Project Description

PARENT
Name:EuroSeas
Ticker:ESEA
Price:$2.31
Market Cap:$26MM
'17 Revenue:$43MM
'18 Revenue Estimate:$55MM
'17 EBITDA:$6MM
'18 EBITDA:$16MM
EV / EBITDA:5.8x
Updated on May 27, 2018. Sources include Ycharts.com and EuroSeas IR Website.
SPIN-OFF
Name:EuroDry
Ticker:EDRY
Price:TBD
Market Cap:TBD
'17 Revenue:$20.3MM
'18 Revenue Estimate:TBD
'17 EBITDA:TBD
'18 EBITDA:N/A
EV / EBITDA:N/A
ADDITIONAL INFO
Announce Date:May 5, 2018
Spin-off Tgt Date:Q2 2018
First Day of Trading:June 1, 2018
Tax Status:Taxable
Activist Involvement:None
Spin-off Ratio:1 to 5
Form F-1:Link
Mgmt Presentation:Link
IR Website:Link

EuroSeas Spin-off – Overview 

Updated on May 28, 2018

On May 5, 2018, EuroSeas Ltd. (NDAQ: ESEA. “EuroSeas”) announced that it had filed a registration statement (Form-1) with the SEC to spin off its dry bulk fleet into a separate company (EuroDry Ltd.).

EuroSeas Ltd. is in the shipping business. It has two different divisions. The first is focused on transportation of containers. EuroSeas owns 11 container ships. What are container carriers? According to Investopedia, “Container ships are cargo ships that carry all of their load in truck-size containers.”

What are in the containers? Anything that is considered non-bulk cargo could be packed into a container. Bulk cargo refers to commodity cargo that is transported unpackaged in large quantities (petroleum, crude oil, grain, gravel, etc.). Things like manufactured goods (books, equipment, household goods), semi-finished goods (automobile engine, bricks, cotton), perishable goods (Doritos, milk, apples) are shipped in containers. 90% of non-bulk cargo worldwide is transported by container ships according to Wikipedia.

See a picture of a container ship below:

EuroSeas’ second business, the business which will be spun off, is focused on transportation of dry bulk cargo. EuroSeas owns and operators 7 dry bulk vessels. What is dry bulk cargo? Bulk cargo is commodity cargo that is, transported in large quantities (petroleum, gasoline, cement, grain, etc.). Bulk cargo is further classified into liquid (wet) bulk cargo (petroleum, gasoline, etc.) and dry bulk cargo (cement, grain, etc.). EuroSeas is focused on the transportation of dry bulk cargo.

Notes from EuroSeas Spin-off Conference Call

On Monday, May 14, 2018, management hosted a call to discuss the imminent spin-off. You can listen to the replay presentation here.

Here are my notes from the presentation:

  • Family owns ~40% of the the company
  • Bulk shipping rates peaked in 2007/2008 due to supply demand imbalance
  • Containership market peaked in 2005 but remained very strong through 2008, was due to China entered the World Trade Organization in 2001which significantly boosted demand for ships; consequently spot rates and asset values increased dramatically
    • Owners responded to the high rates by ordering ships at a record pace
    • Financial Crisis hit and rates plummeted below 2001 levels
    • At this point, the new orders started to deliver, and this negatively impacted rates up until last year
    • As a result, rates stayed at 2001 levels even though there was strong demand for iron ore and coal from China
    • Only now do we see the order book below levels at which we see demand to be
    • Expect this to continue until 2020
  • During and since Great Financial Crisis, EuroSeas has managed to avoid bankruptcy and significant dilution (besides rights offerings) through operational expertise
  • Spin-off will result in pure play containership company. Containship market is experiencing a positive cycle which is expected to last at least until 2020 according to management. Management believes new EuroSeas will be the only US listed pure play containership company
  • The largest public containership companies per this article include:
    • Nippon Yusen Kabushiki Kaisha, Evergreen Marine Corp, CMA-CGM, Maersk, Mediterrannean Shipping Company, Hapaq-Lloyd, American President Lines, COSCO, Hanjin, and China Shipping Container Lines.
  • Objective of spin-off is to maximize value.
    • According to mgmt, EuroSeas’ NAV is $65MM but its market cap is $22MM (trades at massive discount).
    • Management believes NAV is correct way to look at value.
    • Management believes book value is not helpful as it is an acconting measure. While ESEA trades at a similar discount to its peers on a P/BV basis, it trades at a significant discount on a price to NAV basis.
    • Mgmt thinks other pure play companies trade at NAV.
  • After spin-off, management believes the companies will have larger array of strategic options
  • Macro outlook:
    • Order book is at lowest level in 15 years
    • World economies are in synchronized recoveries
  • EuroDry:
    • Higher spot prices will help revenue
    • 2 ships are operating at long locked in rates
    • 4 are operating at spot rates (benefitting from higher rates)
  • Both markets (containership and dry bulk) have recovered but are below historical average
    • Think will be reaching historical average and going above average over next two years.
    • Want to reward shareholders and get back to paying dividends in the future.
    • When ships were making profits, paid dividends.
  • Small company will get smaller; won’t this magnify ESEA’s problem?
    • Management doesn’t think so as they think the pure play focus of the businesses will magnify both companies’ cheap valuation.
  • For every share of 5 shares of EuroSeas, shareholders will receive 1 EuroDry share. So if stock is trading at $2 and EuroDry is worth 60% of that. Then EuroDry wouild be $1.20, but because only one share for every 5 Euroseas, would anticiate EuroDry trading near $6. “Feel extremely confident that will be trading significantly above that.” If trade at NAV values, will be around $17. Don’t think will get there immediately, but think couild get there over time.
  • For EuroSeas, couild trade around $1, but think investors will realize that contiainer market has seen the most growth and that it should trade closer to NAV.

 

Our Thoughts:

This situation seems very interesting at a high level as the company is a micro-cap and likely under-followed. The shipping market appears to be experiencing positive tailwinds after a decade of over supply. I need to get more comfortable with the shipping market as I don’t know it well. I’m also going to be very careful as the shipping market is extremely cyclical and ESEA has significant debt. I also need to verify that ESEA is trading at a significant discount to NAV. Per the slide deck, management identifies comps as DCIX, DSX, SSW, CMRE, SBLK, DAC, & SB. ESEA doesn’t appear to be trading at that significant a discount on an EV / ’18 EBITDA basis or price to book basis. Per the spin-off filing, management identifies the dry bulk competitors as NMM, SB, SBLK, GOGL, and DSX.

 

Resources from EuroSeas

Spin-off Filing

Spin-off Slide Deck

Management Webcast

Other Resources

10 Largest Container Shipping Companies in the World

Wikipedia – Container Ships

Wikipedia – Bulk Carriers