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‘When it rains it pours’, I thought soon after reading that the Colombian navy, according toMaritime Denmark, had seized “1,144 packages that each contained 1 kg of pure cocaine (…) found onboard the containership Cap San Tainaro, owned by German shipping company Hamburg Süd, which is part of Maersk Line”.

What an unlucky event for the Danish carrier – one it could surely have done without, given the round of bad publicity already received this year, which so far has culminated in the latest announcement that guidance was revised down following two challenging quarters.

Wise move?

“AP Møller-Maersk Group (APMM)’s new expectation for earnings before interests, tax, depreciations and amortisations (ebitda) is in the range of $3.5-4.2bn and a positive underlying profit. The previous expectation for ebitda was in the range of $4.0-5.0bn and an underlying profit above 2017 ($356m). The remaining part of the guidance is unchanged,” it said last week.

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Chart 1 APMM new guidance announcement (Source: APMM)

Narrowing the guidance range was wise, as well as necessary, at half year, given Hapag-Lloyd’s previous remarks on earnings power for 2018.

However, as a result, its forward net leverage, as gauged by net debt/ebitda, becomes more problematic and could drive further action by the credit rating agencies. Junk territory is not far away and then, in my view, there are also a few other considerations concerning its financial achievements and goals.

Smart advice

All factors considered, it would make a lot of sense to ditch adjusted earnings and profit guidance, because APMM is the market leader in container shipping, but also – in a market where most have levered up to pursue scale – just one of many ocean carriers which have found it increasingly difficult to predict how future events would pan out, particularly about financial matters.

Almost two decades ago, Warren Buffett – whether or not you are a fan, he is arguably one of the smartest investors of all time – warned Berkshire Hathaway shareholders that, “in all of our communications, we try to make sure that no single shareholder gets an edge. We do not follow the usual practice of giving earnings ‘guidance’ or other information of value to analysts or large shareholders. Our goal is to have all of our owners updated at the same time”.

Mr Buffett’s view on earnings guidance has frequently emerged, and was nicely summed up in a shareholder letter in 2015: “Analysts often play their part in this charade, too, parroting the phony, compensation-ignoring ‘earnings’ figures fed them by managements.

“Maybe the offending analysts don’t know any better. Or maybe they fear losing ‘access’ to management. Or maybe they are cynical, telling themselves that since everyone else is playing the game, why shouldn’t they go along with it? Whatever their reasoning, these analysts are guilty of propagating misleading numbers that can deceive investors.”

Restructurings going nowhere?

I previously highlighted some of Mr. Buffett’s key remarks as part of my coverage of just such a major shipper, General Electric, which has been in restructuring mode for well over a year.

Deeply troubled, both operationally and financially, in the past year or so the US-based industrial group has unwisely guided the market with bullish estimates for profits and adjusted cash flows, despite plenty of uncertainty affecting its end markets and its ultimate corporate structure.

As with GE, APMM is shedding assets and has often been a disappointment for value investors. The former’s is a bigger corporate restructuring story than APMM’s, yet the shares of the two similarly trade at multi-year lows, and these are other similarities in terms of accountability, or the lack thereof, for their executives.

Chart 2 APMM vs GE (Source: Yahoo Finance)

While I think GE (and other truly global shippers) should give up feeding analysts with projected earnings per share figures, the choice for APMM is even simpler.

It is widely known that ebitda numbers and projections can end up being misleading, due to their nature and the amount of doggy non-cash/cash-like items that can be included in their calculations.

Although APPM’s clean ebitda numbers are above standards, why stick to them?

(Please click here to learn more about what Mr Buffett’s business partner, Charlie Munger, thinks of ebitda.)

Reaction

Unsurprisingly, APMM stock roared back – up 6% on 7 August – after announcing that its ebitda would come in lower than expected, and that is because first-half ebitda/profit numbers were not too bad, while underlying profit projections remained unchanged. And now, well into the third quarter, management almost sounded bullish for the fourth quarter.

On the one hand, its positive stock price action could be explained by how risky its investment profile is being perceived in the financial markets. To paraphrase an investment manager I talked to, highly speculative should ring a bell, although its credit rating remains solid.

On the other, its ebitda projections for the full year were far better than under any bear-case scenarios: in the third and fourth quarters, the company is expected to generate well over $2.2bn of ebitda on an aggregate basis, comfortably reaching $3.6-3.8bn in ebitda by year-end.

Chart 3 APMM earnings projections (Source: 4-traders)

If that is the case, APMM could hit $250m-$350m in terms of underlying earnings in 2018, based on my calculations, although several unknowns weigh on the outcome.

Chart 4 APMM underlying profits (Source: APMM)

Chart 5 2017 APMM ops break-down (Source: APMM)

Surely, its floor guidance for underlying profits still makes sense.

Ambition

APMM releases its interim results on Friday, 17 August. First-half operating cash flows and capex needs deserve a good hard look, also because management has ambitious plans and wants to grow non-ocean activities, although very few investors took it seriously in late February when it said FedEx and UPS were “seen as peers”.

Coincidentally, the share price slide has accelerated since, after an already poor performance since the shares topped out in mid-2017.

That said, rather than watching its share price action this week, you’d be well advised to keep an eye on its bonds. Bloomberg noted earlier this year that the yield on APMM’s shorter-term maturities had come down, but when looking at its risk profile, the latest action of its bonds carrying longer duration (2025) suggests that the pain could be felt sooner rather than later in terms of higher cost of funding. The same applies to Hapag-Lloyd, which has some overpriced bond tranches maturing in 2024.

Of course, APMM puts the emphasis on blockchain technology and other remarkable achievements, but any tech developments could absorb low-yielding capital for years – and this again resembles, financially at least, the long-term plan that investors have had to digest for a long time.

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