Ocean Wilsons Holdings — Hit by markets, valuation eye-catching

OCN reported a loss of $34.7m, mostly driven by weak and volatile financial markets during the first half of 2022. Despite OWIL containing market-neutral funds and private assets, the impact of these markets was hard to avoid. These losses were largely paper losses, and we note that markets have recovered some of the negative territory so far in the second half of 2022.

The OWIL portfolio declined by 14.1% (14.5% net of fees) during H122. Despite this drop, OWIL outperformed relevant equity indices such as the MSCI All Country World and Frontier Markets Index and MSCI Emerging Markets Index, which fell by 20.2% and 17.6% respectively. OWIL bases its internal absolute benchmark on the US Consumer Price Index for All Urban Consumers (not seasonally adjusted) plus 3% pa. In H122 the index rose by 7.7%. OWIL performance was helped by the private equity exposure and defensive assets

PORT3 hit by container terminal headwinds

PORT3’s contribution to OCN’s income was affected by container terminals facing continued headwinds including shortages of empty containers and global logistics bottlenecks. This has led to cancelled shipping lines especially affecting the Rio Grande terminal in Brazil. Another challenge has been rising costs, especially fuel prices, although PORT3’s good competitive position allowed it to mitigate this damage.

The offshore support vessels joint venture (WSUT) business (the third-biggest pro-forma EBITDA contributor to PORT3 and OCN after container terminals and towage) is doing better than expected (even after adjusting for the stronger US dollar) with a very positive trend of new vessel contracts and higher prices. These new contracts started to kick-in in H122 and will further boost results in the second half of 2022. The towage business has remained resilient with good margins, which is another positive. We note that the US dollar’s appreciation against the Brazilian real (which began in Q222 following the start of the war in Ukraine) did lead to adjustment on the real-denominated monetary assets and deferred tax assets, which affected the equity participation in the joint venture and Q2 net profit for the company.

All of this is reflected in Exhibit 1, which shows the progression in the recent semester with the caveat that the second half of a year is usually stronger for PORT3 while OWIL numbers are by nature more influenced by financial market conditions.

The PORT3 business is the main revenue and costs generator above the EBITDA line, while OWIL’s revenue and management costs are below this line. OCN’s revenue grew 12% y-o-y in H122, while EBITDA and operating profit grew 2% and 3%, respectively. This was helped by the stronger US dollar.

The OWIL portfolio losses of $48.9m led to OCN reporting a $9.7m loss after taxes. The taxes and minority interests are from PORT3; OWIL is fully owned by OCN.

PORT3’s container terminals (34% of EBITDA in H122) saw container volumes fall by 15% y-o-y in the first six months of 2022. Rio Grande was most affected by shipping line cancellations and full container volumes fell by 22% in that period, compared with only 7% in Salvador, Brazil. Revenue grew 6%, while the EBITDA margin remained relatively resilient at 53% (56% in FY21), given the cost pressures.

Towage (43% of EBITDA) revenue grew 10% y-o-y in H122 and EBITDA rose by 1%, while harbour manoeuvres fell only 1%. Towage results were affected not only by higher fuel and staff costs, but also by the weaker US dollar since towage revenue is mostly dollar based. Despite the dollar strength in Q222, the dollar still ended H122 down compared to the end of FY21. The reported EBITDA margin was 48%.

WSUT’s (16% of EBITDA) revenue rose by 39% y-o-y and was one of the highlights of H122, with EBITDA increasing by 62% y-o-y. Although oil and gas explorations remain at relatively low levels of activity, business is picking up and the improved operating days of offshore vessels and operation of pipe-laying support vessels boosted the results, especially in Q222. 

OCN’s discount to its look-through valuation is a hefty 50%. The look-through value consists of its 56.5% stake in listed PORT3 and the OWIL global investment portfolio. The discount has widened from 39% a year ago and the usual range of mid-30s to low-40s.

We do accept investor concerns that OCN’s relatively small market capitalisation and the fact that three shareholders, Hansa Investment Company, Victualia and Chris Townsend, in total own 50.21% of the company, reduce liquidity. Positively, this ownership position enables both OWIL and PORT3 to maintain their long-term approaches to investment and operating the businesses. We feel, however, that the discount seems quite wide. The value of OCN’s stake in PORT3 by itself is now 17% greater than OCN’s market cap, which is not only unusual, but seems unwarranted to us. We also note the 6% dividend yield.  

Most of OWIL’s investments are in liquid instruments that are marked to market. However, we have introduced a valuation range for PORT3. This is driven by our opinion that PORT3’s market valuation is unreasonably lower than its peers and that the shares seem to offer decent upside potential.

Exhibit 7 compares PORT3 with a selection of Brazilian and international port and shipping companies. PORT3 is trading on an historic FY21 EV/EBITDA discount of 27% and a 26% FY22e discount versus its peers, despite the sample including some China companies with share prices that have been hit particularly hard due to the China lockdowns.

Although PORT3 shares have significantly outperformed the peer group average (see Exhibit 8) over the year to date, PORT3’s market multiples are still noticeably lower. The ratings are lower than Santos Brasil, its closest peer, whose key asset is the container terminal in the Santos port in the Brazilian state of São Paulo and whose shares have performed relatively well this year. Both companies have relevant free floats, and both are trading in the Novo Mercado segment (which requires companies to adopt additional corporate governance standards) of the Brazilian stock exchange. PORT3 is the better diversified of these two companies and, in our opinion, it deserves to trade on ratios closer to those of Santos Brasil ((EV/EBITDA FY22 of 8.3x). PORT3 is trading on a P/E premium to its peers. Its profit was exceptionally affected by exchange variations of balance sheet items, but we note that its EPS growth is quicker and the premium narrows significantly.   

Given the current market conditions and its valuation versus its peers, we think that a FY22 EV/EBITDA multiple range of at least 7–8x is appropriate for PORT3 and, with potential for increases in share liquidity, could continue to improve. This would result in a valuation range for PORT3 equity of $964m to $1.2bn. This is equivalent to a PORT3 share price of BRL11.2 to BRL13.8, 23% to 51% above the current share price. The mid-point would be BRL12.5 per share.

Exhibit 9 also shows the impact on the OCN discount to its look-through value. The discount would increase from 50% to 59% (the mid-point of the range). The value of OCN’s stake in PORT3 by itself would increase from 20% above OCN’s current market value to a 65% premium.

Furthermore, although financial markets are hard to predict, we note that they recovered significantly during Q322, which is positive news for the OWIL portfolio.

We have increased our revenue forecasts by 1% and 4% for FY22e and FY23e while cutting our earnings forecasts. The earnings cuts in FY22e are mostly driven by financial markets assumptions and the margin pressure at PORT3 due to costs and the lower volumes in the container businesses. We expect PORT3’s operating environment (bottlenecks, China lockdowns and costs) to improve and we assume that financial markets will be better in FY23e, although we still see some pressure and risks in both.

We estimate OCN’s pro forma net debt to EBITDA ratio to be 2.7x in FY22e (2.9x in FY21) and this seems a reasonable level of debt in our opinion.

Exhibit 11 details our forecasts and assumptions for PORT3, which drive the revenue and operating costs for OCN. We have increased our pro forma (including the offshore vessels joint ventures) FY22 and FY23 revenue from $485m and $519m to $517m and $577m respectively. The revenue uplift is mostly due to offshore vessels (eg from $61m to $99m in FY23e) and logistics ($36m to $54m). FY22 and FY23 EBITDA was increased from $163m and $184m to $219m and $252m respectively. Offshore vessels again drive most of the upgrade from $21m and $23m to $45m and $54m respectively, reflecting the new contracts and better trading conditions.

Total revenue and EBITDA percentage growth is estimated in the teens for FY22e and FY23 with total pro forma EBITDA margins remaining good at PORT3 – at 42% and 44% for FY22 and FY23e, within the usual 40–44% range.

Although the financial markets have been recovering in Q322, they remain volatile, and the macroeconomic uncertainty remains elevated. Any assumption of returns in the OWIL portfolio is subject to a good degree of deviation.

We have assumed a 4% positive portfolio return for the second half of the year. We calculate this will take the FY22 performance to a 9.3% negative return for the full 12 months. We are then assuming a 7% return for FY23e. This means a $36.6m portfolio loss for FY22e and a $21.7m positive return for FY23e, excluding fees and investment income.

OCN’s reported earnings are quite sensitive to OWIL’s performance. If we were to flex our 7% base assumption by 5% (ie 12% and 2% portfolio returns), the impact on profit before tax would be about 13% in either direction for our FY23e forecasts, for example.

The investment management noted in its report that while ‘some comfort’ could be taken from the fact that shares had already fallen so much by the end of June, there is the risk of central banks engaging ‘in more aggressive policy measures in their battle against inflation’. It sees the outcome for the rest of the year as ‘very dependent on the path of inflation and interest rates, although continued volatility in markets seems likely, whatever happens’. The report also reminds readers that the OWIL portfolio is a mix of risk-on and risk-off assets as well as a blend of growth and value sectors.