$ZIM Integrated Shipping (ZIM.US)$The results for the second quarter, though lower than expected, were still quite strong. The company has made huge profits and generated considerable cash flow.

The new dividend policy of Star Shipping has brought high dividend yield. Investors will receive a dividend yield of 10% in the second quarter, and the company is likely to pay more dividends at the end of the year, which could raise the dividend yield to a higher level.

Performance "crack"

Israel Star Shipping announced its second-quarter results on August 17. The results showed that Q2 revenue was $3.43 billion, up 44.1% from a year earlier, below market expectations; net profit was $1.34 billion, up 50% from a year earlier; and diluted earnings per share were $11.07, below market expectations, compared with $7.28 a year earlier. After the announcement of the results, Star Shipping fell by 6%.

Although the performance did not meet expectations, the profits are still considerable, it can be said that Star Shipping is in the most profitable period in history. In fact, Star Shipping performed very well in the second quarter, but analysts think it will be even better. As a reference, the company's profit in just one quarter is equivalent to about 25% of its market capitalization.

According to the financial report, the profit of Star Shipping reached 3.05 billion US dollars in the first half of this year, compared with 1.48 billion US dollars in the same period last year. By contrast, Star Line currently has a market capitalization of just over $5.7 billion.

Of course, this huge profit is the result of distortions in the container shipping market. Since the outbreak of the epidemic, container rates on major routes, including China, the United States and China and Europe, have risen sharply. The current freight rate has fallen from its high point, but from a historical point of view, it is still at a very high level. Star Line has also signed contracts with importers such as Walmart Inc at very attractive prices, which further supports strong profits, regardless of future freight rates.

The strong demand for containers has enabled Star Shipping to make huge profits in 2021 and will do the same in 2022:

Star shipping's diluted earnings per share in 2021 rose about 800% from $4.40 in 2020 to $39, which is not far from the current share price. By 2022, Star Shipping is expected to make more money, as earnings per share are now widely expected to be $44. This estimate is likely to be revised in the next few days or weeks due to lower-than-expected earnings in the second quarter, but it is clear that 2022 will be another fruitful year for Star Shipping and is likely to be better than 2021.

Although the market expects earnings per share in 2023 to be much lower, less than $16. But even so, compared with the past, the performance of Star Shipping is quite strong.

The light asset business model means that star shipping can generate a lot of cash because it does not require a lot of capital expenditure. In the second quarter, Star Shipping's operating cash flow totaled $1.7 billion, while after deducting some capital investment, the total free cash flow was $1.64 billion. This is in line with the level in the first quarter, when free cash flow totaled $3.12 billion in the first half. In other words, in the past six months, Star Shipping has successfully created free cash equivalent to 53% of the company's current market capitalization.

The free cash generated by Star Shipping this year is expected to exceed its current market capitalization. Profits are likely to fall in the second half of the year compared to the first half of the year, but free cash flow is likely to be higher because accounts receivable become cash flow over time.

Huge dividend

In the current environment, Star Shipping can only return a large amount of cash to shareholders.

Debt reduction does not make much sense because the balance sheet is already very strong. The Star Shipping report puts its net debt at $630 million, but this is a very conservative calculation. Star Shipping lists charter liabilities as liabilities, but these leasing liabilities can generate value because the company can use the ships it charters to earn revenue and profits in the future.

When only traditional debt is calculated, Star Line has a huge net cash position. The total amount of outstanding loans is only $160 million, while the company has $3.96 billion in cash and investments. In other words, the company has billions of dollars in "traditional" net cash before accounting for future lease liabilities.

In recent quarters, ESL has invested in a number of smaller companies, mainly logistics start-ups. It has also acquired several ships, but the company is unable to spend $1.6 billion a quarter on these projects. As a result, the company decided to return a large portion of its profits and cash flow to shareholders through dividends-it does not like buybacks, at least for now.

In the second quarter, the company declared a dividend of $4.75. Compared with the current share price, the single-quarter yield is 10%, and the annualized dividend yield is 40%. However, the dividend is quite low compared with the profits and cash flow generated by the company during this period, because the dividend payout ratio is 43 per cent based on GAAP earnings per share of $11.07 per share.

More tellingly, the company's total dividend in the second quarter ($570 million) accounted for only 35 per cent of its free cash flow ($1.64 billion). In other words, although the company pays a dividend of 40 per cent a year, it retains more than $1 billion in free cash in a quarter.

In the past, Star Line's goal was to pay out 20% of its net profit every quarter and repay dividends at the end of the year, bringing the dividend to 30% of full-year profits. 50%. That's why investors received a huge dividend of $17 a share at the beginning of the year. The company has now changed its policy and plans to pay 30% of its net profit as a dividend every quarter. Investors are likely to receive a large dividend early next year as a "replacement" dividend this year.

If star shipping spends 50% of this year's earnings on dividends, the full-year dividend will reach $22. Given that only $7.60 has been announced so far, there is still plenty of room for an increase in dividends over the next six months.

Summary

Jonathan Weber, a writer for SeekingAlpha, said that Star Shipping's profits will not remain at such a high level forever, which is basically certain. Freight rates have fallen from recent peaks, and an economic slowdown will lead to a drop in shipping demand. But even if profits fall sharply next year and beyond, Star Shipping is still a good investment.

The company's market capitalization is about 1.1 times this year's net profit, and the valuation multiple is even lower in terms of free cash flow. At the same time, the company holds billions of dollars in cash, greatly reducing risk.

If management uses these cash flows in a bad way, it will be a big problem. But as long as Star continues to strengthen its balance sheet while returning large amounts of cash to investors through dividends, it is unlikely to go wrong.

Weber said that in the shipping industry, Star Shipping's cash flow is not the most stable, but the current huge profits and dividends make it very attractive.