Capital Product Partners - Dividend Sustainability by Barry Parker

News Release Capital Product Partners, L.P. August 15, 2011

<!DOCTYPE HTML PUBLIC "-//W3C//DTD HTML 4.0 Transitional//EN">
<HTML><HEAD><TITLE></TITLE>
<META content="text/html; charset=unicode" http-equiv=Content-Type>
<META name=GENERATOR content="MSHTML 8.00.6001.18904"></HEAD>
<BODY>
<DIV>
Capital Product Partners - Dividend
Sustainability
By Barry Parker, bdp1 Consulting Ltd.
I have been following Capital Product Partners, L.P. (NASDAQ:
CPLP) and Crude Carriers Corp. (NYSE:
CRU) since their inception. Earlier this year, the two companies
announced a merger which is expected to
close in the third quarter of 2011. Though the market has had
bumps, it’s still a story that I like. The executive
team is hard at work concluding the merger, so I could not talk
directly to them. But, there’s quite a bit of good
public information out there which I’ve tried to synthesize in an
informative way.
Capital Product Partners L.P. (NASDAQ: CPLP), a Master Limited
Partnership, is an international owner of
modern double-hull tankers. They own 22 vessels, including 18
modern MR tankers, two small product
tankers, one Suezmax crude oil tanker, and one capesize bulk
carrier. Most of its vessels are under mediumto
long-term charters to BP Shipping Limited, Overseas Shipholding
Group, Petrobras, Arrendadora Ocean
Mexicana, S.A. de C.V., Cosco Bulk Carrier Co. Ltd and Capital
Maritime & Trading Corp.
In early May, CPLP announced a definitive agreement to merge
with Crude Carriers Corp. (NYSE: CRU) in transaction where
partnership units would be used to acquire shares of CRU. CPLP
will be the surviving business. The merger continues on a path
to
completion in Q3, as planned. Shareholders of CRU will be
receiving proxies this week. On September 20, 2011, Crude
Carriers will host the Special Meeting of Shareholders to
approve
the merger. If the Crude Carrier shareholders approve the
transaction, the merger is expected to be completed by the end
of
the month. The CRU management team, along with the Crude
Carriers Investment Corp- which together own all the Class-B
common shares have agreed to vote “Yes”.
The name of the game is dividend distributions. When I talk to
investors, or get feedback from readers of this
column, I continue to hear that distributions are important to
them. This transaction provides attractive
accretion in distributable cash flow per unit and in distributions
to CRU shareholders. For example, given
CPLP’s annual distribution guidance of $0.93 per unit, and the
fixed 1.56x merger exchange ratio, Crude
Carrier shareholders are expected to receive $1.45 in
distributions per year per CRU share. Working back, the
annualized implied yield, at CRU’s closing share price of $ 6.60
on Friday, August 12, 2001, is almost at 22%.
There are also significant balance sheet benefits to each of the
CPLP and CRU shareholders. The transaction
strengthens the combined balance sheet, creates a market leader in
both the products and crude sectors with
expanded opportunities for growth.
Investors also love sustainability of dividends (from
corporations) and distributions (from partnerships); both
are periodic forms of payouts. Given the merger agreement with
Crude Carriers, along with the acquisition of
the Cape Agamemnon (the 2010 built Capesize bulker- on charter to Cosco), the current
annual distribution
guidance for CPLP of $0.93 remains sustainable. Looking ahead,
future distribution growth will be enhanced
through the combination of these two transactions; as the tanker
market recovers, distributions could be fueled
further.
Management believes that the $0.93 annual distribution guidance is
sustainable, as stated in the CPLP Q2
2011 earnings conference call and press release. Ioannis
Lazaridis, who serves as CPLP’s CEO & CFO and
CRU’s President, stated in CRU’s earnings conference call that
because of the very high percentage of period
coverage in place for CPLP’s current fleet, the combined company,
after the merger, will generate quite secure
cash flows going ahead. He elaborated that if you look at the
combined company, $16.5 million of cash flow is
required each quarter to pay the 0.2325 quarterly distributions or
0.93 annually as per the stated distribution
guidance of CPLP. Analysts predict CPLP’s current fleet alone will generate cash
flows of approximately $14
million per quarter for Q3 and Q4- excluding any contribution of
cash flows from the Crude Carriers vessels.
CPLP intends to gradually fix all the Crude Carriers vessels on
period charters. With period rates reflecting
perceptions of market recovery, the combined company will generate
better cash flows than the minimum
required paying the pro forma distribution. The balance sheet for
the combined company also includes a
healthy cache of cash- $55 million at mid-year. The bottom line-
the target annual distribution level of $0.93 per
unit is sustainable in today’s market environment. As the market picks up, the
payout could grow as the market
recovers.
Source: CPLP Q2 2011 Earnings Presentation
Management has stated that overall,
if you look at the product rates,
specifically period rates; period rates
are up ca. 10% year-on-year, and
close to 20% in the past two years.
At the same time if you look at the
supply situation in the products, the
fleet has grown by less than the
demand this year. The fleet growth
has been between 1.5-2%, whereas
demand is running higher than 3.5-
4%. With numerous refining projects
coming on stream in the next few
years, many likely to generate long
haul ton-mile voyages, demand for
tonnage is expected to remain high.
Recently a major transaction, around $1 billion in magnitude, in
the product tanker space, involving 30 ships
has been announced. In the deal (with private equity funded
Diamond S buying 30 ships from Cido), the price
per vessel exceeds previous vessel prices. The management team
believes that the prices indicate stronger
prospects for product tankers.
For bigger ships, the recent picture has been disappointing; the
average quarterly spot earnings for VLCC and
Suezmax tankers reached ten year lows. Recent IEA data shows that
overall demand did not grow in June.
The increased supply of tonnage available in loading areas
resulted in an overall weak crude tanker spot rate
environment. High bunker prices reduced Time Charter Equivalents
to owners.
With that being said, Chinese oil import demand growth is
expected to remain robust throughout the remainder of 2011,
while global refinery throughput is expected to increase by
2.3
mb/ day in Q3 in anticipation of seasonally higher demand.
The long term demand trajectory remains positive as growth is
driven mainly by non-OECD countries with OECD demand
declining slightly. Analysts expect this to translate to an
increase of approximately 3% crude tanker deadweight
demand in 2011. The longer haul routes are expected to
benefit from the increased oil demand. Even after all the
recent economic gyrations, the IEA, in a mid August
monthly
report, said: “Our own base case demand trend <FOR P oil<>
demand> remains remarkably unscathed…”
In the first part of 2011, the crude tanker order book has
experienced extensive slippage, as analysts estimate that
approximately 35% of the VLCC and the Suezmax
order book were not delivered as expected. This is a higher rate
compared to a year ago. The weak market
environment will likely result in further newbuilding delays and
cancellations. As a result, the slippage in the
crude tanker market order book is expected to stay high,
effectively pushing supply increases farther out into
the future.
VLCC & Suezmax Period Market ($ per
day)
Source: CRU Q2 2011 Earnings Presentation
Average Earnings (VLCCs - Suezmaxes)
Source: CRU Q2 2011 Earnings Presentation
Following the completion of the merger
management intends to gradually reduce the
crude tanker spot market exposure of the
combined CPLP fleet during the next 6-18
months, as the crude tanker market
improves and opportunities arise. Using a
layered strategy, the company plans to enter
into fixed period charters. In addition, longer
period charters are higher than what one can
fix for the short term period, which also
reflects the expectations for an improved
market in the future. Certainly the
willingness to fix for period is going to
improve as visibility improves in the crude
spot market.
As stated, management’s priority at this
point
is to first finalize the merger. While
management continues to look for period
employment for the Crude Carrier vessels,
they plan to accelerate this effort when the
merger is completed. I emphasize the
“gradual” part- careful timing of entry points
will produce a better result than just dumping
the entire fleet into period charters at one
time.
To reiterate, post-merger, the combined fleet
will be diversified in both the product and
crude tanker space having one of the
youngest high specification tanker fleets
allowing the unit holders of CPLP to benefit
from a recovery in both segments. In
addition, management has stated that CPLP
can benefit from the technical and
commercial support of Capital Maritime and
Trading Corp which brings with it the vetting
qualification of oil majors around the
world.
Management also expects that trading liquidity in CPLP’s units
will improve as the combined group will be one
of the largest listed US tanker companies. Besides payouts,
investors also value situations where management
and insiders have their objectives aligned with holders. CPLP
executives have drawn attention several times to
the fact that CPLP’s sponsor, the privately held Capital Maritime
received 7.1 million units in CPLP, in June as
partial payment for Cape Agamemnon, worth in excess of $73 million at the time of the announcement.
That’s
a strong inducement to be on the same side as investors.
Summing up- the company believes that the combination of the
acquisition of the M/V Cape Agamemnon and
the Crude Carriers merger strengthens the balance sheet, is
accretive to the distributable cash flow per unit,
and enhances long-term distribution
growth.
About Barry Parker
Barry Parker is a financial writer and analyst. His articles
appear in a number of prominent maritime periodicals
including Lloyds List, Fairplay, Seatrade, and Maritime Executive and Capital
Link Shipping</DIV></BODY></HTML>