One of the cheapest stocks in our All Investable Screener, which you can subscribe to here, is Overseas Shipholding Group, Inc. Class A (NYSE:OSG).
OSG provides ocean transportation services for crude oil and refined petroleum products, and is the only major tanker company to operate in both the U.S. Flag and International Flag fleet markets. The company operates its vessels in two strategic business units: the U.S. Flag market through its subsidiary OBS and the International Flag market through its subsidiary INSW.
As you can see below, the company’s share price has been hammered in the past six months, down 64.65% from $10.92 on June 17, 2015 to its latest closing price of $3.86.
(Source: Google Finance)
Cyclical Nature of the Business
It’s important to note that OSG operates in a highly cyclical industry. Its revenues are highly sensitive to patterns of supply and demand for vessels of the size and design configurations owned and operated by the company and the trades in which those vessels operate.
Rates for the transportation of crude oil and refined petroleum products from which OSG earns a substantial majority of its revenues are determined by market forces such as the supply and demand for oil, the distance that cargoes must be transported, and the number of vessels expected to be available at the time such cargoes need to be transported.
The demand for oil shipments is significantly affected by the state of the global economy, levels of U.S. domestic and international production and OPEC exports. The number of vessels is affected by newbuilding deliveries and by the removal of existing vessels from service, principally through storage, scrappings or conversions. The company’s revenues are also affected by the mix of charters between spot (voyage charter) and long-term (time or bareboat charter).
Oil Production
With that said here’s what happened with oil production for the financial period ending September 30, 2016:
- Global oil production in the third quarter of 2016 totaled 96.7 million b/d, an increase of 0.1 million b/d over the third quarter of 2015. OPEC crude oil production continued record production averaging 33.3 million b/d in the third quarter of 2016, an increase of 0.4 million b/d from the second quarter of 2016, and 1.0 million b/d from the third quarter of 2015. Non-OPEC production decreased by 1.0 million b/d to 56.6 million b/d in the third quarter of 2016 compared with the third quarter of 2015. Driven by lower oil prices, oil production in the U.S. decreased by 0.4 million b/d from 12.6 million b/d in the second quarter of 2016 to 12.2 million b/d in the third quarter of 2016.
- U.S. refinery throughput decreased by 0.4 million b/d to 19.3 million b/d in the third quarter of 2016 compared with the comparable quarter in 2015. Crude oil imports increased by about 0.7 million b/d in the third quarter of 2016 compared with the comparable quarter in 2015 as declines in local production required sourcing additional foreign crudes. Imports from OPEC countries increased by 0.7 million b/d in the third quarter of 2016, a 28% increase from the comparable quarter in 2015.
- Chinese imports of crude oil continued increasing, with the first nine months of 2016 showing a 14% increase over the comparable period in 2015 as a result of increased strategic or commercial reserve buildup and increased imports by privately owned refineries.
OSG Completes Spin-Off of International Seaways
On December 1, 2016 OSG announced that it had completed the previously announced separation of OSG into two independent, publicly traded companies: Overseas Shipholding Group and International Seaways (NYSE: INSW).
Regarding the spin-off, Sam Norton, OSG’s SVP & President and CEO of the U.S. Flag Strategic Business Unit said, “Today marks the start of an exciting new chapter for OSG. We are now a more sharply focused company with a leading and diversified position in the Jones Act market,”
“We are confident that this focus will allow us to leverage our trusted operating franchise and strong balance sheet to address growth opportunities and drive shareholder value. We will continue to focus on the quality of our operations so as to ensure the delivery of safe, clean, reliable, incident-free transportation services to our customers”.
What Does This Mean for Shareholders?
At 5:00 p.m. on Nov. 30, 2016, 100 percent of the shares of International Seaways were distributed to OSG shareholders and warrant holders. OSG shareholders received 0.3333 shares of International Seaways common stock for every one share of OSG common stock held at 5:00 p.m. on November 18, 2016, the record date for the spin-off.
For each OSG warrant held on the record date, OSG warrant holders received 0.3333 shares of INSW common stock for every one share of OSG common stock they would have received if they exercised those warrants immediately prior to the distribution date (or approximately 0.06332 INSW shares per warrant). OSG shareholders and warrant holders received cash in lieu of any fractional shares.
International Seaways common stock will begin “regular way” trading on the NYSE under the symbol “INSW” on December 1, 2016.
I believe the spin-off will be prove to be better for both companies to capitalize on opportunities for growth. OSG can continue to focus on its U.S. Flag fleet and Jones Act operations while INSW can emerge as an independent company that can prioritize investment spending on what it believes is appropriate, without having to compete for capital or senior management resources with other OSG businesses.
GAAP Earnings versus Cashflow
To understand the real value of OSG I’ll start by illustrating where the typical investor starts when they’re looking at a stock pick.
Below is the income statement for OSG for the past four quarters. As you can see the company shows negative operating income of ($117 million) and negative net income of ($98 million) for Q3 2016.
| Quarterly Income Statement (amounts in thousands) | ||||
| Quarter: | 3rd | 2nd | 1st | 4th |
| Quarter Ending: | 9/30/2016 | 6/30/2016 | 3/31/2016 | 12/31/2015 |
| Total Revenue | $194,951 | $221,446 | $243,756 | $243,725 |
| Cost of Revenue | 113,072 | 106,240 | 108,933 | $117,107 |
| Gross Profit | $81,879 | $115,206 | $134,823 | $126,618 |
| Operating Expenses | ||||
| Research and Development | 0 | 0 | 0 | $0 |
| Sales, General and Admin. | $21,314 | $17,367 | $17,349 | $21,034 |
| Non-Recurring Items | $0 | $0 | $0 | $0 |
| Other Operating Items | $43,208 | $42,592 | $43,083 | $44,082 |
| Operating Income | -117,577 | 67,120 | 86,153 | $75,604 |
| Net Income | -$98,739 | $29,861 | $50,739 | $9,267 |
For a lot of investors this the point at which they start looking for another company, afterall who wants a company with negative earnings. That’s why I always start with the statement of cashflows when I’m investigating a company for investment.
Real Value of OSG
Take a look at the statement of cashflows for the past four quarters for OSG below:
| Quarterly Cashflow Statement (amounts in thousands) | ||||
| Quarter: | 3rd | 2nd | 1st | 4th |
| Quarter Ending: | 9/30/2016 | 6/30/2016 | 3/31/2016 | 12/31/2015 |
| Net Income | -98,739 | 29,861 | 50,739 | $9,267 |
| Cash Flows-Operating Activities | ||||
| Depreciation | $46,186 | $45,581 | $46,405 | $47,062 |
| Net Income Adjustments | $87,566 | -$263 | $11,422 | -$20,983 |
| Changes in Operating Activities | ||||
| Accounts Receivable | $0 | $0 | $0 | $19,901 |
| Changes in Inventories | $0 | $0 | $0 | $0 |
| Other Operating Activities | $1,784 | $15,243 | $4,852 | $37,240 |
| Liabilities | $0 | $0 | $0 | -$4,950 |
| Net Cash Flow-Operating | $36,797 | $90,422 | $113,418 | $87,537 |
| Cash Flows-Investing Activities | ||||
| Capital Expenditures | -$886 | -$151 | -$209 | -$270 |
| Investments | $0 | $18,500 | $0 | $12,500 |
| Other Investing Activities | $18 | $9,053 | $3,942 | $6,725 |
| Net Cash Flows-Investing | -$868 | $27,402 | $3,733 | $18,955 |
| Cash Flows-Financing Activities | ||||
| Sale and Purchase of Stock | -$42,955 | -$32,262 | -$44,126 | -$3,633 |
| Net Borrowings | -$76,545 | $78,642 | -$143,283 | -$329,130 |
| Other Financing Activities | -$59,023 | -$109,046 | $0 | $101,092 |
| Net Cash Flows-Financing | -$178,523 | -$64,003 | -$217,982 | -$231,671 |
| Effect of Exchange Rate | $0 | $0 | $0 | $0 |
| Net Cash Flow | -$142,594 | $53,821 | -$100,831 | -$125,179 |
The first thing you’ll notice is the same loss in net income of ($98.7 million) for Q3, 2016 but, after all of the non-GAAP adjustments for Depreciation, Net Income Adjustments and Other Operating Activities, OSG had $36.7 million in net operating cashflows for Q3, 2016. When we subtract the company’s capex of $0.9 million for the same period, OSG had free cash flow of $35.9 million for the quarter.
Moreover, when we add up the company’s entire operating cashflow for the trailing twelve months we get $328.2 million. Subtract cash spent on capex over the same period of $1.5 million and we get $326.6 million in free cash flow (TTM). That’s the real value of OSG.
While the company generates a lot in free cashflow its also been very smart in terms of its capital allocation. Over the last four quarters the company repurchased $123 million worth of its own stock and paid back debt of $549 million, leaving it with $313 million in the bank as at September 30, 2016.
Strong Balance Sheet
Now let’s take a look at the balance sheet. For me one of the first things to look at is the difference between the current market cap, what it would cost to buy the whole company, versus the Enterprise Value. Enterprise Value is defined as:
Market Cap + Preferred Equity + Non-Controlling Interests + Total Debt - Cash and Equivalents
If we take a look at the current market cap of OSG we can see that the entire company is currently selling for $271 million. Now let’s take a look at the balance sheet so that we can calculate the Enterprise Value.
| Quarterly Balance Sheet (amounts in thousands) | ||||
| Quarter: | 3rd | 2nd | 1st | 4th |
| Quarter Ending: | 9/30/2016 | 6/30/2016 | 3/31/2016 | 12/31/2015 |
| Current Assets | ||||
| Cash and Cash Equivalents | 318,804 | 461,415 | 407,592 | 513,419 |
| Short-Term Investments | $0 | $0 | $0 | $0 |
| Net Receivables | 67,451 | 65,818 | 74,226 | 90,471 |
| Inventory | 18,037 | 19,681 | 21,401 | 3,926 |
| Other Current Assets | $0 | $0 | $0 | $16,115 |
| Total Current Assets | $404,292 | $546,914 | $503,219 | $623,931 |
| Long-Term Assets | ||||
| Long-Term Investments | 363,282 | 344,886 | 351,503 | 348,718 |
| Fixed Assets | $1,846,615 | $2,021,500 | $2,052,968 | $2,084,859 |
| Goodwill | $0 | $0 | $0 | $0 |
| Intangible Assets | 46,767 | 47,917 | 49,067 | 50,217 |
| Other Assets | $20,492 | $19,865 | $28,895 | $71,986 |
| Deferred Asset Charges | 68,506 | 76,117 | 84,969 | 95,241 |
| Total Assets | $2,749,954 | $3,057,199 | $3,070,621 | $3,274,952 |
| Current Liabilities | ||||
| Accounts Payable | 89,198 | 76,140 | 88,757 | 91,246 |
| Short-Term Debt / Current Portion of L/T Debt | $25,483 | $46,183 | $71,154 | $63,039 |
| Other Current Liabilities | $0 | $0 | $0 | $0 |
| Total Current Liabilities | $114,681 | $122,323 | $159,911 | $154,285 |
| Long-Term Debt | $956,260 | $1,070,728 | $1,072,533 | $1,267,766 |
| Other Liabilities | $61,555 | $62,327 | $63,352 | $64,218 |
| Deferred Liability Charges | $202,589 | $253,843 | $239,414 | $208,195 |
| Misc. Stocks | 0 | 0 | 0 | 0 |
| Minority Interest | $0 | $0 | $0 | $0 |
| Total Liabilities | 1,335,085 | 1,509,221 | 1,535,210 | 1,694,464 |
| Stock Holders Equity | ||||
| Total Equity | $1,414,869 | $1,547,978 | $1,535,411 | $1,580,488 |
| Total Liabilities & Equity | $2,749,954 | $3,057,199 | $3,070,621 | $3,274,952 |
OSG currently has $956 million in long term debt and $25 million in short term debt for a total debt of $981 million. The company also has $318 million in cash and cash equivalents. If we subtract cash and cash equivalents from total debt we get a net debt figure of $663 million. To calculate the Enterprise value we add the net debt ($663 million) to the market cap ($271 million) and we get an EV of $934 million.
As an investor this might seem a bit confusing. Why would we pay $271 million for a company with an enterprise value of $934 million. Aren’t we looking for companies that have more cash than debt?
As I outlined above the answer comes from the fact that the company is generating so much in free cashflow that it can choose to pay down this debt if it wishes. When you find companies that have an Enterprise Value in excess of their market cap always check the statement of cashflows to see how much the company is generating in free cashflow.
Selling at a Fraction of Net Tangible Book Value
One final point on the Balance Sheet of OSG. You can see that the company has $1.414 billion in book value (total equity). If we subtract the intangibles of $46.77 million that leaves $1.37 billion in tangible book value or $19.49 tangible book value per share. Compare that to the company’s current share price of $3.86 and you’ll see that the company is trading at a price/tangible book value of 0.20.
Summary
OSG is a company with lots of upside. The company has loads of free cash flow, a strong balance sheet and it’s shareholder friendly in terms of capital allocation. OSG is cheap on every multiple including a price/net tangible book of 0.20, a price/sales of 0.38, a FCF/EV yield of 32%, and my favorite an Acquirer’s Multiple of 4.36.
Now here’s the kicker!
At today’s price of $3,86, the company is paying a nice dividend yield of 12% (TTM).
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