The challenges that the dry bulk market is currently facing led the charter rates to plummet. It goes without saying that the dry bulk stocks followed the free fall in charter rates. As of today, Star Bulk Carriers Corp (SBLK) is massively undervalued. The stock is trading at c. 50% discount to NAV.
It is obvious that all negative headlines (China-US trade war, Vale’s iron ore accident, cyclone Veronica in Australia, China’s coal import restrictions) have already priced in SBLK’s stock. Now, the million-dollar question is what future events are not priced in the current stock valuation and what their impact will be on SBLK.
From my standpoint, the future events that will have a positive short-term impact on the dry bulk trade are:
1. The increased demand for scrubber installations has caused bottlenecks and delays in shipyards. Therefore, the scrubber fitted vessel limited availability is unavoidable
2. IMO 2020 disruptions due to a fuel shortage in some ports
3. There is a chance that inflationary pressures, which relate to IMO 2020, will drive early restocking across all dry bulk cargoes in the second half of 2019
Management took the following steps in order to take full advantage of the potentially money-making dry bulk market during the second half of 2019 and early 2020:
- securing scrubber installations for 93% of the fleet by the end of June 2019 and
- bringing forward all the 2020 drydocks to 2019
From my standpoint, SBLK’s equity currency is massively undervalued and as the dry bulk rates start to benefit from the reasons mentioned above, I expect the gap between SBLK’s market & NAV valuation to close.
The Dry Bulk Market
The headwinds that the dry bulk market is currently facing make a structurally weak seasonality, even weaker. Some of the severe negative headlines that took a heavy toll on the dry bulk market are the following:
1. The escalation of the China-US trade war
2. The disruptions in iron ore supply during the first half of 2019 due to the Vale’s iron ore accident and cyclone Veronica in Australia
3. China’s coal import restrictions
As a result, charter rates plummeted. Unavoidably, the steep decline in dry bulk stocks came next.
These negative headlines are already priced in SBLK’s stock. The million-dollar question is what future events are not priced in the current stock price and what their impact will be.
The Shipyard Congestion
Scrubber retrofit demand is the key driver of shipyard congestion. Specifically, the scrubber deliveries have already started. By the end of June, it is expected that the ship repair sector will reach close to its maximum capacity.
Due to the heavy workload, the shipyards reached almost their breaking point. Further to that, some shipyards have accepted more scrubber retrofits than they can accommodate. Consequently, significant delays are expected to the delivery of scrubber fitted vessels.
Looking into 2020, when the price spread between low and high sulphur fuel oil is clearly defined, the second wave of scrubber retrofits will materialize.
IMO 2020 Disruptions
The major bunker hubs are preparing to accommodate the anticipated demand for high sulphur fuel oil (for scrubber fitted vessels), low sulphur fuel oil and blended fuels. Yet, it is not the same with the smaller ports where shortages of some fuel grades are expected. Those shortages will create delays and increase voyage times for the vessels.
In contrast to crude tankers and containerships, which follow relatively fixed routes, the seaborne transportation of dry bulk cargoes is fragmented. Dry bulk vessels call both first-tier and second-tier ports around the world. The fuel shortages in smaller ports will have a considerable impact on the dry bulk vessels.
In May, Chinese iron port inventories reached their lowest level since October 2017. Vale’s iron ore mine accident and cyclone Veronica in Australia are the main culprits. As of May 20, 2019, the Chinese iron ore port inventories have declined for 6 consecutive weeks (Source: BTIG Report). Declining iron ore port inventories will eventually reach a point of restocking.
Furthermore, there is a chance that inflationary pressures, which relate to IMO 2020, may stimulate early restocking across all dry bulk cargoes during the second half of 2019. An event that may give a boost to the demand side.
Star Bulk is Poised to Fly
Young Scrubber Fitted Fleet
On a fully delivered basis, Star Bulk will have a fleet of 109 vessels (12.45 deadweight tons) covering all segments of dry bulk trade. The vessel acquisition from Delphin Shipping LLC (Delphin), which was announced on May 27, 2019, will add 11 vessels to the company’s fleet. As a result, SBLK’s fleet will count 120 vessels (13.10 deadweight tons approximately) with an average age of 7.8 years.
Star Bulk is ready to face the IMO 2020 challenges and take advantage of the disruptions that will unavoidably happen in the dry bulk trade. Management’s decision to fit the vessels with scrubbers early enables the company to secure berth space in major shipyards and competitive installation costs.
Company will have a fleet of 100 vessels fitted with scrubber towers before the implementation date of IMO 2020. By the end of June 2019, 101 or 93% of the fleet will be scrubber fitted. Also, SBLK aims to have zero drydocks and zero scrubber installations in 2020.
By the start of 2020, the company will have a fleet ready to trade undisrupted for the whole year. As a result, Star Bulk will have the opportunity to take advantage of a potentially money-making dry bulk market in the second half of 2019 and early 2020.
Strong Balance Sheet
As of March 31, 2019, the company has cash equivalents of $155.3m with no material capital commitments. Specifically, the ‘Scrubber Program’ with a remaining cost of $100m has already been financed. Management secured debt financing of approximately $135m or 70% of the total commitments.
Currently, the company has a newbuilding program of two vessels (Katie K was delivered on April 16, 2019). The capital expenditures for the remaining 2 vessels have already been financed from CSSC (Hong Kong) Shipping Company Limited with a 10-year capital lease.
On May 27, 2019, Star Bulk announced the acquisition of 11 operating dry bulk vessels for an aggregate purchase price of $139.5m from Delphin. The transaction will be financed with $80m in cash and 4.5 million of common shares. The equity portion of the purchase price will be sourced from the proceeds of a new seven-year capital lease of up to $93.6m with China Merchants Bank Leasing.
Equity Currency Massively Undervalued
The investment thesis is “Buy Low” for the following reasons:
1. Currently, SBLK’s equity currency trades at approximately 51% discount to Net Asset Value (NYSE:NAV)
2. The active repurchase program in place and the recent vessel acquisition transaction financed with common shares suggest that SBLK’s equity currency has great upside potential
Net Asset Value
Company’s fleet value is based on current newbuilding prices adjusted for depreciation. The valuation suggests that there is a clear disconnect between the asset prices and the share price. SBLK’s equity currency trades at a 51% discount to NAV.
A sensitivity analysis of NAV per share shows a discount range from 23% to 51%.
Source: Author's Files
Other Non-Quantitative Signs
During 2019, Star Bulk repurchased 1,5m of common shares at an average price of $7.45. This is a clear sign that management consider that the current share price is undervalued.
The fact that Delphi accepted SBLK’s common shares as part of the consideration signals that SBLK’s equity currency has great upside potential.
Finally, the acquisition of 11 vessels shows that management are confident that there is a potential for upside in asset prices.
The peer comparison suggests that the discounted prices for SBLK are not an exception. The table below presents a comparison between Star Bulk and its immediate competitors (Genco Shipping & Trading Limited (GNK), Golden Ocean Group Limited (GOGL), Scorpio Bulkers Inc. (SALT), Dianna Shipping Inc. (DSX)) for several key metrics. However, SBLK’s management have already taken all the necessary actions to take advantage of the potential money-making dry bulk market in the second half of 2019 and early 2020.
Source: Author's Files - Seeking Alpha Website, Data as of May 30, 2019
The next chart shows SBLK’s share performance against the peers’ average. During 2019, it is obvious that SBLK’s stock price was hit from the weak dry bulk market more than its peers.
Source: Author's Files
All negative headlines have already been priced in SBLK’s current market valuation. Therefore, the share trades at a considerable discount to NAV.
Management’s strategic decisions:
1. to secure scrubber installations for 93% of the fleet by the end of June 2019 and
2. to bring forward all the 2020 drydocks to 2019
will enable the company to take full advantage of the potentially money-making dry bulk market during the second half of 2019 and early 2020.
From my standpoint, dry bulk rates will start to benefit from IMO 2020 disruptions, limited scrubber fitted vessel availability, due to delays and bottlenecks in shipyards, and early restocking across all dry bulk cargoes. Therefore, I expect SBLK’s stock to follow the increase in charter rates and rectify the existing disconnect between the market and NAV valuation.
Disclosure: I am/we are long SBLK. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.