Danaos Is Still A Buy After The Recent Jump
Summary
- Danaos soared 13.5% yesterday due to the continuation of the HARPEX Index's rally, and therefore, investors' expectations of DAC beating its revenue and EPS forecasts.
- Compared to its main peers, the company looks undervalued to EV/EBITDA and Price-to-Sales multiples.
- HARPEX's behavior explains the variance of the stock price by 90.57%. According to the constructed model, DAC is trading where it should be.
- Despite the risks involved, I recommend buying DAC ahead of its 1Q report (May 10, 2021).
Investment thesis
Danaos Corporation (NYSE:DAC) soared 13.5% yesterday due to the continuation of the HARPEX Index's rally and, therefore, investors' expectations of DAC beating its revenue and EPS forecasts.
Source: HARPEX Index
I am convinced that the recent leap of Danaos' stock is just the beginning because:
- compared to its peers, the company still looks undervalued to some key market multiples
- when matched with HARPEX's behavior, the stock should have soared even higher
#1: The Undervaluation
Danaos was not the only dry bulk shipping company whose shares soared yesterday. All of its direct competitors also began to trade significantly higher than before:
- Atlas Corp. (ATCO): +3.92%;
- Global Ship Lease, Inc. (GSL): +5.83%;
- Navios Maritime Partners L.P. (NMM): +4.05%;
- Costamare Inc. (CMRE): +6.94%.
DAC reacted the most to the change in HARPEX among all the listed companies. In addition, over the past 6 months, the stock has grown ~354.28% above the peer group's average:
Source: From Seeking Alpha (charting)
It seems to me that such strong growth, outstripping other companies, speaks of the superiority of DAC and its leadership in the industry.
Having the highest marginality among the analyzed sample (except for gross profit margin), as well as the highest ROE, Danaos, due to its low revenue and EBITDA growths, trades at only 8.92 EV/EBITDA multiple, which is 12.22% lower than the sample average. This fact, in my opinion, makes the company attractive enough for long-term value investors:
Source: Author's calculations based on SA's data
I'm not sure if it is customary to do this in the financial analysis of such companies, but since I am a big fan of numbers and basic statistical calculations, I propose to derive what multiples Danaos should have with its current growth and marginality indicators. To do this, I will calculate the ratio of the market multiples to the corresponding indicators and derive the average for the analyzed sample; after that, I will multiply the resulting average by the corresponding growth/margin value of Danaos Corporation. Of course, this is only a rough approximation. However, I think that it takes place due to the similarity of the business processes of the companies in the peer group.
Source: Author's calculations
Note: The red values on the picture above have been excluded from the calculation because of their "outlying nature".
This simple analysis showed that DAC should currently be traded for ~8.57 of EV/EBITDA multiple, which is only 3.93% less than the current value. But at the same time, if we take into account the companies' ROEs, we'll notice that DAC is quite undervalued. This is confirmed when using the EBITDA margin as well:
Source: Author's calculations
Long-term investors should not be intimidated by such a rapid upward movement of DAC over the past year because, from my point of view, the most important thing is to look at the full picture over the past 5-10 years:
Source: From Seeking Alpha (charting)
Costamare and Atlas are the only companies that have managed to show a positive total return over the past 10 years. And when analyzing the price changes of the sample companies over the past 5 years, it becomes obvious that Danaos is still relatively far from overheating.
If the company reports its revenue and EPS growth marginally higher than expected (which is highly likely), it is going to be enough for DAC to become a seriously undervalued idea in the market at (its current multiples).
Thus, I believe that there's a sufficient number of arguments in favor of the conclusion about the possible undervaluation of Danaos Corporation.
#2: HARPEX's impact on DAC
To begin with, let's define what HARPEX is and how it relates to DAC:
The folks at Harper Petersen & Co. publish a weekly index of shipping costs, called the Harpex index, that I've highlighted before (and which was brought to my attention by an alert reader). Contrary to the Baltic indices of shipping, which focus primarily on bulk shipments of commodities, the Harpex index looks at a variety of charter rates (relative to the cost of running the ship) in the Atlantic.
Source: From Calafia Beach Pundit's article
Thus, the growth in this index should be reflected in the stock prices of such shipping companies as Danaos Corporation. I've downloaded historical price data for this index and DAC to check this relationship, adjusting the values to coincident dates.
Source: Author's calculations
It is obvious that the price of DAC really depends on the behavior of the index. I also checked it statistically: Spearman's correlation coefficient for the last 100 observations is ~95.96% (Pearson's one is ~95.26%).
Using a pairwise linear regression, I got the following results:
Source: Author's calculations using the R programming language
Moreover, we don't need to transform HARPEX's values (for instance, by the logarithm) because 90.57% of explained stock's variance is a huge number. If we leave everything as it is and substitute the current value of the index into the resulting equation, then the current price of DAC should equal $49 to $62.35 (if residual standard errors are included), which is close to what we can observe in real life.
At the moment HARPEX is trading at its multiyear highs and I see no signs of why it should stop. Therefore, DAC will also grow behind it. Before that, we could already observe how DAC was overtaking HARPEX (at the end of 2018), and then the discrepancy between the two instruments was significant. Today, given the current financial position of the company, I believe that a similar discrepancy may reappear.
But it's important to keep in mind the risks of my arguments
In total, I had 2 arguments, and each of them has its own risks.
Firstly, my conclusions about the company's undervaluation can be quite tricky
I took into account only those market multiples that are most understandable and can correlate with the companies' operating activities in the analyzed sample. Price-to-Sales and EV/EBITDA seemed enough. But if one takes, for example, Price-to-Book or Price-to-Cash-Flow, the comparison results will turn out to be absolutely opposite:
Source: Author's calculations
On the other hand, as I noted earlier, the company's margins remain at a fairly high level, surpassing all other competitors:
Source: Author's calculations
Although DAC has a fairly low levered free cash flow margin, this indicator is at least positive:
Source: Author's calculations
In absolute terms, this margin is 55.39% behind the arithmetic mean of the peer group. However, the Price-to-CF multiple lags by as much as 10.14%.
Again, we have to wait for the company's 1Q FY2021 report. If it even slightly exceeds analysts' expectations, the stock is likely to skyrocket.
Secondly, statistics often lie, so my findings might be absolutely irrelevant
When building the regression model, I took only the last 100 trading days (observations). I did this because, during the initial exploratory analysis, it seemed to me that the correlation between the index and the stock price has been increasing since mid-August 2020. But if I leave the data set untouched (148 observations), the relationship between HARPEX and DAC turns out to be rather uneven:
Source: Author's calculations using the R programming language
The OLS pairwise regression will be useless in predicting the price of DAC: the constructed equation can explain only 61.00% of the stock's variance. Spearman's and Pearson's correlations between the two financial instruments will fall to 0.2778 and 0.7827, respectively. The predicted price will be twice as low as the current one.
However, I believe that I made the right decision by reducing the sample to 100 observations since I see no reason to build a model when there is no explicit relationship between the variables.
Thus, I believe that the recent 13.5% jump in the stock price will most likely not be the last one. So I recommend buying DAC ahead of its 1Q report on May 10, 2021.
This article was written by
Oakoff Investments is a personal portfolio manager and a quantitative research analyst with 5 years helping readers find a reasonable balance between growth and value by sharing proprietary Wall Street information.
He leads the investing group Beyond the Wall Investing with features that include: a fundamentals-based portfolio, weekly analysis on insights from institutional investors, regular alerts for short-term trade ideas based on technical signals, ticker feedback by request from readers, and community chat. Learn more.Analyst’s Disclosure: I/we have no positions in any stocks mentioned, but may initiate a long position in DAC 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.
Seeking Alpha's Disclosure: Past performance is no guarantee of future results. No recommendation or advice is being given as to whether any investment is suitable for a particular investor. Any views or opinions expressed above may not reflect those of Seeking Alpha as a whole. Seeking Alpha is not a licensed securities dealer, broker or US investment adviser or investment bank. Our analysts are third party authors that include both professional investors and individual investors who may not be licensed or certified by any institute or regulatory body.
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Comments (61)
1 - Net Asset Value = $1.87B or $90.90 per share - that is about a 60% premium over today's price of around $57.
2- Over the past 6 months, 33 ships have been contracted at higher rates - some won't take effect until the 2nd or 3rd qtr this year - so there is more revenue coming in the pipeline.
3 - The contracted revenue for 2021 is now at $575M- already $113M higher than 2020 revenue of $462M - that is a 25% increase over 2020 revenue right there. And management expects the $113M increase to go up to $122M as the remaining open days fill up - only 3.7% of 2021 operating are still open - nearly 96% of 2021 days are booked already! So they're projecting total 2021 revenue of $584M.
4 - $DAC does not want to buy overpriced ships right - they bought at the bottom of the cycle and, for now, they want to reap the rewards and not buy ships just to be buying ships.I believe $DAC will increase the dividend as time goes on but they don't want to commit for now. That turned off some shareholders.Management was asked about spinning off the $400M $ZIM investment to $DAC shareholders. That was a great question. Management said they had no plans for that. I would welcome that unless there were adverse tax consequences.Stay the course Longs - IMO this stock is still going to $90 to $120 per share. Just be patient.
www.fool.com/...Based on the alternative peers you proposed, I believe that the conclusions of my article remain correct: $DAC is still undervalued compared to its real main competitors. This, of course, does not excuse my fatal mistake.I hope future readers will pay attention to all the critical comments under this article and take note of them. I am grateful to the Seeking Alpha community for their quick response and helpful criticism, which helps us, the authors, to develop. I will definitely be much more careful when writing my next articles. Thanks again!
Q2-20 = $1.71
Q3-20 = $1.91
Q4-20 = $2.29
Q1-21 = $2.90 (est) (we'll find out 5/10/21)
Q2-21 = $3.36 (proj)
Q3-21 = $3.58 (proj)
Q4-21 = $3.75 (proj)If anyone knows of a company with EPS growth numbers better than that with a forward PE less than 5 or 6, please post the company information for us so we can all invest in the company.With DAC's forward PE of 4.76 compared to a sector median of 24.77, and increasing future EPS projections through the end of this year as shown above, and perhaps into 2022 (the ship building pipeline is pretty empty and it takes 2-3 years to build these ships), I believe that DAC has a long way to increase in price still. In my opinion, it wouldn't surprise me if DAC doubles from here to $120.I would also like to look into buying a ship builder name but I can't locate some tickers. Can anyone help with that?
