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© Kaan Kurdoglu

For the investment community at least, Taiwan’s Yang Ming has been sailing under the radar for a couple of quarters–  one fund manager invested in its stock told me last week it was “because its operational improvement has been significant in a buoyant market for rates and investors”.

It appears a very different story when I talk to my colleagues at The Loadstar who talk of a carrier which, at every turn, is trying to reassure nervous customers it won’t “do a Hanjin” on them.

So what’s going on here? The finance guys are all bullish, while shippers and forwarders are decidedly bearish.

Well, I have to say that the hard evidence I have seen, and especially in its latest monthly financial update (30 October), leads me to conclude that Yang Ming remains one of the most likely casualties in the container shipping market.

Weakness

Weak fundamentals have contributed to push down its stock price almost 30% since a peak earlier this year. The fall was exacerbated by significant downside pressure on the shares of other container shipping companies such as Maersk and Hapag-Lloyd, both down about 14% from their 2017 highs.

But Yang Ming, of course, is a very different story.

Yang Ming share price (source Google Finance)

Yang Ming share price (source Google Finance)

On cue, further down the supply chain, Seaspan, the world’s largest containership lessor, similarly reported a quarterly trading update that continues to make me feel uncomfortable with regard to its funding risk – although, admittedly, I have surely witnessed a true improvement here since the announcement that chief executive Gerry Wang was to leave the company.

Signs

But let’s return to Yang Ming. My remarks in recent months haven’t gone down well with a few investors; one analyst in particular replied to a downbeat comment I left on his wall concerning the prospects of the Taiwanese carrier.

“You’re saying the government of Taiwan, with $86bn in revenue and over $500bn in GDP, cannot afford to help bail out Yang Ming, which needs around $100m short-term, around $500m longer-term and a credit rollback deal?” he asked me.

(As a reminder, Yang Ming’s market cap currently is only about $820m.)

If you consider those funding requirements small change, possibly it is because you don’t realise that Yang Ming is not expected to post a positive operating income until the end of 2019 at the earliest, while core free cash flow (operating cash flow minus capex) is, based on my calculations, unlikely to be positive until the end of the first half of 2018, or later.

I appreciate it might be premature to talk about state intervention, but ominous signs and short-term financial trends are hard to overlook while its balance sheet remains seriously overstretched. In addition, the Taiwanese government has already said there were not enough funds kicking around for every company in the shipping industry, so I seriously have to question why precious capital should be devoted to shore up the ailing financials of Yang Ming rather than compatriot Evergreen, which appears in far better shape.

Carriers

To paraphrase the thinking of several executives in the logistics industry, the ocean carriers own the fixed assets, and they are in charge at this particular time in the business cycle – in short, not much could have gone wrong, given that the industry overcapacity has largely been addressed over the last nine months.

The executives I usually talk to, however, tend only to refer to the five largest container shipping companies by capacity, so where does that leave the smaller players?

I have spent a fair amount of time on the first-half numbers of Yang Ming, as well as monitoring monthly cash updates (the Taiwan Stock Exchange requires Yang Ming to publish liquidity figures at the end of each month), and while some key headline metrics – revenues and operating cash flows, for example – have bucked previous trends, the bears could easily argue that the improvement is not enough.

In fact, arguing against its success as a going concern is easy, as returning Yang Ming to the black is a daunting task given its huge debt pile.

 

 

Yang Ming main financial metrics and cash flows (source Yang Ming)

Yang Ming main financial metrics and cash flows

Yang Ming revenues and trends (source Yang Ming)

Yang Ming revenues and trends (source Yang Ming)

Some cash flow numbers are better than others, but even including the TW$6bn (US$200m) of new equity it raised recently, it is easy to argue that Yang Ming would still need TW$10bn of additional funding to have some spare cash on the books and cope with its short-term debts that mature in a year or earlier. Although short-term funding needs are less pressing now than earlier this year, it might need even more new equity as early as the second quarter 2018, unless maturing debts are rolled over on longer duration.

(This means my initial prediction in April this year is pushed back by about five months.)

At the end of September, it reported the lowest cash balances (TW$9.9bn) since a trough in April (TW$7.6bn), and figures at the end of October were only mildly encouraging.

Yang Ming cash balances (source Yang Ming)

Yang Ming cash balances (source Yang Ming)

Meanwhile, investors seem to be trading the stock based on a valuation that is only twice as much as its gross cash balances per share, which certainly signals a degree of stress rather than distress – although its price-to-book value doesn’t seem to take into account all the risks surrounding fragile economic dynamics and many carriers seem to underestimate recession risk, mainly in mature markets.

While the bulls insist that growth will bail out everybody, I am reluctant to believe that Yang Ming is sailing in safe waters. And I also believe Seaspan, its main supplier, remains another delicate corporate story, as proved by a recent funding round that was fairly priced, but only because the company managed to raise a very tiny amount of money as a percentage of its total funding requirements.

In a recent conference call with analysts, the new Seaspan management team talked of a corporate story in which deleveraging remains a top priority – frankly, it couldn’t be anything else, given the financial performance and balance sheet flexibility shown in the following tables.

Seaspan snapshot (source: 3Q results)

Seaspan snapshot (source: 3Q results)

Seaspan balance sheet flexibility (source: 3Q results)

Seaspan balance sheet flexibility (source: 3Q results)

In this context, it’s unsurprising to see that its stock has plummeted since I initiated my coverage in August 2016.

Seaspan share price (Google Finance)

Seaspan share price (Google Finance)

As with Yang Ming, it is hard to overlook some of the improvements Seaspan has made, but financially there remains plenty of risk if economic tailwinds subside, and while overcapacity has been temporarily managed this year, its spectre continues to haunt the industry – carriers and non-operating owners alike.

Vesselsvalue.com reported last week that of the 2,440 vessel orders scheduled to be delivered this year, only 1,220 have hit the water so far. That number is for all types of cargo vessel, but in the container sector around 50% remain undelivered – and there is just two months left this year.

In addition, the odds are constantly shortening that the Asia-North Europe trade will be almost entirely operated by ULCVs by 2020, although even major industry players seem unable to agree on the full operational benefits that scale brings under a base-case scenario where GDP growth grows in line with rather bullish forecasts.

Of course, if the bulls are right, Seaspan is destined to shine, but obvious risks to its debt-funded business model persist – and clearly, another bankruptcy among its customer base would spoil its plans, while shocking the entire supply chain.

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