Frontline Ltd

NYSE:FRO

Earnings Call Transcript 2021-Q2

[Operator]

Thank you all for standing by and welcome to today's Q2 2021 Frontline Ltd. Earnings Conference Call. [Operator Instructions] Please be advised the call is being recorded. And I would now like to hand the call over to your speaker, Lars Barstad. Thank you.

[Lars Barstad, Chief Executive Officer]

Thank you. Good morning and good afternoon. Welcome to Frontline's second quarter earnings call. Different from the first quarter this year second quarter ended up being quite evitable. As many of you have asked quite a few times now, will Frontline try and exploit the weakness in this market to grow further? And I guess we have answered that now during Q2. We are in some way a three-legged shipping platform with VLCCs Suezmax and LR2s. Our VLCC leg has been a bit shorter than the others. Now we're amending that somewhat.

Parts of the challenges in the market this quarter has been the continuous flareups of COVID infections in various locations around the world. Vaccination has come far in the Western parts. But other parts of the globe are not so fortunate. We remain vigilant towards our seafarers' well-being and are happy to share that our efforts to arrange vaccines for them is going well. In addition, I'd like to mention we are very grateful certain port states are being extremely generous offering vaccines to seafarers literally for free.

So, let's move on and have a look at the highlights on Slide 3. Q2, 2021 performance reflects the challenges the market faced this quarter. It is however a further proof that our business model, efficient operations, modern fleet and a very hardworking chartering team manages to outperform the key benchmarks.

To put this in perspective, an average weighted earnings index I checked recently for oil tankers came in just over $6,000 per day in Q2 2021, the lowest print in more than 20 years. In order to outperform this, the owners and in particular the owners' charters must fight for every cent and know their position well to be able to play their hands best possible. Regrettably this is not always the case as far as we can observe.

Anyway, at Frontline we do the hard work and managed to achieve $15000 per day on our VLCC fleet; $11000 per day on our Suezmax fleet; and $10600 per day on our LR2/Aframax fleet in the second quarter of this year. So far in Q3, we have booked 70% of our VLCC days at $14000 per day; 64% of our Suezmax days at $9800 per day; and 63% of our LR2/Aframax days at $11800 per day. All numbers in this table are on a load-to-discharge basis.

Before Inger takes you through the financial highlights let me quickly comment on the acquisitions in the quarter. During Q2 we acquired through resale six latest-generation ECO-type VLCCs currently under construction at Hyundai in Korea. In addition, we acquired two modern ECO-type VLCCs built in 2019 at the same shipyard. We have for a period of time followed the VLCC asset market closely to look for opportunities.

As we didn't expect an imminent recovery in tanker markets, delivery was a key bargaining chip. The rallying steel prices and high activity around us for non-tanker assets pushing potentially delivery slots way forward added to our conviction in making these investments.

I'll now let Inger take you through the financial highlights.

[Inger Klemp, Chief Financial Officer]

Okay. Thanks Lars and good morning and good afternoon ladies and gentlemen. Yes following the acquisition of the VLCCs as Lars mentioned, we have progressed on the loan financing. And in August this year we obtained financing commitments subject to final documentation for three senior secured term loan facilities. They are in a total amount of just $247 million. And they will partially finance the acquisition on the two VLCCs built in 2019 and 3 of the 6 VLCC newbuilding contracts.

All facilities will finance 65% of the market value. They will carry an interest rate of LIBOR, plus a margin of 170 basis points. And they will have an amortization profile of 20 years starting from delivery date from the yard. We intend to establish long-term financing for the remaining four resale VLCCs newbuilding contracts, closer to delivery of the vessels.

Then I think we should move to Slide 4 and look at the income statement. Frontline achieved total operating revenues, net of voyage expenses of $80 million and adjusted EBITDA of $28 million in this quarter. And we report a net loss of $26.6 million or $0.13 per share and an adjusted net loss of $23.2 million or $0.12 per share.

The adjustments, this quarter, consist of a $4.7 million loss on derivatives; a $0.8 million gain on marketable securities; and a $1.3 million amortization of acquired time charters; and lastly a $0.8 million share of losses of associated companies. The adjusted net loss in the second quarter decreased $32 million compared with the first quarter. And the decrease was driven by a decrease in our time charter equivalent earnings, due to the lower TCE rates as Lars mentioned; an increase in ship operating expenses of $9.3 million, mainly as a result of higher dry-docking costs; offset by a gain on marketable securities sold in the quarter of $4 million.

Let us then look at balance sheet on Slide 5. The total balance sheet numbers have increased with $64 million in this quarter. The balance sheet movements in the quarter are primarily related to taking delivery of the LR2 tanker from Future and the acquisition of six VLCC newbuilding contracts in addition to ordinary debt repayments and depreciation. As of June 30, Frontline has $257 million in cash and cash equivalents, including undrawn amounts under our senior unsecured loan facilities, marketable securities and minimum cash requirements.

Then, let us take a closer look at cash breakeven rates on Slide 6. We estimate risk cash cost per daily rate for the remainder of 2021 of approximately $21,800 per day for the VLCCs; $7,500 per day for the Suezmax tankers; and $15,400 per day for the LR2 tankers. And the fleet average estimate is about $18,000 per day. These rates are the all-in daily rates that our vessels must earn to cover the budgeted operating costs and dry dock estimated interest expenses, TCE and bareboat hire installments on loans and G&A expenses.

The highly attractive terms on the updated financing commitments on four of the acquired VLCCs, which I mentioned earlier, decreases the daily cash breakeven rates with approximately $1,400 per vessel per day compared to existing financing terms of similar vessels.

In the quarter, we recorded OpEx expenses of $7,600 per day for VLCCs; $8,500 per day for Suezmax; and $9,000 per day for LR2. We drydocked three Suezmax tankers in this quarter and four LR2 tankers and we expect to drydock one VLCC and two LR2 tankers in the third quarter and none in the fourth quarter.

The graph on the right-hand side of this slide shows that, if we assume $30,000 on top of the daily fleet average cash cost per daily rate of $18,000, Frontline will generate a cash flow per share after the service cost of $3.51 per year. And the cash generation potential will increase after acquisition of the eight VLCCs.

With this, I leave the word to Lars again.

[Lars Barstad, Chief Executive Officer]

Thank you, Inger. So, let's look at slide seven and recap the second quarter tanker market. So, global oil consumption averaged 96.7 million barrels per day in Q2 2021, that's up 2.1 million barrels per day from Q1 2021. Production averaged 94.9 million barrels per day. Hence the world continued to draw about 1.8 million barrels from inventories.

Just to put that in perspective, when you go from inventories, you're not really using that much transportation. And as a rule of thumb on tanker utilization, you need about 30 VLCC equivalents in order to transport 1 million barrel of oil per day. So, this kind of draw represents a loss of 30 to 35 VLCC equivalents in demand.

The tanker rate gradually slipped throughout the quarter and volatility faded. OPEC+ did increase supply by more than 1 million barrels per day during Q2 2021. The key OPEC producers also went into higher demand periods, typically in the Middle East, where summer hits and you start to basically burn oil or fuel for electricity generation.

US and Brazil added another 900,000 barrels per day. Most of the Brazilian additions came out as exports. But for US they're also seeing a very strong growth in demand, hence less barrels were exported out of the US Gulf.

Demand rose sharply in North America and Greater Europe, whilst Asia that led the recovery saw a far more muted development in the second quarter of the year. As illustrated in the two charts below, where we basically isolated North America Europe and Eurasia, we see that during Q2, demand there rose sharply whilst the rest of the world and in particular, Asia and as I mentioned that led the recovery towards 2021 has performed kind of -- performed less first half this year.

So, let's move over to slide eight and look at the tanker order books. New ordering has naturally been muted during the second quarter of 2021. We've observed that the delivery window for ordering a significant number of VLCCs or Suezmaxes is now firmly into 2024. This is obviously due to all the ordering activity for asset classes kind of outside of the tanker space.

The overall tanker order book for VLCCs Suezmax and LR2 has shrunk 10% year-to-date. The overall order book for tankers above 10,000 deadweight tons stands at 8% of the existing fleet. And this is in fact comparable to levels seen in Q1 1997.

In absolute deadweight terms, we are at a 20 years low. I'd also like to put this in some perspective. 20 years ago the global oil consumption was around or at 76 million barrels per day. A normalized market now is closer to 100 million if not above. So, it means that the oil market is 30% larger now than in early 2000 and the order book is just about the same size.

The VLCC order book is now at 81 units give or take. At the same time, 124 VLCCs will be above or past 20 years in the same period. For Suezmax, we are at 41 units and 123 passing 20 years on the same metrics.

Let's move to Slide 9, and look at oil in transit. This is a very important indicator to us. We monitor this basically on a monthly basis to see where we are. Oil in transit is basically oil being transported, so in essence excluding whatever is on storage.

And as you can see on -- I've kind of circled in 2020 in a red rectangle here. And as you can see 2020 was a very noisy year for oil transportation. We started off the year with the Saudi-Russian price war, which distorted Q1 and Q2 and we had a massive production increase and transportation increase.

Then the COVID-19 pandemic hit and we had -- and we saw a demand shock that suddenly kind of took away a lot of production and also then transportation needs. And Q3 and Q4 the transportation needs diminished almost back to 2017 levels. Floating storage, did save tank utilization at the time.

First half of 2021, the tanker markets have -- well basically volume has increased and transportation has grown. But we've been facing increased fleet supply by vessels released from storage and delivery of new builds together with seeing deep inventory draws.

Now -- where we are now this is obviously, July and August for Q3 we're back to Q4 2019 levels. OECD commercial inventories are now down to 2019 levels. And I believe or we believe that's a fair proxy for global inventories.

There is also another thing to note, when inventories are no longer drawn transported oil will come into play. As an example of this, EIA are currently estimating us to build 1 million barrels of oil per day for September. But then come October, we're supposed to draw 0.5 million barrels per day from inventories. That gives you a delta of 1.5 million barrels, which then needs to be transported. That's equivalent to the demand for 45 to 48 VLCC equivalents. And I think this gives you kind of a notion, of how quickly this can turn.

Now let's move to Slide 10. I focused a bit on this in our press release. And I call it the VLCC fleet paradox. This is almost the same for Suezmaxes. But I decided to point out this for the VLCCs. We may all speculate in what the older generation of VLCCs are doing. But it is undisputable that a 20-year-old vessel will struggle, as a very limited number of charters accept them. And this is purely on age.

With the challenging trading environment, we've had during first half this year earnings achieved on non-ECO high-consuming vessels have been zero or negative. And mind you, 61 vessels are above 20 years as we speak. Year-to-date eight VLCCs are reported sold for recycling. The average recycling price in Asia has risen 70% in the same period and is now close to $25.5 million for a VLCC.

Well one of the typical exits for an older vessel in the tanker world, is crude oil storage. Well crude oil curves turn into backwardation in Q4 last year and are not at all supporting floating storage. So far this year we've seen three VLCC spot fixtures reported on a vessel that's either 20 years or older than that. And this is out of the 660 VLCC fixtures we recorded.

So again I want to highlight this because it is important and it's very important looking at the previous slide where we are in the cycle on oil being transported. If it is so, that the effective tonnage actually hasn't grown over the last couple of years then we're closer to balance than we might think we are. And this is as I mentioned in the press release, kind of distorts the picture to such an extent that it needs to be basically addressed.

So let me sum up on Slide 11. Demand and supply of oil continues to rise. But we have to admit the Delta-type infections cloud the outlook in particular in Asia. We see asset prices remain firm, steel prices continue to rise. And the activity is very good on the yards but for non-tanker assets.

At the same time the tanker fleet continues to age the overall order book shrinks and the potential delivery window moves further out should demand for tankers pick up.

OPEC+ plan to add about 400,000 -- no sorry -- yes 400,000 barrels per day each month until the end of the year. This means in total two million barrels per day of increased supply. And go back to the math for -- we then would need 60 to 65 VLCC equivalents by the end of the year.

Oil in transit continues to rise. And the big question mark is, obviously, when do we reach the inflection points? I would like to draw your attention to the chart at -- below, or at the bottom of the slide. I showed you this last quarter as well. And as the orange dot indicates this is where we were in March this year. So we're -- basically we're gradually digging ourselves in from negative year-on-year growth in global oil trade into positive territory, and since last Frontline has increased its position significantly. We have secured attractive financing and are ready to capitalize as we sail on towards the expected recovery.

Thank you very much. And I would then like to open for questions.

[Operator]

Thank you. We’ll now begin the question-and-answer session. [Operator Instructions] The question is from the line of Randy Giveans from Jefferies. Your line is now open.

[Lars Barstad, Chief Executive Officer]

Howdy Randy.

[Operator]

Mr. Giveans, your line is now open. You may ask your questions. [Operator Instructions] The question is from the line of Magnus Fyhr from H.C. Wainwright. Thank you.

[Magnus Fyhr, H.C. Wainwright]

Yeah, good afternoon. Looking at the performance in the fleet in the third quarter, I mean compared to some of the peers looked like you had a little bit better performance. I know it's hard to compare quarter-to-quarter, but you've been consistently outperforming the peers. So was there anything else in the quarter, or is there any other flavor you can give on the performance in the third quarter?

[Lars Barstad, Chief Executive Officer]

Well, it's a good question. This is one of the things that we, obviously, try to analyze. Well, obviously, when you compare to peers there is an aspect of fleet composition and the age of your fleet, and so that does play a part. But it doesn't account for all the comp out-performance. It's also staying true to the fact that we are shipowners, we have assets we need to protect. And we need to try as hard as we can to get our clients to understand that and not kind of give in. And it's also about a modern fleet in addition to economics it also gives you more opportunities to trade around. You basically have all options. So that's an important fact as well as you try to triangulate your vessels in order to achieve, kind of, higher utilization and better returns. I hope that's a good answer to your question.

[Magnus Fyhr, H.C. Wainwright]

Yes. No that's. Thank you for the color. Also I mean you're painting a -- was going into the abyss here rates are very weak. We're in the weakest part of the year. You mentioned that the fleet growth may not be as high if you adjust for the age composition of the fleet. But do you have any visibility into the winter market? I mean, we're still in August I know it's a little bit early. But I was just curious your outlook here for a recovery in the fourth quarter.

[Lars Barstad, Chief Executive Officer]

Well, we -- it's -- the share volatility of the freight market tells you that we know very little to be quite honest. But on the other hand, we fix kind of far ahead so we actually do see the demand quite early. And in that perspective what we see is that what we basically -- now we're doing September dates in the Middle East and West Africa and it looks quite good as to volumes.

We've seen rates in Suezmax actually try to edge up a little bit. We are also fixing October -- early October dates out of US Gulf. And that looks relatively busy in the beginning as well. So I won't, kind of, give you any guarantees, but the picture looks a bit better than it did two weeks ago.

[Magnus Fyhr, H.C. Wainwright]

Okay. Well, that's good. Just one last question then on the S&P market you've been active buying some resales. Just curious if you see any opportunities in the secondhand market. There was a vessel -- I guess there was a non-ECO 2012-built vessel reported last week at a pretty big discount. I don't know if that was just a one-off transaction or an indication of a potential weakness here in the secondhand market. I don't know if you can give any color on that.

[Lars Barstad, Chief Executive Officer]

I think, kind of, the -- if there is a curve on values I think kind of the softer spot is kind of the middle-aged generation and particularly if it doesn't have a scrubber. So -- because the older vessels like the really old ones they've been held up by this artificial demand from kind of undisclosed accounts that want to use the vessel for whatnots

And then the modern vessels are obviously the ones everyone wants to own as we go into a tightening regulatory framework and face all sorts of efficiency kind of demands going forward. And that keeps kind of these vessels in the middle a little bit, kind of, out of fashion.

So I'm not too worried about that transaction because basically from what I see on -- you could kind of -- you can argue that a very modern vessel or a resale or a newbuild is more correlated to asset prices themselves and eventually to the steel price. And as long as that is holding up I'm not too worried by kind of -- for the modern part of the fleet.

[Magnus Fyhr, H.C. Wainwright]

Okay. Thank you very much for answering my questions.

[Lars Barstad, Chief Executive Officer]

Thank you.

[Operator]

Thank you. Next question is from the line of Jon Chappell from Evercore.

[Jon Chappell, Evercore]

Thank you. Good afternoon.

[Lars Barstad, Chief Executive Officer]

Hi.

[Inger Klemp, Chief Financial Officer]

Hi.

[Jon Chappell, Evercore]

Inger, so you've lined up $130 million for two of the six VLCC newbuilds. Should we assume that you're looking for similar percent about – by my math around 70% financing, so another $260 million to be taken down for the remaining four?

[Inger Klemp, Chief Financial Officer]

Yes I will be looking for that. Yes I see that.

[Jon Chappell, Evercore]

Okay. So if we take that $390 million plus the drawdown on the Hemen facility, that's the majority of the payment on this. I think that only leaves like $74 million in cash outlay for the six newbuilds. Is that the type of financing in total you're looking for, or when you get the bank facilities for the remaining four ships would you have to pay that back to Hemen facility immediately?

[Inger Klemp, Chief Financial Officer]

We will use this Hemen facility as a bridge financing at the moment. And then we will continue – or we will consider in a way a bit further down the road our options on the long-term financing for the equity portion of these vessels.

[Jon Chappell, Evercore]

Okay. And then in addition to the Hemen facility expiring in May of 2022, which obviously you pushed that back several times and it's probably a safe bet to assume you could push it back further if you'd like. Are there any other big bullet payments or amortization profiles coming up in the next let's call it 12 to 18 months as we kind of bridge to the recovery that Lars talked about.

[Inger Klemp, Chief Financial Officer]

No there is nothing until 2023.

[Jon Chappell, Evercore]

Okay, great. So generally speaking, you feel good about the liquidity profile, it's now just finalizing the debt on the last four newbuilds and kind of holding on until the market recovers. Is that correct?

[Inger Klemp, Chief Financial Officer]

Yes. That is correct, yes.

[Jon Chappell, Evercore]

All right, great. Well, that's all I had. I think liquidity is important to getting you there. Thanks for moving that out, Inger.

[Inger Klemp, Chief Financial Officer]

Thanks, Jon.

[Operator]

Thank you. Our next question is from Randy Giveans from Jefferies.

[Randy Giveans, Jefferies]

Lars and Inger, can you hear me now?

[Lars Barstad, Chief Executive Officer]

Yes we can, Randy.

[Inger Klemp, Chief Financial Officer]

Yes we can.

[Randy Giveans, Jefferies]

Excellent. I could hear you earlier, you just didn’t hear me. Congrats obviously Lars on the official promotion to CEO, so exciting times for that.

[Lars Barstad, Chief Executive Officer]

Thank you very much.

[Randy Giveans, Jefferies]

Two questions. Clearly Frontline has been pretty active in acquiring tonnage. Is this strategy to continue to grow the fleet that way, or will you now maybe look to sell some older assets?

[Lars Barstad, Chief Executive Officer]

Well after – almost every time, we speak, it's difficult to kind of give you the playbook kind of here on the air if at all. But we obviously keep all options open. So I'm not going to dismiss it nor kind of confirm it. But we will always look at our fleet composition. And we favor the more modern units. So that could be a part of our strategy going forward, yes.

[Randy Giveans, Jefferies]

Okay. That's fair. And then looking at your quarter-to-date rates, they are pretty good relative, right? Do those include any recently signed time charters? Have you signed any of those this summer? And then we start to see some rates ticking up on the product side. Is that maybe the start of a recovery or still too early to tell?

[Lars Barstad, Chief Executive Officer]

The first question first. So we haven't done any time charters. And it's a very good question because short-term time charters we record as spot and we haven't done any of those.

Secondly on the LR2 market, you're referring to yes, it's firming out in Asia, and it's actually quite strong. We like to think it has legs, but it's -- we've been kind of disappointed a few times now when it's had wrong freight had one back in April as well. So it's -- let's say, the jury is out. What we have done in the meantime is actually cleaning up one of our LR2s. So we're kind of the balance is more tilted towards the cleanup with seven of the 20 vessels trading dirty, and then obviously, 13 clean and ready to rumble in that market.

[Randy Giveans, Jefferies]

Perfect. Dirty and 13 clean. All right. Well, hey, sorry for the difficulties here earlier. But thanks for getting me back on.

[Lars Barstad, Chief Executive Officer]

Oh, thank you.

[Inger Klemp, Chief Financial Officer]

Thank you.

[Operator]

And there are no further questions at this time, please continue. Magnus, wishes to ask a question again. Would you like to take it?

[Lars Barstad, Chief Executive Officer]

Okay. Yes. Of course.

[Inger Klemp, Chief Financial Officer]

Yes.

[Magnus Fyhr, H.C. Wainwright]

On the cleanup of the LR2…

[Lars Barstad, Chief Executive Officer]

Continue Magnus.

[Magnus Fyhr, H.C. Wainwright]

Yes, hi, thanks. Just a follow-up question on the cleanup of that LR2, can you just tell me a little bit about the process and the length of time and when you'll be ready to clean -- just the process of getting it to trade cleaner products?

[Lars Barstad, Chief Executive Officer]

Well, there are different avenues. And obviously, in this case, we found an opportunity to actually wash the tanks and at a reasonable cost and have a voyage -- a following voyage lined up already. But that's more luck than kind of skill I must admit.

But normally the way you do it is, you start kind of -- you need -- in order to trade properly as a clean ship you need to have the last three cargoes kind of clean. So the first cleaning cargo could be condensate and then you might move into another product. And then finally, you're actually able to transport like a gas oil or gasoline even.

And then by that you basically clean up the vessel. But that kind of experience means that you sometimes need to discount freight in order to get to that point. So basically what we look at is if there is a $750,000 to $1 million spread between the two markets, and we can line something up, we will basically start the process of cleaning that LR2.

Obviously, switching the other way, you can do it instantly. But in this case, we actually decided to invest some money in doing the physical clean. And that meant that we could -- depending, obviously, on the charter and each requirement we managed to -- within a relatively short time on one voyage we managed to become a properly clean vessel.

[Magnus Fyhr, H.C. Wainwright]

So from the time you wash the tanks to carrying gasoline, what's the timing of that?

[Lars Barstad, Chief Executive Officer]

I would -- in this case it was probably approximately 25 to 30 days.

[Magnus Fyhr, H.C. Wainwright]

So that three cargoes didn't apply because you washed the tanks or…

[Lars Barstad, Chief Executive Officer]

No. Yes. Otherwise it would have taken longer yes.

[Magnus Fyhr, H.C. Wainwright]

Okay. Thank you. Thanks for that color.

[Lars Barstad, Chief Executive Officer]

Hey, welcome.

[Operator]

And there are no further questions now. Please continue.

[Lars Barstad, Chief Executive Officer]

Okay. If that was all thank you very much for listening in on a busy day kind of on reporting, and we will soldier on at Frontline. And hopefully next quarter, we can report a completely different situation in the market. Thank you.

[Operator]

That concludes our conference for today. You may all disconnect. Thank you all for participating.