Torm PLC

CSE:TRMD A

Earnings Call Transcript 2018-Q3

[Operator]

Good afternoon, ladies and gentlemen, and thank you for standing by. Welcome to today's TORM's Third Quarter 2018 Report Presentation. [Operator Instructions] I must also advise you the meeting is being recorded today, on Thursday, the 15th of November, 2018. And I would now like to hand the meeting over to Mr. Christian Søgaard-Christensen, the CFO. Please go ahead, sir.

[Christian Søgaard-Christensen]

Thank you, Ella, and hello, everybody. As usual, we will refer to the slides as we speak, and at the end of the presentation, we will open it up to questions. With that, please turn to Slide 2. Before commencing, I would like to draw your attention to our usual safe harbor statement. So Slide 3, please. With me today is Executive Director, Jacob Meldgaard.Slide 4, please. As we turn to the presentation of 2018 Q3 results on this slide, I'll hand over to Jacob.

[Jacob Balslev Meldgaard, CEO & Executive Director]

Thank you, Christian, and good day to everybody. We, this morning, reported our results, which was an EBITDA of $15 million for the first quarter of '18, and a loss before tax of $24.5 million or equivalent to USD 0.34 cents per share. Our net asset value remains relatively unchanged at USD 11.20 per share over the quarter. The product tanker freight rates reached very low levels. Actually, the MR [ rancher ] benchmark has never been recorded lower. This was impacted by a decrease in demand growth and shorter sailing distances. We believe that product tanker freight rates have bottomed out here in the third quarter, and into the fourth quarter, we have experienced firmer product tanker freight rates driven by increasing export activity in the U.S. Gulf and a stronger crude market. Across all segments, our average TCE rate was USD 10,598 per day during the third quarter. If we look at the spot freight market today, we had, as of last Friday, fixed 61% of our total Q4 '18 earning days at an average TCE of $13,278 per day. So fortunately here, we can see that there is a clear, firming strength here in Q4. Since our last earnings call back in August, we have taken delivery of the final LR2 newbuild, TORM Hilde, out of a series of 4 LR2s. We've also entered into agreement to sell 3 older vessels, an MR vessel TORM Neches, and also the MR TORM Clara, both built in 2000, and we've sold the Handysize vessel TORM Ohio, which is built in 2001. The 3 vessels were sold for a total consideration of USD 20 million, and a total associated debt of USD 12 million will be repaid here in the fourth quarter. Before entering the market section, I would like to provide you an update on the IMO sulfur regulations [ increment ] in general and scrubbers, in particular. Therefore, turn to Slide 5, please. The Friday last week, we announced that we had established a joint venture with ME Production, a leading scrubber manufacturer and Guangzhou Shipyard International, which is part of the China State Shipbuilding Corporation group. The joint venture, ME Production China, will manufacture and install scrubbers from factories in China, deliver them to a range of maritime industry customers for both new buildings and for the retrofit on existing vessels. TORM holds an ownership stake of 27.5% in this new joint venture.We believe that this is unique joint venture at a time when demand for scrubbers is expected to increase significantly. This strategic move provides us with a substantial economic interest in a venture that has the potential to be a large-scale international scrubber manufacturer. It will also result in TORM securing scrubber capacity, and at the same time obtaining attractive prices for the scrubber investments we have already made, which all have a short payback time. As of today, TORM has committed to install scrubbers on 21 vessels, with the potential for a further 18 [ leads ], bringing the total number up to 39 vessels, which would be roughly half of our fleet. We have already 2 vessels on the water with scrubbers installed, and they are expected to give us very good operational insights clear in advance of the remaining scrubber installations, which we have planned, in our case, for 2019 and the first half of 2020. The CapEx related to the confirmed scrubber orders is on average estimated to be below $2 million per scrubber including the installation cost. TORM expect to be able to obtain financing for significant portion of this investment. Slide 6, please. Returning to the demand situation. Demand for clean petroleum products was impacted by higher oil prices in the third quarter, with lower year-on-year growth levels than in the first half of the year. In the gasoline market, higher prices covered with depreciated currencies in many emerging markets has a negative impact on final consumer demand. In the diesel market, recent demand growth slowed in the third quarter, however, this is compared to a strong baseline in 2017. Globally, refinery runs reached record high levels throughout the summer and consequently refinery margins have fallen to the levels below the 5-year average. With slow demand growth and refinery runs at record levels, global clean petroleum products trade flows slowed in the third quarter compared to the same period last year. In the West, imports of gasoline from Europe to the U.S. Atlantic coast were strong throughout the quarter, supported by an open price arbitrage for the majority of the quarter. However, freight rates continued to be negatively impacted by reduced imports into Brazil and into West Africa. This was further aggravated by reduction in long-haul exports from the West to the East over the summer, although this trend reversed towards the end of the quarter as the end of the summer driving season in the Western Hemisphere released volumes for exports. In the East, refineries coming back from maintenance in the Middle East and India, supported exports to the Western markets, especially in the first half of the quarter. However, the positive effect was earlier partly offset by reduced export volumes from especially China and Japan due to high refinery maintenance. The impact from newbuild crude tankers cannibalizing on clean tankers remained a factor through most of the third quarter. However, I would say the extent of crude tankers lifting clean cargos for the maiden voyage has already now slowed as the freight rates for large crude tankers have increased recently. We believe for our tanker freight rates have bottomed out here in the third quarter, and into the fourth quarter, we have already now experienced firmer product tanker freight rates driven by the increased export activity in the U.S. Gulf and the fact that we have a stronger crude market. Slide 7, please. Global product inventories have declined during the past quarter and are now below the 5-year historical average levels. While continued growth are not sustainable over the long term, price backwardation deters floating stores and also reduces inefficient sailing patterns. Despite a seasonal build in Q3, global clean petroleum products stocks have drawn from the start of the year by a volume equivalent to a loss of potential trade of almost 3% each month. Slide 8, please. The structure dislocation between demand and export center is expected to continue, and more refined products will be produced and exported from the Middle East to the rest of the world. If we compare the net capacity additions from Middle East refineries in the coming 5 years, it translates to a level, which is 30% higher than the capacity issues we saw in the previous 5-year period from 2013 to 2017. So the structural strength continues and even at an increased pace. Slide 9, please. As we alluded to during our update on the scrubber joint venture, the IMO 2020 regulation is expected to be a potential booster for the demand of product carriers as it comes into force in January 2020. For the shipping industry to comply with this regulation, it will be necessary to build and maintain stocks of compliant low-sulfur fuels in bunker ports around the world, which may create new and considerable trade for product tankers. At this point, we forecast a potential increase in seaborne volumes for clean product carriers of about 2 million barrels per day. This is an estimate based on many moving parts, but we do expect the IMO 2020 regulation to have a significant impact on the demand for clean product carriers, and we estimate the potential increase in demand to be around 5% of incremental demand in the product tanker trade. We also expect that the bunker industry will be preparing for this regulatory change well in advance of the 1st of January, 2020 transition date. Slide 10, please. The product tanker order book to fleet ratio is at a relatively and comparatively low level, and we can see deliveries of new tonnage have started to fall. As a sample so far this year, we've seen product tanker fleet grow by 2.2%, which compares to 4.5% for the full year of 2017. The product tanker order book to fleet ratio currently stands at 9%. This is low in a historic context. TORM estimates that the product tanker fleet will grow by an average of approximately 3.4% per annum in the period '18, '19 and '20, which is down from an average of 5.8% during the period 2015 through 2017. This is a key point to the fundamental positive market development we expect for the product tanker industry. Slide 11, please. As we have seen in the product orders, forms operational platform is capable of delivering very competitive TCE earnings. In fact, if we look back over the past 3.5 to 4 years, we have outperformed our peer group average earnings in 14 out of the 15 quarters. Our ability to perform well compared to peers is a substantial factor and translates into additional earnings of USD 15 million in the first 9 months of this year alone. I'll now hand it over back to Christian, again, for further review of TORM's operational leverage, our cost structure and the financial position.

[Christian Søgaard-Christensen]

Thank you, Jacob. Let's turn to Slide 12, please. With our spot profile, TORM has significant operational leverage to increases in the underlying product tanker rates. This is particularly true in 2019 and 2020 when our unfixed days increased as a result of the growth in our fleet. As of 30th September 2018, every $1,000 increase in the average daily TCE rate achieved, translated into an increase in EBITDA of around $5 million for 2018, and this figure increases to $28 million in 2019, and USD 30 million in 2021. Slide 13, please. Before reviewing our OpEx and admin expenses, I just briefly want to touch upon our operating model. We believe that TORM provides significant competitive advantages from operating with a fully integrated commercial and technical platform, including also core functions such as an internal sale and purchase team. Importantly, it provides us with a transparent cost structure for our shareholders and also eliminates related party transactions. Naturally, we are focused on maintaining efficient operations and providing a high quality of services for our customers. Even with this trade-off, we've seen a gradual decrease of 16% in our operating expenses over the last 5 years. OpEx are below 6,500 per day for the first 9 months of the year, which we find to be competitive in light of our fleet compositions. We also remain disciplined around general and administrative expenses, although these can be expected to fluctuate a bit going forward based on the size of our fleet. In the last year, we have opened up 2 new offices, carried out a U.S. listing with associated Sarbanes-Oxley preparations and also invested in areas such as digitalization and business intelligence. Slide 14, please. Looking at our liquidity, we have, as of 30th September 2018, an available liquidity of USD 425 million. Cash totaled USD 163 million, and we have undrawn credit facilities and newbuilding financing agreements in place for USD 262 million.Our total CapEx commitments to newbuildings were just shy of $300 million, with $296 million as of 30th of September, of which $32 million is due in 2018. The remainder will fall due in 2019, and 2020 as we take delivery of our new high-specification vessels. I just want to note that for the newbuildings, the newbuilding CapEx commitments also includes scrubber installations. Given our earlier discussion of scrubbers, we have also included an estimate for the outstanding costs related to retrofitting with committed scrubbers on vessels already on water, which you can also see on this slide. Our strong liquidity position provides us with sufficient funding to meet our CapEx application as well as pursue further accretive growth opportunities in the future. Please turn to Slide 15. Finally, I want to sum up our financial position in terms of key metrics such of net asset value and loan-to-value. Vessel values came in flat at around USD 1.66 billion as of 30th September 2018. We have an outstanding gross debt amounting to $760 million. Here, we have a very favorable financing profile with more than 60% of the schedule installments falling due after 2020. Finally, we have outstanding committed newbuilding CapEx of $296 million, and cash of USD 163 million. This gives TORM a net loan-to-value of 54% at the end of the quarter, which we consider to be a conservative level at this point of the business cycle. Net asset value is estimated at USD 826 million. This corresponds to $11.02 per share or DKK 72 per share. I was just checking before commencing this call, TORM's shares were trading at DKK 41 or USD 6.65 per share so they are trading at a considerable discount to net asset value. So in short, I think we have a balance sheet that provides with ample strategic and financial flexibility. Slide 16, please. So with this, I will let the operator open up for questions.

[Operator]

[Operator Instructions] And your first question is from the line of Marcus Bellander of Nordea.

[Marcus Bellander, Senior Analyst]

One question from me. On Slide 9, you say that you expect 5% incremental growth in the product tanker freight from the IMO 2020 rules. Is that specifically for 2020 because there's going to be a lot of fuels moving around that year, or is that sort of a step-up in volumes that will be persistent, so to speak?

[Jacob Balslev Meldgaard, CEO & Executive Director]

Marcus, Jacob here. Yes, as you point to it is the event of the 1st of January. There is a step-up of 5%., and that would then persist. So it's not a -- it's a onetime off where you seem to lift the demand picture by about 5%, and we expect that to then be stable around that new level.

[Marcus Bellander, Senior Analyst]

And if I may follow up? Why do you expect this increase more specifically?

[Jacob Balslev Meldgaard, CEO & Executive Director]

It is cyclical that there is a new type of fuel that now needs to be produced at various refiners worldwide, and it then needs to be distributed to the ports where there is a need for the end user. In this case, shipowners will need compliant fuels. So there's not a currently refinery sector that is based in the locations where you have the need for transportation fuels. So those new types of transportation fuels, which we call compliant fuels, will have to be distributed on clean petroleum product carriers.

[Marcus Bellander, Senior Analyst]

Okay. And just to make sure I understand you fully. So the old fuel was not shipped around to the same extent as this fuel will be?

[Jacob Balslev Meldgaard, CEO & Executive Director]

It would be but it would be predominantly done on crude carriers.

[Operator]

Your next question is from the line of Finn Petersen of Danske Bank.

[Finn Bjarke Petersen, Analyst]

A question to your slide of your relative performance on Slide 11. The third quarter seems like you lost some of your advances you have seen since Q1 '17. Are there any explanation why you are doing a poor job in the third quarter than in the previous 5 or 6 quarters?

[Jacob Balslev Meldgaard, CEO & Executive Director]

Finn, Jacob here. So I will leave it up to you to evaluate whether we're doing a poor job. I think what we're experiencing...

[Finn Bjarke Petersen, Analyst]

Relative to the past.

[Jacob Balslev Meldgaard, CEO & Executive Director]

Relative to the past, yes. So that is absolutely correct. So what we're experiencing is that right now the market has conversed, sort of, at a lower level in the third quarter and let's just call it average $10,000 per day to be, sort of, without being exactly precise. What has also happened is that all of the markets that we operate in geographically, so whether it's the Atlantic or whether it's Pacific or whether it's Middle East where we can position our vessels, a part of our outperformance has generally been -- we have been relatively good at predicting what will be the geographical area where you will have the strongest relative freight rates. And what has happened during the third quarter here is that all rates in all areas have basically converged down. So as an example right now, in -- here in the fourth quarter, what we're experiencing spot is that in the Atlantic basin, MR freight rates is currently around $15,000 triangulated, whereas freight rate in the Middle East and Asia is around $10,000 to $11,000. So what you will find is that in the third quarter, these rates were more or less the same in all areas. So a part of our inability to create higher value has been that there has not been these geographical areas offering a higher return.

[Finn Bjarke Petersen, Analyst]

So that is the big question, why are you exposed for the fourth and the first quarter?

[Jacob Balslev Meldgaard, CEO & Executive Director]

So the first quarter, I can't predict. All I can tell you, we follow on a weekly basis the position of ships. Right now, we have 75% of our fleet in the Atlantic, in the MR segment, which was the one I mentioned.

[Finn Bjarke Petersen, Analyst]

And are those -- are they open or they part of that -- how much of this is covered by your current 63% of the days for the rest of the year?

[Jacob Balslev Meldgaard, CEO & Executive Director]

What I am -- yes, so what I am describing is the next open position for the vessel, 75% out of the 50 vessels we have will be open next time in the Atlantic. But the timing for the opens will, of course, depend on the current depth of their voyage. I think what is very clear to me is that there has been a -- as we pointed to in the presentation, there has been a change in the market dynamic. We have slowly -- on a one-month rolling basis, we have been coming out of a very poor market, let's say, around 10. Right now, our one-month rolling rate for MR is around 13, but spots for this week, I expected to be closer to 15. I think that describes the current trends that we're seeing in our figures.

[Finn Bjarke Petersen, Analyst]

And that is due to an opening of the diesel arbitrage windows in the North Atlantic like the old days? Or -- and is that correct? And how sustainable would that be?

[Jacob Balslev Meldgaard, CEO & Executive Director]

So it's -- that's absolutely one of the factors, correct. So the diesel [ arb ] from U.S. to continent has opened recently. What we are also experiencing and which is probably a more sustainable and important factor for us to follow is that the transport differences, in general, of the volumes out of refinery sector in the U.S. Gulf have increased. So the transportation needs in the third quarter for the refinery sector in U.S. Gulf was predominantly to the nearest 5 destination so that would be Mexico, Latin America, Caribs, et cetera. What we are experiencing now is that there is a trend for the volumes to also go longer distances. So down to Brazil, Argentina, Chile, across as you point to the continents. So there is clearly an arbitrage window that has seasonality to it, which has to do with the deals you pointed to. But there is also a bigger picture around that currently tonne-mile effect of the same volumes out of U.S. Gulf has a positive effect on the market.

[Operator]

[Operator Instructions] And your next question is from the line of Dan Togo of Carnegie.

[Dan Togo Jensen, Research Analyst]

Going back to the IMO 2020 and the distribution of that globally, are there any markets in particular where this would hit? I'm thinking, Atlantic Pacific, et cetera. Are there any route areas, in particular, where this boost will be particularly strong? That's the first question.

[Jacob Balslev Meldgaard, CEO & Executive Director]

Dan, yes, so out of the -- as you can imagine, we believe that there is a disruption here where actually the players in the bunker sector providing the fuel to the whole shipping industry will, of course, need to find its new normality, and there would be new trading rules. However, it should be so that it is predominantly from Middle East to Asia supplying the fuels, compliant fuels of the new type into -- for instance, into Singapore, which is obviously a very important hub for this. So they don't have the supply vessels there, so that would most likely come from Middle East. And then you will also see that Europe, in general, has a deficiency in bunker fuel types, and that will be moving most likely from the U.S. So movement from U.S. and Middle East supplying Europe, and from Middle East supplying Asia.

[Dan Togo Jensen, Research Analyst]

Okay. And then on your investment here into scrubber production and installation. Firstly, how big of an investment are we talking about for you guys, your capital commitment? And what are the risks? Also when are we going to see the profit contribution from this joint venture i.e. -- and is this going to be substantial? And I guess it will be some sort of one-liner in the P&L.

[Jacob Balslev Meldgaard, CEO & Executive Director]

So one about the financial investment and the risk, it is a figure that is less than $1 million that we put into joint venture. So this is basically so that what you do is you commit working capital in order to have the first production up and running. The production will start at the first facility next week in China. It has been identified and we are then working on having one more facility where we can produce scrubbers, but the capital commitment is so and therefore, also the risk is less than $1 million that we put into it. If you look -- and then if you come to potential financial impact of being a part owner, it will be a one-liner in the -- in our accounts and Christian can explain where it would be included but what we anticipate is that we will obviously give an update in general on a quarterly basis about the development of the JV.

[Dan Togo Jensen, Research Analyst]

But the JV doesn't have orders from others outside you guys to install scrubbers? Or is it still very, very early days?

[Jacob Balslev Meldgaard, CEO & Executive Director]

It is early days. So we just announced it and there is an organization inside of that joint venture that will take care of that. So I'm not privy in that to how far they are in having acceptance of orders. I know that there is a lot of requests.

[Christian Søgaard-Christensen]

And then -- Christian here. It will hit on the -- our operating income but please bear in mind that there is a lead time from order to delivery of a scrubber of maybe 6, 9 months. So it is into '19 before you'll start seeing something in our figures. And potentially even second half of '19 before you will start actually having to work on it.

[Operator]

There are no further telephone questions.

[Jacob Balslev Meldgaard, CEO & Executive Director]

Thank you very much. So with this, we will conclude the earnings call -- conference call for TORM's third quarter results. The annual report will be released on 12th of March next year and we look forward to providing you with updates on our business at that time and we'll keep you informed of any interim developments. Thank you for dialing in.

[Operator]

That concludes the presentation. Thank you for participating. You may disconnect.