By Alessandro Pasetti
The most obvious question in the wake of the watershed announcement that Denmark’s AP Møller Maersk Group will split into two separate divisions, operating under the same corporate umbrella, is what will remain of its newly created energy unit within the next couple of years?
‘Nothing’ could well be the answer.
Good & bad assets
With its reorganization, Maersk management implicitly noted that its cyclical, diverse assets portfolio would be divided between good and bad, by separating transport and logistics activities from oil-related businesses. The latter provided only about one quarter of group revenues in 2015.
While Maersk might be committed to these assets, the net present value of their volatile cash flows is less certain in this market, with the implied equity value of these activities signalling distress in my base-case scenario.
Drawing a parallel with the banking sector might seem hazardous to some, but as with banks, the shipping industry is faced with unprecedented headwinds, swamped in highly illiquid assets, and what Maersk is trying to achieve – rising shareholder returns as most of its core end markets keep shrinking – must also be gauged against the chances that economic conditions and trades will not pick up significantly through to 2020 and beyond.
Well, it hasn’t played out very well for the banks during the past seven years, with the shares of many currently trading at significant discounts to their tangible book values, having become prey for opportunistic traders rather than long-term value investors.
Full attention, of course, will be given to extract value, in the form of dividends and capital appreciation, from its good assets base (Maersk Line and related activities), but similarly Maersk Oil and Maersk Drilling – the main revenues drivers within the new energy division – are on the radar, given their combined size and hefty capital requirements.
It’s tempting to suggest that the remainder of its energy portfolio, Maersk Tankers and Maersk Supply Chain Services, will eventually be run down or sold if an offer can match the asking price, but even then, the larger, capital-intensive oil and drilling operations – revenues and cash flows were again under in the second quarter, confirming trailing trends – run the risk of being valued at a few cents on the dollar rather than at a fair price, were they listed as standalone entities.
The Maersk family has yet to decide what will happen to those assets at a time when the odds are short that no action at all, barring cost reduction measures, will ensue for a few years in either division, although the good assets will inevitably have to grow inorganically; others may be spun off.
Reaction in the investor community to the restructuring news was generally rather tepid, with the stock’s rally now losing steam by the day after a sustained performance since Maersk indicated in June there would be a reorganization.
Surely, pre-tax capital gains for the year at around 7 per cent, excluding dividends, represent a respectable stock performance and, arguably, Maersk is on the right path strategy-wise, but a subdued performance following the announcement also means that, while investors like the idea of a new Maersk, how the new Maersk will fare – particularly if its transport and non-energy assets will actually be separated from energy – is another matter.
Yet in these situations, when investors fully back management’s action, a double-digit rise in the market value of a stock should be in order, usually confirmed in the following trading sessions.
Under the spotlight is the possible valuation of each entity owned by the Maersk family, but in corporate finance, so-called “dissynergies” are hard to model, let alone to manage.
As a reference, Procter & Gamble, one of the major global shippers, which has streamlined its corporate structure in recent years by selling underperforming assets, lately had its executives talking on record about a hefty bill to pay for the partly successful divestment-led strategy, which preserved the dividends – despite a turnover that plunged to $66 billion from $83 billion in less than three years. However, its stock trades not far away from where it changed hands at the end of 2013.
Crucially, the performance of Maersk’s bad assets is hidden in the conglomerate structure of the group, and now accountability might give its new management team a few headaches – executives have lots to prove, and little hard data upon which to base their forecasts.
Nonetheless, in a shrinking world for global trades, Maersk’s plan is smart; one reason being that it did not have any other options at its disposal. And, equally important, as a Loadstar colleague reminded me, it represents “the end of the race-to-the-bottom mentality by carriers”.
Trading multiples for leading transport and logistics companies are much higher than those of energy-related assets, based on most financial metrics. And, more broadly, the resources sector has recently re-rated well above fair value based on most trading multiples, despite difficulties in selling underperforming assets.
As such, excluding regulated utilities, investors are right to question whether the rally in most stocks across the energy and resources sectors – where many Maersk’s clients operate – is sustainable, and are cautious when trying to assess the fair value of each Maersk unit, particularly those outside the good assets division.
In this context, Maersk Line should be seen as the best bet by most investors in an industry where the demise of Hanjin Shipping shook confidence. While market observers and investors look for the next container shipping company to bail out, how about Japan’s K Line?
Notwithstanding reports – since denied – suggesting a strained financial situation, K Line’s cash balances at the end of fiscal 2016 and in the past quarter were reassuring, as the carrier can easily cover its short-term debt obligations, although it is burning cash more rapidly, and operating losses cannot be sustained forever. Or can they?
Japanese companies tend to have easy access to capital, and I doubt Maersk Line, given its current situation, would want to consolidate more than $3 billion of long-term debt and K Line’s bulk shipping activities. On the one hand, the involvement of activist investor Effissimo Capital may facilitate a deal; on the other, news in May that it had “withdrawn issuer rating from Moody’s” in May and latest WTO projections are less encouraging.
As the group focuses on the long-term view, the Maersk family has to hope its glorious history will not end up like the Peugeot family, which, after the credit crunch, had to dismantle the vertical corporate structure of the conglomerate it controlled, diluting itself during the process and recording billions of dollars of losses.
Reprinted courtesy of The Loadstar (www.theloadstar.co.uk)