Global Ship Lease (GSL) – No Dividend Spells More Upside

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Global Ship Lease (GSL) is a container ship leasing company whose stock has had quite a run in the last year and a half. But I think the GSL story is not over and there is still some nice upside potential.

GSL was formed to buy 17 ships from parent company CMA CGM, the third largest container shipping company in the world, and then charter them back to CMA. GSL went public through a SPAC acquisition in August of 2008 and are currently leasing the 17 ships to CMA under long term charters with an average remaining life of 8 years.

Bad Times

GSL ran into trouble in 2009 as container shipping rates crashed in the wake of the global economic downturn. GSL had all of their ships leased out on fixed rate long term charters so they were not directly exposed to the drop in shipping rates. But they encountered two other major problems:

  1. CMA was and is the sole leasing counterparty of GSL. Highly leveraged CMA watched their cash flows plummet and they came under serious financial distress. The bankruptcy of CMA would almost surely have meant the end of GSL.
  2. The drop in shipping rates also caused ship asset values to decline. GSL’s debt is secured by their ships and GSL was in danger of violating the loan to value covenants on its debt.

I entered the stock at the end of 2009. By that time GSL had managed to receive a waiver on the loan to value covenant (at a price of course!) although CMA was still under fire. The short story from there is that CMA majority owner Jacques Saade twisted and turned long enough for container rates to recover and CMA was able to recapitalize in an orderly fashion earlier this year.

Good Times

The fog over GSL was slowly lifted and the stock ran up, and up, and up. It hit a high of $7.75 in recent months after dropping to $1.03 at the end of 09. The intrinsic value of GSL is probably around $6 a share on a discounted cash flow basis (although sensitive to assumptions as to rates when the ships are rechartered), and many GSL faithful were surprised at how far the stock ran.

Did Someone Say Dividend?

When GSL delivered Q1 earnings on May 16, the driver of the run up was revealed: it was all about the potential dividend. While GSL had maintained steady cash flows, the terms of their credit amendment had prevented them from paying out a dividend since early 2009. If GSL could meet the 75% loan to value test on April 30th then they would be clear to reinstate the dividend. GSL would still have a $40 million annual debt repayment obligation so the dividend would not be the .23 cents a quarter they had paid out back in the good old days. Investors were probably expecting about .15 cents a quarter.

Investors love dividends, especially in the shipping sector. But they seem to hate not getting their anticipated dividend even more. GSL reported that they had cleared the April 30th loan to value test and had the ability to reissue a dividend, but they were not going to do so. The stock promptly dropped from over $7 all the way down to $4.97 the next day. In the Q1 earnings conference call, things got heated as one investor accused GSL CEO Ian Webber of lying on the previous conference call that GSL was certainly going to reinstate the dividend if they cleared the loan to value test.

Whether Webber ever implied the dividend was imminent is open to debate, but he could have done a better job of explaining why it was not being reinstated now. The most logical explanation seems to be that GSL wants to preserve its cash position due to their option to buy two new ships at the end of this year for $122.5 million. (These ships come with with pre-arranged charters to Zim Shipping at above market rates.) Assuming GSL contributes 30-40% equity for the new ships, they will have to come up with between $37 and $49 million. Additionally, GSL has the $40 million a year mandatory debt amortization. GSL’s current cash flow from operations is somewhere between $70 and $75 million and they have $28 million in cash on the balance sheet. So they would be cutting it somewhat close with a dividend if they want to avoid raising equity capital for the new ships.

(The sharpest move might have been to reinstate the dividend, watch the stock run to $9 or $10, and then raise equity for the ships at a price almost certainly above net asset value. Don’t tell your finance professor.)

The dividend that never was led to the odd situation of the stock dropping almost 30% because the company wanted to save cash for the ship purchase, which could easily add 15% to the company’s intrinsic value. The new Zim ship charters should contribute about $5 million, or 11 cents a share, in cash flow to equity per year. Even if those 11 cents are capitalized at 10% that is another $1.10 of value for what was a $7 stock.

Where is this Ship Headed?

If we assume the market will value GSL based on the dividend, as seems to be apparent from the market action, then what is GSL worth? GSL cash flows are mostly fixed so it is fairly safe to say annual cash from operations with the Zim ships will be around $77 million. They will probably hold some back for unexpected ship repairs. So let’s call that conservatively $2 million. Then there is the $40 million debt repayment. That leaves $35 million a year for dividends. Yahoo Finance will tell you that GSL has 54.5 million shares outstanding, but 7.4 million of those are subordinated B shares that will not be receiving a dividend for the foreseeable future. That leaves 47.4 million (fully diluted) A shares receiving the dividend for a dividend of .74 cents a year.

Now here is where it gets interesting. Costamare (CMRE), which is a pretty good comp for GSL, has a dividend yield of about 6% and has a 48% payout ratio of cash from operations. If GSL were to be given the same yield on a .74 cent dividend (which assumes a 45% payout ratio) it would trade at $12.33 a share, while the stock is currently around $5.80. Even if we assume a .60 cent dividend at an 8% yield that would equate to a $7.50 stock price, or about 30% upside.

On top of all of this, GSL filed a $500 million shelf offering in February, raising speculation that they will try to refinance their bank loan with high yield debt (their current debt level is $519 million). That would almost certainly reduce the mandatory loan amortization and free up even more cash for a dividend.

I don’t know when exactly the dividend will be reinstated (my best guess is late this year) or how much it will be (I’ll guess they start with .60 cents), but I think the stock will reward those with patience if comp yields stay around 6%. I would have been a buyer when GSL dropped to $5, but my position was already too large. GSL has been a wild ride, but I think there are more positive developments to come.

Disclosure- I own shares of GSL.

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8 Responses to Global Ship Lease (GSL) – No Dividend Spells More Upside
  1. Daniel Wohlgelernter
    May 27, 2011 | 12:44 pm

    Your analyses are remarkably comprehensive and insightful. Many thanks !

    Reply
  2. John
    May 29, 2011 | 11:15 am

    Very nicely said.

    I thought they should have reinstated a $.15 dividend, then let the div chasing crowd run up the stock and then do a small offering.

    However, one problem with this is that if GSL couldn’t get large enough interest in the offering, they could be out of luck and without the cash to do the Zim ships. I think they played the conservative approach. All will end up great, but we just have to wait a little bit longer.

    Reply
    • Elie Rosenberg
      May 29, 2011 | 12:00 pm

      Thanks for the comment John.

      They definitely took the conservative approach, especially in light of the fact they already put almost $30 million into the Zim ships that they won’t be getting back. I can understand why they don’t want to be beholden to market interest in a secondary offering.

      Having said that, the markets seem fairly open right now and I get the sense they would have done alright with a small offering targeted at the yield hungry crowd.

      Reply
  3. John
    May 29, 2011 | 8:42 pm

    Elie,

    Shortly after the conference call, I went back to listen to Q4, and Ian was very clear about how important it was to pass the test and regain the ability to pay dividends. Maybe he should have said ability to retain cash over $10m and the lower interest rate.

    One thing to note is that GSL has always had a very small percentage of institutional ownership. Perhaps that is why they didn’t want to go out on a limb by restoring a dividend, hoping for the share price increase in order to do an offering.

    Either way, GSL is in great shape.

    Reply
    • Elie Rosenberg
      May 29, 2011 | 9:28 pm

      That is a good point about the low institutional ownership. Might have something to do with the fact that GSL went public through a SPAC and not an IPO. But if there is such a thing as a “hot” sector in shipping right now it is clearly containers.

      Reply
  4. aagold
    September 30, 2011 | 9:51 am

    Elie,

    I’m interested in learning more about GSL and the overall shipping industry. Here are some questions for you:

    1) How did you derive the $6 intrinsic value for GSL? Do you have a DCF analysis you could share?

    2) Any idea what GSL’s market value-based NAV is? In other words, if their fleet were liquidated at today’s market prices, and all liabilities of the company were paid off, how much would be left over for equity holders? My concern is that the loan-to-value test is currently between 65% and 75%. If we’re conservative and use 75%, then that means the fleet’s market value equals loan/.75 = $509M (from 20-F) = $679M, whereas it’s being carried on their balance sheet at $906M (most recent 6-K). If we subtract the difference = $227M from shareholder’s equity = $324M, we’re left with only $97M, or $97M/54.6M shares = $1.78 per share (very close to today’s share price).

    3) How does GSL compare to other container ship companies in terms of undervaluation? I’m most interested in intrinsic value (i.e., DCF) and/or market-based NAV, not so much in dividend-based comparisons (since dividends can easily be cut).

    Thanks,
    aagold

    Reply
  5. Elie Rosenberg
    October 1, 2011 | 10:29 pm

    Hi AA,

    There could be a few ways to look at intrinsic value here. DCF is of course the conceptually correct way to go about it, and in one sense is easier here since you have the locked in charters that are fairly easy to value. But the tricky part with a DCF on GSL is what charter rate to assign after the fixed charters run out. Shortcut methods might include a multiple of the potential dividend, EV/EBITDA, or a normalized book value. You can get to $5-6 in value with any of the above methods. Believe it or not the Yahoo message board on GSL has had lots of great discussions on valuation in the last few years. I’d dig there for some more angles on how to value GSL.

    Don’t know about current liquidation value. Your estimate is probably a good guess. The ship asset values bounce around so much based on changes in charter rates so I am not sure current liquidation value is a very meaningful metric for GSL considering it is cash flowing nicely due to the charters at pre crash rates.

    I haven’t seen DCFs on comps. On EV/EBITDA basis it is much cheaper than other container names, but do have to normalize some of the other names for the debt taken on for ships that have not hit the water and are not contributing to earnings yet.

    Reply
    • aagold
      October 2, 2011 | 11:40 am

      Thanks. I’ll check out the Yahoo message board to see if I can learn some about GSL over there. Have you analyzed any of the other types of shipping companies, such as dry bulk, oil tankers, or LPG tankers? Seems like the shipping industry is an interesting space to learn about, especially for value investors who like to buy distressed equities. But it’s kind of overwhelming because it seems like there’s so much to learn…

      - aagold

      Reply
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