Description

We believe there’s an opportunity to earn equity-like returns with downside protection through the Floatel Super Senior bonds.

Bond specifics:

Issuer: Floatel International Ltd

ISIN: NO0012862673

Amount: $100 million

Last Price: 100.5

Coupon: 11.25%

Maturity: 03/23/2026

Rank: Super Senior Secured. “Super Senior” means that it’s pari passu with Floatel’s 1L bonds if there’s no default. If Floatel defaults, all cash goes to the Super Senior first then to the 1Ls.

Collateral vessels: all 5 of Floatel’s accommodation vessels, and any additional vessel acquired by the Group  

Yield to Worst: 11.15%

Why the opportunity exists:

Similar to other oilfield services names, a combination of a restructuring and reduced access to capital is what creates this opportunity for investors. In March 2021, Floatel restructured and emerged with a $100 million Super Senior Revolving Credit Facility (SSRCF, L+725, 3/24/2024 maturity with reducing commitments in March and September 2023). Keppel Offshore Pte Limited, part of the Keppel Group and 49.9% owner in Floatel, helped secure the financing through Clifford Capital, a bank created by the Singaporean government to help domestic industries. Keppel Group also took on some of the credit risk.

In October 2022, Keppel Group agreed to sell its offshore business. Keppel retained its 49.9% stake, but Floatel lost its access to the Singaporean banks. At the end of 2022, $55 million was drawn on the Super Senior Revolving Credit Facility, and Floatel had to address the upcoming March 2024 maturity of the SSRCF. Traditional European banks have essentially stopped lending to the offshore space, so Floatel had to turn to the bond market. While that market is open, the cost of capital is high, and it’s not that deep as many investors can’t participate due to ESG limitations. Furthermore, Floatel is a small issuer, and the accommodation vessel market has yet to tighten and turn cash flow positive, but we believe that’s around the corner. Floatel tapped the bond market for $100 million in March 2023 and issued this Senior Secured 1L Bond.

Company Description:

Floatel owns 5 high spec. semi- submersible accommodation vessels. They’re basically floating hotels (thus “Floatel”) that hook up to drilling rigs and house employees while the rigs operate in a field.

Four of Floatel’s rigs are designed for harsh environments, which is a segment with higher barriers to entry. One of the vessels works in Australia. Another operates in Brazil/US Gulf of Mexico and two are in Norway. The 5^th rig is cold stacked in the Canary Islands.

We believe the accommodation vessels are late stage in the oil cycle. Their customers, drillers, have recently started seeing tightness in their markets as utilization rates rise. They’ve been busy signing forward contracts and bringing back some rigs into the market. It is our view that this will help the accommodation vessel market in the future.

Valuation:

In addition to the $100 million Super Senior Notes, Floatel has $100 million in 6.00% cash pay 1L bonds and $100 million in 10.00% PIK 1L bonds ($20 million in accrued interest).

PF Balance sheet:

$40 million cash at end of 1H 2023

$100 million Super Senior Bonds

$100 million 1L Bonds – 6.00% Cash Pay due 9/24/2026

$120 million 1L Bonds – 10.00% PIK due 9/24/2026

We think you’re well covered from an asset perspective. Construction cost was nearly $1.6 billion, which implies <10% LTV for the Super Senior Bonds and ~20% LTV for Group level debt.

Peer ProSafe (Ticker: PRS NO) has an EV of $460 million. We view ProSafe’s fleet as less high-spec than Floatel’s. To make cross company comparisons, brokers use an EV per high-spec vessel equivalent metric. Brokers estimate the market is assigning ProSafe ~$100 million in value per high-spec vessel equivalent. This would imply ~$425 million in equivalent EV for Floatel (4 high-spec working vessels + 0.25 for the stacked one), which is an LTV of 24% for the Super Senior Bonds and 75% for the Group level debt.

Market Outlook:

This is where we see some hair to the story. The supply of accommodation vessels has declined due to the prolonged oil bear market. Recently, E&P spending has been rising, which is good for Floatel. Market utilization rates have risen.

Source: ProSafe March 2023 Corporate Presentation

Floatel has also seen its fundamentals improve:

However, there’s been an absence of activity in the North Sea while other geographies are seeing strong demand. This is a problem for Floatel and ProSafe, which each have two vessels in that area. Contracts in the North Sea are usually short-term (typically 2- 7 months in length), have limited visibility, and are concentrated around the summer months. People were cautiously optimistic that there’d be some demand in the North Sea in 2023 to keep vessels working, but it looks like the deep, harsh environment accommodation vessel market will be really quiet.

We’ve spoken with numerous companies about this, and no one has a great answer why the North Sea is so weak. Some point to oil majors prioritizing other geographies in the near-term. Others point to the UK windfall profits tax on O&G companies for suppressing demand. Others blame supply chain and labor tightness for delays in projects in Norway.

Regardless, this is pressuring results for Floatel in the near-term. The company expects EBITDA to fall 50% from 2022 levels and that it will burn cash in 1H 2023. We think Floatel has the liquidity to get by, but it’s going to be tight. The market is rightly concerned, but we like the asset support in the Super Senior Bonds.

Eventually, we think the North Sea market will pick up. With limited supply of accommodation vessels in the market, it doesn’t take much for things to tighten. Norway passed tax incentives for projects sanctioned before the end of 2022, and that led to a rush of projects being filed. It usually takes a little over 12 months to go from sanctioning to project start, so we think these projects will start to come in 2024. The UK is a bit of a wildcard and it’s hard to call what will happen there. However, we believe a rising tide lifts all boats, and a healthy oil price will lead to greater drilling work in the North Sea.

Summary:

We believe the Super Senior 1L bond is attractive with double-digit yields. We see a lot of asset coverage for a scarce asset. While the near-term outlook is pressured, we think the market will improve. Meanwhile there’s $220 million of more junior debt and a strong equity holder behind you. Management also owns 10.0% of the company. Lastly, you could earn a better IRR if the market improves, Floatel secures contracts, and the company refinances and pays you a make-whole (A make-whole is payable during the first 24 months, thereafter the bonds are callable at par plus 1/3 and 1/6 of the Interest Rate after 24 and 30 months, respectively. The bonds are callable at par after 34 months.).

Catalyst

Timely payment of principal and interest