Ole Hjertaker - CEO Harald Gurvin - CFO

Good day and welcome to the Ship Finance International Limited Q1 2016 Earnings Conference Call. Today’s conference is being recorded. At this time, I would like to turn the conference over to Mr. Ole Hjertaker, CEO. Please go ahead, sir.

Thank you, and welcome everyone to Ship Finance International and our first quarter conference call. With me here today, I have our CFO, Harald Gurvin and also our Senior Vice President, André Reppen. Before we begin our presentation, I would like to note that this conference call will contain forward-looking statements within the meaning of the U.S. Private Securities Litigation Reform Act of 1995. Words such as expects, anticipates, intends, estimates, or similar expressions are intended to identify these forward-looking statements. These statements are based on our current plans and expectations, and involve risks and uncertainties that could cause future activities and results of operations to be materially different from those set forth in the forward-looking statements. Important factors that could cause actual results to differ include conditions in the shipping, offshore and credit markets. For further information, please refer to Ship Finance’s reports and filings with the Securities and Exchange Commission. The Board has declared a quarterly dividend of $0.45 per share. This dividend represents $1.80 per share on an annualized basis or 11.5% dividend yield based on closing price of $15.70 on Friday, with a 5% growth in dividend year-over-year. This is the 49th consecutive dividend and we have declared nearly $1.7 billion in dividends since 2004 or more than $21 per share. EBITDA and net income adjusted for one-off items is in line with the previous quarter. Aggregate charter revenues recorded in the quarter including 100% owned subsidiaries accounted for as investment in associates was $174 million, and the EBITDA equivalent cash flow in the first quarter was approximately $139 million. Last 12 months, the EBITDA equivalent has been $542 million. The reported net income for the quarter was $47 million or $0.50 per share. This is after more than $10 million of non-cash mark-to-market of interest rate swaps and other non-cash items. Profit share contribution in the quarter was nearly $25 million, mainly from the Frontline vessels, but also some profits relating to some of our Handysize bulkers. And the distribution of charter revenues per segment is changing with a continuing rebalancing from offshore container and dry bulk vessels. In the fourth quarter, 33% of revenues was from the offshore segment, down from 44% one year ago and 48% a year before that. And with the delivery of the new container vessels, we expect the relative share from this segment to increase going forward. We have now taken delivery of all three container vessels to Maersk Line. The last vessel was delivered two weeks ago and all vessels are performing well. The charter period is five years fixed plus two optional years. And net of financing, the remaining CapEx for the last vessel was $12 million at quarter-end. We estimate average EBITDA from these vessels to more than $32 million per year after delivery with full cash flow effect from the third quarter this year. We have also agreed to acquire two large 19,200 TEU container vessels, which scheduled delivery in late 2016 and early 2017. This is in combination with long-term bareboat charters to Mediterranean Shipping Company or MSC, the world’s second largest container line. We estimate average EBITDA from these vessels to $31 million per year after delivery, and the financing is by way of a finance lease matching the term of the charter. The financing is without recourse to Ship Finance, and the remaining net CapEx was $30 million at quarter end or $15 million per vessel payable on delivery. We have also agreed to the acquisition of two large 114,000 deadweight ton product tankers also called LR2 type, with delivery scheduled for second half 2017. The vessels are under construction at the shipyard in Korea and have been chartered out on time charter basis for a period of 7 to 12 years to Phillips 66, a U.S. based investment grade energy manufacturing and logistics company. The exact period will be set later this year, but the minimum period represents a backlog of approximately $113 million. The aggregate annual EBITDA contribution from the vessels is estimated to approximately $11 million per year on average. The aggregate yard contract price is approximately $109 million, and we will arrange financing in due course. Given the financial strength of our charterer, and experience from other recent financings, we believe this deal will be easy to finance, and we have already received interest from several financing institutions. We plan to arrange long-term financing in due course and well before delivery. In February, we redeemed the remainder of the $125 million convertible note issued in 2011. We had an option to settle the note in newly issued shares, but we elected to pay cash to avoid dilution for our shareholders. Over the five-year period, we have paid 3.75% coupon on these notes. So, compared to alternative sources of capital, like normal unsecured high yield notes or equity, this has been a very cost efficient instrument for us. And similar to our other convertible notes with maturity in 2018, we have the option to settle in cash or shares at maturity, and having optionality is always a good thing. We chose to settle in cash as we view that as less dilutive for our shareholders than settling in newly issued shares. Divesting of older vessels is part of the Company’s strategy to renew and diversify the fleet, and we have recently sold two older vessels. In the first quarter, we sold and delivered the 1999-built offshore support vessel Sea Bear to an unrelated third party. As part of the compensation for terminating the charter, we received $14.6 million amortizing senior unsecured notes from Deep Sea Supply, essentially similar to the type of notes we previously had from Frontline. We booked an impairment relating to this sale already in 2015. So, there was no book effect this quarter. We have also agreed to sell the 18-year old VLCC Front Vanguard with delivery estimated at the end of the second quarter. Net proceeds from the sale will be approximately $24 million, including approximately $0.4 million compensation from Frontline for the termination of the charter. The vessel will be used for a storage project and will therefore exit trading in the spot market, effectively reducing capacity in the market, and we do not expect the material booked effect from this sale. After the sale of the Front Vanguard later in June, we will be down to 11 VLCCs and two Suezmaxes remaining on charter to a subsidiary of Frontline. This is down from nearly 50 vessels at the peak in 2004. The profit share arrangement gives us interesting leverage to the tanker market and kicks in at relatively low levels compared to the previous structure. And last year, we changed the profit split calculation basis from annual to quarterly basis. And as you can see on the right side of this slide, the actual charter revenues were double the backlog for the quarter, illustrating the upside potential from profit split arrangements and spot trading vessels. The forward market as illustrated by the TD3 forward rates currently quoted at approximately $35,000 per day for the third and fourth quarter of 2016 is well below the first and second quarter levels, but still at levels that would generate significant profit split for us. At this level, the net contribution per share from the crude oil tankers would be above $0.20 per share per quarter. But there is upside potential here and if the guiding from Frontline for second quarter VLCCs spot earnings at $52,000 per day for 83% a vessel day should materialize, also for the remainder of the quarter, we would be far to the right side of the graph. And in addition, we also have the dividend potential from our 11 million Frontline shares with a dividend payout of $4.4 million in the second quarter alone, based on the $0.40 dividend announced today. And in addition to the Frontline vessels, we also have exposure to the crude oil tanker market through two modern Suezmax tankers, which are traded in a pool with sister vessels owned by Frontline. For these vessels, the average charter rate in the first quarter was approximately $37,600 per trading day compared to our breakeven level of approximately $17,000 per day after interest and amortization for the vessels. Over the next year and a half, we have covered nearly three quarters of the vessel days with a combination of fixed rate charters and profit split, which will create a buffer even if market softens, and we will still participate in the upside if market strengthens. In light of the weak charter market for drilling rigs, we have the last few quarters discussed our drilling exposure on an asset-by-asset basis. In 2008, we acquired West Taurus and West Hercules at a cost price of more than $850 million per rig, and we financed them with $700 million in the bank market. These deals were all on the back of strong sub charters for the rigs and we structured it with front heavy charter payments. We have also limited the corporate guarantees for these loans. Now, we have amortized more than 50% of the loans and Seadrill is currently enjoying significantly lower charter rates on the rigs compared to where we started. The average payable charter rates for these two deepwater units is now below our $150,000 per day on average, which is only 40% of the initial charter rate. One of the rigs is the harsh environment rig West Hercules, which was upgraded for a very substantial amount in connection with the cool winterization for Arctic operations a few years ago. The rig has been operating for Statoil in Canada until recently and is now marketed for new contracts, while the other semi-submersible rig, the West Taurus is temporarily in layup in Spain. Seadrill has recently announced that they are in the dialogue with the banks and other stakeholders in order to negotiate a broader package of measures to improve liquidity and bridge them through a recovery in the market. This is expected to take some time to complete and the guide towards the end of the year. We cannot comment on this process but what we can say is that Seadrill has never missed the charter hire payment and is continuing to pay us the full agreed charter rate. And we continue our steep [ph] for scheduled repayment profile on the loans. The harsh environment jackup drilling rig West Linus has a sub-charter to ConocoPhillips at the rate of $330,000 per day until 2019. And there is no termination rights for ConocoPhillips in that charter as long as the rig performs on the charter. And during this charter, the debt will be reduced from $475 million initially to $237.5 million after only five years. Thereafter, we will still have 10 years remaining charter to Seadrill but then at a significantly lower rate, giving Seadrill a comfortably low breakeven rate. We also have a jackup drilling rig on charter to Indonesia based Apexindo. This is a 375-foot jackup drilling rig built in 2007 in Singapore. Last year, we were advised that our charter had some financial difficulties partly as a consequence of the weak drilling market in the region. The charter runs until February 2018 but as we mentioned in the last quarter’s presentation, we did not receive full charter hire in the fourth quarter of 2015 and the same happened in the first quarter of 2016 with only partial payment. So far in the second quarter, we’ve not received any hire. We’ve had extensive dialogue with the customer over a long period and we are evaluating our alternatives given the situation. In our accounts, we have only recognized hire actually received and we have also excluded the remaining charter from our backlog figure, to be conservative. The loan balance we have on this rig is limited to only $25 million. The graph on this page is illustrating the initial leverage when we acquired these rigs and demonstrates the rapid delevering we have always built into our drilling rig financings. Aggregate loan balance for all four rigs is now below a $1 billion, less than 50% of the additional amount. We have $4.2 billion fixed rate order backlog after our recent acquisitions. And with the rebalancing of the portfolio, the container segment now stands at nearly $1.1 billion. The estimated EBITDA equivalent backlog is more than $3.4 billion or around $36 per share. Most of our vessels are chartered out on a long term basis and we have nine years weighted average charter coverage on our fleet with a relatively similar charter coverage in all our segments. Full details on a vessel-by-vessel basis and including the new Frontline lease structure is available by contacting us via our webpage under the contract heading. The numbers in the charter backlog do not include any contribution from the various profit split arrangements nor do they include cash flows from the two Suezmax vessels operated in the pool arrangement with Frontline and the nine container vessels and bulkers in the spot market. We have also excluded the jackup drilling rig, Soehanah, as we mentioned to be conservative. As the backlog is based on fixed rate charters only, we have not included revenues from any vessels after the end of the current charter period. And we not only have a diversified fleet but also diversified customer base with 17 chartering counterparties as of today in total. If you then switch to our performance last 12 months, the normalized contribution from our projects including vessels accounted for as investment in associates and the EBITDA, which we define as charter hire plus profit share less operating expenses, and general and administrative expenses was $542 million over the 12-month period. Net interest was $95 million or approximately $1 per share. And our normalized ordinary debt installments, relating to the Company’s projects was around $180 million or nearly $2 per share. This is excluding prepayments relating to sale of older assets. Net contribution after this is $264 million or $2.82 per share in the last 12 months. For the same period, we have declared dividends of $1.79 per share or $167 million in aggregate, which is well below our historic average payout ratio of approximately 70% to 75% since 2004. And with that, I will give the word over to our CFO, Harald Gurvin, who will take us through the numbers for the first quarter.

Thank you, Ole. On this slide, we have shown our pro forma illustration of cash flows for the first quarter compared to the fourth quarter. Please note that this is only a guideline to assess the Company’s performance and is not in accordance with U.S. GAAP. For the first quarter, total charter revenues before profit share were $146 million or $1.56 per share, in line with the previous quarter. Revenues from Suezmaxes were slightly down in the first quarter due to the sale of two vessels on charter to Frontline in the fourth quarter, partially offset by increased earnings on the two Suezmaxes trading in the spot market. Revenues for liners were up in the quarter, following delivery of two of the vessels to Maersk in November and February. The third and final vessel was delivered in May, and we will accrue the earnings effect from the vessels in the third quarter. Revenues from drybulk and offshore were slightly down due to lower earnings on the dry bulk carriers trading in the short-term markets and reduced charter hire received under jackup drilling rig, Soehanah, during the quarter. Total operating expenses were up in the quarter, mainly due to delivery of the two newbuilding container vessels in November and February, and dry bulk expenses of $2 million in the first quarter, partly offset by the sale of two older Suezmaxes in the fourth quarter. We recorded a profit share of $24.7 million under the 50% profit share agreement with Frontline, up from $20.6 million in the previous quarter. We also recorded a profit share of approximately $200,000 relating to some of the Handysize drybulk carriers. Revenues from financial investments were down in the quarter, mainly due to the redemption of the $140 million outstanding Frontline notes in end December and low interest booked on interest bearing securities, partly offset by $1.1 million increased dividend received on our shareholding in Frontline and the interest on the $14.6 million amortizing notes issued by Deep Sea in end February in connection with the sale of the Sea Bear. So overall, this summarizes to an EBITDA of $140 million for the quarter or $1.49 per share, slightly down from $142 million in the previous quarter. We then move on to the profit and loss statement, as reported under U.S. GAAP. As we have described in previous earnings calls, our accounting statements are slightly different than those of a traditional shipping company. As our business strategy focuses on long-term charter contracts, a large part of our activities are classified as capital leasing. As a result, a significant portion of our charter revenues are excluded from U.S. GAAP operating revenues, and instead booked as revenues classified as repayment of investment in finance leases, results in associates and long-term investments, and the interest income from associates. If you wish to gain more understanding of our accounts, we would also this quarter, publish a separate webcast, which explains the finance lease accounting and investment in associates in more detail. This webcast can be viewed on our website, shipfinance.bm under Investor Relations and Webcast. Overall for the quarter, we reported total operating revenues according to U.S. GAAP of $118 million, which includes the profit share from Frontline. Total operating expenses were $60 million, resulting in an operating income of $57 million for the quarter. Interest income, the other was down in the quarter, primarily due to redemption of Frontline notes in December. We also recorded a negative non-cash mark-to-market of derivatives of $7.1 million during the quarter and $2.9 million non-cash amortization of deferred charges. So, overall and according to U.S. GAAP, the Company reported net income of $46.8 million or $0.50 per share. Adjusted for one-off and non-cash items, the result was $57 million or $0.61 per share. Moving on to the balance sheet, we showed $84 million of consolidated cash at the end of the quarter, excluding amounts freely available for drawdown under revolving facilities. Available for sale securities of $114 million include investments in senior secured bonds with a fair value of $22 million at quarter end and also 11 million shares in Frontline. In February, we redeemed outstanding under $125 million senior unsecured convertible notes from our available liquidity, and the Company has no other debt maturities until the fourth quarter of 2017. Stockholders’ equity was approximately $1.15 billion, giving a book equity ratio of 40% at the end of the quarter. Then looking at our liquidity and financing status, the Company had total available liquidity of approximately $262 million at the end of the quarter, which includes $84 million in cash and approximately 177 million freely available on revolving credit lines. We also have the $22 million in tradable senior secured loans at quarter end and 11 million shares in Frontline with a market value of approximately $88 million based on the closing share price on May 27th. On the debt side, we had approximately $1.6 billion of consolidated interest bearing debt outstanding at quarter end, which includes approximately $1.1 billion in bank loans and $510 million in senior unsecured notes. In addition, our 100% owned subsidiaries accounted for as investment in associates at approximately $960 million in bank loans at quarter end. The debt in these subsidiaries is not included in the consolidated accounts, but included in the graph on this slide. Following the redemption of the $125 million convertible notes in February, the Company has no other bank or bond maturities until the fourth quarter of 2017, while we continue our scheduled debt amortization of close to $50 million per quarter. We are in compliance with all financial covenants under a loan agreement at quarter end. And it is worth noting that Ship Finance has been in full compliance with all financial covenants for each of the 49 quarters since the Company was established, which gives us a very strong standing in the banking market. Moving on to the CapEx, we had five newbuildings under construction at quarter end. All the vessels have been chartered out on long-term charters to strong counterparts. The final of the three 9,000 TEU newbuilding container vessels chartered to Maersk was delivered in the second quarter. The net remaining payment on delivery was limited to $12 million following drawdown of the $70 million bank financing on the vessel. We have also entered into agreements for two large container vessels with expected delivery in late 2016 and early 2017. The vessels will be financed through a 15-year financial lease agreement matching the charter to MSC. The financing is non-recourse to Ship Finance and the net remaining CapEx is limited to $15 million per vessel upon delivery. In December, we announced the contracts of newbuilding product tankers at a shipyard in Korea. We scheduled delivery during the second half of 2017. The remaining CapEx before financing is approximately $49 million per vessel. As Ole mentioned, we have not yet arranged financing, but given the strength of our charterer and our strong standing in the bank market, we expect to secure a competitive financing well before delivery and have already received interest from several financing institutions. Then to summarize: The Board has declared a quarterly cash dividend of $0.45 per share for the quarter. This represents a dividend yield of 11.5% based on the closing share price as of May 27th. Net income for the quarter was $47 million or $0.50 per share. Adjusted for one off and non-cash items, the results were $0.61 per share. We had a continued strong profit share contribution from the tankers and charters to Frontline and also received a dividend of $3.85 million on our shareholding in Frontline in the quarter. The dividend will increase to $4.4 million in the second quarter. The fleet renewal continues with the sale of two older vessels and delivery of the two remaining newbuilding container vessels with long-term charters to Maersk. We have a strong liquidity position and limited remaining CapEx. And with that, I give the word back to the operator who will open the line for any questions.

Thank you. Then, I would like to thank everyone for participating in our first quarter conference call. And if you have any follow-up questions, there are contact details in the press release or you can get in touch with us through the contact pages on our webpage, shipfinance.bm. Thank you and have a nice day.

Thank you for your participation. Ladies and gentlemen, that will conclude today’s conference call. You may now disconnect.