Frontline plc (FRO) Earnings Call Transcript & Summary

Ladies and gentlemen, thank you for standing by, and welcome to the Q3 2020 Frontline Ltd. Earnings conference call. [Operator Instructions] We are also taking questions from the web. I must advise you that this conference is being recorded today. I'd now like to hand the conference over to your speaker, Mr. Lars Barstad. Please go ahead, sir.

Hi. Good morning, and good afternoon. Welcome to Frontline's third quarter earnings call. This is my first call in the hot seat, and I'm both excited and honored to serve our company in this capacity. Frontline's long-term strategies are well cemented by the Board, and we're running a very professional organization that has easily adapted to this management transition. This has been a volatile quarter and an extraordinary year-to-date. I'm tempted to bring in black swans, but they seem to have become common to the shipping industry. The global COVID-19 pandemic has affected us all. And even though we still need to endure the situation a bit longer, there is no glimmer of hope in the horizon. Let's have a look at the highlights on Slide 3. Frontline came into Q3 2020 on a high note, but as the quarter progressed, freight rates started to correct. We are still -- we still landed the quarter at good returns on a low to discharge basis, earning $49,200 per day on our VLCCs, $25,100 per day on our Suezmaxes and $12,800 per day on our LR2s/Aframaxes. This yielded a net income of $57.1 million or $0.29 per diluted share. Our adjusted net income came in at $56.4 million, rounded to $0.29 per diluted share. We are very happy to report that Frontline has entered into 3 term loan facilities of up to $485.2 million, Inger is with me here today, will elaborate more on our financing activities later in this presentation. So far, in the fourth quarter, we have booked 74% of our available VLCC days at $22,600 per day. 61% of our available Suezmax days at $12,600 per day and 65% of our LR2/Aframax days at $13,800 per day. The booked earnings are a reflection of the challenges this market faces. And although we want to be upbeat on the future, there are uncertainties going forward. Frontline has, therefore, decided to refrain from paying dividend this quarter to preserve the company's cash position. I'll now let Inger take you through Frontline financial highlights.

Thanks, Lars, and good morning and good afternoon, ladies and gentlemen. Let's then turn to Slide 4 and look at the income statement. Frontline achieved total operating revenues, less overage expenses of $178 million in the third quarter and also an adjusted EBITDA of $108 million in the third quarter. Frontline reported a net income of $57 million or $0.29 per share and adjusted net income of $56.4 million or also $0.29 per share in the third quarter. The adjusted net income this quarter decreased about $150 million compared to the previous quarter. And that was primarily driven by a decrease in our time charter equivalents earnings due to the lower reported TCE rates, that Lars went through, in the third quarter, but also more of [ hired ] days in this quarter due to dry dock of 4 vessels. We also recorded a $13.9 million increase in ship operating expenses. That was mainly due to increase in dry docking costs of $4.3 million, also increase in repairs and maintenance of $2.1 million, and we also had $4.8 million additional crew costs due to COVID-19. In addition, we also had a reduction of $12.4 million as a result of that 3 in the second quarter. So [indiscernible]. Let's then take a look at Slide 5. We have completed loan facilities in a total amount of approximately $920 million during 2020. Whereas $725 million after that was done to refinance 4 existing loan facilities, which were due in December 2020 and the first half of 2021. But also, we have completed 2 financings of $196 million to finance new vessels. All these loan facilities were done at very attractive terms, with LIBOR plus 190 basis points or even better, maintaining our competitive cost structure. In November 2020, the company entered into 3 new term loan facilities in a total amount of $485 million, where 2 of these facilities were to refinance 2 existing term loan facilities maturing in the second quarter of 2021. And then the third facility was in the amount of $133 million to partially finance the 4 LR2 tankers under construction. The details on the refinancing of the 2 facilities were, first, that we had one senior secured term loan facility done with a strong banking group, consisting of the largest logo shipping banks in the amount of up to $250.7 million to refinance the $466.5 million facility, which maturing in April 2021. The new facility maturing in May 2025 and has an amortization profile of 18 years. This facility was fully drawn down in November 2020 and $236.8 million of the refinance facility has been recorded as long-term debt as of September 30, 2020. Further, we entered into one senior secure term loan facility with ING and Crédit Suisse in an amount of up to $108 million (sic) [$100.8 million] to refinance the $109.2 million facility which matured in June 2021. This new facility matures now in November 2025 and has an amortization profile of 17 years. The facility was also fully drawn down in November 2020 and $78.6 million of the refinanced facility has been recorded as long-term debt as of September 30, 2020. The slide shows debt maturities prior to refinancing in the gray columns and following the refinancing in the blue column. You will notice that following the refinancing, we have no material debt maturities until 2023. And the debt maturities from 2025 onwards have increased substantially. Lastly, we also entered into a senior secured term loan facility with CEXIM and Sinosure in an amount of $133.7 million to partially finance the remaining costs of $142.3 million for the 4 LR2 tankers under construction. The facility will have a tenor of 12 years and amortization profile of 17 years. And following that, the newbuilding program is fully funded. Let's then take a look at the balance sheet on Slide 6. The main happenings in the third quarter affecting the balance sheet were that we entered into the 2 new loan facilities, which I went through to refinance the 2 term loan facilities with total balloon payments of $324.4 million, which were due in April 2021 and June 2021. This has led to that short-term debt and current portion of long-term debt, decreased with $311 million and long-term debt increased with $293 million. Further, we paid $97 million in dividends, and we earned adjusted net income of $56.4 million. At the end of September 30, 2020, Frontline has $432 million in cash and cash equivalent including the undrawn amounts under our senior secured loan facility, marketable securities and minimum cash requirements. Then let's then take a closer look at the cash breakeven rate and the OpEx on Slide 7. We estimate that the average cash cost breakeven rate for the fourth quarter of 2020 will be approximately $21,900 per day for the VLCCs, $20,400 per day for the Suezmax tankers and $15,700 per day for the LR2 tankers. The fleet average estimate is about $19,500 per day. These rates are the all-in daily rates that our vessels must earn to cover the budgeted operating costs and dry dock, the estimated interest expenses, TCE and bareboat hire, installments on loans and G&A expenses. The Suezmax tanker cash cost breakeven rate in the fourth quarter 2020 is impacted by that we would dry dock 4 Suezmax tankers in the fourth quarter. We will also dry dock one LR2 tanker in the fourth quarter. As already discussed, the Q3 OpEx was affected by increase in dry docking costs, increase in repairs and maintenance and additional crew costs due to COVID-19. As usual, we would like to draw your attention to Frontline cash flow generation potential. In the graph, on the right-hand side of the slide, we have shown incremental cash flow after debt service per year and per share assuming $10,000, $20,000, $30,000 or $40,000 per day in achieved rates in excess of our cash breakeven rate. These numbers include vessels on time charter out, and we are looking at a period of 365 days from October 1, 2020. As an example, with a fleet average cash cost breakeven rate of $19,500 per day and assuming $30,000 on top of the average rate TCE, then the benefit TCE would be $49,500 per day. And [ Frontline ] we generated cash growth per share at the debt service of $3.42. With this, I leave the word to Lars again.

Thank you, Inger. So let's move over to Slide 8 and recap the third quarter in the tanker market. So global oil demand bottomed in May. And in June, we were already in recovery and demand surpassed supply amidst deep cuts by OPEC and other key producers. The oil market switched from inventory build to inventory draws. This can be seen on the slide at the bottom left with the yellow bars. Subsequently, OPEC+ increased production slightly, but kept the cap significantly below Jan 20 levels, and the draw cycle continues. When in draw mode, it's normally the expensive barrel that draws first, and this is typically floating storage. The majority of OPEC cuts have been geographically centered around the Middle East Gulf. This has led to recovering economies, in particularly in Asia, sourcing their oil from further afar. This incurs longer turn miles. In the end, this has favored the VLCC market as these vessels offer the best economies of scale. We also saw continued demand for product storage during the quarter and specifically jet fuel storage, keeping LR2 markets relatively firm. This development is well reflected in our results for the quarter. Let's move to the next slide, Slide 9, and look at the fleet and order books. Tankers have continued to enter the market during the quarter, but many have been engaged directly from yard in product storage. This has limited the impact on crude spot markets. There was reports -- or there has been reports of significant delivery backlog due to the COVID-19-related disruption, but this backlog seems to have been cleared. There are recent speculations of mammoth orders in clips of 5 and 10 vessels being placed in Asia. These are yet to be confirmed and not a part of this data set. However, as the chart indicates, there is room for fleet growth in both 2022 and more so in 2023, assuming 20 year-old ships leave the competitive spot market and oil demand develops on trend in that time horizon. One of the big X factors for shipping going forward is obviously propulsion technology. Frontline follows these developments closely. Leveraging on our extensive business platform, but there is also -- there is still a way to go to reach any conclusions. Let's move to Slide 10, where we try to explain one of this market's mysteries. We have a record number of vessels literally in all asset classes, reaching or passing the 20-year mark. Average recycling age for tankers is very close to this age, sometimes depending on the underlying freight rates. We are now in the market with relatively high volumes of inventory still in addition to a high amount of sanctioned oil volume. This seemed to have supported the demand for tankers in the tail end of their effective lifespan. In the chart below, we illustrate this by comparing the average price achieved on tonnage transacted, age close to 20 years and the reported price achieved for researching. The disconnect is pronounced and likely explains the muted recycling activity. Selling for alternative use is currently the preferred option for the owners. I think it's important to note that for the competitive spot market where we operate, we are under strict scrutiny from wetting policies and these vessels play an insignificant part of those balances. Let's move on to Frontline and our approach to ESG. Efficient sales and transparent operations have been Frontline's core values for years. Efficiency in order to save costs but also fuel costs. Safe in order to safeguard our seafarers, the environment and our physical assets. Transparent in order for the investing community like yourselves to easily understand our business model. What we have found, as we have familiarized ourselves with the relevant ESG framework for our industry the last couple of years, is that for us, it's more about how we structure our communication on policies and routines we already have in place rather than enforcing completely new routines or altering the way we conduct ourselves. A central part of our business model is for technical management to be clustered or shared, if you wish, with other listed companies we are familiar with. In this, we gain economies of scale as we share knowledge and practices for more than 230 vessels. This collaboration gives us an impressive leverage to shape and influence the standards we expect to be met, both on social aspects and on governance. But we also share synergies when it comes to applying technology to optimize performance, both in the traditional manner, [ also ] speed and consumption, but also with respect to our environmental footprint. Frontline is, although potentially a bit under communicated, very well positioned to comply with the stricter environmental, social and governance framework the shipping industry has to get comfortable with going forward. So let's move to Slide 12 and the tanker market outlook. Increased oil supply is now key in order for the tanker market to balance. We were shielded for a period as tankers were employed by storage. Now we're dependent on volumes to come to the market and normal trading patterns resuming. The demand for tankers is still capped by the OPEC cuts, but we find it extremely encouraging to see oil prices perform strongly as the volumes offered increased significantly, particularly by the Libyan exports that resumed in October. This in isolation suggests oil demand might actually be firmer than the market in general aspects. Looking at the benchmark Brent oil curve, we see the same tightness expressed in a dramatic move from contango or carry, if you like, to a near flattening of the curve. This signals inventory draws to accelerate and oil markets potentially finding a balance at an earlier stage. It's obviously a bit early to call, but just to explain how these mechanisms work. If we are drawing in a territory of 3 million to 4 million barrels per day from inventories now, that's the volume needed from producers once inventory levels normalize, which, in turn, can be translated into increased tanker demand. Finally, let me sum up on Slide 13. So Frontline is financially strong. We have no material debt maturities until 2023. The company is very well positioned towards ESG-related expectations. Despite extended regional lockdowns, oil demand continues to recover. Crude oil price action indicates a change in oil market sentiment, and we expect freight market volatility to increase going forward. Thank you. And then we can move on to the Q&A.

[Operator Instructions] And your first question comes from the line of Randy Giveans from Jefferies.

Howdy team Frontline, and congrats again on your promotion, Lars.

Thank you very much, Randy.

So first question around the dividend. You bought it back last year, paid a $0.10 dividend despite a loss following 3Q '19 results. You increased this to 40% -- or sorry, 70% of net income following the first quarter, fell in the second quarter and now you cut it to 0 despite a $0.29 gain. So I guess, why has the dividend payment bounced around so much over the last year? And what will cause you to reintroduce the dividend? Clearly, it's not just positive net income.

No. You're absolutely right. It's not only positive net income. We work in an extremely volatile market and we also normally have quite a good visibility on our earnings going forward. For Q3, the earnings were good, but our visibility or when we look into Q4, it doesn't look too great. And we are in the middle of a global pandemic and the uncertainties are quite great going forward. So we decided to keep the cash and -- but we'll obviously return paying dividends the minute we see that the market has stabilized and potentially is ready to return to levels where we see that suited.

Got it. Okay. So more of just a subjective outlook for the market regardless of the...

Our dividend policy is stated in such a manner that we like to use our discretion when we deem it needed. And in this particular case, we found that to be prudent.

Got it. All right. And then I guess one more question for your quarter-to-date rates. The VLCCs, Suezmaxes down from the third quarter for the fourth quarter, which makes sense. However, your LR2 rates are ticking up, they're higher. So maybe what caused this? And how many of your LR2 product tankers are operating in the crude trade?

Well, we have 8 of our LR2s are operating in the crude trade. We have 10 operating in the clean, of which one is on time charter. The estimated kind of time charter return for Q4 is probably in this instance, more colored by the returns we've seen on the clean side.

Okay. And then do you have an outlook for crude versus products here in the next 6 to 12 months, which kind of sector do you see most -- or more attractive? I know I think you mentioned neither are very attractive.

Well, it's a very good question. The thing is that we've come through 7 quarters where kind of the crude part of that equation has outperformed the clean trade. It's only the last 1.5 quarter where the clean product tankers have actually outperformed significantly. So it's really difficult to call. The Aframaxes are obviously now being penalized by the fact that Russia has cut quite severely together with OPEC. And that's hurt the North Sea barrel or the Baltic barrels coming out of Russia. I think I would wait to make that call until the [ phase ] flows have normalized.

And the next question comes from the line of Chris Tsung from Webber Research.

I wanted to ask about the decision to sell Sea Team. Could you expand on that a little bit more? And would you guys also look to divest other JVs like your position in Clean Marine?

Well first of all, to take the Sea Team to look at that, kind of Sea Team has been a really kind of good company for us to have more or less in-house for a period of time. It's obviously not core business. Our business model is outsourcing services like Sea Team we're offering. But it's obviously given us great knowledge. And it's also made us understand the market or the technical management market quite well. Us deciding to divest from that was more related to an opportunity that came rather than something that we strategically wanted to do quickly. So an opportunity arised, and we found a solution where OSM will actually continue to run Sea Team almost in its original form and take care of our vessels kind of -- that are under management with them, with the same mindset that they were already inside Sea Team. So it's more like kind of keeping to our strategies or keeping to our original strategy. With regards to Clean Marine, Clean marine is an investment we're still holding. We are not kind of an active owner in that. We were more like having a listening post. So I think I will leave that. The scrubber market or ETFC market is a little bit dormant, as you probably understand. But the company is still working, and we're just basically looking at it more as a passive investment.

Okay. Yes, that makes sense. And just looking at the -- not so much guidance but fixtures to date from Q4. The LR2s are a little bit higher than Suezmax -- hasn't typically ended -- happened this way. And I guess, how much of it is driven by the number of clean tankers versus dirty? Or I guess, what factors are allowing the Suezmaxes to trade below LR2 or LR2 to trade above the Suezmaxes for Q4?

Well, in the -- as I indicated, when I summed up Q3, Q3 was a bit of an atypical quarter when it comes to how freight rates develop. Because in a normal market, Suezmaxes will perform a little bit kind of below VLCCs. And then luxury Afras will follow suit a little bit below that. But this year or this quarter, Suezmaxes have actually underperformed VLCCs by more than 50%. And this is a market kind of look, it's not -- for us, in particular. With the OPEC cuts, we've seen that the longer-term miles have been prioritized or grown. And this has put the VLCCs in a much greater position due to their economies of scale. And this has penalized Suezmaxes in particular. So I think the rate is a reflection of how severe the situation has been in the Suezmax market where kind of little opportunity to trade during the quarter and quite kind of harshly hit the markets. The LR2s have, throughout the quarter, outperformed literally all the other segments apart from the VLCCs. And this is obviously due to their ability to store clean products and, in particular, [indiscernible]

Okay. So storage clean trade. Okay. And just one last quick question on dry docking. I know in your prepared remarks, you talked about the dry dock schedule for Suez and one for LR2 in Q4. Can you tell me the number of Suezmaxes in Q4 that are currently dry docked?

The number in Q4?

That's 4 Suezmaxes.

Yes it's 4.

And one LR2.

And 1 LR2, yes.

Great. Okay. 4 Suez, 1 LR2 in Q4.

And your next question comes from the line of Jon Chappell from Evercore ISI.

Inger, first question for you, just quickly on the dividend. So completely prudent, given your fourth quarter rates to date, but you guys are also able to refinance a lot of debt at very good terms at a very difficult time in the market. Were there any restrictions on dividend payouts or payout ratios as part of those new facilities that may have played a role in the decision to suspend this quarter?

No. We don't have any dividend resections in our loan facility. So that's not made any difference.

Great. Okay. And then Lars, you're joining at an interesting time, and Frontline has a legacy of being aggressive when others can't be. So you're retaining cash through no dividend. You've -- Inger's done a great job shoring up the balance sheet. But you've mentioned the uncertainty, and obviously, the pandemic. Asset values dropping pretty aggressively. How do you kind of view 2021 in your role and in Frontline's role in the industry as far as acquiring assets, chartering in assets, just adding more leverage when others are just worried about survival?

Well, as you said, it's in our kind of DNA to be aggressive when others can't. We also have a very strong shareholder in our backs. So it's obviously -- we're looking -- it's obviously something we're very excited looking forward. Kind of right now, I think the uncertainties are a little bit too great, to be quite honest. Although we are a bit, there are some risks kind of looking into the next couple of quarters. We think opportunities will probably arise as we churn and we have these levels, particularly on the freight side. And I think people will find that the Frontline DNA hasn't really changed, even if I'm in the hot seat to pull it up by.

And your next question comes from the line of [ John Reardon ] from -- he's a [indiscernible] investor.

Two things. One, you mentioned the unwind from the contango storage situation. Could you tell us what you think the percentage of that has occurred? And then secondly, Libya has gone from basically not exporting much of anything to, I read the other day, it's over 1 million barrels a day. Is that providing some support for -- rate-wise for the Suezmax market in the Eastern Mediterranean?

Thank you. Two really great questions. Firstly, there's the floating storage. On my -- in our presentation on Slide 8, we have some data there from Clipper Data. The way I look at or we look at storage is we look at vessel storing for an extended period of time. So we've put the bar at 21 days. And those levels peaked north of 100 million barrels. Now we're down to 60 million barrels. So there is a 40% decrease. How much oil when kind of that is finished, it's difficult to tell because there's also something about the structure of not only the crude curve, but also of the market itself. As I also think I mentioned, we have like a record amount of sanctioned barrels or sanctioned production in the world, which probably calls for a bit more floating inventory or inventory than we normally would observe. It's on its way down, and I think we have at least taken off 40% to maybe even 50% of the floating storage. With regards to Libya, Libya has been really exciting and quite surprising actually. So they've managed to ramp up. And I think the last numbers I saws was up to -- they've been able to add 1.2 million barrels per day. This has indeed made it far more interesting to be a Suezmax charter than there have been for the last couple of months. So we do see a lot more cargoes appearing in the market. We also see opportunities arising. A lot of these barrels are -- or have been for a while now actually been going east. And that is like a perfect fit for the Suezmax size of vessels. So yes, it has supported the market in Mediterranean significantly.

And your next question comes from the line of Greg Lewis from BTIG.

Lars, congrats on the position. I guess I just had a kind of a broad question. It was kind of talked about, people focused on the dividend, rightfully so. I guess I'll ask it a different way. As I look at Frontline, and the company looks like it trades on -- depending on what valuation metric. I know you don't like to talk about any of the -- but we could look at like something like more Wall Street, like [ EV ] to EBITDA. And the company's at a premium and the company has been able to leverage that premium to grow and be opportunistic over time. So just kind of curious, what do you think drives that premium?

So what drives our relative pricing to our [ pads ], is that --