South Korea-based ocean box shipping line Hyundai Merchant Marine (KRX: 011200) has revealed plans to issue a 660 billion Korean won (US$562.4 million) convertible bond. It’s a bold move for a company that’s already carrying KrW4.1 trillion (US$3.49 billion) of debt. One analyst has described the company as having a “horrible balance sheet”.
Douglas Kim is an equities analyst who publishes via the SmartKarma platform. Kim noted that the convertible bond will mainly be issued to the Korea Development Bank and Korea Maritime Promotion Corp.
Use of funds
KrW 490 billion (US$417.6 million) will be used for “facility funds” and a further KrW 170 billion (US$144.9 million) will be used for working capital.
The facility funds will be used for ship and equipment investment, eco-friendly facilities, operational expenditure and to improve the company’s financial structure. If any facility funds are not invested, they will be used in the operation.
The convertible bonds have a surface interest rate of 3%. Furthermore, the interest rate potentially can increase up to a cap of 10%.
One-quarter of the annual interest rate is paid every three months until maturity on Oct. 28, 2049. The full amount of the bond is repayable on that date; however, HMM has the option to extend the bond for a further 30 years on the same terms and conditions.
Kim noted that prior to the payment of interest, if the company buys back its own stock or provides dividends, then it is not required to pay interest for a year.
“In other words, if the company’s operations improve materially and the company is able to generate positive free cash flow and operating margins and enough cash cushion to buy back shares or pay dividends, then there is a further positive feedback loop of the company not being required to pay interest on this CB for one year,” Kim wrote in his Smartkarma article “Hyundai Merchant Marine Plans to Issue CB Worth 660 Billion Won.”
Convertible into equity
The bond is convertible into equity using a formula that refers to a month’s weighted average of common shares of HMM trading on the Korea Stock Exchange. However, if the conversion value is less than the face value of the common shares, then the conversion will be at the face value of the common shares. There is also an adjustment formula in the event that new shares are issued during the life of the bond.
Kim noted that the convertible price of the bond is KrW 5,000 per share and that the current share price is KrW 3,395 per share. He added that there is a “big dilution overhang” on the stock and adds that the issue of the bond “will likely put a cap on the potential upside on this stock.” Consequently, he forecast that the shares will decline “more than 15-20% in the coming weeks.”
HMM’s ocean fleet
According to HMM’s fleet list, the company operates 85 ocean-going container ships that, together, have a total capacity (as measured in twenty-foot equivalent units or TEUs) of 396,153 TEUs and a gross tonnage (a measure of volume, not weight) of just under 14.7 million gross tons.
HMM is primarily an ocean box carrier, although it does operate five very large crude oil carriers of 300,000 deadweight each. Deadweight refers to the carrying capacity of an ocean-going ship and is measured in tonnes. A deadweight of 300,000 metric tonnes is equivalent to 330,693 U.S. short tons.
HMM also operates two Suezmax crude tankers of 158,000 deadweight. A small fleet of seven dry bulkers, ranging in size from 176,939 deadweight to 207,955 deadweight, for the carriage of iron ore and coal is also operated by HMM.
HMM’s financial statements: “horrible” and “terrible”
Analyst Kim reviewed the company’s financial statements and was not impressed.
“Hyundai Merchant Marine has a horrible balance sheet. At the end of 1H19, the company’s debt ratio (liabilities/equity) was 653% and net debt to equity was 485%. The company had a total net debt of 4.1 trillion won at the end of 1H19,” Kim wrote.
He didn’t stop there.
Noting that HMM has made operating losses every year from 2014 to 2018 and that it has a cumulative operating loss of KrW 2.5 trillion (US$1.79 billion) from 2014 to 1H19, Kim concluded with, “Hyundai Merchant Marine has terrible financials.”
Kim’s not the only analyst to put the boot into HMM.
Drewry: HMM is a “highly risky stock”
Writing back in February, Drewry Maritime Financial Research published a piece, “Hyundai Merchant Marine (011200 KS): Growth Target Seems to Be Too Ambitious,” on SmartKarma in which it described HMM as “a highly risk stock and [we] expect no recovery anytime soon.” Worse, Drewry noted that HMM was then experiencing a depleting cash and equity situation that drove its net gearing to the highest amount since it was rescued from bankruptcy in 2016.
Given that one of the main reasons for the corporate bond issue is to buy new ships, Drewry’s comments on buying large ships are particularly pointed.
“Buying more ultra-large container vessels when the market can barely accommodate what is already on the water seems [a] little outdated and negatively disruptive. Also, there is little point in having mega ships if having them means freight rates are uneconomical,” Drewry wrote.