ATCO - Atlas Corp

[petec]

To put it another way, I suspect the window to deploy equity at a 15% ROE covers about 10% of a full cycle. Max.

[kab60]

Still, how can you possibly know the return on an asset with a 25 year lifetime and a 7 year lease with any kind of certainty? A lot of the returns will depend on future market conditions and the residual values of these ships. I rarely remember good news from releasing activitites from ship lessors.

[petec]

Well I think the short answer is you build them on 12-18 year contracts which guarantee a decent IRR and the rest is free. If you’re smart.

[WneverLOSE]

8% unlevered return doesn't mean 20% ROE, you are forgetting the cost of debt so if they are 1.5x levered (1.5 dollar of debt per 1 dollar of equity)  and the cost of debt is lets say 5% ROE will be : (1 * 8%) + ((8%-5%) * 1.5) = 12.5%

 

Regarding ability to forecast its not an easy answer that I can give since there are lots of things that go into it but one thing I can say is think about DCF and the nature of the asset, even if it has a useful life span of 25 years more than 50% of the cash flows will come in the first 12.5 years and the PV of distanced cash flows don't affect the NPV of an investment as much as you would think (for example a ship with a useful life of 25 years that is chartered for 12.5 years at 100$ a year and then is rechartered at 80$ a year for the next 12.5 years will have about 8% ROI if bought at 1000$, lets now assume that after the first charter the market is really rough and you can only recharter it for 40$ a year, than under those circumstances if bought at the same 1000$ price tag ROI will be 6.2%)

 

They actually didn't say a specific ROI they are achieving and obviously they can't know it as long as the investment is ongoing but they said a range of high single digit.

[petec]

8% unlevered return doesn't mean 20% ROE, you are forgetting the cost of debt so if they are 1.5x levered (1.5 dollar of debt per 1 dollar of equity)  and the cost of debt is lets say 5% ROE will be : (1 * 8%) + ((8%-5%) * 1.5) = 12.5%

 

 

Absolutely correct. That’s the second stupid mistake I’ve made in two days. Need to slow down!

 

I stand by my view that they’re deploying at 15-25% ROE depending on the length of the contract, based on the contracts where they have given going-in ebitda numbers (maths is upthread for those interested). But yes, 8% unlevered does not equal 20% ROE.

 

Also totally agree the vast majority of the value today is in the first contract for the newbuilds. That’s why I don’t worry too much about the rollover conditions when the contracts expire in 12-18 years.

[petec]

Two other key factors:

1) their blended cost of incremental debt isn’t 5%. Their big revolver is 2.5%. My concern is that they’re financing long term leases with shorter term debt, but it works for now.

2) I’m not sure what the cost of equity is today, but it’s likely below 12.5%, so a dollar of equity deployed at 12.5% should be capitalised in the stock market at at least 1x BV.

[bluedevil]

Here’s one fact that perhaps puts in perspective the pace at which Seaspan has added assets over the last three years. At beginning of 2018, Seaspan had about 700,000 TEU. If you count in the new build orders (which will be built over the next three years), the TEU is over 1,300,000.

 

All of this growth came via very long term charters, with exception of their acquisition of Greater China Intermodal, where the avg charter life was still 5 years.

[petec]

They also nearly doubled the share count in that time!

[kab60]

Note from Berenberg on liners:

 

We continue to favour Maersk as a way to play the short- to mid-term dynamics: Container pricing remains up 114% yoy thanks to persistent capacity disruption in the sector alongside buoyant volume demand. However, share prices in the sector have started to roll over as investors are cautious that earnings momentum may have peaked. We think consensus (and management guidance) remains extremely conservative beyond Q1, while the mid- to long-term outlook is also better than the industry has seen in a while. We reiterate our Buy rating on Maersk although we lower our price target slightly to DKK16,700. We raise our price target on Hapag-Lloyd to EUR87, but maintain our Hold rating.

 

•  Chinese New Year looks unlikely to reset the industry imbalance: It was thought that the traditional industry lull during the holiday would give an opportunity to allow for the current disruption across the sector to normalise. However, all the indications are that this will not materialise thanks to sustained strength in demand. We do not think that the situation is likely to stabilise until the end of H1 - we estimate that it could take six months for the situation to fully normalise, with a backlog of at least a million containers, and port delays taking out up to 5% of capacity on some trade lanes, along with further disruption inland. Turnaround times for containers are still as much as 50% higher than normal in some places. This means spot prices are likely to remain well above 2019 levels for the next few months at least, in turn adding to the upward pressure on contract rates.

 

•  Three years of excess cash herald a much better industry on the other side: We estimate that Maersk and Hapag will generate more cash in FY 2020-22 than they have in the past decade - this pattern is likely to be repeated across the sector. With environmental concerns as well as political and economic uncertainty constraining capex, the capital is likely to be used for a mixture of balance sheet strengthening, returns to shareholders and M&A. We think that Maersk could achieve a combination of all three. The restrained capex will also help to improve the mid-term supply demand imbalance in the sector, meaning the industry should continue to hold on to some of this year's pricing gains.

 

•  Valuations are not as stretched as they look: The sector has broken out of its traditional 0.7-1.0x P/BV range and now trades on c1.5x P/BV, similar to where it was pre-global financial crisis (GFC) of 2008/09. We think this trading range is justified by the level of returns on capital the industry will make in 2021-22, not to mention the benefits of the excess cash that will be generated. We think that EV/EBITDA multiples may be more instructive, as that captures the near-term earnings momentum - Maersk trades on 3.5x EV/EBITDA for 2021 versus a near-term average of c5x.

[petec]

I struggle to separate the dynamics (and consequences) of what’s going on in containers (I.e. the actual boxes) vs what’s going on in container ships. Much of what I read seems to conflate the two and I’m not sure if that’s right.

 

Also I’m not sure if capex is really that contained. A lot of newbuilds have recently been announced!

 

But 2-3 good years would do my just fine.

 

Will be fascinating to see what Atlas say on the call.

[kab60]

They're not talking about the actual cost of a physical box but the price to move it - the container freight rates.

 

The question is for how long the spot rates stay elevated, and whether ATCO have any ships coming up for renewal. With an average duration of only 4,1 years, they might have an opportunity to lock in good rates for longer.

[petec]

They're not talking about the actual cost of a physical box but the price to move it - the container freight rates.

 

The question is for how long the spot rates stay elevated, and whether ATCO have any ships coming up for renewal. With an average duration of only 4,1 years, they might have an opportunity to lock in good rates for longer.

 

That’s my hope!

 

And yes container freight rates vs ship dayrates was what I was referring to.

[WneverLOSE]

I went BIGGGG into ATCO (and DAC that is much cheaper but more risky imo), like the cool kids say "YOLO"  8)

 

 

[petec]

I went BIGGGG into ATCO (and DAC that is much cheaper but more risky imo), like the cool kids say "YOLO"  8)

 

What made you decide?

[WneverLOSE]

I believe we won't go back to speculative ordering of ships without having a route that can support them for a long enough time, 90% of the market is 3 alliances that suffered major losses in the last decade and need to finally reward shareholders, I see it as a similar situation to the newmarket / lubrizol situation in the GFC (that funnily enough involved David Sokol as well  ::))

 

fragmented industry without any discipline --> everyone ordering ships trying to win market share --> over supply of ships --> major losses --> consolidation & formation of alliances --> oligopoly --> low level of ship ordering --> exogenous shock when companies are vulnerable --> protectionist actions taken to protect the company --> very attractive market prices for the limited amount of companies that left --> increase in supply would increase market share but decrease profits ending in a Mexican standoff that no company wants to ruin the new normal.

 

Now to be fare lubrizol / newmarket situation was a bit different since the product is highly specialized with very high value added and very high barriers for entry and shipping is basically a free entrance with zero moats so I don't expect the situation to be really permanent but a new normal for at least a few years, that's why I prefer the non operating owners rather than the liners, the liners are stuck in this business and have to reinvest and keep going even if the market is bad but ATCO can just not play in a market that is not attractive and walk away to invest in other stuff.

 

just to illustrate how much earning power we are talking about if this market is sustained at current charter rates ATCO will earn 650m for common shareholders if all charters are released at current prices, this will take a few years to happen but when you buy it at 10 times earnings or so you basically gonna enjoy a 20%-30% annual earnings growth without any capital reinvested in the business (so if you assume you can sell your shares at the same 10 times valuation at 4 years you get a 30-40% return for that period and much more if valuation expends), i'm not even talking about other small things that they can do to increase even more net income like retire those yikes preferred shares that pay 8% and cost us 50m a year.

 

My understanding is that 2021 is a done deal in terms of liner rates for shipments, they will be at or close to current levels (at current blended spot/contracted rates of ±2500$ and NOT at current spot rates that would go down from ±4000$ to around 2500$ imo), with 2 years of lag time between ordering and hitting the water and orderbook at only 10% (remember that natural attrition would justify a 4% orderbook if vessels are to be retired at 25 years and since the average age of a ship today is 13 years old and those orders will hit the water when the average age of the current fleet is 15 years old that 6% excess is really not an oversupply but a replacement of ships that are too old) its hard for me to see how charter rates go down in the near term.

 

The reason I think ATCO is a game changer is because new investments in ships won't be nearly as profitable as ships bought in the last few years, prices have caught up and historically companies would blindly reinvest and buy more ships even when it didn't make sense, I expect ATCO to be different and get out of the sector when it doesn't make sense and enter when it does.

Within a very short time liners will have very little debt and wouldn't need to charter unless the person willing to lease to them is just too dumb and would offer a rate that is better than their cost of capital (that would be very low in a year or two) so smart chartering is to exit the market when cost of capital is low for liners and enter when it is high.

 

Gonna puke more of my thoughts tomorrow when its not so late in the night for me.  ;)

[petec]

I largely agree with you but I am going to play devil's advocate for interest!

 

If this market is sustained at current charter rates ATCO will earn 650m for common shareholders if all charters are released at current prices.

 

Would you mind explaining how you arrived at this estimate? I find it relatively easy to find "current" dayrates for smaller ships (contex). I find it very hard to find current dayrates for larger ships because most of them are on long leases. And I am also not sure how much revenue should fall to the bottom line because I find that in cyclical businesses all costs tend to inflate in an upcycle.

 

I would also suggest that the P/E will be below 10 at the market top. It would be lovely if Mr. Market got that wrong, but I wouldn't bet on it.

 

Retire those yikes preferred shares that pay 8% and cost us 50m a year.

 

I've been wondering about whether they have some balance sheet optionality here. The big new debt facility is really cheap and very useful, but it is also short term. I'd be really interested to know what they could get if they tried to issue 20- and 30-year debt. Certainly better than 8% I would think. But maybe not. They recently issued shorter debt at an all-in rate of 5.5%.

 

One risk I see here is inflation and rising interest rates. The value of the ships would inflate upwards, but not the lease payments, which I believe are fixed (not linked to inflation). That wouldn't matter much at the whole company level because the average lease duration is only 4 years. But it would matter for the longer leases. I wonder if there is room for a long term bond secured against the longer term leases.

 

My understanding is that 2021 is a done deal in terms of liner rates for shipments, they will be at or close to current levels.

 

Do you mean the newbuilds will be at current levels?

 

Remember that natural attrition would justify a 4% orderbook if vessels are to be retired at 25 years and since the average age of a ship today is 13 years old and those orders will hit the water when the average age of the current fleet is 15 years old that 6% excess is really not an oversupply but a replacement of ships that are too old)

 

I'm not sure I follow this logic. The fact that the average age is currently half the lifespan seems a pretty normal situation to me so I think the replacement rate is 4%. Maybe less when you consider that ship lifetimes magically extend in up-cycles. Seaspan has newbuilds worth 25% of current fleet. Others are also ordering (e.g. Hapag). I do worry that the scene for the next downturn has already been set, even if it is two years out.

 

Within a very short time liners will have very little debt and wouldn't need to charter unless the person willing to lease to them is just too dumb and would offer a rate that is better than their cost of capital (that would be very low in a year or two) so smart chartering is to exit the market when cost of capital is low for liners and enter when it is high.

 

I think the liners will always maintain a portion of fleet on lease, but it will shrink and terms will get worse and I agree Atlas will get out at that point and invest elsewhere or hoard cash.

 

One thing I will watch for closely is special dividends from liners. Ideally they gift this bonanza to their shareholders rather than reinvesting it.

 

[petec]

Just noticed those 8% prefs traded as low at $6.50 in March. 31% yield. Damn!!

[WneverLOSE]

Would you mind explaining how you arrived at this estimate?

Yes, and remember it is after all just an estimate : Seaspan revenue is 1.2B with 98% utilization, 123 ships as of the beginning of the year and 1m TEU capacity so the "average" ship is 8,130 TEU, using Maritime Strategies International Ltd charter rates as of December 2020 8,500 TEU charter for 35,000$ per day so I calculate the "new" revenue : 123(ships) * 365(days) * 0.98 (utilization) * 0.95 (normalizing pricing 8,130/8,500) * 35,000 (day rate for 8,500 TEU) = 1,462,903,575 and I subtract the current revenue of ±1,200,000,000 to get the added income in the short term of 263m to ttm net income of 220m for a grand total of 480m (my number in the previous post included ships that been added since the beginning of the year and already booked ships that are larger and skewed the TEU per ship upward).

 

A better system would be to go ship by ship and estimate its annual revenue but i'm not gonna do that, too wasteful and i'm ok with the margin of error in this estimate (I understand that day rates don't grow linearly with vessel size but even if it's 10% or 20% off i'm ok with it)

 

Seaspans current cost are crew and interest, those are the only costs that can inflate on current ships and interest is going down and not up due to deleveraging that is gonna happen and reduced counter party risk, obviously new ships will be more expensive to purchase either new or second hand but the current new orders produce high single digit unlevered returns with very long charter periods so ROE well be satisfactory and so as you said before should sell above book value (and at a p/e premium for a no growth company since they can reinvest earnings at a rate higher than WACC and produce more than 1 dollar of value per 1 dollar of retained earnings, I value such a no growth company at 10 times earnings even though you can argue in today's market they might be worth more).

 

Regarding inflation : I just don't mind it, if it comes it comes and ruins 95% of my portfolio that would suffer like 95% of the stocks out there.

I yet to find a company that isn't somehow negatively effected by inflation and obviously a software company without any need for capital and huge pricing power would be better but where can I find one at such a p/e ?  ::) But you are absolutely right about matching duration and I fully expect them to start matching as financing cost drop for them when lenders recognize the higher level of profits, reduced counter party risk and reduced asset price volatility allow them to issue longer duration debt at a much more rational rates.

 

Do you mean the newbuilds will be at current levels?

I was talking about spot shipping rates that liners charge importers/exporters, maersk already renewed 40% of their "long term contracts" (1.5 to 3 years) at around 50% higher rates than expiring rates so I don't see how spot market rates go down to previous levels any time soon (although they will go down from current level)

 

 

[petec]

Ha. That's quite funny - I hadn't thought about using an average  ::). Need to think about the non-linearity a little more. I think it is significant but works both ways (large ships are cheaper per TEU, but small ships are more expensive).

 

I disagree on costs. I don't expect them to de-leverage given how fast they are spending capex, and I expect crew salaries to rise as the industry reflates.

 

I'd name Brookfield as a business quite likely to benefit from inflation. They own inflation-linked assets funded by long term fixed debt. OK, the stock might fall as the discount rate rises, but the business benefits and that comes through in the end. I would like to see Atlas issue a bit more long term debt to put themselves in the same position.

 

 

[petec]

In the shorter term, I estimate they can add c.$250m in annual revenue just by recontracting the two smallest categories of ship onto 24-month contracts.

 

This is based on the current contex data for 24-month charters (https://www.vhbs.de/?id=28&L=1) and the Q3 average dayrates for small ships on short leases given by Atlas (p2 of the q3 supplemental: https://ir.atlascorporation.com/earning-reports?cat=34).

 

Even if they go back to Q3 dayrates in 2 years, they get a one-off boost of c.$2 per share of earnings/cash/book value.

 

EDIT: these ships ended Q3 on 0.7y leases on average, so they're rolling now on average.

 

[petec]

Just listening to the Textainer call. They lease containers. It’s a different market with related, but different dynamics.

 

In the last few months they’ve put something like $2bn to work on >10 year terms at IRRs “well into the mid teens”.

 

I’d be bitterly disappointed if Seaspan can’t match those returns!

[Viking]

Atlas reports results March 9. This will be an important event for Fairfax shareholders. Fairfax owns about 40% of Atlas. And Atlas is Fairfax’s largest equity investment (worth about $1.65 billion) representing about 25% of the entire equity portfolio (including the warrants). Basically every $1 increase in Atlas shares benefits Fairfax by US$125 million (= just under $5 pretax for each Fairfax share).

- https://ir.atlascorporation.com/2021-02-17-Atlas-Corp-Announces-Fourth-Quarter-2020-Results-Conference-Call-and-Webcast

 

So what can we expect from Atlas when they release earnings? The key will be how much benefit (higher EBITDA) they are seeing from the much higher rates available today at Seaspan. In Q4. But more importantly, what will the benefit be in Q1 and future quarters. So the outlook will be key. Much of Seaspan’s business is contracted so the near term benefit (to EBITDA) of higher rates will be somewhat limited. However, the longer rates stay elevated and old contracts expire they can be renewed at much better rates.

————————-

Feb 16: In this special iteration of the Marketplace Roundtable, Daniel Shvartsman interviews J Mintzmyer, Head of Research at Value Investor's Edge. J reviews the current shipping market conditions and outlines the bullish thesis in the containership sector.

 

Value Investor's Edge Live #31: The Bullish Case For The Containership Sector Is Clearer Than Ever 2/16/2021

- https://tunein.com/podcasts/Business--Economics-Podcasts/Marketplace-Roundtable-p1227735/

- Seeking Alpha link with transcript: https://seekingalpha.com/article/4407925-top-buys-in-shipping-review-j-mintzmyer-podcast-transcript

 

Here is my summary:

- today there is a demand/supply imbalance in the container shipping market that is causing much higher prices

- containership demand closely tracks global GDP growth with about a 1.3X multiple. Global GDP growth in 2021 will be very strong.

- Covid dislocations are also causing higher demand for vessels (caused by slower offloading at ports + higher demand from consumers for imports)

- supply of new containerships was constrained for many years pre 2018 (2011-2018 was a brutal market) so supply of ships has been relatively flat; it takes 2-3 years for new builds to hit the water

- so we have global economic recovery hitting a supply constrained container shipping industry that was already good (in 2019)

- although they are expected to come down from the current record highs (some rates are 4X higher than last year) shipping rates may stay much higher for longer than currently expected

 

Here are the Atlas comments (30 minute mark): (FYI, Atlas was trading at about $13.30 on Feb 16)

 

DS: Okay. So who is interesting to you, at this point? You had mentioned one liner company? Where are you investing or where are you spending your time and your portfolio focus at this point in the middle of the boom cycle or wherever containerships might go?

 

JM: ...If you want a more stable, ...almost like a blue chip in the sector, I would say is Atlas Corp (ATCO). Atlas Corp used to be called Seaspan. ...It's basically the world's biggest container ship lessor company. And they've gotten investments from Fairfax, Prem Watsa. They have David Sokol on their board. He's an ex-Warren Buffett manager. So, top tier governance, top tier management, top tier company, it's kind of more quiet and professional and blue chip-ish. So, it hasn't really moved very much. I mean, it's only – it's actually trading a couple dollars below where it traded a year ago. It's like – the whole thing is on snooze. It's pretty funny actually, because all these other companies have doubled. And ATCO is actually down year-over-year!

 

So, Atlas Corp (ATCO) is the name I really like today. I think it has a lot of catching up to do. I think it could trade at $15 or higher, just to catch up, where the other – how the other companies have done. So, that's probably one of my more favorite, I guess, like safer plays.

[petec]

That’s really useful, thanks.

 

To me what stood out is that the liners are locking ships up for 2-3 years. Assuming that’s true of 1-8k TEU ships, that plays *very* nicely to where Seaspan has short term capacity. See my post above where I argue that Seaspan could see $250m in incremental revenue by putting its smaller ships on 2y contracts. Almost all of that would drop to ebitda.

[matthew2129]

Another day, another 30,000 of additional TEU on long term charter. Two 2019 builds getting delivered next quarter.

 

https://money.tmx.com/en/quote/ATCO:US/news/8765578919433783/Seaspans_Quality_Growth_Continues_Acquiring_Two_15000_TEU_Containerships_on_LongTerm_Charters

[drzola]

The key to these last 2 charters is their running low sulfur bunker fuel

 

 

https://www.argusmedia.com/en/oil-products/argus-marine-fuels-forward-curves in my opinion.