ZIM - Genco: Shipping A Monster 17% Dividend And Undervalued

• Genco Shipping & Trading Limited is the largest dry bulk shipping company headquartered in the U.S.
• The company benefited from surging shipping costs in 2021 and saw a 500% boost in Net Income year-over-year.
• Genco pays a monster 17% dividend, and thus is great for income investors.
• The stock is undervalued relative to historic multiples.

Genco Shipping & Trading Limited ( GNK ) is the largest U.S.-based dry bulk shipping company . It owns a fleet of 44 ships that specialize in the transportation of iron ore, coal, grains, cement, and fertilizers.

The reopening of the global economy in 2021 caused a major demand shock and a subsequent "cargo crunch" in the price to ship goods across the world's oceans. On the chart below, you can see that the Baltic Dry Index (blue line), which tracks the cost to ship "dry" goods across the ocean, peaked in October 2021, before correcting down huge. I have also added an orange line which represents the Genco share price, as you can see it correlates closely with the Baltic Dry Index. Genco benefited as the price to ship goods rose, and its Net Income expanded by an enormous 500% year-over-year.

Since October 2021, the price to ship goods has corrected downwards by ~34%, as port congestion has been alleviated across the world. As confirmed via a McKinsey study , the lack of ships was not the reason demand couldn't be met easily. It was a lack of "effective" ships, as many were tied up at ports, which caused the large delays. The same McKinsey study predicts that shipping rates will "normalize," but still be at "Above average levels seen in 2019." For those into technical analysis, the chart below shows the Baltic Dry Index is trading inside a major channel and thus could dip a little further, but would be expected to move higher afterwards.

Approximately 90% of the world's trade is carried by the global shipping industry. Thus, a bet on Genco is really a bet on the future of dry bulk shipping and its cost. The company is poised to ride major trends across iron imports in Asia and grain security in Europe. In addition, management has been prudently paying down debt and improving the efficiency of its fleet. The stock price has corrected down by a substantial 35% since June 2022, and a recent uptick could be a signal of support. Genco is undervalued relative to historic multiples and pays a monster 17% dividend. Let's dive into the Business Model, Financials and Valuation for the juicy details.

Business Model

Genco is a global shipping company which has strong international exposure to key global trade routes for dry bulk goods. Its headquarters are in the U.S., but they also have operations in Copenhagen, Denmark, which gives them access to mainland Europe. In addition, it has operations in Singapore, which give access to Asia and its thirst for iron ore imports.

The company owns a diverse fleet of 44 vessels, which include 17 large Capesize vessels, 15 medium-sized Ultramax, and 12 medium-sized Supramax dry bulk carriers. The average age of the Genco fleet is just 10 years, which is younger than the global average age for dry bulk ships, which is 14 years. In addition, its fleet is much more modern and fuel-efficient when compared to their pre 2020 fleet, which consisted of many 20+ year old vessels. The company was even rated the number one ESG shipping company globally, which may make them more friendly to ESG funds.

Genco has even fitted its vessels with energy-saving equipment and "exhaust-gas scrubbers," which enable them to burn cheaper high sulfur fuel oil ((HSFO)), whereas many competitors have to burn very low sulfur fuel ((VLSFO)) which is more expensive, due to IMO environmental regulations released in 2020. This means Genco's fleet has greater operational efficiency, which could act as a competitive advantage. The diverse range of vessels also enables the company to benefit from the cyclical swings in iron ore while generating stable cash earnings from the minor bulk trade, which currently represents one third of global trade.

Genco makes its money by selling time-based charters, spot market voyage charters, and spot market-related time charters. The mix of charter types gives the company flexibility to take advantage of various market conditions. The three main commodities Genco carries are: iron ore (51%); followed by coal (15%); and grains at 12%. The company also transports cement (6%), fertilizer (5%), and steel/pig iron (2%).

As iron ore makes up the "Bulk" (51%) of Genco's trade, let's dive into some fundamentals about the commodity. According to one study by Statista , global iron ore production was 1.8 billion metric tonnes in 2006 and was expected to reach 2.6 billion by the end of 2021, up a substantial 44%. However, it should be noted the cyclical nature of production, with a large dip in 2010.

The main importers of iron ore are China, Japan, South Korea, Germany, and Taiwan. Genco has an operational base in Singapore and thus offers a strong gateway to Asia, where demand is strong. The second-largest commodities Genco transports are metallurgical coal (which is used in steel production) and thermal coal. Steel production follows the same trend as iron (as steel is made from iron). Steep production has increased from 1.5 billion metric tonnes in 2012 to 1.9 billion metric tonnes in 2021, or ~27%.

Thermal coal is an interesting one, as, of course, the global trend is towards green energy, isn't it? Well, not exactly. "Energy security" always trumps "green energy," and especially in Europe there is an increasing risk of energy loss. The International Energy Agency ((IEA)) has warned that Russia could turn off all gas exports to Europe this winter. Recently, Russia's Gazprom ( OGZPY , GZPFY ) actually turned off gas to Germany before restarting it one week later at 40% capacity. The exact cause is unknown and stated as "maintenance issues" by the company. The more likely scenario is an interference by the Russian government. Thus, due to this uncertainty, Germany and Austria have restarted their coal fired plants, with other European countries expected to follow suit.

Access to grains is another area of increasing concern in Europe, as food security concerns increase due to the Russia-Ukraine War. Russia is the largest exporter of wheat and makes up 13% of global supply. Ukraine is the fifth largest exporter, making up 8.5% of supply. Indonesia is the world's largest wheat importer at 6.1%, followed by Nigeria and China (4.6%). As grains make up 12% of the Genco's commodities carried, the increasing food "insecurity" is expected to result in the company's services being more essential than ever.

Growing Financials

For the first quarter of 2022, Genco generated strong financials with revenue of $136 million, up 55% year-over-year. However, revenue did decrease by 25% from the prior quarter's $183 million. This was driven by the substantial correction in shipping rates, after the spike in 2021. The Time Charter Equivalent ((TCE)) which is gross freight income minus voyage costs (bunker, port and canal charges), was $24,093, up 99% year-over-year. Management estimates its TCE for the second quarter to be $27,596 for approximately 68% of its fleet.

Net Income in the first quarter of 2022 was $42 million, up a staggering 500% from the $7 million in March 2021. However, again this was down by 51% over the prior quarter, as shipping prices corrected downwards. Moving forward, management outlined a three-pronged strategy which includes "significant dividends" driven by cash flow generation, deleveraging, and growth.

The "Significant Dividends" strategy is working fantastic for investors, as they reported a monster 17.09% forward dividend yield which is fantastic. In addition, the payout ratio is fairly low at just 33%, which gives strong coverage.

The second part of management's strategy is "deleveraging" via paying down debt, using a combination of operating cash flow and cash on hand. As you can see from the chart below, the company has significantly reduced its debt outstanding by 56%, from $449 million at the end of 2020 to $197 million by the first quarter of 2021.

It was also great to see that despite investing $66 million into new vessels (net after disposals) and paying down debt, the company still was in a strong liquidity position. This includes $271 million in available funds, derived from $49 million in cash on the balance sheet and $222 million of revolver credit available.

The third part of management's strategy is to focus on "growth" through the simultaneous buying of new ships and selling old vessels mentioned prior.

Valuation

Genco trades at a Price to Earnings (forward) ratio = 3.9, which is 66% cheaper than its five-year average of 11.44. Relatively to other Dry Bulk shipping stocks, it trades at a mid-range valuation. The stock is cheaper than Golden Ocean group ( GOGL ), which trades at a P/E ((FWD)) = 4.8, but is more expensive than Safe Bulkers ( SB ), which trades at a P/E Ratio = 2.8. A stock I covered previously , ZIM Integrated Shipping (ZIM), is still one of the cheapest in the industry with a P/E Ratio = 1.

Risks

Small Cap Volatility

Genco has a market cap of $783 million at the time of writing, which means it's one of the smaller shipping stocks in the industry. For example, ZIM has a ~$5 billion market cap and Golden ocean is at $2.18 billion. Stocks with small market caps tend to have higher "betas" and thus move in a much more volatile manner on both the upside and downside, so just be prepared for a rollercoaster and diversify accordingly.

Shipping Industry Volatility/Recession

The shipping industry is also notoriously volatile, and with slowing industrial demand and forecasts of a recession , the company's iron ore transportation services could face a temporary setback.

Marshall Islands - Risk or Opportunity

Genco has a headquarters in the U.S., but officially they are incorporated in the Marshall islands. This is a U.S. territory, but the law is relatively lax in the region, and thus it may make it difficult for shareholders to recoup losses should any litigation occur. Genco also qualifies for a tax exemption under Section 883 of the U.S. tax code. Thus, the company doesn't have to pay income taxes, which is great for them, but as investors you may wish to consult a tax accountant for specific details on exemptions, if you have a substantial stake.

Has the Ship Sailed?

Genco is a tremendous company, which is poised to benefit from long term trends in iron, grain and even coal transportation. The thirst for iron in Asia and the food and energy scares in Europe may act as a further tailwind moving forward. The stock is currently trading at a low valuation relative to historic levels and pays a monster 17% dividend. However, be aware that the shipping industry is notoriously volatile. Thus, I would keep an eye on the Baltic Dry Index to see if the current shipping prices are sustainable.

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