Teekay Tankers Ltd.

It's a dog across the street. Welcome to the TK Tankers LTD's second quarter 2021 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. At that time, if you have a question, participants will be asked to press star 1 to register for a question. For assistance during the call, please press star zero on your touchtone phone. 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.

Before we begin, I'd like to direct all participants to our website at www.tktankers.com, where you'll find a copy of the second quarter 2021 earnings presentation. Kevin and Stuart 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 second quarter 2021 earnings release and earnings presentation available on our website. I'll now turn the call over to Kevin McKay, TK Tanker's President and CEO, to begin.

Thank you, Ryan.

Hello, everyone. Thank you very much for joining us today for TKTankers' second quarter 2021 earnings conference call. I hope that you and your families are all safe and healthy. Joining me on the call today are Stuart Andrade, TKTankers CFO, and Christian Waldegrave, Director of Research for TKTankers. Moving to our recent highlights on slide three of the presentation, TK tankers had negative total adjusted EBITDA of $6.8 million during the second quarter, down from $15.9 million in the prior quarter. We also reported an adjusted net loss of approximately $42 million, or $1.23 per share during the second quarter, compared to an adjusted net loss of $22 million, or $0.65 per share last quarter. Our results are largely due to weak spot tanker rates, a heavy dry dock schedule period during the quarter, and the expiration of fixed rate time charter out contracts secured during the strong tanker market last year. Despite a challenging quarter, we continue to have a strong balance sheet with pro forma liquidity of $274 million and a net debt capitalization of 36% at the end of the second quarter. In addition, As previously announced, we are in the process of lowering our cost of capital by refinancing vessels that have been in higher cost sell-leaseback structures, which Stuart will elaborate on later in the presentation. Lastly, spot tanker rates continue to be very weak in the second quarter due to the ongoing impact of COVID-19. This weakness has continued into the early part of Q3. Looking ahead, Although the near-term outlook is uncertain due to COVID-19, we believe many key indicators for tanker market recovery continue to improve, which I will touch on in more detail later in the presentation. Based on our forward view, we countercyclically in-chartered three additional Afromaxes for 18 to 24 months with options to extend beyond the firm periods. Turning to slide four, we look at recent developments in the spot tanker market. Spot tanker rates remained very weak in the second quarter, primarily due to the ongoing impact of COVID-19 on oil demand and associated oil supply cuts from the OPEC Plus group. There were also a number of short-term factors which negatively impacted rates during the quarter. Although OPEC Plus started increasing oil supply from May onwards, This didn't translate fully into additional crude exports as Saudi Arabia increased their domestic consumption of oil for power generation during the summer months. We also saw a decline in long-haul oil movements from the Atlantic to Pacific during the quarter due to a widening of the Brent Dubai oil price spread. This meant a drop in average voyage distances, which was negative for tanker ton mile demand. Lackluster Chinese crude oil imports were also a negative, with imports down 3% year over year in the first half of 2021. This was due to a combination of reduced product export quotas for independent Chinese refiners, new taxes on bitumen and other feedstocks, and inventory drawdowns due to higher oil prices. The first half of the year also saw significant growth in available fleet supply due to the return of ships from floating storage, and a front-heavy order book delivery schedule. Using the Suezmax sector as an example, 20 of the 22 new buildings scheduled for delivery this year have already entered the fleet. The flip side of this is that the second half of the year will see a much lower delivery schedule and therefore relatively low freight growth compared to the first half. Finally, higher bunker prices have negatively impacted on tanker earnings in recent months. prices have increased by approximately $100 per ton since the start of the year, which is equivalent to a reduction in spot rates of approximately $3,000 to $4,000 per day. The weak spot tanker market has also weighed on time-shadow rates, as shown by the chart on the right of the slide. Although the near-term outlook remains challenging, we believe that there will be a stronger freight market over the next two to three years, and we have therefore taken the opportunity countercyclically in-charter three additional Afromaxes for periods of between 18 to 24 months at an average rate of $17,800 per day with extension options, which we believe represents an attractive risk-reward and has been a profitable lever for us during past tanker market cycles. These vessels will deliver over a staggered period from mid-Q3 through the end of Q4. Turning to slide five, we provide a summary of our spot rates in the third quarter to date. Based on approximately 41% of spot revenue days booked, TK Tanker's third quarter to date Suez Max bookings have averaged approximately $2,400 per day. These lower averages are partially the result of the timing of repositioning voyages for unfixed vessels, which have incurred bunker fuel expenses in the near term without offsetting charter revenue, which which will be recorded later in the quarter when the vessels are fully fixed. Current Suez Max round-trip TCE returns are averaging $5,600 per day, per the latest Clarkson spot rates being reported. For Afromax and LR2 fleets, which are predominantly trading dirty, based on approximately 36% and 38% spot revenue days booked, third-quarter-of-the-day bookings have averaged approximately $6,200 per day, and $8,100 per day, respectively. Lastly, in anticipation of an improved winter market, we will complete 10 of our scheduled 12 dry dockings by the end of the third quarter. Turning to slide six, we look at some of the key indicators which we believe point towards a tanker market recovery and which have continued to improve over the past quarter. Oil demand continues to recover in tandem with the rollout of global COVID-19 vaccinations, particularly in North America and Europe, where we're seeing a significant recovery in transportation fuel demand during the summer months. We expect the oil demand will continue to recover through the second half of the year and to revert back to pre-COVID levels sometime in 2022. However, we also acknowledge that recovery will be uneven across different regions and that COVID-19 may continue to periodically disrupt demand as new outbreaks emerge and fresh travel and mobility restrictions are implemented. A combination of recovering oil demand and OPEC Plus supply cuts has significantly reduced bloated oil inventories, which are now well below five-year averages, and which have pushed oil prices above $75 per barrel in recent weeks. The OPEC Plus group has recognized that the world needs more oil in order to keep the market in balance, and has announced a production increase of 2 million barrels per day between August and December. Although they plan to review their policy at the December meeting, the group has also indicated they intend to fully unwind their supply cuts by September of 2022. This boost to production, coupled with an expected increase in non-OPEC supply, should be positive for tanker demand in the coming quarters. The fleet supply side continues to look very positive. In particular, we would highlight the acceleration in tanker scrapping over the past few months due to a combination of weak freight rates and very high scrap prices, which are currently at a 10-year high. A total of 6.6 million deadweight tons have been removed from the fleet so far in 2021, compared to just 3.5 million deadweight tons in all of 2020. The combination of a relatively small tanker order book low levels of new tanker orders due to high new building prices, and increased scrapping are expected to keep tanker fleet growth at relatively low levels over the next two to three years. In summary, although tanker rates have been at historical low levels through the first half of the year, we believe that the market may be nearing an inflection point through a combination of rising tanker demand and constrained fleet supply. It appears that this sentiment is shared by the wider market as asset values have risen by over 20% since the start of the year in anticipation of a stronger tanker market in the coming quarters and years. I'll now turn the call over to Stuart to cover the financial slide.

Thanks, Kevin. Turning to slide seven, we highlight the company's strong financial foundation. As Kevin mentioned in his opening remarks, we continue to have a strong balance sheet, which provides us financial strength and flexibility. We have a pro forma liquidity position of $274 million and a net debt to capitalization of 36% at the end of the quarter. Since November 2020, the company has declared options to repurchase eight vessels that were under higher cost long-term sale leaseback financings. In May, two of these vessels were repurchased for $57 million using existing liquidity and thus remain unencumbered, while the remaining six vessels are scheduled to deliver in September for $129 million. We have signed term sheets and are in the documentation stage to refinance all eight vessels with lower cost sale leasebacks for a total refinancing amount of $142 million, which we expect to close in the third quarter. As mentioned in prior presentations, one of our strategic priorities is to reduce our cost of capital, and this refinancing will result in an estimated interest expense savings of approximately $11 million in the first 12 months. Lastly, having reduced significant amounts of debt in 2020, our debt repayment profile is very manageable in the coming years with no significant debt maturities until 2024. With that, I will turn the call over to Kevin to conclude.

Thanks, Stuart. As I've said in past quarters, I would again like to thank all of our seafarers and shore-based staff for their continued dedication to providing safe and uninterrupted service to our customers during these challenging times. We continue to focus on the safety and well-being of our seafarers as we look forward to the continued transition to a more normalised world. With a strong financial position and high operating leverage, We believe that TK Tankers is well positioned to continue to weather the current market challenges and benefit from an anticipated tanker market recovery in the quarters ahead. With that, operator, we are now available to take questions.

Thank you. If you'd like to ask a question, please signal by pressing star 1 on your telephone keypad. If you are using a speakerphone, please make sure your mute function is turned off to allow your signal to reach our equipment. Once again, that's star one to ask a question. We'll pause for just a moment to allow everyone an opportunity to signal for questions.

And we'll go first to John Chappell with Evercore ISI.

Thank you. Good morning or good afternoon. Kevin, first question. You mentioned the second-hand values are up 20%, and it seems like the disconnect between asset values and the actual market itself is widening almost by the week. And you guys have a pretty diverse fleet as it relates to age. So it's almost like the market's kind of giving you a gift. And I understand you want to keep your operating leverage, given your view on the market. But whether it's scrapping or selling maybe some shifts that are a little bit less core than the more modern ones, Have you thought about taking advantage of that opportunity and monetizing some of your shifts in a market that's kind of still really difficult?

Yeah, it's a good question, John. I think we've said in the past we're open-minded in terms of how we approach our sales strategy on some of the older units. So if the right opportunity comes up, at the right price, it's something that we will definitely consider. But at the moment, although asset prices are up, the activity levels have dropped off in the last couple of months. So as of now, we haven't really seen anything that we can conclude on, but it's certainly something that we keep an eye on.

Okay. And Stuart, I kind of ask the sale-leaseback every quarter, I feel, but maybe I'll just ask it a different way this time. If this lasts longer than most of us think, and you've certainly laid out a thesis on the recovery in the market that's in line with ours, but it's also continuing to be pushed to the right a little bit, how many unencumbered vessels do you have? What's your opportunity to maybe refinance some other vessels, just other liquidity triggers that are You know, not the obvious sale and leaseback refinancing that you've accomplished over the last year.

Hi, John. So in total at the moment, we have three vessels which are unencumbered, two of them that we just repurchased in May. And we intend to refinance in September, as I mentioned in the prepared remarks. Aside from that, we have one other vessel which is unencumbered at the moment. In terms of other levers to pull, as you can see from the sale leasebacks that we're currently doing there, we do have... a group of lessors who are happy to work with us and that we can do higher leverage financings on if we choose to do so. So I guess the main lever I would point to is the number of vessels that we have in commercial debt financing that we could move into sale leasebacks And that market is quite diverse in terms of the loan-to-value you can achieve depending on the counterparty you go with and, you know, the interest rate you're willing to or think is prudent to pay. So I think we still do have a fair amount of headroom there. As you mentioned, we have laid out the thesis for market recovery and, you know, we have started taking vessels on longer-term time charter, I guess, which underlies our confidence in the market improving in the in the sort of medium term.

Okay. If I can just sneak one last quick one in, Kevin, on the third quarter to date rates, you laid out the repositioning issues associated with the Suez Maxes. Was there similar in the AfriMax? And then also, is there any way to quantify the impact of those? Because, you know, usually the numbers that publicly traded companies like yourselves put up are much better than maybe the industry benchmarks. And That's not necessarily the case this quarter, so a little bit surprising by just how low those figures are.

Yeah, I think, I mean, obviously we've got to acknowledge the market is at historic lows, and as a result of that, it is challenging, perhaps more so on the Suezmax side than on the Afromaxis, to keep the tonnage moving and to get the right voyages. So, yeah, the The differential there on the ballast portions is definitely more of a Suezmax issue than it has been on the Afromaxes. And that's really a function of the fact that the Suezmax is more of the global trading ship. And in our case, we happen to have a number of ships that were coming out of dry dock in China, as well as we positioned a few ships into the Asian market in the prior quarter. And we found with... The lack of supply coming out of Saudi Arabia, despite their increase in production, we felt that it was best to reposition ships further afield and to stretch our program out. So this quarter we had quite a number of ships that had the ballast leg issue. So it's more confined to the Suez Max than anything else. In terms of quantum, I don't have the exact figure with me, but it was a couple of thousand dollars a day at least of an impact, which as the quarter goes on and those ships get into position and are fixed away, we'll get the revenue to offset that, and we should come up to more market-related levels than what we're posting here at this point in the third quarter.

Okay. That's great. Thanks, Kevin. Thanks, Stuart. Thanks, John. Thanks, John.

We'll go next to Ken Hoekstra with Bank of America.

Hey, great. Good afternoon. Can we just talk a little bit about, Kevin, is it typical to see asset values climbing ahead of the inflection in spot rates, or typically do you see the spot rates move and then see the asset values climb? It seems like we're doing a little bit of backward. Is that just the typical anticipation or is this an abnormal part of the move here?

No, I think asset values typically will look at a number of factors, one being new building prices and the other one being where the forward market is likely to go as opposed to where the actual market is right now. And I think both of those factors have come into play. We've seen asset prices rose quite significantly in the first half of this year, uh, driven off of, you know, a very increase, a very large increase in new build prices, um, on the back of constrained supply. So that has been a big driver. Um, I think also it's, it's sentiment driven, although the current spot market is historically weak. Uh, people are looking at the fundamentals that, um, continue to show improvement month on month. And, you know, it's a question of timing as to when the spot market catches up with where people's perception of where the asset price and the time charter price has been going. Christian, you want to give any more detail in terms of the new build or secondhand price increases over this last few quarters?

Yeah, I think it's not unusual to sometimes see the asset values move ahead of the freight market. I think the degree to which it's happened this year has been a bit unusual. And I think, as Kevin's pointed out, it's due to various factors, some of which have nothing to do with the tanker market. So, you know, the new build prices have definitely rocked it up this year. And it's not really due to tanker orders. It's due to all the container ship orders that are getting placed and the higher steel costs. And then that kind of filters into the modern secondhand values. And then at the older end of the spectrum as well, we've seen very high scrap prices. They've been the highest since, I think, 2008. And then you've also had this year a few state-owned companies that have been active in the secondhand market and are probably more willing to pay up and push the market there. Several factors that have driven the pricing up. As Kevin said, I think it's also in anticipation of some better times ahead. But I would say that the degree to which they've decoupled this year has been a bit unusual.

It's helpful. I appreciate that, Christian. Thanks. Kevin, just one follow-up. You noted the move to more Saudi local production, the COVID creep on kind of demand that's going on with Delta. What signs do you see for the recovery? I guess maybe I'm trying to figure out your timing thoughts. You know, as John mentioned, it keeps getting pushed out to the right. So what's your thoughts on when you see this inflection in the market rates, right, just especially given the low numbers you're talking about we're seeing in the market now?

Yeah, I think, you know, it's going to be really difficult to capture it, you know, towards the exact quarter. But, you know, as we pointed out on slide six, some of the things that we look at in terms of, you know, global oil demand relative to where it's been, inventory levels coming down, global oil production both from OPEC Plus as well as non-OPEC, that is starting to come back. And that, you know, juxtaposed with the ever-improving sort of tanker order book relative to Fleet Five picture that we're seeing fleet supply going forward. I mean, if you look at all of those, all the metrics are heading in the right direction. I think what we've highlighted in our commentary is we are, having said that, going to see some regional dislocations because of COVID. And you will see, as is happening right now in a few parts of Asia, where companies or cities, sorry, not companies, countries or cities, you know, are going into some form of, you know, reduced mobility and restrictions on travel and things like that. And we think that will continue. But overall, the macro picture seems to be continuing to improve quarter on quarter.

Great. Appreciate that. Thanks, Tim. Appreciate it. Thanks, Tim.

We'll go next to Randy Givens with Jefferies.

Howdy, gentlemen. How's it going?

Hi, Randy.

Hi. Two questions for me. First, you know, you chartered in those three AfroMaxes, two crude, one product, for 18 and 24 months. I guess, how did this come about? Why these vessels in this segment? And why that duration?

Yeah, I think we've spoken about it in the past in terms of our... our capacity to look at expanding our spot exposure through the use of in-charters. We've done it a number of times quite successfully, and it's always been incremental or accretive to our bottom line. So we're always in the market looking at the potential to bring in ships. And at this point, looking at where spot markets are, it's obviously there's a disconnect between the time for the rate and the current spot market. So, you know, looking at short-term six-month, one-year deals, we're obviously off the table. But given our conviction that over the course of the coming quarters and certainly over the next two to three years, we do see, you know, a return of some better freight rate environment. So, you know, timing can, you can never time it perfectly. I don't think in 2013 or 2014 when we did a large entire program the last time that we called it exactly right on the quarter. But the duration allows us the ability to absorb somewhat of a weaker market at the front end so that we can take advantage of what we think will be attractive rates in comparison to where spot rates are two to three years out. So it was really... putting our toe in the water and starting to build our book. And then seeing what develops over the coming quarters and we'll probably make a decision whether to add to that or to continue to sit on the sidelines from here.

Okay. And then in terms of your vessels and industry-wide, there's certainly been a subdued nature of scrapping despite low rates, high steel prices. When do you think that turns? What causes that to turn? You have some 17-plus-year-old vessels. I guess at what age do you start looking at scrapping those? And then how big of a discount are those older vessels earning relative to a more modern eco build?

I think Christian can probably give you a better rundown on the scrap environment right now. But in terms of the way TK looks at our fleet, Obviously, we have a couple of ships that are getting up to the 17-year, 18-year range. So we're constantly looking at what is our forward view of the earnings on those ships versus either selling them at today's pricing or trading them out to scrap. At this point in time, we haven't made any decisions to send those ships to scrap. We still believe that this market will turn in time for those ships to be accretive. But, you know, as I said to John in his question, we're also at the same time looking at the sale market. And if the right price comes along for those older ships, we'll certainly execute on them. Christian, you want to give some more color on the actual scrap macro picture? Sure.

Yeah, I think earlier in the year, scrapping was quite low, as you said, Randy. I think that's probably a function of, you know, owners maybe had some deeper pockets after the good run we had at the end of 2019 and the first half of 2020. But we definitely have seen an acceleration in the last sort of three, four months, I think. If we look at scrapping year to date, we're getting close to 7 million deadweight, which is already double what we had last year. We only had about 3.5 million deadweight last year, and the same in 2019. So, I think the very low freight rates we're seeing now, as I mentioned, points out the high scrap prices are just starting to kickstart a bit of that scrapping. And I think that will then continue into the next couple of years because we're starting to get into kind of the part of the fleet age profile where we'll see a lot of ships turning age 20 or hitting that kind of 17, 18 to 20-year-old bracket over the next two, three years. And it's another reason why we're sort of more positive on the market looking ahead to next year, and particularly 2023. If you look at that year on the AfriMax, I think we've got 72 ships that year turning age 20. So I think this is, you know, we're kind of at the beginning of this kind of scrapping, you know, phase, and there definitely has been a little bit of an uptick here in the last two or three months.

Got it.

That's it for me. Thank you. Thanks, Randy.

We'll go next to Magnus Frey with H.C. Wainwright.

Yeah, thank you. Good afternoon. Just a follow-up question on these charted end vessels. I mean, the rates have been pretty flat on the three-year. Have you seen much changes on the two-year rate, or did you feel like you got really, I mean, the rate here, has it changed at all in the last couple months as you've been looking at these opportunities?

Yeah, hi, Magnus. Yeah, we did, actually. We have seen some movement on the two-year coming off to the levels that we took the ships in on. And that was why we felt that maybe now was a time to start executing. The three-year rate has held up pretty strongly, and that's why looking at our two-year deals with the options to extend for for the third year. That gave us the optionality to carry it through, which we believe will be a pretty strong market at that point in time. But yeah, I mean, earlier in the year when asset prices were up higher, there was maybe a bit more conviction in the time charter market that the second half would kick off in earnest in June. We saw the two-year rate certainly higher than where it is today. And that was why when it came off, I think we did the first ship at the end of Q2. And then early in July, we pulled the trigger on the next two. So, yeah, it's come off a little bit. It could potentially come off further if the spot market doesn't improve in the coming weeks. But there's also not that much activity. It's fairly quiet across the market.

Right. So, I mean, so I guess this is kind of a one-off deal, but you think there's – you said the liquidity is quite low, but you think there's appetite to do more of these charter, I mean, from the other side?

Appetite from ship owners to give us ships, you mean?

Right, right, right, at these levels. I mean, could you do more if you wanted to?

I think we probably could. Certainly, we were looking at another one and we decided not to pull the trigger. From our standpoint, as I said, in the past, we've built up quite a large in-charter portfolio. And going into a stronger market, you may see us do more or be a bit more active in terms of building up some scale But I don't think we should be pulling the trigger all at one time. You know, we felt that doing one or two, we ended up doing three at this point. You know, as I said, the market, if the spot market continues to be weak for the coming weeks, you may see the numbers come off a little bit more. We'll reassess our forward view and what pricing we're seeing. And we may take some more. We may, as I said, sit on the sideline and wait till the the green shoots in the spot market actually start to bear some greener color and maybe then we'll go back in and do some more. But it's something that we constantly look at on a daily basis. And I don't think we're going to get the timing perfect, but it's certainly something that going into a stronger market, it's an area or a lever that we have pulled in the past that I think... we can certainly pull again with more than just the three chips.

Great. Thanks for the additional caller. Thanks, Magnus.

And at this time, there are no further questions. I will turn the call back to the company for closing remarks.

Stay safe, and we look forward to speaking with everyone in three months' time.

This does conclude today's conference. We thank you for your participation.