Today's Buy Opportunity: Seaspan

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Americans love their stuff. We're a nation of consumers, and much of what we buy -- electronics, clothes, toys, sports equipment, household goods, etc. -- is manufactured outside our shores, particularly in China. Last year we imported more than $1.5 trillion worth of hard goods, enough for almost $5,000 for every man, women and child. While that sum was down from $2.1 trillion in 2008, our thirst for merchandise has rebounded 27% so far this year, according to the U.S. Census Bureau. Even as our savings rate creeps higher (now more than 6% -- far higher than a couple of years ago) we still want the next gadget from Apple, the latest pair of sneakers from Skechers, and the new version of Monopoly from Hasbro. Most of these items are made in Asia and shipped to the U.S. across the open seas.

China, the world's second-largest economy and home to many of the manufacturing centers churning out the goods we buy, is 7,000 miles away from the United States' west coast. We need ships to move those smartphones and teddy bears from the Chinese coast to U.S. retailers' shelves. Big ships. 

That's what Seaspan (NYSE: SSW  ) provides to some of the largest shipping companies in the world. Not a bulk commodity shipper like DryShips (Nasdaq: DRYS  ) or Frontline (NYSE: FRO  ) , the famous Baltic Dry Index is practically meaningless to Seaspan. The Hong Kong-based company (with a management team located in Canada) contracts out its fleet of 53 container ships (massive ships carrying those modular containers on their decks, stuffed with hard goods) and charges hefty day rates in return. If you want to see where these ships are steaming to, head over to Seaspan's fleet page to check out its GPS tracker.

Fast facts on Seaspan

Market capitalization

$742 million

Enterprise value

$3.43 billion

Industry

Marine

Headquarters

Marshall Islands

No.  of ships (active / contracted)

53 / 69

Dividend yield

4.6%

Source: Seaspan; Capital IQ, a division of Standard & Poor's.

3 reasons to jump aboard this ship
At today's $10 stock price, Seaspan looks like a good opportunity to earn dividends and capital appreciation for investors. And who doesn't want to say they own a shipping company at that upcoming Labor Day party? Your friends will dub you Mr. or Mrs. Onassis (with apologies to both to the late Aristotle and Jackie).

  1. International trade depends on shippers. 90% of dry cargo (non-commodity goods) will move across the oceans in container ships like those Seaspan leases out to its clients. After a disastrous 2008, global trade has been creeping back, and indications this year suggest that container shipping demand is looking up, while supply is slacking a bit. That's good news for the rates Seaspan can charge.

    As trade goes, so do shippers, and Seaspan is one of the strongest available for investors, considering that only about 5% of shippers are publicly traded. Seaspan provides the ship and the crew, while its leasees pay for daily voyage expenses, including port and fuel fees. The company's fleet of 69 container ship (53 on the ocean and another 16 coming over the next 21 months) is fully contracted out to eight of the largest shippers in the world. The fleet's average age is only four years, yet these ships will be steaming across the seas for years to come, generating plenty of greenbacks for shareholders.
  2. Boatloads of cash flow. Before Seaspan takes on another ship, it contracts out an agreement with a lessee for a determined time period and rate. And while clients can try to break the agreement (at the risk of their shipping reputation), Seaspan has done an admirable job of not budging much on terms, even during the financial crisis. Over the last three fiscal years, it grew sales and cash available to shareholders by more than 30%, while its operating fleet expanded by just 22%. The company carries a heavy chunk of debt (typical for this industry), but as long as it has boats on the water, it will be able to generate enough cash to cover its interest expenses (this year, $10 in operating profits for every $1 in interest expense).
  3. Dividends ahoy, mateys! Finally, we get to a key reason why I like Seaspan as an investment for almost any investor: dividends. The company recently increased its quarterly payment 25% to $0.125 per share, or $0.50 per share annually. Yet this is a far cry from the $0.475 quarterly payout management delivered to shareholders during 2008, before it laudably sliced that dividend to preserve cash. When the full fleet is in place by 2013, Seaspan's management team expects to deliver $500 million in operating profits and $300 million in cash available to shareholders. With history as our guide, we should see this incentivized management team kick out at least $1 in dividends, and perhaps close to $1.50 in a few years. That will bode well not just for dividend seekers, but also for a stock that could fetch $15 by then.

Some choppy waters to navigate
There's a lot to like with Seaspan, but it certainly faces choppy seas that could rock the boat a bit. (What stock doesn't?) 

As I mentioned, the company carries plenty of debt. If it wants to add to its fleet after 2013, it will need to finance additional ship purchases with either share issuances or even more debt. Cash flows cover the interest expense now, but at some point before repayments start coming due in 2015, the company will need to roll over or pay down its debt load. Also, within a few years, two major Chinese shippers will represent 70% of contracted revenue. That's huge concentration sitting in the hands of what is essentially the Chinese government. So far, it's been smooth sailing with the Chinese shippers that outsource some of their shipping needs to Seaspan, but 70% is still a significant chunk of the company's clientele.

The Foolish bottom line
Still, there's enough upside with dividends and capital appreciation potential to make Seaspan a small slice of your diversified stock portfolio. In Hidden Gems, we've targeted a 1% allocation guideline for our small-cap portfolio, which gives us a little skin in the game to watch (and profit) from what happens with Seaspan on the open seas. Full steam ahead!

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"11 O'Clock Stock" is sponsored by Motley Fool Stock Advisor. The Motley Fool will wait at least 24 hours after this publication before purchasing shares of Seaspan. To see an FAQ on "Eleven O'Clock Stock," click here

Andy Cross is a co-advisor of Motley Fool Hidden Gems and an associate advisor of Motley Fool Stock Advisor. He does not own shares of any company mentioned. The Motley Fool owns shares in Seaspan. Apple and Hasbro are Motley Fool Stock Advisor recommendations. The Motley Fool has a disclosure policy.


Read/Post Comments (25) | Recommend This Article (39)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On August 23, 2010, at 11:24 AM, caltex1nomad wrote:

    Sure, it's trading below book value but, the debt seems a bit too high and they have no business paying a dividend holding that much debt. Buy if it drops below $8. Consumers have opened their wallets a little bit but moths are flying out.

  • Report this Comment On August 23, 2010, at 11:26 AM, TMFOpie wrote:

    Hi Fools,

    I hope you enjoy the above article and found it valuable. Seaspan offers an interesting opportunity to earn some dividends and capital appreciation down the road. I like the guys who run it and the where Seaspan sits in the global trade equation. Keep in mind that it has a few barnacles on it (debt load, China, supply/demand ships) so position size in your portfolio is key.

    Fool on,

    Andy

  • Report this Comment On August 23, 2010, at 11:31 AM, TMFOpie wrote:

    @caltex1nomad...you're right, the debt is high, that's kind of the way they run this business. It's not like Apple or Hasbro that don't have huge capital requirements. Seaspan does and it depends on OPM - other people's money - to finance their ships. They have to be astute financial managers to manage the debt load and capital requirements, and so far they have been. I expect that to continue. But yeah, levered companies can get in a world of hurt if their cash flows dry up. Fortunately SSW's cash flows are fairly predictable going out with their contracts. That could change but at $10 I'm willing to put some Fool-dollars behind it that we're getting paid to bet with management.

  • Report this Comment On August 23, 2010, at 12:18 PM, TMFmd19 wrote:

    I like this one a lot. Anytime you can get a dividend focused company before they begin to really start raising the dividend you are potentiall getting something really special. Some of my best investments have been boring dividend companies like Enterprise Products, Annaly, and Aliance Resources. They continue to raise the dividend which has been a huge part of the return, but the capital gains have been nice too.

  • Report this Comment On August 23, 2010, at 12:36 PM, EnigmaDude wrote:

    Wow - the fleet tracking page is awesome! Is there an iPhone app for that?

  • Report this Comment On August 23, 2010, at 12:57 PM, mwrfsu wrote:

    Would the only near term catalyst for SSW be an increase in their dividend? If so would there be a good option trade that could be used to bring in some more income on shares that are already owned? Or could there be a good trade such as writting puts to aquire more shares.

  • Report this Comment On August 23, 2010, at 2:00 PM, tekennedy wrote:

    Debt isn't a big deal with this type of company. Due to very high industry operating margins(the company's were just under 45% and would be even higher if non-cash depreciation charges are backed out) giving satisfactory interest coverage.

    I haven't been a fan of the industry due to their cash flow negative nature as everyone simultaneously is expanding their fleets and swings in earnings due to differing dayrates based on economic conditions. This company has removed the concern of fluctuating revenues by having longer term charters; longterm I'm wary due to industry capacity expansions and the risk that future rates will be lower.

    I am unsure about future dilution potential as well as I am unsure how the company will finance their fleet expansion. This will add to either interest or reduce each shareholders percent ownership in the company. I am uncertain whether the addition of new ships will counter these negatives.

  • Report this Comment On August 23, 2010, at 2:34 PM, Radiance08 wrote:

    While SSW has a CAPS Rating of 5, let’s look at some competitors.

    How about NM? – Navios Maritime Holdings Inc. also a CAPS rating of 5.

    Dividends ahoy, mateys indeed, NM has a better dividend, if only slightly and better projected growth rate.

    FACTORS SSW NM

    Dividend 0.50 (3.7%) 0.24(3.9%)

    Growth Rate

    (yoy 12/11)

    34.43% 61.18%

    Finally, I don’t care for the sector, however the fleet tracking page was great fun.

  • Report this Comment On August 23, 2010, at 3:09 PM, TMFOpie wrote:

    @latimerburned..thanks, I'm glad you see value in SSW and the write-up. The dividend increases have been pretty nice for those stocks you mentioned and I can hope only that SSW continues to follow along. That's the idea, at least, and I think management believes it too.

  • Report this Comment On August 23, 2010, at 3:11 PM, TMFOpie wrote:

    @ EnigmaDude "Wow - the fleet tracking page is awesome! Is there an iPhone app for that?"

    I don't know, I just found it a cool feature to the site when doing my research so I figured other Fools would as well. Thanks for calling it out. I hope other Fools look at it as well. Here's the link again: http://www.seaspancorp.com/fleet.php. Give it a second to load.

  • Report this Comment On August 23, 2010, at 3:15 PM, TMFOpie wrote:

    @tekennedy..."I am unsure about future dilution potential as well as I am unsure how the company will finance their fleet expansion. This will add to either interest or reduce each shareholders percent ownership in the company. I am uncertain whether the addition of new ships will counter these negatives."

    A very astute observation. Over at Hidden Gems we have banked into dilution for some $200 million into our analysis to count for the funding the company needs over the next 20 months or so. Even considering that dilution the shares were cheap if the company reaches its cash flow targets and pays a chunk of that back in the form of dividends. But, as I mentioned, going out even further than that, like into 2015, if they want to add ships they will need to fund them with either debt or shares. It's similar to what an MLP does. Ultimately it generates the cash back in the form of dividends. And just like an MLP, SSW has advantageous tax status at the corporate level if it pays dividends.

  • Report this Comment On August 23, 2010, at 9:47 PM, TMFTypeoh wrote:

    Hey Andy,

    I love this pick! Seaspan seems to have a lot going for it, and I love the concept of a floating MLP.

    One other thing i think you forgot to touch on was that Seaspan only owns and operates the ship, but the customer is responsible for paying the fuel costs. To me, this is a HUGE advantage. Seaspan can thrive even if down the road inflation (and thus oil prices) rear their ugly head again.

    Also, they have very long life contracts in place (11+ years), which means each of their ships should continue to have a utilization rate in the high 90's. That kind of built in stability makes this a safe bet than most shippers.

    Plus their ships are relatively new, and thus more fuel efficient, which should give them a competitive advantage when their customers are choosing who to contract with.

    But, as you said, the real juicy part of the story is the dividend. If this dividend goes to $1.50/share, this stock could easily hit $20, giving us an almost double with a nice 7% yield. That would be market thumping returns!

    Makes me smile just thinking about it.

  • Report this Comment On August 24, 2010, at 4:44 AM, LatePlay wrote:

    @mwrfsu

    SSW is optionable, but the option stikes trade in increments of $2.50, which will make it more difficult to find one that is appropriate. Liquidity may also be a problem. The open interest is fairly low for most months.

    Here is a potential covered call:

    I'll ignore commissions for the sake of simplicity.

    Buy (100) SSW @ $11.00

    Sell (1) Feb11 $12.5 Call @ $0.60

    Your breakeven would be $10.40/share.

    If exercised, before collecting any dividends, you're profit would be about 20%.

    If the price stays below $12.50, you will not be exercised. You will earn $25 in dividends, and $60 in premium during this period. Assuming a Feb 2011 closing price of $11/share, you will still be long 100 shares at a basis of $10.15/share. This represents an open gain of about 7.75%.

  • Report this Comment On August 24, 2010, at 4:58 AM, LatePlay wrote:

    @TMFOpie

    Thank you for this recommendation. I had never heard of SSW before, but I'm very interested in it now.

    SSW has three of the characteristics I love in a stock: Nice yield, Low PEG ratio, and exposure to China. The fact that it's fleet is so young, is also pleasing.

    My only question is can they haul commodoties as well? If so, their proximity to Australia and China would be a nice potential cushion should US consumer demand start to dry up again.

    I need to do some more research, but I think I will make this a real money position if I can get in below $10.90.

  • Report this Comment On August 24, 2010, at 8:57 AM, JanBruun wrote:

    I have made very detailed analysis of SSW and GSL and posted it on seeking alpha. The author is absolutely right that this is great investment opportunity.

    On some of the posts here.

    Starting 2012 the company will have a cash flow that could support a dividend of 3 USD a year. I don't expect that to happen but the excess cash flow can be used to finance new ships together with roll over of the existing debt. Remember the management company has an incentive to pay high dividends in the incentive structure. See page 42 of the 2009 annual report.

    The main question you have to ask yourself is if you are comfortable with the charterers' credit standing but container shipping lines are minting money currently (after two awful years).

    I think the 200 MUSD dilution is conservative but that is of cause a plus.

    They own container ships that don't haul commodities. That is bulkers and tankers.

    If you want a 9% dividend now and an equally save investment then look at Rickmers Maritime listed in Singapore.

  • Report this Comment On August 24, 2010, at 10:40 AM, TMFOpie wrote:

    @ typeoh...Glad you like it. There are a lot of factors that go into the Seaspan investment thesis that I tried to touch on. I did mention that its clients pay the fuel and voyage fees, which is very important because its kind of a natural hedge. And when they want to save on fuel they go slower, which means longer shipping times, which means more days to charge. Now that can work against SSW too because it may mean fewer hauls across the seas. But I would rather have that problem than have to pay for fuel spikes.

    What's interesting about their fleet is the new ones they are bringing on. They have terms for a few 13000 TEUs, which are far bigger than they currently operate. The day rates for these monsters are closer to $50k or something. While they are more expensive, the move is to larger ships. One reason why the Panama Canal is expanding. It can only accommodate 4000 TEUs or something low like that. That's a lot of cash its leaving in the water because ships can't pass through (at a fee of $72 per TEU).

    And the long-term contracts are definitely a benefit assuming the Chinese or Japanese don't start pushing terms around. But at in the $10-range the stock is worth a taste, I think.

    Thanks,

    Andy

  • Report this Comment On August 24, 2010, at 10:47 AM, TMFOpie wrote:

    @ LatePlay...

    The PEG Ratio for SSW isn't something I would focus on. The metrics I like to look at: yield (certainly), Cash available to Shareholders (reported by the company), EBITDA, Utilization Rates, Days Operating and Operating Costs Per Ship Used. These metrics give us a good understanding of how Seaspan is moving along each quarter.

    As for commodities...no, they don't. SSW specializes in container ships. They load those containers up (20 ft x 25 x 8) and then haul them across the oceans to ports where the containers are put on rails and shipped to destinations across the US. It's much different than hauling commodities, which have far more volatile prices so fixed contracts don't work quite as well (hence the Baltic Dry Index).

    Best of success with your investments.

    Andy

  • Report this Comment On August 24, 2010, at 10:49 AM, TMFOpie wrote:

    @ JanBruun...

    << Starting 2012 the company will have a cash flow that could support a dividend of 3 USD a year. I don't expect that to happen but the excess cash flow can be used to finance new ships together with roll over of the existing debt. Remember the management company has an incentive to pay high dividends in the incentive structure. See page 42 of the 2009 annual report. >>

    Yep, that's another great point. I hope the dividend is near $3. If it is, not only will we have racked up plenty of dividend payments over the years but the stock will be no where near $10. I think I've been fairly conservative on my dividend expectations to get the stock to the $14-$15 range, but I can see it higher if investors want to pay up for a $1 or $1.50 in annual payments.

    Cheers,

    Andy

  • Report this Comment On August 24, 2010, at 6:17 PM, bobbuysships wrote:

    Less than $100M equity requirement left per last conference call and bank financing in place for $1.1 billion at fixed rate 6%. Since all $4 billion is fixed at 6% thru hedging there is no russ to excellerate debt paydown.

    Containership rates back to highs of 2008, therefore greatly reduce risk of cancellations. Inside owners have step up with D Washington buying 10.5 million shares since crisis and bought perferred shares that will convert to 24 million more shares. He must know something since he has made $3 billion since the 60's and has just bought a third of this company. total insiders now own 44+ million shares out of 91 million. During the crisis of the last two years the company financed over $1 billion in new builds and increased gross evenue of 76%. From Jan1, 2009 to today distributable cash flow went from $136m to $192m, an a 40% or $0.68 per share.

    At Seaspan website you will find a list of their new build and revenues and management costs per ship. Do a calculation and you will see mgmt. fees reduce from 26% today down to 20% on the new builds. Thats a $42M savings on completed fleet.

  • Report this Comment On August 24, 2010, at 6:18 PM, bobbuysships wrote:

    Additional info., 67M common stock and perferred shares convert to 24M in 2014 at $15 a share for a total of 91M shares. $300 million cash flow / 91M shares = $3.30 a share. Management gets incentive to raise total quarterly dividend. Quarterly dividend must exceed $0.49 for 10% and mgmt.gets 20% for $0.555. Therefore, I assuming mgmt. will pay $2.22 a year out of $3.30 to obtain incentive.

    2013 should bring in $700M in revenues with mgmt fees costing 20% leaving $560M. Less $200M for dividend payment above and your left with 360M to pay for debt, interest, and new builds.

  • Report this Comment On August 24, 2010, at 9:32 PM, bobbuysships wrote:

    Andy, regarding risk with 70% concentration with chinese shippers - none. As you said the chinese shippers are owned by the chinese government with the fastest growing econmy in the world and $3 trillion US dollars. Why would they default when tjere goals is to own the shipping industry. COSCO has just purchased a slew of bulk shippers and is negotiation with charters for more container ships. Quess who that may be - Seaspan. Seaspan has said they want to grow to a 100 ships. Gerry Wang who runs seaspan has high up connections in China. Chinese banks want to lend to the shipping industry. Conclusion - banks lend to Seaspan to buy new builds from Chinese ship builders to lease to chinese shippers. Another $3 billion in ships = $400 million in revenue which = $171 million in cash flow or another $2 a share. Andy, you have found a winner. What is not to like. A $4 dividend and a $40 share price. In 7 years I'm retiring a rich and a very happy owner of a business i understand, buffets golden rule.

  • Report this Comment On August 24, 2010, at 9:36 PM, bobbuysships wrote:

    Andy, by the way, how about a free subscription to the Stock Advisor?

  • Report this Comment On August 24, 2010, at 10:27 PM, bobbuysships wrote:

    Andy, do you want to know what my dilemma is. When I receive my $2.22 dividend a year, $1.80 is tax exempt which lowers my basis in the stock. Therefore, in six years at the current stock price of $10.80 my basis will be zero on a $40 stock. How can I ever sell? My total $40 per share will be taxable. I guess my kids are going to be stinking rich or I can leave it to my dogs. Anyways, I have six to eight years to worry about it.

    Some comments addressed the concern of the heavy debt load. Let me use an example of how I feel about this. I buy a five billion dollar office complex (half built and half to be built) in downtown New York, I lock in interest rates at six percent for the next 20 years, and I obtain 12 year leases from the top companies in the world with massive cash reserves. Nobody has started a new build project for over two years (there have been no new orders for container ships for two years – just a few the last couple of months) and there is zero financing for these types of projects and the industry has just gone through the worst recession in history. My project didn’t even have one cancellation or one late payment. Then demand increases and rates go up and companies are screaming for office space but banks will not lend to anyone and builders trust no one because of all the defaults and cancellations they experienced. But my company never missed a payment, never stopped work, took delivery of 17 new towers at full price and has financing for the 16 still to be built. Every bank, builder and renter only wants to business with me. What my line (old TV show)? Seaspan.

  • Report this Comment On August 25, 2010, at 2:29 PM, TMFOpie wrote:

    @bobbuysships...thanks so much for your insightful comments! You certainly know the shipping biz and Seaspan. And from your name it sounds like you even buy ships, not just shipping stocks. :-)

    You brought up excellent points about Dennis Washington buying a bunch of shares and preferreds. He owns a chunk of the company and management is incentivized, as you pointed out, to buy increasing dividends. So it all sounds like a pretty good deal. And I appreciate your thoughts on the debt position and China concentration, especially the willingness of bankers and clients to work with a company like Seaspan that pays its bills and generates healthy operating profits. That's key in this business and one reason why we like the Washington/Wang connection leading the way. As demand stays up, as you mention, and the Chinese (and Japanese, too) want to outsource their containing shipping needs to lay off some of the capital costs, Seaspan is the best option for them.

    Thanks again, bob, for your contributions and thoughts. I do indeed hope Seaspan turns into the winner we both expect. :-)

    Fool on,

    Andy

  • Report this Comment On September 01, 2010, at 3:10 AM, LatePlay wrote:

    So who won the comment contest?

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