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For the past two decades, whenever China gets obsessed about an industry, it just keeps going and going. They do not care about profitability, nor who is competing with them. They simply flood the market with goods, and use the government to subsidize things, so that they can export even faster.

China has now set its sights on light vehicles (LVs), yellow machinery, mining equipment, railroad cars and a bunch of other verticals for the export market (High & Heavy or H&H) that share a unifying characteristic; they’re transported on Roll-On Roll-Off (Ro-Ro) vessels. In fact, the only thing holding back Chinese ambitions to flood the world with wheeled equipment, is the shortage of global seaborne transport capacity. As you can imagine, this has sent Ro-Ro rates into the stratosphere.

(GCC NO Q3/23 Deck)

However, the demand by Chinese auto exporters is real and they want to export far more than they currently are. We’re hearing that nearly a third of Chinese LV exports are going on containers, even though they cost about $2,000 more per car, as there’s an epic shortage of Ro-Ro vessels. Mind you, many of the cars that China is selling to LatAm and Africa are of the $10,000-$15,000 varietal, so $2,000 is quite a material hit to margins.

(WAWI NO Q3/23 Deck)

Of course, this is shipping and as soon as rates spike, a whole ton of new vessel orders show up. The global Ro-Ro fleet orderbook is equivalent to 31% of the global fleet as of the end of Q3/23, with delivery dates from 2024-2027. This sounds scary, but is mitigated by the following;

-31% represents roughly 3 years of 10% fleet growth, meanwhile Chinese LV sales are growing at a much faster clip

-There’s already a third of Chinese exports that want a Ro-Ro but cannot procure one

-Chinese are pushing hard into H&H, which will also absorb supply

-The distance from China to West Africa or LatAm is substantially further than from Germany to east-coast USA, hence Ton Mile growth will absorb a lot of the fleet

-The fleet already spends a substantial period idling due to port congestion. It’s likely that Third World port facilities will not grow at the same pace as LV or H&H deliveries, leading to more idling

-Chinese BEVs keep catching fire and burning Ro-Ro vessels (it’s become a serious issue). There’s a chance that insurers will force wider vehicle spacing, leading to the need for substantially more vessels

In summary, while 31% fleet growth sounds scary, I’m not particularly concerned. I actually think that it’s going to prove insufficient to absorb all the supply coming out of China. Remember, China just floods markets and then when the profits disappear in a glut of supply, the Chinese government comes in and lends globs of money to everyone in the ecosystem, so that production can triple again.

With that backdrop on the industry (happy to spitball in the Q&A section), let’s talk about HAUTO NO.

HAUTO NO owns 31 vessels and has 5 in-chartered vessels. Two of those vessels have purchase options, which will likely be exercised. More importantly, HAUTO has 12 new 9,100 CEU Aurora Class vessels on order with a further 8 purchase options. These are multi-fuel vessels that are rather large by industry standards, which should lead to lower per-unit costs on major trunk routes. More importantly, this should provide substantial fleet CEU growth (their average vessel is around 7,400 CEU today) at a time when rates are still rising.

Here's the interesting part, using a 88 NOK share price and a 10.75 NOK fx rate, the company has a $1.55 billion market cap, yet it earned $185.2m in Q3/23 EBITDA and Cash earnings of $181 million ($185.2m +0.9m of JV profits +3.6m of interest income -$7.8 million of interest expense -$0.9 million of taxes). Annualized, that’s $724 million and the stock is trading at 2.2 times cash earnings. It’s worth noting that the company has USD $26 million of net interest-bearing debt, which is quite under-levered for a shipping company, following two years of de-levering.

However, the important thing to realize is that during Q3/23, HAUTO NO earned a net rate per CBM of $78.5/CBM (it’s the metric they use, so just roll with it) on the approximately 16 million CBM that they control. During 2023, HAUTO NO signed long-term agreements for 3.1 million CBM at a net rate above $100/CBM (sure wish disclosure was better) and with an average duration of 4.4 years. During 2024, 5.4 million CBM will re-price that currently have an average net rate below $50/CBM. This is big upside to pricing. There will be further upside when a few million CBM in contracts re-price again in 2025, these CBM also have a rate below $50/CBM. We can see this working through the numbers in real time when looking at the October update. Average net freight rate in October was $84.5/CBM, and the 3-month trailing net freight rate was $80.9/CBM, up from the Q3 rate of $78.5/CBM.

While the disclosure here is abysmal (mainly to protect themselves in negotiating), the overall trend appears to be higher. More importantly, with contracts of 3-5 years, you have decent visibility into future earnings, unlike with shipping companies that operate purely in the spot market, though HAUTO NO still does 30% of their business in the spot market. I think it’s safe to say that if 2024 contract negotiations turn out similarly to 2023 negotiations (and all indications are that rates are still increasing), then HAUTO NO is trading for somewhere around 1.25-1.75 times run-rate cash flow with about 3-years average visibility into that cash flow. Effectively, the EV is less than the contracted cash flow, and then you’ll still own a fleet with almost no net debt, with well over a decade of useful life in a reasonably worst-case scenario. Naturally, I’m the optimist and think that things continue to improve, with charter rates at an elevated level for well in excess of the current round of 31% fleet growth that is completed by the end of 2027.

So, what will they do with the cash?? To start with, they’re currently paying 50% (of earnings, not cash flow) out to shareholders in dividends. They paid 4.1 NOK per share in Q3, or a 18.2% dividend yield. I tend to think that the payout ratio improves to 75% of earnings (not cash flow) and the cash flow also improves. I could easily see how they can support a 10 NOK quarterly dividend (44.4% yield) along with exercising their remaining vessel purchase options, along with funding the full 20 vessel fleet order, with cash still building on the balance sheet (remember there’s only $26 million of net debt today).

In summary, Ro-Ro vessels are over-earning, I think they’ll continue to over-earn for many years into the future as 31% fleet growth appears insufficient for what China has planned with LVs and H&H exports. This fear of the orderbook has kept the EV of HAUTO NO below what the likely contracted cash flows are before most of these vessels are even delivered (in case it turns out I’m wrong here).

Ro-Ro vessels will eventually destroy hopes and dreams as the fleet continues to expand into the end of the decade, and crushes charter rates, but I think I clip enough dividends before then, that I can laugh to the bank…

Catalyst

Dividend payout to 75% vs 50%

Continued cash flow increases