Description
OMI Corporation (OMM) is a pure play on the tanker industry. OMM operates both crude oil tankers and product tankers principally in the Atlantic Basin. Historically, this has been a highly cyclical industry based on wildly variant spot charter rates. Those rates are a function of both the shipping volume of oil and oil products, and the size of the fleet to transport them. Two factors are now in play to dampen the downside volatility in the industry. OMM is actively on the positive side of both.
First, increasing environmental regulation will result in the scrapping of older single hull tankers. OMM is actively upgrading to newer vessels and at mid year 2001, had a fleet with an average age of approximately 8.6 years. At the end of 2001, this figure will decline to 7.0 years. 3 additional new ship deliveries will occur in the first quarter of 2002. Rather than simply order new ships (adding to potential overall fleet size), OMM in many cases has acquired ships under construction that were ordered by others. This strategy provides OMM with more efficient vessels that can be chartered at premium rates.
The second industry force is a shift to long term time charters. This provides a level base of assured revenue from that part of the fleet on time charter. For OMM, the fleet composition will go from 7 time chartered ships vs 18 on the spot market at mid year 2001, to 17 time chartered ships vs 17 spot ships by March of 2002. This cuts the risk of substantial operating losses, while preserving good capacity to benefit in strong spot market periods. OMM’s goal is to cover interest, amortization, and G&A with net voyage revenues from time charters.
The figures above show that OMM is expanding. The fleet goes from 25 ships at mid year 2001, to 34 ships by 3/31/02. All of the expansion is in the product carrier segment, where rates have remained strong this year. This is a play on the lack of expansion of domestic refining capacity. An additional 6 vessels are on order through May of 2003, 2 of which are crude carriers. These acquisitions have or are being funded by a combination of cash from operations, new debt, stock, and proceeds from the sale of less strategic vessels. A credit facility is in place to cover expected capital requirements at Libor plus 1.25 to 1.50%.
Spot rates for crude carriers have crashed since the first quarter this year, with a decrease in OPEC production - aided by a slowed world economy. However product carrier rates have remained strong reflecting domestic refinery capacity problems. OMM’s stock price decline primarily reflects the market’s assessment of spot rates, but does not appear to capture the fundamental changes occurring in the company.
Earnings in 2000 hit $1.13/share, and will likely be around $1.30/share this year (including gains on the sale of vessels). With the market well aware of the highly cyclical nature of the company, the stock has traded both years in the $6 to $8.50 range.
Predicting specific earnings for this industry is not a high success endeavor, but a simple model can give some idea of the range of possibilities in 2002 for the reconfigured OMM. We assume all 34 ships are ‘available’ for the full year. We know the new ships coming on line in the first quarter are all time chartered and the company provides Time Charter revenue guidance that fully accounts for that. Total revenue on time charters for 2002 is $84M. Using historical experience, the net voyage revenue will be 74% of that, or $62.2M. Assessing the NVR for the remaining 17 spot market vessels is much more difficult! The crude fleet was about the same size in the 2nd quarter of 2000, when average rates were around $27,000/day for OMM. In that period NVR was $14M, or $56M annualized. For the product carriers, 8 were operating a year ago in the spot market, with about an $11,000/day rate. They turned $5.4M in NVR. With 7 spot ships going forward, I’ll use $5M, or $20M annualized. For the high side, the crude carriers are increased 25%, and the product carriers 50%, reflecting the better rate fundamentals of the product market, and trying not to be too optimistic. On the expense side, G&A stays about flat at $12M. The fleet expansion costs $270M. 65% of that can be financed under the terms of the credit facility, adding $176M to long term debt, for a total of $456M. Using a very conservative 5.5% interest rate, gives interest expense of $25M. Using a 20 year straight line depreciation adds $13.5M for a total of $43.5M in 2002. I am ignoring the potential for sales of non strategic ships, and the effects of interest income, and joint venture results. The effect of the latter two would appear to be minor, but positive. With the above assumptions:
Net voyage revenues are 62.2 + 56 + 20 = $138.2M on the ‘low’ side, and 62.2 + 70 + 30 = $162.2M on the ‘high’ side. Expenses are amortization, G&A, and interest, or 43.5 + 12 + 25 = $80.5M. Net income = $57.7M (low) and $81.7M (high), or on 70.243M shares, $0.82 and $1.16 per share respectively. There is no tax liability as OMM is incorporated in the Marshall Islands. EBITDA under these scenarios is $1.79 and $2.14 per share respectively. Present book value is $5.60/share. At present market pricing around $4.10, it seems that OMM is a compelling value.
Catalyst
Other tanker companies have been written up, but I particularly like OMM for its strategic weighting to the product carriers, and minimal direct exposure to the Middle East. The market has not factored in the stabilizing of the cycle OMM is achieving with the movement to more time chartered revenue. The growth of the OMM fleet is significant, but debt load is not exorbitant, with debt to equity at around 1:1 (or a little less) at 3/31/02. Considering the stock history, with earnings in the vicinity of prior earnings, even in a weaker rate structure, the stock once again ought to trade in the higher end of its range, according present investors 50% to 100% gains. As the market begins to comprehend there is a floor under earnings from expanded time charters and/or spot rates do rebound to OMM’s benefit, this stock ought to move higher with the potential for a $12 price.