FSL – OCBC

Reinvestment Scheme results

Distribution Reinvestment Scheme (DRS) results. FSL Trust (FSLT) announced that unitholders holding around 155.5m units or 30.9% of the total number of issued units have elected to receive 1Q distributions in the form of units. FSLT has issued about 15.6m units, increasing the total outstanding unit base to around 518.7m units. The manager said that this level of participation was stronger than expected.

Prepaying loans. Proceeds (or retained cash) from the DRS amount to US$3.8m, have been earmarked for voluntary debt repayment. Recall that FSLT had already retained US$4.6m or 27% of 1Q cash earnings, of which US$4m was used to repay debt (also voluntary). In aggregate, FSLT will prepay US$7.8m, or roughly 46% of 1Q cash earnings and 1.5% of total loans. Using 1Q data, its gearing post-prepayment comes to around 1.37x debt-to-equity. Retained cash in 2Q09 will again be used to prepay loans.

Implications for LTV. Loan-to-value covenants are a key concern for the shipping trust sector in light of the ‘new world order’ of falling asset values and low lender risk appetite. The manager’s decision to launch the DRS and to voluntarily reduce FSLT’s payout ratio is a pre-emptive gesture of good faith to lenders. In FY09, FSLT could potentially pay off US$16-31.2m (annualized, without and with the DRS) or 3.1-6.1% of total loans. We note that this amount is still small compared both to total loans and to our expectations of the quantum of the decline in vessel values. But whether this level of prepayment is a gesture, or a game-changer, is up to the trust’s lenders. The ball is in their court, now.

Implications for DPU. We had previously suggested that outcome of the 1Q09 DRS may affect FSLT’s course of action going forwards. The DRS was a success, relatively speaking. FSLT now has more options, in our opinion – we believe it may prefer to keep the scheme in play rather than making further cuts in the distribution payout. Deterioration in the external environment, or adverse feedback from the lenders, could of course tilt this decision the other way. Our updated earnings estimates assume the DRS will apply for the whole of FY09. Our new fair value estimate is S$0.58 (up from S$0.45 previously). This values FSLT at a 30% discount to our ‘normal’ case discounted FCFE value of S$0.83 (10% discount rate). We believe this is a fair reflection of the shipping environment today. Maintain HOLD.