Tuesday, December 9, 2008

EXM and debt covenants after the QMAR merger - conflicts between Wall Street IPO structuring and longer term business-building

Capital markets have brought substantial benefits to Greek Shipping. Quintana was a successful dry cargo startup that was sold at a very good time. The business model suffered from the restraints of capital market IPO's, but it was very well managed within these limitations. IPO investor strategy is generally very short term. There are substantial conflicts between the investor appeal and creation of a sound business. The acquiring firm Excel Maritime EXM is now facing the longer term challenges of establishing a sound business. Its first priority is to deal with the high leverage from the LBO in the face of substantial decline of asset prices and a dismal freight market.

Quintana was the ideal combination of commercial and financial partners. The major driver was a well-established US coal trader, who had an existing relationship with a major private equity firm.

Shortly after some initial bulk carrier purchases, the company launched an initial IPO. Some months later, the company entered into a massive scaling up operation, acquiring a large fleet. They chose to finance this with a PIPE offering investors discounted share price to buy into the operation. The issue was structured with high dividend payout against long term employment. Growth was achieved largely by financial engineering rather than free cash flow and commercial market penetration, which would have certainly taken longer.

Timing proved auspicious and the market in 2007 sharply exceeded expectations. Share price rose in excess of actual earnings and FCF. QMAR reaped less benefit in the P+L than share price. The fleet was on fixed rates albeit with some profit sharing. Typically the time charter earning were a fraction of the prevailing spot rates; whilst operating expenses were rising sharply with the boom times.

The major shareholders put the company up for sale to cash out. They got attractive terms from Excel Maritime with a nice cash payout and exchange of shares in Excel, accompanied by BoD and management positions. In turn Excel financed the deal with heavy debt finance. Currently EXM is said to being carrying US$ 1,6 billion in debt.

Currently Excel must manage this debt in severe market downturn and sharp fall in vessel values.

There are real conflicts between Wall Street desire for quick profits and sound business principles. The challenge is to reconcile these conflicts to build a sound business.

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