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Edited Transcript of STNG earnings conference call or presentation 31-Oct-18 12:00pm GMT

Q3 2018 Scorpio Tankers Inc Earnings Call

Nov 13, 2018 (Thomson StreetEvents) -- Edited Transcript of Scorpio Tankers Inc earnings conference call or presentation Wednesday, October 31, 2018 at 12:00:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Brian M. Lee

Scorpio Tankers Inc. - CFO

* Cameron L. MacKey

Scorpio Tankers Inc. - COO & Director

* Emanuele A. Lauro

Scorpio Tankers Inc. - Founder, Chairman & CEO

* Lars Dencker Nielsen

Scorpio Tankers Inc. - Commercial Director

* Robert L. Bugbee

Scorpio Tankers Inc. - President & Director

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Conference Call Participants

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* Amit Singh Mehrotra

Deutsche Bank AG, Research Division - Director and Senior Research Analyst

* Frode Morkedal

Clarksons Platou Securities AS, Research Division - MD

* Gregory Robert Lewis

BTIG, LLC, Research Division - MD

* Jonathan B. Chappell

Evercore ISI Institutional Equities, Research Division - Senior MD

* Kenneth Scott Hoexter

BofA Merrill Lynch, Research Division - MD and Co-Head of the Industrials

* Magnus Sven Fyhr

Seaport Global Securities LLC, Research Division - MD & Senior Shipping Analyst

* Max Perri Yaras

Morgan Stanley, Research Division - Research Associate

* Noah Robert Parquette

JP Morgan Chase & Co, Research Division - Senior US Equity Research Analyst

* Randall Giveans

Jefferies LLC, Research Division - Equity Analyst

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Presentation

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Operator [1]

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Hello, and welcome to the Scorpio Tankers Inc. Third Quarter 2018 Conference Call. I would now like to turn the call over to Brian Lee, Chief Financial Officer. Please go ahead, sir.

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Brian M. Lee, Scorpio Tankers Inc. - CFO [2]

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Thank you, operator, and thank you, everyone for joining us today. Welcome to the Scorpio Tankers Third Quarter Earnings Call. On the call with me are: Emanuele Lauro, Chief Executive Officer; Robert Bugbee, President; Cameron MacKey, Chief Operating Officer; Lars Dencker Nielsen, Commercial Director; James Doyle, Senior Financial Analyst.

Earlier today, we issued our third quarter earnings press release, which is available on our website. The information discussed on this call is based on information as of today, October 31, 2018, and may contain forward-looking statements that involve risk and uncertainty. Actual results may differ materially from those set forth in such statements. For a discussion of these risks and uncertainties, you should review the forward-looking statement disclosure in the earnings press release that we issued today as well as Scorpio Tankers' SEC filings, which are available at scorpiotankers.com and SEC.gov.

Call participants are advised that the audio of this conference call is being broadcast live on the internet and is also being recorded for playback purposes. An archive of the webcast will remain available on the Investor Relations page of our website for approximately 14 days.

If you have any specific modeling questions, you can contact me later and we can discuss it off-line. Now, I'd like to introduce Emanuele Lauro.

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Emanuele A. Lauro, Scorpio Tankers Inc. - Founder, Chairman & CEO [3]

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Thank you, Brian, and thanks, everybody for joining us today. For Scorpio Tankers, 2018 has been a year of considerable change. After much work and some difficult decisions, the company now stands well positioned, with a reshaped capital structure, appropriate liquidity, a large modern fleet and significant operating leverage to benefit from the much anticipated upswing in the twin product tanker market.

We have spent this year preserving liquidity and the strength of the balance sheet. Earlier in the year, through a combination of bank refinancing, sale-leasebacks and deferral of the most significant portion of our 2019 convertible bond, we raised over $0.5 billion of liquidity.

In the last month, in a challenging market, we completed a capital raise of over $300 million. I'd like to reemphasize that all these decisions were carefully considered. In particular, the issuance of fresh equity is never taken lightly. Through that transaction, we were pleased to see support from our existing core shareholder group but also new substantial shareholders, many of whom are with us on the call today. Our straightforward view is that we expect 2019 to be significantly better than 2018. We're encouraged in the expectation by not only the present strengthening of the spot market but also that of the forward time's aftermarket. I'm pleased to say that, with us today, we have Lars Dencker, our commercial head, who later on the call will share his views on our markets and some of the positive trends we have started to witness in the last few weeks.

A few weeks ago, we made a major announcement on the installation of scrubbers in our fleet over the next 18 months. Much internal work has been done on this significant undertaking. As you know, this -- the shipyard activity coincides with our scheduled dry docks for much of the fleet with the consequence that there is reduced additional of higher time expected. We have been both excited and concerned about the implication of IMO 2020 regulations. We were not prepared to expose our company to the significant risk of sustained, substantial and commercial disadvantage post January 2020. This has been one of the most challenging last 12 months in memory for the twin product tanker space, something which has been both disappointing and, to a certain extent, surprising to us. Despite that, I can say we now sit with the most rare combination in the shipping sector: a modern fleet, a balance sheet repositioned and reshaped to endure and the spectrum of discernible upswing, driven by the unique convergence of both secular and cyclical factors.

With that, I'd like to turn the call to Lars for his remarks.

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Lars Dencker Nielsen, Scorpio Tankers Inc. - Commercial Director [4]

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Thank you, Emanuele. Good morning, everyone. This is Lars Dencker Nielsen, the Commercial Director for the Scorpio Tankers fleet. I'd like to update you on the current market across the various segments, starting with the LR2s and progressing then to the LR1s, MRs and Handys. On the LR2s, we have seen rates increase on the Gulf-Far East voyages. Time charter equivalent earnings or TCE have increased from $8,000 to $13,000 per day.

Similarly, the West to Asian naphtha arbs have widened, which translates to time charter equivalents, with these Europe to Asia voyages, from $6,000 a day to $17,000 per day.

Moving up the western position list and with an open naphtha arb, we believe this market is poised for further strengthening. Over the medium term, the LR2 will also be leveraging off the strong crude market that now has seen a resurgence to 2015 levels, where our cross MET rates now are currently fixed in Aframaxes up towards $40,000 per day and U.S. Gulf to [Kara] Aframaxes are trading at $50,000 per day.

This dynamic, we anticipate, will provide the impetus for an increased exodus of order LR2 to moving into crude and fuel oil and we have now, in the last 8 weeks, seen 10 units moving from clean to dirty trade. We now expect this to continue with up to another dozen units actively moving across to dirty, giving the continued bullish crude environment.

LR1s have enjoyed a positive uptick in rates from all-time lows. The TCE has increased from $8,000, $9,000 per day to around $12,000 to $13,000 per day.

Rates have increased equally in Western and Eastern markets.

MRs have been through difficult times. We believe, however, the market major was reached in Q3. The last few weeks have seen MR TCE in the U.S. markets rebound substantially from $6,000 per day to $17,000 per day.

Whilst we are well positioned in the U.S. markets, we have yet to see a corresponding increase in the benchmark U.K./Cont transatlantic markets, which are currently inversely priced like a back hull repositioning voyage, trading only at $5,000 to $6,000 per day.

Ostensibly, current Atlantic basin combination earnings has more than doubled from third quarter averages.

In the East, markets are moving upwards but have yet to move more significantly from 3Q levels. Finally, Handymax vessels trading fuel oil rebounded from $6,000 per day to now trading $16,000 to $18,000 per day for U.K.C. or Med or Kara's trading vessels and positions are currently very tight.

Clean Handy are still lagging but we expect with our modern and ice-suitable vessels to be very well placed for the upcoming 4Q, 1Q winter trade.

The message is that markets have moved positively in the last few weeks. In some markets, these moves are quite considerable and more substantial than we have indeed seen for very many quarters. Fundamentally, we're seeing structural change with increased capacity utilization levels. This will benefit markets positively, as we move into 2019 against the backdrop of benign new tonnage supply. With that, I'll hand over the call to Robert.

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Robert L. Bugbee, Scorpio Tankers Inc. - President & Director [5]

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Thank you, Lars. So this is a follow up a little bit on what Lars was saying there, and I think what's really interesting here is to understand that we don't just have a cyclical and secular improvement in front of us, we're experiencing a very early seasonal upswing too. Normally this product market doesn't start to get moving until really mid-late November and it's starting up a very strong path form now in any context at all, even in years where the product market has actually been strong. Rates have rarely been this strong at this point prior to Thanksgiving and the winter season starting. And we would also -- our confidence in that building, too is, where the crude oil market is. Traditionally, the product market has followed in winter by around 4 to 6 weeks.

I think that you guys to note also, is we've given some fourth quarter guidance here, obviously that includes a lot of fixed things that were done in September in the market low. So if you add together logic and what Lars is saying, that indicates that the present rates that we're fixing at are significantly above the fourth quarter guidance levels that we've been given.

In addition to that, go on to outliers. What are outliers in markets? So outliers are important, because in markets that are weak, your outliers are normally lower. So back in September, we had situations where the market average may have been $7,000, $8,000 a day but your outlying fixtures would be $3,000, $4,000, $5,000. Today, for example, in the LR2s where you're guiding in the present market being somewhere in the mid to mid-teens or so higher, the -- these outlier, i.e. the highest fixture done in the last week or so, is in excess of $25,000.

In the LR1s, the highest fixture is around $22,000. In the MRs, the highest fixture is in excess of $25,000. And the even in the Handys, where you're trading ice-class and it's still pretty early, we've actually got fixtures in the mid-30s and may even get one shortly in the 40s. Just not to say that's the market average but the mere fact that across all 4 sectors you have outliers that are significantly high, it is a very encouraging thing with winter coming and that would indicate that very clearly, the weighted risk is on the upside to what happens in the rates here.

If we look at the company as a whole, we've got the balance sheet now that allows us to trade in the spot market. We have the most modern fleet. We've taken steps to ensure that it is going to be best position in terms of fuel efficiency in the sector going forward to 2020.

Now granted, there is a -- we have increased moderately our financial breakevens as a result of the financings and rising interest rate costs. But we have massive operating leverage here to the upside. We still have remained in a situation where every $1,000 a day in rate improvement and as you can go through historically and you see it on the crude, the markets can move in multiples of thousands, but every $1,000 a day in rate improvement leads to approximately a minimum of $40 million per annum in actual cash earnings. And that's sort of why we're -- it's been a lot of work, there's been a lot of pain but this company really is prepared and positioned for what is -- what we think is going on right now, which is the change in the actual cycle. And you've got a lot of good positive demand catalysts coming in front. And with that, I'd like to just turn it over to questions.

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Questions and Answers

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Operator [1]

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(Operator Instructions) And your first question comes from Amit Mehrotra with Deutsche Bank.

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Amit Singh Mehrotra, Deutsche Bank AG, Research Division - Director and Senior Research Analyst [2]

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I'd just like to start with the commercial performance, just given Lars is on the line as well. Seems like the 4Q bookings to date, the ones you've actually done, have just been a lot, a lot stronger than maybe what the indexes are reporting or what we're looking at with respect to the indexes. I mean I think the scale and the ECO vessels have always kind of given the company maybe scale to beat the benchmarks but it just seems like the 4Q update is just a lot better. So I was sort of hoping you can help us with that, just given how we calibrate our models? And what the sources of that outperformance have been relative to the indexes that we look it at least.

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Robert L. Bugbee, Scorpio Tankers Inc. - President & Director [3]

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Amit, thanks. Lars, I'll let you answer that question. But first, I'm of the -- I don't think you should be modest about it. You guys have done a -- you got a combination here of technical side of the really great fleet that's helping along with operations and I think you -- yourself and your team will be in bringing along and have been making changes to way we do things. So feel free to elaborate on those where you can, too, Lars.

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Lars Dencker Nielsen, Scorpio Tankers Inc. - Commercial Director [4]

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Thanks, Robert. I mean it's obviously a confluence of many different elements here that provides us with the markets or that is, the earnings relative to that. The one thing is, of course, that we're tasked with running the assets as much as we can. So in terms of how we triangulate the vessels and try and minimize our ballast waves, I think we're doing a very, very good job of make sure that we focus on the best performing and best earning voyages. We look at very -- very focused on our databases where we see an opening of arbitrages that we make sure that we position our vessels in the right areas before the markets move. And sometimes we were right and sometimes we're not. But generally speaking, I think through 2018, we have been more right than wrong. It does help a lot that we have the best fleet out there, I mean the ECO fleet that Scorpio has is by far the best in the world, that helps -- definitely, we have a very strong technical team that makes sure that the vessels are very well approved. So we are a partner of choice with most of our clients out there. And we see the cargoes, to a large extent, before anybody else, so we have a good chance of being able to position the ships in the right places at the right time.

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Amit Singh Mehrotra, Deutsche Bank AG, Research Division - Director and Senior Research Analyst [5]

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Okay. Just seems like you're being a little bit more aggressive than on the chartering side, which is great. Just one quick follow-up, I guess, for Brian. On the cash flow side, you'd obviously -- the company's obviously got some pretty heavy debt repayments next year, but plenty of cash to meet those calls, now after the equity offering. I'm just trying to think about the timing of the exhaust gas cleaning investments next year and how we should think about the cadence of the cash outflows related to those installations?

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Brian M. Lee, Scorpio Tankers Inc. - CFO [6]

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Yes, we're still looking at what financing is available and we'll probably -- we'll definitely have an update on that next -- when we do our next earnings release and maybe along the way. But we're still -- it will be -- we're still finalizing that but it will be in relationship to the dry docks, so when the 5-year numbers come up and some other vessels along the way, too, as well. I'm sorry, don't have a better answer for you right now.

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Amit Singh Mehrotra, Deutsche Bank AG, Research Division - Director and Senior Research Analyst [7]

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No, that's fine. Maybe just one maybe higher-level follow up on that specific topic is, will the cadence of installations sent to follow kind of what you're doing with Scorpio bulkers i.e. wait until 2020 comes and then install a bunch after 2020? Just so we get a sense of whether it's a '19 or '20 event or is it half past.

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Cameron L. MacKey, Scorpio Tankers Inc. - COO & Director [8]

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No, it's -- Amit, Cam here. About 2/3 -- 60% to 2/3 of the scrubbers will be fitted in within '19 and then the remainder in '20, bearing in mind, of course, that we are not fitting our Handysize tankers with scrubbers.

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Operator [9]

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And our next question comes from Ken Hoexter with Merrill Lynch.

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Kenneth Scott Hoexter, BofA Merrill Lynch, Research Division - MD and Co-Head of the Industrials [10]

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And, I guess, to follow on that, rates and Amit's question, rates look pretty solid for the fourth quarter-to-date. But would anything change the market? Robert, you mentioned the seasonality that's helping, anything that we should be concerned with that would go the other way? Or anything that, in terms of the status of what still needs to be booked, that, I guess, could even get more aggressive? Just want to understand, kind of, what variability we still have left as we look into fourth quarter.

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Robert L. Bugbee, Scorpio Tankers Inc. - President & Director [11]

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I'll take a stab at that first, Lars. So as we go into fourth quarter, the significant thing is change. I mean we've been, as Emanuele pointed out, we've been massively disappointed with the product market, we didn't expect that the inventories would be -- continue to be drawn down and down and down. But we always said that once the inventory draw had reached the point where you kind of maxed that draw out but as soon as that stopped, the market would start to change and you'd get arbs and you'd get the market functioning in a normal way. And that's clearly starting to happen. You're -- the extended strength of the crude oil market is extraordinarily helpful and we're only just seeing the beginning of that benefit in products and normally, as I said before, the product market follows 4 or 5 weeks behind that. So we should continue, as we approach Thanksgiving, have that point where the product market can -- accelerates. A cold Northern Hemisphere winter would be very, very helpful. We'd like just to see general economic -- we can have volatility around oil pricing, where we'd obviously like to see general economic stability. We wouldn't like to see the world economy completely fall apart as a result of any event or political disruption. But generally, we've got quite a powerful headline demand curve here and that's why the risks remain on balance to the upside because your general inventories are low, you've got dislocation of different things happening, you have a crude oil market that's very strong. And everything is going to be dragged towards this 2020 IMO position where people are going to have to start shifting more products around the world, just to get low-sulfur fuel in position.

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Kenneth Scott Hoexter, BofA Merrill Lynch, Research Division - MD and Co-Head of the Industrials [12]

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So Robert, how about just finishing on that same thought, anything with the risk of tariffs or, I guess, global trade that could interrupt that from your point of view or would that only aid, given your thoughts on IMO, just increasing demand?

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Robert L. Bugbee, Scorpio Tankers Inc. - President & Director [13]

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While if -- no, if things on trade or tariffs result in a serious crashing of the world economy obviously, that's negative. But the actual -- we're not -- it's far more that we're going to continue the demand for products and product-related positions that we have this cyclical and secular shift and winter coming. It's hard to think that, barring a something weird happening in the world in terms of winter, that you're not going to have that usual lift in demand itself as you approach winter.

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Kenneth Scott Hoexter, BofA Merrill Lynch, Research Division - MD and Co-Head of the Industrials [14]

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Emanuele, if I can get a follow-up on -- you mentioned the tough decision on, kind of, finally making the decision on the scrubbers. What finally made the decision for you, as you went through the process and kind of held out a little bit longer than some of the others, maybe just your hindsight on kind of go on through this process, as you now get started on the actual implementation.

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Emanuele A. Lauro, Scorpio Tankers Inc. - Founder, Chairman & CEO [15]

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Sure, Ken. Well, we probably came out with our views, Cameron has spoken previously about the fact that it was a difficult decision for us because we don't necessarily agree with the regulation per se from a standpoint of the regulation itself. However, what we didn't want to risk was the commercial disadvantage that disposes on the company's debt. We will not embrace and we will not install scrubbers in the fleet, comes January 2020. So we took more of a commercial decision than anything else, the financial-backed decision than anything else. If we had to discuss the relevance and the value of the regulation, we would need much more than an earnings call. And we would probably not come out with the same view on scrubbers.

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Brian M. Lee, Scorpio Tankers Inc. - CFO [16]

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Ken, I might add, we have been waiting for a lot of information to emerge as the deadlines come closer, given the number of actors involved, not just political and regulatory actors but industry actors and bunker suppliers and refiners. Everybody has been, sort of, looking at each other, waiting to see who the penguin is that's going to be pushed off the ice flow. So we waited as long as we could, knowing that with time comes greater certainty and reached the point where the cost of waiting longer just became inhibitive.

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Operator [17]

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And our next question comes from Greg Lewis with BTIG.

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Gregory Robert Lewis, BTIG, LLC, Research Division - MD [18]

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I guess, I'd like to follow up a little bit on the strength in the market. It's definitely welcome to see, it's something that we have fervently been waiting to see for a couple of years now. If you can kind of -- and I think Lars did a good job of highlighting it on the call in his prepared remarks. But if we could talk a little bit more about this. Is this just a function of arbs opening up? Or is it -- and Lars, any more detail you could provide on really what's driving this?

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Robert L. Bugbee, Scorpio Tankers Inc. - President & Director [19]

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Go for it, Lars.

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Lars Dencker Nielsen, Scorpio Tankers Inc. - Commercial Director [20]

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Yes, thanks, Robert. Greg, look, I mean, we've been waiting for this for a long time. I mean the fundamentals are quite clear and have been clear for a long time what we would expect of the product market and how it's going to play out. If we just keep 2020 aside and then look at just sheer fundamentals, I think it's clear that the market has always been driven a little bit about dislocations, be it weather or be it geopolitical or be it, let's say, arbs opening because of tankage in different places and stuff like that. What we're seeing here is that there hasn't been any dislocation when it comes to weather, yet. There has been none of that. There's been very limited kind of influence in terms of dislocation apart from maybe the uranium issue, that has changed a little bit on what people discussed on the crude side. But in reality, what we're seeing is that, with the stock draw that has taken place over a very long period of time, that now the market is starting moving into an area where you start seeing that there is a bit of a pulse in the market. And these arbs are starting to open and the big one that we have seen over the last couple weeks is the one that I mentioned in my prepared remarks, which is arb for naphtha moving east. Now that has a big influence on the bigger units, be it the LR2s and also on the LR1s and it happens very quickly. And I'll give you an idea that on the LR2s, when we're doing with -- these are standard voyages growing from the continent back to Asia. We're doing like $500,000 less per voyage over the summer. This is now $500,000 up and it's almost like the flick of a switch when some of these -- you see these things happen. And we anticipated this, to be honest. So we have positioned our ships in the right place and we took advantage of it with 4 units, more is -- all in the space, the scope of 1 week. We've another 3 ships coming on -- coming this week and the week following. And we're just sitting on the fence because we can see that we're looking at a position, which I also mentioned in my remarks that is very much turning into our favor. And this is something that is moving quicker than I anticipated, we expected it. But it is, of course, helped and leveraged by the fact that the crude markets are moving so quickly and this is having a big impact now as we move into the fourth quarter. We're waiting a little bit on the Eastern markets, as they move more slowly because there is more of an industrial market. But having said that, the benchmarks, TC1, which is the AG to Japan voyages, have also moved up from, I would say, about 20%, 25%. And you put that into a global context, the LR2s certainly have moved up a lot. The MI -- sorry, the LR1s, which have been disappointing in the first half of this year and have been probably all-time low, are also seeing the benefits of the arbitrage moves and these arbitrage are also built through a lot of volume that's coming out through the U.S. now, I mean that whole adventure is amazing and we're seeing huge volumes now being exported out of the states and these are starting to, let's say, percolate through the different fleets. And I'm not to want to believe very much on sentiment-driven, but more data-driven, kind of, elements of how the markets, they evolve. And this dynamic, I can see now, is changing. Within a very short space of time, the LR1s have moved up. The MR in a very big way have moved up in the U.S. Gulf and in the U.S. West Coast markets. Brazil has opened up. Mexico and the West Coast has opened up. So suddenly we're seeing a confluence of all these different factors at the same time. And without being too flippant, the mojo is coming back with a lot of our owners as well, which have -- some of them have been just accepting and resigning to the fact that the market has just been weak. So people can see now that there is light on the horizon. And I think we're seeing the early stages of this. It's been increased and accelerated by the fact of what's happening on crude. And we're just happy for it.

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Gregory Robert Lewis, BTIG, LLC, Research Division - MD [21]

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Okay, great. And then just, you mentioned about LR -- some LR2s migrating into the crude trade, clearly, Scorpio Tankers has a lot of LR2s. Is there any thought about maybe putting some of the LR2s into the crude market to take advantage of this surge in Aframax rates?

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Robert L. Bugbee, Scorpio Tankers Inc. - President & Director [22]

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I mean -- I'll take this question. I mean, frankly speaking, fundamentally, the LR2s that we have are product carriers and they're the best and the Rolls-Royces of our industry. We've got a lot of vessels which have much older if you look at the overall fleet profile of this. And they will move into the Aframaxes and we'll do it cheaper than we would ever do it, because the opportunity cost has to be there. I'll remind everybody on the call, I mean, if you want to move an LR2 into crude, that's easy. But if you want to move an Aframax, which is an LR2 that's got dirty back into clean, the opportunity cost today is much higher and prohibitive than it was before. So you need to have a very strong view that, that delta is going to be very wide for a long time before you would do it. And frankly speaking, I believe very strongly in clean market that, that's going to move as well.

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Operator [23]

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And our next question comes from Magnus Fyhr with Seaport Global.

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Magnus Sven Fyhr, Seaport Global Securities LLC, Research Division - MD & Senior Shipping Analyst [24]

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Just one question on your thoughts on the LR market versus the MR market. I mean, you still have a pretty heavy delivery schedule next year for MRs and despite the market being very weak, you haven't seen that much scrapping but kind of just wanted to see there, what your thoughts were as far as potential for more scrapping there with the increasing regulations coming in next year and 2020.

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Emanuele A. Lauro, Scorpio Tankers Inc. - Founder, Chairman & CEO [25]

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Well, quickly, before Lars answers that one, you're going to get effective removal of vessels from the MR market, as they turn 15 from the clean petroleum market. They don't necessarily have to be scrapped to do that. They're going to be aged out. And Lars, do you want to add anything to that?

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Lars Dencker Nielsen, Scorpio Tankers Inc. - Commercial Director [26]

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Yes, I mean, it's only half of the picture to be honest. Because if you look at the age profile of the MRs, you'll see a lot of MRs that are growing older in the fleet as a percentage of the overall fleet. And if you look at the ones that are turning 15 or more over the next 12 to 18 months, you'll find that it probably used a more balanced approach. And so the MR market is not really, let's say, getting over-built relative to what is -- what's out there.

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Magnus Sven Fyhr, Seaport Global Securities LLC, Research Division - MD & Senior Shipping Analyst [27]

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Okay. And there's been also little bit ordering activities there still. Do you still see the shipyards getting more aggressive on their pricing? Or you see pricing firming?

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Emanuele A. Lauro, Scorpio Tankers Inc. - Founder, Chairman & CEO [28]

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Cameron?

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Cameron L. MacKey, Scorpio Tankers Inc. - COO & Director [29]

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Magnus, thanks. No, largely, it's stable to slightly firming. Many of the major yards have been preoccupied with container ship and gas orders, depending on the size you're speaking of. And obviously, they have some cost pressures. So gently firming is how I would describe it. But not a lot of ordering activity on the products.

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Operator [30]

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And our next question comes from Randy Giveans with Jefferies.

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Randall Giveans, Jefferies LLC, Research Division - Equity Analyst [31]

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Two quick questions for me. First, so looking at the, I guess, $337 million equity offering. With rates improving, as you have kind of noted in recent weeks going forward, why did you decide to do the offering when you did it? And then secondly with a much stronger balance sheet, following all the refinancing initiatives, why did you decide to raise the $337 million instead of maybe $200 million? So trying to...

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Brian M. Lee, Scorpio Tankers Inc. - CFO [32]

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Yes, sure. So if we go back to the beginning of October, the crude oil market hadn't started moving at beginning of October and the product tanker market hadn't started moving either. And there is a degree of uncertainty as to how things would happen. And even with a -- even if you had the great improvement at that time, the company would be pretty well being really bringing into risk the sort of the one covenant that ship owners really don't want to bring into risk, which is the net debt-to-equity covenant itself. And there is a, you know, we're very confident, as you can hear of the actual market itself now and we've seen the crude oil market move and we've seen the Saudis start to give crude in. So in many ways, the world has changed a lot in a month, in a short time for the tanker markets. Back in October, you couldn't have rated that sort of quick improvement much more than 50-50 but even with the improvement and without the equity rise, you would have been -- because you were already deep into the -- you've already booked 40% of the quarter, you would have been getting close to that net-debt-to-equity. And in either event, you really couldn't have afforded a mac event, if something went wrong. So we're sort of quite openly saying, "Look, we think the product market by itself is great, if the world economy keeps functioning properly, it's great." But if a 1997 Asian currency crisis came along or a 2001 event came along, the company couldn't take it. It would just be demolished itself. And it's very important that we feel that we've got such a strong change going on in the market that it was much better to turn this company from a -- what was really a lottery ticket on immediate improvement to a proper investment thesis on the secular and cyclical change in the market. So that was really why we did the equity raise itself. The actual number itself what -- why did the raise come to the level? Well, I think that it's fair to say that everybody involved in the raise wanted to make sure as best as they could that it would be the last time that the company went into the well, that if you going to rip that bandage off, you do it really quickly. And you really make sure that, that balance sheet is really strong. You're not trying to skate through the situation, you're trying to really ensure that the company is in a great position.

That -- we never actually -- I don't think you should put, even though I'm about to, the words overcapitalized and shipping company in the same sentence. I mean, ultimately, if you get it a little bit wrong and the market does improve, you can -- there's so many things that happen, your balance sheet just gets stronger earlier. And the shareholders coming into that raise were -- they really wanted to make sure, everybody wanted to make sure that we had enough. And then, frankly, why did it change to that level? Because there was such a high oversubscription of that level. We had a lot of people who were taking that moment. We had a very, very strong equity book, in fact, in all of the raises that I have ever been involved with in my career since 1985, I've never seen a book as strong as the book which was being built at that point. But everybody was focused in that book and ensuring that the company had adequate liquidity to get through into the middle of 2020, even on a terrible market and not have to come to the well again.

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Randall Giveans, Jefferies LLC, Research Division - Equity Analyst [33]

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All right, that's fair. Now a follow-up question for the dividend. How committed are you staying to that $0.01 dividend? Obviously, now it's a higher share count, payout is roughly $21 million annually. So any risk to this going away in 2019?

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Robert L. Bugbee, Scorpio Tankers Inc. - President & Director [34]

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I think we've done our calculations in the raise, based on maintaining the dividend that we have. I think that there is a benefit going forward in -- there is a strong shareholder group, especially in the institutions and the long only there would like some form of dividend, however, knowing where it is, I mean, where it's priced at the moment, it's pretty much what you get at the -- certainly, at the current accounts on the borrowing. And we've managed to keep the dividend going through tougher times than what we foresee is going to happen in 2019.

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Operator [35]

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And our next question comes from Noah Parquette with JPMorgan.

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Noah Robert Parquette, JP Morgan Chase & Co, Research Division - Senior US Equity Research Analyst [36]

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So, I guess, the people that are out there critical of scrubbers, 2 things that come up are that spread between HFO and maybe the softer blends would be lot lower than it is between HFO and MGO and that there's potential regulatory risk in the future. How did you guys assess those 2 things when you went through this process?

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Cameron L. MacKey, Scorpio Tankers Inc. - COO & Director [37]

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Thank you. Maybe I'll start with the second one first. Since when you look at our industry and tankers specifically, put IMO 2020 in context of a rich mosaic of regulations, local regulations, national regulations, international regulations have been following an arc for decades and will continue to follow that arc. So while the commercial consequences of IMO 2020 are very significant, it is a step, it's one of many steps that the world is taking towards regulating cleaner and safer shipping. So while there are regulatory risks, I'd, again, put them in context of who can react and if that reaction, in general, local bodies react quicker than national bodies and national bodies in turn react much quicker than international bodies. So when you look at the tempo or cadence of international regulation, it's quite slow. And having just gone through another IMO committee meeting this past week, where 2020 was confirmed in terms of time, scope and implementation, we expect some horizon in the number of years before that is revisited but inevitably, it will be revisited or strengthened. In what way? Well, the world has decided that sulfur is a serious risk to health, airborne sulfur. And so the purpose of IMO 2020 is to address the same airborne sulfur health risks that it -- many of the member states have already addressed on land. It's not to make a perfect regulation, it's to address that very specific risk. So like I said, we have no doubt that local and national bodies and eventually, even the IMO will reassess and modify its approach to this risk. But they all take time and move in a different pattern. And as an aside, over time, all these regulations in various safety and environmental areas are beneficial to our industry because very gently it encourages consolidation. The small weaker players don't have the platform or the appetite to navigate this complex nexus of regulations in their trades. Maybe that's an answer to the second question. Now when it comes to the first question, knowing that the world has a problem with sulfur, it's going to be very, very difficult for the refining industry and consequently, the bunker industry to reposition itself for demands for much less sulfur. How do we see this playing out? Well, the world is going to be very shortly awash in 3.5% high-sulfur fuel oil. It can be stored but only to a degree. It can be used as a substitute for coal but that's a long way -- a long way down in price from where it is now. It can be repurposed by refiners but if you look at, for example, what Valero just did, they are committing $1 billion in 3.5 years of time to process only 55,000 barrels a day of residual fuel. So all sort of fingers point in the direction of a very difficult time and a very low price for HFO into the future. On the other hand, the blends are not new but what they are, are very niche cocktails or bespoke products of different refiners. We have been testing blends since 2012 and we continue to test them from different oil majors. But there are 2 big issues with blends that you need to bear in mind: one is, compatibility, because everybody's blend is different; and the other is stability, which is these cocktails, you can't assure that they stay in their chemical form. They're very delicate balances of fuel and chemicals and put together, it's not so easy to say that everywhere in the world, you can find a noncommoditized or idiosyncratic blend that works on your vessel or works on the fuel you have previously purchased. So we're looking at blends but I'd say, they are much more a local solution than a global one. Their pricing obviously will be anchored to the more scarce, more precious end of the trade, which is the low-sulfur trade. Remember, sulfur is very expensive and problematic for refiners to produce. So we don't see blends occupying or fully being a substitute for either low- or high-sulfur. They're going to continue to be a niche product for niche players.

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Operator [38]

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And your next question comes from Frode Morkedal with Clarksons Securities.

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Frode Morkedal, Clarksons Platou Securities AS, Research Division - MD [39]

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About the LR2 switching, as you mentioned, I guess you talked about opportunity cost over the switching. I'm curious about that since Aframax rates are probably double that of LR2s now? Maybe you can touch more on the pros and cons on switching?

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Robert L. Bugbee, Scorpio Tankers Inc. - President & Director [40]

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Yes, before Lars touches it, that's whole point is that -- we saw your report, where you have Aframaxes double LR2s. They're not double what our LR2s are making. So I think what Lars was saying was that, look, if you have an older LR2, that is not in, let's say, a bigger fleet with a program and you're customer-preferred then, yes, the spread is very wide. And even if you thought that spread was not going to be maintained for the too long, you probably should go and take your fixture at $25,000, $30,000 a day or whatever on an Aframax as opposed to earning whatever was in your report, $13 000, $14,000 on an older LR2. But if your LR2 is outperforming your index in the first place and itself is a -- is put in a structure where it's fuel-efficient and the spread to the aftermarket is less and as Lars said, you have confidence that history says that this spread doesn't actually last too long. History says that, that spread, that arb between the two is taken out, so it is very normal to have the crude oil market leading the product market. You would not immediately move your vessel because you could be sitting in a situation very shortly, whereby you would -- you're earning more for a clean LR2 than it would be for a dirty Aframax. They'd actually swap the other way in a few -- in a few years time. And then it's really difficult, because it's really difficult then to take your dirtied up LR2 and put it back into clean. So, I guess, the right now, we're not seeing that bigger arb because of the way we're programming our ships and because of the quality of our LR2s. But we perfectly understand why somebody with -- in a different situation would immediately take the arb at the moment. And I think that's working to our advantage. Lars, do you have any -- want to add to that?

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Lars Dencker Nielsen, Scorpio Tankers Inc. - Commercial Director [41]

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No, that was very eloquent, Robert. I would agree 100% with that.

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Frode Morkedal, Clarksons Platou Securities AS, Research Division - MD [42]

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Right. Another question on IMO 2020. What do you think about the fuel oil trade? Could you see longer ton-miles in general? What you think will happen to the fuel oil trade today?

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Cameron L. MacKey, Scorpio Tankers Inc. - COO & Director [43]

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I can take a stab at that and maybe, Lars, you want to add. But what we understand from our friends in refining is that 2020 has a major impact and differentiating effect on refiners. So complex refiners in certain parts of the world will benefit because they can readjust their slate and optimize around distillate production, others cannot make that change so easily. And in general, Russia and the Middle East or former Soviet Union and the Middle East are trade -- or identified as areas that will be very long fuel oil. And that fuel oil has to find a home somehow, somewhere. So I think you could see increased ton-miles in fuel oil trying to find that home, particularly as the uptick of scrubbers, while it's rapid right now, is expected to plateau. And storage -- floating storage depending on the outlook. But it's something of a mystery how that market is going to balance in the next 2 to 3 years. At some point, I'd expect more investment in coking or hydrocrackers in order to have some sort of alternative destination for fuel oil, but between now and then, I think the world is going to be drowning in the stuff.

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Operator [44]

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And our next question comes from Max Yaras with Morgan Stanley.

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Max Perri Yaras, Morgan Stanley, Research Division - Research Associate [45]

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You alluded to it a bit in your prepared remarks that writing your balance sheet has come at a cost of your cash breakevens. Just wondering, what other levers you can pull there, whether it be SG&A, OpEx? Any other ways to decrease your breakeven?

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Brian M. Lee, Scorpio Tankers Inc. - CFO [46]

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Look, we're always looking for ways to do that. We've even had a voluntary helpful reduction in some of the fees from the management company to help do that in terms of efficiency of the fleets and operations. They're looking to reduce things with the mix and thinking we should rely on reductions because we're in a cost inflationary environment. It's going to be -- we benefit, of course, from having a modern fleet. So we have less requirements for dry docking and, let's say, maintenance cost. But crude costs are likely to go up going forward, as are on the margin, some of the maintenance costs. That is a result of a world economy that is functioning.

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Max Perri Yaras, Morgan Stanley, Research Division - Research Associate [47]

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Okay. And then on the scrubbers. I know it was a bit more of a commercial decision it sounds like. But can we go through maybe some of the economic factors, steel consumption on the ship? Kind of what you're looking at for the spread? And did I hear you right, that you're not really thinking that blends will be the main solution for people without scrubbers? You see it as a different fuel, or a new fuel? Is that correct?

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Cameron L. MacKey, Scorpio Tankers Inc. - COO & Director [48]

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That is correct. We don't -- simply because a blend is not a commodity. Fuel oil is a commodity, distillate is a commodity, readily available. Blends are individual solutions posited by individual refiners or even refineries. And a lot of testing and homework has to go, not only into the formulation of these blends but also how they work on vessels and in other -- with other blends, how they're going to be distributed. It's a big open question that, at a minimum, would take several years to solve. But back to your first question, without getting into the granular detail, of course, we can do that offline. It's quite easy to see that the current spread between gas oil and fuel oil is up around $250. And the forward market today has it opening up to somewhere around $350 in 2020. And if you simply take not the ship on paper but your actual trading patterns and operating results and consumptions, your payback on a scrubber and we've said this many times before, sadly we don't have 20-year-old VLCCs or VLOCs or capesizes, because there the economics are really pronounced. But still the same on our fleet, we get paybacks on IRRs are 40%, 50% and above against the capital outlay for scrubbers. So it's an incredibly accretive use of capital.

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Max Perri Yaras, Morgan Stanley, Research Division - Research Associate [49]

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What do you expect this spread between NGL and this new fuel, this new low-sulfur fuel to be in 2020, 2021?

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Cameron L. MacKey, Scorpio Tankers Inc. - COO & Director [50]

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Well, let me put it to you this way. We have do a backward calculation, which is, we work off nothing changing from today on the basis that it's a safe bet, even with the amount of scrubbers being purchased and installed. Just assume or bear with us for a second that there's going to be no expansion of the spread today. That's where we run our calculations and that's where we get our assumptions on paybacks. Any widening of the spread for us just makes it much more attractive. So we're not counting on that. But it's certainly what the market is predicting. Others can say, well, blends might cut that future spread in half or say other things. We don't think so but even if it does, our sensitivity analysis on our investment still makes it a very attractive investment of the marginal CapEx dollars.

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Operator [51]

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And our next question comes from Jon Chappell with Evercore.

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Jonathan B. Chappell, Evercore ISI Institutional Equities, Research Division - Senior MD [52]

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Just 2 quick follow-ups. First one, covering Robert's answer before about the where we were in the beginning of October and where we are now, then the $1,000 a day and the EBITDA you can contribute. The balance sheet may be improving a lot quicker than you would have thought at the beginning of this month. So what are the use of proceeds then in that type of environment? Given Lars' optimism, because -- could be the dividend first? Could it be more assets? Buybacks? How do you think about going from a position of strength as opposed to a position of weakness just a month ago?

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Robert L. Bugbee, Scorpio Tankers Inc. - President & Director [53]

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That's a good question. I mean, we're already just on that operating variable there, ahead of where we would have thought we would have been a month ago quite considerably. But I think it's -- right now and until further notice, the thing you want to do is to lower those breakeven points that you've increased. So the most effective way to do that is to lower your debt.

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Jonathan B. Chappell, Evercore ISI Institutional Equities, Research Division - Senior MD [54]

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Okay. And then, Lars, good having you on the call, a lot of good insight. Just curious, as we think about the prior 12 months versus the next 12 months. I think most people on this call, both from where you're sitting and from where we're sitting and most of the investors, really expected '18 to be better than '17, certainly not to worsen. But it did. So what do you kind of attribute the weakening in 2018 to? And then what's different in 2019 that gives you more confidence that the recent strength that we're seeing can continue or even strengthen further next year?

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Lars Dencker Nielsen, Scorpio Tankers Inc. - Commercial Director [55]

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Yes, thanks, Jon. I mean I think it's fair to say that 2018 was a bigger disappointment than we had anticipated, a lot is down to fundamentals in terms of stock draw, vessels coming onstream, ton-miles not expanding as much as we expected, crude being as weak as it had been on the different markets. And, I guess, you've seen a market in 2018, where there has been a lot of digestion going on. There's been a huge difference in scrapping as well that has taken place. If you look at it overall from a shipping perspective, with -- obviously, scrap prices going up as much as they have, this -- the metal scrapping that has taken place in 2018 has been substantial. But what we have seen as well is a -- at least in the second part of '18, a much greater increase in export from the U.S. That ton-mile is now starting to move across the different segments. And we feel also the -- in different segments as well, age profiles playing into the spot market. You're seeing some segments where age is becoming more prevalent of an issue, where vessels are starting to move towards the 18 -- sorry, the 15 age mark, which on the product market has had an impact, especially on the smaller sizes. And so these dislocations are coming to fruition, if you will. And I think in the medium term, as a vessel starts moving a longer haul, volumes are going to pick up, the odds are going to open as we talked about a couple of times. All these elements play a part of the overall picture of what makes shipping interesting and because it's never only just one thing. What happens is that you have one particular thing that suddenly happens then, it starts kicking off the whole market. And the crude market definitely is matched to that and we've seen that happening. As people start thinking about what weather is going to happen in the third and fourth and the first quarter, it's going to be very interesting to see what will happen fundamentally to the markets as well but we're starting to see it. I mean capacity utilization level, which is something that people talk about theoretically as an issue of where the markets are going to start, starting to move and when does the pulse in the market start. And we're starting to see that. And I think that capacity utilization is starting to hit 85%, 86% as we seeing now. And certainly with dislocations, in other words you suddenly have a bit of fog in the phosphorus, the crude markets move 50 points in 1 day. But, I mean, we haven't seen that in all of '18, certainly if that happens in 1 week. And then, suddenly the next hard things happens. You've got the markets in the U.S. Gulf moving to $60,000, $70,000 a day for doing lightering. I mean, that suddenly has a -- Suezmaxes moving across for that. You've got shift balancing on the Aframaxes from the Med over to the Gulf doing that. That’s not normal trade. So these dislocations are feeding into the overall, kind of, fabric of our business. And on the clean part, we're sitting and looking at this now and that -- on the Gulf market, which had been so poor for all of the third quarter. Much weaker than we anticipated, down to because of Brazil been closed, no exports -- sorry no imports taking place there. All of these things we're just waiting for, we know it's going to happen. Then suddenly within 1 week, the markets in the U.S. Gulf move up and in my prepared remarks, we can see that it was moving from $6,000, $7,000 a day and we're now doing $17,000 a day. And we've got fixtures that -- as Robert said, outliers doing $23,000, $25,000 a day. And that goes also to the Handys. So all of these things are happening at more at the same time, but fundamentally what we're seeing is, all of the things that have been said over the course of 2018 are coming into play now. And it doesn't require very much more now to start seeing some big, bigger swings, which we anticipate.

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Operator [56]

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Thank you. Ladies and gentlemen, this concludes the Q&A portion of our conference. I would now like to turn our call back over to Brian Lee for closing remarks.

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Brian M. Lee, Scorpio Tankers Inc. - CFO [57]

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Thank you. And thanks, everyone for joining us today. We look forward to speaking you soon. Thanks, everybody. Have a good day.

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Operator [58]

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Ladies and gentlemen, thank you for attending today's conference. This does conclude the program. And you may all disconnect. Everyone, have a great day.