Good day, and welcome to the Q4 2015 (sic) [ 2014 ] Ship Finance International Limited Earnings Conference Call. Today's conference is being recorded. At this time, I would like to turn the conference over to Ole Hjertaker. Please go ahead, sir.

Thank you, and welcome, everyone, to Ship Finance International end of fourth quarter conference call. With me here today, I also have our CFO, Harald Gurvin. 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 markets -- sorry, 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 an increased dividend of $0.42 per share, up from the $0.41 per share dividend in the previous quarter. The dividend represents $1.68 per share on an annualized basis or an 11% dividend yield based on closing price yesterday. And the company has not paid an aggregate of more than $18 per share since 2004. Reported net income for the quarter was $25 million or $0.27 per share, but if you adjust for nonrecurring and noncash items, the adjusted net income was approximately $0.39 per share. Aggregate charter revenues recorded in the quarter, including 100% owned subsidiaries accounted for as investment in associate was $169 million (sic) [$179 million]. The EBITDA equivalent cash flow in the third quarter was approximately $149 million and last 12 months, the EBITDA equivalent has been approximately $553 million, a 16% decrease year-over-year. In the fourth quarter, and including all 100% owned assets,…

Thank you, Ole. On this slide, we have shown our pro forma illustration of cash flows for the fourth quarter compared to the third 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 fourth quarter, total charter revenues before profit split and cash sweep were $162.6 million or $1.74, in line with the previous quarter. Revenues from VLCCs were slightly down in the quarter due to the sale of 3 older VLCCs, while revenues from Suezmaxes were up due to the stronger earnings on the 2 Suezmaxes trading in the spot market, one of which was out of service for 29 days during the quarter in connection with a special survey and major upgrade to improve earnings efficiency. Revenues for liners were up in the quarter due to delivery of the 2 first 8,700 TEU container newbuildings in end September and beginning of November 2014. Liner revenues are expected to increase further going forward following delivery of the 2 remaining container newbuildings in January 2015, which will have a full cash flow effect in the second quarter. Revenues from drybulk were also up in the quarter, mainly due to the full quarter of earnings for the Kamsarmax drybulk carriers acquired in the third quarter. The decrease in offshore revenues is due to a scheduled step down in rates of West Hercules in November, which will reduce revenues by approximately $6 million per quarter going forward. West Taurus will have a scheduled step down in the rate in the first quarter of 2015, which will reduce revenues by approximately $16 million per quarter going forward. It is important to note that the scheduled rate reductions are balanced by reduced interest and debt repayments on related financings.…

[Operator Instructions] We will now take our first question from Herman Hildan of Clarkson Platou Securities.

So my first question. I mean, you basically touched upon your market exposure, obviously, and offshore is looking a bit like shipping a few years back. And your comment on there were statements where an idea [ph] was replaced as a guarantor for Seadrill. Can you give some more color on that, why you did that and if that really -- I mean obviously, if you look at the numbers reported this morning of other companies, it seems like Seadrill is about your counterpart.

Well, that was really a request from Seadrill and North Atlantic, where they requested that Seadrill was stepping as charter guarantor. I understand they've also done this on the different loans they have in the North Atlantic Drilling. Of course, we've obviously seen a strengthening of the credit, as Seadrill is a more substantial counterpart than the North Atlantic Drilling.

Yes, obviously, that makes a lot of sense. Also recently, we've seen some contract terminations by Petrobras and Saudi Aramco, PEMEX, et cetera. Have you been approached by any of your counterparties to discuss the charter terms for your offshore exposure?

No, we are not. I mean, of course, we are in continuous dialogue with the different charters, but we have not received any requests to amend charter rate or terms for any of the assets in the offshore space.

And kind of in light of what's happening in the offshore space, obviously, it should be creating a lot of growth opportunities. But if I quote your comment direct from the reported, it sounds like your focus near term is more on the shipping side in terms of growth rather than on the offshore side. Could you give some more color on that as well? And also if there's any change in terms, whether you see that yield potential increase your growth, in light of the challenges that the market is facing.

Yes. Absolutely. We are -- as you know, we have a significant portfolio of offshore assets, but right now, we are focusing more on the other segments. And I would say particularly, container is interesting now. We're also looking at the tanker opportunities and actually also bulker, despite the bulker market being relatively weak. Our mindset is that when we are high up in the cycle, we will structure a deal very differently than if we feel that we are low in the cycle, where there could be more upside opportunities. With respect to the offshore segment, specifically, I think that could present -- a lot of opportunities could present itself there. But it's a bit early for us. We think that there will still be a lot of noise in that market, and I think there is no rush to go out and do deals there in what we see at least currently as a market that is still hasn't -- what do we say, that is still in a downward declining curve. So we are, therefore, a bit careful in that segment, but of course, we look at opportunities. I would think generally, if you look at the competitive landscape, what we have seen over the last, I would say at least over the last 6 months is that some of the players who were very active up until 0.5 year ago or so are not there anymore. And this is particularly the bond market, which to a certain degree was a competitor for us in some segments, particularly when you look at companies who look at doing sort of, say, leaseback deals as a more of a cost of capital arbitrage. So with the bond market effectively more or less closed for shipping companies and also many…

And to my second question in terms of "deal yields." Do you see pricing on potential deals going up or returns going up as a result? What's happening or do you kind of still see the same returns?

No, we see deals. I will say also as a consequence of both the bond market being virtually dead for the shipping and offshore space currently and with some of the capital that sort of came in, and we're very actively investing in the shipping space some time ago, that was -- that contributed to bring down the yields in the segment. We now see the opposite effect where we see better yields or, I would say, you get more bang for the bucks. So because a yield is only one part of the equation. You have to match that with implied risk in the deal. And notice, when you look at project returns, the easiest way to cheat on returns is to be over optimistic on the residual value. So we tried to be careful as well -- there as well and hopefully, invest wise over the cycles. But we have a very cyclical view, and we try to put money to work when we see more upside than downside, both in residuals, but also in terms of counterparties.

That sounds like a good strategy. A final question. Also there's been some talk about lenders, traditional lenders being more muted. Do you see any signs of that from where you stand?

I would say -- for us, I would say it's the opposite. We have new banks approaching us. I think it's a twofold. If you come with a standalone type project, you will probably have a challenge sourcing capital. But Ship Finance now with its 11 year history, excellent performance in the banking market, went through, call it, the perfect storm in 2009 in the financial markets, the -- call it, the sharp downturn in the tanker market 2011 without any issues on the banking side. It means that the banks trust us. So if anything, we see margins coming down and bank appetite go up at the moment.

We will now take our next question from Fotis Giannakoulis of Morgan Stanley.

I want to ask about the opportunities to deploy capital. You mentioned about the container ships, you have over $200 million of capital, of liquidity right now, part of it is equity that was released from the sale of a drillship. What are these opportunities? What kind of deals in the container ship space are you looking? Today, we saw the announcement of potential acquisition from Navillus partners long-term transaction. Can you give us a little bit more color?

Absolutely. I would say in the container space, our main focus is on the bigger container ships, sort of 9,000-plus container ships and preferably, assets built now. Because there has been a technology change in the container space. And for the container lines, who, what could we say, structurally is very similar to the airline industry. It's all about the slot cost, as cost per produced seat for airlines. So that's why the focus is on the newer, bigger units where they have economy of scale. So you have a lot of focus on the 18,000 to 20,000 TEU type vessels, 40 meter length, 59 meter beam, but you also have focus on the 9,000 to 11,000, which is basically 48 meter beam, but 300 or 330 meter length, but relatively similar type of vessels. And everything below 9,000, typically, the liner companies communicate that they see a lot of volume in the, what could we say, and availability in the short-term charter market and, therefore, not so focused on -- or they don't see the requirement to do long-term charters to do those kind of deals. But of course, we are opportunistic. Last year, we acquired 9 container ships out of the German market. These were container ships acquired at a very high price. The KGs who own them went into insolvency, we picked them up. Some of the vessels we bought practically at scrap value and then we charted them out for 5 to 6 years, where we have a structure where if they were only worth scrap value at the end of the charter, it's a great deal for us. And if there is more in the residual layer, it's a phenomenal deal. So it's all about being we'll be focused on the bigger vessels, but of course, we wouldn't close our eyes on opportunities for other vessels if the economics are good. But I think that we are very careful with the residual value assumptions for container ships because of the technological change that has taken place in that segment, which is, what we can say, more profound in that segment compared to many other segments.

Okay. And can you give us an idea of what kind of yields as you mentioned, the vessel after the charter, especially after the long-term charter, runs the risk of becoming obsolete. So I assume, as we said, you want to amortize the investment, but after this amortization of the debt or your investment, what kind of cash on cash yield are you expecting from these deals, and how do these yields compare with a cash flow that was generated by the West Polaris that was recently sold?

Yes, we think, without being too specific, because it's all from a deal-to-deal related, it has to do with the counterparty and the kind of sort of risk assessment, the quantification we do when we do the deal. Some counterparties are easier to source finance for at very attractive terms and others you have to structure the capital differently. So it's a bit of comparing apples and pears. But I would just note that on the West Polaris, the rig that was an residual part of the purchase option, that was the rig where we probably had the lowest cash yield. If you know on elaborate basis among those rigs. So I'm very confident that we will be able to invest the capital there at a higher yield than we had for the West Polaris. But I'm hesitant to be too specific because it's all down to trying to do the right deals, and of course, we are greedy and we try to grab as much as we can, and hopefully over time, that will build the distribution capacity further.

One more about the other 2 sectors that you briefly touched earlier in your presentation, you said that you might be looking at acquisitions even for drybulk or tankers. These are 2 sectors that are mainly sport-oriented. And we haven't seen so many long-term charters like the ones that you have in your Panama fleet. How would you approach these kinds of acquisitions? And given the different state of these 2 different markets, the drybulk is really suffering right now. The tanker market is performing very well. Where do you think there are more opportunities between these 2 sectors?

You are absolutely correct. Both are very volatile segments, as we've seen over the last few years. So in both those segments, it's very important to deal with the right counterparties. What we've seen, and if you look at it more structurally, we've seen that particularly in the drybulk segment, we have seen more counterparty issues. If you look at it over time, in the segment as a whole, there are more counterparty issue on the dry side than there is on the tanker side. Maybe that has to do with the relatively lower threshold to become a player in the drybulk segment, where you basically only need to buy a vessel and you can go out and charter it in the market. On the tanker side, you have that thing and you have more, call it, system requirements to trade the vessels. And also the value of the cargo relative to, call it, the transportation cost is much, much higher on the tanker side, even after the drop in oil price than it is for on the drybulk side. So we've seen very few counterparty defaults even in weak markets on the tanker side compared to the dry side. But of course, we can look at the dry side if we have the right counterparty because -- but then of course, we have to be careful so we deal with the people we believe can withstand the volatility in the market. Because we have to face it, when we charter out any vessel or rig for a long-term charter, be it a 5, 10 or even longer charter, we have to assume that our counterparty and the market they're in will go through several cycles in that period. So we just have to be careful so we deal with the companies who can manage that and have the strength and the resources to also pull through the low ends of those cycles. And of course, in the dry side now, we'll be seeing values coming down, which makes it may be interesting to -- from a value perspective to invest and maybe do shorter charters compared to doing very long charters because there could be more upside in the residual value from where we are.

So practically, that means that you are also looking for deals with charters. It's not that you might be tempted in buying some very cheap drybulk vessels given the current turmoil.

Well, our business model is not to sort of charter vessels on short-term basis. We have some Handysize bulkers who have been redelivered from the charters that we are employing in the short-term market simply because we feel that it's too early to lock them in on long-term charters. We want to wait until the market hopefully recovers. But that said, we have in the past acquired vessels and then fixed long-term charters on these assets afterwards with -- sometimes, with very great success. So one example, was the 9,000 TEU container ships, or 8,700 TEU to be precise, that we ordered in 2013 and that we later charted out to Hamburg Süd, and it will generate a very nice return for us. So we are -- if you look at it on a portfolio perspective, most of our assets are in long-term charters and then we have a small percentage that we are employing in the shorter-term market, and also from time-to-time, we do invest selectively, but again on a very small scale, in assets where we think there are opportunities to fix longer-term charters when markets come up.

We will now take the next question from Marcelo Brisac of Armory Investments.

I had a few questions about West Polaris. I hope I'm not making you guys repeat yourself. I know gave you a lot of numbers. I try to keep up with them all, but maybe I missed something so I apologize if I'm asking just to repeat information. Just to start, you mentioned that the impact of the sale would be $16 million per quarter in terms of revenue, but only $3 million per quarter in terms of distribution impact. When you say distribution, are you talking about net income or cash flow?

That's the net cash flow.

Net cash flow, okay.

Based on the financing that was in place at the time of the sale.

Okay. So really West Polaris was generating like $12 million per year in cash flow and you received nearly $111 million for that, so it's really -- Seadrill is buying it at less than 10% return on equity, I guess, right?

No, but it's really we owned the asset and we have the financing and they bought the subsidiary including the financing. So the deal was really structured back in 2008 and then we had either arrange a new financing in 2013, which gave us some additional liquidity then, but it's really off the 3 rigs, this was the one that had the worst net cash flow per quarter.

Less than 10% seems pretty low. And just frankly, you also -- so you're not going take any debt out of your balance sheet because it was all within the subsidiary, right, that was not consolidated?

Yes, that was in the investment in associates. So that wasn't in our consolidated debt.

Okay. So that's not coming out of the balance sheet. And you said you're going to still guarantee part of that debt and I assume that's going to remain off balance sheet. But how big is the guarantee you're going to give into that?

It was $94 million at the time when the deal was done in December, but end of January, it came down to $88 million, which is -- we reduced it by $6 million per annum. But of course, we had a full indemnity from Seadrill in case there are any gold [ph] under this guarantee.

We will now take our next question from John Reardon of Merriman Capital.

Just an observation. It's kind of funny. A couple of years ago, the big fear as far as Ship Finance goes was the Frontline situation. Now Frontline is good. And back then, the drilling-related, that was the good stuff, now that's where the big fear is. And it sounds to me like you've got the situation well in hand. But getting back to Frontline, I see the clawback is going to pay you a rather significant amount of money coming up in a couple of weeks. And I was wondering if you could share with us what your plans might be for that. Could we be looking at just putting it up on the shelf for future use or perhaps a special one-time dividend or maybe repurchase some stock, which seems to be at pretty depressed levels relative to your earnings, EBITDA and dividend? Anyway just some thoughts.

Thank you. You are correct. There is around $33 million Frontline will pay us in a couple of weeks. Historically, when we have received profit split and cash sweeps, we have not paid that out, that sort of special dividends. It's all gone into, what can we say, our balance sheet and with our ambition to reinvest. So our ambition is to reinvest that capital. But it's, of course, difficult to air market to something very specific. So I cannot really comment more than it will continue -- it will strengthen our balance sheet and investment capacity. And I think, actually right now, it's probably a good time to have investment capacity. Because for a lot of shipping companies, you cannot really access the equity market, that's difficult to access for many shipping companies and also with the bond market, not being very active, particularly the Scandinavian bond market is virtually dead, where several companies have common raised capital. It means that there is a more interesting playing field for us. So hopefully, we'll be able to reinvest it at an accretive rate. And hopefully, we will also be able to continue increasing the distribution going forward.

Just as one follow-up. The German banks have kind of been playing extend and pretend with some of their shipping-related loans, mainly in the container area. And I was wondering now that their regulators seem to be putting a little pressure on them to clean up their balance sheets, are you seeing any opportunities coming from some of the German banking paper in the shipping world?

Well, frankly, I was told [ph] in '09 when I thought there will be a lot of opportunities coming out of the German market because it was so obvious, as you point out that there was a mismatch between leverage on some of those project and, call it, underlying values. Unfortunately, I was wrong. It hasn't been a big value coming out of the German market. But last year, we picked up 9 container ships, 4 -- sorry, seven 4,100 TEU container ships and two 5,800 TEU container ships, which is basically out of structures like that, where we turned around and fix them out and we got them at a very low price, and it's a very nice deal for us. But again, from a total investment perspective, when you look at our $4 billion capital base, it's a small piece. There've been a lot of initiatives out there, where they have a lot of, call it, very creative structures really designed to ensure that the banks won't have to take a hit. But that's the issue when you have a strong balance sheet, who's going to pick up the bill in the end. So we are -- we try to invest carefully. We try to do deals that are not only giving a strong yield the first 1 or 2 or 3 years, but will give a good return over time. And I think also having a large shareholder in Mr. John Fredriksen, who's known as a very -- the world's biggest dealmaker in shipping perhaps over the years, he is -- I would say that he is -- that's really the main focus when we have discussions with him, it's all about counterparty risk and it's all about residuals. So we try to invest conservatively and we try to get decent returns. Good risk-adjusted return on our investment is probably the best way to phrase it.

And we will now take our next question from Ceki Medina of Southpaw Asset Management.

First, on Horizon Lines, I heard you mentioned profit of $7 million. I'm calculating $47 million. Maybe I misheard, so I just wanted to make sure that's the right number.

Yes, we haven't quantified anything relating to -- you mean the notes and the warrants?

Correct.

Yes, yes. No, I think I said that there is -- depending on the time when the deal closes, and this is impending regulatory approval of a sale of the Hawaii assets in Horizon Lines, but depending on where it closes, the aggregate value of the notes and the warrants, and the price for the warrants will be $0.72 per share, will be in the region of close to $70 million, we believe. High 60s, close to 70, yes. We have recorded them -- these notes had only 40% of face value. So yes, hopefully, there should be a good value there.

Right, so I was going to mention the $70 million coming in, in addition to the many items you counted with respect to the cash balance you have. So I'm wondering how you are investing the cash in the meanwhile, before you use it for an actual investment. You mentioned first-lien loans. I mean, there is the dividend drag, if you will, on the equities, 11%. And so I was wondering how you are making use of the cash as you sit on it?

Yes, yes. I think the main way we manage liquidity is to reduce drawn amounts on typically revolving credits because that's where we see a better, call it, use of the cash if we have ambitions to invest it. We have also invested, but that's a relatively small amount, also some bonds, typically first lien type bonds, but again, on a relatively small scale. So we have tried to avoid having a lot of cash sitting on the balance sheet because as you know, the interest rates on your bank account, your cash bank account is relatively low as we see it now.

Yes. Okay. Two more quick questions. What is the amortization schedule of the Frontline bonds? You have a decent balance there as well, I see. And the second one is, the day rate on the Suezmaxes for the fourth quarter, you mentioned low 30,000s, and I'm seeing from Frontline, theirs got 43,000, can you explain the difference.

Well, the vessels -- first of all, one of our vessels was drydock in the fourth quarter, which means that you have also positioning and repositioning voyages in and out of the drydock. It was out of the drydock for a month, but if you look at -- we have our 2 Suezmaxes in a pool with 2 Suezmaxes owned by Frontline 2012. But in addition, Frontline 2012 also have some vessels on charter. So it's really -- I cannot really comment much on Frontline. You really have to ask them about the exact details of those sub-charters. But we only look at the actuals that we bring in. Also when we talk about this, we talk about this on a time charter-equivalent basis, so we don't include -- so the gross charter rate is, of course, significantly higher, but we have to deduct voyage expenses, including bunkers, et cetera. So we are talking about the net number.

Got it. And the amortization schedule of the Frontline bonds, on a year-by-year basis maybe? So in 2015, how much of the -- maybe in 2016, how much of those are going to amortize?

The way they're structured is that the payment sort of follow the whole charters with a reduced payment in 2015 and then increasing going out. So if you look at 2015, the amortization is around $2 million per quarter, increasing slightly in the fourth quarter. And then going forward into '16, it's around $4 million per quarter in total amortization. That's just amortization and then, of course, you earn interest on this also. The payments from Frontline are higher, of course.

[Operator Instructions] We will now take a question from George Burmann of JP Turner & Company. It appears that he has stepped away. There are no further questions in the phone queue at this time.

Okay. Then I would like to thank everyone for participating in our fourth quarter conference call. And if you have any follow-up questions, there are contact details in the press release. Thank you very much.

Thank you. That will conclude today's conference call. Thank you for your participation. Ladies and gentlemen, you may now disconnect.