SFL Corporation Ltd (SFL) 2007 Q3 法說會逐字稿

Thank you for standing by and welcome to the Ship Finance Q3 2007 results presentation. (Operator Instructions). I must advise you that this conference is being recorded today, Thursday, the 15th of November, year 2007.

I would now like to hand the conference over to your speaker today, Ole Hjertaker. Please go ahead.

Thank you very much and welcome to all the listeners to the third-quarter conference call for Ship Finance International. From the Company today, we have the Chief Executive Officer, Lars Solbakken, and myself, the Chief Financial Officer, Ole Hjertaker.

I will then flip to page 2 in the presentation. Before we begin the presentation, I would like to note that this conference call will contain forward-looking statements within the meaning of the U.S. Private Securities Litigation Reform Act of 1995. Words such as expects, anticipates, intends, estimates or similar expressions are intended to identify these forward-looking statements.

These statements are based on our current plans and expectations and involve risks and uncertainties that could cause future activities and results of operations to materially differ from those set forth in the forward-looking statements. Important factors that could cause actual results to differ include conditions in the shipping, offshore and credit markets. For further information, please refer to Ship Finance's reports and filings with the Securities and Exchange Commission.

Then, to page 3. Today, we will discuss the third-quarter 2007 highlights and also subsequent events. We will discuss the financial results for the quarter and also open up for a question-and-answer session. In addition to the slides we will use in the presentation, we also enclosed some additional slides with an overview of our customers and assets, and also some information relating to the profit share and the charter agreement with Frontline, and also some slides relating to our accounting structure and in particularly relating to our finance lease accounting.

Next page -- the Board of Directors has declared a dividend of $0.55 per share. This is $2.20 annualized, which represents a dividend yield of 8.4%, based on closing price yesterday. On a trailing four-quarter basis, our dividends have been $2.19.

We have lease accounting, and 34% of our charter hire in the quarter did not appear in our P&L statement, but appeared only in the cash flow statement. Our net income was $20.6 million or $0.28 per share. This is partly impacted by a lower profit share contribution in the second quarter and also by a $7.2 million noncash mark-to-market of interest and bond swaps.

We have an improved operational performance, which is related to the West Prospero, which has been included and in operation for the full quarter. We also had all five vessels to Horizon Lines in full operation in the quarter, and we have taken deliveries of four out of seven Deep Sea Supply vessels in the quarter. The remaining three vessels will be included in the fourth quarter. One has been included already and two vessels are expected to be included in December.

Our contribution after operating expenses and general and administration expenses, or what we call our EBITDA equivalent, before profit share is up 20% quarter over quarter, and after profit share, it is up 7%.

We have an authorization from the Board to initiate a share repurchase program and our plan is to utilize a total return swap program to make sure that we preserve capital for newly created transactions. We will agree on a price, based on market terms, with the banks we have these agreements with, and we will then compensate them for the carrying costs of this, of the underlying share. And we will be compensated for any dividends paid, and we will also -- be an adjustment for any market movements in the meantime. These total return swaps are for a period up to 12 months.

Next page -- we have taken delivery of our second jack-up drilling rig, the West Prospero, and this was delivered at the end of the second quarter and has therefore been in full operation in the quarter. This was a $210 million investment, of which we invested $40 million of equity, and we have a $170 million loan relating to that asset.

The charter rate from that asset in the quarter has been approximately $15 million, of which approximately two-thirds was included as investment of repayment in finance lease only and not included over our profit and loss statement. The average cash contribution after interest and debt installments relating to this jack-up drilling rig over the first six years will be approximately $0.10 per share.

In the third quarter, we also took delivery of a 1700 TEU container vessel, the Montemar Europa. The delivery was in late August, and the vessel has therefore only been included a part of the quarter. The vessel is on a charter to CSAV, and the charter rate is approximately $13,500 per day on a timecharter basis, and we have operating expenses of approximately $4000 per day for the vessel. This acquisition was funded by cash, and we plan to finance the vessel at a later stage.

In the quarter, we have also announced and taken deliveries of vessels to Deep Sea Supply. This has been in two deals, and in total, the gross investments will be $325 million. $59 million will be the equity contribution from Ship Finance, of which $32 million have been invested already, and the remaining $27 million will be invested in connection with the delivery of the two last vessels. The average cash contribution after interest and debt installments for the vessels to Deep Sea will be approximately $0.12 per share over the first seven years, on average. But we have also agreed with Deep Sea that there will be an opportunity for them to release one of the vessels early, and that was negotiated as part of the second deal for two anchor handler vessels.

In the quarter, we have also agreed to sell another single-hull VLCC, the Front Duchess. This has been sold to an unrelated third party for a gross sales price of $54.5 million, and after compensation to Frontline and debt prepayments relating to the vessels, we will have the net cash effect of $21.9 million, which will be in the first quarter of 2008, and we have also estimated a book profit relating to the sale of the vessel of $2.6 million, which will also be recorded in that quarter.

Next page -- in the profit and loss statement, as I mentioned earlier, we have a significant portion of charter hire that is not included, approximately 34% in this quarter. If we compare numbers, 30th of September this year to the same period last year, we will just point your attention to the fact that we have changed the profit share recognition, and based on the old model, which is reflecting the numbers for September 2006, we had a very high profit share contribution because there were no profit share contributions recorded basically earlier that year.

Therefore, for the third quarter 2006, there were $37.5 million of profit share recognized in our books, while we, in this quarter this year, only had $5.5 million. The depreciation in this quarter is slightly higher than it will be on a running basis, and this is due to some adjustments in the depreciation schedule. That amounts to approximately $1 million this quarter.

In the interest and mark-to-market section, there is a $6 million reclassification of interest which relates to our bond swaps lines. Up until the second quarter, we have in fact recorded under interest expense both the interest expense related to our bond loans, but also the interest component of the bond swaps lines. This has now been adjusted, based on an adjustment in the documentation for those deals, and that amounts to about $6 million. Under other financial items, there is also a $7.2 million noncash adjustment in the mark-to-market of interest rate swaps and bond swaps.

Next page -- in our balance sheet for September 30, we would like to point your attention to the $22.7 million of restricted cash. This restricted cash is a consequence of the bond swap lines, where we have deposited this amount as part security for the banks holding those swaps. We do receive interest on this cash. We have also increased the investments in newbuilding and equipment due to the delivery of the Deep Sea vessels and the Montemar Europa, and also, the investment in finance lease has increased due to the investments in the second jack-up drilling rig.

Next page -- in the cash flow statement, we only want to point your attention to one item. That is the first line under investing activities. That is the repayment of investment in finance leases, $44.8 million for the third quarter. This is the part of the charter hire that does not appear in our P&L statement, but only appears in the cash flow statement, based on our lease accounting for older vessels to Frontline, for the two jack-up drilling rigs to Seadrill, and also for a single-hull VLCC that we have sold on higher purchase terms to a company called TMT.

Next page -- what we focus when we measure the performance of the Company is what kind of cash flow we generate from our charters. This is a pro forma illustration and is not as accounted per U.S. GAAP, and therefore includes the full amounts regardless of whether it's classified as repayment of finance lease in our P&L statement.

If you go down through those different segments, we have no changes on the fixed revenues on the VLCC side, no changes on the Suezmax side. We have a 20% increase on containers, which is relating to now in this quarter all Horizon Lines vessels are in operation and we also had one month of the new vessel, Montemar Europa.

In drybulk and OBOs, there are no changes. But in offshore, there is a 154% change, which is due to the addition of the second jack-up drilling rig, which has an accelerated rate in the first 400 days, and also the inclusion for a part of the quarter from the Deep Sea Supply vessels.

The vessel operations expenses and general and administration expenses is very stable. It's a 1% increase only, and therefore, the contribution, the ITDA, or EBITDA, as some would call it, has increased 20% quarter over quarter, if we exclude the profit share. Including the profit share, due to a reduction from $15.7 million to $5.5 million, we have a contribution after profit share of $111 million this quarter or $1.52, which is 7% higher than the previous quarter.

Next page -- the Company has grown significantly after the inception in 2004 and the Company now has an asset base in excess of $5.7 billion, based on market values, compared to $2.1 million back in the end of 2003, early 2004. The $5.7 million includes the capital commitments on assets that are not yet delivered, and as of 30th of September, this amounted to $727 million.

We have finance part of this already through paying yard installments, and we also have financing arrangements in place for a significant portion of this commitment. And we also have available capital to fund the rest.

I want to point out that the growth from a $2.1 billion asset base to a $5.7 billion asset base has happened without raising equity capital in the market. It has only been organic growth, and of course, the profit share contribution from Frontline has given the Company excess cash flow to continue investing.

Next page -- the order backlog is increasing, based on the deals that we have done recently. And as of September 30, the fixed-rate charter backlog was $5.6 billion and the cash flow from charters, basically, the EBITDA, the charter revenue minus the operating expenses, was $4.4 billion. The average tenor of the charters were 13.6 years at the end of September 30.

Next page -- we have a history of paying stable quarterly dividends, and the dividend announced today is $0.55 per share, which equals an 8.4% dividend yield based on yesterday's close price. We have invested significant amounts in 2007, but we have also received $130 million as net proceeds from sale of single-hull tankers, and this capital has been used as reinvestments to support a long-term dividend capacity. As we do new transactions going forward, we expect to be able to increase the dividend capacity further.

Next page -- the profit share agreement with Frontline has been very favorable for the Company. The original charters with Frontline were structured in a fairly low end of the tanker cycle, and therefore, the profit share threshold was at a relatively low level. The quarterly average profit share has been $21.2 million or $0.29 per share from the first quarter of 2004.

As we can see from the graph on page 13, the profit share is of course fluctuating with the earnings in the tanker market. I think the asset composition currently compared to previously is of course affected by the fact that we have reduced substantially the number of single-hull tankers in our fleet, and therefore predominantly have double-hull tankers in our fleet currently, and also by the fact that the OBOs, or oil bulk ore carriers, are all employed in the drybulk market.

I would like to jump to one page in the appendix, which is page number 18, illustrating the sensitivity relating to the profit share going forward. This is an estimate based on the different levels of market rates for 2008. And the reason why this illustrates a positive profit share also at levels below the base rates is the fact that Frontline has subchartered out basically all the single-hull VLCCs for the next year at rates around $34,000 per day, and also, virtually all the OBOs for 2008 at rates of approximately $44,000 per day. This of course supports the profit share calculation and gives a positive contribution, even in a market that is lower.

Based on IMAREX as they reported the forward rate for 2008 -- as of yesterday, that was about $43,000 per day -- if that should be the case for 2008, that would lead to a profit share in the region of $40 million to $50 million. Of course, the profit share calculation will be -- is a factor of the actual earnings for the vessels, and of course, this illustration is only showing that there is a good buffer in the profit share calculation and also a good buffer before Frontline has to start drawing on the cash reserves that they have currently.

Frontline, in the structure with Frontline, where we have 42 vessels on charter currently, there is $232 million cash deposit, which can only be used to pay our charter hire and for voyage expenses relating to our vessels. Of course, they will only start drawing on that cash reserve when the market earnings are below the levels illustrated on slide number 18 in the presentation. And over time, we have seen that it's very, very rare that the market is below $15,000 per day for VLCCs over any prolonged time.

The profit -- the cash deposit is being reduced by $5.3 million to $7 million if there are sales of vessels, and in case there should be such weak markets over so long time that the cash deposits should fall below $55 million in total, we can terminate those charters.

Let me go back to slide number 14 in the presentation. We currently have $2.3 billion of gross interest-bearing debt as of September 30. This consists of $1.8 billion of bank loans and $449 million, or approximately $0.5 billion, of bond notes. Approximately 70% of this interest rate exposure is fixed through swaps, fixed interest rates or interest compensation clauses with our charters.

When we structure our new transactions and we grow the Company, we finance the new acquisitions mainly on a stand-alone basis with no or limited recourse to Ship Finance. This of course improves investors' position and is reducing the overall risk for Ship Finance in the projects that we're investing in. Our focus is on continued diversification, both of the fleet and of the customers.

We do still have significant capital available as equity in new projects. Excluding restricted cash, we had $46 million of net cash per September 30, and we also had $120 million available under a revolving credit facility that can be used as equity in new projects. In addition, we have several vessels without any loans attached, and we can, if we want to, raise money against those to invest in new projects.

Next page -- therefore, as a summary, the net income for the third quarter was $0.28 per share or $20.6 million, which was due to a reduced profit share compared to the previous quarter of $5.5 million compared to $15.7 million in the second quarter. This also includes a $7.2 million negative noncash mark-to-market of swaps.

We do have an improved operational performance in the quarter, where we have an increased fixed-rate charter hire contribution of 15%, excluding the profit share. And also, if we look at the cash contribution from operations after vessel operating expenses and all the Company's general and administration costs, the increase is 20% quarter over quarter to $105.4 million.

We do see significant growth opportunities in large and diverse markets, and we do have equity to fund new investments without raising additional capital. We also continuously look at new projects, and we hope of course to have a good deal flow going forward. The quarterly dividend is maintained at the high level of $0.55 per share, which equates to an 8.4% dividend yield. And of course, as we add new projects, we expect to grow the dividend capacity going forward.

And then, we hand it over to the operator. Thank you.

(Operator Instructions). Jon Chappell.

Ole, My first question has to do with the debt markets right now and the credit crunch that's going on in the U.S. and the impact that's having on shipping. You have about $460 million of capital commitments, according to this schedule, by the end of next year. How much capital do you need to raise and what are you hearing from your banks about the availability of credit, and also the spreads that you're seeing in that available credit?

We have most of that in place. I don't have the exact number in front of me here, but generally, I can comment on the banking market as we see it currently. We have a fairly large bank group that we have in our different facilities. And we have in excess of 20 banks there. What we see is that some banks are not booking new business, while other banks are very active.

I think what we see a very clear sign of is that it is a flight to quality. The banks focus their attention on their core clients with a strong balance sheet. And Ship Finance has a strong balance sheet and we continue to see very competitive terms for financing.

We recently put in place the financing package for the two drybulk vessels that will be on charter to Golden Ocean and which will be delivered starting in next year. And those terms, we actually got a higher dollar amount at a lower margin than we expected, and we only have a very little guarantee from Ship Finance in it.

So I think what you will see or what we see right now is that you've got the projects where you don't have a very strong backing that will have problems finding capital in this market, and you have other companies that will easily access the market. We see some pressure on the margin, but not very much, and our feeling, based on the projects that we -- of course, we discuss projects with the banks on a continuous basis -- is that the financing for the type of projects we do is very attractive in the banking market.

My second one had to do with the relationship with Frontline. You talked about the profit share. I'm quite familiar with that. But also the decision that went into the sale of the Front Duchess -- can you just talk again about approvals that Frontline needs, how you guys work together on deciding which assets to sell, and then how the proceeds are split between the two companies?

The agreements -- there are no purchase options in these charter agreements. So basically, we both have to agree to sell them a vessel. And of course, there is then a need to be a negotiated agreement and both have to agree. So that is the basic. And of course, we of course have a long-term charter there with some fixed earnings, and there is a profit split in addition to that. So in addition to the fixed earnings, of course, we have the value of the charter income after the charter with Frontline, and we have -- the residual is ours. And then of course, we have the profit share. But in earnest, we need to negotiate and we need to agree.

Would it be safe to assume that really only the single-hull vessels would be ones that you'd consider selling? Would you consider the double-hulls to be your core fleet going forward?

That's of course what we also have communicated earlier to the market, is that it has been our strategy to reduce the number of single-hull vessels in our fleet. And you know, we have been -- I think we made that statement a year ago, when we had 18 vessels. And we cut the number of single-hulls in half. And that's our focus when it comes to selling vessels, has been on the single-hulls.

Last question really quickly -- just prioritizing the areas of growth again, would it still be offshore and containers over the tanker markets as far as new projects are concerned?

Yes, I will say that if you see what the projects we have done, it's been -- container and offshore have been the areas we have been focused on, but we also are looking at projects in other segments. So we will not rule out that we can do projects in other segments, but a lot of focus has been on container vessels and offshore.

John Kartsonas.

Just to follow up on the last question here, have you seen any significant slowdown of the tanker deal flow? You talked about the container market and the drybulk market, but is there any difference there of what you've seen?

We are looking at the tanker projects. But it is, of course, with the values we see, the deal flow in the tanker market is not the same as, for example, in container. We see much more deal flow in the container vessel market than we see in the tanker market. And of course, with the values we see and the rates, it's been more difficult to get any projects done with respect to tankers. And we have been focused on the very long-term charters based on the bareboat basis, so we have taken a pretty conservative approach when we have looked at tankers, and it's been difficult to agree on terms.

Looking at the container ship market, would you say that you've seen some erosion in terms of returns recently? I mean, we've seen a couple deals that have been done at a little bit lower rate in terms of returns. Is that true or do you think it's, like, deal-specific?

Our view on markets, and this is not only for the container market, but it's also in other markets, is that we believe that the market is underestimating the cost escalation you see on running these assets. The recent report by Moore Stephens, the independent monitor who monitors ship operating expenses, reported an 8.5 increase in operating expenses year over year. And when we discuss with ship managers, there are no signs that this is reducing going forward.

We have therefore been very reluctant to go in on long-term charters based on timecharter basis, where we have to assume that operating risk, because that will just eat into our margins. We have focused more on bareboat-type structures. There has of course been competition in the container space. But we offer a different product than some of the other players are offering. And also, many of the -- several of the container operators, they actually prefer having a bareboat compared to having a timecharter agreement.

The reason for that is partly that the charter hire for a vessel is only part of their cost structure. The container liners, they also have to cover the fuel costs and all the logistics costs. And just as an illustration, on one of the larger container vessels, if you talk a 12,000 to 13,000 TEU container vessel, just the fuel cost for that vessel is in excess of $100,000 per day currently. So, then, of course, making sure that you have the right crew on board and controlling that crew is very important for those operators. So we are offering a bareboat structure, and we have of course had ongoing discussions with different players on that basis.

Would you say that, from the liner perspective, probably they're looking to take these assets off their balance sheets. So on a bareboat structure, probably it stays on the balance sheet. Is that an issue or --

Not necessarily. The Horizon Lines deal we have, which are five vessels with a 12-year bareboat is off-balance sheet for Horizon Lines. So this has to do with the age of the vessel, and of course how long the charter period is.

Okay. And also lastly, can you give us some guidance in terms of depreciation and G&A for '08, what you will be looking at?

The depreciation, we don't have a guiding on the depreciation. What we will have is that we will have the Deep Sea vessels in, which were partly in for the third quarter, will of course have full effect when we go into 2008. And also, we have other assets that will come on, like the seismic vessels to SCAN, that will have an effect on depreciation. But we don't have -- we cannot give you an exact guidance on that.

I think the third-quarter depreciation was a little bit inflated because of some adjustments to our Horizon vessels that we had to make.

On the G&A side, we maintain a very low cost base and we intend to continue that. So we would not see expect to see very large increases on the G&A cost side. Of course, if that did increase, it would be as a function of increased activity level.

John Parker.

I'm a little confused on your interest expense. You disclosed in your press release a $7 million swap adjustment. But then you mentioned a $6 million adjustment in the call. And it seems that your interest expense is lower, significantly lower than the previous quarter, while your debt went up. Is there a noncash component to that interest expense in your income statement?

In the income statement for the third quarter, and then we just have to look up in the income statement, we have there, for the third quarter, we have interest expenses of $26.5 million and we also had other financial items of $14.1 million. $6 million have been reclassified, and that is part of the negative in the other financial items, and that is effectively then reducing the interest expense two lines further up.

That reduction is part attributable to the third quarter, but also partly attributable to the second and the first quarter. But the main effect is relating to the third quarter. This is relating to the accounting for the bond swap line that we had, where we, in effect, on the interest expense line we're double-counting the interest relating to the bonds held under the bond swap line.

So if you look at the other financial items, if you then exclude $6 million, you are down to $8.1 million. Of that, $7.2 million are noncash mark-to-market of interest rate swaps and also the bonds swaps. I hope that explains a little bit.

A little. So on a go-forward basis, your cash interest at these debt levels is something like $26.5 million or $26 million? I show you had $0.7 million of amortization of fees. But was your cash interest something in the neighborhood of $26 million for the quarter, or was it 26 plus 6?

It's more 26 plus 6.

Okay, so going forward, that's the levels you would expect.

Yes.

Now, of course, the interest starts to go down again. So because we have had now a period with increasing interest rates and we have seen that coming down again, so that of course has an effect there.

Yes. The Deep Sea charter revenues in September, how much was there there in September, do you know? Or when did you take delivery of the vessels?

Very late in the quarter. So not much of the Deep Sea were actually included in the third quarter.

Would you say less than $1 million?

We don't have the exact amount, but, you know, they came in very late in the quarter.

Okay. And any updates on your approach to fixing the two Suezmaxes and the five container ships that are still in your newbuilding program?

What we've seen with those vessels is that they have all increased quite substantially in value. But if you want to fix them forward, as far as, say, 2010, it's a much lower rate you have to accept than if you are closer to delivery. So, so far, we have kind of decided to wait until we get closer to delivery before we try to fix them.

And finally, this may be a question for your Board, but do you expect to see in the fourth quarter a similar jump in SG&A due to bonuses for the fourth quarter that you had last year?

That is very much related to the share price. We had a very strong increase in share price last year.

In the fourth quarter.

In the fourth -- so, you know, so it was very much related to that.

[Rick Silva].

Just one question. The comment in the highlights saying that the $15.2 million or $0.21 a share has not been recognized in the accounts and will be included in the fourth quarter, I missed why this comment wasn't mentioned in the second-quarter results. Can you explain?

In the second quarter, we changed the basis for the recognition of the profit share contribution. Therefore, in the second quarter, what was recognized was only what was accrued in the quarter, and the same has happened in the third quarter. The profit share that did accrue in the first quarter is being recognized based on the old model, and the old model was so that we could only recognize profit share contribution when the full year's charter hire for all the vessels had been covered year to date.

And the effect of that in previous years has been that in the first and second quarters, there have been very little profit share recognized, and then, virtually all the profit share has then been recognized in the third and fourth quarter. This, of course, created quite a bit of confusion in terms of what was really generated during the quarter. And that was the reason why we changed it. Because we did amend the profit share recognition in the second quarter, and as we then will recognize the profit share recognized -- accrue the first quarter based on the old model, that $15.2 million will then be added into our revenue lines in the profit and loss statement in the fourth quarter this year.

(Operator Instructions). There are no further questions. Please continue.

Thank you very much, everyone, for attending this conference call. And we look forward to develop the Company going forward and build it with new, accretive transactions. Thank you very much.

That does conclude our conference for today. Thank you for participating. You may all disconnect.