Hafnia Ltd

OSE:HAFNI

Earnings Call Transcript 2020-Q2

[Operator]

Welcome to Hafnia's Q2 H1 2020 Financial Results Presentation. We will begin shortly. You will be brought through the presentation by Hafnia's CEO, Mikael Skov; CFO; Perry Van Echtelt; EVP, Commercial, Jens Christophersen; and EVP, Head of Investor Relations, Thomas Andersen. [Operator Instructions]Certain statements in this conference call may constitute forward-looking statements based upon management's current expectations and include known and unknown risks, uncertainties and other factors, many of which Hafnia is unable to predict and control that may cause Hafnia's actual results, performance or plans to differ materially from any future results, performance or plans expressed or implied by such forward-looking statements. In addition, nothing in this conference call constitutes an offer to purchase or sell or a solicitation of an offer to purchase or sell any securities. With that, I'm now pleased to turn the call over to Hafnia's CEO, Mikael Skov. Thank you. Please go ahead, sir.

[Mikael Opstun Skov, Chief Executive Officer]

Thank you very much for that, and thank you for the introduction. My name is Mikael Skov, and I'm the CEO of Hafnia. And I would like to welcome you all to the second quarter first half of 2020 Conference Call. As mentioned above, I have with me today a few of my colleagues: Our CFO, Perry Van Echtelt; EVP, Commercial, Jens Christophersen; and EVP and Head of Investor Relations, Thomas Andersen. The four of us will present the financials for the second quarter and first half of 2020 for half year. So we're moving on to Slide #2. I would like everyone to be aware of the mandatory disclaimer and recommend that you read it and understand it. Moving on to Slide #3. So focusing on the highlights of the second quarter of 2020. So the first 6 months of 2020 have been among the most extreme periods in the product tanker space, and I'm pleased to see that Hafnia delivered the best quarter result in our company's history. However, due to the COVID-19, we are now all living with confinement restrictions, which has led to unprecedented demand destruction and weak economic fundamentals. This negatively impacts our short- to medium-term market outlook. We are very proud of establishing the Hafnia's specialized pool, which is adding an additional pillar to our successful pool management business. In addition, we have together with a strategic joint venture partner, invested in a methanol project, exemplifying our strategy to look at sustainable and modern shipping technologies. Finally, and particularly, considering the difficult period we have been through, I would like to take this opportunity to thank all our employees, both at sea and ashore, for their extraordinary efforts during these challenging times, and stress that the priority of Hafnia will always be the health and safety of our employees. Moving into the financials for the second quarter. Still on the same slide, time charter equivalent earnings for Hafnia was $206.9 million for the quarter and $400.4 million year-to-date, and EBITDA was $145.9 million for the quarter and $275.5 million year-to-date. When we look at our pool business, commercially managed pool business that generated an income of $7.1 million for the quarter and $30 million year-to-date. It meant that for the second quarter, we achieved a net profit of $97.7 million and will pay a total dividend of $38.6 million. Our net profit for the first 6 months of 2020 amounts to $174.8 million. Hafnia invested $10 million together with a strategic joint venture partner of 3.33% of pre-FID methanol project, converting regionally sourced natural gas to methanol with a 2.6 million tonnes per annum production capacity, of which the joint venture will be transporting 1/3 on 19-year contracts. In addition to investing in the methanol plant, the joint venture will be building these vessels, transporting their share of the ethanol. The exact vessel composition is still under negotiations. The investment shows the focus, which we, as a company, have on long-term contracts and alternative fuel vessels in either LNG, methanol or ammonia. As a final bullet, Hafnia has in the third quarter sold the Hafnia America for $11.6 million net to the company. Moving on to Slide #4, and talking a little bit about the market that we've been through. As the economic activity started to recover in China in April this year, many other economies in the west and part of Asia went into lockdown. Globally, it is estimated that more than 4 billion people who are under some form of lockdown in early part of the second quarter in 2020. This led to a collapse in global demand for oil. Oil demand in April this year was estimated to have fallen by 21.8 million barrels per day year-on-year, which is the single largest contraction in history. On the back of an oversupply of refined products from increased crude oil production by OPEC+, a super contango market structure emerged. Land-based storage filling up rapidly, the steepening contango market led to a surge in demand for floating storage for crude oil and refined products. With active tonnage supply being further reduced by poor congestion, freight rates across the product tanker segments soared to new historical highs in late April. The product tanker market remained at elevated levels until mid-May 2020 before higher oil prices, primarily driven by OPEC+ production cuts of 2 million barrels per day, began to flatten the contango curve and diminished the viability of floating storage. Thereafter, demand for product tankers receded significantly as inventories build up over the past few months started to be drawn down, triggering the unwinding of vessels in floating storage which, in turn, placed further pressure on product tanker freight rates for the remainder of the second quarter of 2020. Moving into Slide #5. We'll talk a little bit more in detail about the third quarter. So I'll hand it over to you, Jens, to talk a little bit about that.

[Jens Christophersen, Executive Vice President of Commercial]

Thank you, Mikael. Market activities in the third quarter, there was a notable rebound in freight rates in the U.S. Gulf in the early part of the quarter more than 2 million barrels per day of offline and derated refinery capacity returned to the market. In response to this, the U.S. Gulf Coast MR market rose by more than $13,000 a day between late June and late July 2020. The clean product tanker market in the Middle East, in particular, for LR1 in the middle of August on the back of a tighter tonnage availability, while freight rates to ship gasoline from Northwest Europe to the Atlantic Coast in the U.S., recently soared on the news of the U.S. Gulf Coast refinery shutting down ahead of Hurricane Laura making landfall. This happened only 36 hours ago. And today, again, the market looks different. The outlook for oil demand growth in the second half of 2020 remains uncertain. The resurgence of coronavirus infections in several parts of Asia and Europe suggest that the risk from an extended rebound period is ever present. A few comments on the individual markets where the company ships are employed on the Handy side, 30 Handy markets outperformed the clean Handy markets in the first half of the third quarter. The average quarter-to-date earnings are approximately $10,000 a day with current average Handy earnings of $8,000 to $10,000 a day. In the MR segment, MR rates in the U.S. Gulf climbed, as previously mentioned, as refinery utilization rose in the region and exports of products increased. Western markets have generally outperformed the Eastern market in the third quarter. The average quarter-to-date earnings so far has been about $12,000 a day with current average MR earnings across the world in the range of $13,000 to $15,000 a day. On the LR1 side, rates in the east were suppressed in the early part of the third quarter due to excess tonnage availability and low refinery runs, but has improved mid-August with a tighter tonnage list in the Middle East. Average quarter-to-date earnings so far in the LR1 segment has been about $15,000 a day with current average LR1 earnings worldwide of $20,000 to $22,000 a day. Lastly, on the bunker side. In the first half of the quarter, the split between high sulfur fuel oil and very low sulfur fuel oil narrowed to $79 per metric ton. The spreads for 2021 is currently about $80 per metric ton. And Perry, can you take the next few slides?

[Perry Wouter Van Echtelt, Chief Financial Officer]

Yes. Thanks for that, Jens. So if we continue on Slide #6, we have the financial summary. As Mikael correctly said, the second quarter was Hafnia's strongest quarter yet, but the industry benefited from the oil industry, building floating storage. We feel that we got a very good result of a net profit of $97.7 million for the quarter and $174.8 million for the first 6 months of the year. We will pay a dividend in total of $38.6 million or $0.106 per share for the first quarter. So for Q1 and Q2 combined -- sorry, that's for the second quarter. For Q1 and Q2 combined, we will then have paid a total of $77.2 million or $0.212 per share, which is an overall payout of 44%. Furthermore, the income from the management of third-party vessels is $7.1 million in the second quarter of 2020 and $30 million for the first half of 2020. I'll explain more about the economics of the pools on the next page. EPS, or earnings per share, was $0.27 per share for the quarter and 48% year-to-date. This effort resulted in an annualized return on equity of 33.5% and an annualized return on invested capital of 18.3%. The balance sheet is strong with an equity ratio of 45.1% and a cash position of $148 million. In terms of the maturity profile of our debt facilities, we don't have any major refinancing coming up until 2022 and continue to have strong access to the banking market. With the substantially reduced interest rates for U.S. dollar financing, we have also gradually increased our interest rate hedging position to lock in lower interest rates. At the end of the quarter, Hafnia had a total of 102 vessels, of which 87 are owned and 15 are chartered in. The average estimated broker value of the owned fleet was $2.2 billion as of 30th of June 2020. If we then move to the next slide, Page #7. Let me there explain a bit more about the pool economics by highlighting that the pool business, as I mentioned earlier already, generated $7.1 million in the quarter and $13 million for the first 6 months of 2020. If you look at the pool commission structure, the fee structure is twofold. So there is a fixed fee of $250 per vessel per day. And on top of that, a 2.25% of net TCE earnings made by the vessel. So in an example where a vessel makes $20,000 per day, Hafnia will make $250 plus $450 million, totaling $700 per day. The $250, the fixed fee, covers the fixed cost of running the pool for external vessels. So based on a fleet of approximately 80 externally managed vessels and a TCE higher of $20,000 per day gives Hafnia an annual income of $30 million before tax. Any change of $1,000 of time charter equivalents will impact the bottom line with approximately $600,000. So this is also to show that it's a very attractive stream of fees that does not consume any capital for the company. With that, Mikael, ask you to continue as of Page 8.

[Mikael Opstun Skov, Chief Executive Officer]

Good. So turning to Slide #8, where we are trying to highlight some of the important areas of focus in Hafnia that is kind of the basic pillars of how we're trying to build our business and also the basic pillars that are the important parts of leading to these results that we are presenting today. So as you can see on the left side, we've listed the 6 important parts in terms of best commercial platform, the lowest operating cost and cost of funding. And the fact that we, on the pool side, have made $7.1 billion just in one quarter alone, but also the focus on ESG and renewables, which will include dual fuel LNG and methanol and finally, the strong market fundamentals. It's all of these combinations that has the strongest focus in Hafnia, and that's kind of where the continuous focus of the business will be. When we talk about ESG, we have a few more slides later on. Just as a general comment, we see this now as obviously an area that we have to invest time and money in. And as previously mentioned, methanol project is one out of hopefully more opportunities where we have sound business in terms of having secured revenue, but also at the same time, learn and push forward against renewables, which ultimately will help the industry achieve all the environmental goals that we have set forward to do. If you look up right, another important part for being able to run ships in the spot market and thereby, take advantage when markets are strong as we have seen, is to have a low cash flow breakeven. Hafnia for this year will have $13,625 per day. In addition, we have a balanced capital structure with a targeted fleet loan-to-value of 50% to 60%. The dividend policy remains the same, which is a payout ratio of 50% of the annual net profit. So nothing has changed as far as the annual net profit is concerned. And I think as far as the pools are concerned in generating extra fees, the important part is to understand that having established a new specialized pool, we hope will be another stream of earnings that we will continue to expand. There is no reason why the Hafnia brand should not be able to continuously find new pools and new areas where with very little investment, we're able to generate a good fee stream to the benefit of all the shareholders of the company. Moving on to Slide #9. I think, Jens, you will take us through that.

[Jens Christophersen, Executive Vice President of Commercial]

Yes. Thank you very much, Mikael. Slide #9 shows the timeline from the autumn of 2019 up to today. And as the title on the slide says, IMO 2020 was a hot topic, and then came COVID-19. A lot of different events led us through one of the highest markets we've seen in history. And in the beginning of the timeline, you see the sanction, the OFAC sanctions of the COSCO VLCC fleet, which had a dramatic impact on the crude oil market. We had unrest in the Middle East, the bombing on the Aramco refinery and an Iranian tanker being bombed, with oil prices lifting itself to $61 a day. And in the beginning of 2020, we saw COVID-19 for the first time where China went into lockdown by the end of January and eventually, Europe, U.S.A. and India followed and the result of that was, amongst others, significant drop in oil pricing, where a barrel of West Texas Intermediate at some point in time cost minus $37. All of this led to a contango, which led to a buildup of land-based stocks as well as floating storage as the world ran out of land-based stocks. With peak of floating storage, we saw above 300 ships storing CPP, and now we're actually depleting that and getting closer to normality. And we're seeing 134 ships storing CPP. So if we go to the next slide. As we discussed on the previous page, the overall market has been influenced by many one-offs in the last 8 to 10 months, and we have consequently seen increased freight rates that drop again. However, business values have seen a little increase followed by -- following the increase in rates. And basically, it tells us that the indication was that everybody expected a short-lived rate spike. And at the end of the quarter, we've seen secondhand values dropping a little. Taking you to the next slide. In today's environment of relatively high oil stocks, it's relevant for us to see what we can learn from the past. And in the last 20 years, we've identified 5 periods with 5 to 6 quarters of inventory draws. There's been various reasons for the inventory draws where the first ones at the very end of the 90s, they were driven by economic setbacks and production costs, while the later ones have been caused by strong demand outpacing production growth.From 2010 and onwards, tanker earnings have been hit before the market went into an inventory draws due to production cuts and weak demand for oil, while the draws eventually took place as demand recovered. Most recent inventory draw we had was in 2014 and '15 after the Southeast market share campaign. And at the time, it was difficult to define as an oil market rebalancing as it was a bit off and on. However, it weakened the tanker market from 2016 initially from production cuts through much of 2018 and again in the summer of 2019. Looking at tanker sizes. We've seen a period of weak market when the oil market is in rebalancing mode. However, production growth is far more important for the tanker market compared to demand growth for all. Moving to next slide. Floating storage in 2020 has been significant driver for the overall tanker market with a massive increase in capacity used floating storage in the second quarter. However, we've seen the peak in May and have reduced it by now by approximately 100 million barrels. The graph that you're seeing are showing crude as well as product and storage. And as an illustration, we have shown in the top right corner, the drop in oil demand following the financial crisis in 2008, which I think most of us experienced as being severe versus the forecasted drop in oil demand in 2020. And the global oil demand declined by approximately 4 million barrels per day from December 2007 to March 2009, but in 2020, we expect it to drop by 17 million barrels per day in the second quarter of this year, which is substantial. So what we've just gone through is dramatic and does not compare with what we have seen in the past. And Mikael, I can ask you to take over.

[Mikael Opstun Skov, Chief Executive Officer]

Yes. So we are moving to Slide #13 in the presentation. And just to continue a little bit on what Jens just explained about the market situations, but maybe also to reflect a little bit of how we see the broader picture. But just to finalize on 2020 that due to the COVID-19, the expectation for 2020 have changed somewhat. And it is now expected that the growth in the seaborne product demand will be negative in 2020, partly compensated by the increased floating storage. We're still seeing a historically small order book. We saw an increase refinery outage in the early part of 2020, and we've seen a tonne-mile growth higher than fleet growth when we look forward to 2021. I think it's important to have a look a little bit at the overall picture. So when we enter 2020, as Jens also mentioned, there was a lot about IMO 2020. But one of the important parts was that we were seeing an order book on the supply side that was rapidly decreasing. We've now been through a turbulent time, but one thing that has been the same and has only changed for the better is the order book. We are still not seeing any significant new building orders at all in our sector. We are seeing a continuously falling order book. We have seen certainly us, particularly in China and other places, having filled up with noncommercial orders. So we feel that the overall story for 2020 and part of 2021 will be about COVID-19 destruction of demand, but a lot of supply including floating storage, a rebound of demand that is not entirely back to 2019. But more importantly, when we look ahead, we still see that the low supply will mean that even small demand increases will make this market spike. So I think it's an important part to keep in mind here that over the last 12 years, this industry has been suffering from a supply problem, not a demand problem. We've had steady demand, but we had a supply side that is over ordered. So we don't feel that the overall view of this market in terms of coming behind the 2019 COVID-19 situation has changed. And we still feel that looking ahead that with the limited availability of finance. And if you can get finance for most people, it's more expensive, we'll keep the order book and the supply side under control. With that, we move into a slightly different topic on Slide #14. And would just like to highlight that as far as the corporate governance is concerned, obviously, Hafnia has a full transparent governance structure as we should have. And the company has a strong focus on the roles of Board of Directors and the management and also has a proper full rundown on authorization metrics, committers, and fully aligned incentives, where there is no fee leakages and basically, all management teams are incentivized to be aligned with all the shareholders. So finally, moving on to Slide #15, which shows a bit of a highlight on the ESG initiatives that I mentioned earlier. And again, just as an overall comment, we do feel that being one of the largest operators of product tankers in the world that we also have an obligation to participate actively in moving the industry towards better times and to achieve the environmental goals that have been set out by the world in terms of 2030 and 2050. So part of this will be consisting of a lot of different work streams where we want to participate, both with knowledge and time, but also in some situations with investments to try and to push towards point number one, a decarbonization route that eventually will lead us to alternative fuels for the industry, but also on other parts, which really means about incorporating of trying to improve what we have today, realizing that there is not going to be a new solution tomorrow. So we need to focus and continue to focus how can we improve on today's operation using new technology and continue to bring down not only consumption of oil, but overall, the environmental footprint of the company. We're actually part of the Getting to Zero Coalition, and we think that the industry collaboration on all these parts have moved in the right direction, which is positive. So with that, I would like to open up the call for questions. This is the end of the formal presentation that we have, and we're more than happy to answer any questions that may be from the audience.

[Operator]

[Operator Instructions]

[Thomas Andersen]

We have received a question from Anders Karlsen from Danske Bank.

[Anders Redigh Karlsen, Analyst]

A little bit in terms of your vessel positioning currently. I mean, there's been a fairly wide spread between east and west on MRs side of fleet. How are you fleet -- or how is your fleet position in terms of that, thinking about your Q3 guidance and what to think about the rest of the quarter earnings?

[Mikael Opstun Skov, Chief Executive Officer]

Yes. Jens, you should answer that.

[Jens Christophersen, Executive Vice President of Commercial]

Yes. The overall distribution between the MR and LR fleet between the western and the eastern segment, it's about 60% to the east and 40% to the west. The Hafnia MR and LR fleet is a little skewed towards the east in the sense that we are sort of 63%, 64%, 65% in the east right now.

[Anders Redigh Karlsen, Analyst]

Okay. Listed refinery outages are down. But in terms of maintenance, et cetera, but how is the throughput? Is that at normal levels? Or is that low levels reflecting that...

[Thomas Andersen]

Could you just repeat the question, how is the -- what, sorry?

[Anders Redigh Karlsen, Analyst]

I mean, the refinery maintenance has come down, if you look at the cost that you showed. But it's rolling [indiscernible] system. But I guess the important part is your refinery throughout. How are you seeing that? Is that at low levels despite maintenance?

[Mikael Opstun Skov, Chief Executive Officer]

So refinery throughput as a whole has been increasing gradually, and Q3 is typically the season where refineries on a worldwide basis is running at a higher level of utilization. The current situation is that the Chinese refineries are now exporting more cargo than they did only one month ago. We're also seeing more exports in the Middle East. The Indians out and are expected to come back where some of the Middle East refining capacity is expected to go into maintenance. If we look at the Western Hemisphere, the U.S. Gulf returned quite quickly. And they are still expected to export a lot in the coming quarters, depending a little bit on the outcome of the Hurricane Laura that hit the U.S. Gulf yesterday. Does that answer your question?

[Anders Redigh Karlsen, Analyst]

Yes, it does. Of course. And then one final question in terms of new building orders. Your comment about methanol ships [indiscernible], about the dual fuel. Can you comment on that? Or how are you looking at new building of methanol?

[Jens Christophersen, Executive Vice President of Commercial]

I'll leave that for you, Mikael.

[Mikael Opstun Skov, Chief Executive Officer]

So -- yes, exactly. So yes, so my point is clearly is that, of course, there will be new build as kind of fleet renewal by [indiscernible]. So I think that that's kind of a normal thing, but what we're referring to is really extraordinary new build activity that has ruled the market previously, which is more speculative ordering set, which we have seen none of really. So when it comes to Hafnia, I think we've been trying to be very vocal about one thing, which is that Hafnia has 102 vessels financially committed these days. So our focus is really about shareholder value and returning capital to shareholders. Our view is not to start building a lot of new set et cetera. We will, of course, manage the fleet that we have, and -- but to do new build orders as a regular type of investment is not what we're looking at. The dual-fuel LNG or the methanol project that we talked about, both on the kind of same criteria that if you were to look at that, it will always be in the back of having secured revenues going forward. And this will always be investments that would lead us towards a renewable path going forward, and therefore, either in terms of understanding, strategically positioning, but those elements should be part of it. It would never be speculating in new builds or running in the spot market as a pure investment.

[Operator]

[Operator Instructions]

[Thomas Andersen]

Operator, there are not seem to be any more questions. So...

[Mikael Opstun Skov, Chief Executive Officer]

I think there is one more actually, right? I will just pick one up, if I'm not mistaken, is that right?

[Thomas Andersen]

Yes, there is one question from the webcast.

[Mikael Opstun Skov, Chief Executive Officer]

Yes, I'm just looking at that now. So there is a question here saying, could you elaborate on your efforts to move towards using alternative fuels? What are the main opportunities and challenges? And how do you currently view the strongest fuel options among the hydrogen, biofuels, et cetera? Yes. So thank you for that question. And as I explained earlier, we don't think that there is, at the moment, one clear part or one clear solution to an alternative fuel. And therefore, we think it is important that there are different paths that we have to, all of us as an industry have to pursue. We see different opportunities. I mean, In our view, there will be a bridge over a few years that will probably be dominated a little bit by LNG. And if you look at the latest technology on dual fuel engines, we actually have a very, very limited amount of methane emissions, which has been one of the traditional problems. So we think that there are solutions there that will enable LNG to at least move us a step forward. Looking towards the further in the future, we think that methanol definitely, which is already around, is a product that will be one of the alternatives. The other one that we think could be a potential win in this situation is ammonia. And if you haven't seen, you can go on the website, we have published together with a few other stakeholders a report a couple of weeks ago on ammonia, where we have participated on the transportation side of input. But the reporting itself the white paper deals with all the aspects of ammonia as an alternative, all the way from production availability to our infrastructure, et cetera. We do believe that ammonia has an element of interest. We think there are a lot of pieces in it that will help. And therefore, we also decided that as part of where we invest our time and energy would be towards the road of methanol and ammonia. I think -- I don't know if we have any further -- I didn't see any further on the screen. So if not, Thomas, do you want to hand it back to the operator.

[Thomas Andersen]

I think so. Then we'll hand back to the operator.

[Operator]

We have come to the end of today's presentation. Thank you for attending Hafnia's Second Quarter 2020 Financial Results Presentation. More information on Hafnia is available online at www.hafnianbw.com. Goodbye.