SFL - SFL Corporation: A Sustainable ~10% Yield Covered By Long-Term Contracts

Summary

• SFL Corporation has demonstrated a remarkable track record in the shipping industry, consistently paying attractive dividends every quarter since 2004.
• SFL generates cash flows that comfortably cover its dividends while also allowing room for future growth.
• The dividend yield, which is very well covered, is almost 10%, which is a relatively rare opportunity in the current market.
• SFL's diversification strategy has proved to be a significant strength. The company possesses a fleet of 78 vessels, comprising of tankers, dry bulk carriers, containerships, car carriers, and energy assets.
• The contracted revenue is $3.8 billion, with a weighted average tenor of nearly 7 years, providing substantial cash flow visibility.

SFL Corporation ( SFL ) has an impressive track record in the maritime shipping industry, consistently paying attractive dividends every quarter since 2004. This is an exciting time to own the stock, as the company is financially strong, has low debt, generates attractive cash flows comfortably covering the dividend, and has ample room to continue increasing future dividends while also investing to grow its asset base over time. There are multiple factors that contribute to SFL's distinctive positioning, which we will outline below.

Asset Diversification

What I find particularly noteworthy about SFL is its diversification strategy. The company possesses a fleet of 78 vessels, comprising of tankers, dry bulk carriers, containerships, car carriers, and energy assets. Specifically:

• 18 tankers
• 15 dry bulk carriers
• 36 containerships/liners
• 7 car carriers
• 2 energy assets (offshore drilling rigs)

The composition of SFL's assets portfolio stands out when compared to that of other shipping companies which have typically adopted a more focused, single-segment approach.

Contracted Long-Term Revenue Backlog

SFL's long-term distribution capacity is underpinned by a robust portfolio of long-term charters and a consistent growth in its asset base over time. This enables the company to sustain its long-term distribution capacity and avoid the impact of short-term fluctuations in the highly volatile shipping market. The company maintains a substantial portfolio of vessels that are both owned and partially owned, which are employed on long-term fixed charters, with a weighted average tenor of nearly 7 years. The contracted revenue for these charters is $3.8 billion, of which $1.6 billion was added in the past 12 months alone. The breakdown of the contracted revenue is as follows:

Stable and increasing dividends

As previously mentioned, the company's fixed-rate charter backlog currently stands at $3.8 billion, providing the company with a clear visibility of its long-term dividend distribution capacity in the future. During Q3 2022 results, the company declared a quarterly dividend of ($0.23 per share, or $0.92 on an annualized basis). It's impressive to note that this is the 75th consecutive quarterly dividend and the company has paid more than $2.5 billion in accumulated dividends since its inception, as illustrated below.

It is worth noting that there are not many companies in the shipping industry that can boast such an impressive track record of dividend payments.

Sustainable business model & well covered dividend

When evaluating the sustainability of a company's business model, including its dividend policy, it ultimately comes down to the generation of cash flow in relation to the company's various needs and priorities. The table below provides an overview of SFL's most recent cash flow statement:

For the 3 months ended September 30th, 2022, SFL generated approximately $80 million in net cash provided by operating activities. The total dividend paid out to shareholders during this period was less than $30 million, resulting in a surplus of ~$50 million.

For the 3 months ended June 30th, 2022, SFL generated around $85 million in net cash provided by operating activities, compared to around $28 million paid in dividends, leaving a surplus of almost $60 million.

For the full year 2021, SFL generated almost $300 million in net cash from operating activities, with cash dividends paid out being less than $80 million, resulting in a surplus of more than $200 million.

This substantial surplus is important as it enables the company to pay attractive dividends while also retaining funds for various corporate priorities, including vessel acquisitions. In other words, the company has the ability to grow and expand its operations through internally generated cash flow, which can be supplemented with appropriate debt financing.

Unusually Attractive Dividend Yield

Currently, the company pays an annual dividend of $0.92 per share. As of the time of writing, the current share price is $9.36. This equates to a dividend yield of nearly 10%. As previously discussed, the dividend is well-covered and has ample room for growth. However, rather than implementing a rapid and potentially irresponsible increase in dividends, management is taking a balanced approach by incorporating asset purchases that enhance operating cash flows, alongside a progressive dividend policy.

Prior to the COVID-19 pandemic, the quarterly dividend was $0.35 per share, or $1.4 on an annualized basis. In response to the pandemic, management adopted a conservative approach by reducing the quarterly dividend to $0.15 ($0.6 on an annualized basis). The "savings" from this reduction in dividends were then invested in an aggressive growth program which included the acquisition of vessels, resulting in the addition of approximately $1.6 billion to the revenue backlog over the last 12 months. Additionally, the company has made a significant push into the niche car carrier market, capitalizing on the booming container ship market of the past couple of years (which has since softened) as well as the resurgence of its energy assets, such as submersible rigs, due to the increase in energy prices.

For instance, SFL signed a contract with ExxonMobil Canada Ltd. for the harsh environment semi-submersible rig Hercules, with an estimated contract value of approximately $50 million. All these efforts have resulted in a well-diversified business model with top charters including Volkswagen, ConocoPhillips, Koch, and Trafigura.

Key Risks

A significant drawback is that a significant portion of the company's long-term revenues (more than 50%) is derived from containerships (liner companies). In the event that these liner companies face challenges, it could potentially lead to difficulties for the company.

Another risk to consider is the possibility that the company increases its dividend while the share price remains low. This would mean the company would have to rely heavily on internally generated cash flow, which has its limitations. In contrast, a strong share price would enable the company to explore other opportunities for accretive growth, using its share price as a currency. Unfortunately, SFL has not received proper recognition from the market as of yet.

Lastly, an increase in interest rates may eat into some of the free cash flow available for investment in growth after paying dividends, thus limiting the company's growth prospects.

Conclusion

In conclusion, SFL Corporation has demonstrated a remarkable track record in the maritime shipping industry, consistently paying attractive dividends every quarter since 2004. The company boasts a strong financial position, low debt, and generates cash flows that comfortably cover its dividends while also allowing room for future growth. SFL's diversification strategy has proved to be a significant strength, differentiating it from other traditional players in the industry. The company has shown a balanced approach to managing its business by concurrently implementing a progressive dividend policy and making strategic investments in vessel acquisitions. Though there are some risks to consider, such as a dependence on liner companies and the potential impact of rising interest rates, overall, SFL is well-positioned for long-term success. Currently, investors have the opportunity to secure a sustainable dividend yield of almost 10%, which is a relatively rare opportunity in the current market.

For further details see: