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Mark Yu
Mark Yu
Articles (375)  | Author's Website |

Seeking Value in Shipping Companies: Frontline

More risk than reward?

July 16, 2017 | About:

The $993.4 million shipping and ports company reported its first-quarter 2017 results in May. The Bermuda-based Frontline Ltd. registered a 22% revenue drop to $177 million and a more severe 66% drop in profits to $27 million—with a 15.3% margin compared to 34.7% in the year-prior period.

Operating expenses have climbed 26% year over year, therefore leading to far less profits in the recent period. As observed, the company recorded 55% increase in voyage expenses and commission and added a $21.2 million in investment impairment loss in relation to four vessels leased from Ship Finance.

Frontline expects to record another impairment loss, including these termination payments, of approximately $12.3 million in the second quarter.

"Notwithstanding near-term pressure on crude tanker rates, we believe the market will ultimately return to balance as demand for crude oil continues to increase and vessel scrapping will begin to offset the negative effect of newbuilding deliveries. The recent market weakness and other factors have contributed to a historically low asset price environment that has presented us with opportunities to acquire modern tonnage at attractive prices.

We are pleased that we continue to grow our fleet while also divesting of older vessels, as we recently did with the charter termination of four VLCC's and two Suezmax tankers, vessels which have put pressure on our earnings lately and particularly in the first quarter. As we have stated before, older vessels are increasingly difficult to trade, a fact that is amplified in a softer rate environment. In the last 12 months, we have taken steps to both grow and modernize our fleet through six resale purchases and newbuilding contracts. We will continue to strive to create value for our shareholders by expanding our fleet through accretive transactions.

Notwithstanding any potential outcome related to our proposal to effect a business combination with DHT, there are many opportunities to continue our strategy of fleet growth and renewal, and we are confident in our ability to execute on this strategy."

-- Robert Hvide Macleod, Chief Executive Officer of Frontline Management AS

Valuations

Frontline trades at slight discount compared to its peer’s P/E with 14.3 times vs. industry median 17.6 times (GuruFocus data). The company also had a trailing P/B ratio of 0.67 times vs. the industry median of 1.24 times, and P/S ratio of 1.44 times vs. the industry median of 1.14 times.

The company had a trailing dividend yield of 10.28% with 207% payout ratio.

Average 2017 revenue and earnings-per-share estimates indicated forward multiples 1.9 times and 96.7 times.

Total returns

Frontline failed to generate any positive returns to its shareholders in the past decade with 9.3% annualized losses vs. the S&P500 index’s 7.05% gain (Morningstar). So far this year, the company provided 13.5% declines vs. the index’s 9.6% gains.

Frontline Ltd.

According to filings, Frontline Ltd. is an international shipping company incorporated in Bermuda as an exempted company under the Bermuda Companies Law of 1981 on June 12, 1992.

On Nov. 30, 2015, Frontline Ltd. and Frontline 2012 completed a merger in which the former was the legal acquirer and Frontline 2012 was identified as the accounting acquirer.

Frontline is engaged primarily in the ownership and operation of oil and product tankers.

The company operates through subsidiaries located in Bermuda, India, Liberia, the Marshall Islands, Norway, the U.K. and Singapore. Frontline is also involved in the charter, purchase and sale of vessels.

On Dec. 16, 2016, Frontline completed an offering of 13,422,818 new ordinary shares at $7.45 per share, generating gross proceeds of $100.0 million. Frontline’s largest shareholder, Hemen, guaranteed the offering and purchased 1,342,281 new ordinary, corresponding to 10% of the total.

Upon completion of the offering, Hemen owned 82,145,703 shares of Frontline, or approximately 48.4% of the company's outstanding ordinary shares. Hemen is a Cyprus holding company that is indirectly controlled by trusts established by Frontline’s chairman and president, John Fredriksen, for the benefit of his immediate family.

As of March 31, Frontline’s fleet consisted of 55 vessels (down 28 year over year), with an aggregate capacity of approximately 11 million dwt (down 4 million dwt year over year).

The company has only one reportable segment, tankers, and does not evaluate performance by geographical region, as this information is not meaningful, according to filings.

Time charter equivalent (TCE) revenue

Consistent with general practice in the shipping industry, Frontline uses TCE revenue as a measure to compare revenue generated from a voyage charter to revenue generated from a time charter.

TCE revenue is calculated by deducting other income and voyage expense from operating revenues.

Nonetheless, TCE revenue was not provided in the recent quarterly filing or press release. TCE rate, which is $ per day, was instead provided.

In the quarter, TCE rates for Frontline’s VLCC, SMAX and LR2 were $34,400, $23,400 and $22,400 (1). This compares to $65,400, $32,000 and $24,700 in the same period last year.

Sales and profits

In the past two years, Frontline had a revenue growth average of 23.2%, profit decline average of 10% and profit margin average of 24.6% (Morningstar).

Cash, debt and book value

As of March, Frontline had $127.5 million in cash and cash equivalents and $1.54 billion in debt (including capital lease obligations) with a debt-equity ratio of 1.02 vs. 0.97 the same period last year. Overall debt rose by $120.3 million while equity increased by $40.8 million.

As observed, overall share count has increased by 8.6% year over year to 169.8 million.

Of Frontline's $3.15 billion in assets, 7.2% were goodwill. The company’s book value increased by 2.8% year over year to $1.51 billion.

Cash flow

In the recent first quarter, Frontline’s cash flow from operations fell by 34% year over year to $79.8 million. In addition to lower profits, the company recorded cash outflows in relation to shares sales and derivatives.

Capital expenditures were $246.8 million leaving the company and $167 million in free cash outflows compared to $39.9 million in the same period last year. Nonetheless, Frontline still provided $25.9 million in shareholder dividends and also repurchased $46.1 million DHT Holdings (a competitor) shares.

In the past three years, Frontline generated an accumulative free cash outflow of (-)$905 million while having provided $204 million in dividends.

In the quarter, the company took in $154.6 million in debt net repayments.

Conclusion

Frontline exhibited poorer business performance in the recent quarter resulting from lower recognized industry-defined revenue rates (TCE). Its termination fee associated to earlier committed leases also did not help the company.

In an about face, Frontline also backed off its attempted DHT Holdings (NYSE:DHT) acquisition and rejected takeover attempts for the time being (Reuters).

"Frontline still believes the industry at some point should see further consolidation, but given today's market situation and Frontline's position and size, we're very comfortable moving forward on our own," Frontline Chief Executive Robert Hvide Macleod

Frontline also did exhibit increases in overall debt year over year while having generously provided dividend payouts to its shareholders.

Five analysts have an average price target of $6.5 a share—17% higher than today’s share price of $5.85 (at the time of writing). Asking a 30% discount from Frontline’s book value indicated a value of $6.20 a share.

Ignoring the leveraged balance sheet and declining rates in the company’s recent operations, Frontline is a buy with $6.50 a share target price.

Notes

  1. Company filings

The Company (Frontline) operates oil tankers of two sizes: very large crude carriers, or VLCCs, which are between 200,000 and 320,000 deadweight tons, or dwt, and Suezmax tankers, which are vessels between 120,000 and 170,000 dwt. The Company also operates Aframax/LR2 tankers, which are clean product tankers and range in size from 111,000 to 115,000 dwt.

Disclosure: I do not have shares in any of the companies mentioned.

About the author:

Mark Yu
A doctor in physical therapy (DPT) with a passion for finance. Not a registered financial analyst. Value seeker. Long only. Global investing. Long-term investing.

Attempts to dissect company filings per day. Dislikes goodwill and intangible assets.

For quicker reading--jump ahead to an article's conclusion.

One company (review) a day keeps the speculation (hopefully) away.

Would typically invest $500 to $3000 of own money per buy recommendation.

"The only source of knowledge is experience"

"I have no special talent. I am only passionately curious." Albert Einstein

"To strive, to seek, to find, and not to yield." Alfred, Lord Tennyson

"We find one a year, that's terrific. You do not need a hundred or a thousand great investment ideas to do well. You need a couple. And, the discipline is the most important thing." Warren Buffett

Visit Mark Yu's Website


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