ZIM Integrated Shipping Services Ltd. Q3 FY2022 Earnings Call

Ladies and gentlemen, thank you for standing by. I am Irene, your chorus call operator. Welcome and thank you for joining the ZIM Integrated Shipping Services Q3 2022 Earnings Conference Call. Throughout today’s recorded presentation, all participants will be in a listen-only mode. The presentation will be followed by a question-and-answer session. I would now like to turn the conference over to Elana Holzman, Head of Investor Relations. Please go ahead.

Thank you, Irene. And welcome to ZIM’s third quarter 2022 financial results conference call. Joining me on the call today are Eli Glickman, ZIM’s President and CEO; and Xavier Destriau, ZIM’s CFO. Before we begin, I would like to remind you that during the course of this call, we will make forward-looking statements regarding expectations, predictions, projections or future events or results. We believe that our expectations and assumptions are reasonable. We wish to caution you that such statements reflect only the company’s current expectations and that actual events or results may differ, including materially. You are kindly referred to consider the risk factors and cautionary language described in the documents the company files with the Securities and Exchange Commission, including our 2021 annual report filed on Form 20-F on March 9, 2022. We undertake no obligation to update these forward-looking statements. At this time, I would like to turn the call over to ZIM’s CEO, Eli Glickman. Eli?

Thank you, Elana, and welcome everyone to today’s call. ZIM’s third quarter and nine months' performance reflects continued solid execution and strengths in our financial results and profitability. These results are consistent with our expectation for market normalization beginning in the second half of 2022 following an extended period of solid profit. However, over the past several weeks, we have seen a steeper decline in freight rates than we previously assumed. As consumer demand in the US and elsewhere has softened, the pace of normalization has accelerated. Based on this evolving market environment, we've revised our full year 2022 focus. For 2022, we now expect to generate adjusted EBITDA between $7.4 billion to $7.7 billion, compared to our previous guidance of $7.8 billion to $8.2 billion and adjusted EBIT between $6 billion to $6.3 billion compared to the previous projection of $6.3 billion to $6.7 billion. I note that based on our current guidance, 2022 adjusted EBITDA and adjusted EBIT are expected to be once again all-time records. Current market conditions illustrate the volatile and fast-paced nature of our market. The outlook for the global economy is very uncertain as we see various macroeconomic and geopolitical risks, rising inflation and interest rates, and the energy crisis in Europe. External spending is down, and now when consumer spending on services has returned to normal, demand for durable goods may be held even healthy. All this provides a challenging outlook for container shipping, particularly given the scheduled vessel deliveries planned for next year. Xavier, our CFO, will discuss our guidance and the current market environment in greater detail later in the call, including the potential impact of different factors, including IMO 2023 on our business. In accordance with our dividend policy to pay 30% of quarterly net income, our board declared a Q3 dividend of approximately $354 million or $2.95 per share. We continue to return substantial capital to shareholders, which remains a priority as we seek to create long-term value and enable shareholders to directly benefit from our strong results. So far, on account of 2022 results and including this quarter, we have returned over $1.26 billion or $10.55 per share in dividends. During the first nine months of the year, revenue grew by 43% to $10.4 billion as compared to the same period in 2021, driven by elevated freight rates and our differentiated strategy. Our adjusted EBITDA increased 55% and net income increased 43% compared to the nine months period in 2021. Most importantly, while market conditions remain dynamic, we continue to deliver strong EBITDA and EBIT margins, highlighting our focus on profitability. Nine months 2022 adjusted EBITDA margin improved from 58% to 63% and adjusted EBIT margin improved from 51% to 54%. Notably, our balance sheet also remains very strong with total shareholders' equity of $5.8 billion at the end of the quarter. In the third quarter of 2022, our revenues grew 3% year-over-year to $3.2 billion, and we generated adjusted EBITDA and net income of $1.9 billion and $1.2 billion, respectively. Adjusted EBITDA and EBIT margin for the quarter were 60% and 48%, respectively, though lower than in Q3 2021. In light of the fundamental changes in market conditions, it is important to highlight key elements of ZIM's strategy, namely our commercial and operational agility. We believe this differentiates us and enhances our position to operate in a more normalized freight rate environment. Over the past two years, we've been proactive to best position ZIM for long-term success as we continue to focus on optimizing profitability for the benefit of our shareholders. We have demonstrated our ability to adapt to prevailing market conditions and capture commercial opportunities. Today, our commercial presence is more diversified, allowing us to benefit from and balance between various trade dynamics, yet we remain committed to our global niche strategy and operating in trades we find most attractive and where we can establish a competitive position. We believe this agility will provide us with significant resilience in this new market environment. Operationally, we remain very focused on securing the most competitive and efficient fleet possible to support our commercial strategy. As a reminder, we entered into our first agreement for the long-term charter of 10,000-15,000 TEU vessels in February 2021. These vessels are ideally suited to serve on our core Asia to US East Coast service. This charter agreement will positively impact our cost structure next year, as we take delivery of the vessels throughout 2023. Most recently, we entered into an important agreement with Shell to secure the supply of LNG and efficiently bunker this vessel. From our digital investment, I would highlight the progress of Ship4wd, our digital freight forwarder, which we launched about a year ago. As a reminder, Ship4wd is a pure digital solution on the front and back-end targeting SMEs from the US and Canada shipping from China and Vietnam. This capability offers them important efficiency compared to other industry players. While Ship4wd still has very modest revenue at this time, its technology has proven itself and the potential in this multi-billion market is clear. On that note, I will turn the call over to our CFO, Xavier, for his remarks on our financial results and additional comments on the market.

Thank you, Eli. And again, welcome, everyone. On slide six, we present key financial and operational highlights. Our third quarter results reflect continued strong execution and the benefits of our differentiated approach, combined with higher freight rates. Specifically, our average freight rate per TEU of $3,253 in the third quarter was 4% higher compared to the third quarter of 2021. During the first nine months of the year, our freight rate was 43% higher than in the 2021 nine-month period. Our carried volume in the third quarter declined 5% compared to the same period last year. Lower volumes during the third quarter resulted primarily from continued congestion as well as a more normalized level of consumer demand. We now anticipate our carried volume will be slightly down in 2022 on a full-year basis as compared to 2021, due to softer demand and continued congestion. Our free cash flow in the third quarter totaled $1.6 billion, compared to $1.7 billion in the third quarter of 2021. Our cash conversion rate is strong at 84%, as compared to last year's Q3 cash conversion rate of 83%. Turning now to our balance sheet. Total debt increased by $1.4 million since the prior year-end, primarily due to the increased number of vessel fixtures, long-term charter duration, as well as a higher daily charter rate. In the first nine months of 2022, our cash bank deposits and investments increased by $600 million. Updating you on our fleet, the number of vessels recently operated hasn't changed from our last report and currently stands at 149 vessels, of which 10 are top liners. The average remaining duration of our current charter capacity is 27.4 months, down from 28.6 months in August 2022, bridging our current operating capacity to the scheduled delivery of our chartered newbuild vessels throughout 2023 and 2024. In 2023, 25 vessels will be up for renewal, with 37 up for renewal now in 2024. This means we have a total of 62 upcoming vessels up for renewal compared to the expected delivery of 46 chartered newbuild vessels during this time period. Moving on to Slide 7, you can see that we delivered very strong results over the last two-plus years, and our net leverage ratio as a result has trended downwards and is at zero as of September 30. On Slide 8, turning to our three and nine months financial performance, our differentiated and proactive approach has continued to yield profitable results. Revenue for the third quarter was $3.2 billion, up 3% compared to Q3 2021, while net income was $1.2 billion, compared to $1.5 billion in the comparable quarter. Adjusted EBITDA was $1.9 billion for the quarter compared to $2.1 billion last year, reflecting more normalized carried volumes and average freight rates. While market dynamics have shifted, ZIM continues to generate strong EBITDA and EBIT margins, with margins at 63% for adjusted EBITDA and 54% for adjusted EBIT. This compares to 58% and 51%, respectively, in the same period last year. I would also like to note that our lower margins in the third quarter were driven by higher slot costs, resulting from higher vessel costs due to the transition to our own operating capacity following the termination of the slot purchase agreement we had with the 2M as of April 1, coupled with higher LPSO rates. Turning to Slide 9, we carried 842,000 TEUs in the third quarter compared to 884,000 TEUs during the same period last year. As you can see illustrated in the slide, lower volume on the transpacific caused by softening demand and continued effects from congestion in East Coast ports was partially offset by growth in Intra-Asia, Latin America, and Cross-Suez. Intra-Asia, in particular, is a key focus for us, and we believe increasing presence in this growing trade will provide us with significant resilience as market conditions normalize. Our adjusted EBITDA of $6.6 billion converted into $5 billion cash flow from operations during the first nine months of the year. Other cash flow items included $293 million of net CapEx, $1.1 billion of debt service mostly lease liabilities, and dividend distribution of $2.9 billion. Moving to our guidance, as already mentioned, with the pace of normalization accelerating, we have revised our full year 2022 forecast. We now expect to generate adjusted EBITDA between $7.4 billion to $7.7 billion and adjusted EBIT between $6 billion to $6.3 billion, which is approximately 5% lower from an EBIT perspective than our previous guidance based on the midpoint of the range. Our underlying assumptions for our revised 2022 guidance reflect a steeper decline in spot freight rates and softer demand as discussed, in addition to adjusted contract rates. Again, we now expect our carried volume to be slightly lower than 2021. On the cost side, we assume a slightly more favorable charter rate environment, though the impact is marginal given the limited number of charter renewals. With that said, it is worth highlighting that these figures still reflect full year record high positives. Turning to our view on the market environment, the supply/demand balance forecast shown here reflects lower demand growth assumptions for 2022 and 2023 in light of the worsening macroeconomic environment. With the order book to fleet ratio currently at approximately 27%, 2.3 million TEUs are scheduled for delivery in 2023 and another 4.7 million TEUs scheduled for delivery in the following years. The expected supply growth is considerably greater than demand growth than previously projected. The combination of weaker demand, falling freight rates, and risks of oversupply creates a challenging business environment for container shipping. I will discuss why various market dynamics may impact the effective supply and create a more stable business environment in the coming quarters.

Ladies and gentlemen, at this time, we will begin the question-and-answer session. Our first question is from Omar Nokta of Jefferies. Please go ahead.

Hi. Thank you. Hi Eli, Xavier, and Elana. Good afternoon. I just wanted to ask about liquidity and your cash position today. You've obviously got a pretty sizable amount with $4.4 billion at the end of the quarter, which is over $35 a share, and it's sort of in line with the amount of debt and liabilities you have. But just in general, I wanted to ask, how do you view your current cash position? Is that a comfortable amount that you're carrying now with all the uncertainty out there in terms of the outlook for the container market? And are there any levers to pull or are you thinking of pulling in order to raise more cash? Just if you could comment as well on your cash position?

Sure, Omar. We are very pleased that the balance sheet is strong at a time when the market is entering its normalization phase. Having a very robust capital structure is a very good position to be as we experience the downward trends in the market. There's a lot of uncertainty today as to where the rates will stabilize, when the normalization will eventually end, and we will obviously ask ourselves the question when we come to that point as to whether we believe that extra cash to allocate to some of the projects. Today, the capital allocation priority continues to be the same as before, which is ensuring we continue to invest in growing our commercial prospects, securing capacity, and renewing our equipment. We continue to look also at options to potentially grow inorganically and look at potential M&A transactions. That is something that we continue to explore even though there is no rush for us to secure this respect. Lastly, and very importantly, we want to continue to be true to our commitment to our shareholders, which is to return significant capital back to them.

Thanks, Xavier, for that color. And, yeah, maybe just on that final point you're making about the return on capital. How do you think about that dividend policy going forward? I know the Board ultimately is going to make the decision. But how do you think about the use of cash at the moment given the softness in the market? Does a true-up to the 50% payout next quarter for the full year of 2022 make sense, or do you think sticking with 30% is more in line with your thinking?

At this stage, what has been very important to the company is to say what we tend to do and execute on what we said. We've been consistent in that approach for as long as we have been a listed company. We have adjusted on several occasions regarding our dividend policy. So today, this quarter, we continue to be true to our words and announce this 30% dividend payout. I think when it comes to what may be the discussion on the decision of the company, in March when we release our full year financial statement, it is a little bit too premature today to opine as to where we will land. The considerations taken at the time will obviously include how we have closed the year, but also what we think the outlook is ahead of us. There are a lot of unknowns at this point, which again makes us say that it is a little bit too early to opine on what might be the dividend payment next year.

Okay. No, that's fair. And maybe just one final one regarding the cost structure at the moment. Are there any levers to pull, you think, in terms of lowering run rate costs on some of the ships you have in-house today? Not necessarily the new buildings, but the vessels on the water, the 149 that have roughly 27 months less of duration. Are there opportunities to think about approaching the shipowners and lowering the rate in exchange for added duration? Is that something that you're considering, and is that a realistic measure that you think is worth undertaking?

This is always something that we can consider. I mean, the shipowners are always willing to listen and engage with the charterer if we were to agree to a longer duration, we could revisit the commercial terms. So maybe this is something that might happen in the future. Today, we are focusing on making sure that we extract as much cost as we can in the way we operate, the productivity level of each of the agencies where people are in the sea and on the ground, using and leveraging our digital initiatives that will also improve productivity levels, entering and negotiating with all of our suppliers, not only the vessel suppliers but all terminals and rates for next year. There is a lot for us, obviously, to work on in order to continue to limit cost increases as much as we can in our organization going forward. So we focus on what we can control and be ready for the new normal of next year.

Our next question is from Alexia Dodani of Barclays. Please, go ahead.

Yes. Good afternoon. Thank you for taking my questions. I had two to start first. And just on the implied Q4 EBITDA guide of around $1 billion. Obviously, the exit rate from Q3 has been quite strong. But clearly, since mid-September, we've seen the spot rate decline quite considerably. How should we think about the first half of Q4 versus the second half of Q4? Just to understand the exit rate as we go into the next year. Then secondly, on your comments about unit cost ability to change. When we look at 2023 and the current trajectory of spot rates, how can you protect profitability? What actions are you able to take other than to basically reduce the capacity based on those deltas you have between the upcoming vessels and the ones that are expiring? So yes, those two please. Thank you.

So starting with your first question, it is very true that the pace of rate erosion has accelerated over the past few weeks. Towards the second part of the third quarter, it's been accentuated. We have factored in, in our Q4 assumptions, that leads to the guidance that we communicated today, a continuation of the trend to some extent. So we expect Q4 average freight rate to be less than what we delivered in Q3. Additionally, we are also considering the volume perspective, and the two are linked. On the one hand, the demand is softening and as a result, the company and also the industry might take some actions in terms of additional blank sailings. We have also factored in a bit more of those in the fourth quarter, which explains why the volume assumptions are a little bit lower than what we initially planned for. Regarding your second question, looking at our cost structure, we've been transitioning from being very exposed to the short-term charter market to being more exposed to long-term charters in the years to come. While we experienced an increase in unit cost until this quarter and maybe into the next, in 2023 and beyond, as we take delivery of those newbuild capacities, the cost per TEU will mechanically go down in terms of vessel costs. The variable costs will also decrease as the congestion eases; this will incur less storage costs. We are currently looking at how we can best optimize the use of our fleet of containers. Today, we have close to 1 million TEU capacity of equipment, and it is possible that we will deliver some of the older equipment as the flow of cargo eases into 2023. Hence, we will be more efficient in operating these containers.

And can I just ask a follow-up on the first question? In terms of the split between the evolution and if we look at how spot rates have accelerated, would it be fair to say the EBITDA skewed towards the first half of Q4, roughly two-thirds, one-third, if I just look at the kind of trajectory rate?

Alexia, I'm not so sure I understand your question. Are you talking about the three months into Q4 and whether we expect a further reduction in November, followed by stabilization in December?

Yes, exactly, whether you expect most of the profitability in Q4 to come from October and November and later in December.

Today, we expect the rate to continue to go down. It depends also on the trade because we think that there are contracts that have been more exposed to the rate deterioration than others. For example, the Atlantic is behaving better today compared to the US West Coast, which has suffered much more than other trade lanes. We must consider our mix of trade in which we operate. We maintain a conservative view that the rates will continue to decline, as evidenced by our guidance indicating a potential decrease of $300 million. We cannot be absolutely sure what the prevailing rate will be for the remainder of the year. The rates will influence our Q4 performance, particularly if the boxes do not reach their final destination by the year-end due to accounting rules.

Our next question is from Sathish Sivakumar from Citigroup. Please go ahead.

Thanks again for the presentation. I've got two questions here. Firstly, in your guidance, you mentioned that one reason for the revisions is lower contract rates. If I understand correctly, your contract rate exposure mainly comes from transpacific, which normally resets in April, right? So why are we seeing lower contract rates versus Q3 or indeed your previous expectations? Any color on that? Additionally, how much has it actually declined versus your previous expectations? Secondly, regarding supply-side flexibility, you clarified that you've got 60 vessels under charter due for renewal versus 40 vessels you are taking in. But that's more in two years' time where you get better supply management there. Moving into next year, given the uncertainties and a potential further downturn in demand, what tools do you have regarding supply management as we enter H1 next year?

Thank you, Sathish. Regarding the contract rate, to put it into perspective, yes, you are absolutely right that it is very much relevant for the transpacific region where we operate. We normally contract 50% of our volume with long-term contracts and remain close to the spot market for the other 50%. Clearly, the steep decline in the spot market has impacted some trades, driving the spot market below the contract rate. Initially, when we concluded the contract season in April, we closed at elevated rates compared to the prior year. However, as the market evolved, we had to re-engage with customers because our contract prices needed adjustment to reflect this reality. We need to be pragmatic to find a middle ground between our interests and those of our long-term customers. Regarding your second question on supplyside flexibility, we still believe that we have significant renewal options with 25 vessels up for renewal next year. We also expect to take delivery of 46 chartered newbuild vessels from 2023 into 2024. Of those, 18 will be delivered in 2023. Our nine 15,000 TEU vessels will significantly enhance our capacity and optimize our operations. This will create incremental profit for us, and if we don’t take up increased capacity, the impact will remain neutral, depending on what market conditions look like. Moreover, we’re exploring new synergies with partners and other potential adjustments in our global network.

Okay. Thank you. Thanks, Xavier, and thanks Eli, and Elana. Thanks very much.

Our next question is from Sam Bland of JPMorgan. Please go ahead.

Thank you. Thanks for taking the question. I have two, please. First, in terms of overall capacity across the market, have you seen many blank sailings yet? If not, is that surprising? Secondly, looking at spot rates, are there any lanes or regions where you feel current spot rates are below breakeven? Thank you.

Sam, I hope I got your question right. You were a little bit breaking up. But from what I understand, the first question was about blank sailings and whether we think that there will be more ahead of us than has been observed over the past few weeks. It is very likely. The company's objective remains the same; we intend to be profitable in the trades where we operate, and we do not wish to sell capacity at a loss. The idea is to always operate our capacity efficiently and strategically. Thus, if the rates continue to slide, blank sailings will likely increase in the coming weeks. Regarding your second question on spot rates, I believe that in certain trades, we have indeed crossed below the breakeven point from a profitability perspective. For example, the trade between Asia to LA has been severely impacted by the decline in freight rates. While we operate a specific expedited service commanding a premium on the SCFI rates, we have little room for further reductions. The Atlantic and US East Coast trades remain relatively resilient, while Latin America has started to slide more recently. The pace of normalization will vary across trades, but eventually, we anticipate all trades will reach a new equilibrium.

This concludes our Q&A session. I hand back to Eli Glickman, President and CEO, for closing comments.

Thank you. ZIM continues to deliver outstanding execution and profitable growth, reflected in our third quarter and nine months 2022 financial results. EBITDA and EBIT margins remain strong, and our cash generation has enabled us to declare over $1.26 billion, or $10.55 per share in 2022 dividends. While the pace of market normalization has accelerated over the past several weeks, we remain on track for 2022 adjusted EBITDA and EBIT that will reflect full year results. I would like to conclude by highlighting that ZIM has been proactive over the last two years, taking significant steps to enhance and build resilience in our business to best position ZIM for the new normal. Commercially, we have diversified our business and developed multiple growth engines. We have also secured a competitive, efficient, and cost-effective new build capacity to support our commercial strategy for the benefit of our customers and shareholders. Thank you very much for tuning in. We look forward to reporting on our continued progress. Have a good day.

Ladies and gentlemen, the conference has now concluded. You may disconnect the telephone. Thank you for joining, and have a pleasant day. Goodbye.