Note: This was co-produced with Darren McCammon and previously released on Cash Flow Kingdom.
International Seaways, Inc. (NYSE:INSW) posted another mediocre quarter with negative earnings. We continue to wait for oil demand to recover further -- this should make the tanker sector fully recover from Covid as well.
International Seaways' earnings per share came in at a negative $0.26 for the quarter, but the company still managed to generate positive EBITDA of $26 million, or slightly more than $100 million annualized. The difference between positive EBITDA and negative earnings is mostly non-cash depreciation, so put simplistically, the firm is bringing in enough cash flow to cover operations and produce positive cash flow -- but not enough to replace ships (make up for ship depreciation).
Fortunately, INSW can afford to wait it out rather easily. INSW did a couple of sale and leaseback transactions on newer ships during the first quarter helping to further raise their already strong cash position. The firm had $75.6 million in cash on the balance sheet at the end of Q1, with another $90 million in borrowing capacity on the revolver. On top of that, as already stated, they are in positive EBITDA territory. At 45% debt to net present value, with a 4.2% weighted average interest rate with roughly 40% of that fixed, the firm is reasonably well financed. Below, we see INSW's current debt profile:
In retrospect, it would have been great if INSW had fixed an even greater portion of its debt. That being said, shipping tends to be somewhat inflation resistant with demand, ship prices, and lease rates improving as the economy improves. So INSW's interest rate exposure is not something we worry about in the near or intermediate term. Nevertheless, locking in low rates in order to profiteer from inflation to an even larger degree is an opportunity that they didn't fully capitalize on. All in all, we can say that INSW is sitting on a fair amount of cash with no major debt challenges looming in the foreseeable future.
In the meantime, INSW also continues to revamp its fleet by selling older ships and ordering new ships at the same time. INSW's current orders include 3 new dual-fuel, LNG-powered VLCCs. These orders are starting to look prescient and well-timed -- according to Fearnley's, new build rates have risen over 20% since these orders were placed, e.g. due to rising steel prices. Moreover, anyone placing a new order today would have to wait more than 4 years for delivery, as many shipyards are fully booked for years. As a result of these moves, INSW's average fleet age is now down to 8.8 years and will drop further when the VLCCs come online.
What will the company do with the excess cash it has on its balance sheet, and what might it do with its cash flow when/if the market turns, as we suspect it is about to? Management pointed out in the earnings call that they have returned almost $100 million to shareholders since the company’s inception, via a mix of dividends and buybacks. This is an indirect reminder that management has been shareholder-friendly in the past and will probably be sharing the company's cash flow with shareholders when the market once again becomes strong.
On that front, Lois Zabrosky, the CEO of INSW, foresees higher tanker rates due to “historically low oil inventories, growing oil demand, and expectations of increased oil production in the second half of the year […] Rates on both products and mid-sized crude carriers have responded positively to changing trade patterns as ton miles have increased.”
In order to support that statement, the company disclosed that 55% of its VLCC days for Q2 have been fixed at $20.3k. This is surprisingly good, as it is well above current rates, and well above what they have been for all but one week out of the last 12. The smaller ships are doing even better: 40% of INSW's Suezmax days have been fixed at $24.6k, 39% of its Aframax/LR days have been fixed at $43.7k, 27% of its Panamax days have been fixed at $31.1k, and last but not least, 41% of INSW's MR days have been fixed at an average rate of $24.5k per day. However, it is only fair to point out that LR and Aframax rates spiking is specifically tied to less efficient re-routes caused by the Russia-Ukraine war. Were that war to end, LR and Aframax rates would likely decrease, thus rates for these ships are not necessarily staying at current, elevated levels for a longer period of time.
In general, we agree with Mrs. Zabrosky -- overall, we expect improvements in the sector through the rest of the year. The order book is historically low at only 7% of the fleet, which is fully matched by 7% of the fleet being older than 20 years. These old ships are prime scrapping candidates, particularly if scrapping prices remain strong and owners can profit from high steel pricing.
Overall, we do not expect the tanker fleet to grow much, if at all, over the next couple of years, as uncertainty due to new environmentally-friendly propulsion and other regulation will continue to weigh on new ordering. Furthermore, as mentioned, even if a new order was placed today, it won’t be delivered for a couple of years due to the shipyards already being fully booked, mainly building other ship types.
At the same time, oil demand will likely grow in the coming years. We have already seen numerous examples of spiking travel demand (increased demand for jet fuel, cars on vacation trips, cruise ships, etc.) as well as a very slow return, but still an increase, in commuting to work. Put simply, no net increase in ship supply and an increase in oil demand could lead to higher lease rates.
Though INSW is already up more than 50% since we last suggested them in January, we -- and shipping tycoon John Fredriksen -- still think that the company is far from expensive, trading at just 0.87x its GAV (enterprise value/gross asset value). Mr. Frederiksen has been increasing his holdings in the tanker space considerably, which includes him taking a position in INSW shares. Peers FRO, EURN, and NAT all trade around 1x EV/GAV, making INSW a comparatively good value at current prices.
An actual recovery in the sector is very likely to cause INSW and its peers' ship values to increase, which would drive their GAV upward. Thus, the upside in such a situation could be more pronounced. As we have seen in names like FLNG (FLNG) and ZIM (ZIM), a sector turning hot can make ship and stock prices increase very significantly.
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I work together with Darren McCammon on his Marketplace Service Cash Flow Kingdown.
Disclosure: I/we have a beneficial long position in the shares of INSW either through stock ownership, options, or other derivatives. 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.