Description

Overview

We recommend the stock of Navios Maritime Partners L.P. (NMM), which we believe could easily double from here based on the company’s unique structural advantage and “green shoots” of industry recovery.

NMM is part of the Navios Maritime Holding (NM)—a far-reaching (albeit structurally complex) shipping business headed by well-regarded CEO, Angeliki Frangou.

By way of background, Navios Holdings directly owns and operates shipping assets, including 64 dry bulk vessels (38 owned and 26 chartered-in) and holds stakes in a range of affiliated shipping companies. NM holds 46.1% of publicly listed Navios Maritime Acquisition Corp (NNA), which focuses on the tanker market (26 product, 8 VLCC and 2 chemical tankers). In turn, NNA owns 59% of Navios Maritime Midstream Parnters L.P. (NAP), also publicly traded, that owns/operates crude tankers (eight VLCC’s) under long-term charters.

NM additionally holds 63.8% of Navios South American Logistics Inc. (not separately listed), which owns port terminals and barging operations (think Jones Act) in South America. (This South American asset is interesting, and provides optionality to the NM story, but that is for another write-up perhaps). The Navios family have also recently entered the container market through Navios Maritime Containers (more below), which is traded over-the-counter on an Oslo exchange.

Ms. Frangou owns 27% of NM and exerts effective control of the company. While the shipping industry is populated with managers of questionable regard (e.g. George Economou) Ms. Franguo has a strong reputation as an operator and as an allocator of capital. As testament to her market acclaim, the creditors under the Navios Holdings Term Loans wrote into the credit agreement the ability to execute a default notice if Ms. Frangou’s ownership drops below 20%.

Investors need not understand the intricacies of the Navios complex to appreciate the Navios Maritime Partners story. However, this high-level overview underscores a key element of our bullish thesis: Navios has deep expertise in shipping, which yields operational advantages to NMM as well as access to deal flow that can help Maritime Partners continue building Enterprise Value.

Additionally—as the satellite of related entities highlights—the alchemy of Navios entails its expertise in financial engineering; Navios has built an impressive track-record of tilting between equity and debt markets to capitalize on funding opportunities to build Enterprise Value.  NMM’s very existence underscores this dynamic, as NM created the entity to capitalize on formerly robust MLP multiples. While MLP’s subsequently collapsed (for reason well beyond Navios’ control, obviously), it nonetheless highlights the company’s financial acumen; they tapped a hot market at the right time.

Overview of Navios Maritime Partners (NMM)

Digging into the Navios Maritime Partners story more specifically, NM owns an 18.9% LP interest (and 2.0% GP stake) in the company. NMM owns 37 vessels: 13 Capesize, 14 Panamax and three Ultra-Handmax Dry bulk ships as well as seven Container ships. NMM additionally owns 59.7% (and warrants for an additional 6.8%) of the Navios Maritime Containers entity (referenced above).   

NMM is structured as an MLP, but the company suspended distributions after the fourth quarter of 2015 amid a crash in Dry Bulk rates. Not unexpectedly, the company’s shares have spiraled from the $13 context in mid-2015 to the ~$2.00 vicinity today. We believe the company is now well positioned for a turn-around.  

Improving Macro Backdrop.

The BDI has shown some signs of life in 2017, with 1Q17 average 1,297 up markedly (3x) from 1Q16 average of 429. The market has given back some of this strength (as highlighted below) with July 2017 average of 946 up only 45% over July 2016 average of 656:

This cool down may, paradoxically, end up benefitting the market over the intermediate term.

In short, after years of seemingly irrational building, the Dry Bulk order book appears vastly improved starting next year.

h/t JP Morgan

Source: Navios lender presentation

The modestly cooling of BDI will hopefully prevent a year-end rush of new order that could throw the market out of alignment, yet again.

Iron Ore Market. Iron Ore flows are the cornerstone of the Dry Bulk industry, of course. Inventories at the Chinese ports remains stubbornly high, but imports remain robust nevertheless:

Source: Bloomberg

Source: Bloomberg

http://bit.ly/2vilFYs

Source: Navios lender presentation

Coal market. Coal fundamental remain firm as well, as Chinese coal inventories have steadily declined and imports have remained robust:

Source: Bloomberg

Source: Navios Investor Presentation

Ton-miles have gotten a boost from recent heighted tension related to North Korea. In Feb of 2017, China halted imports of North Korea coal as part of UN efforts to halt the country’s nuclear ambitions (http://nyti.ms/2lugoLp):

Source: Bloomberg

The initial UN resolution, first adopted in November 2016, sought to limit North Korea’s exports to 7.5mn metric tons of coal a year. In early August, (8/5/2017), the UN voted to heighten restrictions, banning the export of certain key commodities—most notably, as it pertains to NMM at least—coal and iron ore (http://nyti.ms/2vxzXb7). The backfill of these North Korea tons, likely from North America, will result in great shipping miles.

Operational advantages

Beyond the slowly improving macro backdrop, Navios Maritime Partners also has a number of compelling operational advantages:

Attractive Opex. As highlighted in the Overview, Navios oversee a broad shipping conglomerate, which generates scale advantage for both the parent and its related entities. Specifically, NMM has a management contract with Navios Holdings to provide all operational services to its ships (Opex and G&A) at a fixed price, below industry average:

Source: Navios Investor Presentation

NMM believes this attractive operating contract yields average savings of $7.6mn per year, which, on a $284mn market cap business, is not trivial. The current contact remains in place through the end of this year. While we expect consistent increases to these rates, we are not wildly concerned about a principal/agency risk of the parent moving these rates to level uneconomic levels for NMM. NM (and more importantly Angeliki) has an economic incentive to share the parent’s scale advantages across the platforms.  

Pipeline to build fleet. Again leveraging off of the expertise of Holdings, NMM has access to an impressive pipeline of deal flow, helping it grow its fleet. In April 2017, the company acquired two panamax vessels for $27mn, which (based on spot prices at the time) the company projected would generate $4.6mn of EBITDA. Additional recent transactions include, a 2010 Cape for $27.5mn in April 2017, a 2009 Cape for $28.3mn in May 2017 and 2011 Cape for $31.05mn in May 2017 as well. (More details on the container acquisition below).

Access to capital. Partners has financed these acquisitions through a range of bank financings, including a March 2017 $32mn facility with DVB Bank maturing in 2020 at a rate of L+310bps. In June, the company entered into a $32mn facility with BNP to fund the purchase of the Capesize ships the Navios Ace and Navios Sol, at an implied LTV of around 50%.  

Navios also has access to the broadly syndicated loan market, further diversifying its sources of funding. In February 2017, the company issued $400mn of L+500bps (1% floor) Term Loan B (B3/B+) and then issued at $53mn tack-on in August 2017 as well. The LTV on this Term Loan, pro forma for the add-on, was 65.2%. Outside of the debt markets, in March 2017, NMM issued 47.8mn units at $2.10 a share, raising ~$100mn in proceeds.

Broadly, NMM has both the deal flow and access to capital to continue growing its fleet size, and, in turn, Enterprise Value.   

Asset Value

We are also comfortable with NMM from an asset value standpoint, estimating the net asset value of the company at $2.06/share under current market rates:

We would note that our asset value calculation reflects current market prices and would expect significant upside when the market tightens.

Strong balance sheet

Unlike many of its peer in the shipping industry (its parent NM included), NMM enjoys a solid balance sheet. Pro forma for its most recent tack-on to its Term Loan, NMM has net leverage of approximately 4.0x. We view this as an attractive level of leverage for an industry nearer the troughs of the cycle than recent peaks. Additionally, NMM has a reasonable amortizations profile, with no major maturities until 2020:

Source: Navios Investor Presentation

A strong balance sheet should enable NMM to grow as the market recovers while limiting downside should the recovery fail to take hold. In short, this balance sheet will allow NMM to wait for the shipping market to eventually recover.

Container optionality

In a series of transactions in the Spring/Summer of 2017, Navios Maritime Partners agreed to acquire a fleet of fourteen Panamax container vessels from Rickmers Group, a now defunct German ship owner, for total purchase price of $118mn. Commensurate with these purchases, Holdings formed Navios Maritime Containers (Navios Containers), which Partners, in turn, transferred the fourteen ships into.

To fund the deal, Container entered into two loan facilities of up to $61mn. Additionally, in June, Containers completed a private placement of 10.1mn shares at $5.00 per share, generating $50.3mn of gross proceeds. Maritime Partners invested $30mn in exchange for 59.7% of Navios Containers equity (plus warrants for 6.8% of the equity) and Navios Holdings investing $5.0mn for 10% equity (plus warrants for 1.7% of the equity). Navios Containers trades over-the-counter on the Norwegian exchange under the ticker NMCI.

Broadly the container market has struggled in recent quarters due to overcapacity, muted demand and, most importantly, a structural shift in the market with the completion of the Panama Canal expansion. With the new locks, the Canal can accommodate Container ships up to 13,000 TEU’s versus the former limit of 4,500-to-5,000 TEU vessels. This change (not unexpectedly) has impacted the market structure, by cutting demand for the former Panamax Max; since 2015, 88% of the 4,000-to-5,100 TEU vessels scrapped have been Panamax Max.

Navios Container, however, focuses on relatively smaller vessels—a segment of the market which enjoys more attractive fundamentals:

Source: Navios Container investor release

These smaller vessels have entered into new market segments, including Africa and Intra-Asia where port infrastructure eliminate larger and deeper vessels. Ships from 2,000 to 5,100 TEU have seen an increase of 82% since 2013 of deployment on Intra-Asia trade lanes:

Source: Navios Investor Presentation

The size of the fleet in this segment of the market has continued to shrink as well:

Source: Navios Investor Presentation

Despite Navios Containers relatively attractive positioning, the Container market remains challenging. We therefore view NMM’s nearly 60% equity stake in Navios Containers as little more than a non-expiring option, but one in which the long-term holder will eventually capitalize.  

Attractive Cash Flow

A constructive view of Drybulk fundamentals is, of course, at the foundation of our NMM thesis. Despite the improving outlook, we nevertheless are attracted to Navios Maritime Partners’ use of Time Charter contracts to limit downside.

At the end of the second quarter 2017, NMM had locked 87.5% of its 2017 and 34.3% of its 2018 revenue days in long term charters. If conditions in the Dry market tighten as we expect, shipper with greater spot exposure will unquestionably outpace NMM (e.g. SBLK), but we prefer a more conservative orientation to this already volatile segment.

Even with NMM’s charter profile, we expect robust cash flow from this business. For second half of this year, we forecast that NMM will generate free cash flow of nearly $30mn and we expect it will ramp meaningfully in 2018 and 2019. Based on the following Spot forecasts, we expect cash flows of $68.5mn in 2018 and $106mn in 2019:

We would highlight that those figures represents free cash flow yields of 29% and 45%, respectively.

As for our expectations for the uses of that cash, Angeliki has represented of late that she views NMM as a “growth” story. Hence, in the near-term we anticipated excess cash will go to expanding its fleet. As an MLP, we expect Maritime Partners will reinstitute its dividend, likely next year. Angeliki has stated the dividend would be modest, which we would interpret to mean in the context of 2.5% to 3.0% to start:

While this payout may underwhelm at first, we expect upside from those levels overtime. Should the rate environment firm in 2018, we anticipate NMM will layer-on multi-year time charters (three years or greater) to lock-in cash flows, allowing a more robust distribution. The past is certainly not prolog, but NMM used to pay a distribution of $.4425 per share. NMM will never return to those levels, but it underscores the long-term potential for this story.

Valuation

With the Drybulk recovery in its infancy, NMM will likely trade within the context of NAV in the near-term. We would, again, highlight the company’s success in building NAV by opportunistically adding ships and more substantive transactions like Navios Containers. Should the recovery take longer to playout than expected, investors will therefore continue to benefit from NMM’s unique capabilities to build Enterprise Value.

When the recovery takes hold, we expect NMM will be valued on a multiple/cash flow basis. NMM currently trades around 6.0x LTM EBTDA, but has historically traded around 8.5x EV/EBITDA. Extremely conservatively, we see NMM trading at 7.0x our 2019 EBITDA of $132.9, which implies a potential gain of greater than 80%. As the chart below highlights, should our valuation prove conservative (as we expect), investors would realize significantly greater upside:

Summary

We think NMM is a uniquely attractive story. In a market without value, NMM is objectively cheap. Should the Drybulk market recover next year, the stock could easily double. With the Drybulk market showing early signs of recovery, we think NMM has homerun potential in 2018.

Shipping is of course, notoriously cyclical and often irrational, which could push a rebound further into the horizon. Should that prove to be the case, the NMM story is not wildly levered to a near-term recovery. The company benefits from an attractive capital structure (with low levels of debt and no major maturities prior to 2020) and employs charters to hedge downside. In a prolonged downturn, NMM will continue to take advantage of its platform to purchase assets, bettering positioning it to maximize the eventual recovery.  

Negatives

Intercompany risk. As we alluded to above, Angeliki runs Navios and its related entities. There are separate boards and different management teams, but, functionally she controls them all. Investors in NMM bear a degree of risk related to inter-company activity that could adversely impact our box as there are a number of inter-company loans, such as a former $60mn loan between Navios Partners and Navios Holdings (L+300) from May 2015. From a high-level, given NM’s over-levered capital structure, there is a risk of Holdings tapping NMM’s low levered balance sheet as a source of capital. The NMM Term Loan B has covenant to limit this dynamic, but it is a risk for investors nevertheless.    

Dilution risk. Should the NMM stock recover meaningfully, we would expect the company would issue additional share, perhaps to raise capital to dividend to the parent. Again, the Restricted Payment basket under the NMM credit agreements will limit the magnitude of dividends to the parent, but we’d expect Angeliki will capitalize on any opportunity to raise additional equity capital.

Cyclicality. Maritime transport is again very cyclical. Should global growth slow, particularly in China, NMM and the rest of the shipping universe will be dragged meaningfully lower. We believe downside is mitigated by the stock’s current valuation (still trading below NAV) and the company low-cost Opex, attractive capital structure and use of chartering.

Order book risk. Part of the bullish thesis with NMM right now is almost goldilocks-like: the market is improving, but not too much. Should the rate environment recovery too much or too quickly, there is a risk of new orders and/or slowing of scrapping that could prevent a rebalance of supply and demand.

Catalyst

Continued improvement of the order book, through scrap rates remaining at present levels and new orders remaining muted. 

BDI/Drybulk rates maintain slow recovery at a pace that keeps new orders at bay 

Reimplimentation of a dividend 

Continued capital market transactions that enable NMM to purchase fleet at attractive levels, building NAV 

NM monetizes its South American Logistics assets to repair its Balance Sheet, lifting the specter BK risk