Octave Specialty Group Inc (OSG) 2005 Q1 法說會逐字稿

Good morning, ladies and gentlemen, and welcome to the Overseas Shipholding First Quarter 2005 Earnings Results Conference Call.

(Operator instructions)

It is now my pleasure to turn the call over to your host, Mr. Jim Eddleman(ph) General Counsel. Sir, you may begin.

Thank you. Before we start, let me just say the following. This conference call may contain forward looking statement regarding OSG's prospects, including the outlook for tanker markets, changing oil trading patterns, prospects for certain strategic alliances, the ability to attract and retain customers, the integration of the former Stelmar Operations, anticipated levels of new buildings and scraping and the forecast of world economic activity and world oil demand.

Factors, risks and certainties that could cause the actual results to differ from the expectations reflected in these forward looking statements are described in OSG's annual report form 10-K. With that out of the way I'd like to turn the call over to our Chief Executive Officer and President Morten Arntzen. Morten?

Good morning. Let me get right into it and I will try not to repeat too much of the information that is in the earnings release.

For the first quarter of 2005, net income increased 116% over 76.1 million the first quarter of 2004. Earnings per share rose to $4.18 per share in the quarter compared with $1.99 per share in 2004, a more than doubling the per share number.

This makes the first quarter of 2005 the second best quarter, indeed, the second best year in our company's history. EBITDA for the quarter was a robust 223 million. Income from vessel operations in the quarter was 145.2 million.

So, as you can ascertain, our performance was largely driven by strong earnings from operations rather than a result of significant one-time gains or vessel sales.

Performance in all our important sectors for the most part outperformed our peer group in the market. Our VLCCs averaged approximately 83,000 a day in the quarter. Our Aframaxs $37.4 thousand a day, our Panamaxs $24.6 thousand a day, and our product Tanctors $17.7 thousand a day.

In short, our strong commercial platform delivered the goods in the quarter.

And it isn't the strong performance in the first quarter we got 70 days of earnings from the 40-ship Stelmar fleet that we acquired on January 20th.

Finally, in the first quarter, for the first time in 17 years, we competed on a level tax playing field with our competition as a result of the reforms embedded for the shipping industry in the Jobs Creation Act of 2004.

This important piece of tax legislation is doing exactly what it was intended to do, namely, make American shipping companies more internationally competitive.

As you assess our results in the first quarter, it is important to evaluate them against our stated strategy, and that is to become a leader in every market segment in which we compete. And today those are the crude transportation market, the product tanker market, the US flag market, and an LNG transport.

Let's go into these segments. The first step we took to building a world-class product tanker business was our acquisition of Stelmar. This added 24 product tankers to our existing fleet and, overnight, made us one of the top 10 owners in the world in this business.

This has enabled us to build up a much larger book of time turner revenue and this will enable us to offset our more volatile crew revenues. Equal as importantly, this makes -- gives us the ability to compete on a global basis in this business.

But, lets go back to the time charter revenue. In the first quarter of 2004, just 12.5% of our time charter revenues came from fixed-rate time charters. Non-cancelable time charters.

In the first quarter of 2005 this number was 26.5%. Looking out to the remainder of 2005, we forecast just short of $200 million in revenues that are already locked in from non-cancelable time charters and bare boat charters.

To put this in perspective, in all of 2004, we had approximately 90 million in such revenue, so that's a big step up.

In the crude transportation segment, still our most important segment, the better than overall market performance was delivered in the fourth quarter results as a result of the strong positions we have in both the V-sector, the Aframax and the Panamax sectors.

In all 3 segments we benefit from significant contract coverage which enables us to increase our laden miles, the amount of time we actually are sailing with cargo through triangulation, and less weighing time. We can do this because we have large fleets in all 3 sectors.

As I've said before, our VLCCs is trade and the tankers international pool, which is the biggest operator of supertankers in the world. Our Aframax's trade in the Aframax international pool, which is the second biggest operator of Aframaxs in the world. And, our Panamaxs trade through our joint venture company, Stelcape, one of the 3 largest players in the Panamax trade.

I think it also helps that we have a very modern fleet. 100% of our Panamaxs and Stelcape joint venture are double-hulled. 39 out of 40 Aframaxs in the Aframax international pool are double-hull and 42 out of 45 of the VLCCs and ULCCs in the tankers international pool are double-hull. These numbers are obviously greatly in excess of the percentages for the overall market.

Now, lets move on to the Stelmar integration process. Because this to me is really the biggest story at OSG in the first quarter. The integration process, unlike most mergers -- and I've been through a couple of big ones myself -- is being driven largely from the rank and file, not from top management down.

The employees of the company have seized the opportunity to build a better company and are running with it. Anecdotally, we have actually had senior technical staff -- in fact, senior technical staff that were former sailors, a group of people not widely considered to be the most flexible lot in the world, actually make suggestions on organization that result in their jobs changing, and changing radically.

As a result of this build-for-the-future attitude, we have managed so far to take out 8 million in annualized costs from the combined company and you will recall that when we did the merger we were basing it on no synergies.

We think that as much as 20 million in annual costs can be taken out of the combined company over the next 3 years and that will be our goal.

Now, while these expense saves are financially rewarding and important, the real upside in what we're doing is that we will be able to run the business better. Whereas both companies were leaders in quality, safety and environmental management, the new OSG aims to set the gold standard in this critical area of our business.

The merger integration process is moving us rapidly toward this goal. And that, I'll tell you, that creates a lot of excitement in the company, both here, Athens, New Castle, London, Singapore.

From an earnings standpoint, going back to financials, the Stelmar ships added 24.4 million to income from vessel operations and 37.1 million to EBITDA for the period from January 21st to March 31st.

Now, we've told investors on the last couple calls that we were going to more actively manage our assets and work toward having an all double hull-owned fleet.

During the first quarter we disposed of 6 single-hull product tankers, most of which were double sided, taking 4 of them back on charter for durations ranging from 42 to 48 months.

Last month, we closed on the sale of the Compass 1, a double-sided Aframax tanker in which we had a 50% stake. We will recognize an approximate 5.7 million gain in the second quarter on this transaction.

Also, last month we committed to sell the Eclipse, our only Suez max tanker, a single-hull Suez max tanker in fact. This sale will close early in the third quarter and we will recognize a 7.6 million gain from the sale of that asset.

Summing up, we are moving quickly towards having our entire owned fleet be doubled hull, which is the long-term objective.

Another quarter strong to our strategy which I have spoken, I think, on every call we've had like this is to maintain a strong balance sheet and lots of liquidity, so that we can both survive and instead thrive instead thrive in bad times and be able to consider opportunistic acquisitions when they come up regardless of size.

We were able to main our double B+ rating from both major rating agencies after acquiring Stelmar for $1.35 billion. During the first quarter, we were able to improve our post-Stelmar cash-adjusted leverage ratio from 50.3% to 45.3%.

During the first quarter, we generated 93.9 million from operations and this is after paying $91 million in U.S. taxes. I think, thankfully, this will be the last such payment we expect to make on our foreign flag business going forward. Indeed, the cash from operations would have been closer to $180 million had we not been paying taxes.

Our stockholders equity increased during the quarter by 165.6 million to 1.6 billion, and we ended up the quarter in more than 800 million liquidity including undrawn bank lines.

So we are still in the position to contemplate other transactions as well as survive a downturn if that were to happen. and we don't expect that to happen.

Lets move on to our U.S. flag business. At the end of last year, we said that we would turn our attention to building the U.S. flag business this year. That would be a priority.

Having announced the current Philadelphia Penship Jones Act product tanker order we can say that we have delivered on this commitment also.

Since the public announcement of this order last month, our Board and the Board of Philadelphia Ship Build, Inc. has approved the deal and the yard has commenced cutting steel.

Of the public tanker companies, because we are the only large foreign flag tanker company to be incorporated in the U.S. we alone are able to pursue attractive growth opportunities in the Jones Act.

And, this underscores what I've talked about in the past the unique advantage we have of having a dual fleet. Both the U.S. Flag Fleet and a Foreign Flag Fleet.

In an environment today in which BLCCs are exchanging hands for prices north of $140 million having the alternative to employ equity pack capital in a segment like the U.S. Flag market with less competitors, much higher barriers to entry and a very transparent fleet profile is very positive for OSG, and we believe it will be positive for our shareholders.

So, lets sum up the quarter.

At the end of last year we said we would outperform the public tanker sector this quarter. As a result of the strong performance by our crude carriers the Stelmar acquisition and the Taxwell change we delivered on this commitment and we intend to do the same for the full year 2005.

The top priority we identified for this year was a fast and effective integration of Stelmar and OSG. This process, I can tell you, has exceeded all our hopes and every regard.

The surprises so far have all been on the upside, the progress quick and the benefits to the new OSG significant. And, it is the staff of OSG that is driving this bus and that buds very well for our future and that is why I am confident of our ability to deliver superior results for our shareholders going forward.

We are executing our strategy, and executing it well, thanks to a lot of hard work from a very motivated team at OSG.

And, with that it finishes my prepared remarks. We will take questions from whoever has them.

Thank you. The floor is now open for questions.

[Operator Instructions]

We do have our first question coming from John Chappell of J.P. Morgan.

Good morning. Can you go over the capital commitments for the U.S. Jones Act deal you just signed? I know it's not finalized yet but just a rough estimate of maybe how much and what the timing is for that?

Keep in mind that we are not going to be the owners of those ships.

Right.

The current owner of Philadelphia will be setting up a separate ownership company that will own those. They then will bear - charter the ships to us.

The first one will come in November of '06 and then they will come in I thinks - 2 to 3 year - between 2007, 2008 and 2009, and we will be committing to bear boat those ships the first 5 for 7 years, the second 5 for 5 years, and in all cases we will have the option to extend those charters for a significant part of the use of the life of those ships.

So, not a lot of capital there and you have no more cash taxes being paid after the first quarter hopefully and basically, where I'm going with this is, what's the primary use of cash going forward?

Obviously, you mentioned the VL prices are pretty rich right now by historical standards, and I think your stock is pretty cheap by any standard you want to look at it.

You're looking to share buybacks or any other, you know, give back of cash?

Well, let's start with the most important point. You said our stock is very cheap and I agree with you 100% on that.

The second part, I think we made a commitment, we talked about it at the beginning of the year, that we were going to get our balance sheet back into its historical condition.

Our balance sheet remains strong, but we have always said we want to be among the strongest, if not the strongest, financial players in the segments in which we compete.

So, we think we will have it aimed to get the debt ratio -- the liquidity ratio -- back up to the pre-Stelmar levels. We think that we may be able to do that in the course of 2005, and that will be an objective.

But I think that will be the first objective. After that, there are still a number of opportunities out there. We will continue to bid for LMG projects. I didn't mention LMG projects in my prepared notes because there's nothing new to report.

We are building the team, hiring people, but we are looking at - we are bidding on several opportunities there and those may require capital.

And, there are some interesting opportunities still out there we're pursuing. If we succeed in getting our debt down, and we don't find any opportunities, of course we're going to look at other options with our money.

But, let's get us back to pre-Stelmar debt and liquidity levels and we'll take it from there.

Okay. And one last question on the Stelmar. You know, when you look at OSG historically, you don't typically think of product tankers, but now the product tanker outlook is gaining a lot of momentum in the marketplace, at least from the calls that I get, could you talk about the employment of the Stelmar product tanker fleet right now?

I mean, they historically had 70% time charter, if not more. Are you trying to get to a more balanced level or could you even, you know, get more spot market exposed than a 50/50 balance?

Yes. I'll tell you, the 3 - there are really several answers there. First, Stelmar had a rule that 70% of their shift had to be on time charter at all times and if they ever fell below that rule, they immediately had to go out and time (inaudible) the ships. We have no rules like that.

What we do do is take a look at the market, both for the next 12 months and the next 5 years, and we make estimates where we think the market is going. And against that, we look at opportunities in the market, and if we see time charter opportunities of a suitable duration -- for us, a time charter really should be 2 years or more.

Stelmar - the old Stelmar did a fair amount of 3 and 6-month time charters, something you won't see us doing. We prefer to be in the spot market then.

But, when we see attractive time charter opportunities, 2 to 3 years duration or longer, we will take them. So, if I look to that, I think we're roughly about 50/50 on time charter and spot.

And, as I check this, I think all the ships that we have put back on time charter are at levels that are higher than they were before. So, we're pretty pleased with that.

And, I agree with you, one of the reasons we bought the Stelmar is because we also had a bullish long-term outlook on the product tanker market and where that business is heading. And so far, it's early in the game. We're pleased with the results.

Okay. Thanks a lot, Morten.

Thank you. We have our next question coming from Justine Fisher of Goldman Sachs.

Hi. I just have another question about the Jones Act. Because you're not actually purchasing the ships from Kvaerner does this mean that you - does this new - or this deal with Kvaerner mean that you have rounded out your goals to increase your presence in the Jones Act market, or will you still be looking to aggressively expand further?

Oh, no. We see lots of opportunities in the Jones Act. I think the Jones Act and the U.S. Flag, there is still the military security program, the product tanker program that's out there, which has the potential for up to five U.S. Flag product tankers. They will not be Jones Act product tankers. They will be U.S. Flag, and we are still very interested in that.

The ship design for that would be identical to the Jones Act ships we're building in Philadelphia. And, in the event that that program materializes, there will be conditions in the contract that enable Philadelphia to build those also.

So, the Philadelphia order could possibly be as many as 17 product tankers, of which 5 would be the military.

As you know, at the beginning of the year, we were awarded four MSP slot 3 tankers and we extended our one-car carrier. We see a lot of opportunities in this segment and we are going to build that business, both on U.S. Flag and Jones Act.

Just, you know, so the age profile of the vessels in that trade are such that many of them are coming out of service over the next few years.

And as a result of that, having a presence in that market as the supply/demand balance comes into our favor, provides us for opportunities of strong economic returns in businesses that are marked with long-term contractual business.

So, there's not only an attractive earnings, but a stability to those earnings that are likely to be achieved.

Would you look to do similar leasing arrangements with ships in the future -- would you actually look to buy some Jones Act vessels given that we know that there's some contention between I guess shipyards and ship owners as to how much those Jones Act vessels cost?

I think our view on lease versus buy -- we're indifferent. What we're not indifferent to is who's going to technically manage those ships and who's going to commercially trade them?

We are going to technically manage the ships and we are going to commercially trade them.

The decision whether we do it on a lease basis or an ownership basis or an MLP basis is a financial decision which we'll make at the time. The important thing is we are going to be controlling those ships, trading them, operating them, managing them.

Okay. And then the other question, and I don't know - if you can't answer this, that's okay, but I was just wondering, and I know the ship is only getting delivered in a few years, but could you give us even a ballpark of what the bare boat charter rates may be? Would they be in the mid 20,000 range or closer to 20,000?

We're still in the process of negotiating definitive documentation. I can say we're making progress on that, but I think the confidentiality agreement requires me to surrender my first-born child if I violate it...so, I think I've gone far enough.

Please, don't say anything! Okay. And then the other question I had was also regarding the capital construction fund. I mean, I think it's at about 275 million now. Would you tap into that?

Yes. If the opportunities ...

... and other financing means to expand the presence in the Jones Act market, but you know, what would you use that for if at all?

As currently constituted, you know, the CCF is applicable to just certain specific vessels and certain specific trades.

To the extent that we were to expand into any one of those sectors, yes, we would definitively use the proceeds from the capital construction fund. We're also legislatively seeing if there are some options to alternative employment for the CCF.

Okay. And then, sorry, one more question. This is on the leverage flush debt issue.

You know, I know bond holders always like to hear that the company wants to reduce its debt back to pre-Stelmar levels and it seems as though one of the obvious places to do that would be repaying revolver drawings either secured or unsecured. But, the company also has an 8 and three-quarters issue that I think is callable make hold.

Would you consider taking out some of that more expensive debt? Or you know, that or other bonds?

You know, similar to that own versus lease question, it really depends upon what the financial alternatives are, and specifically, what the debt profile is.

You know, we also have debt maturing in 2023, but that still constitutes 19-year debt, which is awfully attractive. So, we would just evaluate the benefits of one against the other.

So, there's not a priority to take out the more expensive debt as far as ...

No, not without reference to maturity profile.

Okay. Great. Thank you.

Thank you. We have our next question coming from Philippe Lanier (ph) of Bank of America Securities.

Yes, good morning and great quarter guys.

Thanks.

Most of my questions have been answered, so just some specifics. On the tax issue, there's one thing I'm not quite clear about and that is, when you guys sell some of your previous Jones Act vessels, do you pay taxes on those gains, and are those going to show up on the P&L or not?

The answer is yes. The Jones Act still is subject to taxation. The U.S. to foreign trade, non-Jones Act, is subject to a tonnage tax. And the international fleet is now permanently tax-deferred.

Right. So just for instance, when you guys sell the - was it the Eclipse?

The Eclipse and the Compass One.

Right. I mean, would we expect a tax on the P&L or is that only a cash item?

We would not.

Okay. That was just question one and just another small detailed question. On your other line in terms of the gains that you guys showed due to securities, what was the rest of that gain? Is that something we might expect going forward?

Gain on the sale of vessels, roughly $13 million, gain on security sales and interest and dividends, about $10 million.

Right.

All right, and then just some miscellaneous stuff.

Okay. So, no surprises going forward?

Right.

Okay. Great. Well, you guys had a great quarter, congratulations.

Thanks Philippe.

Thank you.

Thank you. We have our next question coming from John Cartsonis (ph) of Smith Barney.

Good morning. First of all, on your realizations for the V-Maxes (ph), what is currently the differential to their VLCCs?

On the V-Maxes, did you say?

Yes. Yes.

You mean in terms of allocation of earnings?

On a day rate, on the realizations? Like how much are both the VLCC rate (inaudible) realizing percent?

It's about - right now, it's about 30% higher. 30% higher than the Vs.

Okay. Just during the quarter -- at any time get below the VLC rates or ...

Remember, those vessels will be operating in the pool, in the V-pool. So the specific rates on those vessels are pooled with all other vessels.

So as we allocate them to pool points within the VLCCs, when you take the reference vessel for a VLCC, the V pluses get 130 points instead of 100 points.

Oh. Okay. Also, on your product carriers, you said you had about 50/50 fixed to spot currently?

Yes.

And what is roughly the fixed to time charter rates on average? Like as you'd be modeling forward?

I think that's one better than - do that math in my head. Why don't we just follow up with you afterwards?

Okay. That's all. Thanks.

Thank you. Once again, as a reminder, if you do have a question at this time, please press star, one, on your touch-tone phone.

We have our next question coming from Alexander Nackman (ph) of Montague (ph) Financial Group.

Good morning guys, great impressive quarter, congratulations. A couple of quick questions.

Last call, on the fourth quarter call, you had talked about the cost of moving offices that you were going to incur this year. I was wondering if you could quantify that cost on some level for us?

Myles, do you want to give that number, the cost to move?

You're talking in terms of the physical cost of the move is fairly dimeninous, but you could for the balance of the year, you know, assume we're incurring - dealing with rent amortization, something in the neighborhood of about a 1.5 million per quarter.

Thank you. Also, last call, you had alluded to the fact that I believe it was the revenue number of 208, you know, get used to that type of number. Are you still feeling that type of confidence going forward?

208 what? I'm sorry.

It was either the revenue number or the net income number. I wish I had my notes from the call that you said, get used to that number as a kind of a bottom line number. Whether it was revenue or net income, I can't recall.

You stumped me on that one.

I wish I had the call. All right. I'll skip on down. Beyond that, there's ...

Follow that back to where you remember, and we'll try to answer your question.

Definitely, I'll pull my notes from that. Also, last thing, obviously everybody feels your stock is cheap. I was wondering, you know, you have estimates on the street here of 13.60 per share from Bank of America. You've got the low end of estimates coming in 7.14.

I was wondering if there was any - going to be any attempt to communicate your numbers seeing as you're going to be showing a trailing 12 - of about 12.44 at this point. You've got a guy at low end of estimates at 7.14. I was wondering if we could wake him up and give him an update?

Well, I think if he looks at the quarter, it probably will address the issue for him.

Certainly. Okay. Thank you guys.

[Operator Instructions]

We do have our next question coming from Justine Fisher of Goldman Sachs.

Hi. I just had a couple of follow-up questions. The first was to ask whether the debt that you had paid down during the quarter was the secured or the unsecured?

Unsecured.

Unsecured? And then, I don't know if you guys would give this, but you know, the percentage of days in the quarter so far that you have booked at certain rates for VLCCs? (inaudible) giving out some (inaudible).

In which quarter?

The second quarter.

Just for Vs?

Sure. For Panamaxas, too if you'll give it.

How about of the total international fleet?

Okay. Whatever data you have is fine.

All right. About 5,200 ...

Okay.

... days for the second quarter out of about 7,400.

Okay. Any color on the VLCC rates that you've been able to book at?

Yes. The average rate so far is in the mid-50's for the Vs, and the average rate for the (inaudible) is just north of 30. And for the Panamaxas, it's right around 20.

Okay. Great. Thank you.

And another thing, the caveat, expect these numbers to continue to be very volatile because this is the most volatile market any of us have experienced and it's going to continue that way.

Okay. Great. Thank you.

Thank you. We have no further questions at this time. I'll turn the floor back over to management for any closing comments.

I want to thank everybody for listening to the call. We have careful notes on what we've said and sudden prior conferences and our strategy we outlined last year, we have not deviated from that.

We're executing on that and that will be the plan going into 2005 and 2006.

And I look forward to talking to everybody again at the end of the second quarter.

Good day.

Thank you. This concludes conference. Please disconnect all lines and have a great day.