SFL Corp Ltd. Q1 FY2024 Earnings Call

Welcome to SPL's First Quarter 2024 Conference Call. My name is Sander Borgli, I'm Vice President for Investor Relations in SFL. Our CEO, Ole Hjertaker, will start the call with an overview of the first quarter highlights; then our Chief Operating Officer, Trym Sjølie, will comment on vessel performance matters; followed by our CFO, Aksel Olesen, who will take us through the financials. The conference call will be concluded by opening up for questions, and I will explain the procedure to do so prior to the Q&A session. Before we begin our presentation, I would like to note that this conference call will contain forward-looking statements within the meaning of the U.S. Private Securities Litigation Reform Act of 1995. Words such as expects, anticipates, intends, estimates or similar expressions are intended to identify these forward-looking statements. Forward-looking statements are not guarantees of future performance. These statements are based on our current plans and expectations and are inherently subject to risks and uncertainties that could cause future activities and results of operations to be materially different from these set forth in the forward-looking statements. Important factors that could cause actual results to differ include, but are not limited to, conditions in the shipping, offshore and credit markets. You should therefore not place undue reliance on these forward-looking statements. Please refer to our filings with the Securities and Exchange Commission for a more detailed discussion of risks and uncertainties, which may have a direct bearing on our operating results and our financial conditions. Then I will leave the word over to our CEO, Ole Hjertaker, with highlights for the first quarter.

Thank you, Sander. We are now announcing our 81st dividend and have built a unique profile as a maritime infrastructure company with a diversified fleet. The total charter revenues were $236 million in the quarter which is up 13% from the previous quarter, primarily due to the delivery of our new car carriers and also increased revenues on the drilling rig, Hercules. The EBITDA equivalent cash flow in the quarter was approximately $152 million, which was also significantly higher than the previous quarter. And over the last 12 months, the EBITDA equivalent has been $523 million. The net income came in at around $45 million in the quarter or $0.36 per share. We had a positive contribution of $2.2 million relating to profit share on Capesize bulkers and $3.3 million relating to fuel cost savings. And also some minor one-off items, including a $1.8 million mark-to-market gain on interest rate swaps. In line with the improved results and commitment to return value to our shareholders, we are again increasing our quarterly dividend, and this time, to $0.27 per share. We have paid dividends every quarter since our inception in 2004, and this has accumulated to more than $30 per share or more than $2.7 billion in total. And we have a robust and increasing charter backlog supporting continued dividend capacity going forward. Our fixed rate backlog stands at approximately $3.6 billion. And importantly, the backlog is concentrated around long-term charters to very strong end users. And I would note that the backlog figure excludes revenues from the vessels trading in the short-term market, and also excludes revenues on the new dual-fuel chemical carriers that will operate in a pool with Stolt-Nielsen. And it also excludes future profit share optionality, which we have seen can contribute significantly to our net income. We have recently announced several new acquisitions and charters. In March, we announced the acquisition of 3 new 110,000 deadweight ton LR2 product tankers for an aggregate purchase price of approximately $230 million, in combination with long-term time charters to a world-leading energy and commodities company. The vessels are currently under construction in China and have conventional propulsion systems with the latest eco-design features. We expect to take delivery of the vessels between June and October this year, and the charter period will be a minimum of 5 years plus up to 3 years of extension options. This adds around $200 million to our fixed-rate backlog, excluding the optional years. The charterer will have options to purchase the vessels after year 5 and 8, subject to a profit share mechanism with SFL. In April, we announced an agreement to acquire 2 33,000 deadweight ton chemical carriers with LNG dual-fuel propulsion systems. The vessels are built in 2022 and 2023 and fitted with stainless steel cargo tanks and the aggregate purchase price is approximately $114 million. We expect to take delivery of the vessels in July and have arranged long-term employment for the vessels with affiliates of Stolt Tankers, a subsidiary of the world-leading chemical logistics company, Stolt-Nielsen. Both vessels will be employed for a minimum of 8 years, where one vessel will be on a fixed-rate time charter and one vessel will be employed in a pool with similar-sized vessels. The fixed-rate vessel has extension options of up to 3 years in addition to purchase options after year 5 and 8, subject to a profit share mechanism with SFL. We have a very close business relationship with Maersk Line and have 17 vessels on long-term charters to them now. We recently agreed to extend charters for 3 10,600 TEU vessels until 2030, and Maersk also exercised the 1-year pre-agreed extension options on 3 other vessels ranging from 8,700 to 9,500 TEU. In addition to this, we have also fixed our 1,700 feeder, Green Ace, on a short-term charter to Maersk until late 2024. In aggregate, this adds approximately $250 million to our charter backlog, and in addition, we have a profit share related to scrubber benefits on some of the vessels that is expected to add additional revenues for us over time. In April, we raised a new $150 million senior unsecured sustainability-linked bond loan in the Nordic market. Maturity will be in the second quarter of 2028, and the coupon is 8.25%. Proceeds are for refinancing existing debt and for general corporate purposes. As part of the use of this facility, we have repaid a Norwegian kroner-denominated bond loan due in June 2024, with the equivalent of $81 million outstanding at the end of the first quarter. And with that, I will give the word over to our Chief Operating Officer, Trym Sjølie.

Thank you, Ole. Including vessels to be delivered this year, we have 76 maritime assets in our portfolio and our backlog from owned and managed shipping assets stands at $3.6 billion. The current fleet is made up of 15 dry bulk vessels, 34 container ships, 18 tankers, 2 drilling rigs and 7 car carriers. We have a diversified fleet of assets chartered out to first-class charters on mostly long-term charters. Container vessels are now our largest segment with just under 50% of the backlog. We have, over the last 8 to 10 years, completely transformed the company's operating model and have moved away from financing-type bareboat charters and instead assume full operating exposure. This makes us relevant for large industrial end users like both in the dry and wet segments. The 2 new dual-fuel chemical tankers on time charter to Stolt and pool with Stolt Tankers is a recent example of this. In the third quarter, 95% of charter revenues from all assets came from time charter contracts and only 5% from bareboats or dry leases. In addition to fixed-rate charter revenues, we've had significant contribution to cash flow from profit share arrangements over time, both relating to charter rates and cost savings on fuel. And in Q1, profit split arrangements have contributed about $5.5 million. Out of the 76 vessels, we have 11 on bareboat contracts and 65 on time charter and spots. Our operation is quite complex with vessels across multiple sectors, and we have our own commercial operation of all and operational management out of Singapore and Stavanger. In Q1, we had a total of almost 6,500 operating days, defined as calendar day, less technical off-hire and dry dockings. One vessel has been in dry dock in the quarter. Our overall utilization across the fleet in Q1 was 99.5%. The charter revenue from our fleet was $236 million in Q1 and OpEx for the fleet was $81 million. Our OpEx philosophy is to continuously invest in our fleet to optimize the vessel's performance and maintain a high level of service to our customers. This includes investing to minimize off-hire as well as investments to increase cargo carrying capacity and reducing energy consumption. Such investments and cooperation with our charters is important, as a way to grow our relationship and increase backlog from existing vessels. As part of our fleet upgrade program, we are working with our main container charterers, Maersk and Hapag-Lloyd, to increase energy efficiency of our container fleet. With Maersk, we are making investments across the long-term chartered fleet for various energy efficiency measures, including hull and propeller modifications from the vessels that are in dry dock. These modifications ensure the vessels remain attractive to charters over time. And as Ole mentioned, we just entered into new 5-year time charters of 3 10,600 TEU containerships with Maersk, in which energy efficiency was an important consideration. Of the 6 Hapag-Lloyd vessels, we are investing in energy-saving devices, improved hull form with new bulbous bow, new propellers and fittings, anti-fouling paint and exhaust gas scrubbers. Furthermore, we are boosting the cargo intake up to nominally 15,400 TEU by increased deadweight and modification to lashing bridges and lashing gears. 2 of the vessels have already been upgraded and delivered to Hapag-Lloyd, and we estimate that fuel consumption and emissions per TEU carried is down by approximately 20%. And with that, I will give the word over to our CFO, Aksel Olesen, who will take us through the financial highlights of the quarter.

Thank you, Trym. On this slide, we have shown a pro forma illustration of cash flows for the first quarter. Please note that this is only a guideline. This is the company's performance and is not in accordance with U.S. GAAP, and also net of extraordinary and noncash items. The company generated gross charter hire of approximately $236 million in the first quarter, with approximately 93% of revenue coming from our fixed-charter rate backlog, which currently stands at $3.6 billion, providing us with strong visibility on the cash flow going forward. In the first quarter, the container fleet generated gross charter hire of approximately $19 million, including approximately $3 million in profit share related to fuel savings on some of our large container vessels. With 7 car carriers on charter following the delivery of our 2 remaining dual-fuel LNG car carriers during the quarter, gross charter hire increased approximately $25 million in the first quarter compared to approximately $22 million in the fourth quarter. Our tankers on long-term charters generated approximately $30 million in gross charter hire during the first quarter, in line with the previous quarter. The company has 15 dry bulk carriers, of which 8 were employed on long-term charters. The vessels generated approximately $24 million in gross charter hire in the first quarter, including approximately $2 million profit share generated from our 8 Capesize vessels which chartered to Golden Ocean. 7 of these vessels were employed in the spot and short-term market and contributed approximately $6.5 million in net charter hire compared to approximately $7.3 million in the previous quarter. SFL owns 2 modern harsh environment drilling rigs: the jack-up, Linus; and the semi-submersible, ultra-deepwater rig, Hercules. During the first quarter, the rigs generated approximately $66.5 million in contract revenues compared to approximately $45 million in the fourth quarter. During the quarter, Linus revenue was approximately $19.6 million compared to approximately $19 million in the previous quarter. The rig is currently at the yard in Norway for its 10-year special periodic survey, with an estimated net capital expenditure of approximately $13 million. In connection with SPS, we expect the rig to be off-hire for approximately 5 weeks. In the first quarter, Hercules was in contract with Galp Energia in Namibia, recording approximately $47 million of revenue compared to $26 million in the previous quarter and half of the quarter was spent in mobilization mode. The rig is currently mobilizing to Canada for a contract with Equinor, and on the U.S. GAAP organization fees and costs are deferred and amortized over the course of the contract. SFL is accordingly expecting to record lower income and cost on Hercules in the second quarter. Our operating and G&A expenses for the quarter were $85 million compared to $80 million in the fourth quarter as Hercules was on contract for the full quarter. This summarizes to an adjusted EBITDA of approximately $152 million compared to $132 million in the previous quarter. We then move on to the profit and loss statement as reported on the U.S. GAAP. As we have described in previous earnings calls, our accounting statements are different from those of a traditional shipping company, as our business strategy focuses on long-term charter contracts; a large part of our activities are classified as capital leasing. Therefore, a portion of our charter revenues are excluded from U.S. GAAP operating revenues. This includes repayment of investment in sales type, direct financing leases and leaseback assets and revenue from entities classified as an investment in securities for accounting purposes. For the first quarter, we reported total operating revenues according to U.S. GAAP of approximately $229 million, which is less than approximately $236 million of charter hire actually received for the reasons just mentioned. During the quarter, the company recorded profit share income of approximately $5.5 million from fuel savings from some of our large container vessels, our car carrier and our 8 Capesize dry bulk vessels on charter to Golden Ocean. On the financial items, we had a positive noncash mark-to-market effects from swaps of approximately $1.8 million; negative mark-to-market effects from equity investments of approximately $400,000; and an increase of approximately $100,000 on credit loss provisions. Furthermore, we had an increase in tax linked to operations of the Hercules in Namibia. So overall, and according to U.S. GAAP, the company reported a net profit of approximately $45.3 million or $0.36 per share compared to approximately $31.4 million or $0.25 per share in the previous quarter. So moving on to the balance sheet. At quarter end, SFL had approximately $168 million of cash and cash equivalents. Furthermore, the company has marketable securities of approximately $5.1 million in additional debt-free vessels, with an estimated market value of more than $100 million. In terms of CapEx commitments, we recently acquired 5 tankers with total CapEx of approximately $340 million, of which we expect approximately $240 million to be financed with senior bank financing. In addition, our harsh environment jack-up rig, Linus, is scheduled to undergo its senior SPS with an estimated net capital expenditure of approximately $30 million. Subsequent to quarter-end, the company successfully placed a new sustainability-linked bond of $150 million, addressing the 2024 NOK bond maturity in addition to proceeds for general corporate purposes. Furthermore, the company has a range of $37 million in financing for a previously debt-free container vessel, Maersk Phuket, at very attractive terms and maturity matching the long-term charter. So based on Q1 numbers, the company has a book-to-equity ratio of approximately 28%. Then to conclude, the company has delivered another strong quarter with growth in both revenues and EBITDA. The Board has declared the 81st consecutive cash dividend, and increased the dividend to $0.27 per share, which represents a dividend yield of approximately 8%. Our fixed charter rate backlog currently stands at $3.6 billion, which provides us with strong visibility on the cash flow going forward.

And we'll have our first question from Climent Molins.

I wanted to start by asking about the recent chemical tanker acquisitions. Adding a long-term contract on one of them is aligned with your usual structure. But could you provide some insight on the reasoning for employing one of them in Stolt-Nielsen's pool?

Absolutely. Nielsen leads the chemical logistics sector and is operating vessels in the market, holding a significant number of volume contracts with customers. This gives us visibility on charter revenues for those vessels. The rationale for combining two different strategies is that we have the stability of a fixed rate on one vessel, while the other vessel offers market opportunities and exposure. Currently, the near-term market rates, based on the contract of affreightment coverage, are considerably higher than the fixed rate on the first vessel, making the balance look promising. Occasionally, we take on some market exposure, but overall, most of the charter rates we receive are fixed. Additionally, we benefit from profit shares related to earnings and fuel savings across various assets. From a portfolio perspective, we view this approach as a beneficial way to engage in the market, particularly as we believe it will remain robust due to the low order book in this segment. Moreover, these vessels feature dual-fuel LNG propulsion, which we anticipate will be increasingly appealing to major chemical companies that will employ them.

Makes sense. I also wanted to ask about the 2 acquisitions. Regarding the Hercules, could you provide some commentary on what's the bid for long-term contracts? And secondly, on the Linus, revenue increased quarter-over-quarter. Is that attributable to the index-linked component of the contract?

Yes, to start with the Hercules, it is currently mobilizing from Namibia to Canada to begin drilling for Equinor, which we expect to start in early July. It began its transit about a week ago, and the contract will run until the fourth quarter. The exact timing is not yet clear as it will depend on when the redrilling starts and the required scope of work for drilling the wells. However, we believe that the rig will likely be released in the fourth quarter. We are monitoring the market for potential opportunities, but we cannot provide specific details on future employment for the rig. There are very few harsh environment deepwater rigs available in the market, making it a relatively tight situation, which could enhance the value of this asset over time. Regarding the Linus, the charter rate is currently increasing from just over $200,000 per day to around $220,000 per day starting in May. This rate is indexed with a 10% adjustment to account for the lack of commercial off-hire the rig typically experiences between contracts. In the second quarter, Linus will undergo a dry dock for a 10-year special survey; it just arrived at the shipyard yesterday, and we expect the work to take around five weeks, meaning it should be back in operation by the end of the month. Linus has a long-term charter with ConocoPhillips that extends until the end of 2028. We also anticipate more potential work at the Ekofisk field, as Conoco and their license partner had their license extended from 2028 to 2048 a little over a year ago. We hope that Linus will continue to perform well for Conoco, which may lead to opportunities for further deployment beyond 2028. However, we are still quite a while away from any discussions regarding future employment for that rig.

We will take our next question from Gregory Lewis.

I was hoping you could talk a little to how we should be thinking about the dividend and just returning cash to shareholders. I mean, I guess this is another increase. I think there's been 3 consecutive increases. Clearly, as we look at not even cash flows, but just net income, there is definitely room to increase that, the dividend even more. Just kind of curious how the Board may be thinking about this, realizing that it was good to see, but just looking at something like backlog, the backlog looks like it was up more than roughly 10% sequentially. So any kind of color you can give on how you're thinking about the dividend, just realizing that it looks like that there is real depth in the long-term charter market for a lot of your assets.

Thank you, Greg. It's Aksel here. Yes, it's a good observation. It's a very solid quarter. Increased net income, and so that's, of course, good. We have more contract backlog being added. I think from the Board's perspective, taking our view quarter-by-quarter on something is long-term and sustainable over time and kind of been increasing the dividend now, as I say, I think, at least 3 consecutive quarters, taking that step by step. So I think kind of that's the approach for now being somewhat conservative, realizing there's a lot of kind of capacity. I would say, at the same time, there's also kind of significant investment opportunities in the market to further grow the company and kind of to increase the dividend over time. So we have to kind of see the totality of kind of how much we increase the dividend quarter-by-quarter, yes.

I was hoping for more information on the Hercules. That rig is moving to Canada, and I understand there are options following the firm work. When does the customer need to exercise those options? I am curious about the timeframe, especially since there will likely be multiple opportunities to secure work for that rig, and the urgency for drilling rigs is increasing. I'm interested in understanding this better.

Yes. So the drilling scope in Canada is 2 wells, with some testing opportunity around it. The reason why we cannot be too specific on the exact number of days is simply that it all depends on the drilling efficiency, which is a combination of, of course, the way the rig is handling the whole drilling operation up on the drilling floor, you can say, but also is linked to the rock down where the rig is actually drilling. So we have to be a little bit vague in terms of the exact scope and time it will take. We expect the rig to be employed definitely for the third quarter and probably for a good chunk into the fourth quarter, probably most of the fourth quarter. But still, we cannot be 100% specific. That said, as you have pointed out, I mean, yes, there are other drilling opportunities. I mean the rig has been was very successful when it was drilling in Canada for Exxon. It went to Namibia, drilled 2 wells for Galp, it was a major success for Galp. I think that fund more than they estimated to more than 10 billion barrels of oil. It's massive. So we, of course, are very happy with sort of being assisting and having the equipment that help them then do that. And of course, that we think will hopefully trigger more drilling activity also in that area. This rig has the capability to drill also in benign water, but we believe that given that it has the capacity to drill wells in sort of ultra-harsh environments, very deep water, it's winterized. So it has a lot of features that we believe very few other rigs have and very few rigs that are available from late '24 and into 2025. So we are naturally monitoring this market closely but can only really comment and be specific when we have secured additional work for the rig.

Okay. Great. I wanted to ask another question about the acquisition opportunities you leveraged in the tanker market earlier this year. It's interesting because we've seen that there are often opportunities for long-term contracts in the container market. As the company examines the tanker market landscape, which has been more focused on short-term contracts in recent years, are we noticing an increase in the long-term charter market for tankers? Some investors are curious if these are just isolated instances or if we could expect to see a continuation of long-term charters in the tanker market, not necessarily from SFL, but in general.

The regular crude oil and product tanker markets are primarily influenced by spot-oriented players that engage in voyage charters. Notable companies like Frontline operate in the crude oil sector, while Scorpio Tankers is active in the product segment, among others, focusing on daily oil movements and varying cargo loads. We are searching for opportunities to establish long-term contracts with strong counterparties, aiming to integrate into the logistics chain rather than simply owning transport assets. The chemical market functions similarly, resembling a liner-type market more than spot-traded tankers, where we manage complex cargo mixes on individual vessels across different terminals. We are enthusiastic about our recent deal with Stolt, a market leader in that area, as it allows us to participate in the market through a shared pool with similar vessels. We are exploring opportunities in this sector but remain agnostic about segments, prioritizing the right assets with reliable counterparties and suitable deal structures that can enhance our dividend capacity. Our ultimate goal is to develop long-term sustainable dividends, and we believe the recent deals contribute to that aim. We are also pleased with the multiple extensions and a new long charter agreement with Maersk for vessels that have historically been under their charter at favorable rates. This indicates a strong market presence and reaffirms the quality of service these vessels provide us. We take pride in our premium operations and focus on optimizing fuel consumption, which reduces emissions and benefits our customers by lowering logistics fuel costs. We see potential for further opportunities in this area moving forward.

As there are no further questions from the audience, I would like to thank everyone for participating in this conference call. If you have any follow-up questions for management, there are contact details in the press release, or you can reach us through the contact pages on our website, www.sflcorp.com. Thank you.