Tanker Industry Continues to Look Weak
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The tanker business remains challenged, with Nordic American Tankers (NYSE: NAT) issuing a warning about its third quarter results Tuesday. CEO Herbjorn Hansson authored a letter to shareholders, letting investors know that the third quarter will be worse than the second quarter. He noted that he is not sure when the industry tide will turn and that industry fundamentals continue to languish. Hansson also mentioned that the firm has identified some fuel savings, which could lead to an additional $0.30-$0.40 per share in cash flow to help cover the firm’s 10%+ annual dividend. However, we’re skeptical the firm’s dividend will be preserved over the intermediate term if current poor industry conditions persist. As a general rule, we are skeptical of the sustainability of any double-digit dividend yield.
The shipping industry remains mired in oversupply thanks to terrible industry economics. Several shippers, including DryShips (NASDAQ: DRYS), Frontline (NYSE: FRO) and Genco (NYSE: GNK) have fallen over 90% since their respective highs in 2008, after building large fleets to take advantage of booming global economic growth (which has slowed since then). Though shipping rates recovered a bit in 2010 and 2011, the Baltic Dry Index has tumbled this year to near all-time lows. Management indicated that fleet growth should come to a standstill by the end of 2013, but orders (though slowing) are still coming in for new Suezmax vessels. If economic growth in China continues to slow, we expect an ongoing dislocation between supply and demand beyond 2013.
But not all of the shipping industry is completely challenged, as Teekay LNG (NYSE: TGP) has continued to perform fairly well since bottoming in late 2008. Teekay owns primarily liquefied natural gas carriers, so as the price of spot natural gas has fallen over the past few years, demand has remained steady. However, given the highly cyclical nature of the industry, Teekay LNG looks expensive to us and scores just a 4 on the Valuentum Buying Index (our stock-selection methodology). Teekay does have an attractive annual dividend yield of 6.7%, though due to its partnership status, its tax treatment differs from ordinary dividends. Plus, we’re skeptical of future growth in its dividend as well, forecasting a slowing rate of expansion in coming periods.
The shipping industry may be home to a number of high-yielders, but poor structural industry dynamics leave us firmly on the sidelines. Wild swings in the Baltic Dry Index (the industry’s pricing metric) can be expected, and forecasting future free cash flows for shipping industry constituents is notoriously difficult. Though Frontline may have the most valuation upside in the group based on our discounted cash-flow process, we don’t feel compelled to own any shipper at this time. We think the opportunities in our Best Ideas portfolio present better risk/reward profiles.
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