNG is in the tanker sector. SB is a larger company than GSL and a smaller company than STNG. GSL is focused on longer-term leasing contracts.
10. Capital gain potential
At a recent price of $23.52 there is some potential for capital gains if SB-PD trades high towards par. DSX-PB is a similar preferred stock issued by dry bulk shipping peer Diana Shipping Inc. (DSX). At a recent price of $24.98, DSX-PB is trading just below par $25. I believe that SB-PD is headed there as well.
What are the major risks?
While analysts predict the continued profitability of SB (see item #3), this is not guaranteed. The dry bulk shipping sector could be hurt if there was an unexpected downturn in the global economy or a trade war. Management has been conservative (see item #7) but could always switch to more aggressive strategies such as fleet expansion or the payment of a common stock dividend. See page #95 of the SEC 20-F annual report filing for a more comprehensive description of risks.
Sometimes when the fundamentals for an issue improve dramatically it takes a while for investor expectations to catch up. This appears to be the case for SB-PD. SB-PD continues to trade below par even though SB is now profitable, has strong cash flow, excellent liquidity and very solid preferred dividend coverage. SB-PD offers an attractive 8.5% yield and the potential for some modest capital gains as it trades higher towards par $25.
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Disclosure: I am/we are long SB.PC, DSX, SB.PD.
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.
Editor's Note: This article covers one or more stocks trading at less than $1 per share and/or with less than a $100 million market cap. Please be aware of the risks associated with these stocks.