Ted Petropoulos Why do publicly quoted shipping companies increase or reduce their share capital?

Why do publicly quoted shipping companies increase or reduce their share capital?

By Ted Petropoulos, Head, Petrofin Research ©

Many of you may have invested in public shipping companies and / or are interested to follow their development, as a matter of interest.

Although, the opportunities for new initial public offerings (IPOs) are still limited, there has recently been a spate of public companies that either offer new shares to their shareholders to raise capital or proceed via secondary offerings to brokers, who in turn acquire and dispose such shares in due course, usually at a discount to the prevailing share price.

Admittedly, one of the main benefits of being a shipping public company is to be able to raise capital in order to buy assets e.g. ships, using shares as opposed to cash. The same could apply if another shipping company is bought via shares. The above is best achieved when the share price of the offeror is above the Net Asset Value per share (NAV) and at the same time, the proceeds are used to boost the company’s income stream. Whether the earnings per share (EPS) of each share (old and new) shall rise will depend on the contribution of the new vessel, as a percentage to the total fleet, prior to and after the new share issue. The same would apply if a shipping company was to be bought (provided sellers accept whole or part payment in shares), as to whether the resultant NAV and EPS are diluted or not.

In shipping, however, all public companies have share prices at a discount to NAV. For pure shipping public companies (not engaged in other activities or services other than those of running their fleet), the discount arises because such companies tend to have higher administrative and reporting costs as well as disclosure issues and other complications. Furthermore, the share price is also influenced by the volatility and prospects of the shipping market. Often, such a discount is substantial. Under such circumstances, by definition, an increase of the company’s share capital will be dilutive for existing shareholders. As such, the value of each share, the ownership of the company they represent and their voting power may diminish in time. This applies even more in case shareholders do not take up their rights or such shares are “placed” with brokers at a deep discount to the share price and NAV.

So the question arises, why do public companies issue new shares at a discount to the share price which is itself at a discount to NAV, if this results in a dilution of their shareholders’ NAV and a fall in the share price? Such practice may, on the surface of it, be contrary to the company’s and their shareholders’ interests.

Further questions may arise if the share issue is underwritten by the major shareholder and the major shareholder ends up having acquired most or all of the newly placed shares at a discount, boosting their ownership of the company.

In this article, we will seek to present some simple explanations and observations (without delving into capital structure theory) that apply for shipping and which, readers may find useful in their selection or assessment of shipping public companies and their management policies and practices. As potential shareholders, such investors might wish to take into account how public companies treat their shareholders.

We should add that in addition to the NAV and EPS considerations, the value of a share may also reflect its earnings’ expectations, dividends policy, quality and reputation of its management, its ability to have well timed investments taking advantage of shipping cycles, as well as its capital and debt structure and resiliency of earnings, via long term charters. However, in shipping the NAV factor remains the most important one, as over time a successful company should see its NAV rise through sound management, investment as well as financial and share capital policy .

Share capital and debt decisions, which are not dilutive, might involve the company buying part of its own issued share capital, if the discount of share price to NAV is substantial. In this way, the remaining shares should have a higher NAV and EPS. The above can be done if the company believes that investment opportunities are limited at a particular time and the cash to be used to purchase stock (Treasury stock) represents surplus cash. Another way to improve EPS, and consequently NAV, is to buy back issued bonds or repay expensive borrowing, which carry a high cost to the company, often in excess of 10% or even more. By reducing its debt servicing costs, EPS rises.

Diana Shipping represents a good example of a public company that has used effectively both the above methods, to the benefit of its shareholders. Another justifiable reason for a share issue may lie in management’s belief that vessel prices represent an attractive investment opportunity. In such case, the purpose of the new share issue is to expand the future NAV and EPS of the company, should the decision turn out to be correct. Investors should be aware that,

by definition, such purchase is likely to take place in a weak market, where NAV, EPS and share price are likely to be low and the dilution effect significant. However, at least in such cases, the purpose of the share issue is for investing in the company’s business. Nevertheless, there have recently been shipping public companies, which have increased their share capital, often by deep discounts to the share price (let alone NAV) and without a pre-determined use of the cash proceeds. Such practices resulting in over-dilution of the existing shareholders’ position raise serious questions. The questions multiply if such issues are repeated many times over a short period of time of, say, 1 year, which may cumulatively decimate the interest of shareholders, especially if no assets are acquired. Such repeated share issues may also seriously impact on the ownership structure of the company, depending on who will the new shareholders be and especially, if they happen to be associated with existing shareholders holding leading positions or interests in the company. Presumably, shareholders owning such stocks should seriously consider to sell their positions or not to increase their holdings, so as to reduce their downside risk in case they find the company’s decision unconvincing or unclear.

The manner in which companies treat their shareholders is very important.

Shareholders, who see a deeply discounted share issue, may wish to consider whether the funds raised are urgently needed to meet a company’s negative cash flow or are needed to meet lenders’ financial covenants. In this case, such an issue would represent a warning sign of financial strain and troubles ahead.

Another practice that has become popular is to offer share warrants together with each share being issued. Such warrants have no cost but do give the right to their owner to convert into shares or sell the warrant when the price of the share and / or warrant rises. Should these warrants also have voting rights, they become vehicles of exercising ownership to their owners and reduce the effective ownership of existing shareholders. The issuance of warrants may be very popular with Wall Street, investment bankers and brokers but might be a questionable method for the interests of the shareholders. Such warrants, if they represent a significant part of the potential ownership of a company, do act, in some cases, as “poison pills” against a takeover and certainly, put a lid or slow down EPS growth, due to their presence and possible conversion into shares.

It is not the purpose of this article to stigmatize any particular company as each case is different but instead to make readers aware of the need to look into a company’s history, in respect of new capital issuance and how existing shareholders are treated as well as critically assess the company’s announcements and share Capital increases. Recently, there has been a backlash against frequent increases of capital especially without a specific purpose or to be used for purchasing new assets, for companies with share prices well below NAV’s. This has occasionally resulted in a company announcing that there would be no additional capital increases for a specific period of time and other measures designed to comfort shareholders.

Issuing shares for the purchase of ships at a low point in a shipping cycle is eminently reasonable and shareholders may wish to back the judgment of the company’s management. Raising additional cash, via a share capital increase, with no defined purpose and at a deep discount and/or the issuance of warrants, may indicate a company facing acute financial issues with its lenders or other potential issues for shareholders. Potential investors should therefore be wary and form their own judgment in each instance.

The key consideration behind a shareholder’s decision, as to whether to buy shares or participate in an increase of capital, is to determine how the company treats its shareholders and if its policy is consistent with the shareholder’s goals as to EPS, dividends and stock price appreciation. Share capital increases do render such assessment more difficult, without a clear explanation provided to shareholders by public companies.

Emmanuel Vergetis Are you prepared for the upcoming IHM deadline?

Mr. Emmanuel Vergetis, is South Europe Senior Consultant, Marine & Offshore for Lloyd’s Register

With more than 670 ocean-going commercial ships and offshore units sold to yards for scrap in 2019, it is vital to ensure that ships, at the end of their life, are being recycled safely with minimum impact on human health and the environment. A step towards ship recycling sustainability is the EU Ship Recycling Regulation (EUSRR) a regulation requiring ship-specific information on the hazardous materials on board, which will allow safe management at the end of vessel’s life, protects the crew’s safety and wellbeing, all while enhancing a company’s social responsibility profile. According to the EUSRR, from 31 December 2020, any ship which is 500 GT or over, regardless of flag, will require a valid and certified Inventory of Hazardous Materials A ccording to the EUSRR, from 31 December 2020, any ship which is 500 GT or over, regardless of flag, will re - quire a valid and certified Inventory of Hazardous Materials (IHM) on board, if calling at an EU port or anchorage. This inventory lists all items on board of ships, -structure, systems and fitted equipment- that may be hazardous to hu - man health and the envi- ronment. survey requirements. The shipowner is responsible for the compilation of IHM. As best practice, we advise our customers to employ the services of a hazardous material expert to compile the IHM on their behalf, to undertake sampling as necessary. In order to achieve certification for an existing vessel there are two main steps. The first step is a desktop IHM approval by our Technical Support Offices. The second step is the on board survey, during which we check the IHM against onboard items in order to issue the certificate or a Statement of Compliance (SoC). Due to the travel restrictions associated with Covid-19, there is a growing demand from customers to undertake the on-board survey remotely. Lloyd’s Register is working closely with flag administrations, by conducting trials on a (IHM) on board, if calling at an EU port or ancase by case basis, in order to build up our chorage. This inventory lists all items on board of ships, -structure, experience and ensure that the remote surveys can offer the equivsystems and fitted equipment- that may be hazardous to human alence to physical attendance. Most major flags are very forthcomhealth and the environment. ing in their appetite to attend our trials. Many Greek shipowners are well-prepared and are working towards the end of year deadline, with Lloyd’s Register having already supThe December deadline is not the end of the story, it’s just the ported more than 160 Greek clients to meet the IHM requirements. beginning. The IHM is a living document, as it stays with the vessel However, time is running out for those who haven’t taken action, givthroughout its life. To ensure compliance, there are three important en the current Covid-19 pandemic and the necessary time needed requirements of the regulation. First requirement is that the IHM for the compilation and verification of the IHM. In addition, there must be maintained and updated during vessel operation. Secondis no guarantee that there will be any relaxation in the deadline, ly, a procurement policy should be in place, which should require despite industry claims, so shipowners must continue to prepare suppliers to complete the Material and Supplier Declarations of for the December 2020 deadline. Conformity for the items brought on board as per the IMO ResoThe ship recycling regulation is not something new. The journey a designated person should be responsible for maintaining and started in 1999, with the 1st Global Ship Scrapping Summit, due updating the Inventory. to the growing industry realization of the need for more responlution and the EMSA best practice guidance. Last but not least, sible ship recycling. Numerous resolutions and milestones have Staying consistent by using the same user friendly IHM template followed, with some important developments such as the IMO across the fleet is a great starting point and LR has a reliable, simHong Kong in 2009, which has not yet entered into force and the ple standard, editable template, which, since it is pdf based, works 2013 EUSRR. The EUSRR IHM requirements have been mandatory on all computer platforms and is freely available to all. Most imporfor EU-flagged newly-built ships since 31 December 2018. These tantly it is user friendly allowing designated persons to efficiently mandatory requirements will extend to EU flagged existing ships as update the IHM as frequently as needed while it is easily stored / well as any non EU flagged ships calling at EU ports and anchoragtransferred due to its small file size. We believe that this takes care es from the 31 December 2020. Additionally, since end 2018, the EU of the industry’s needs effectively, taking into account that ship flagged existing vessels should be recycled only in approved facility managers are already overwhelmed with the new regulations and included in the European List and must comply with EUSRR final the many tasks in their day to day business to operate the vessels.

Dan Cronin ABS pioneers use of 3D drawings in class survey and design review

Mr. Dan Cronin, is VP Standards and Digital Class, ABS

Vessel designers and shipyards are increasingly looking for ways to innovate and adopt digital tools in support of efficiency gains. It’s a trend recognised by ABS and one we have been supporting though initiatives to streamline the approval workflow process for class and client. At present close to a dozen ABS clients are engaged in pilot projects for class approval of vessel designs using 3D drawings for which we are providing support and feedback. We expect 3D models to replace much of the current 2D drawings but before that happens, designers and shipyards need to achieve a level of confidence in the process. Among other issues, these pilot projects have identified where 2D drawings must be produced to accompany the 3D model. As part of a pilot project program, ABS and Crowley Maritime Corporation’s Jensen Maritime used 3D Computer-Aided Design (CAD) models to support the class design review process. Focused on tug and offshore support vessel designs, the project used a detailed 3D model environment integrated with the ABS classification processes. The work undertaken with Crowley nearly two years ago has demonstrated how a flexible approach to the application of 3D drawings in a trial workflow can yield a process that class and client are comfortable with. One of the challenges has been to navigate the range of CAD software used by designers and shipyards and it’s been essential to the pilots that ABS adopt a ‘CAD-agnostic’ approach which adapts to the client process. Whether adoption of 3D drawings requires a fundamental change of process or an adaptation depends on the designer’s current process; some already work in 3D but produce 2D drawings because that is what is required so for them the change is not great. For

others who have yet to embrace 3D it creates some challenges – though it should be stressed that clients can continue to provide drawings in 2D and ABS intends to support both formats in future. From a designer’s point of view the benefit of moving from 2D to 3D drawings is immediate and substantial. Some designers quote time savings of as much as 15-25% where they already work in 3D, as this can eliminate the need for 2D drawings. It is also critical to consider how a shipyard will be affected since facilities will likely be at different levels of technology adoption. Some are still very much paper-based on the shop floor. We expect that some will begin to employ more tech such as laptops or tablets to view and work with 3D drawings if they choose to move beyond 2D drawings. Even if shipyards are not ready to retire 2D drawings entirely there is still a net benefit in the designers providing renderings in 3D as this can reduce the number of versions that need to be maintained. Shipyards that adopt the technology can also see benefits quickly. One US yard reported time saved in training their craftsmen involved with welding and fit-ups as they found it quicker and easier to work with 3D models. Design approval represents one end of the process we expect to provide end to end solutions for more clients. Earlier this year, in an industry first, ABS completed a pilot project that used 3D digital models for class surveys. The pilot with San Diego-based NASSCO saw surveyors use 3D digital models instead of traditional 2D drawings for the simulation of new construction surveys on several steel blocks. ABS has also worked with Flag States to ensure they, together with shipowners, are engaged with the process, since the resulting drawings need to be available to them as well as the crew onboard. Our discussions with Flag States indicate that many will be accommodating to 3D drawings so long as they can have access when required without themselves making large investment software and hardware. How quickly 3D drawings will be adopted across the industry is hard to predict. Progress has been slower than expected but the first live projects should be in place before the end of 2020 and could rise to 50% of projects using 3D submittals by 2024. The pilot projects with designers and shipyards have laid the groundwork on 3D model based class. The next task will be engaging with more vessel owners to demonstrate that they can access the required drawings and documentation, both ashore and onboard, to comply with IACS and IMO requirements.