2023-07-15 00:46:58 ET
Summary
- Danaos has a market cap of $1.41 billion, a price-to-free cash flow of 2.02, a ROIC of 11.27% and a ROA of 10.74%.
- Danaos Corporation is a leading international owner and operator of containerships.
- The company is cash contracted by $2.3 billion through 2028, with 97% of the fleet booked for 2023.
- Further, Danaos has a free cash flow yield of 52% and based on EV to Free Cash Flow the stock is one of the cheapest in the sector.
- A balance sheet stronger than ever before makes capital allocation flexible and could create more shareholder value along the way.
Following up on the series “Unleashing the power of the small”, which has been focused on small caps, I continue with a new candidate that popped up in my screener: Danaos Corporation ( DAC ). In the last decade, the company was able to transform their debt heavy business towards a flexible capital allocator one. This caught my attention and gave me an incentive to do further research. Cash and cash equivalents are equal to 26% of the market capitalization and debt to equity decreased from 5x to 0.157x. In addition, the business remains resilient after exuberant freight rates and free cash flow can now be allocated towards shareholder returns.
Criteria Screener:
- Market cap: $1.41 billion
- Price To Free Cash Flow: 2.02
- ROIC (Return On Invested Capital): 11.27% / AVG 5y 6.45%
- ROA (Return On Assets): 10.74% / AVG 5y 10.54%
- Current Ratio: 1.86
Business Overview
Some readers might recognize Danaos , the man who built the first boat together with the goddess Athena, from ancient Greek mythology. Danaos Corporation is a leading international owner and operator of containerships. The company specializes in providing high-quality, reliable, and efficient transportation services for containerized cargo worldwide. Danaos operates a modern fleet of container vessels and offers its services to a wide range of customers, including major liner companies.
Danaos Corporation was founded in 1972 and has since grown to become one of the largest independent containership owners globally. The company is headquartered in Greece, with additional offices in the Cyprus, Korea, and other strategic locations.
Danaos operates a diverse fleet of containerships, consisting of various vessel sizes and types, from 2,100 TEU ( twenty-foot equivalent unit ) to 13,100 TEU. The company focuses on maintaining a modern and efficient fleet to ensure optimal operational performance and meet the evolving needs of its customers. Therefore, the company's orderbook includes two 7,165 TEU, four 8,010 TEU and two 6,014 TEU container vessels.
Danaos serves an extensive customer base, including some of the world's leading liner companies and cargo owners. The company's customer-centric approach emphasizes building long-term relationships, providing reliable services, and meeting the specific requirements of its clients. The containerized cargo transported by Danaos includes a wide range of goods, such as manufactured products, consumer goods, and raw materials.
Like many companies in the shipping industry, Danaos faces various challenges and opportunities. Factors such as global economic conditions, changes in trade patterns, geopolitical developments, and regulatory requirements can impact the company's operations. Furthermore, environmental sustainability and technological advancements in the maritime sector present both challenges and opportunities for Danaos to adapt and innovate.
Nevertheless, the company is cash contracted by $2.3 billion through 2028, with 97% of the fleet booked for 2023, showcasing the strong need for container vessels. The new buildings of container vessels can further increase the top line if demand stays stable.
Danaos Investor Presentation
Net income remains surprisingly resilient with slight growth year-over-year excluding the income from their investment in ZIM . Danaos made a lot of money on their investment in ZIM integrated shipping services, and exited the investment in the peak of the market in 2022. The free cash flow is also showing great growth year-over-year, and can enhance shareholder returns through dividends and buybacks.
Valuation
Danaos is currently trading at an enormously high free cash flow yield of 52%, which I have not seen many times before. As some know, free cash flow is my favorite metric, due to the fact that it is a core principle for shareholder returns.
Further, I have decided to compare free cash flow with other peers in the industry. I have done this while using EV to free cash flow. EV stands for enterprise value and this takes into account the market cap combined with total debt minus cash and cash equivalents. Since the shipping industry tends to have heavy debt on the balance sheet, we want to include it when comparing businesses. Danaos is the second cheapest business based on EV to FCF, above Maersk ( AMKBY ).
In addition, Danaos is by far the best priced company when comparing the industry based on forward EV to EBITDA. Others in the sector have a much larger premium.
Balance Sheet, Dividend & Buybacks
The company has a strong balance sheet with $360 million in cash and cash equivalents or 26% of the current market capitalization. In addition, total liquidity stretches to $731 million, as the company has $371 million in undrawn credit.
The supply chain crisis in the last years made freight rates spike massively to a peak of $11,000, which made it possible for Danaos to decrease debt substantially. The debt to equity ratio decreased from 5x to only 0.157x over the last 10 years. The business has never been so flexible in capital allocation possibilities than ever before.
Zooming out on the rest of the sector, Danaos has created one of the better balance sheets and is only beaten by Maersk and ZIM.
As a result, free cash flow is overflowing and it is now possible to pay out a dividend to shareholders. At the moment, the dividend yield is 4.36% and is rather safe with a payout ratio of 9.81%. I do not mind that the dividend has not increased last year considering the uncertainties of the freight rates. Also, share buybacks are more valuable in my opinion, since Danaos is seriously undervalued.
Danaos has a $100 million share buyback program running, which is good for 7% of the market cap. So far, $40 million in shares have been repurchased, leaving $60 million left for share repurchases. I wouldn't be surprised to see the leftover buybacks be completed soon.
Takeaway
Danaos is well-positioned with a strong carrier backlog, resilient net income, and impressive free cash flow. Its valuation suggests it is an attractive investment potential, and the company's strong balance sheet enables dividend payments and share buybacks. Overall, Danaos demonstrates financial stability, adaptability, and shareholder value, making it a promising player in the shipping industry. Freight rates have more or less stabilized and remain above the historical averages.
Global Container Freight Index (Freightos DATA)
Danaos has allocated their capital in great ways through the last upward cycle with a lot of debt repayments and a perfect investment into ZIM integrated shipping services. However, a recent investment into Eagle Bulk ( EGLE ) has raised questions, as the company is not specialized in container vessels but dry bulk vessels. To learn more about the Eagle Bulk investment I advise you to read J Mintzmyer 's excellent article. I agree with him that a divestment of the stake would be for the better, and a follow up of a tender offer or more share buybacks is more suitable.
I rate Danaos a 'BUY' as the risk is low due to an inexpensive valuation and a strong balance sheet. The stock should reward shareholders over the following years, if the free cash flow is invested properly. Therefore, I have started a small position at $68 a share, right before sending in the article.
For further details see:
Unleashing The Power Of The Small: Danaos - From Debt Heavy To Flexible Capital Allocator