First Ship Lease Trust - Phillip Securities 2021-02-22: Calmer Seas Ahead; Initiate Coverage With BUY

FIRST SHIP LEASE TRUST (SGX:D8DU)

First Ship Lease Trust - Calmer Seas Ahead; Initiate Coverage With BUY

FSL Trust's diversified lease portfolio and vessel employment provide downside protection through contracted revenue as well as freight-rate upside potential. US$29.8mn of contracted revenue as of 31 December 2020.
Projected distribution yields of 47.0%/8.5% for FY21e/FY22e.
Initiate coverage on FSL Trust (SGX:D8DU) with BUY and target price of S$0.105.

⚠️ Phillip Securities has published a revised report on 2021-02-24. Content on this page will be updated. Meanwhile, refer to the updated report by clicking 'view full report' button below.

First Ship Lease Trust (FSL Trust) - BACKGROUND

First Ship Lease Trust (FSL Trust, SGX:D8DU) is a Singapore-based business trust that owns a fleet of vessels in various shipping sub-sectors. It leases and charters vessels on long-term bareboat charters to the international shipping industry and short-term time charters. It also charters out its vessels through pools, revenue-sharing agreements (RSA) and the spot market.
FSL Trust currently operates 12 tankers of different types. Seven product tankers are chartered to international shipping companies on fixed-rate period charters, two chemical tankers on time charters and three product and crude oil tankers employed in pools or RSAs.
FSL Trust was listed on the SGX mainboard on 19 March 2007. Its trustee-manager is FSL Trust Management Pte Ltd, a wholly-owned subsidiary of its sponsor.

FSL Trust's Sponsor: FSL Holdings Pte Ltd

FSL Trust’s sponsor currently holds 72% of the trust. FSL Trust Management Pte Ltd, its trustee-manager, is a subsidiary of FSL Holdings. The sponsor provides long-term operating and finance leases to shipping and industrial companies through vessel-owning SPCs (Special Purpose Companies). It only serves customers in Singapore.
The sponsor has extensive worldwide industry contacts in the shipping industry, and the trustee-manager could leverage on the network of the sponsor and its substantial shareholders for cross-referrals and customer referrals. The sponsor also granted FSL Trust a bridging loan which was used for first yard instalments for the newbuildings in FY19. The sponsor could grant loans for FSL Trust to expand via further acquisitions.

FSL Trust - REVENUE

FSL Trust provides leasing services on a bareboat charter basis to the international shipping industry. Other vessels are employed on short-to medium-term time charters or in pools.
Under bareboat and time charters, FSL Trust’s assets are leased to international ship operators such as James Fisher (FSJ LN), which is a leading provider of marine and specialist engineering services. Each lessee has possession of the asset and pays rent to the lessor for the right to use the asset. Pools are joint ventures between ship owners to benefit from risk diversification and higher bargaining power with charterers. In FY19, 52.6% of FSL Trust’s BBCE (bareboat charter equivalent) revenue was derived from fixed-rate bareboat charters.
On 3 February 2021, it reached an agreement with James Fisher to renew charters for three product tankers whose leases expired in 2020 and two product tankers with maturities in January and June 2021, for up to eight years. Its FY21 revenue mix is not expected to change if FSL Trust does not dispose of other vessels. The percentage of BBCE revenue from fixed-rate bareboat charters could increase if FSL Trust disposes vessels under time charters or employed in pool/RSAs.
FSL Trust's contracted revenue was US$29.8mn as at 31 December 2020.

Newbuildings.

In December 2018, FSL Trust ordered two new 114,000 DWT (Deadweight tonnes) LR2 product tankers. The ships were built by COSCO Shipping Heavy Industry (Yangzhou) (COS SP). LR2 refers to long-range 2 vessels with weights of 85,000-125,000 DWT.
FSL Trust has signed an agreement to sell the two new vessels to a third party, at US$52.5mn per vessel. The selling price is commendable, given weak market conditions with TCE (time charter equivalent) rate for VLCC (very large crude carriers) hitting new low of US$17.2k for 4Q20, a decrease of 65% from 3Q20.

Outlook.

We expect TCE (time-charter equivalent) rates to remain low in 2021 with the smallest extent of decrease of 7% from 2020 for MR (medium range) clean tankers to US$15.8k, and largest extent of decrease of 50% from 2020 for VLCC dirty tankers to US$26.6k. We also project for FSL Trust to dispose of vessels currently employed under time charter and pools/RSA, with net proceeds of approximately US$40mn.

FSL Trust - EXPENSES

FSL Trust's operating expenses include depreciation (34% of revenue) and vessel operating expenses (30%). Vessel operating expenses mainly consist of crew, insurance and vessel maintenance charges. As operating efficiency has improved with the disposal of vessels, operating expenses had decreased from FY16 to FY20. We project lower operating expenses for FY21e from a smaller fleet of vessels.

FSL Trust - EBITDA

FSL Trust's EBITDA, which is revenue after accounting for voyage and operating expenses, increased from FY18 to FY20, with a steady improvement in EBITDA margins.
For FY21e, we project a 5% y-o-y increase in FSL Trust's EBITDA based on 3QFY20 annualised earnings. Margins could slightly decline with lesser economies of scale from a downsized fleet.

FSL Trust - BALANCE SHEET

Assets.

As FSL Trust had disposed of a number of vessels over FY16-FY20, the value of vessels on its books was US$136.1mn in FY20, down from US$427.5mn in FY16. FSL Trust has been utilising proceeds from the sale of vessels to repay and prepay bank loans.
In FY20, FSL Trust completed the sale and disposal of two product tankers (FSL Piraeus and FSL Perth), one crude oil tanker (FSL Shanghai) and three containerships (YM Eminence, YM Elixir and YM Enhancer). For FY21e, it has an agreement to sell its two new LR2 vessels. We expect further disposals of vessels that are not under fixed-rate bareboat charters due to weak market conditions and its ageing fleet.

Liabilities.

With proceeds from the sale of vessels, total bank loans were reduced from US$272mn in FY15 to US$29.8mn in FY20.
FSL Trust's net debt dropped from US$243.3mn in FY15 to US$9.1mn in FY20. This improved gearing from 49.4% to 18.7%.

CASH FLOW

FSL Trust generated positive free and operating cash flows from FY16 to FY20 as it disposed of vessels that were not deemed profitable. Further vessel acquisitions or disposals will depend on the state of the shipping market from 2021.
FSL Trust does not have a fixed distribution policy. DPU was US$0.015/US$0.03 or S$0.0199/S$0.0397 in FY19/FY20. Further distributions will depend on vessel acquisitions or disposals. See FSL Trust Dividend History.
As a shipping company, FSL Trust is exempted from tax on all qualifying income such as charter income. For non-qualifying income such as interest income, it pays a 17% corporate tax rate. As non-qualifying income is marginal, its tax expenses are also marginal.

FSL Trust - INVESTMENT MERITS

Attractive distribution yields.

Since its return to profitability in FY19, FSL Trust has been making distributions to its unitholders. FY19/FY20 distribution was US$0.015/US$0.03, representing yields of 23.1% and 46.2%.
Projected distribution yields of FSL Trust for FY21e/FY22e are 47.0%/8.5%. FY21e yield is expected to be about the same as FY20 thanks to cash inflow from the sale of new LR2 vessels and lower loan repayments.

Diversified across segments and vessel sizes.

FSL Trust’s diversified lease portfolio provides downside protection. On one hand, period employment of its vessels - US$29.8mn of contracted revenue as at 31 December 2020 - provides contracted, secured revenue while freight-rate upside potential comes from vessels employed in pools/RSAs. Overall returns are improved by pools and RSAs.
In FY19, 59.2% of bareboat charter equivalent (BBCE) revenue was derived from fixed-rate bareboat and time charters, with the remaining from pools/RSAs.

Financial flexibility.

FSL Trust ordered two new LR2 vessels in 2018. On 17 February 2021, it entered into an agreement to sell the two tankers, as new regulations introduced in 2020 largely restricted the operations of such tankers, coupled with weak market conditions. The agreed selling price was US$52.5mn per vessel, while they were acquired in December 2018 for a total of US$97.6mn, yielding a gain of US$7.6mn.
FSL Trust's gearing is expected to decrease from 18.7% in FY20 to 10.1% in FY21e as the trust turns from net debt to net cash. This should provide debt headroom for future growth via new vessel acquisitions.

FSL Trust - RISKS

Vessel sale risks.

We have projected that FSL Trust would continue disposing vessels currently employed in pools due to the ageing fleet. If FSL Trust decides to keep these vessels instead, distributable income and distribution yield could be lower than projected of 47.0%.

Oil demand and oil prices.

Oil demand is contingent on global economies, and oil prices are largely influenced by economy performance and oil production targets of OPEC+. The oil-tanker shipping market is very dependent on global economies and air travel. Freight rates for oil tankers could recover with global economic recovery in 2021. With that and OPEC+ production targets remain shrouded in uncertainties, shipping market is simply waiting for market upsides to materialise.

Shipping cycles.

The shipping industry is largely cyclical in nature, and cycles correspond to seasonal changes in demand and supply of products, that are determined by global trade conditions and industry capacity. That affects freight rates, which would impact the level of revenue that FSL Trust earns. Nevertheless, the long-term outlook in 2023 and beyond is still positive.

FSL Trust - VALUATION

We initiate coverage on FSL Trust with a BUY recommendation and target price of S$0.105.
We peg FSL Trust at 1.0x FY22e P/B, which is higher than its 10-year historical average of 0.34x and at the higher end for peers. We believe there is value yet to be unlocked from its current fleet. FSL Trust has been disposing of vessels that are not deemed profit-making.
FSL Trust’s 10-year P/B average of 0.34x before FY19 was due to negative sentiment when charterers defaulted, causing its non-cash impairment charges to skyrocket. Things turned around when FSL Holdings was acquired by unlisted Prime Marine Management in 2018.
Founded in 1998, Prime Marine Management is a leading international ship-owning and management group, managing 32 LR1, LR2 and MR product tankers, two Suezmax oil tankers and seven LPG carriers. With effective refinancing and proactive fleet management, FSL Trust’s losses were largely reduced by FY18. It turned around to profitability in FY19 and has been making distributions since.
See
FSL Trust’s current P/B is line with those of peers like Ocean Yield (OCY OL) and SFL Corporation (SFL US). These peers have similar risk profiles, with diversified fleets mostly on long-term charters. Container liner peers are trading at lower P/B valuations. Both Samudera Shipping Line (SAMU SP) and Global Ship Lease Inc (GSL US) concentrate on containerships.

See report attached below for complete analysis.

Vivian Ye Phillip Securities Research | https://www.stocksbnb.com/ 2021-02-22

SGX Stock Analyst Report BUY INITIATE BUY 0.105 SAME 0.105

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