HOW TO FINANCE A SHIP A Practical Guide to debt, equity & - - PowerPoint PPT Presentation

HOW TO FINANCE A SHIP

A Practical Guide to debt, equity & leasing

Matt McCleery

President, Marine Money International

Matt joined Marine Money in 1996 and is now its president and a partner in the business. He is also Managing Director of Blue Sea Capital an advisory firm specializing in the financing of vessels. Matt has has arranged debt, equity and lease financing on approximately 200 vessels, including tankers, bulk carriers, container vessels, MPPs, cruise vessels, dredges and one yacht. He has also been involved in the listing of several IPOs and high yield bond offerings, various restructurings and was on the board

• f directors of two NASDAQ-listed shipping companies. Matt was a

founding director of a New York-based distressed private equity fund that bought a fleet of tankers and bulk carriers and has since sold them. He is the author of the novel The Shipping Man.

What We Cover in This Course:

• Basic Economics and Finance
• Key Terms
• The concepts of “Debt” and “Equity”
• Where to Source Debt for Ships
• Where to Source Equity for Ships
• Costs, Terms and Conditions
• Structuring Considerations

A bad financing can destroy a business, a good financing can create one

• Capital that is borrowed and must be repaid
• ‘Guaranteed’ repayment, but typically without any upside
• Repayment is comprised of “Principal and Interest” (AKA “P&I)
• Primary source of financing for most shipping companies
• Debt can have different levels of security – from Secured Ship Mortgage to Unsecured
• Principal Repayment – can vary from fully amortizing to balloon
• “Investment grade deal in every asset.”
• LINGO ALERT: Credit, Leverage, Spread, Bonds, Notes, Revolver, Term Loan, Swap, Senior, Junk,

Unsecured, Mezzanine (“Mezz”), Preferred (“Pref”)

Debt Characteristics…

• The “Down payment” on the house
• “Enjoys” Ownership and Control
• Has most upside, but….
• Equity is the “first loss” source of capital
• All other sources of capital have priority of repayment ahead of equity
• Equity earns its return from free cash flow and residual value (Hopefully)
• LINGO ALERT: Common, financial sponsor, watermark, hurdle rate, secondary, primary, carried

interest, Pari Passu, preferred, dilution, Private Equity

Equity Characteristics…

6

50% 50%

0% 10% 20% 30% 40% 50% 60% 70% 80% 90% 100% At Acquisition

Capital Structure

Equity Debt

• $20mm purchase price
• 50% Debt (red)
• 50% Equity (green)

Debt and Equity - Baseline

7

• Vessel’s market value increases by $5mm from $20mm to $25mm
• Debt balance remains $10mm
• Mark-to-market equity value now equals $15mm ($25mm asset - $10mm debt = $15mm equity value)

50% 50% 50% 50%

0% 10% 20% 30% 40% 50% 60% 70% 80% 90% 100% 110% 120% At Acquisition Upside Case

Capital Structure

Equity Change in Value Debt

UPSIDE Scenario

8

• Vessel’s market value decreases by $5mm from $20mm to $15mm
• Debt balance remains $10mm
• Mark-to-market equity value now equals $5mm ($15mm asset - $10mm debt = $5 equity value)

50% 25% 50% 50%

0% 10% 20% 30% 40% 50% 60% 70% 80% 90% 100% At Acquisition Downside Case

Capital Structure

Equity Change in Value Debt

DOWNSIDE Scenario

Ships as “Assets"

• Hard Asset (Collateral)
• Unrestricted mobility
• Low obsolescence risk
• Fungible
• USD denominated
• Operating leverage
• Volatile
• Cyclical
• Liquid secondary market (50 vessels sold

each week)

Positive Characteristics

• Capital intensive
• Low returns = Temptation for Financial

Leverage

• High operating leverage
• Wasting assets
• Volatile
• Unpredictable
• Cyclical
• Chronic overcapacity

Challenging Characteristics

“Happy Happy” – Benefits of 50% Leverage

OWNER HAPPY LENDER HAPPY

• All the same reasons as owner
• Security of asset
• Big ticket
• Generates a return + fees
• Low risk if done properly
• Participation in great industry
• Consistent annual need for capital
• Uses someone else’s money
• Conserves precious liquidity (cash)
• Debt Capital Cheaper than Equity
• Boosts Return on Equity
• Creates Manageable daily breakeven
• Allows free cash for maintenance
• Allows free cash for weak markets
• Make money selling ship (hopefully)

1 BILLION + PER WEEK

$391 $625 $391 $156 $781 $0.00 $100.00 $200.00 $300.00 $400.00 $500.00 $600.00 $700.00 $800.00 $900.00

Total 50% Debt Financed 80% Debt Financing

Estimated Value of World Fleet ($ billions)

Debt Implied Equity Total

• Newbuildings
• Secondhand
• Refinancings

• Commercial Banks (Funding: depositers, other banks, bonds)
• Non-Banks (Credit Funds) – (Funding: Private equity, Investors)
• Institutional Investors – (Funding: Pension Funds, Endowments, Insurance

companies)

• Leasing Companies – (Funding: Equity Investors, Commercial Lenders)
• Governments – (Funding: Export Credit guarantees exports)

Key Sources of Debt for Ships

Credit Alternatives: Leverage and Cost

0% 10% 20% 30% 40% 50% 60% 70% 80% 90% 100% 0% 1% 2% 3% 4% 5% 6% 7% 8% 9% 10% Commercial Banks US & Norwegian Bonds Credit Funds Chinese Leasing Investment Grade Preferred Equity

“Happy, Happy”

Leverage Cost

R i s k

The Commercial Banking Landscape

New Kids

• n Block

Exiting or Exited the Business Old Reliables

$321.1 $375.6 $355.4 $355.5 $358.6 $349.9 $321.8 $297.6 $259.3 $229.4 $0.0 $50.0 $100.0 $150.0 $200.0 $250.0 $300.0 $350.0 $400.0 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018

Total Outstanding Shipping Loans

$0 $2 $4 $6 $8 $10 $12 $14 $16 $18 $20

B N P P a r i b a s C E X I M K f W I P E X

• B

a n k S u M i T r u s t B a n k C r e d i t A g r i c

• l

e C I B A B N A M R O N

• r

d e a D N B K

• S

U R E I C B C L e a s i n g N O R D / L B C i t i D V B ( D Z B a n k ) S M B C B

• C
• m

m L e a s i n g K E X I M S E B D a n i s h S h i p F i n a n c e D a n s k e B a n k B

• f

A M e r r i l l L y n c h H a m b u r g C

• m

m e r c i a l B a n k S

• c

G e n C I B M i n s h e n g L e a s i n g C M B L e a s i n g C O S C O L e a s i n g S t a n d a r d C h a r t e r e d S h i p F i n a n c e C S S C L e a s i n g I C B C C D B L e a s i n g A V I C L e a s i n g H V B

• U

n i C r e d i t C

• m

m . B a n k A u s t r a l i a S w e d b a n k A l p h a B a n k C I C E u r

• b

a n k E r g a s i a s C C B L e a s i n g p

• r

t f

• l

i

• m

a n a g e m e n t * C h i n a H u a r

• n

g L e a s i n g K A M C O C

• m

m e r z b a n k A m s t e r d a m T r a d e B a n k

2018 Shipping Loan Portfolios by Bank (Billion USD)

4% - 7% 7% - 10% 10%+

Middle $25-100M Small $5-25M Large $100M+

Transaction Size Cost of Capital

Selected Non-bank Lenders

The Bond Markets

High Yield (non-investment grade) Bonds:

• LIBOR +, NIBOR +, or Fixed Rate
• 3 to 5 year maturity
• Secured or Unsecured
• Public or Private Offering
• Rated or Unrated
• Little to Zero Amortization
• More Expensive than Bank Loan

Export Credit Agencies

• Government institutions
• Mandate to support domestic

industries (shipbuilding or trade)

• Primarily available to finance

newbuildings

• Direct lending
• Sovereign Guarantees on

performance of commercial loans

• Approximately 10-page document produced by Lender/Arranger
• Good News: Someone took time to draft a term sheet
• Bad News: Doesn’t represent a commitment
• Generally used as basis for negotiation on specific items

Key Economic Terms:

• Loan Amount - Expressed as lesser of % and dollar amount.
• Spread – Expressed as “Base Rate” + Margin
• Amortization Profile – Expressed as schedule of repayment of principal

(Lingo: “Amort” or simply “Am”)

• Liquidity Reserve – Expressed as an amount of cash in “rainy day fund” per vessel

(Lingo: The “LR”)

The Term Sheet – Summary of Key Terms & Conditions

Term Sheet - Senior Loan

FACILITY TYPE: Senior Secured Loan COLLATERAL: M/V Big Papi BORROWER: Big Papi LLC (SPC formed to own M/V Big Papi) GUARANTOR: Fenway HoldCo LENDER: Name of lending entity (Official name) LOAN AMOUNT: Lesser of $12 million or 60% of Vessel Value TERM: 60 months (5 years) INTEREST RATE: 5-year LIBOR swap + 350 basis points = total interest payment AMORTIZATION: 20 quarterly payments to a balloon repayment of [$1,000,000] FEE: 1.5% of draw down COMMITMENT FEE: 1.00% EMPLOYMENT: UPON DRAWN DOWN, VESSEL SHALL BE TIME CHARTERED FOR NO LESS THAN 24 MONTHS CHARTER RATE: $14,000 per day, net SECURITY: Mortgage recorded in ship registry, assignment of earnings, assignment of insurance INSURANCE REQUIREMENTS: Borrower shall at all times ensure…. COVENANTS: Value Maintenance Clause (“VMC”), Liquidity Reserve, Debt Service Coverage Ratio LAW: Transaction shall be governed by New York Law

Real Debt Deals - the Range

Borrower: Japanese Liner Co. Lender: Hiroshima Bank Ltd. Type: Container vessel Built: 2018 Amount: $17 million Cost: 68 basis points fixed Borrower: Hedge Fund LLC Lender: Shadow Bank Type: Product Tanker Built: 1997 Cost: LIBOR + 925 basis point + 10% of

• perating income and capital gain

Equity for Shipping

• Greed
• Mythology
• Volatile & Cyclical
• Necessary
• Trade demand grows along with the world

growth (pre-Trump)

• Leverage enhances returns
• Newbuilding orders are subsidized
• Volatile & Cyclical
• Wasting Assets
• Chronic Overcapacity
• Shipowners are price takers
• Low Barriers to Entry
• Few competitive advantages
• Unpredictable (Black Swan, Global Macro,

Weather, Trade Wars, etc)

• Ship owners / Private Business
• Public Equity Investors
• Private Equity Investors
• Leasing Companies

Equity for Ships – Primary Sources

Ship owners

• Most significant source of equity
• Long-term investment horizon

(permanent capital)

• Traditional family or private

corporate businesses

• Generational investments
• Lifestyle
• Concerned with more than short

term economics

• Ships as storage place of wealth
• Legend of the Greeks…..

Private equity

• “Smart Money”
• 3-7 Years Holding Period
• Professional investors
• Funding Source for non-banks
• Buyers of Discounted Shipping

Loans

• Strategies: Distressed, Special

Situations

• Carried Interest for Owner in case
• f Joint Venture – typically 90/10%

Term Sheet - Private Equity

SECURITY TYPE: Common Equity (could be preferred (preference in cash flow waterfall) or convertible (can convert into common shares at pre-agreed price). SERIES: Could have a Series such as A, B. C to describe how many funding events/dilution have occurred previously.) ISSUER NAME: Big Papi Shipping, a company formed in the Marshall Islands, to own a vessel primarily engaged in the business of hauling freight by sea in the “tramp” market. AMOUNT OFFERED TO INVESTORS: $10 million, representing 49% of the shares in vessel. CONTROLLING DOCUMENTATION: An Operating Agreement (Board of directors, Voting rights, etc.) for an LLC. USE OF PROCEEDS: Outlines what the money will be used for ( Eg, Buy the Ship/s, Pay Down Debt) PRE-MONEY VALUATION: What the issuer and investor agree is the value of the business before the new investment is made. CARRIED INTEREST: 20% of profits to Manager once Investor principal has been repaid + 10% annual return OTHER STUFF: Pre-emptive Rights, Drag-along, Tag Along, Exit

Public Equity

• Invest in publicly listed companies
• Comprised of: Retail Investors, Hedge Funds

and “Long Only” Institutional Investors

• Permanent capital in theory, BUT high

investor turnover, short term trading

• Challenge of Long Term Investing in a Cyclical

Industry

• Opportunistic (i.e. fickle) with regard to

shipping equities – discounts

• History of dilution by listed companies

periodically closes public markets

• Valuation relative to ship values and other

public companies

Vessel Leasing: Blending Debt and Equity

Vessel Leasing

• Tool for extracting equity
• Leasing company buys ship for 80-

100% of value

• Rents ship back to owner for fixed

period

• Leasing company uses its equity

and borrows debt

• At end of lease, owner may have

right to buy it or leasing company might keep it

• China, Japan, Korea, Corporate

Vessel Leasing (cont.)

• Most levered form of equity
• Fixed term capital, typically tied to

vessel age or length of contract employment

• Emerged as significant source of

capital for shipping assets from both Asian leasing companies and from credit-oriented private investors

• Successfully leveraged lease depends
• n cost of capital arbitrage between

lessor and lessee such that residual cash flows provide reasonable return to equity

Chinese Vessel Leasing: a Growth Market

$12.0 $12.5 $12.9 $10 $11 $12 $13 $14 $15 2016 2017 2018

New Business Volume (Billion USD)

AVIC Leasing, $3.0 BoComm Leasing, $9.2 CCB Leasing, $1.7 CDB Leasing, $3.1 China Huarong Leasing, $1.6 CMB Leasing, $5.5 COSCO Leasing, $5.2 CSSC Leasing, $3.2 ICBC Leasing, $12.0 Minsheng Leasing, $5.9

Shipping Portfolios, 2017 (Billion USD)

Term Sheet – Vessel Lease

STRUCTURE: Finance Lease (vs. Operating Lease) VESSEL: Big Papi TYPE: Container (5,000 TEU) BUILT: Nice Times Shipyard VESSEL VALUE: $24 million PURCHASE PRICE: $24 million LESSOR: Big Papi SPC SECURITY DEPOSIT: $1.5 MILLION DAILY FIXED BAREBOAT CHARTER HIRE: $11,250/day LEASE TENOR: 6 years PAYMENT TERMS: Monthly installments, payable in advance UPFRONT FEE: 1.5% of Purchase price BALLOON (PURCHASE OBLIGATION): $8.5 million (vs. Fair Market Value “FMV”) GUARANTOR: Holding Company that owns vessel SPC