Scorpio Tankers (STNG) is engaged in the seaborne transportation of refined petroleum products and crude oil worldwide. This article discusses the company’s new growth strategy through complete fleet revamp and other investment positives and risk factors related to the company.
Scorpio Tankers operated a fleet of 24 wholly owned tankers with an average age of 2.5 years as of June 2014. In addition to the owned vessels, the company also has chartered-in an additional 26 vessels.
The key to company’s growth plan is a huge pipeline of new vessels scheduled for delivery in 2014 and 2015. In 2014, the company expects the delivery of 36 vessels and the company expects the delivery of an additional 14 vessels in 2015. Therefore, over the next 2 years, the company’s fleet will surge to 74 owned vessels with an average age of just 1.4 years.
The strong vessel growth along with a fleet of modern vessels is the biggest investment positive for Scorpion Tankers. Another positive factor related to the new vessels is the company’s purchase of ECO type vessels. The ECO type vessels have a lower fuel cost compared to conventional vessels. This means that Scorpio Tankers will be well positioned to have strong operating margin once all the new vessels are delivered.
For the funding of new tankers, the company has an undrawn credit facility of $1.3 billion and therefore funding is not an issue. However, the company’s debt will increase significantly after the new tankers are delivered. As of December 2013, Scorpio Tankers had a debt of $167 million. This debt will increase to over $1.5 billion by the end of 2015.
The offsetting factor for an increase in debt will however be an increase in EBITDA and a subsequent increase in operating cash flows. As 50 new tankers are operational, the revenue and EBITDA growth is likely to be very significant.
Analyst estimates peg 2014 and 2015 earnings growth for Scorpio Tankers to be 692% and 430% respectively. Therefore, the stock will be on a very high growth trajectory over the next two years and this should help in strong stock upside.
For the company, which is leveraging significantly for its growth, one of the key risk factors will be the demand for tankers and the day rates. After the financial crisis of 2007, the day rates have declined and have been in the range of $10,000 to $20,000 per day over the last few years. If day rates fall sharply, the company can find itself in a debt trap with debt to surge to $1.5 billion by 2015.
However, the risk of day rates getting lower from current levels is minimal. The reason is that China’s growth might have bottomed out and so has the global growth. Emerging Asia will keep day rates at higher levels and even if day rates remain at current levels, Scorpio Tankers will be doing well.
The industry trends are also changing with US likely to become one of the key oil & gas exporting nations in the future. The trade from US to Asia will generate demand for the company’s tankers and the demand will increase with revival of growth in China and India.
Scorpio Tankers looks attractive even on a relative basis for someone considering exposure to this sector. Teekay Tankers (TNK) is behind Scorpio Tankers when it comes to an aggressive growth strategy. Teekay Tankers also offers a relatively lower dividend yield of 2.8% as compared to 3.9% for Scorpio Tankers.
On a valuation basis, Scorpio Tankers is trading at a PE of 26.3 as compared to a PE of 17.3 for Teekay Tankers. However, Scorpio Tankers is likely to grow its earnings at a very strong pace in 2014 and 2015. This justifies the company’s valuations premium.
Scorpio Tankers will have a completely new fleet by 2015 and the company intends to benefit from gradually improving market dynamics. I believe that this is a good time to invest in the company as strong earnings growth is coming in 2014 and 2015. Investors can consider exposure to this high growth company at these levels.