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David Sun

OSG AT A GLANCE

P/E ► 3.96 AVG EV/EBITDA ► 7.26 AVG ROA ► 6.9% AVG ROE ► 12.2% AVG Debt to Equity ► 1.08 AVG Current Ratio ► 4.14 HIGH Interest Coverage Ratio ► 5.44 AVG

 

 

 

 

 

 

As of October 29, 2007, Overseas Shipping Group (OSG) owns and leases 106 ships^[1] that transport crude oil, petroleum products, liquefied natural gas, and dry cargo around the world. In recent years, OSG has focused on both expanding and diversifying its fleet, investing billions of dollars to acquire other, smaller shipping companies. That said, 68.9% of their revenues still came from crude oil transport^[2] at the end of 2006.

Not surprisingly, oil supply and demand have a significant impact on OSG's business. The tremendous appetite for energy in developing countries like China and India has driven increased demand for OSG's services in recent years.

Company Overview

OSG operates 137 vessels. Specifically, they operate crude oil tankers, international product tankers (which transport refined oil products), a U.S. Flagged Fleet (subject to the Jones Act , which requires vessels operating in American ports to be domestically built, owned, and operated), and LNG (liquefied natural gas) vessels. Investors would thus be getting exposure to both domestic and foreign tanker, dry bulk, and LNG needs.

OSG employs its services in a variety of ways. Their crude tankers are primarily employed in spot markets in commercial pools. Spot markets arise when customers who have shipping needs enter into immediate contracts to have their products shipped by vessels that are already in the immediate the vicinity. In pools, groups of similar vessels with different owners are put under one manager. This arrangement allows for economies of scale and higher prices for their participants. On the other hand, OSG's international product tankers are primarily chartered. These contracts are for the use of a vessel for specific voyages at specified rates. This business is much more stable for OSG, but historically pays at a much lower rate than spot market employments.

OSG is committed to both growth and diversification. It is able to fund these strategies through its cash hand, boasting a 28% cash to market cap ratio as of the end of Quarter 3 in 2007. Growth and diversification has led to big gains in revenue over the past four years. In 2005, OSG spent $1.35 billion to acquire Stelmar Shipping Ltd., receiving many product carriers^[3]. In 2006, OSG entered into the liquefied natural gas transport market. At the end of that year, OSG bought Maritrans Inc. for $506 million and secured a lead role in the U.S. Flag Jones Act market^[4]. While these acquisitions have been the cause of OSG's recent growth, they are also very risky. There is uncertainty in acquiring a fleet of ships whose quality could be in question.

The following chart breaks down OSG's revenue over the past three years according to activity. Growth in total revenue was 4.7% from 2005 to 2006, though profits fell 9%^[5].

^[6]

^[7]

Trends and Forces

• The growth of world oil demand is increasing. The average oil demand growth is 1.5% for the years 1990-2006. In June 2007, the International Energy Agency forecast world oil demand growth at 2%. While increased demand will mean more shipping jobs for OSG, higher fuel prices that result from greater demand will mean that it is more expensive to ship oil. Historically, world oil supply has grown at a rate lower than demand, largely due to the market power of OPEC.

• As a company incorporated in the United States, OSG is subject to U.S. taxes and regulations. The American Jobs Creation Act of 2004 defers U.S. taxation on international shipping income, which constituted over 90% of OSG's revenue in 2006. If the American Jobs act is repealed, OSG could be subject to significant taxes on its foreign operations. This would put it at a disadvantage to its competitors which don't pay significant taxes on its operations. OSG is further restricted by the Jones Act on their US Flag fleet. A maximum of ten percent of a ship's hull and structure mass can be foreign-built steel.

• The rates OSG is able to charge for their services are volatile. From 2005 to 2006, world tanker supplies increased 6.1% ^[8]. Should this trend continue, OSG's profits will fall because of downward pressure on shipping rates. Finally, because only 28% of its revenue comes from chartered or long-term jobs, OSG is significantly exposed to the spot market, which is volatile to begin with.

• The growth of dependence on alternative energies, while small, is real. As the high cost of oil and environmental implications of fossil fuel use causes consumers to substitute their energy use in favor of renewable energy, the demand for oil will decrease, leading to a decrease in demand for tankers and a decrease in value of tankers themselves.

Competitors

Some of OSG's major competitors include:

• Frontline, a crude oil shipping company that operates 83 vessels worldwide and has a total tonnage of approximately 19.35 million dwt^[9].
• General Maritime Corporation, a U.S.-based crude oil transportation company whose fleet is made up of 18 double-hulled vessels that the company wholly owns. They have a total capacity of 2.4 million dwt^[10].
• Teekay Corporation provides international transportation for crude oil and petroleum products, and operates approximately evenly in the charter and spot markets. They have a total capacity of 4.2 million dwt^[11].
• Tsakos Energy Navigation, based in Bermuda, charters the shipment of crude oil and petroleum products for its fleet of 40 vessels, of which one is a liquefied natural gas carrier. They have a carrying capacity of 4.5 million dwt^[12].

OSG is in control of 11.7 million dwt of shipping capacity ^[13].

OSG distinguishes itself by holding a highly diversified fleet. While all of these companies concentrate in the shipment of crude oil, OSG is different in the extent to which they employ a mix of vessels they own and vessels they charter and in the degree to which they expose themselves to other markets, like petroleum products and liquefied natural gas. Additionally, OSG charters a relatively large number of the vessels they operate. This strategy provides for a more stable asset value and is especially appropriate if worldwide tanker supply continues to grow and current vessel values decline.

Finally, OSG dominates Teekay and GMR in the domestic sector, and companies like Frontline and Tsakos don't even compete because of high barriers to entry caused by the Jones Act.

Note that dwts measure shipping capacity.

Footnotes

1. ↑ http://www.osg.com/osgf.asp
2. ↑ OSG 2006 10-K, Page 6
3. ↑ OSG 2005 10-K, Page 3
4. ↑ OSG 2006 10-K, Page 3
5. ↑ Google Finance, OSG Income Statement
6. ↑ Google Finance: OSG Income Statement
7. ↑ OSG 2006 10-K, Page 6
8. ↑ OSG 2006 10-K, Page 40
9. ↑ FRO 2006 10-K, Page 26
10. ↑ GMR 2006 10-K, Page 16
11. ↑ TK 2006 10-K, Page 17
12. ↑ TNP 2006 10-K, Page 18
13. ↑ OSG 2006 10-K, Page 9