Earnings Call Transcript - TNK Q1 2022

Operator, Operator

Good day, ladies and gentlemen. Welcome to the Teekay Tankers Ltd's First Quarter 2022 Earnings Results Conference Call. During the call, all participants will be in a listen-only mode. Afterwards, you will be invited to participate in a question-and-answer session. Thank you. As a reminder, this call is being recorded. Now for opening remarks and introductions, I would like to turn the call over to the company. Please go ahead.

Christian Waldegrave, Director of Research

Before we begin, I would like to direct all participants to our website at www.teekaytankers.com where you will find a copy of the first quarter 2022 earnings presentation. Kevin and Stewart will review this presentation during today's conference call. Please allow me to remind you that our discussion today contains forward-looking statements. Actual results may differ materially from results projected by those forward-looking statements. Additional information concerning factors that could cause actual results to materially differ from those in the forward-looking statements is contained in the first quarter 2022 earnings release and earnings presentation available on our website. I will now turn the call over to Kevin Mackay, Teekay Tankers' President and CEO to begin.

Kevin Mackay, President and CEO

Thank you, Christian. Hello, everyone, and thank you very much for joining us today for Teekay Tankers first quarter 2022 earnings conference call. Joining me on the call today are Stewart Andrade, Teekay Tankers' CFO, and Christian Waldegrave, our Director of Research. Moving to our recent highlights on Slide 3 of the presentation. Teekay Tankers generated total adjusted EBITDA of approximately $17.5 million in the first quarter of 2022, an increase from $9.7 million in the fourth quarter of 2021. We reported an adjusted net loss of $14 million or $0.41 per share during the first quarter, an improvement from an adjusted net loss of $25 million or $0.74 per share in the prior quarter. Our results improved quarter-over-quarter were primarily due to higher spot tanker rates. We have maintained a focus on financial strength, supported by our recent attractive refinancings and vessel sales that have taken advantage of the firm asset market, as Stewart will discuss later in the presentation. In the freight market, after a slow start to the year, we saw a notable spike in spot tanker rates late in the first quarter driven primarily by the impact of the Russia-Ukraine conflict. The increase was most pronounced in the midsize tanker segment in which we operate, given disruptions to oil trading patterns, which increased ton-mile demand. Rates continue to rally into the second quarter with nearly all of our vessels trading in the spot market, we are well positioned to generate strong cash flow in a strengthening market. Finally, as part of ongoing fleet management, in 2022 we have completed the sale of three vessels built in 2004 and 2005 for approximately $44 million. This includes one 2005 built Aframax sold for approximately $15 million and two vessel sales that were previously announced. Turning to Slide 4. We look at recent developments in the spot tanker market. Spot tanker rates were relatively weak during the first two months of the year due to a number of factors; these included the ongoing impact of the Omicron COVID-19 variant on oil demand, lower than expected oil supply growth due to temporary production outages, and a continued drawdown in global oil inventories. Further, high oil prices, which led to an increase in bunker costs, also impacted tanker earnings in the quarter. However, Russia's invasion of Ukraine in late February led to an increase in tanker rates, particularly in the Aframax and Suezmax sectors due to trade disruptions and the rerouting of cargoes. I will give more detail on the impact of Russia's invasion of Ukraine on the tanker market later in the presentation. As you can see on the right side of this slide, since late February the Aframax and Suezmax sectors have exhibited significant rate volatility with rates averaging well above the depressed levels seen earlier in the year and throughout 2021. We expect this volatility to be an ongoing feature of the market in the near-term. Turning to slide five, we provide a summary of our spot rates in the second quarter to date. In the second quarter, based on approximately 52% and 45% of spot revenue days booked, Teekay Tankers' second quarter-to-date Suezmax and Aframax bookings have averaged approximately $27,400 per day and $30,900 per day, respectively. For our LR2 fleet, based on approximately 43% of spot revenue days booked, second quarter-to-date bookings have averaged approximately $30,400 per day. I would note here that the Aframaxes have been significantly outperforming the larger tankers in the strengthening market, with LR2s very recently surging to very high levels after a relatively muted performance in the early part of the second quarter. Turning to slide six. We look at the near-term outlook for midsize tanker demand following the Russian invasion of Ukraine in late February. The conflict in Ukraine has led to a significant shift in crude oil trading patterns as many countries in the West look to reduce their purchases of Russian oil. As shown by the chart on the left-hand slide, Russian crude oil exports out of the Baltic and Black Sea have remained relatively steady since the invasion. However, there have been a decrease in short-haul crude oil exports to Europe and a corresponding increase in both the volume and proportion of oil heading to destinations East of Suez, most notably to India. At the same time, Europe has had to replace Russian crude oil with imports from further afield, including the US Gulf, West Africa, and the Middle East. As shown by the chart on the right of the slide, crude oil exports from the US Gulf to Europe at the end of April were the highest since March 2020, with the vast majority being moved on Aframaxes and Suezmaxes. Due to the nature of the lot of regions involved and the need for greater flexibility and discharge options, midsized tankers have benefited more significantly from these changing trade patterns compared to VLCCs, where rates have remained relatively weak. The net impact of these changes has been a lengthening in average voyage distances and, therefore, higher ton-mile demand. Given the European Union's recent proposal to phase out all Russian crude oil imports over the next six months and refined products by the end of 2022, we expect these alternate trade patterns may persist over an extended period. In addition, the fleet of Russian-owned and operated ships, which comprises approximately 5% of the global Aframax fleet, is finding it harder to trade, which further tightens available fleet supply in this segment. Turning to slide seven, we look at fleet supply fundamentals, which we believe are the most positive seen in the last few decades. Rising new build prices, which are currently the highest since 2009, and a lack of shipyard capacity continue to limit new tanker orders, with just 0.2 million deadweight tons of new orders placed in the first quarter of this year, the lowest since at least 1996. As you can see from the top two charts in the slide, there are very few tankers on order for delivery past 2023. And with the majority of major shipyards being full through the middle of 2025, there is limited available capacity to order new tankers for delivery in the next three years. The tanker order book, when measured as a percentage of the existing fleet, stands at just 6.4%, which is the lowest since Clarkson started recording order book data in 1996. Finally, the tanker fleet continues to age. A large number of vessels are set to reach age 20 in the next few years, with a significant number likely to be phased out. The combination of a small tanker order book, low levels of new tanker ordering, and a lack of shipyard capacity until late 2025, along with an aging fleet, should lead to very low levels of tanker fleet growth over the next two to three years. Our current forecast is for around 2% tanker fleet growth in 2022, followed by zero growth in 2023 and potentially negative fleet growth in 2024 and 2025 when ship removals are expected to exceed new tanker deliveries. To sum up, spot tanker rates have increased following Russia's invasion of Ukraine and are expected to remain volatile in the coming weeks and months as the situation continues to unfold. Although the near-term outlook is uncertain, the longer-term outlook appears very positive due to an anticipated period of very low fleet growth, which should support stronger tanker rates. I'll now turn the call over to Stewart to cover the financial slide.

Stewart Andrade, CFO

Thanks, Kevin. Turning to slide eight, we highlight the company's healthy financial foundation. In March and April, we completed our previously announced low-cost sale leaseback refinancings of 13 vessels. And during the year, we have also completed the sale of three vessels built in 2004 through 2005, taking advantage of firm asset prices. Including the increase in liquidity from these transactions, our pro forma liquidity as of March 31 was $231 million. Importantly, the sale leaseback refinancings also include purchase options that we can exercise throughout the lease terms. In some cases starting at inception and in other cases after two years. As mentioned when we originally announced these transactions, we secured attractive terms on these new sale leasebacks compared to those of the expensive sale-leasebacks we were able to unwind last year. This reflects Teekay Tankers' stronger financial position, as well as the strength of the tanker market as indicated by higher asset values. In addition to increasing our liquidity, this financing activity also extended our debt repayment profile appreciably, such that we now have no significant debt maturities through 2026, while net debt to cap was 42% as of March 31. With 46 vessels or about 90% of the fleet trading in the spot market, Teekay Tankers has high operating leverage and we are exceptionally well-positioned to take advantage of strengthening rates to generate significant cash flow, which will enable us to further reduce our debt, creating value for shareholders. With that, I will turn the call over to Kevin to conclude.

Kevin Mackay, President and CEO

Thanks, Stewart. Driven most notably by the war in Ukraine and the expanding number of sanctions and supply chain shifts resulting from it, midsized tankers have recently seen a return of significant rate volatility, which has driven a strong quarter-to-date spot performance. It’s difficult to predict just how long these factors will remain so prominent in the market. But increased freight volatility is likely to continue at least until the geopolitical tensions recede and the supply chain settles into a new normal. Operating almost completely in the spot market puts us in a good position to generate significant cash flows when rates are strong, and we will continue to position our fleet to maximize these opportunities as they arise. Looking forward, with a very low order book in the coming years and minimal shipyard capacity available to change that fact before 2025, we feel quite positive about the outlook for our market and Teekay Tankers' prospects in it. With that, operator, we are now available to take questions.

Operator, Operator

Thank you. We'll take our first question from Jon Chappell with Evercore ISI. Please go ahead.

Jon Chappell, Analyst

Thank you. Good afternoon or good morning, depending on where you are, Kevin. Stewart, starting with you, hopefully a pretty easy one. You've done a lot of the heavy lifting on the balance sheet over the last 2.5 years, mostly through difficult periods. Based on your 2Q-to-date bookings and most people's views of the market going forward, you are on the verge of generating significant operating cash flow. You mentioned some of the flexibility around the leases. Would finance lease pay down still be the number one priority for uses of cash, or do you start to pivot to something else, whether that's growth or capital returns?

Stewart Andrade, CFO

Hi, Jon. Good question. It's been a tough tanker market for the last four to six quarters and definitely our focus in the near-term is going to be on paying down debt and strengthening the balance sheet further. We think ultimately that puts us in a position where we can take advantage of opportunities which will allow us to have the best returns for our shareholders over the long term. So I would expect definitely in the short term that we will be focused on continuing to pay down debt and strengthen the balance sheet.

Jon Chappell, Analyst

And still a focus on leases as opposed to bank debt?

Stewart Andrade, CFO

Going forward, I don't think that we will be taking on or doing any more leases at the moment given the current market conditions and our liquidity levels. We'll continue to monitor the market. In terms of refinancing in the future, I think we'll evaluate the balance between these options based on the terms we can achieve and our capital requirements. So, those are both avenues for financing that we will consider when we need to refinance, but for now, we don't have any plans for further actions.

Jon Chappell, Analyst

Okay, that makes sense. Second question, a bit of a two-parter, maybe pull in Christian and Kevin. Obviously, the Afras have done incredibly well, Suez has done well relative to VLCCs, but the product tanker market has been just consistently outperforming the crude market and these diesel shortages that are turning from problems to potentially really dangerous seem to have no near-term remedy. Christian, can you maybe talk about the impact that the diesel dislocations are having on the broader markets and most directly to you in terms of your LR2s and Afras? And then Kevin, any aspirations or plans to take some of your LR2s and clean them up, because maybe there is a longer tail to some of these diesel issues?

Christian Waldegrave, Director of Research

Yeah. Hi, Jon. Yes, as you said, I think the situation in the product market is obviously very tight right now, especially on the diesel side. Inventories are extremely low. You'll have seen the margins are at record highs and that’s kind of a result of a couple of factors. I guess one is that demand has recovered quite a bit since the start of the pandemic, especially for diesel. And as I said, inventories have been drawn down quite low. There is a bit of a regional mismatch in that as well in the Western Hemisphere, the refineries are operating at very high throughput and that's been probably exacerbated a little bit by the fact that in the last couple of years we've seen some refinery closures in the Atlantic, predominantly in Europe. So now the demand has come back, those refineries that are having to work really hard to meet demand. There's a little bit more spec capacity in the east, so probably going forward we would look towards Asia and India and the Middle East to supply the volumes in the Atlantic market, and I think that's what's really driven the ton miles in terms of the products having to move much longer haul, particularly on the diesel side into the Atlantic. And then we're obviously getting towards summer now, so it's going to be the travel season. And I think with the pandemic's restrictions having been lifted, you're starting to see the gasoline margins increase as well and jet fuel as well. So I think the whole product side is going to be very tight going forward. Refinery throughput is going to have to increase to meet that demand. And that's going to continue to drive the demand for the product tankers and in particular the LR2s. So it does look like there is going to be some legs on the product side there. I would love to hand it over to Kevin, maybe to talk about our plans on the LR2s and what we're doing with the fleet there.

Kevin Mackay, President and CEO

It's a really good question, Jon, and something that the chartering team and I have been looking at in the last week or two. At the moment, we have two ships that are fully dedicated to clean. The bulk of the other LR2s are trading dirty; that happens to be in the Atlantic, which really is in a prime position to convert. It's much easier to pick up condensate crudes in Asia to facilitate that changeover from crude to clean without incurring additional costs for chemical washing and things like that. So the one thing we don't want to do is chase markets. So we've got to balance positioning ships into the Far East to get cleaned up. If other LR2 owners are thinking the same way, we could miss out on opportunities in the crude side in the Atlantic. So it's something we are looking at; if we can get the right combination of cargoes to do it swiftly, I think you'll probably see us clean up a few more ships. But it has to be that balance between which market you think is going to sustain and how long it takes to get into that market fully. So it's something that we're actively working on daily now.

Jon Chappell, Analyst

Okay. Very thoughtful. Thanks, Kevin, Stewart, and Christian.

Kevin Mackay, President and CEO

Thanks, Jon.

Operator, Operator

We'll take our next question from Magnus Fyhr with HC Wainwright. Please go ahead.

Magnus Fyhr, Analyst

Hi, you addressed my questions regarding the clean versus dirty sectors, but considering both Suezmaxes and Aframaxes, do you have a preference in either segment? Where do you see the most potential in the crude market right now?

Kevin Mackay, President and CEO

If you look at the way the markets have performed over the last few weeks, obviously, the Aframax spiked very well and has held its ground in the Far East as well as in parts of Europe, less so in the US Gulf and Transatlantic. Suezmaxes have been less resilient, and despite that we saw a drop across most of the regions that the Suezmaxes are in currently. So our preference today based on return is obviously Aframaxes, but I think we're seeing so much dislocation and disruption to trade patterns that it is really hard to call how these spikes and this volatility is going to play out between the two segments over the coming weeks. So I think it's too early to dive in and say Aframaxes are going to outperform because we know when Suezmaxes do take off, they tend to spike higher. So I think we've got good coverage in both segments. At this point, we are just making sure that we position both of our fleets, Aframax, Suezmax and if we convert LR2s to maximize our revenue generation from whatever spikes the market offers us.

Magnus Fyhr, Analyst

Okay. And do you see any changes from your clients or traders about securing ships for the second half of the year? How are they looking at the market currently?

Kevin Mackay, President and CEO

Yeah. The short-term sort of three, six, twelve-month time charter market has definitely picked up in terms of customer interest levels, certainly on the clean side; LR2s are somewhat of a hot commodity at the moment. But again, it's more of that shorter-term period they're talking about at the moment; we haven't seen anybody stretch out yet in terms of mid-term two, three-year-type deals. But certainly inquiry across all the segments has picked up in the last couple of weeks.

Magnus Fyhr, Analyst

Okay. And given that the short-term charters really don’t give you any protection or not much protection, would you have to wait to see those kinds of two, three-year charters developing before you look into securing some ships?

Kevin Mackay, President and CEO

I think our views on the market, Magnus, we believe that volatility is here for a while, caused by the disruptions from Russia's invasion. I think longer-term we're positive on the market, given where fleet supply is. So I don't think you'll see us rush to lock in mid-term, longer-term charters. I think we're positioning the fleet to be more fully exposed to the spot market. We want to try and enjoy some of the volatility and maximize our earnings through that route before we start thinking about locking in at this point.

Magnus Fyhr, Analyst

Good. That’s what I want to hear. Thanks.

Kevin Mackay, President and CEO

Thanks.

Operator, Operator

We'll take our next question from Ken Hoexter with Bank of America. Please go ahead.

Ken Hoexter, Analyst

Good morning, Kevin, Stewart, and Christian. Looking at the earnings, you've had six consecutive quarters with negative earnings, yet you still reported positive EBITDA. What is your current breakeven point? Additionally, could you provide an update on your costs, considering your previous comments on market rates?

Stewart Andrade, CFO

So I’ll take the first part of the question.

Kevin Mackay, President and CEO

Stewart, you want to grab that?

Stewart Andrade, CFO

So, Ken, taking the first part of your question first. Our free cash flow breakeven, including dry docking, is about $15,000 per day. So as long as we're above $15,000 a day on average through the fleet, we are in a position where we can pay down debt. I'm sorry; could you repeat the second part of your question, please?

Ken Hoexter, Analyst

Could you share your thoughts on cost, particularly regarding vessel operational expenses, and whether there are any additional measures you can take as rates begin to increase?

Stewart Andrade, CFO

I believe the costs reflected in the income statement over the past few quarters and into Q1 will remain fairly consistent moving forward. For operating expenses, I would estimate our quarterly run rate to be around $39 million, general and administrative expenses to be between $10.5 million and $11 million per quarter, and interest expenses to be in the low $7 million range. We do not anticipate any significant changes in these areas for the remainder of the year.

Ken Hoexter, Analyst

Helpful. And Kevin, just to clarify, you said earlier you still want to stay spot; you're not at rates yet where you want to start rolling in and locking in charters, right? I just want to make sure I caught your thought process there.

Kevin Mackay, President and CEO

That's correct. Yeah.

Ken Hoexter, Analyst

Okay. Do you think that given your previous sales, there are any additional opportunities for sales at spot rates? Is there a specific level or value recognition that the market might be overlooking right now? Would you consider those options if it benefits the equity holders by demonstrating current market valuations?

Kevin Mackay, President and CEO

I think we look at sale and purchase deals on a standalone basis, and each deal is determined based on the best value we can generate for shareholders. Obviously, asset prices are high, and you've seen us take advantage of that selling some of the older ships that we had that were due for dry docking, which eliminated that expansion and monetized those assets. So what we've got left in the fleet; I think at the moment, given the volatility that we anticipate over the next few months, we certainly want to try to keep ourselves exposed to that. So we're not actively looking to sell any additional ships at this point. But we always keep an eye on where asset values are going relative to where we think the forward spot curve is going to be and we make those decisions as and when we see value to be generated.

Ken Hoexter, Analyst

You mentioned earlier about the shifting impacts of the Russia-Ukraine situation on haul lengths. Based on your history, how quickly do you think things will return to normal once the situation concludes, or does it depend on the global context? What are your thoughts on the historical impact duration on rates?

Kevin Mackay, President and CEO

I don't think anybody can predict how long this is going to take or what the other side of this is going to look like. I’ll leave that to greater minds than mine. We just have to keep looking at how things are changing day by day and adapting our trading fleet to maximize our revenue stream as and when opportunities arise.

Ken Hoexter, Analyst

Appreciate the thoughts. Thanks, Kevin. Thanks, Stewart.

Kevin Mackay, President and CEO

Thanks, Ken.

Operator, Operator

We'll take our next question from Chris Robertson with Jefferies. Please go ahead.

Chris Robertson, Analyst

Hi. Good morning and thanks for taking my questions.

Kevin Mackay, President and CEO

Hi, Chris.

Chris Robertson, Analyst

Just to follow up on Ken's questions related to OpEx and expenses. Can you talk about what if any cost pressures you are seeing this year, especially as it relates to rising oil prices and crew transfers?

Kevin Mackay, President and CEO

Yes. Certainly, there are inflationary pressures, which are coming to bear for everybody in all industries and all companies. Currently, we haven't seen those really flow through into our OpEx expenses in any material way. We'll have to continue to monitor that and see how things change, as you've mentioned, transportation, which could increase costs to some extent, depending on how inflation goes. And then over the long term, obviously, we have crew wages, which are our most significant portion of our OpEx expenses, and that's a bit of a longer-term picture. But we'll have to see if inflationary pressures have any impact there. Overall, compared to how we see the market developing over the next few years, given the outstanding supply-side picture for tankers, we're quite comfortable on that front; we're not too concerned about it. But certainly, there could be some impact, but we haven't seen that start to flow through yet. You also mentioned oil prices; obviously, bunker prices are high, and that's flowing through not into our OpEx, but our voyage economics. This is part of the picture of where our spot rates are; obviously, we're experiencing periods of volatility that we've enjoyed some much stronger rates in Q2 in our fixed-to-date figures, notwithstanding the high oil prices. So hopefully, the continued volatility allows us to have good returns on that front.

Chris Robertson, Analyst

Okay. Yeah, fair enough. And then the higher oil prices aren't flowing through into higher lubricant costs and things like that?

Kevin Mackay, President and CEO

At some point, they will. We have lube oil contracts in place. Over time, inflationary pressures will start to affect us, but considering lube oils as a percentage of our overall operational expenses and the potential impact of inflation on that, it won't materially affect our results.

Chris Robertson, Analyst

Okay, great. My second question is totally unrelated. But on the 13 vessels scheduled for dry docking this year, can you kind of walk us through the CapEx expense side of that?

Stewart Andrade, CFO

In the second quarter, we expect around $10 million related to dry-dock and ballast water treatment system installations. For the second quarter, we're looking at about $10 million for four vessels, in the third quarter, six vessels with anticipated costs of about $12.5 million, and in the fourth quarter, one vessel with approximately $3 million. It's important to note that the timing of dry-docks may shift slightly, but overall, we are expecting about $25 million for the remaining three quarters of the year.

Chris Robertson, Analyst

All right. Yeah. I appreciate that color. Thank you for the time.

Kevin Mackay, President and CEO

You're welcome.

Operator, Operator

At this time, we have no further questions in the queue. I would like to turn the conference back over to the company for any additional or closing remarks.

Kevin Mackay, President and CEO

Thank you for joining us all today, and we look forward to speaking with you in three months' time at our next quarterly earnings call. Thanks for calling in.

Operator, Operator

Ladies and gentlemen, this concludes today's conference. We appreciate your participation; you may now disconnect.