Octave Specialty Group Inc (OSG) 2006 Q2 法說會逐字稿

Good morning. My name is Denise and I will be your conference facilitator today. At this time, I would like to welcome everyone to the Overseas Shipholding Group Second Quarter 2006 Earning and Results Conference Call. All lines have been placed on mute to prevent any background noise and after the Speakers' remarks, there will be a question and answer period. If you would like to ask a question during this time, please press * then the number 1 on your telephone keypad. If you would like to withdraw your question, you can press the # key. Thank you.

It is now my pleasure to turn the floor over to your host, Mr. Jim Edelson, General Counsel.

Sir, the floor is yours.

Thank you. Before we start, let me just say the following -- this conference call may contain forward-looking statements regarding OSG's prospects including the outlook for tanker markets, changing oil trading patterns, prospects for certain strategic alliances and investments, estimated TCE rates achieved for the third and fourth quarters of 2006, anticipated levels of newbuildings and scrapping, project drydock schedule, the projected growth of the world tanker fleet and the forecast of world economic activity and world oil demand. Factors, risk and uncertainties that could cause the actual results to differ from the expectations reflected in these forward-looking statements are described in the Company's Annual Report on Form 10-K.

For this conference call, we have prepared and posted on OSG's website, supporting slides that supplement our prepared remarks. This supporting presentation can be viewed and downloaded from the Investor Relations Webcasts and Presentations section on OSG.com.

With that out of the way, I would like to turn the call over to our Chief Executive Officer and President, Morten Arntzen.

Morten?

Good morning and thank you for joining today on our earnings call. Let me introduce the members of the management team that are with me -- Myles Itkin, our CFO, Captain Bob Johnston, our Head of Ship Operations, Jim Edelson, our General Counsel and Jennifer Schlueter is in charge of Investor Relations.

As Jim indicated, our remarks will follow our presentation so if you please, turn to slide three. The second quarter of 2006 was another quarter of solid execution across all of our segments, crude transportation, product carriers and U.S. flag. We believe our strong financial performance demonstrates the advantages of having a large-scale global operation and a diverse high-quality modern shipping fleet.

You'll remember at our investor event held last quarter in Philadelphia, we highlighted our accomplishments during the last two and a half years. We did that specifically to help investors understand what to expect from us in the future which is more of the same. We will continue to prudently execute a balanced growth strategy.

During the second quarter, we delivered another quarter of healthy profits to shareholders. Time charter equipment revenues were $216.3 million -- broken, down, crude revenues were $146 million, product revenues were $49 million, U.S. flag revenues were $15 million and other revenue was just over $6 million. EBIDTA for the second quarter was $109 million. Net income, the second highest second quarter in the company's history was $60.2 million. Diluted earnings per share were $1.52. Now if you exclude a $3.5 million loss on vessel sales which had about a 7% share impact, EPS would have been $1.59, ahead of street consensus of $1.54 this quarter.

Financial performance was exceptional for the first six months of 2006. TCE revenues were $496 million, roughly flat for the first half of 2005. I think most of you remember 2005 was also an exceptional year. EBIDTA was $289 million for six months, net income $189 million and EPS was $4.76 per diluted share.

Turning quickly to the balance sheet and cash flow statements -- at the end of the quarter, cash and cash equivalent including a tax deducted capital construction fund was $347 million. Total assets were $3.3 billion. Liquidity was $2.1 billion. Liquidity adjusted debt to capital was 17% at the end of the quarter, an improvement from 24.5% at year end. Long term debt was just $770 million versus $966 million at fiscal year end. Net cash from operations increased $67 million in the quarter to $219 million and shareholder's equity was close to $2.1 billion.

This consistent financial performance of OSG highlights the fact that our fleet expansion and diversification, active asset management and a prudent focus on growth is working and delivering returns for our shareholders.

Please turn to slide four for some highlights. In June, we announced a $300 million share repurchase program. The decision was made following a careful and measured consideration by our Board and their belief that our share price does not reflect the fundamental value of OSG. The program allows us to optimize our capital structure, invest in the undervalued shares of the company while retaining options to fund future expansion. There have been no repurchases since the announcement due to a blackout period that commenced two weeks prior to the June quarter end and you will recall the announcement was on June 9th.

Moving on -- OSG continues to actively manage our fleet via a newbuild program which I'll go in detail on later, selected disposals, opportunistic chartering deals and vessel arbitrage. We have been able to charter in a significant portion of our total tonnage at very attractive rates because of the strength of our brand, the strength of our balance sheet and our strong financial position. Through vessel arbitrage, we've sold all the tonnage that is more expensive to operate while partially funding the purchase of newer, more cost efficient tankers with higher earnings capacity, with only a small difference in price. We continue to sell all the tonnage and take advantage of exceptionally strong secondhand market. In June, we announced an agreement to sell three older tankers. The delivery of the Pacific Sapphire already occurred in July and the delivery of the Overseas Keymar in expected in August. The sale of our VLCC, the Majestic Unity, is pending a drydock inspection subsequent to the July 15th grounding of the vessel in China.

Also at quarter, we announced the charter in of two additional product tankers and two Aframax tankers. The Aframax tankers are already trading in the Aframax international pool. You should note that we have a 30% interest in these two ships.

Turn to page -- to slide five. Yesterday, we announced an exciting strategic partnership with TransCanada CNG. This is a terrific opportunity for OSG, giving us first forward edge in a new market, commercially viable compressed natural gas vessels for marine transportation. In the coming months, we will be working on finalizing the design of the CNG vessels, then selecting a shipyard that will construct them. Meanwhile, we are working towards finalizing a number of specific projects with TransCanada to transport CNG from stranded gas fields.

Please turn to slide six. Our balance growth strategy has seen a significant growth of the fixed revenue portion of our business which represented 35% of TCE revenue in the quarter. At the quarter end, $825 million of future revenue was locked in, up $80 million from $746 million at fiscal year end 2005. Two new TC contracts were signed in the second quarter. These numbers I should note, exclude future revenue from the four LNG carriers, profit shares, charter extension options for vessels on time charter in the AI pool.

Let me turn now to our fleet expansion plan and how we continue to build future long-term shareholder value. Please turn to slide seven. OSG's capital efficient newbuilding program has gone from four gas carriers at the end of 2004 to 26 vessels across each of our operating areas today. We are all looking forward to the upcoming delivery of the first Jones Act tanker this November which is now nearly complete at the Aker Philadelphia shipyard.

Two more of our tankers of a total series of ten are in various stages of constructions at the Aker yard where they now have three Jones Act product tankers under construction at the yard at one time. We have two newbuild time charters in product carriers delivering in the third quarter. The Overseas Hercules delivers on August 16th and the Overseas Orion delivering ahead of schedule on September 13th. Each of these product carriers is chartered in for a period of ten years and both have already been chartered out through the third quarters of 2008 and 2009, respectively, from the date of delivery. The Hercules has been chartered out a 44% premium to the charter in rate and the Overseas Orion at a 34% premium to the charter in rate. Good business for OSG.

The four LNG carriers all are in various stages of construction with OSG site management teams in Korea, at Hundai Heavy Industries and Samsung Heavy Industries and all four vessels we expect to be delivered on time. Additional vessels set for delivery include four product carriers slated for delivery the second half of 2006 and 2007, seven vessels slated for delivery in 2008, six in 2009 and two more in 2010 so I think it's all spelled out for you in the schedule there.

Please now turn to slide eight. I would like to spend some time on today's call and talk about OSG's ambitions to set the gold standard of technical management. This is a key supporting strategy of our goal to be a market leader in each of the segments that we operate. This is one area we absolutely have to succeed in. We spend enormous amounts of time and energy to this end. In order to achieve this goal, we have made a commitment to continuously invest in our fleet, our crews and fleet-wide operations. We are proud today to have some of the most qualified seafarers and we work very hard to keep them. Retention programs for our 3,400 seafarers include a commitment to continuous training. It means providing career path opportunities and being a flexible employer. Because of this and ongoing efforts led by Captain Bob Johnston and his operations teams, we can count on the loyalty and dedication of our seafarers across the fleet.

The shifting toward single nationality crews, top to bottom of vessel, has further improved retention. Today, 80% of our crews are all Filipino versus just 50% a year and a half ago. In order to assure a continuous supply of shipboard officers, we fund scholarship programs in Manila at the Philippines Merchant Marine Academy. In addition, we will continue to pay competitive wages. Keeping crews that become intimately familiar with the OSG fleet and vessels and understand our policies and procedures helps us operate our ships to the increasingly demanding standards of our client base.

For those of you who attended "Invest a Day" in Philadelphia back in May, you heard us talk about the number of investments we're making in environmental compliance programs in terms of people and infrastructure. The shipping industry is lagging behind what the oil industry has been doing for some time in making these types of investments. We intend to lead the shipping industry in this area, not lag. The most important beneficiaries of these efforts are OSG's customers. High quality crews and well maintained fleets are managed more efficiently, have faster turnaround time. In-house technical management means we have better quality control, better oversight, are able to quickly react to regulatory changes. Doing it right at sea all the time and doing it as well as anyone in the world is what we aim to do and we'll continue to work on this.

That concludes my introductory remarks. Let me now turn the call over to Myles who will review the quarter in more detail as well as the second half outlook.

Thanks, Morten and good morning. If you're following along with the presentation, please turn to slide ten. For the quarter, time charter equivalent revenues declined by 5% to $216 million in comparison to the prior year's quarter of $229 million. This represents a 400 day reduction in quarterly revenue days to an aggregate of 7,500 days. A reduction in revenue days was principally due to the 2005 sale of three U.S. flag crude tankers at the respective [inaudible] dates as well as the sale of the 1994 built Aframax, the Bravery and the company's only Suezmax, the 1989 built Eclipse. 70% of the 400 day quarter over quarter reduction in revenue days was attributable to the U.S. sector reducing second quarter U.S. revenue days to a total of approximately 620 days.

Crude tanker revenue days decreased by 75 days to an aggregate of 4,100 days, comprised of a 100 day increase in VLCC days, an 80 day decrease in Aframax days and negligible change in Panamax days and the balance of the change in crude revenue days is attributable to the sale of the company's sole Suezmax tanker.

Product carriers which include the three U.S. flag tankers that participate in the MSP program but trade internationally, decreased by 38 days principally due to higher drydocking and repair days.

Please turn to slide 11. Just a correction -- the header in slide 11 for the first two columns should read Q206 and Q205. Average TCE rates, a blend of spot and time charter rates, had the biggest improvement quarter over prior year's quarter across VLCCs, crude Panamax tankers and Handysize product carriers with VLCCs averaging $49,000.00 per day, crude Panamaxes $26,000.00 per day and Handysize product carriers, $18,700.00 per day. Average TCE rates for Aframaxes and crude trading Panamaxes however were lower than the same period last year at $26,700.00 per day and $19,500.00 per day, respectively. The decline in average rates for the queen Panamaxes was attributable to reduction in the profit share recognized on the charter out of two vessels, the [inaudible] and the Rynemar which in the prior year's period traded spots with profit sharing recognized in total on the anniversary date of the charter. Subsequent to 2005, the charter replaced these vessels on time charter for the balance of their charter periods ending in July 2009, fixing additional higher tonnes at $3,400.00 per day per vessel.

Please turn now to slide 12. For the three months ended June 30th, crude tankers represented 67% of time charter equivalent revenue and 84% of income from vessel operations. Product carriers represented 23% of TCE revenue and 12% of income from vessel operations and the U.S. flag fleet represented 7% of time charter equivalent revenue and just under 2% of income from vessel operations. Please note the U.S. revenue excludes the three MSP flag product carriers.

Slide 13, please. Operating income in the second quarter totaled $66 million in comparison with $129 million in the prior year's quarter. Operating income for the first half of 2006 was $203 million versus $304 million in prior year's first half. Strong top-line performance appeared to be offset by higher expense ratios relative to the prior year's second quarter. The second quarter of 2005 however, reflects results prior to the termination of certain of the company's joint ventures, the concluding of the double hull tanker's initial public offering for complete period and the sale-leaseback transactions for six other vessels that resulted in meaningful shifts in expense and other line item categories thereby making the more relevant comparison of expenses between the second and first quarters of 2006.

Special expenses increased by $4.9 million or 10% quarter over quarter, principally attributable to the following -- $1 million representing damage repairs on the [inaudible] and an adjustment to an insurance claim on the Vega, non-recurring expenses, a $1.3 million increase in expenses associated with the three re-flagged MSP vessels including an increase in the reserve for the Ampermark claim for defective bunkers for $700,000.00, essentially non-recurring, a $750,000.00 in spares, stores and loops purchase, a substantial portion of which is recurring and the $500,000.00 increase in crew expenses as well as $1.3 million of environmental expenses which will reduce quarter over quarter going forward.

For the second half of 2006, taking into account vessel scales, scheduled deliveries and the conversion of a bareboat charter out on a U.S. flag tanker to Galena Bay to time charter. We expect vessel expenses to be approximately 50 to $52 million for the third quarter and 47 to $49 million for the fourth quarter. These increases reflect the Galena Bay charter conversation from a bareboat to a time charter, adding $1.7 million per quarter -- increases in crew, loops and stores as well as environmental costs.

We've seen significant pressure on the wage front to retain our highly qualified crews. Q3 and Q4 reflect increases for Filipino officers of $900,000.00 per quarter and Croatian crew increases adding another $200,000.00 per quarter. We have also adjusted our estimates to reflect the current trading patterns of our vessels. We realize premium time charter equivalent earnings with our crude Panamaxes. However, the cost of spares and stores are higher in the three [inaudible] areas in which they trade. In addition, because of the high TCE levels which have prevailed, we have increased the level of spares and incurred higher transportation costs in order to minimize any risk that vessels would be idle or delayed. In these markets in particular, this policy makes good economic sense.

Time and bareboat charter hire expense declined by $5 million in the second quarter over the first quarter, principally due to lower profit sharing on VLCC and Aframax tankers, partially offset by the chartering in of two Aframaxes in which the company participates at 30%.

General and administrative expenses were $23 million, $3 million above our previously articulated guidance of $20 million. This was principally due to higher legal expenses and other costs associated with the ongoing U.S. Department of Justice investigation. Due to the increase in costs associated with the DOJ investigation, we anticipate quarterly G&A for the balance of the year to be $22 million per quarter.

Interest expense decreased quarter over quarter by $7.5 million, principally due to reduction in the average amount of debt outstanding which was $770 million at the end of the second quarter. Additionally, the first quarter of 2006 as you'll remember, included a $4.8 million write-off of the unamortized balance of preferred finances charges for terminating credit facilities. We expect interest expense to be approximately $15 million per quarter for the balance of the year.

There was a tax credit of $2.1 million in the period. The tax credit is based on the results of our U.S. flag fleet and certain corporate financing transactions such as the $1.5 million loss generated from the buyback of bonds. During the quarter, we repurchased approximately $30 million of ventures generating this $1.5 million loss. We expect this repurchase to generate annualized interest savings of $500,000.00.

At June 30th, 2006, working capital stood at $228 million, total assets at $3.3 billion, shareholders equity in excess of $2.05 billion and liquidity at $2.14 billion. During the quarter, cash adjusted debt decreased by approximately $64 million and liquidity adjusted debt to capital declined to 17% at quarter end from 19.5% at Q106 and 24.5% at fiscal year end '05.

Please turn to slide 14. In the third quarter of 2006, as of July 28, 61% of our VLCC days were fixed at $64,500.00 per day, 45% of our spot Aframax days were fixed at $36,000.00 per day, 39% of our spot crude Panamax days were fixed at $28,500.00 per day and 48% of our spot Handysize days were fixed at $25,000.00 per day.

Slide 15, please. Our market outlook for the second half of 2006 is bullish. Tanker rates during the second half of 2006 will continue to be supported by increased tonnage demands from the U.S. and Asian refiners now just emerging from both heavy refining maintenance activities and from changes in supply patterns that result in additional long haul crude movements.

Fleet utilization levels for the remaining portion of this year are currently forecasted to be above first half 2006 levels with salutary effect on tanker rates for the remainder of this year. We therefore continue to expect average spot rates from 2006 to equal or exceed the spot rates achieved in comparable periods in 2005.

Change in supply patterns during the first half of 2006 have increased tonne-mile demand. The two more significant changes that have occurred are additional exports from Venezuela to Asia and West Europe and a significant increase in West African crude destined for the Far East, primarily China. There will also be increased tanker requirements as both the U.S. and Asia emerge from peak refining maintenance activities that took place in the first half of the year. Far East refiners have already begun to secure tonnage for higher refining runs in the third and fourth quarter of 2006.

Refining utilization rates were well below normal in the U.S. during the first half of 2006. This resulted in a reduction of approximately 500,000 barrels per day due to an increase in refinery maintenance activities and from downtime suffered by the refineries from last year's two hurricanes. All refineries damaged by Hurricane Katrina and Rita are forecasted to be fully operational during the last half of this year. The peak refining maintenance levels for 2006 are now behind us. Refinery runs in the second half of 2006 are forecast to reflect a 94% utilization factor. The increase in U.S. refining runs forecast for the last half of 2006 should benefit both short and long haul tanker movements and rates.

These positive supply demand fundamentals are further supported by prevailing geopolitical risks and threats of supply disruption. Iran continues to reject the UN Security Council resolution setting an August 31, 2006 deadline to suspend their enrichment program. Recent attacks on the pipeline in Iraq suspended Kirkuk exports to Siam. Over 500,000 barrels per day of production in Nigeria remain shut in and Middle East tensions continue to accelerate, adding strong psychological emphasis to already strong market fundamentals.

This concludes our remarks. We now would like to turn the call back to the Operator to open it up for your questions. Thank you.

Thank you. At this time, I would like to remind everyone if you would like to ask a question, please press * then the number 1 on your telephone keypad.

And we have our first question coming from Jonathan Chappell of JPMorgan. Please go ahead, sir.

Thank you and good morning. This is John Chappell. Morten, question for you regarding the recent events in Alaska. You have a pretty diverse fleet. Just wondering from an industry standpoint, how you're thinking about the impacts this can have on the markets and then specifically to OSG, how is your product tanker fleet positioned from a spot market basis to benefit from any increased imports to the West port and also how is your U.S. Jones Act fleet impacted by the lack of, or I guess the perceived lack of Alaskan crude?

First answer would be it's a little too early to ascertain exactly how the Prudhoe Bay crude oil is going to be replaced. The government has already announced that the strategic petroleum reserve will be available which is what we expected. We also expected they would first allow the market to figure this out and so what you can see is a combination of increased product imports from Asia to the west coast. I think you'll see more movement of products from the Gulf Coast to the west coast and you'll see more crude coming into the U.S. and I think it's noteworthy that this morning, five VLCC cargos were put on subjects from the Gulf coming to the west coast and we would not have expected that at this stage where we are. Regardless of what the result is, ships are going to be the solution to whatever happens here, whether it's a combination of products and crude, it will move on ships so in the short run, is this good for the shipping market? The answer is yes. I think you have to look back to Katrina and Rita where about 20% of U.S. production was knocked out. Here we're talking about 8%. We don't know the duration of this yet whether it's going to be weeks or months and we don't know how prepared they are up there for the pipe replacement that has to happen but we already saw today in the VLCC market a pick up in activity because of this event and there is no doubt that 8% of U.S. production is going to mean more tonne-mile movements of crude and refined products.

In terms of our product fleet -- we'll have eight product tankers in spot market by the fourth quarter, all modern ships except for one but I think we will be in a pretty good position to participate in any pick up in the product market.

And then the impact on the Jones Act?

The Jones Act -- there is such small spot availability of ships today. It really is a term contract business. I know there was a fixture of one ship I think just last week for a 45 day voyage and one spot voyage of that duration in the Jones Act means a lot so I think in the short run, you won't see that much impact on the Jones Act. The vessels are there. The necessary vessels are there to move it if additional products have to go from the Gulf Coast. Will it be positive on rates? It should be but I wouldn't expect anything dramatic just because most of the ships are tied up in time charters.

Alright, I wanted to clarify one thing you mentioned earlier in your comments too. The share buyback program -- you went into a blackout period just one week after it was announced and that blackout period lasted through today's earnings release?

Will expire 48 hours after today's earnings release.

Okay, so it's almost two months then so we shouldn't read into anything what you think about the stock?

Correct.

Another quick question and then I guess I'll turn it over. Just your thoughts about this new find, the BHT fair sale. Just wondering what your plans are with liquidating part of your position there.

Jonathan, you know when we originally were doing the spin-off of double hull tankers we had anticipated an ownership position of somewhere between 25% and 1/3. Given the strength of the market, the positive outlook for rates, we thought this might be a good time to consider adjusting that position. We're not committed to doing this today or tomorrow but will take advantage of the opportunities as they present themselves to us.

Thanks Morten and Myles.

You bet.

Thank you. Our next question is coming from Roy [Storit] of Simmons and Company. Please go ahead.

Yes, thanks. On Alaska, I was just looking for confirmation. I know you have the interest in the Alaska tanker company. I know it's relatively small compared to the rest of the business and the general upside you're going to get from the current outages but I just wondered if you could put some monetary numbers on that.

This is Bob Johnston. You're looking at the effect of the BP outage on ATC?

On the earnings.

On the earnings. Those vessels are on time charter to BP so it should not have an effect on the earnings of ATC or the incentive hire that we earn from ATC.

The incentive hire is based upon performance standards that are set at the beginning of the year and really have to do more with operational issues and issues of operational integrity than earnings or trafficking of the vessels.

Okay, great. So it's not your issue that BP doesn't necessarily have the oil to give you?

Correct.

And I was just wondering -- do you think you're in a particularly strong position just with the Ecuador volumes appearing into the west coast. Do you think that's going to be a primary beneficiary? I just get some, you know there's a lot of focus on products from the east into the west coast. I was just thinking more on the crude side. Where do you expect that to come from in the short term?

There's a few thousand smart people all over the world right now trying to figure that out. I think it's notable that you have five fixtures to the west coast that happened this morning. They weren't fixtures, excuse me, but they were ships put on subjects but they came out early. We do think this is positive for the Panamax trade. No question about it but there is going to be a market response. If you can get it by taking products from South Korea who has surplus right now rather than bringing in crude from Ecuador, you're going to do that but everybody is working out the arbitrages right now. All we know is at the end of the day, the stuff is going to move by ships. Whether it's product tankers or crude tankers, we will get our share of that incremental tonne-mile movement.

Okay, I'll leave it there. Thanks.

Thank you. Our next question comes from John Kartsonis of Citigroup. Please go ahead.

Good morning. Just a quick question again on the U.S. flag fleet and then on the company. Do you expect some of the tankers that trade now in Alaska to be released in the national market or what is going to happen with the surplus of tankers up there?

I'll let Bob answer that. Bob is on the Board of ATC.

I think right now with the announcement by BP over the weekend, I think what you will see is the vessels will probably stay in the U.S. fleet. We may be accelerating some repair periods on them but I don't think at this point we will be trading internationally.

A little bit different, on the company I guess. You said that year to date, the rates basically are flat last year yet your operating margins are a little bit lower I guess, that's on the expense side. What are your plans going forward, especially on the expense side? I mean, is there any room there to improve that?

Well, as I had a chance to kind of allude to earlier in the presentation, there were a series of one-off items. If you take a look at expenses on a quarter to quarter basis, Q1, Q2 versus Q3 and Q4 estimated given the guidance we just provided, there's a reduction in expenses so yes, it's more than likely that those expense will reduce on a going forward basis.

So you think on a year over year basis, assuming let's say, a flat rate environment, you're going to be close to last year or?

I think what you really need to do, and I'd be happy to do it for you, is given the shift in fleet composition and the change between owned vessels and chartered in vessels, when you look at Q1 and Q2 of '05, vis a vis any period in '06, it does not provide for a relevant comparison so it's an apparent increase over a real increase and going forward, we see an improvement in operating expenses based upon the elimination of certain one-time items as well as a moderation of our environmental investments with heavier investments in earlier periods trailing as we go forward.

I see. Also, on the [inaudible] purchase, is there any expiration date for the authorization or is there a timeframe that you're planning to --?

We didn't -- the Board did not [inaudible]

Again, that's all I had. Thank you.

Thanks.

Thank you. Our next question is coming from Justine Fisher of Goldman Sachs. Please go ahead.

Hi. The first question that I had is just a bit more of a description on the CNG business and you'll have to forgive me and I guess the rest of the market -- none of the other companies that I currently cover are in this business so I was just wondering if you could just give us a description about the costs of one of these ships, the cost of rebuilding one of these ships, i.e. versus an LNG ship, what the situation needs to be with delivery terminals or I guess a pipeline etcetera. If you could just give us color about what will be involved in ramping up that business and then a timeframe if you have any.

I think what you should appreciate about these -- these will be very much project oriented opportunities so the ship size will actually vary from project to project but the initial ones we're looking at, if you want to put it in equivalent, I think it's about a 3½ thousand cubic LNG carrier, but moving a very short distance back and forth and has taken the compressed gas from the field and directly injecting it into a gas pipeline system. There are some bigger projects that we're looking at that would involve much bigger ships but along the same basic design. Any of the projects are going to come with 15 to 20 to 25 year contracts. This is not going to be a spot market activity, at least from what we know, a long time until it gets up and going so I don't want to give you a number because it will mislead you but they will be ships built against long-term charters in which TransCanada and OSG invest some equity and raise project debt.

Okay, and would you say, and maybe this isn't a correct question to even ask, but I mean, what are the comparative advantages of this versus LNG or is it really that they don't -- I mean, it seems that they may not directly compete because this is talking short distances to pipelines.

If you look at that map, it showed the stranded gas fields. The stranded gas fields were stranded because they were of a size where the size did not justify building a liquification facility on one end and a re-gasification facility on the other so there's not enough gas to exploit but with gas at the current prices, it makes sense to go after this gas because the economics now work. This is why so many of the big gas players are looking at CNG because it has this four and a half thousand, four and a half trillion -- a helluva lot of gas.

I believe you. The last question with respect to CNG is just at what price is this gas economic or not to exploit, even average? I mean, is it sort of current levels, maybe around between $6.00 and $7.00 or is it more based on long dated gas prices of $8.00 to $9.00?

I think at current prices it's very exploitable. I would say that the price levels that you look for LNG projects are probably the same. It's just going to be the size of the fields that you're going after.

Okay. And then just a question for Myles. As far as the bond repurchases, has the company turned towards buying back these bonds just because they now may be the highest interest debt on the balance sheet and is this something that you will continue to target going forward?

We will continue to evaluate repurchase of the bonds. The decision is purely economic as to whether the refunding cost over the duration results in a net economic benefit or not. So yes, we will engage in open market purchases from time to time.

And the company hasn't said what the potential liability could be for the Ruby incident, right?

With what?

The indictment for the -- it was the Pacific Ruby, right?

We have taken a $10 million reserve and at this stage, we are unable to estimate with any more accuracy what it could be so that is the extent of the reserve.

Alright, thanks so much.

You bet.

Thank you. Our next question is coming from Philippe Lanier of Bank of America Securities. Please go ahead.

Yes, good morning. Just a couple of follow on questions, one tying into some of the questions people had asked about the re-shifting of oil and product resulting from BP. Do you guys know, or have any insight as to the Panama Canal, what the [inaudible] is of the pipeline there, getting crude from one side to the other in addition to the canal space?

I don't know the answer to that question but we'll find out.

Okay, I'll follow up with you then. A second question related to the past month and a half -- clearly a lot of things have changed on the global oil market, a lot more insecurity and this doesn't help. Have the major oil companies stepped up their efforts and sweetened the deal in order to try and lock up some long term VLCC tonnage? Have you seen any of that?

You see that more on the [inaudible] sector side than on the crude side. What you continue to see and what has really been driving this market is the differentiation between single hulls and double hulls and that is becoming more pronounced each day and that's why you've seen the greater volatility and when doubles get short in any loading port, the rates go up and they go up quickly. That's the big driver. I think that's what a few of the analysts have not focused enough on that.

And then one last question and I hate to make a confusing market more confusing but given what's happening now in Alaska, it just really heightens the insecurity I think that the world faces with Iran and what possible threats they might face. Do you have any contingencies or could you walk us through again what you see happening if there's say, a one month embargo out of Iranian oil?

I think -- as part of our risk management program here, we actually have looked at that possibility and I can't share with you the details of what we would do. A one month event like that we think for the most part, would send both tanker rates and oil prices through the roof. Inventory would -- you would see a dramatic increase in inventory and storage of tankers. It's a fairly complicated one and I'll go back to -- one of the reasons that OSG runs a very strong balance sheet, why we steadily want to retain our financial profile to be as strong as any of our competitors is because things like that can happen and the ultimate outcome and duration is fairly unpredictable so if you have $3.3 billion in assets on your balance sheet funded by $2.1 billion in equity and $2.1 million liquidity, you feel comfortable about your preparedness of that situation. In the short run, were that to happen, you're going to have -- and it's almost like the closing of the Suez -- you're going to have a very dramatic spike across the entire energy infrastructure.

Right. Thank you very much for your comments.

Thank you. As a final reminder, it is *1 if you have a question. We have our next question coming from Terese Fabian of Sidoti and Company. Please go ahead.

Good morning. I have a question on the VLCC sector. First off, do you have any more information on what is happening in the Middle East in terms of storage on some ten or 12 VLCCs?

To the best of our knowledge, there are 14 VLCCs being used by storage and if you go back last year, I think at this time there were three or four, maybe three to five being used by storage and when you have contained oil, you expect that that is a greater possibility but it also tends to be storage used to heavier fuels that are more difficult to sell quickly sometimes and those ships remain on storage. There's flexibility for those charters to go in the next year and they could also be returned this year so I think somebody else talked about adding more confusion and volatility -- they are another element in there but to the best of my knowledge, it's 14.

Okay, thank you. That's a good explanation. And then looking now to 2007 -- there is a large size order book for VLCCs. I think 38, maybe. Do you know how that compares with the single hull supply of VLCCs as of next year, those facing mandatory retirement in 2010?

I don't think the number next year is much more than two or three vessels but I'll get you that exact number. If you look at the total order book now for VLCCs, there's about on order enough double hull ships to replace all the single hull ships that are in the fleet. I think it's roughly even so I think you have to assume one is going to be growth in tonne-miles in exports during that period because demand will continue to go up and tonne-miles will continue to go up. I think the more important factor in 2007, 2008 is not how many VLCCs scrapped but how inefficiently the single hulls that remain are used. How long do they have to wait? How many voyages can they do this year and how much are they discriminated against? One of the reasons we've had a better 2006 than people expected is exactly this factor.

Are there significant operating differences between a single hull, an older VLCC and a newer one aside from environmental considerations that would induce a charterer to look for that? Are they faster, better?

All of the above. The operating expense of an older single hull VLCC will be higher. Also, the older single hull VLCCs don't have the carrying capacity. Their speed is usually less and their fuel consumption is more. So when you take a look at VLCCs operating in commercial pools, you can be addressing ten to 15 pool points in spread which at a $60,000.00 rate represents $9000.00 [inaudible] in earnings.

Okay, well that's also a good explanation. Now I have one last question that concerns your capital construction fund, tax adjusted around $200 million I think. Any views on how you might be using that at this time?

As we expand our footprint in the U.S. flag market, there are increasing number of opportunities for the application of those funds. Certainly, shuttle tankers are a good potential use of those funds and we continue to explore them.

Thank you.

There was a question before about the capacity of the Trans-Tunnel Pipeline and it's 800,000 barrels per day.

Thank you. Our next question is a follow up question coming from Roy Storit of Simmons and Company. Please go ahead.

Sorry to add further confusion but I guess, I've seen some news reports with regard to storage, VLCCs being used for storage in the Middle East and I guess I was just interested -- you talk about 14, up ten or so from last year. I guess where do you believe, or who do you believe is using that for storage? It was our understanding that the Iranians had unwound much of that storage position they had so I'm just interested in your comments there.

I think the Saudis have either two to four with the balance being the Iranians. Keep in mind that both the Saudis and the Iranians have their own fleets also and you won't necessarily see what they're doing with their own ships.

Sure. Okay, that's helpful. Thanks.

Thank you. Our next question is also a follow up question coming from Justine Fisher of Goldman Sachs. Please go ahead.

Hi. Just one last question on Jones Act capacity. Your shipping was just recently in the market with a deal, part of which was going to finance the construction of some new product carriers. I was wondering how you guys expect these to affect the market. I know they are only coming on-line in about four or five years but where do you see that taking the Jones Act market and then additionally, if shipyard space at NASCO is taken up with those product carriers, is there additional space to use for capital construction funds to build more tankers if you guys already have the tanker newbuilds on order at Kvaerner?

I think the -- first of all, we're delighted that somebody else would order product tankers because I think it really validates our view that there was a need for somewhere of 25 to 30 new product tankers to be built as replacements between now and 2015 so, especially when a competitor said in the past that these tankers wouldn't be get built. We still think there's capacity to build both product tankers and [inaudible] tankers in the U.S. and we will continue to work on it and there is a continued need. There is also ships that are needed for the military. Is it tight? Yes. Are there three or four yards that can do it? Yes. Can Kvaerner build more of the ships they're building for us between now and 2015? Absolutely they can and I believe NASCO can build more ships and there a couple other yards that can do that and we have made that a priority. We will continue to pursue those projects and still see a need for additional new buildings in this market.

Great. Thanks a lot.

Thank you. Seeing there are no further questions, I would now like to turn the floor back to management for any closing remarks.

Thank you for joining today's call. What I say is that we continue to execute on the growth strategy we laid out, it'll be two years ago, that we spelled out in detail again in Philadelphia and that is to be a leader in each of the segments in which we operate and we're going to achieve this through excellence in vessel operations, active asset management, fleet expansion and fleet diversification.

It was another quarter of strong financial and operating performance and we expect this will continue. If you have any specific follow up questions, please contact Jennifer Schlueter, our head of Investor Relations and her number is 212-578-1634. Thank you again for joining and thank you for your questions.

Thank you. This does conclude today's Overseas Shipholding Group Conference Call. You may now disconnect your line and have a wonderful day.