Scorpio Tankers Inc (STNG) 2017 Q2 法說會逐字稿

Hello, and welcome to the Scorpio Tankers Inc.'s Second Quarter 2017 Conference Call. I would now like to turn the call over to Brian Lee, Chief Financial Officer. Please go ahead, sir.

Thank you. I thank everyone for joining us today. On the call with me are Emanuele Lauro, our Chief Executive Officer; Robert Bugbee, President; Cameron MacKey, Chief Operating Officer.

The information discussed on this call is based on information as of today, September 18, 2017, and may contain forward-looking statements that involve risk and uncertainty. Actual results may differ materially from those set forth in such statements. For a discussion of these risks and uncertainties, you should review the forward-looking statements disclosure and the earnings press release that we issued today as well as Scorpio Tankers' SEC filings, which are available on scorpiotankers.com and sec.gov.

Call participants are advised that the audio of this conference call is being broadcast live on the Internet and is also being recorded for playback purposes. An archive of the webcast will be made available on the Investor Relations page of our website for approximately 14 days.

One final note here before I turn it over to Emanuele, if you have any specific modeling questions, you can call me, and we can discuss it off-line.

Now I'll introduce Emanuele Lauro.

Thank you, Brian, and good morning or afternoon to everybody. Today, we're discussing the second quarter results later than usual because of the merger announced back in May. As you have seen from our announcement earlier this month, the deal has now closed effective September 1, and we're very pleased with it. I'd like to thank our team who has done a tremendous job over the summer to combine both companies, and we must also thank the lenders who had supported the transaction and Navig8's management, which has been handling the merger professionally and cooperatively.

Now the focus can go back to running the day-to-day activities of the company whilst we're taking delivery of the remaining vessels, which are still under Navig8's control. We expect this to happen during the first half of the fourth quarter.

As far as the product tanker market is concerned and at the risk of sounding like a broken record, we remain optimistic on the product tanker market outlook with the fundamental drivers of our markets that have remained largely unchanged. We expected demand growth actually to overtake supply growth in the second half of this year, and this is happening with demand setting itself around the 4% mark and supply being between 1% and 2% going forward. We believe this is creating the conditions for a return to a stronger charter rate environment. Of course, the oil market dynamics and the inventory levels across the U.S., Europe and Asia will play an important role on when exactly this market will finally turn. But being already in positive territory makes us believe that it shouldn't take us too long.

With this, I'd like to turn the call to Robert.

Yes. Thank you very much, Emanuele. So I think that we had delay here in the earnings, but -- so we're pretty well through the third quarter as people can see from the guidance. It's pretty constructive what we're seeing in the third quarter in terms of the overall inventories coming down. As Emanuele said, the demand going upwards and we're looking forward to turning the -- turning into the more seasonally strong phase and getting rid of what is the weakest part of the year, combined with the expectation that we're continuing to see. The world inventory is coming down in products, which will be good for trade. And I really don't have anything more to add, so we're happy to open up to questions here.

(Operator Instructions) Our first question comes from the line of Gregory Lewis with Crédit Suisse.

This question is probably for Cameron or maybe Robert, but clearly, we've had some continued disruptions in the Gulf of Mexico with some weather disruptions, hurricanes as well as on the other side on the Pacific with hurricanes in Mexico -- I mean, I'm sorry, the earthquakes in Mexico. Could you just provide a little bit of what you're seeing in the market on just -- are you surprised that at the softness or tightness, given what has been clearly a disruption in and around the Caribbean?

Not really. You've taken out the ability for short term. It's coming back to normalcy as we go along. But you took out the ability of the U.S. Gulf to export products, so you would have -- naturally mean you'd expect that the TC14 trade, U.S. Gulf out would be very weak. And you would expect some strength, which is what we had on cargo going into Europe. You would also expect what we are seeing, which is a much stronger Pacific route where you've got cargo that is -- where Mexico and South America are in the West Coast of the Americas, are picking up the lag of cargoes that would normally get from the U.S. Gulf they're having to take from the Far East. So you've kind of got what you would expect, which is a much healthier market East of Suez, as a result of the hurricanes. And that is coming on top of, as Emanuele was saying, a market that's growing, that the economies are accelerating fairly fast. And the weakness, the weakest place in that market is U.S. Gulf out. As far as the product market in total is concerned, it's a plus. I mean, the world of the product market is U.S. Gulf out is just one piece of the pie. It doesn't affect the LR1s. It doesn't really affect the LR2s at all in a negative way.

Okay. Great. And then just one more for me, more shifting to sort of the strategy. I mean, I guess, congratulations on the acquisition of Navig8. I mean, clearly, this puts you as the largest product company out there in the world. Just as you think about positioning STNG over the next 6, 12, 18 months, I imagine a lot of that has to do with how the rate environment progresses over that period of time. Could you talk a little bit about how you think about capital allocation and taking some of that cash potentially that the company earns to sort of position the company in the medium term?

I think that's a question that's going to become sort of more appropriate when we get into the third quarter earnings conference call, which will be roundabout the -- in a month or so, 1.5 months from now, where we're turning into the winter. You've actually really absorbed the Navig8 position. You guys can see the balance sheet is in the third quarter. And hopefully, what we expect at that point is that you've got rates that are substantially positive in cash flow. And I think I should leave it -- I would leave it at that. I mean, the company is basically not going to really do much within the next 30 days other than operationally as we -- as Emanuele said, take control delivery of the remaining Navig8 fleet. And probably Brian will be doing something on the financing. And then we'll get into the capital allocation question come November, hopefully.

And our next question comes from the line of Jon Chappell with Evercore.

Four months ago seems like a lifetime when the Navig8 acquisition was announced. So I just want to kind of refresh around 2 things. Number one, can you just remind us of the rationale for that acquisition and the timing of it? And then two, how do you kind of see the capital structure now that everything's been integrated or not technically integrated, but the merger's closed and you've kind of flushed out all the different credit facilities and bareboat agreements, et cetera?

I think the rationale remains the same, which we're happy, is that the Navig8 fleet was the only fleet in the world that, firstly, was -- that was on the water that was newer than the Scorpio Tanker fleet. And that -- and the Scorpio Tanker fleet is a very, very modern fleet. The second thing is it was a fleet of size. The third thing is it was extremely synergistic in terms of it was sized in our areas and in the larger vessels that we think are going to be that next point of market inflection as you get over this pause in Asian strength and Asian refineries coming on, which we're already seeing. The Asian market is the strongest today. And those are the synergies. I mean, it's just very, very easy. It's not very easy on any graph in terms of fleet profile, age, quality. They're coming from yards that we've built it in STNG. We're very familiar with the fleet. We ourselves actually technically manage some of their vessels. So it's not that difficult to integrate this fleet into our operation. The second question, I think, is probably left to Brian. I think -- I'm not sure you will have a -- as I intimated to the last question there, he'll still be spending the next 30, 40 days going through things precisely. But he can give you a general answer, I guess.

Jon, just can you give me the question again?

Just -- so you've obviously doubled down on the operating leverage through the acquisition, hopefully, at the perfect time in the cycle. But just on the capital structure too, how does your kind of financial leverage sit today relative to pre-acquisition? And do you feel comfortable with that?

That I can deal with. We haven't -- you haven't doubled down on your financial leverage because the deal was fundamentally structured in acquiring the company through the Navig8 shareholders taking STNG shares. And the company did an equity offering back in May to -- of $200 million to create the same type of capital structure, if not stronger. So in the front end of STNG, you have a -- in many ways, you have a surplus cash at the beginning. You're quite cash strong here because you've taken it on with all the expectations of the liabilities of the company and the position. So you haven't altered to the negative the actual financial leverage of the company. Some sense is you could argue that it's stronger because we anticipated or allowed for whilst the world is doing its energy drawdown of inventories, which we're really encouraged as to how it's happening in the products. And if anything, that's what these hurricanes in the Gulf have done is it start to normalize. The only place sort of 2 months ago or a month ago that really had excess inventories was the United States. And we took substantial cash to the front end of the balance sheet.

Yes. And my last question, Emanuele, I can relate to the boy who cried wolf, and I feel like we've been in the same boat, no pun intended, waiting for the market to recover. And these inventory numbers are certainly encouraging. I think the EIA said last week OECD is only 35 million barrels above the 5-year average, so it seems like we're getting really, really close. And it seems like some of these spikes that we've seen in the market, whether they were storm related or just kind of disruption related, shows that the market is pretty tight. But then they also seem to be pretty short-lived. So why are these spikes, why are these periods of tightness in the market kind of reversing so fast? And does that kind of concern you about the supply side of the equation relative to what's finally working on the demand side?

I don't think that long term, this is a concern. I just think that, realistically, what has happened and the reason why the spikes have been short-lived is because the supply side was not balancing itself out. So on the shorter term, yes. Over the summer, we were expecting a stronger market. The supply side came into balance already towards the beginning of the summer. There has been some scrapping as well on the MR front, which is not extremely meaningful, but it's good actually to see people scrapping MRs. I think there have been 10 ships, which have been scrapped, over the 24 ships, which have been delivering in -- or were expected to deliver between June and December. So longer term, I'm not very concerned because I'm actually looking forward to see once the balance on the supply side has been reached, you know some proper fundamental driver that takes this market along. So that's the expectation more than a concern.

Jon, I would add here, though, look, if you're going to look at it -- if you're having spikes in July and August and September, that's great, the fact that you're having spikes at all. So it's great to have the spikes rather than being disappointed that the spikes are being sold off because they're bound to be sold. If you take this sort of -- the great thing is the Asian market is actually being sustained. If we kept away a little bit from the love of the United States and everything within the New Jersey shoreline here, we would look at the product market as being pretty strong. The strongest now for -- is for probably over a year in the East of Suez, in our Far East market on MRs. In the Western part, of course, it's a spike when you have the fear of what you just went through with these 2 hurricanes. You're going to get traders run it high and too high.

And our next question comes from the line of Noah Parquette with JPMorgan.

I want to ask, last week, we saw the VLCC taking diesel from Asia to Europe. And we've seen a few of those things over the last 6 to 12 months from the newbuild ships and their first cargo. One, I would just love your thoughts on -- has this taken any sort of demand from your business? And two, is this something that can normalize onto a typical product tanker in the future? Or is this going to be a one-off?

I mean, I think it's normal that VLCC is where the economics allow or Suezmaxes or Aframaxes on their first cargoes out of the yards, we'll take those cargoes where they can. So it's a little bit difficult to sort of say, oh, they're stealing the product tanker's cargo because it's just so traditional. That's happened for old times they were.

It's difficult for traders to put together the stems to fill in a VLCC at times. So it's not immediate, but I agree with Robert. This is not news to shipping. This has happened. And yes, I mean, of course, if they weren't, VLCCs or Suezmaxes with virgin tanks, these cargoes would go on LR2s. So for sure, it's impacting, but it has always been the case.

Okay. I mean, Chinese refinery capacity is new in terms of its demand, so I wonder if that had any effect. But -- and then second, just, Brian, crude expenses was $30 million inflow this year -- this quarter. What drove that? And is that going to be reversing?

The crude expenses went up just for items that were -- that came across with the merger and things like that. And it's also when you get a fleet this size, it's going to grow up. It's going to get bigger, too. So we can go over that later, if you want.

And our next question comes from the line of Magnus Fyhr with Seaport Global.

Most of my questions have been answered, but just maybe a question on the fuel savings on your ECO ships. With the upcoming regulations around the corner on low-sulfur fuel, can you just kind of share with us what your experience has been with the fuel savings, both on the LR2s and the MRs?

Magnus, it's Cam. If we go back to our discussions in years past, not much has changed. So we're still at that 5 to 7 tons for an MR and a correspondingly higher number for the LR2s. That hasn't changed. Of course, what has changed is the absolute price of fuel that comes down. Now I would say that it's a bit early despite all the talk to predict exactly where the spread in fuel goes around 2020. Our experience with ballast water treatment systems makes us a bit skeptical or cynical about the phasing in of those regulations. But so far, it appears that they're coming, no doubt, and the deadline won't move. The relative demand for diesel versus heavy fuel oil and how owners choose to respond, whether through scrubber technology or paying for more expensive fuel, remains to be seen. But where we are is, given the nature of our business being largely a spot business and the nature of fuel expense largely being priced into gross freight, we are expecting our, say, ECO advantage or fuel efficiency to carry into the sort of post-2020 world, i.e. higher newbuilds mean higher savings for us.

And do you guys -- I mean, if -- I mean, we're all expecting product tanker rates to move up here in the fourth quarter. If they don't, and we sit here 3 months from now with rates at current levels, so would you consider trading your product tankers, your LR2s dirty? And do you currently have any trade in crude oil?

There are 5 LR2s out of the Navig8 fleet that are currently trading in crude, and we are inheriting those 5 ships only as trading in crude. We will continue to trade them in that market for some time. But as and when the opportunity comes to clean them up and trade clean cargoes alongside the rest of our LR2s, we'd expect to take that opportunity. As we've said in previous calls, it's costly and long and risky to clean up ships once they've gone dirty. So it's not a process we take lightly, but the underlying fundamental tells us that the right thing to do as and when we can take those voyages rather than leave them trading -- trade with crude.

I think once -- I just want to say -- interject here. Once things are in the long term and the fundamentals isn't being covered in questions on this call is and it's slightly -- is the strength of what we're seeing in the dry cargo market and the related commodities. That strength is really just another confirmation of the world economy. It's very comforting in seeing the strength of dry cargo for 2 reasons. One, all of the cycles that have really been there for the last 40 years, being the product market, have really started or been proceeded by the dry cargo market moving upwards. And that's pretty logical as it's a key indication of -- for starting of world growth. Secondly is, especially today, that dry cargo -- as that dry cargo market strengthens, your ability, your chances, you're elongating the strength of the product market by definition because it's those yards, those few yards that can build both quality products and dry, it's great for the product market if the dry cargo market is strong. And the dry cargo market is probably stronger than most people would expect at the moment. So that's a good thing that I just wanted to cover in this call.

And our next question comes from the line of Ken Hoexter with Merrill Lynch.

Robert, can you just talk about the process of moving the vessels into the pool? Is there anything we should expect in downtime of switching anything over during this quarter? I guess, I don't know if that's the third quarter or if that moves into the fourth quarter when you fully convert.

This is Cam. Nothing we expect out of the ordinary. It's actually a relatively simple process, switching from one pool to another. Naturally, when that occurs, we're usually going from a discharge range to a loading range. But in the context of the larger Scorpio pools, we don't expect that to be a material sort of change of results. One other note, as it's something we discussed in the past, when ships change technical managers, they lose their oil major approvals. So it's a bit of a trick and something you want to plan rather carefully how and when to change technical management to minimize that time where you don't have oil major approvals. And that's something that we continue to work on with Navig8 to coordinate effectively.

But so we should not see then, Cam, any kind of impact to vessels being down in between, you'll -- within the quarter to just be smooth?

It's not -- like I said, in the context of the company and the number of ships we already operate, you shouldn't see that have a material impact.

Perfect. And then with the transaction, was there any kind of standstill of Navig8, I don't know, taking money and going? It seemed like there a lot of press about them going and buying more product vessels, which would kind of maybe impact some of the supply-demand balance if they're going to reinject capital right back into that market. Is there any thought on that? Any kind of standstill?

Well, Navig8 doesn't exist now.

And managed by the owners?

The owners can -- they can do what they want. I mean, your owners are -- I'm very sure by the amount of volume that's being traded in STNG that a number of the funds or the PE, the holders of the holdings of STNG, have sold in the last few days as we closed or -- and are selling. That will come, I would think, but to a pretty -- that's going to shortly finish by looking at the volume. The second aspect is the Navig8 managers. Yes, they can go and do that. They can take their equity and they can set up stuff. There's no standstill against that.

Okay. And then I just want to revisit the first question. I think it was Greg's question. But just when you were talking about the storms, do you felt like we took down some of that excess supply that was out there? I know, Brian, we had talked about that before, but do you think are we resetting on some of that balance given the local usage of the excess supply? Or was it not long enough of an impact?

No, I think we're taking it down. We're taking down for -- on a world basis. We're taking it down and the kind of the clues to that is the strength that we're seeing ex Asia at the moment. And you're seeing pricing strength. This other part of it, you're seeing general pricing strength across the board, right, whether it's in -- you're seeing a little bit more strength in this last 3, 4 months in crude, in LNG, in products, across the board here.

And our next question comes from the line of Ben Nolan with Stifel.

So sort of piggybacking on one of the last questions there. In terms of the integration of the Navig8 vessels, and this is a little bit more thematic and maybe how you would view your competitive position, do you think -- and I know that they're relatively low barriers to entry in this business and it's relatively commoditized and hard to get economies of scale, but you guys are very solidly now in a position as the largest product tanker operator. And especially given the pools, is there a point at which you think you can definitively be able to outperform the market as a function of your scale from a charter rate perspective? Or is that still something where the market is too fragmented in the first place?

Can't really call it a market. I mean, it's difficult, right? I mean, some if you take the LR2s market, on most of the indexes, we've outperformed that. We've already had enough scale to outperform that. And so you would expect to add to that now. On the MRs, the market, I mean, we have a big pool in the MRs. There are lots of people who have joined our pools. So I assume, as they're free to come and go, that over the years, they've joined and stayed in our pools because we do at least or better than the average, i.e. the market. It's just that you don't have many tools. You don't really have proper tools out there to measure what the market is.

Right. No -- and yes. And obviously, we've talked a lot about that over the years. And I guess my thinking is -- or really the point of the question is, how much would you say the integration of these additional vessels enhances your competitive position or...

Well, I think in the LR2 market and the LR1 market, which is a market that's, especially with the modern ships, that's already fairly consolidated. Those -- the LR2 market is not like the MR market or the Aframax market or the bulk market, I mean it's pretty consolidated already. So I think it's really -- we have a lot of good hopes in being able to better service the customer with this greater percentage of assets that we have.

Okay. And then another question. This goes to -- there was a little bit in the press release about having 5 vessels that were drydocked and a little over $1 million a piece in terms of the drydocking cost. Was that -- which to me sounds a little bit higher for a special survey. Was there ballast water treatment installed or something like that or how should we think about what maybe the CapEx for drydocking will be going forward?

Ben, it's Cam. I think the way to think about these particular vessels is 2 things happen, which are extraordinary or conditions persisted, which are extraordinary related to these, but we don't think will be reflected in the ongoing drydockings. But the first one has to do with the trading pattern of the ships and the trading activity of the ships, which incurs a lot of time and let's call it, wear and tear based on what they've been doing for the last 5 years. And so we'd expect that to be reflected in the higher drydocking bill around -- for special survey. The second and related factor has to do with where they were drydocked, which is largely in the West, where you have higher labor and fixed cost in repair yards, which is obvious. So in the future, we are looking at the ongoing schedule and seeing that this is not something we'd expect again. Most of the ships will be drydocked out in the Far East where costs are quite a bit lower.

Right. Okay. And then the last one for me is sort of tagging on with Magnus' question about the LR2s and the crude fleet. And Cam, you did an excellent job of sort of identifying exactly what's what and where it's going and so forth. But I did notice that it looks like there is now a Scorpio -- maybe I'd missed this in the past, but a Scorpio Aframax pool. Is that -- I don't know, is that something that we should expect to see growing into the future?

Not with the current fleet of assets.

No. We think the returns are going to be, as Cameron said, are going to be better in the LR2s. It's just simply that we've inherited the -- that when these particular ships that STNG owns with those assets, we've inherited that position from the Navig8 position. And it will -- Cameron's saying that to do that job properly, even, I mean it's virtually impossible for older ships to come back into the clean market effectively. And he's -- what Cameron is saying is that he is going to try and roll them back into the clean trade, but do it in an efficient manner as he can.

Right. Right. So there's no corporate strategy to have an Aframax angle or anything like that?

No. I mean, the Scorpio whatever -- Scorpio management has had an Aframax pool and traded Aframaxes for quite some time. And STNG has been around for sometime and hasn't had any Aframaxes.

And that concludes the question-and-answer session. I'd like to turn the floor back over to Scorpio Tankers for any closing comments.

I'd like to thank everyone for joining us today. We look forward to speaking with you very soon. Thank you.

Thank you. Ladies and gentlemen, thank you for your participation in today's conference. This does conclude the program, and you may now disconnect. Everyone, have a great day.