Eagle Sinks On Inaccurate Reporting: Banks Need Shippers Badly
May 17 2013, 11:16 EGLE Disclosure: I am long DRYS, EGLE, NOK, BBRY, HIMX. 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. (More...)
Late yesterday, an article released on SeekingAlpha warns of the dark cloud that continues to loom over Eagle Bulk Shipping (EGLE). I disagree with the author's analysis as much of the information is outdated or the math is based on two different time periods, skewing the resulting outcome in favor of a short. For example, contrary to the report that Eagle owns 53 vessels, the company has stated in both the previous quarter and the most recent one that it owns 45 vessels with an average age of 5.9 years. This effectively concludes that the very first opening sentence of Lambros Papaeconomou's article already has inaccurate information. On the most current earnings reporting presentation, slide 17 states that vessel value (net) is sitting at $1.697 billion. Mr. Lambros Papaeconomou cites a figure of $882 million from December 31, 2012. Given it costs Genco (GNK) $545 million to acquire just 16 supramaxes (and Eagle posses 43 supras and 2 handys), how is his number even reasonable even considering depreciation? A close reading of the article also forces me to conclude the author has a limited understanding of the coal, cement, and grain industry and how they are macro drivers of the broader recovery in the dry bulk shipping industry.
Eagle is Not a Zero-Sum Game
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While it is true that Eagle is saddled with high interest payments and the Fourth Amended and Restated Credit Agreement requires a sweep of cash above $20 million each quarter, what the article fails to quote from the company's SEC filing is that the lenders "permanently waive any purported defaults" as a result of the original 2007 agreement and "no mandatory repayments of principal" is required until the Termination Date -- initially set at December 31, 2015 but extendible by 18 months to June 30, 2017.
In the comments section, one poster to the SeekingAlpha article says the Royal Bank of Scotland is the bank sweeping all excess cash. While initially alarmed, on further consideration, I am able to conclude that the banking sector in general needs the Eagle to survive very badly. From Form 10-Q's Exhibit Index, 10.8 through to 10.14, it is revealed that RBS is the lead arranger -- not the only bank involved in the loan arrangements. It is the primary agent for "financial institutions." I was pleased to note the use of the plural. While we are not given the pleasure of knowing the true number of institutions involved, the fact that Eagle's liabilities now stands at $1.17 billion (as of March 31, 2013), makes it apparent that should the banks fail to bail the shipper, they stand to see a realized loss of a magnitude probably comparable to that of the mortgage crisis. If one large shipper fails, confidence is lost on the other shippers and on the banking industry -- and the market will reel in shock.
The banks are effectively the Eagle's greatest partners and shareholders. Further to the above conditions, while the agreement is in place, the banks are taking 50% of any profits over $20,000 on a total of 8 vessels purchased by Eagle between 2010 and 2011. But consider this: the banks are further extending $20 million to the debtor to facilitate vessel purchases and sales during hard times. Also a part of the deal is the allowance for payments in kind. Beyond the principal, there is the allowance for a portion of the debt to be paid in cash or through the issue of convertible cumulative preferred shares. Convertible shares will allow the bank to take advantage of rising stock prices by converting from safe interest-bearing investments to equity -- and of course, further solidifying the banks' relationship with the Eagle's in the long run.
Married to Each Other Another 2 to 4 Years
The lenders are dependent on Eagle. The future of America's largest Supramax/ Handymax class shipping company is very important to their well-being. If the Eagle dies, the banking sector will go into another death spiral.
If the Eagle does well, the banks stand to be the biggest beneficiaries. While conducting my analysis, I view the fact that Goldman Sachs and the Royal Bank of Canada number as the top five shareholders as good news. There is more money on this from the big banks than first meets the eye. At number 2 and 4 in rank, they are in the red and definitely in for the long run.
Yesterday's big run up in share prices probably has two explanations: short covering and bigger equity stakes taken up by institutions -- especially financial institutions who have been painstakingly monitoring the situation and are finally seeing the light at the end of the tunnel.
The Reverse Split and How It Accelerates the Stock's Run Up
On May 22, 2012, the company completed a 1 for 4 reverse split, effectively reducing the number of shares outstanding from 63 million to 15 million. For short-term holders of the stock and those new to the stock, any negative information will cause a panic. When stops are hit, the share price will move down quickly as it is the shipper with the highest beta. For long-term holders (like banks and other institutions), the consideration is in the sweeter deal: any positive news will cause a large upward surge in price. With time on their hands, they can ignore all the negative noise. With the ability to force the company to renegotiate loan terms, banks have the greatest control on the game. All investors in the stock at this point should hold for the longer term.
If Santa Gives You Coal This Christmas, Rejoice!
It is probably unnecessary to look further than end of year December and early 2014 for a positive return on your monies. The dry bulk shipping sector is hugely dependent on coal, grain, and iron ore for its business. Cement, sand, steel, scrap metal, fertilizer, aluminum, and salt are some of the minor knick-knacks they transport. An overview of the cargoes shipped by Eagle released in the Q1 2013 presentation is as follows:
(Click to enlarge)
Source: Eagle Bulk Shipping
The expectation for coal's return to its heights is great given the economic recovery now under way in the U.S. and Japan. According to the World Coal Association, coal provides 30.3% of the global primary energy needs. It still generates a whopping 42% of the world's electricity. Furthermore, it is a keystone ingredient in cement, steel, and electricity production.
Recently in the news, the car manufacturers are announcing new plants and a focus on Southeast Asia. This plays nicely into the overall recovery in the transportation sector. The shipping industry is actually a laggard in this recovery process but also one poised to see share prices increase explosively by 20 times (when considering 2007 to 2008 prices of EGLE were $100+).
Given the reliance on coal for powering a recovery, and production levels in order of capacity are as follows, there is a great need for bulk shipping to move raw materials:
(Click to enlarge)
Source: World Coal Association
Referring back to the reverse split for consideration, given the magnitude of interest in Eagle in the last trading session, and the fact that there are 4 times fewer number of shares, in the most interesting scenario, this can become a $400 stock. While share price relationships are taken into consideration and prior prices are adjusted accordingly in the charts, what cannot be adjusted is the volume. If there was as much interest in the stock at its height -- and in shipping in general -- and now there are fewer shares, the effect on the stock price when considering volume can be astounding.
When the Eagle Soars, Wilbur Ross Wins
The Eagle is an indicator of the performance in the U.S. stock market. While I have traded various shipping stocks since last year, this one is by far my favorite -- my second is Dryships (DRYS), which is dependent on the situation in Greece. I have allocated a significant portion of my portfolio to depressed shipping stocks for the longer run. I also trade a portion for immediate returns. You do not need to take my word for it that shipping is poised for a comeback: someone with far more clout was touting the shippers back in early January. Billionaire Wilbur Ross is a distressed and value investor that actively restructures businesses. He has an eye for stocks with good turnaround potential -- and he loves shipping.
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