FLEX LNG Inventory Positioned To Profit From Optimistic LNG Outlook (NYSE:FLNG)

Firm description:

FLEX LNG (NYSE:FLNG) is an LNG transport firm included in Bermuda and listed on the NYSE.

FLNG has a fleet of 13 gas environment friendly, Fifth-generation LNG carriers. This consists of 9 M-type, Electronically Managed, Gasoline Injection (“MEGI”) LNG carriers and 4 Era X Twin Gasoline (“X-DF”) LNG carriers constructed between 2018 and 2021. These vessels function at a decrease price than most and are extra gas environment friendly.

Previous to FLNG, we’ve lined different Transport firms, together with GSL, EGLE, GRIN and DAC.

Though many are conscious, it could be value illustrating how FLNG operates. The enterprise is liable for the transportation of LNG from a manufacturing location to an importer. For this service FLNG obtain a day by day constitution charge, which is predetermined based mostly on a contractual settlement. These may be lengthy or short-term charters. Because of this, income may be agreed for years upfront, with a backlog construct up.

FLNG has had an eventful few years, initially falling over 50% because of COVID-19. Demand for LNG fell considerably because the world was plunged into lockdowns. The next reversal displays the big uptick in demand that we noticed following the top of lockdowns.

With such an unprecedented enlargement, we need to assess whether or not FLNG stays a lovely funding. This can contain an evaluation of the present profitability profile and the solvency of the enterprise, with a view of how macro circumstances will affect the enterprise.

Bullish on LNG:

The LNG market has grown considerably within the final decade, one of many main causes for that is that it’s the cleanest of the fossil fuels. It’s 30% cleaner than oil and 40% cleaner than coal. With pressures to fulfill internet zero and scale back carbon emissions, nations are keen to pay a premium to make use of LNG over substitutes.

Because of this, LNG is predicted to progress repeatedly into 2036 in keeping with McKinsey, the one fossil gas to take action (Supply: McKinsey: “International fuel & vitality outlook to 2035”). China is now the most important importer of the LNG and is predicted to steer Asian demand for the commodity (Japan and S. Korea are the 2nd and third largest importers), with the US anticipated to be the most important exporter. That is optimistic information for continued progress because the Asian nations are growing quickly, with China eager to proceed its progress and so a fall-off is unlikely within the medium-term.

Russian invasion of Ukraine:

On twenty fourth February 2022, Russia invaded Ukraine. Within the following months, nations imposed varied restrictions on Russia, with the most important (and most troublesome) seeking to scale back the nation’s capability to export O&G. For example, Germany, who imported over 50% of its fuel from Russia earlier than the Battle, is seeking to part out all Russian vitality by 2024. Because of this, nations should look elsewhere for O&G, with many selecting LNG.

That is extraordinarily bullish each short-term and long-term for LNG. Within the short-term, demand for vessels will enhance, as LNG must be transported as a precedence to make-up for the loss in Russian imports.

Over the long-term, extra LNG will should be transported by sea, now that vitality can’t be imported by means of Russian pipelines.

Qatar:

Qatar is without doubt one of the largest producers of LNG, solely marginally behind the US. In response to the Russian invasion, Qatar has moved shortly to safe contracts and develop its exports of LNG. It has not too long ago agreed to produce Germany with its LNG wants, agreeing strategic partnerships with varied Western O&G producers reminiscent of ConocoPhillips (COP) in an effort to facilitate this. This entails 2 expansions to the North Subject, the world’s greatest single non-associated pure fuel subject.

Once more, that is extraordinarily bullish for LNG, rising the amount of fuel exported globally. Even when this isn’t transported by FLNG, this contributes to the expansion of vitality globally.

LNG in 2023:

Our evaluation of LNG up to now has been centered totally on the medium-term onwards, so how does 2023 look?

S&P International imagine a particularly unstable yr is forward for costs, the rationale for this being an absence of latest liquefaction services. This can prohibit the enlargement of provide, regardless of already excessive costs rising additional. Costs are mentioned to be “reaching for the celebrities”.

S&P International expects a big enhance in European import infrastructure in 2023 that might ease the bottlenecks, with 10 new LNG import terminals proposed or constructed that might come on-line. This will increase each Europe’s capability for LNG, and its dedication to the vitality supply long-term.

Macro-economic concerns:

Vitality costs are typically strongly correlated with macro-economic circumstances. The logic is straightforward, when issues are good, the demand for vitality is increased as extra is being consumed. With the other additionally being true.

China:

China goes by means of a interval of change. Coverage is altering within the nation and is pushed by the imaginative and prescient of Xi’s frequent prosperity speech, whereas COVID-19 is inflicting sudden disruptions.

Xi has remained steadfast in sustaining a coverage of zero-COVID. This has led to lockdowns persevering with nicely past the final in Europe or different nations in Asia. The affect of this has been twofold. Firstly, progress in China has slowed, with the knock-on impact already felt throughout the worldwide. Secondly, demand for vitality has fallen.

Coverage adjustments come as China seems to re-focus the nation’s aims on “frequent prosperity”. One side to this has been reallocating sources away from low high quality progress, reminiscent of building. The crack-down has prompted many casualties within the housing market.

It’s too early to say what the brand new China will appear like, however it isn’t out of the query that expenditure might be extra prudent. Though it is a threat for LNG, one would count on {that a} sustainable degree of vitality expenditure should stay to gas the nation, with LNG progress coming from a rise in proportion of whole vitality.

GDP progress and inflation:

One of many different elements that can seemingly result in volatility in costs throughout 2023 is weakening GDP progress. Central Bankers are failing in bringing down inflation down, with out weakening progress. Ought to issues proceed as they’re, we’re prone to see lowered demand for vitality as consumption falls. This can have minimal affect on FLNG as solely 2 charters are attributable to expire earlier than the top of 2024. By then, one would count on financial circumstances to enhance. That is the good thing about having a high quality backlog, short-term volatility may be averted, to an extent.

General, our view of each the LNG market in isolation, and when factored into macro-conditions may be very bullish. Excessive LNG costs are key to excessive constitution charges and the power to safe lengthy contractual agreements.

We aren’t essentially arguing that FLNG will be capable to safe extra contracts from Qatar’s provide to Germany, options to Russia or the Chinese language, however that these elements will all contribute to extra demand for LNG. Extra demand means better use of LNG vessels.

Financials:

FLNG’s financials are reflective of our evaluation above. Income has grown at a CAGR of 68%, with internet revenue exceeding that between 2018 and LTM Nov22, at a charge of 107%. Profitability will proceed to extend disproportionately to prices as constitution charges enhance, as their price base is comparatively fastened. The most important prices above the road are vessel working bills, which incorporates personnel salaries.

Common Time Constitution Equal (“TCE”) charge of $75,941 per day for the third quarter 2022, in comparison with $70,707 per day for the second quarter 2022. This implies constitution charges proceed to materially enhance, exhibiting no drop attributable to financial weak point.

FLNG make the most of quite a few derivatives in an effort to hedge the affect of rates of interest on their mortgage ebook. Within the 9M Sept22 interval, a achieve of $75M was made (exceeding curiosity funds of $52M). This is a vital issue for buyers to think about as nearly all of FLNG’s debt is pegged to adjustments in rates of interest.

Free money movement has lastly turned optimistic, as giant capex funds have ceased. That is optimistic information for buyers, as a lot of their working money movement can now be utilized for dividends.

From a stability sheet perspective, we observe debt-to-equity rising considerably over the historic interval. FLNG has utilized varied debt services and sale-and-leasebacks in an effort to finance their vessels. Because the fleet measurement has elevated, additional debt has been obtained. Administration have been within the technique of re-financing their ships, the web affect has been money launched and lowered curiosity funds.

Though the web debt stability can look regarding, particularly when the corporate is paying the degrees of dividend it’s, we should bear in mind the character of the enterprise. With a powerful backlog and contractual preparations so far as 2027, income is pretty sure. Subsequently, the enterprise faces decrease dangers, as they will financially pay curiosity funds with hedging devices. The one dangers are with guaranteeing covenants are meant, that are listed beneath. At the moment all necessities are healthily maintained.

FLNG has the next capital commitments anticipated

FLNG has the next choices excellent:

These symbolize c.0.1% of excellent shares.

Outlook:

FLNG estimate that the price of a brand new construct ship is now $250M, with deliveries solely happening from 2027 onwards. This places FLNG in a unbelievable place to stay absolutely utilized till then (majority of contracts expiring round this date). Because of this, it isn’t out of the query that FLNG stays, at a minimal, this worthwhile for not less than the following 5 years. That is actually a singular trait within the enterprise world.

Dividends are presently yielding 9.1%. Our view is that that is sustainable going ahead, particularly as soon as all meant refinances are full.

General, the profitability profile and monetary place of the enterprise is superb. Margins are excessive and prices have been managed. This can guarantee continued robust dividend funds to buyers.

The enterprise has hedged its debt, eliminating a lot of the rate of interest threat on their floating publicity. This incorporates any liquidity threat and offers the potential for upside, as noticed.

Valuation:

FLNG is presently buying and selling at a 11.4x NTM EV/EBITDA and 10.7x NTM earnings. Between 2018-2022, NTM EV/EBITDA has averaged 10.2x. There are few comparable firms within the LNG market with a purely trendy fleet and so a relative valuation is troublesome to evaluate.

FLNG is actually buying and selling at a premium to the transport trade as an entire, however our evaluation above is the justification of this. Buyers contemplating FLNG ought to acknowledge that they don’t seem to be buying this inventory at a reduction, and to an extent are banking on a multiples enlargement with capital progress.

Draw back safety is available in the best way of sustainable dividend funds.

With a market cap of c.1.7BN, buyers ought to take into account volatility as an important threat. Investing in shares this measurement, and within the transport trade, is just not for the faint-hearted. Double-digits swings are common occurrences with little proof as to the rationale. We aren’t within the enterprise of timing the market and so can’t merely recommend ready once we nonetheless see worth on the desk. The inventory was up 33% in 2022, the yr the S&P closed down 20%. There isn’t a certainty of a correction coming.

Conclusion:

As a lot of this paper clearly displays, we’re very bullish on LNG. LNG appears to be the stop-gap vitality supply between oil/coal in the previous couple of many years and a totally inexperienced future.

FLNG is positioned nicely to profit from this, securing file excessive constitution charges and working a contemporary fleet. Vessel provide is sticky, which has led to a a number of yr backlog. This can imply sustainable progress in income, and dividends for buyers. Capital appreciation might come as deleveraging happens, or if dividend yields enhance.

The value for FLNG is steep, nonetheless. A poor 2023 might convey markets down, with FLNG following. Buyers have to be keen to bear the chance of this, with a watch absolutely on fundamentals. FLNG represents certainly one of our riskier funding proposals, which can be lowered considerably by a dollar-cost common method within the coming 6-12 months.