Monday, June 14, 2010

New position: Courage Marine

We purchased 18,000 shares of Courage Marine today at $0.185, adding a new position to the portfolio. The BDI has fallen from its lofty peaks of 10,000+ points in late 2007 and early 2008, and now resides at about 3,200 points (after hitting a low of 663 in Dec 08). Dry bulk shipping rates have been volatile, and it is not surprising that a shipping firm like Courage Marine which depends on spot rates for charters has seen extreme volatility in its revenues over the past two years. Revenue plunged from US$90.5 million in 2007 to US$27.94 million in 2009 as shipping rates collapsed, and baring some exceptional items, the company was loss-making in 2009.

Given the extremely cyclical and uncertain nature of dry-bulk shipping, why then are we making an investment in this particular company? First, while we are no experts on timing the shipping cycle, it is probably more accurate to say that we are nearer the trough of the cycle than the peak. Most shippers are trading near or below book value, and we have yet to see a convincing return of profitability in the dry bulk segment. The time to buy cyclical stocks is when they trade at extremely high PEs, or when they are loss-making; the time to sell is when they trade at low PEs, indicating that peak earnings have been achieved.

Second, we like the company's conservative and unique approach to dry bulk shipping. Typically, companies choose to lock in long-term COAs when freight rates are high (eg. Mercator Lines), and often purchase newly-builds for such long-term charters. While this appears like a safe way to generate income, the approach fails to account for the potential of reneging by the charterer, especially when rates have plunged substantially. More often that not, the shiponwer is left with little choice but to lower the contracted rate, or face the prospect of fighting a long and expensive lawsuit. Courage Marine deals largely in the spot market, and to a lesser extent with COAs.

However, the company's fleet is exclusively made up of old ships - the average age of its fleet is bearing on 30, which is usually when a ship gets scrapped. Because of its focus on older vessels, the company has avoided overpaying of expensive new vessels, and avoids the long delays for newly-builds to arrive. In a prudent manner, the company has expended its fleet from 4 vessels in 2001 to 10 currently, and yet has maintained its net cash position (think Wheelock Properties Singapore), a rarity in the shipping industry where leverage is often used with reckless abandon.

While having a fleet of older ships comes with higher maintenence costs, the company has managed to keep operating costs low (operating costs rose just 65% in 1Q 10, compared to the 158% increase in revenue). Also, since its ships are depreciated on a 30-year basis, the residual book value of its fleet is minimal, compared to the book value of a much newer fleet (eg. Mercator Lines). It is highly likely that some of the older vessels are being carried at minimal value (since their age exceeds 30, there is only drydocking left to depreciate), despite their ability to generate income. At about 1.2X book, we think that the stock is rather cheap.

While most other shippers were attempting to slash their fleet and cancel newly-build contracts, Courage Marine managed to capitalise on the shipping downturn by purchasing several vessels at fire-sale prices (old ones, of course). The low prices paid mean that the company requires little debt (most vessels are funded by internal resources), and even allows the company the flexibility to scrap vessels when steel prices rise (the company scrapped a capesize vessel for a quick profit of US$400,000 in just a little over a month).  

The company has paid out a healthy stream of dividends since its IPO, and even paid out a US$0.00472 dividend for 2009, a year where the company barely broke even. We anticipate that if shipping rates see a rebound, it will not be surprising if the company is able to fund a dividend in excess of 10% (based on our purchase price).


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