Friday, April 25, 2008

Are Analyst Shipping Stock Valuations ‘Objective’? - case study of TOPS

Top Ships is a company that has startled capital market pundits time and again from its July 2004 IPO. Nobody could believe that a 30-year old son of a Greek construction contractor with with a fresh CV together and a financial director of similar age both with limited prior shipping experience could entice Wall Street investors for multimillion dollar funding. TOPS was one of the first Greek IPO’s of many to follow. It was a first in shipping for Cantor Fitzgerald who did the issue. Marc Blazer had no prior shipping industry involvement and relied heavily on Anthony Argyropoulos, who was eager to develop business at DvB bank after his departure from Jefferies only months previously.

At the time of the issue, the stock was widely touted as ‘attractive’ and ‘hot buy’. Retail investors were wooed by various websites to invest in the company. The investment thesis was essentially market-driven and lacked clear business guidelines. Simply the company had tankers and tankers were going to be a booming market. There was certainly a grain of the truth about the tanker market and the timing proved good, but what was not revealed to investors was anything remotely related to the company fundamentals.

Nobody took the time to mention a Board of Directors with mainly a banking and insurance orientation and untested senior management team. Since then, these matters were made even more problematic with a ‘poison’ pill that protects both the BoD and management from shareholder wrath, keeping them firmly in their chairs no matter what the company performance is.

Shareholders have had little joy since then. The company management has a demonstrated track record of class action shareholder suits, auditor resignations, and value destruction in share price. The company shares have been in steady decline since early 2005. Over the last few months, the company has rolled up significant operating losses, dividends have been cut and the stock has contracted to a third of its value.

Just a simple glance at company financials shows significantly higher administrative and operating expenses than other peer shipping companies. The company customer base is very limited, the employment profile is problematical. There are serious financial problems. Leverage is high. The company has a number of operating leases creating cash deficits. It paid out a huge extraordinary dividend from the lease sale transaction effectively leveraging up the balance sheet.

Last year in the face of a decline in the tanker market and financial woes, the company suddenly embarked on an expansion plan for bulker carriers. Since they lacked liquidity, they financed the purchases by bridge loans to be paid off by an increase in capital last December. The supplementary share offering did not go well and resulted in a steep 20% discount and bail out by underwriters taking up over allotments. Since then, the company has been selling ships at reputedly low prices to make way for the remaining bulker carrier acquisitions. This company also has 6 new product carriers soon falling due for delivery.

The last few days, the company arranged a new private placement at a 15% discount, which is heavily financed by George Economou of DRYS, who already holds a large stake in the group though a related investment company. Economou was reputedly involved in the sale transaction of their six vessel bulk carrier fleet that created them the very financing woes that now require this new capital infusion. The discount further dilutes the shareholding of the other investors, precluding any independent BoD representation and is open to the interpretation of possibly forcing financial interests deemed undesirable out of the company. The PIPE has angered QVT, a major hedge fund shareholder.

There is an image problem that was created by prior auditor/ accounting issues and the now settled shareholder class action suit. This situation continues to fester with numerous (but unverified) rumors circulating about the company over potential ethics issues. Natasha Boyden recently made a NAV valuation analysis on which she based a new ‘Buy’ recommendation. She demonstrates that the company shares are trading well below net asset value. She seems to tout the proverbial turn around story due to an expected improvement in the tanker market. There may be some truth in her argument short-term, but the company appears to have deeper problems.

What about the business guidelines, plans for market penetration, shareholder value creation, corporate responsibility and customer satisfaction? Where is the brand image, where is the breakthough performance? Where are the good results and shareholder rewards in this company?

TOPS appears to have serious deficiencies in all these regards.

The CEO needs to pull things together with better vision and more coherent business guidelines. It is not clear how he is balancing his own personal interests with earning money for shareholders. Institutional shareholders are unhappy and he needs to improve investor relations. The CFO seems in need of more proactive financial management, quantifying the implications of management decisions and planning ahead for the necessary financial resources on competitive terms. The COO and technical management need to control quality and mitigate costs for a more competitive cost structure.

What is very clear on Wall Street in this Greek tragedy is the steep current discount in share price. Analysts like Natasha Boyden do not seem to have factored in the risks and expectations that have been priced into the stock under the present circumstances. The market has an uncanny ability over time to filter in such risk factors. Was not there an inexplicable decline over many months in the value of ENRON shares before collapse despite fervent analyst views to the contrary? Normally companies fail over a period of time that leads to final collapse. TOPS is currently a high risk operation at a critical juncture and risks demand a discount!

Miracles can happen; markets can turn bringing windfall profits even for the worst management. Perhaps the new Economou involvement will shake up the present management. The company management needs to demonstrate its firm commitment in creating value for outside shareholders in addition to making money for themselves. Financial investors are losing patience. The ENRON management was clearly out for themselves only. It is up to the TOPS management to reestablish its credibility with tangible results that improve company share value and restore its stock dividend payouts.