ATCO - Atlas Corp

[mcliu]

But, Danaos is a 40 year old company. So they are having to take big, consistent, impairments year after year now. Like last year’s $200 million write down on some 15 year old Panamax ships. And $400 million of write downs a couple years before that. In total Danaos has accumulated $200 million of losses over the last 5 years. My concern is Danaos provides a preview of Seaspan’s fate. Just look at how Danaos’s market value has plummeted over time as the impairments overwhelmed earnings.

 

Sokol may be the preeminent operator in large capex type businesses...Kiewit Energy, Cal-Energy, Mid-American, Netjets, BYD Company, Atlas Corp.  If anyone understands large capital requiring, depreciating asset businesses, it's David Sokol.  Not only is he a spectacular manager, but he's as good an investor.  I would not be out of place to say that he is one of the few people as talented, if not more talented, than Warren Buffett or Prem Watsa.  If he had not left Berkshire as he did, David Sokol's name would be in the same stratosphere as Jack Welch, Jamie Dimon, Jeff Bezos, etc.  He is an extraordinary operator...so I doubt you will see anything happen even remotely close to Danaos.  Cheers!

 

I Totally agree with you on Sokol. He’s an operations management machine. It kills me Sokol isn’t overseeing Berkshire’s operations. I think his management approach and intensity would unlock So Much more value. And, his track record is the reason why I think Fairfax pretty much had no choice but to invest alongside him. I’m all for investing in David Sokol. Who better to competently manage billions of dollars.

 

I don’t so much mind the bond deal, and I’m glad Atco is diversifying, because I want to see Sokol work his magic. I just can’t find evidence that container ships have a positive lifetime value.

 

Container ships are a bit like owning a rental house that nets $10k a year for 3 years, so you feel pretty good about life, but in years 4 through 6 you have to replace the HVAC system, the water line, and the roof, so from a cash flow standpoint you feel like you’re treading water, and then in year 7 you bulldoze the house and sell the scraps.

 

I just hope that if Seaspan’s is indeed a low-return business model, that Sokol is able to maintain his managerial reputation by pivoting before it’s too late. If anyone can do it he can.

 

No they don't, but most large capex businesses have depreciating assets...doesn't mean they aren't good businesses.  In fact, Berkshire has become one of the leaders in investing in such businesses, because they consume so much free cash and tend to have valuable operating moats.  Cheers!

 

Sorry, I don’t follow. Isn’t Thrifty3000 basically saying new ships don’t generate enough cash over its lifetime to justify the upfront cost? So if you’re buying a boat for more than the NPV of cash flows, how can it create value?

 

Also, where does the moat come from? Long-run capacity in the shipping business seems unlimited? Maybe short-term there’s some constraint due to by shipyard capacity?

[petec]

I think to make this discussion you have to specify a few more parameters. Are you buying the ships new or old? Are you buying at the top of the cycle when prices are high or at the bottom when they’re low? And do you think returns actually might be better in the slow growth/mature phase of the industry’s lifecycle than they were in the go-go years when technology (or rather size) was evolving at pace (driving obsolescence risk) and speculative capital was everywhere?

 

I believe cyclical industries are dream playgrounds for outstanding capital allocators. Seaspan+Sokol=opportunity in my view.

 

Might be wrong!

[Thrifty3000]

Alright, I’ve torn the Atco annual report apart trying to pin down the value of a boat to owners. There’s no way to do it with precision, but I think I got the gist.

 

It looks to me like the break even point IS likely achieved during the long-term charter. Phew. And, it looks like whatever free cash is earned from the boat post long-term charter is gravy.

 

To draw this conclusion I looked at their recent purchase price of several 12,000 TEU boats, and then derived all kinds of rough assumptions about charter rates and per-boat expenses from throughout the annual report.

 

The example I used...

 

A 12,000 TEU ship purchased for approximately $100 million.

 

I assumed a 10 year charter worth $180 million (~$50k daily rate).

 

10 years of interest expense, overhead, boat operations, and boat maintenance appear to me to cost something moderately less than $80 million. Let’s call it $70 million.

 

So, from that example it seems reasonable to assume the long term charter earns enough to cover the purchase price of the boat, all expenses, and probably a small profit.

 

The precise return on equity is impossible to pinpoint, since it depends on how much equity is used to purchase the boat, and on how much cash is generated after the long-term charter.

 

I’m going to go out on a limb and say that pre-Sokol the IRR per boat was maybe in the neighborhood of 7% (with much of the return paid out as dividends). My gut tells me Sokol is pushing for at least 15% IRR. And, recent trends in utilization and cost containment (and probably boat purchasing and contract pricing discipline) were heading in the right direction.

 

I’m definitely more comfortable with the business model at this point - especially under an operator like Sokol.

 

At this point my main concerns are things like:

 

- industry headwinds

- customer concentration/risk (Yang Ming)

- implications of the very generous carrying value of the boats.

 

Will have to keep noodling on this one.

[Parsad]

Alright, I’ve torn the Atco annual report apart trying to pin down the value of a boat to owners. There’s no way to do it with precision, but I think I got the gist.

 

It looks to me like the break even point IS likely achieved during the long-term charter. Phew. And, it looks like whatever free cash is earned from the boat post long-term charter is gravy.

 

To draw this conclusion I looked at their recent purchase price of several 12,000 TEU boats, and then derived all kinds of rough assumptions about charter rates and per-boat expenses from throughout the annual report.

 

The example I used...

 

A 12,000 TEU ship purchased for approximately $100 million.

 

I assumed a 10 year charter worth $180 million (~$50k daily rate).

 

10 years of interest expense, overhead, boat operations, and boat maintenance appear to me to cost something moderately less than $80 million. Let’s call it $70 million.

 

So, from that example it seems reasonable to assume the long term charter earns enough to cover the purchase price of the boat, all expenses, and probably a small profit.

 

The precise return on equity is impossible to pinpoint, since it depends on how much equity is used to purchase the boat, and on how much cash is generated after the long-term charter.

 

I’m going to go out on a limb and say that pre-Sokol the IRR per boat was maybe in the neighborhood of 7% (with much of the return paid out as dividends). My gut tells me Sokol is pushing for at least 15% IRR. And, recent trends in utilization and cost containment (and probably boat purchasing and contract pricing discipline) were heading in the right direction.

 

I’m definitely more comfortable with the business model at this point - especially under an operator like Sokol.

 

At this point my main concerns are things like:

 

- industry headwinds

- customer concentration/risk (Yang Ming)

- implications of the very generous carrying value of the boats.

 

Will have to keep noodling on this one.

 

Now you got it!  The 15% IRR is achieved by high utilization rates of 96-97% and reduced financing costs through ATCO's model. 

 

The shipping industry is very similar to Sokol's experience with Netjets...how do you share the cost of transport and increase bookings to very high efficiencies.  If you manage to distribute your financing cost and are efficient on bookings, you get a high capex business that is modestly profitable. 

 

It creates an internal moat that makes it difficult for competitors to enter the market because they either get the capital costs wrong or can't become efficient enough on the booking side.  A great operator like Sokol is priceless for such businesses and such businesses don't work unless you have a great operator!  Look at Railroads, look at the Airline industry...very much like Shipping...Energy is somewhat similar.  Cheers!

[petec]

Thrifty I think your framework is about right. But the key point is that if the economics of buying ships don't look good Sokol won't buy ships. So while this concern is key for the industry, it's a slightly moot point for Atlas.

[skanjete]

Alright, I’ve torn the Atco annual report apart trying to pin down the value of a boat to owners. There’s no way to do it with precision, but I think I got the gist.

 

It looks to me like the break even point IS likely achieved during the long-term charter. Phew. And, it looks like whatever free cash is earned from the boat post long-term charter is gravy.

 

To draw this conclusion I looked at their recent purchase price of several 12,000 TEU boats, and then derived all kinds of rough assumptions about charter rates and per-boat expenses from throughout the annual report.

 

The example I used...

 

A 12,000 TEU ship purchased for approximately $100 million.

 

I assumed a 10 year charter worth $180 million (~$50k daily rate).

 

10 years of interest expense, overhead, boat operations, and boat maintenance appear to me to cost something moderately less than $80 million. Let’s call it $70 million.

 

So, from that example it seems reasonable to assume the long term charter earns enough to cover the purchase price of the boat, all expenses, and probably a small profit.

 

The precise return on equity is impossible to pinpoint, since it depends on how much equity is used to purchase the boat, and on how much cash is generated after the long-term charter.

 

I’m going to go out on a limb and say that pre-Sokol the IRR per boat was maybe in the neighborhood of 7% (with much of the return paid out as dividends). My gut tells me Sokol is pushing for at least 15% IRR. And, recent trends in utilization and cost containment (and probably boat purchasing and contract pricing discipline) were heading in the right direction.

 

I’m definitely more comfortable with the business model at this point - especially under an operator like Sokol.

 

At this point my main concerns are things like:

 

- industry headwinds

- customer concentration/risk (Yang Ming)

- implications of the very generous carrying value of the boats.

 

Will have to keep noodling on this one.

 

Now you got it!  The 15% IRR is achieved by high utilization rates of 96-97% and reduced financing costs through ATCO's model. 

 

The shipping industry is very similar to Sokol's experience with Netjets...how do you share the cost of transport and increase bookings to very high efficiencies.  If you manage to distribute your financing cost and are efficient on bookings, you get a high capex business that is modestly profitable. 

 

It creates an internal moat that makes it difficult for competitors to enter the market because they either get the capital costs wrong or can't become efficient enough on the booking side.  A great operator like Sokol is priceless for such businesses and such businesses don't work unless you have a great operator!  Look at Railroads, look at the Airline industry...very much like Shipping...Energy is somewhat similar.  Cheers!

 

I don't think you can compare shipping and airlines to railroads, real estate and energy. Each sector is capital intensive, but it is far more easier to create a moat in the last 3 sectors than in shipping and airlines.

In railroads, real estate and energy, there basically is a moat because of the location. The infrastructure simply cannot be replicated because of the location limitations or regulation that prohibits it.

 

With shipping and airlines, there is no such limitation and supply can increase as long as somebody has the money available to fund it. The sector is capital intensive, cyclical and commodotised : a really bad combination.

 

The only way to create a moat is by  superior operating margins and thus structurally lower operating costs. Since these costs are a smaller percentage of revenue, it's difficult to create or maintain the moat, and even then, results can only be seen on the long term by higher survivability, not necessarily higher profit.

Because of the high capital intesitivity, an operator can easily fool himself by just looking at EBITDA or cash flow and negating the high depreciation. In that way, zombies can go on for a long time, creating bad industry conditions for all participants for a very long time.

 

It's no coincidence I think that the shipping companies pay such high dividends. The owners want to extract as much money from cash flow as they can, while they can. The shipping families also create their wealth by playing the other financing parties. The markets don't seem to understand the sector's dynamic and appear willing to buy overvalued shares when things go great. On the other hand, banks don't seem to understand it eather and get fooled into financing extra capacity. When things go bad, their collateral disappears and they have no choice but to extend and pretend. This way, the shipping families profit when things are great and pass the buck when thing are less rosy. This way the "shipping dynasties" create their wealth in an otherwise risky and difficult business.

 

I conceed that Seaspan operates in a somewhat different way, with longtime charters and different financing models. That's why it is my favorite amongst shippers. But still, I think the sector is lousy and not to be compared to other capital intensive businesses as energy or

railways.

 

For people interested in the sector : a fun book to read is "the shipping man" from Matthew McCleery. Some fictional figures in the book seem to be based on real people in the sector by the way.

[petec]

Skanjete, while I broadly agree, I'd point out that Seaspan is a lessor not an operator. Leasing is a highly fragmented industry, and there may be an opportunity for the scale operator to carve out a moat by lowering its cost of capital and by being the best partner to the operators. That moat may not be deep or wide, but combined with real capital discipline it may be enough to drive a significant difference in ROIC between the leader and the rest.

[Parsad]

Alright, I’ve torn the Atco annual report apart trying to pin down the value of a boat to owners. There’s no way to do it with precision, but I think I got the gist.

 

It looks to me like the break even point IS likely achieved during the long-term charter. Phew. And, it looks like whatever free cash is earned from the boat post long-term charter is gravy.

 

To draw this conclusion I looked at their recent purchase price of several 12,000 TEU boats, and then derived all kinds of rough assumptions about charter rates and per-boat expenses from throughout the annual report.

 

The example I used...

 

A 12,000 TEU ship purchased for approximately $100 million.

 

I assumed a 10 year charter worth $180 million (~$50k daily rate).

 

10 years of interest expense, overhead, boat operations, and boat maintenance appear to me to cost something moderately less than $80 million. Let’s call it $70 million.

 

So, from that example it seems reasonable to assume the long term charter earns enough to cover the purchase price of the boat, all expenses, and probably a small profit.

 

The precise return on equity is impossible to pinpoint, since it depends on how much equity is used to purchase the boat, and on how much cash is generated after the long-term charter.

 

I’m going to go out on a limb and say that pre-Sokol the IRR per boat was maybe in the neighborhood of 7% (with much of the return paid out as dividends). My gut tells me Sokol is pushing for at least 15% IRR. And, recent trends in utilization and cost containment (and probably boat purchasing and contract pricing discipline) were heading in the right direction.

 

I’m definitely more comfortable with the business model at this point - especially under an operator like Sokol.

 

At this point my main concerns are things like:

 

- industry headwinds

- customer concentration/risk (Yang Ming)

- implications of the very generous carrying value of the boats.

 

Will have to keep noodling on this one.

 

Now you got it!  The 15% IRR is achieved by high utilization rates of 96-97% and reduced financing costs through ATCO's model. 

 

The shipping industry is very similar to Sokol's experience with Netjets...how do you share the cost of transport and increase bookings to very high efficiencies.  If you manage to distribute your financing cost and are efficient on bookings, you get a high capex business that is modestly profitable. 

 

It creates an internal moat that makes it difficult for competitors to enter the market because they either get the capital costs wrong or can't become efficient enough on the booking side.  A great operator like Sokol is priceless for such businesses and such businesses don't work unless you have a great operator!  Look at Railroads, look at the Airline industry...very much like Shipping...Energy is somewhat similar.  Cheers!

 

I don't think you can compare shipping and airlines to railroads, real estate and energy. Each sector is capital intensive, but it is far more easier to create a moat in the last 3 sectors than in shipping and airlines.

In railroads, real estate and energy, there basically is a moat because of the location. The infrastructure simply cannot be replicated because of the location limitations or regulation that prohibits it.

 

With shipping and airlines, there is no such limitation and supply can increase as long as somebody has the money available to fund it. The sector is capital intensive, cyclical and commodotised : a really bad combination.

 

The only way to create a moat is by  superior operating margins and thus structurally lower operating costs. Since these costs are a smaller percentage of revenue, it's difficult to create or maintain the moat, and even then, results can only be seen on the long term by higher survivability, not necessarily higher profit.

Because of the high capital intesitivity, an operator can easily fool himself by just looking at EBITDA or cash flow and negating the high depreciation. In that way, zombies can go on for a long time, creating bad industry conditions for all participants for a very long time.

 

It's no coincidence I think that the shipping companies pay such high dividends. The owners want to extract as much money from cash flow as they can, while they can. The shipping families also create their wealth by playing the other financing parties. The markets don't seem to understand the sector's dynamic and appear willing to buy overvalued shares when things go great. On the other hand, banks don't seem to understand it eather and get fooled into financing extra capacity. When things go bad, their collateral disappears and they have no choice but to extend and pretend. This way, the shipping families profit when things are great and pass the buck when thing are less rosy. This way the "shipping dynasties" create their wealth in an otherwise risky and difficult business.

 

I conceed that Seaspan operates in a somewhat different way, with longtime charters and different financing models. That's why it is my favorite amongst shippers. But still, I think the sector is lousy and not to be compared to other capital intensive businesses as energy or

railways.

 

For people interested in the sector : a fun book to read is "the shipping man" from Matthew McCleery. Some fictional figures in the book seem to be based on real people in the sector by the way.

 

In any capital intensive business, the moat is created by being the lowest cost operator...simple!  That's what Sokol is fantastic at.  Already we've seen how they've streamlined operating costs at Seaspan through efficiencies in operations and financing.  If you are the lowest cost operator, you will outlast your competitors.  And as you consolidate portions of the industry, the moat widens.  When Berkshire acquired Mid-American, it accounted for 3-4% of U.S. energy production.  Today, Mid-American (Berkshire Energy) accounts for something like 12-13% of U.S. energy production and the moat widens year after year.  Cheers!

[NBL0303]

 

At this point my main concerns are things like:

 

- industry headwinds

- customer concentration/risk (Yang Ming)

- implications of the very generous carrying value of the boats.

 

Will have to keep noodling on this one.

 

Thrifty, thanks for your thoughts of Atlas/SeaSpan over the last weeks, its been interesting and enlightening to read your posts. What are some of the implications of the very generous carrying value of the boats? Other than an overstated book value - if one is valuing this more along the lines of their contract values/free cash flow, the potentially overstated book value doesn't even really come into play that much. So just curious if there are implications of this that I have not thought through.

[Xerxes]

I had read "the shipping man" from Matthew McCleery some 10 years ago. I think the model there were the shippers and not the lessors, though I may remember wrong.

 

Think of AerCap model vs. American Airlines.

There are few large lessors (one of them inside the belly of General Electric) while there are many great many airlines.

 

[Xerxes]

I believe cyclical industries are dream playgrounds for outstanding capital allocators. Seaspan+Sokol=opportunity in my view.

 

As long as both the investors and the management have the capacity to suffer, to borrow a phrase from Russo.

Which they do for now anyways … would nice for their long term growth potential if they could remove the dividend altogether.

 

Watsa's $1 billion interest/dividend stream will get hit, but he would indirectly collecting in his percentage ownership of retained earning of Seaspan.

Washington family would probably prefer the cash though.

[Thrifty3000]

 

At this point my main concerns are things like:

 

- industry headwinds

- customer concentration/risk (Yang Ming)

- implications of the very generous carrying value of the boats.

 

Will have to keep noodling on this one.

 

Thrifty, thanks for your thoughts of Atlas/SeaSpan over the last weeks, its been interesting and enlightening to read your posts. What are some of the implications of the very generous carrying value of the boats? Other than an overstated book value - if one is valuing this more along the lines of their contract values/free cash flow, the potentially overstated book value doesn't even really come into play that much. So just curious if there are implications of this that I have not thought through.

 

Thanks for the shout out. I really haven't been able to delve into the implications of overstated book value yet, so I'll just let the imagination loose on this one...

 

They carry the vessels on the books at $5.7 billion.

 

Page 78 of the annual report says (and, this was pre-covid mind you)...

 

"Under current market conditions, we intend to continue to hold and operate our vessels. If time charter rates

do not show further improvement, we expect that our average estimated daily time charter rate used in future

impairment analyses may decline, resulting in estimated undiscounted future operating net cash flows which may be

less than the carrying value of certain of our Panamax-size vessels or below and requiring us to recognize non-cash

impairment charges in the future equal to the excess of the impacted vessels’ carrying value over their fair value."

 

A large percentage of their fleet will be off charter within the next 2 years, let's call it 40% (though, I believe it represents less than 40% of TEU volume). So there's going to be plenty of visibility into the recession's impact on charter rates and demand.

 

Much of what they transport is consumer goods. There's a reasonably good chance the world will see depressed demand for consumer goods for at least a couple years, putting downward pressure on shipping demand. And, downward pressure on charter rates. Some (or several) of those boats that go off charter will be re-chartered at lower rates, and others will be idled/scrapped.

 

Moreover, longer term (say, over the next decade), with increasing trade hostility between China and the US, and more importantly, decreasing US manufacturing costs (automation, free energy from renewables, no tarifs, lower transport costs, rule of law, etc.) I expect further shipping headwinds.

 

All this leads to a lot of downward pressure on charter rates, and likely impairments (big ones). It seems impairments in this industry are frequent, and when they happen they happen to the tune of hundreds of millions of dollars (Seaspan had some big impairments not too long ago).

 

Other than just the pain of being in a business with strong headwinds, my concern is at what level of impaired book value would debt covenants trip, forcing an equity raise, and common shareholder dilution? I wouldn't think a billion dollars or more of impairments is a stretch if it takes 3 or 4 years to return to 2019 global shipping levels.

[petec]

Bear in mind Panamax is 5000 TEU, so Panamax and below is very much at the smaller end of Seaspan’s fleet.

 

Also bear in mind the record low newbuild order book. Demand will grow slower than we are used to, but so will supply, if it grows at all.

[Thrifty3000]

Bear in mind Panamax is 5000 TEU, so Panamax and below is very much at the smaller end of Seaspan’s fleet.

 

Also bear in mind the record low newbuild order book. Demand will grow slower than we are used to, but so will supply, if it grows at all.

 

Yes, it's a small percentage of TEU, but I used the example because it's a canary in the coal mine. At peak-economic-cycle, and pre-covid awareness, management was guiding investors to brace for impairments.

 

They have to routinely assess every boat, large or small, for impairments (the annual report makes that clear). Impairments are based on market rates. Market rates are driven by supply and demand, and we know global demand has taken an unprecedented gut punch.

 

Seaspan has substantial debt/costs, asset prices that could deteriorate, and limited pricing power.

 

Seaspan has ~$40 million worth of liabilities Per Boat!

 

Boats (Vessels) is by far the company’s biggest asset, assigning an average value per boat of ~$48 million!

 

Boat valuation is based on the lesser of a 30 year straight line depreciation (the boats don’t last 30 years) or the present value of future expected cash flows (heavily influenced by current market rates).

 

In other words, if today’s market rates are higher than tomorrow’s market rates then it won’t take much for that $48 million of per-boat value to be impaired below the $40 million of per-boat liabilities. The boats will be underwater so to speak.

 

Now, that exaggerates things a bit, as the company does have other assets, but the point is that their biggest asset’s value is based on something entirely out of the company’s control - market rates.

 

Probably the most painful lesson I’ve seen repeatedly learned the hard way on this message board over the years is that a business with limited pricing power and significant debt/costs is a time bomb - no matter how reputable the management steering the ship (er the Panamax).

 

Witnessing the downfall of a company that checks ALMOST all the boxes of sound investing is a miserable experience. Go back about 30 pages on this thread and read up to page 47, where VAL9000 posted “I think this counts as calling it…” You can see those years were quite painful and perplexing for several investors - some that lost substantial amounts of money. Go peruse the Fortress Paper thread or the Sandridge Energy thread (another Fairfax investee) to see similar excruciating experiences.

 

I’d rather own an index fund than speculate on a fast-growing company with, say, a 5% chance of going bust in the next 20 years. (Zero times anything is zero.)

 

Is Atco an INVESTMENT in a business that first and foremost is sufficiently indestructible, or is it a very seductive SPECULATION that David Sokol’s talent, the company’s sizable scale advantages, Fairfax’s financial backing, and the company’s recently reported free cash flow are indicative of an ever more prosperous future?

 

If you don’t know whether equity holders can withstand a 1 in 20 (or 1 in 50) year industry shock then, for me, Atco is speculative.

[skanjete]

Bear in mind Panamax is 5000 TEU, so Panamax and below is very much at the smaller end of Seaspan’s fleet.

 

Also bear in mind the record low newbuild order book. Demand will grow slower than we are used to, but so will supply, if it grows at all.

 

Yes, it's a small percentage of TEU, but I used the example because it's a canary in the coal mine. At peak-economic-cycle, and pre-covid awareness, management was guiding investors to brace for impairments.

 

They have to routinely assess every boat, large or small, for impairments (the annual report makes that clear). Impairments are based on market rates. Market rates are driven by supply and demand, and we know global demand has taken an unprecedented gut punch.

 

Seaspan has substantial debt/costs, asset prices that could deteriorate, and limited pricing power.

 

Seaspan has ~$40 million worth of liabilities Per Boat!

 

Boats (Vessels) is by far the company’s biggest asset, assigning an average value per boat of ~$48 million!

 

Boat valuation is based on the lesser of a 30 year straight line depreciation (the boats don’t last 30 years) or the present value of future expected cash flows (heavily influenced by current market rates).

 

In other words, if today’s market rates are higher than tomorrow’s market rates then it won’t take much for that $48 million of per-boat value to be impaired below the $40 million of per-boat liabilities. The boats will be underwater so to speak.

 

Now, that exaggerates things a bit, as the company does have other assets, but the point is that their biggest asset’s value is based on something entirely out of the company’s control - market rates.

 

Probably the most painful lesson I’ve seen repeatedly learned the hard way on this message board over the years is that a business with limited pricing power and significant debt/costs is a time bomb - no matter how reputable the management steering the ship (er the Panamax).

 

Witnessing the downfall of a company that checks ALMOST all the boxes of sound investing is a miserable experience. Go back about 30 pages on this thread and read up to page 47, where VAL9000 posted “I think this counts as calling it…” You can see those years were quite painful and perplexing for several investors - some that lost substantial amounts of money. Go peruse the Fortress Paper thread or the Sandridge Energy thread (another Fairfax investee) to see similar excruciating experiences.

 

I’d rather own an index fund than speculate on a fast-growing company with, say, a 5% chance of going bust in the next 20 years. (Zero times anything is zero.)

 

Is Atco an INVESTMENT in a business that first and foremost is sufficiently indestructible, or is it a very seductive SPECULATION that David Sokol’s talent, the company’s sizable scale advantages, Fairfax’s financial backing, and the company’s recently reported free cash flow are indicative of an ever more prosperous future?

 

If you don’t know whether equity holders can withstand a 1 in 20 (or 1 in 50) year industry shock then, for me, Atco is speculative.

 

Thrifty,

 

Although I don't think you can't easily extrapolate the state of affairs of the smaller boat sector to the big boats (these are different markets), but I think your global analysis and conclusion is spot-on!

 

[petec]

Bear in mind Panamax is 5000 TEU, so Panamax and below is very much at the smaller end of Seaspan’s fleet.

 

Also bear in mind the record low newbuild order book. Demand will grow slower than we are used to, but so will supply, if it grows at all.

 

Yes, it's a small percentage of TEU, but I used the example because it's a canary in the coal mine. At peak-economic-cycle, and pre-covid awareness, management was guiding investors to brace for impairments.

 

They have to routinely assess every boat, large or small, for impairments (the annual report makes that clear). Impairments are based on market rates. Market rates are driven by supply and demand, and we know global demand has taken an unprecedented gut punch.

 

Seaspan has substantial debt/costs, asset prices that could deteriorate, and limited pricing power.

 

Seaspan has ~$40 million worth of liabilities Per Boat!

 

Boats (Vessels) is by far the company’s biggest asset, assigning an average value per boat of ~$48 million!

 

Boat valuation is based on the lesser of a 30 year straight line depreciation (the boats don’t last 30 years) or the present value of future expected cash flows (heavily influenced by current market rates).

 

In other words, if today’s market rates are higher than tomorrow’s market rates then it won’t take much for that $48 million of per-boat value to be impaired below the $40 million of per-boat liabilities. The boats will be underwater so to speak.

 

Now, that exaggerates things a bit, as the company does have other assets, but the point is that their biggest asset’s value is based on something entirely out of the company’s control - market rates.

 

Probably the most painful lesson I’ve seen repeatedly learned the hard way on this message board over the years is that a business with limited pricing power and significant debt/costs is a time bomb - no matter how reputable the management steering the ship (er the Panamax).

 

Witnessing the downfall of a company that checks ALMOST all the boxes of sound investing is a miserable experience. Go back about 30 pages on this thread and read up to page 47, where VAL9000 posted “I think this counts as calling it…” You can see those years were quite painful and perplexing for several investors - some that lost substantial amounts of money. Go peruse the Fortress Paper thread or the Sandridge Energy thread (another Fairfax investee) to see similar excruciating experiences.

 

I’d rather own an index fund than speculate on a fast-growing company with, say, a 5% chance of going bust in the next 20 years. (Zero times anything is zero.)

 

Is Atco an INVESTMENT in a business that first and foremost is sufficiently indestructible, or is it a very seductive SPECULATION that David Sokol’s talent, the company’s sizable scale advantages, Fairfax’s financial backing, and the company’s recently reported free cash flow are indicative of an ever more prosperous future?

 

If you don’t know whether equity holders can withstand a 1 in 20 (or 1 in 50) year industry shock then, for me, Atco is speculative.

 

I won't be at all surprised to see carrying value impairments for the reasons you describe. Later, when rates rise again, book value will not be written back up (because as you state the carrying value is the lesser of 30 year depreciation and NPV). That tells me not to focus too hard on BV.

 

Would you mind backing up your claim that ships don't last 30 years? My guess is that this varies according to cycle timing. Ships that are, say, 25 at the start of a downcycle will get scrapped early. Ships that are 30 at the start of an upcycle might soldier on to 35. I'd be interested to see data to the contrary, bearing in mind that the last 10 years have seen a prolonged downcycle (vs the 2007 highs) and a huge flood of new, efficient supply. In combination these effects have probably driven above-average mortality rates.

 

On the quality of Seaspan as a business:

- I think there are some nuances you missed out, such as the role of carefully laddered debt repayment schedules in mitigating risk.

- Great asset allocators have built incredible wealth in cyclical businesses precisely because they are cyclical (in fact you could argue that some of the great fortunes have been built this way).

- There is hindsight bias in your comment about investing in companies that "check ALMOST all the boxes of sound investing". You have picked three examples that suit the point you're making, but if you get the starting valuation right these investments can provide spectacular returns. Getting the starting valuation right in a cyclical business with relatively stable long term demand trends has a lot to do with understanding supply, and the supply outlook here is pretty good.

 

Other than that you've basically nailed it. This is certainly at the speculative end of my portfolio, and you're right that the equity could be a zero. But it's also one of the cheapest things I own if you assume any kind of operating normality over the long term. I am currently happy enough with that risk/reward, although I am very annoyed with myself that I didn't switch into AerCap when it was trading in the teens - I think the risk/reward was better there for a while.

[Spekulatius]

The boats will be underwater so to speak.

 

Quote of the day

[petec]

The boats will be underwater so to speak.

 

Quote of the day

 

Ha! I missed that! Very good.

[Thrifty3000]

Petec, will you explain the laddered debt repayment schedule? Seaspan debt repayment is one of the key things I flagged that I still need to wrap my mind around.

[gfp]

Heads up, there is some kind of Agora / Oxford Club promotion causing much of this morning's bid in ATCO.

[bluedevil]

I agree there is substantial risk in this investment.  I bought in at $7 a share because I think the management team has the skill to navigate it, but I certainly think there is at least a 1 in 20 chance things end badly.  The rewards should be good though if the company can achieve lowest cost in the industry, which I think it has the scale, financing and operational management to achieve.

 

The two biggest risks I see and mitigants, which I think the company has done a good job focusing on:

 

Risk:  Long market slump cycles where charter rates stay low for prolonged period, as ships come off long-term contracts.

-- Be choosy about acquiring new assets; do it only when returns are good.  Company seems to have instilled this discipline.  It is not ordering new ships and buying ships secondhand when other companies are in distress and with first contracts in place.

        --Sign long-term contracts only when rates are adequate.  When rates are adequate, get as many as you can rather than bet rates go higher.  The company has said that is the strategy.

-- Invest in counter-cyclical businesses that can keep you going through slumps (like APR).

        -- Don't get over levered.  Company has been de-leveraging since Sokol was installed.

 

Risk:  Customers are weak and can go bust, evaporating contracts.

        -- Deal with the companies that have implicit state backing or are otherwise the best liners.  Seaspan's customers are very concentrated in four liners. For example, there was discussion on the board about Yang Ming going potentially bust, and they are second largest customer.  The liners are generally weak, and a bust would be very bad.  But if COSCO (China); YM (Taiwan); ONE (Japan) get in trouble, it seems likely they would get state aid, as they historically have.  Just hard to see China or Taiwan letting COSCO or YM go bust, but it is a risk and hopefully Atlas grows and diversifies it could absorb a risk like this materializing. 

The consolidation and alliances that have happened in the shipping industry also mitigate the risk of a firm collapsing. 

[bluedevil]

I went through the annual report and tried to look at when Seaspan's contracted cashflows come off of their current contracts.  Focused on larger boats (8500+) that were not on market rate charters.

 

2020:  27m

2021:  80m

2022:  150m

2023:  165m

2024:  108m

2025:  170m

2026:  80m

 

One takeaway for me is that, while the current cratering of market rates will hurt on the smaller ship fleet (which is much more market charter based), it should not severely impact Seaspan in the short run.  Indeed, the more severe the near term pain is, the likely better it is for Seaspan as it should help constrain supply in 2022/2023, when more of the fleet comes off of charter and has to be re-contracted.

 

That said, when you look at the contract rates for new contracts, they seem to be much less than our existing charter rates, which could lead to big stepdowns in revenue in 2022 and beyond, depending on what the market is doing then.  So right now you are buying Seaspan at a very low multiple of earnings, but the viability of their current revenue in the future is shaky, and that's concerning given the amount of debt the company carries. 

 

[gfp]

Press release out today (attached)

 

Here's a link that doesn't require a download:

https://www.prnewswire.com/news-releases/seaspan-announces-acquisition-of-two-high-quality-containerships-on-long-term-charter-301098557.html

Seaspan_Vessel_Acquisition_v00FID-94ea3c1b8762.pdf

[Saluki]

Atlas Corp beats earnings estimates, it's up about 10% today on the news.

 

https://finance.yahoo.com/news/atlas-atco-q2-earnings-revenues-124512574.html

 

I was buying some of this on the dips and it didn't disappoint :)

[petec]

I'm genuinely impressed by this quarter from Atlas.

 

In (probably) the steepest recession in history, when idle ships as a % of the fleet hit an all time high, they basically emerged unscathed. They did not have ships idled and their customers paid. You wouldn't know coronavirus happened looking at their cash flows. It is just possible that some of the company has been right to argue that 1) they are creating a competitive advantage through flexibility and service, and 2) the industry is becoming more rational as it consolidates. I have previously been sceptical on both points, but now I'm thinking maybe.

 

Annualised FFO came in at $644m, and run rate FFO is probably a few tens of millions higher (allowing for ships acquired recently and the full impact of the Mexicali deployment at APR). FFO is a flawed metric, because it doesn't include depreciation, and these assets definitely depreciate. But in the context of a $2.1bn market cap, $650-700m of FFO seems a bit silly. Some of the best capital allocators in history can redeploy cash flows equal to the entire market cap in three years.

 

The new data on ebitda/cost for acquisitions is also flawed (I am no fan of ebitda) but one can play with assumptions and come up with contracted, levered ROE's over 20%.

 

Also, my guess is coronavirus has delayed demand by a year or so but may have delayed supply (which was low anyway) by longer, simply because demand can spring back faster than deliveries can. There might well be a demand shock and a spike in dayrates in 12-24 months, and Seaspan would have quite a bit of exposure to this as short term leases roll. I would not pay much for this optionality, but I don't think I have to.