Danaos And Global Ship Lease: High Conviction Longs, 1-Year Review

Summary

• Danaos Corporation and Global Ship Lease, Inc. are two of the world's largest containership owners and operators.
• These have been significant long positions in my portfolios and research models dating back to mid-2020. Last September, I mentioned both as "strongest conviction" picks.
• One year later, the returns have been decent, and both stocks have outperformed the Russell 2000, but these stocks have fallen far below expectations and "fair value" estimates.
• What went wrong (and what went well)? This update provides my latest commentary and positioning in both firms.
• My current "fair value estimate" is $95/sh for DAC (48% upside) and $30/sh for GSL (67% upside).
• Looking for a portfolio of ideas like this one? Members of Value Investor's Edge get exclusive access to our subscriber-only portfolios. Learn More »

Felix Marx/iStock Editorial via Getty Images

Danaos and Global Ship Lease: 1-Year Review

Last September, I wrote a public report calling Danaos Corporation (NYSE:DAC) and Global Ship Lease, Inc. (NYSE:GSL) "the strongest conviction buy of my career" based on a phenomenal risk/reward value proposition. I put my money where my mouth was, and these positions made up about 20% of my personal portfolio at that time. Over the past year, both positions have performed decently and have also outperformed the Russell 2000 (RTY); however, I am very disappointed with the overall level of total return.

Both Stocks Outperformed, But Not By Much...

On a one-year return basis, from 7 September 2022 through 6 September 2023, Danaos Corp returned 6.7% ($63.33 to $64.59 + $3.00 in dividends) and Global Ship Lease returned 9.3% ($17.97 to $18.15 + $1.50 in dividends). This is an average return of 8.0%, which compares to the Russell 2000 return of 2.3%. The average return of these positions was roughly equivalent to the S&P 500 (SP500), which returned about 10%.

Our long-only models have returned 39.6% in YTD 2023 alone, so clearly both positions were a drag on both my personal performance and the VIE models. Both positions are still significant for me, and make up about 12% of my current allocations.

What Went Wrong? What Went Well? Current Valuations?

The rest of this report will update my current valuation framework for both of these firms and review the previous thesis alongside a current assessment of ongoing market dynamics. I will begin with a general company overview for those who might be newer to the sector.

Business Overview

Danaos Corp. and Global Ship Lease are very similar businesses with the same general model as "containership lessors" or "tonnage providers." These firms own and operate the specialized vessels, which are designed to carry 20' and 40' container boxes and serve as the backbone for global trade. It is important to note that these firms are primarily owners and operators and they do not handle the point-to-point logistics or have direct exposure to shipping freight rates.

DAC and GSL lease all of their ships out to major global liner companies like Maersk, Hapag-Lloyd, CMA CGM, and ZIM Integrated Shipping (ZIM). The rates and terms they can secure depend solely on the supply/demand balance for the vessels themselves. During stronger market conditions, these lease durations can range from 3-years to well over 5-years. The underlying freight market rates (i.e., shipping costs) clearly factor into counterparty profits and overall counterparty credit risk over time, but DAC and GSL are otherwise isolated from the volatile freight markets. Therefore, while freight rates have tumbled over the past year, both DAC and GSL are on track to produce all-time record cash flows and earnings in 2023 and overall free cash flow might be even higher in 2024 due to lower debt levels and associated interest costs.

Danaos Corp. controls a fleet of 78 vessels (including ten newbuilds due between 2024 and 2026) and has approximately 19.7M shares outstanding for a market cap of roughly $1.27B with a current dividend yield of 4.7%. GSL controls a fleet of 70 vessels and has approximately 35.2M shares outstanding for a market cap of about $630M with a current dividend yield of 8.4%. Both firms have active repurchase programs.

Current Valuations: Record Low Levels

I have personally followed both of these firms for more than a decade and across a variety of market conditions. Similar to last year, the current enterprise valuation levels (vs. EBITDA, cash flow, earnings, or fleet valuations) are at the lowest point either of these firms have traded in their entire history (even lower than last year) while the balance sheets have never been stronger and contract backlog remains incredibly high. On a valuation basis, both companies are even cheaper today than they were last year even as balance sheets have improved and the revenue backlog remains formidable.

This valuation setup is only possible due to horrendous sentiment, investor misconceptions, and some questionable capital allocation (specifically at DAC). Both firms continue to carry an enterprise value (net debt + market cap of equity) which is below their secured EBITDA + fleet demolition value alone, which means the market is valuing the entire residual value of their fleet at below zero.

At this juncture, after increasing the discount value for contract EBITDA, utilizing a semi-bearish demolition rate estimate, and adding a management/capital allocation discount for DAC, I arrive at a 'fair value estimate' of $95/sh for DAC and $30/sh for GSL.

Review Since Last Year

The next portion of this report will go essentially section-by-section from last year's report and address developments over the past year along with current market conditions and overall valuations.

I urged folks last September to "hold me accountable," so of course, I must do the same for myself. Specifically (direct quotes):

These are among the best risk/reward setups I have seen in my career. If you do nothing else today, please set a one-year calendar reminder with: "J Mintzmyer: GSL $18, DAC $65." I am willing to stake a portion of my portfolio and my reputation as an investor and industry expert on the setup with these two firms. Regardless of how the markets pan out, I encourage everyone to hold me accountable and check back in a year to see how things pan out.

As I noted above, the performance over one year was an average total return of 8.0%. This was a positive return and it beat the Russell 2000 (small cap average) by around 6%, but it's clearly not the level of total return I had been hoping for. Although it may provide little comfort, I was heavily invested in these firms (and remain heavily invested), so I am right there with everyone else in terms of frustration with market results so far.

Shift in Enterprise Values Since Last Year

Last year, I illustrated how the plunging net debt and heavy free cash flow generation masked the valuation of these firms. Specifically, I argued:

Since net debt has come down significantly while assets and contract backlogs have surged, both Danaos Corp. and Global Ship Lease are significantly cheaper today at $65 and $18 than they were in 2020 at $6 and $5.

Keep in mind that both firms now have far larger fleets, their balance sheets are night-and-day, and contract backlogs are now the largest in company history. I have never seen a valuation discrepancy like this where a company goes through such a massive transformation and yet overall enterprise value goes down!

Once again, we have a situation where assets are improved (DAC has added 4 newbuilds, 5 dry bulk vessels, and a 15% stake in Eagle Bulk (EGLE); GSL has added 4 secondhand vessels), balance sheets are even stronger, yet share prices haven't meaningfully improved for either firm. Due to the significant y/y improvement in balance sheets, both firms are even cheaper in September 2023 than they were in September 2022.

This is a good reminder that cheap can always get cheaper. Without a catalyst or a significant shift to direct shareholder returns (heavy repurchases, special dividends, etc.), even well-managed cheap firms can remain cheap for a long time. In the case of both DAC and GSL, I was wrong when I expected both firms to raise their dividends in early-2023. Instead both firms kept their dividends stable and conducted a moderate amount of repurchases.

Although I cannot find any fault in capital allocation at GSL (which is part of the reason for their more generous 'fair value estimate' at this juncture), I have loudly critiqued DAC's decision to invest into dry bulk company stock via Eagle Bulk and by purchasing secondhand Capesize dry bulk vessels. In fact, were it not for DAC's questionable foray (some might say diworsification) into dry bulk, I would be targeting a "fair value" of around $130/sh at this juncture instead of $95/sh (20%+ additional discount).

Lease Contracts: Strong and Stable as Argued

Last year, I highlighted the common misconception that lease contracts are at high risk of being "renegotiated" if markets weaken.

These vessel lease contracts are extremely strong and have been tested in the past; there is essentially no way for terms to change unless the counterparty goes bankrupt or both parties enter mutual negotiations around a major financial restructuring. This model has been stress-tested twice in recent decades when freight markets have struggled: immediately following the 2008-2009 global financial crisis and again during the multi-year freight market downturn from 2012-2018. With limited exceptions for bankruptcy (Hanjin, ZIM) or restructuring (HMM), these contracts were honored during both periods with no shenanigans.

A year later, the evidence still strongly supports this viewpoint. We have seen zero disputes from any major liner companies and there have been only a tiny handful of vessels which have had contract issues. All of those (just 3 total vessels out of 500+ we track) were signed with extremely sketchy counterparties which have since went bankrupt. On the contrary, we have seen a couple small years where shipping firms have paid premium prices to shorten contracts with owners, including a few conducted with Zim Integrated Shipping and a few with Pasha and Costco (COST).

There is zero precedent for liners renegotiating rates just because market conditions have changed or liners "don't like" paying high lease rates.

Once again, there is still zero precedent. Obviously counterparty financial strength is a factor (as in any business in the world), but the contracts themselves are rock solid. With DAC and GSL trading below contract EBITDA and fleet demolition values, clearly the market doesn't believe this...

Current Rates Are Still Relatively Strong

As I mentioned last year, the market balance for the vessels themselves appears likely to remain tight through at least mid-2023:

Despite weakening freight markets and horrendous macro sentiment, the market balance for vessels remains extremely tight and is expected to be tight through at least mid-2023. The orderbook is elevated (roughly 30%), but the deliveries are weighted mid-2023 onwards.

Even today, as we are now past "mid-2023," the contract rates for new one-year charters remain significantly above EBITDA breakeven levels and are roughly 2x the level of pre-COVID rates. The below chart shows the one-year time charter rates for three midsized vessel types, obviously rates are significantly below the cycle highs, but are otherwise healthy and have been generally stable for almost all of 2023.

Harper Peterson

Although the charter rate decline was a little more sudden (I would have guessed December 2022 or January 2023) and violent (75%+ drops as opposed to a smooth decline), today's rates are actually stronger than I would have expected a year ago. I expected that new rates signed by late-2023 would barely be EBITDA breakeven at-best, and yet we are still seeing firms sign exceptional extensions.

Just within the past couple months, Danaos Corp extended three of their 13k TEU vessels for 3-years (mid-2024 thru mid-2027) at an eye-popping rate of $54,000/day! This is wildly above what I expected them to achieve. Meanwhile, midsize vessels are generally being extended for about one year, in-line with the index rates posted above (roughly $16-$25kpd depending on size and specs).

Environmental Regulations: Ongoing + Upcoming

As noted last year, although the orderbook (i.e., future supply) remains large at roughly 29%, there are significant upcoming environmental regulations which are likely to slow the global fleet and could synthetically reduce supply by up to 20% by the end of 2027.

the industry is facing the largest environmental regulation in history: EEXI and EEDI, which will phase in from 2023-2027. This regulation will require older ships to significantly slow down, which will create a bifurcated market between legacy tonnage and modern eco-design vessels (2014 or newer) while also reducing available supply capacity (ships x speed) by up to 20% over the next five years.

2023 is the initial phase-in year of these restrictions, which includes the carbon intensity index ("CII") measurement. No penalties are enforced this first year, so outside of setting a favorable baseline, there is little incentive to slow down yet. Starting in 2024 and in subsequent years (the standards increase each year), we should expect to see lower vessel speeds. I still expect the equivalent of about a 20% supply reduction by the end of 2027.

A new containership ordered today is likely due for delivery between mid-2026 and mid-2027. Therefore at a 29% orderbook, even if we see another set of orders over the next 6-12 months, we are looking at net supply growth of around 9-15% over the next four years. Hardly the 'massive supply explosion' most bears are expecting. Demolitions of obsolete tonnage between 2024-2026 alone should balance the market by the mid-2020s and if we do not face a major global recession there could even be a shortage of compliant small-size and mid-size tonnage (under 10k TEU) by 2025-2026, as highlighted in a recent presentation by Global Ship Lease.

Global Ship Lease

Reviewing the Risk/Reward Framework

Last year, I spoke extensively about our 'risk/reward framework' at VIE and some high-level points are worth reviewing:

When I discuss this [risk/reward] concept, I am referring to the potential gains or losses across a variety of market scenarios. My typical target holding period in shipping is 12-24 months, but sometimes we get really lucky and an investment turns into a 'trade.'

As any seasoned investor knows, not everything goes according to plan with investing or trading. There can be bearish market and macro outcomes, which drag realistic value well below the initial base case. There can also be bullish outcomes, which shoot value far higher than initially expecting (e.g. ZIM in 2021 or STNG this year). Since I am certainly not infallible and I am prone to make mistakes judging future market conditions, the 'secret' to our massively outsized success over the years has been achieved by allocating to stocks with excellent risk/reward.

These are positions where even if I am totally wrong and/or everything goes against us, the losses will be minimal. At the same time, the base case has significant upside, and any potential bullish surprise leads to enormous gains. If you invest with great risk/reward, you only have to hit big winners a limited amount of time (i.e. 1 out of 5 or even 1 out of 10 times). This is because you never really lose much with the 'bad' ones while the base case also provides strong average returns.

Both DAC and GSL fit this framework perfectly last year and they continue to do so this year. The operational and capital allocation outcomes were primarily in-line with the "base case" whereas the market reaction was certainly bearish throughout much of the period. Despite this base-to-bear skew, both positions have provided positive y/y returns and the "coiled spring" of deep value is even tighter today than a year ago.

That said, I was clearly far too optimistic in my estimates of how the market would potentially react to strong operating results and surging free cash flows. Despite these strong outcomes (and zero counterparty issues), the market has continued to shrug off both of these firms. Overall I was clearly far too optimistic and rosy-eyed and this serves as a lesson learned to deliberately sandbag my future 'bull case' and 'base case' scenarios.

Overall Lessons Learned

To conclude, although both stocks ended up slightly positive and the validity of the "risk/reward framework" appears intact, I was clearly far too bullish or "rosy-eyed" in my assessment of these stocks last year. This leads to three core lessons learned for me to consider as well as for other investors and consumers of our research products:

1. The market might continue to ignore exceptional value

Just because I (or we) can understand the attractiveness of a high-value or strong risk/reward investment doesn't mean that 'the market' will come around in a timely manner. I primarily aim for 12-24 month time horizons with my investments and last year's report clearly reflected a bit of hubris as I expected the market to come around to 'my view' within a shorter duration.

There is still no guarantee that the market will come around to a stronger valuation of these firms even within the next 12 months (24 months total). I believe the odds are in our favor, but there's always the possibility that dead money will continue to be dead money. Without a clear catalyst, things can trade sideways for a long time... which leads to the next point:

2. Time value of money: higher discount rates are required

A 20% return in six months is worth significantly more than a 20% return in 18 months. In the same framework, "dead money" or even a "slightly profitable" investment over the course of 12 months is a painful situation for investors in a bullish market. Although the Russell 2000 only produced about a 2% return y/y, the broader S&P 500 returned closer to 10%. An investor could have secured a slightly stronger return with a lazy buy of the S&P 500 ETF (SPY) or perhaps an even stronger return in a growth sector like big tech.

If there isn't a clear catalyst beyond "one day the market will wake up to this extreme value dislocation," and there is a very reasonable chance of dead money for a couple years, then a much higher discount rate must be applied to all scenarios, especially the base and bull cases. If I had applied these higher discounts last year, I would have still been very bullish on both DAC and GSL, but my rhetoric would have been more muted and my convictions would have been more reasonable.

3. Management's capital allocation is always a wild card

Ultimately, an investment requires at least decent faith in logical and fair capital allocation by the management teams. I mentioned that a key issue with both of these firms is a clear lack of trust by the market. In the case of Global Ship Lease, capital allocation over the past twelve months has been nearly-perfect; however, their decision to not raise the dividend meaningfully in early-2023 (even though they could easily afford it) clearly blunted momentum and led to continued lack of faith from the market.

On the other hand, Danaos Corp has done a lot of things correctly (repaid all high cost debt, focused on high quality assets, steadily repurchased shares), but also conducted several questionable purchases by diversifying (perhaps "diworsifying"?) into the dry bulk sector. Danaos also failed to raise their dividend despite having ample cash flows and long-term sustainability to easily fund a 50%+ raise. Although the investments into the dry bulk sector, via a large stake in Eagle Bulk and with the investment into five secondhand Capesize vessels, might be logical to the management team, this has only further confused investors and it is less efficient than just sticking to share repurchases against the core fleet and business model of containerships.

When making an investment into a vehicle where the management team has not clearly laid out their capital allocation priorities, it is important to add discount factors, and to increase those discounts if management does not seem to be acting logically or fairly to all shareholders. In the case of GSL, I would grade their capital allocation an "A-", so no further discount is required; however, I would grade DAC a "C", therefore warranting a much higher discount factor to the underlying value estimates.

A more proper weighting of these risks and discount factors would have also led to a more balanced report and more reasonable valuation estimates in last year's report.

Updated Value Estimates: DAC- $95.00, GSL- $30

Our current "fair value estimate" at Value Investor's Edge is $30/sh for Global Ship Lease, which implies roughly 67% upside. Our "fair value estimate" for Danaos Corp (DAC) is $95/sh, which implies about 48% upside. This is a slightly lower valuation estimate from last year as I have increased EBITDA discounts, more heavily weighted challenging market scenarios, and added an additional management discount for DAC due to sub-par capital allocation over the past year.

I still believe both firms are incredibly attractive at this point and the bulk of the original bullish thesis still holds (albeit not the overly bullish valuation targets); however, I am disappointed in my strong rhetoric and over-conviction levels. It is important for investors to continually re-examine their thesis and conviction and to hold ourselves accountable for the cases in which we have been more wrong than right.

Thank you to everyone for reading and following these names and I look forward to engaging commentary below!

Analyst’s Disclosure: I/we have a beneficial long position in the shares of DAC, GSL 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.

Comments

[Juan M Gonzalez]

I have been very vocal an unhappy about $DAC (and $CMRE) ventures into dry bulk bcus of how it was done and also bcus I am not too keen on the sector.

BUT : the dry bulk market seems to be waking up. I do not know why.

In any case, $DAC is becoming a more attractive play for those with dry bulk conviction.

I am considering it myself.

Cheers

[Arcmor]

@Juan M Gonzalez Next quarter the new ships should start adding to the eps, still small percentage. Most likely so would EGLE holdings which had a loss in the last quarter.

[Juan M Gonzalez]

@Arcmor Indeed.

[High Sharpe]

I think global trade will moderate relative to past few years, but I am not 100%. The world always surprises to the upside. Yes the next couple years dont look bright, however my coke bottle glasses never saw anything clearly. This equity is already pricing in a slowdown. Buy this and short a company that might be affected by a global slowdown or higher for longer rates if you have concerns about the future. Definitely belongs in a diversified portfolio if you are long equities. I'm long. Regarding bulkers, yea, im not happy, but the ceo is a large holder of the equity and i dont think he would intentionally torpedo his company. Hes been in the business longer than probably anyone who is commenting on this site.

[caseydog1098]

@High Sharpe You know there’s a big, big difference between criticizing Coustas and DAC’s capital allocation decisions and accusing him of “torpedoing his company”. I really don’t think people (like me, for example) are saying that here, or that we are saying that we know more about how to successfully run a shipping company than he does. I find it incredibly frustrating that people like you (who I am sure know a lot more about DAC, Coustas, and the shipping industry than I do) keep saying things like this in these exchanges. Reading comments like those and “we just have to trust him/management because they know more than we do” just drive me nuts.

I think the fundamental issue here is that management’s interests (the interest of those that control the company) just aren’t aligned with those of the majority of the shareholders. It appears to me that this is pretty common in the shipping sector and I’ve been burned by this several times before.

Yet I continue to “play” in this sector and I guess the question is why? In this case, for me personally, it’s because all the “experts” (people like you and “J” and a large number of others) continue to write glowing articles about DAC, primarily based on its apparently extremely strong financial condition, which is obvious even to a “non-expert” like me.

So in ending, 1. No, I don’t think Coustas is intentionally trying to torpedo his own company. 2. No, I don’t think I know more about running a shipping company than he does. 3. Yes, I do think the investment in Eagle Bulk was a poor decision because I think that money could have been used in a much better way (I.e., returned to shareholders in some way). 4. Yes, I do think the recent 5 cent dividend increase was basically Coustas giving the middle finger to shareholders based on what I think is the company’s ridiculously low dividend payout ratio. 5. And finally, 5. I don’t trust him to make decisions that are in the interests of the majority of the company’s shareholders because I don’t think his interests really align with ours at this time.

[Juan M Gonzalez]

@caseydog1098

Coustas just increased his "management fees" for subcontracting to himself core functions (ship management, commercial management, new building contracting and supervision) that a company the size of DAC should do in house.

The only rationale for such "outsourcing" is to skim from the top.

[High Sharpe]

@Juan M Gonzalez you have to look at the costs from a relative standpoint. It happens shipping income statements are straightforward. Take a look at some tech companies sg&a line. he gets paid because he manages. Every listed company does the same thing. now if you said the management fees per vessel were excessive relative to the average. thats an argument

[sspinehurst1]

Coustas does a few things right, but then is less than transparent on dry bulk plan, hikes his fees to enrich himself and crickets on situation with EGLE. So is he better than Angeliki/NMM? Yes, but not a high bar.

[Arcmor]

@sspinehurst1 Where do you get "hikes his fees?"

[Juan M Gonzalez]

@Arcmor There was a lone sentence alluding to "updated management contract". I immediately smelled a rat but did not researched it further as I have little interest on $DAC.

Details were posted on VIE. It turns out that related party fees (ie Coustas) were increased across the board (30%?) plus DAC shares on top of cash payments, and now including new buildings under construction.

As somebody put it : they have the hand in the coockie jar.

[bankstocks]

@Juan M Gonzalez It's kind of a dirty business all around. DAC is not the only one. Possibly the least offensive one. IF the guy with his hand on the throttle of New Ships verses shares wants to cover New Ship Builds for his "fee" structure, the good news is that 45% of that rape is already his. Given his share ownership. Perverse incentives anyway.

[CHKN Dinnr]

Nice article, J. I hope to join the VIE in the next couple years. I cannot justify the expense at this time as it would essentially dry up a significant portion of what I put away for savings/investments on a monthly basis.

[J Mintzmyer]

@CHKN Dinnr ,

Thanks- and totally understand, has to be a clear win/win for it to make sense. And if you're not getting at least that much (ideally many multiples) of alpha from the platform, then it's not a good fit.

Hope to work together sometime in the near future!

[cruiser88]

After reading many of the 200 comments, it seems people are frustrated with the management and the performance of the stock. But if I take a step back, the stock is up 25% YTD. The fleet has grown, a lot of shares have been bought back, the dividend increased (albeit not by much). Possibly the stock could be a lot higher, but if it was then maybe a lot of investors would jump ship to make a quick buck? (no pun intended)

I guess what I am saying is it is debatable that Mr. Coustas might not have shareholders best interest at heart. But it's hard to argue that he is doing a bad job, or even more severely, hoodwinking the shareholders. I am along for the ride to see where this goes in the next few quarters/years. There could be a pleasant surprise.

[Juan M Gonzalez]

@cruiser88

Yup

Now tell us : what is the financial result so far of the Dry Bulk adventure shareholders were unwillingly taken to ? what is the outlook ?

Crickets

[energyguy921]

@cruiser88 it’s doing better than zim zam

[cruiser88]

@energyguy921 Yes, glad I did not fall for that value trap.

[vantuckman]

Based on the current valuation, despite quite solid fundamentals, GSL just isn't appealing to many investors. Could it be that GSL is tarnished by the "crowd" it runs with: Other bad players in the industry? Perhaps the concern is the shipping segment itself. Is it alleged self-dealing by management, at the expense of shareholders? Despite even the perception of all three, I am overweight the name because it appears (imo) that management is attempting
to balance shareholder return without sacrificing the future growth of the company. Just as I cannot control others' opinion of mine, neither can GSL's management. Since I am overweight this name, I admire the discipline it takes to "stay the course" until the shine is restored to the industry. I hope they "keep on keepin' on." Cheers! Kirk

[jmouw12]

@vantuckman Valuations are down across the container shipping industry. The carriers (ZIM, Maersk, HMM, etc.) are all down dramatically from their 2021 peak. Rightfully so after the big pandemic run up and their more immediate exposure to the market.

Container box leasing companies fell a bit, and then each was purchased by large PE companies at significant premiums.

Container ship leasing companies have also largely fallen. They haven't dropped as much as the carriers have. Also rightly so, and they are more insulated from the market.

Those throwing stones at management are way off base. The market currently hates the industry, not the company. Even tanker and dry bulk shippers with terrible management trading entirely on the spot market rarely reach a PE of 2 during market peaks.

[CatCameBack]

About GSL
What I think I know after reading through the article, comments and 20-F.

P/E of 2 and selling well below “fair value” book estimates is compelling, but there are industry and company specific reasons. Industry specific reasons are well known, see DRYS (historical) and NMM (current) for some of the biggest offenders, but there are significant company specific reasons related to GSL.

GSL specific reasons are listed on the 3/23 20-F starting at page 73 (thanks to @bankstocks for pointing this out). Giouroukos owns about 2.1 million shares. If the stock triples from 17 to 51 he would make $71 million on paper, but of course he can’t sell the share, because he needs to maintain his ownership stake. Therefore, the stock going up in the short/medium term does not really help him. Meanwhile he owns Technomar, which made $16.6 million in ship servicing fees from GSL in 2022. He also own Conchart which made $6.3 million in “commercial management services” (chartering, buying/selling) in 2022. Clearly Giouroukos, for his own personal wealth, cares much more about increasing the number of ships, chartering ships, buy and selling ships, than he does about how that activity effects the stock price. Clearly his interest is not aligned with shareholders interest. That is likely the biggest reason for the low P/E, and it is not going away. The market, different than years past, has little patience for these ship owners.

The idea that “well somebody has to get paid all the fees, so if they are in line with the industry average that is good enough” is bad logic. If all these fees were going to an uninterested third party, then GSL would be greatly more interested in balancing the ship growth against the stock price growth. In fact, if Giouroukos could only make money via stock gains, his actions would be greatly different, and the stock would be much higher.

A P/E of 2. A dividend that is $1.50, annualized. $52 million shares bought back in the last 24 months. That signals buy at $17. But clearly the market thinks (correctly) that management is not aligned with shareholders, limiting gains. Still, odds are in favor of double digit stock price gain here, assuming rates don’t crater and assuming geo-political events don’t crush trade volume.

[Joeri van der Sman]

@CatCameBack The related party structure for some services is not great, but very common in shipping. As breakevens and costs seem to compare well, I'm okay with it. If GSL was perfectly managed, it wouldn't trade this cheaply.

But apart from that, I think these negative takes on GSL are way overplaid here lately. ESEA/DAC are even cheaper then GSL. CMRE is very cheap as well. Its a hated sector.

[CatCameBack]

@Joeri van der Sman do you see my point that "breakevens and costs" actually don't matter? It would be better for GSL stockholders if GSL paid much higher costs to a third party, rather than paying comparable costs to the owner. The cost is irrelevant, it is about who is receiving the money. And then that thesis is proven when ship acquisition is prioritized over stock buyback at these prices. I think this is exactly why the sector is hated, and it deserves the ill feelings, and those feelings won't change unless the ownership structure changes. That said, if GSL can put some earnings towards dividends and buybacks, and if it doesn't over-extend itself with buying new/used ships, then the stock price can stay at a very low P/E (or discount to Fair Value) and still give investors decent returns, but unlikely big returns.

[PianoCat]

@CatCameBack GSL bought a grand total of 4 ships in the past 2+ years and sold 1 ship. If they cared so much about the management fees they would have bought a lot more ships and not sold any ships.

68 ships assuming an average holding period of 10 years means they should be buying 7 ships per year. They have basically stopped buying ships and put all money towards debt reduction, dividends and buybacks.

If you have enough money you could buy enough GSL shares and force them to liquidate the company and we all make a quick buck. Otherwise you have to accept the fact that they are in the business of owning ships and they might still buy some ships even though shareholders want to make a quick buck.

[bankstocks]

Dear Mr. Mintzmyer:

I have followed your analysis for a number of years now in the shipping industry and your analysis is very good. I appreciate your imputs to SA over the years.
With regard to this article and "Lessons Learned" I think you are wrong about #1 and #2. They are not the reasons for the underperformance at DAC and GSL. It's all about the Capital Allocation on a "go forward" basis. They lose cred with investors when the investor sees these capital allocation decisions for purely selfish and self serving reasons as outlined in the Form 20-F filed with the SEC for both of your companies.

Perhaps I have been around longer than you and have seen it over and over again across many different industries and companies, that when the valuation becomes so compeling as you have pointed out at DAC and GSL it is then usually because of poor alignment between managment/BOD and the public shareholders that these capital allocation decisions get made.

For some reason shipping securities seem to fair worse than others on a regular recurring basis for decades. It's a generational problem. Put another way, a friend of mine told me after a deep dive of the industry a few years ago, to just buy the Preferred's. Reason being, stable distributions and more stable stock prices............AND............the insiders using their private Co's NEVER want the preferred's to default because they then could lose control of the company to the preferred holders and sink the management fees earning to their Private Co. gravy train on transacting with the grwoing fleet of ships. Makes sense to me.

[100centsofadollar]

@bankstocks Makes sense to me. I own Costamare, Seapeak and Gaslog pfds. Any thoughts on them or others you recommend right now and care to share?

[J Mintzmyer]

@bankstocks ,

I think you're broadly correct on your critiques of *some* of the shipping industry and definitely correct that subpar capital allocation at $DAC is heavily to blame for the large discounts; however:

-$GSL has nearly perfect capital allocation and still trades at a huge discount
-$DAC capital allocation is subpar, but not atrocious, certainly not any worse than most US small cap stocks

Also I have observed (followed shipping industry for 15 years, founded VIE over 8 years ago) that most folks write off the entire industry because of a few notions (again, many of these notions are correct)... yet at VIE we have compiled an 8+ year track record of 43% IRR...

YTD in 2023 we are up 46% in our long only picks... So I think the write-off or just saying "the market is correct" is not the most effective approach...

[cruiser88]

@J Mintzmyer are you confident that GSL and DAC will help maintain your expected IRR going forward?

[bankstocks]

Do Danaos or Global Ship Lease have a dual class share structure with a few shares held by insiders controlling the votes? Or do either of them have a large insider ownership position at over 25% for a "blocking" stake?

[TheMikeBeirne]

@bankstocks believe family members have over 50pct stake… for me it’s the worst thing about the stock, long on $dac but expecting some tomfoolery

[bankstocks]

@TheMikeBeirne So does the family that owns 50% stake, do they make the money in another entity they control on the ship broker fees when they buy and sell ships? And do they make the money on the ship leasing fees either in salary and bonuses, or thru a private company that they control for the lease fees too?

The shipping industry is pretty dirty. Capital allocation for buying ships verses buying shares or paying dividends is pretty poor. Why does J. act suprised when this happens? More ships equals more fees for people to earn buying/selling and leasing, with your capital. When they buy the ships can you tell if they are at or near market prices? Same for when they sell ships, are they at or near market prices.

Do either of them sport a dual class structure where the insiders have little or low economic ownership but still control the entity. Buying ships over shares when you are at one or two times earnings or EBITDA is not so mistfying if you look at it thru the lense of the managment. They don't make money on you when they buyback shares. When they buy a ship from a Private Co. that nobody knows who or whom they are, plus the brokerage fees. Or just daisy chain ships around from Public Co.s, all the while with the fees involved, that's a horse of a different color.

[TheMikeBeirne]

@bankstocks good questions, pls post answers when you find them
im relying on booked rev and margins and a few analysts like J..

[High Sharpe]

It sure is stubborn about below 66....might be a buy.

[caseydog1098]

@High Sharpe Or it might not be, has it’s not been for about 18 months now, regardless of all those SA buy and strong buy articles over those months. Maybe when and if it dips back into the 50s, but not at 66.

[Julian Lin]

@J Mintzmyer Where is the insider buying? Ironically I find it a red flag that the stock is so cheap, but insiders aren't buying hand over fist.

[Arcmor]

@Julian Lin Insiders (CEO) already own more than 40%.

[Julian Lin]

@Arcmor At $GSL I'm seeing 6%

[J Mintzmyer]

@Julian Lin , Chairman of $GSL bought $10M awhile back and he continues to grow his ownership via repurchases, but you're right- I'd love to see more!

[anonymous523299]

Thanks for the great write up! Does anyone have thoughts on the block trades that have been occurring after weeks during the last month? The quantity of shares traded in the last two weeks is greater than any individual share holder and also above the 5% shares outstanding mark that would trigger a 13-G filing.

"In the past two weeks, eight blocks totaling 2.09 million of shares traded at a market value of $38 million:
Oct. 3: Global Ship Lease 321,377 Share Block Trades at $17.52
Oct. 2: Global Ship Lease 258,023 Share Block Trades at $18.05
Sept. 29: Global Ship Lease 286,800 Share Block Trades at $18.34
Sept. 27: Global Ship Lease 280,100 Share Block Trades at $18.23
Sept. 26: Global Ship Lease 244,623 Share Block Trades at $18.22
Sept. 25: Global Ship Lease 204,900 Share Block Trades at $18.18
Sept. 22: Global Ship Lease 165,177 Share Block Trades at $18.13
Sept. 21: Global Ship Lease 272,500 Share Block Trades at $17.99
Sept. 20: Global Ship Lease Block Trades; 1.2% of Free Float"

Could this possibly be GSL buying back shares? From the Q2 conference call, they had ~$40 million of allocation available.

"I'll have a crack at this, Liam. Well, let's put buybacks in the context of overall capital allocation and we try to be as thoughtful as possible on capital allocation through the cycle. So, as you saw, we renewed the $40 million buyback allocation having worked through almost all of the preceding $40 million allocation that we put in place I think in April or so of last year.

So, buybacks will definitely remain an important part of the toolkit as I think Tassos said in his prepared remarks, but we will always look at all capital allocation, buybacks included, in the context of, on the one hand, risk and on the other hand, opportunity. So, which is the best way for us to put every dollar to work to build value for investors through the cycle."

[Tokyo Picker]

Two main problems in shipping are (i) management, and (ii) China.

(i). Some shipping companies are run for the benefit of shareholders (LPG, GSL, INSW, etc.) and some for management (TOPS, CTRM, IMPP, etc.). Too many new investors are enticed by the latter because they look cheap (for very good reasons!) and got burnt & lose faith in the whole sector.

(ii). Every shipping company (with the possible exception of the Jones Act guys) has massive exposure to China, both politically and economically, and nobody has come up with a convincing way to price that risk. A major Chinese recession would be a disaster for bulk and bad for the gas sectors, & a Taiwan invasion would torpedo the entire industry.

[J Mintzmyer]

@Tokyo Picker ,

Totally agree about the differing qualities of management companies!

I don't disagree on China exposure, but you could say the same or worse about $AAPL and many other stocks and yet they trade at multi-year high valuations. Funny how shipping seems to get far more macro and geopolitical scrutiny than just about any other sector-- it makes sense of course, but lots of people are just so focused on first-order and not thinking of the impact to big tech, much less the risk of WWIII in the more extreme cases. $QQQ or $SPY hedge covers all that.

[Euthyphro]

@Tokyo Picker I might be wrong, but I believe MATX is largely insulated from China - and generally one of the more 'respectable' shipping stocks.

[Tokyo Picker]

@Corey Alt Yes, that was my comment about Jones Act. Less exposure to China, but still some as MATX is dependent on Hawaii & Hawaii is dependent on Asian tourism.

[ukinus1950]

Another great article from you. It is so helpful for a newbie to the shipping industry. I am a retiree so income is important. Currently own $INSW, $GNK, $SBLK, $DAC & $FLNG, each represents 1% of portfolio. $INSW the best and $FLNG the "worst". Your thoughts would be appreciated. Thank you for your work.

[J Mintzmyer]

@ukinus1950 ,

Thanks for the nice words. Can only speak to $DAC and $GSL in this article; however, there will be another article out next week which includes a review of last year's 'top 4' public picks and it will share another current top 4 picks.

[kamendc]

He just bought another bulker last week:
x.com/...

[PianoCat]

@kamendc He has $100M+ per quarter to spend. He can buy 5 to 6 mid-aged capes every quarter.

[J Mintzmyer]

@kamendc ,

Obviously not pleased with the capital allocation decision here, but as PianoCat mentions, $DAC is flush with FCF.

Also worth noting the bargain-basement prices on these Capes relative to demolition values + Capes have firmed pretty nicely recently.

[Seeburto]

@J Mintzmyer companies and people make poor decisions when they have too much cash floating around.

[Katelyn Cate]

While I appreciate the update, I don't particularly fault your original article on these companies. I get that table pounding is generally frowned upon and the average investor prefers more pessimism than optimism in a thesis, but there were rational reasons to believe the market would "get" the story here in an acceptable timeframe.

I mean, grasping the importance and implications of contracted forward revenues safeguarded by admiralty law is not a terribly demanding ask. Likewise, DAC's perplexing reluctance to return value directly to shareholders via aggressive buybacks during any of the extended swoons in share price or by hiking the dividend doesn't seem like the sort of outcome one models into a base case.

Obviously, how conservative one wants to get with their discounting is a totally subjective thing and I don't want to give the impression that I'm saying not to make the adjustments to your approach that you outlined in the "Overall Lessons Learned" subsection. I don't have a strong opinion on that one way or the other. You've been very successful at this for a long time and you don't need any help of that sort from randoms like me who don't have a leg of credibility or public track record to stand on.

I guess all I wanted to say was that not everyone looks at the relative TTM performance of a position and leaps to the conclusion that the base case was oversold or wrong. Things didn't go our way in terms of portfolio returns, but your original long report on these co's from last year still holds up quite well imo. At no point over the past year would I have been shaking my fist at the sky and muttering curses at the Mintzmyer name over an investment into DAC or GSL. Sometimes, value investors just have to suck it up and wait out extended market irrationality until the weighing machine kicks in.

[cruiser88]

@Katelyn Cate This. We do not measure success by TTM return. If a newcomer is interested in DAC, they can still hop on board because the thesis is still in tact. Just means the train has not left the station. Does not mean the train is derailed.

[J Mintzmyer]

@Katelyn Cate ,

Thanks for the very thoughtful (and kind/generous) comment.

I've found over the course of writing on Seeking Alpha for 12 years now (!) that nothing upsets most readers more than overenthusiasm in a report, which then fails to materialize. Even market-matching returns are seen in a negative light. I've made mistakes in the past ($TK is probably my biggest blunder, but $GLNG has also been very slow to launch -- and that's being generous) and will continue to make mistakes in the future.

The biggest takeaway for me and for Value Investor's Edge 'fair value estimates' is to incorporate larger discounts as you mentioned. Right now we are using 12% EBITDA NPV, conservative demolition assumptions for end-of-life, and an additional 20-25% discount on top. That results in a $95/sh fve right now.

[Katelyn Cate]

@J Mintzmyer You're welcome!

There's a bit of inevitability to GSL at this point in terms of it working out from here imo, even after tossing another year of opportunity cost into the equation.

If DAC is right on their dry bulk call (and that call has a very high hurdle rate to clear since this investment will and should be compared to the return on share repurchases at 2x PE imo), then there's room yet for that idea to outperform against expectations. Failing that, just modest repurchases and acceptable execution still sees a win from here in my view. I have been often dragged out of town on a rail for my eternal optimism, as you might have guessed!

[caseydog1098]

J, I have a question for you, any thoughts on why DAC’s stock price is so volatile on pretty much a daily basis? I mean it’s not uncommon for it to fluctuate 2 to 3% in the course of a typical trading day. It’s driving me nuts. I feel like a front-line Ukrainian commander whose troops are taking and losing a large chunk of the same damn land on a daily basis. And this has been going on quite a while now. I have over 50 stocks and not one of them is having this type of price action on a daily basis. GSL doesn’t behave like this. It either goes up or down over a period of time, but it just doesn’t yo-yo daily like this. Any thoughts?

[Joeri van der Sman]

@caseydog1098 A lot of the sharecount is in the hands of insiders, so the float is rather illiquid. Pretty big bid-ask spread too.

[J Mintzmyer]

@caseydog1098 , not much beyond what Joeri mentioned. I agree it otherwise shouldn't hardly move at all. Very little meaningful market exposure.

[Assessing the Div]

Thanks for the update and the accountability.

Still riding along with MPCC. Thanks J for the introduction!
And also a big thanks for the ZIM call. My biggest gains ever on that one.

[ikswo123]

As a side note I guess the word "stoo pid" is now verboten. What a hoot.

[Seeburto]

@ikswo123 yes, SA has joined the speech police.

[ikswo123]

I'm in the de-globalization-for longer camp. Many of the businesses levered to global trade are going to underperform for the next few years. That said, There's likely not much risk in these 2 picks except for the management tricks done by some of the shippers.