There's no one else in the ocean shipping industry quite like Robert Bugbee, the president of three U.S.-listed companies with a combined market capitalization of $2.6 billion — Scorpio Tankers (NYSE: STNG), Scorpio Bulkers (NYSE: SALT) and Hermitage Offshore (NYSE: PSV).
As former president of OMI Corporation, he was part of a management team that pulled off a contender for "shipping deal of the century." OMI bought back 35% of its stock then sold the company at the peak of the boom in April 2007 for $2.2 billion to Teekay Corp. (NYSE: TK) and Torm (NASDAQ: TRMD).
OMI shareholders including Bugbee walked away rich, while Teekay and Torm were stuck with fleets that collapsed in value amidst the 2008-09 financial crisis.
What makes Bugbee different from other successful shipping executives is that he's not bound by the traditional reserved decorum of big industry names. He's the industry's id, its class clown, while still retaining the respect of peers and investors.
Bugbee has been wearing a suit and the occasional tie of late, but in earlier years, he has moderated Marine Money panels in full costume, once as a beach bum, once as a football referee, and in 2013, as Sgt. Pepper. At an investor-day event the same year, he told the audience he had the new Morgan Stanley research report and then hurled an unfurling roll of toilet paper into the crowd. He has repeatedly referred to his competitor Ardmore Shipping (NYSE: ASC) as "Ardless."
Bugbee sat down for an extended interview with FreightWaves on Dec. 9 at the midtown Manhattan office of the Scorpio companies. The following is an edited version of that conversation:
The Meaning Of Prexit
FreightWaves: Congratulations. The term ‘Prexit' you invented has become part of the industry lexicon. (Bugbee described Prexit at the Marine Money forum on Nov. 13 as the exit of private-equity groups from shipping investments, which is "a lot more fun that Brexit.") Given that private-equity funds made large-scale ocean shipping investments in 2010-14 and these funds have maturity dates, there's obviously going to be a big changing of the guard with ownership. Do you think other private-equity fund managers will come in to take their place?
Bugbee: "No, the funds that were there before are leaving and the shipping industry is past the point where we're going to see the restructuring side of private equity [because market fundamentals are strong]. What I think we're going to see is that private equity will be replaced by public equity."
Some of the Prexit timing is raising eyebrows. In November, there was the secondary offering by funds including Blackstone that owned Hafnia Tankers (Oslo: HAFNIA) and a secondary offering of shares in Diamond S Shipping (NYSE: DSSI) by funds including First Reserve. The IMO 2020 sulfur-emissions rule, which comes into effect in just three weeks, is widely believed to be a positive regulatory event for tanker rates. Why didn't these funds just wait a few months and get a better price for their shares? Surely the funds' general partners (GPs) had enough flexibility in their agreements with limited partners (LPs) to wait just a little longer and take advantage of IMO 2020. Do you think the timing implies a negative market view on next year?
"I don't think it was a judgement on the market. If you have a deadline, you have a deadline [after a fund reaches its maturity date, the GPs managing money provided to them by the institutional-investor LPs are obligated to return the money to the LPs]. If you have to sell within a certain period, and you're offered a way to get out, you should probably take it. Shipping is a risky business, prone to world events. If GPs give the money back to investors and the stock goes up afterwards, that's OK, they've still fulfilled their promise. If they [the GPs] say they believe the market will improve and they wait, and then some crazy event occurs and they can't sell, their [LP] investors will quite rightly take them apart. [GPs] are managing other people's money. It's not their money.
"If you look at First Reserve, it's been in there [invested in Diamond S] since the very beginning, so it almost certainly had a timeline [fund maturity] situation. Maybe their way of being bullish on 2020 was that they only sold half their position. With Blackstone, the fund that owned Hafnia was amazingly successful and shipping was only a miniscule part of it."
Stocks Getting More Attention
If private equity is out and the pendulum is swinging back toward public equity, hasn'tthere been a change in the way these markets work? Today, with all of the passive investing and exchange-traded funds and the focus on large-cap stocks, don't shipping stocks suffer from the "if a tree falls in the woods and no one hears it" syndrome? In other words, even if the shipping-market fundamentals improve, what if there's not enough interest to move the stock prices to reflect better rates and asset values?
"Well, I don't want us to cry too much as an industry right now, because we're seeing [trading] volumes in tanker stocks we haven't seen before. If you look at daily volume for Scorpio Tankers and combine that with the volume of Frontline (NYSE: FRO), it's more than the volume of the entire group back in 2006-07. So, there's clearly interest.
"However, the point you're making is very important because we know that the majority of the capital on Wall Street now is passive capital. Add to that the machines and the momentum capital and there's not much left to participate in shipping IPOs [initial public offerings] and secondaries. An index fund or a momentum fund does not take part in a primary or secondary offering, therefore, it's going to be harder to raise primary and secondary capital in times of stress.
"What's interesting is that just as we're seeing more passive investing, we're also seeing more attention toward shipping among retail investors. If you look at the chat rooms, they're getting really interested."
Constraints On New Vessel Supply
The thing that really seems to be getting investors' attention is the constraint on new vessel supply, which could potentially lock in higher returns for a multiyear period. We've got the pullback in traditional European commercial bank finance due to the new rules under Basel protocols. At the same time, we've got total confusion about what newbuilding design will meet future carbon-emissions rules. This uncertainty is leading to fears of premature obsolescence among both owners and their lenders. How unique do you believe this situation is?
"This is really unique. One thing you can guarantee about engineers is they dream about the ships they can build. Normally, I sit in front of our engineering department and ask, ‘If you were to build a ship, what would you build?' If you ask that question today, they don't have an answer.
"With lenders, this becomes really serious because lending in shipping is partly predicated on what the residual value will be. If you're lending eight- or 10- or 12-year money, you have to have some conviction on what the asset is worth at the end of that period. If you don't, you either have to lower the amount you're willing to lend up front or shorten the tenor of the loan. Either way, it becomes harder and harder [to order new ships] because of what I'd call ‘environmental residual asset risk.'"
The Ideal Shipping Company
Given the market turbulence over the past two decades, there is a focus on the question of: What is the ideal shipping company to survive through the cycles? Is it public with no net debt and a full variable dividend, like Nordic American Tankers (NYSE: NAT) used to be? Is it a public pure play with a giant market cap, something like a merger of Frontline, DHT (NYSE: DHT) and Euronav (NYSE: EURN)? Or is it a private family company with ships in different categories? Let's start with debt. Has it now been established that due to cyclicality, a ship-owning company should have low debt?
"I'm very confident that in any bull cycle, the company that's going to perform the best is the company that has the absolute most leverage — the least equity, and you buy that equity at the point the market is breaking. That's the lucky trade, right?
"But if you're riding through the cycles, it's very clear now that long-term investors and bigger funds are willing to pay more for less debt and more [share] liquidity. They have compliance officers and rules to live by, so they're prepared to pay more for that safety in a trading position. Combined with what we were talking about earlier in terms of passive investing — and the fact that passive money and index money follows market cap — I believe your ideal position is going to be a moderately leveraged large-cap shipping company."
What about dividends? It seems clear that in a volatile, cyclical business like shipping, dividends should be variable, not fixed. And yet, there still seems to be favoritism toward fixed dividends. Why?
"The vast majority of companies around the world pays regular dividends. The Street is normalized to regular dividends. The regular dividend is thought to have greater value than a variable dividend because by definition, the variable dividend is saying to the investor, ‘Well, I think I'm OK to pay you this quarter, but I'm not willing to make a commitment to you for next quarter.'"
What about the debate on being public versus private?
"Give me the wealth and fleet of [Greek shipping tycoon] John Angelicoussis and I'd love to be private. That would be fantastic. I think being successful and private in this wonderful industry must be absolutely awesome."
But you're public. So you're public because you're not rich enough to be private?
"I think that's one of the primary reasons people go public."
Let's talk about the outlook. What about the longer term? What are the big issues you're watching?
"Environmental regulations are environmental awareness. The charterers are going to have carbon budgets. As a public company, you're well-advised to get ahead of this.
"Another interesting issue is: How will the second- and third-tier private owners in Europe compete? The cheap, high-leverage bank finance they've relied upon is no longer there. How do they renew their fleets? Will these [European] countries still be great shipping countries in 10 years' time?
"What I think will happen is that shipping will become more Chinese, more Indian, more Indonesian, more Taiwanese. The Chinese, in particular, could become significantly larger owners of tonnage in the market than they already are. The Chinese are going to be owning fleets in a much more aggressive way."
What about the short term? 2020? Product tankers are doing much better this year, and the IMO 2020 rule is expected to give them more strength next year, while dry bulk has been disappointing. What are you seeing?
"I'll tell you what's exciting about product tankers: The market this year, month over month, quarter over quarter, has been better than it was in 2018 despite IMO 2020, which actually acted as a headwind [in 2019] because of all the massive turnarounds [refinery turnarounds to produce more low-sulfur products to meet IMO 2020 demand]. What that tells you is that underneath it all, without IMO 2020, supply is better balanced. For the product tankers, IMO 2020 is not the cake, it's not the icing on the cake, it's really just the cherry on the top, creating extra demand for modern product tankers [starting in 2020].
"As for dry bulk, you're right, it has been disappointing — that's about as polite a word as you say about it. I don't know if it's the trade dispute between China and the U.S. or not, but this market has clearly not produced what all of us thought it would 18 months ago."
In general, sentiment across the broader shipping world is uniformly bullish about 2020. You told me in a previous interview: "It's almost never wrong to sell when all the analysts are saying everything will be great and it's almost never wrong to buy when it's a mess." What do you think about all this bullishness?
But you yourself think 2020 is going to be a great year?
"Yeah, I do. Simply because the [vessel] supply is so in check, you would need a geopolitical event that affects macro demand for it not to be a great year."
More FreightWaves/American Shipper articles by Greg Miller
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