Potential Turnaround of This Company
Mike is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.
Global Ship Lease (NYSE: GSL) is a long-term lessor of container ships to shipping companies. International container shipping has yet to recover to prior levels, but has started to show promising signs. Global Ship Lease is way to play an outlook of improving industry fundamentals, rising shipping rates, increases in emerging market traffic, and increased demand for small/medium sized vessels. However, GSL is highly leveraged and has below average returns, but consistent cash flow. Equity holders could benefit from the repayment of debt and improving multiples.
In the years prior to the economic downturn in 2007, international container shipment demand was aggressively growing and the outlook was robust. Increasing traffic from China and the developing world to developed economies was driving higher demand from year to year in container shipping. The industry would need more ships if the outlook held. Leasing companies and shippers ordered more vessels for delivery over the next 3-5 years.
Then in September 2007, the economic crisis hit, container shipping demand and blue water shipping volumes took a huge hit. Rates dropped and there was significant excess capacity. The problem was compounded by new deliveries of all the boats ordered over the past few years. Rates continued to decline and the industry was in trouble. Owners of ships use significant leverage and the falling lease/shipping rates drove cash flows into negative territory and some to bankruptcy and the triggering of debt covenants.
Many of these troubled firms sold and/or their assets were acquired by the remaining players. Excess supply was has started being absorbed fallen and with fewer firms desperate for cash, suppliers pricing is more rational. In 2012, some General Rate Increases (GRI) held in the market in certain shipping lanes. Pricing should improve in 2013 along with slowing rising global output. The fundamentals have not rebounding to prior levels, but it appears they have started to move in the right direction.
GSL is well positioned for long-term industry trends. GSL has 17 young vessels with an average age of 9.5 years. Fleet utilization is above 98% annually and the average remaining term on their leases is eight years. All of the vessels are on lease to CMA CGM SA which holds a 45% ownership interest in GSL. The next round leases renewals are 4-5 years. As long as CMA CGM does not file bankruptcy, GSL has a steady cash flow forecast. Important for GSL’s outlook, CMA does not have right of first refusal on renewing their leases. GSL will get market rate in the next round renewals.
GSL’s most recent quarter had some reasons for optimism. First, 3Q12 EPS was $0.14, $0.02 above consensus. But more importantly, Global Ship Lease announced it received an extension on its loan to value test scheduled for November 2012 until December 2014. It would have likely failed the test but if industry fundamental continue to improve and GSL reduces debt levels, it is likely they will be in position to pass prior to December 2012. Last, management indicated an intention to reinstate the dividend as long as they are well within their debt covenant, also likely.
The Ship Leasing Industry
GSL trades at a discount to an industry that trades at a discount. It has a P/E of 5.4x a price to book value of .55x. But returns metrics are low with an ROE of 2.75% and an average ROA of .94% which, along with the debt level and risk, explains much of it.
Competitors like Diana (DCIX), Costamare (NYSE: CMRE), International Shipholding (ISH) and Box Ships (NYSE: TEU) have P/E ratios of 6.87-22.65x with an average of 12.63. That said, the bottom end of the range for price to book is around 0.45x among competitors, which is usually the better valuation metric for lessors. The lowest P/B being Box Ships. Out of these competitors, Costamare is the only one that trades at a decent premium to book value with a P/B of 2.45. This is likely due to its higher margins and larger size. Most of these companies have a generous dividend policy. Diana had a payout ratio of 300% and Box Ships had a payout ratio of 200%.
Global Ship Lease shares could benefit from an improved outlook for General Rate Increases (GRI). Improving output and traffic have allowed some GRIs to stick and the trend continuing would likely lead to multiples expanding across the industry. In particular, shipping Intra Asian, Middle East and India all have positive outlooks for increasing volumes in the near and long term. Shipper in these lanes use small to mid-tonnage ships, 15 of GSL’s 17 fit this profile. Improvement in fundamentals, reinstatement of the dividend, and deleveraging could all act as a positive catalyst for the shares. The key risk is deterioration in the global macro outlook.
mthiessen has no position in any stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!