Integrated ZIM: Buy the dip with strong near-term outlook (ZIM)

NB:

We’ve got you covered ZIM INTEGRATED SHIPPING SERVICES LIMITED (New York Stock Exchange: Zim) previously, so investors should view this as an update to my Previous articles On the company.

Shares of the liner company ZIM Integrated Shipping Services Ltd. Or “ZIM” based in Israel over The stock price more than doubled over the past two months before the triple whammy of massive insider selling, negative media coverage and a very harsh analyst downgrade sent the stock price down nearly 20% on Thursday:

Unlike meme stocks like GameStop (GME) and AMC Entertainment (AMC), the recent rally in ZIM shares has been the result of strong improvements in underlying business fundamentals as spot rates on some key trans-Pacific trade lanes have risen more than 70% over the past year. Last month to levels not seen since the pandemic:

While rates benefited From constant distractions in the Red Sea for several months already, the early start of the peak season has increased port congestion and exacerbated capacity shortages, a situation that is not expected to change anytime soon as the Asia Pacific CEO of DHL Global Forwarding explained in the South Morning china condition this week:

He added that we do not believe that the situation in the Red Sea will change in the near future, referring to the unrest caused by Houthi attacks in Yemen on ships. At the same time, we see that the demand (shipping) that has started to increase in the last few weeks is quite sustainable.

So our best estimate is that we will see a similar situation over the next three or four months.

If this is true, ZIM will likely report a significant improvement in the second quarter and a very strong third quarter, with investors rewarded with a generous dividend.

Earlier this week, much larger rival AP Møller – Mærsk A/S or “Maersk” (OTCPK: AMKBY) significantly raised its full-year forecast (emphasis added by author):

Regarding Continued strong demand in the container market And the disruption caused by the ongoing crisis in the Red Sea, is now also AP Møller – Mærsk A/S (APMM). He sees signs of more port congestion, especially in Asia and the Middle East, and a further increase in container shipping rates. This development is gradually increasing and is expected to contribute to stronger financial performance in the second half of 2024.

Based on these developments, APMM is upgrading its full-year 2024 guidance and now expects EBITDA of $7-9 billion and EBITDA of $1-3 billion (previously $4-6 billion and -2 to $0 billion, respectively), and free cash flow. At least US$1 billion (previously at least US$2 billion).

For my part, I expect ZIM to follow suit and raise its full-year outlook materially from the updated forecast provided in its Q1/2024 earnings release:

The company increased its full-year 2024 guidance and now expects to achieve adjusted EBITDA of between $1.15 billion and $1.55 billion and adjusted EBITDA of between $0 and $400 million. Previously, the company expected earnings before interest, taxes, depreciation and amortization (EBITDA) of between $850 million and $1,450 million and adjusted EBIT between a loss of $300 million and earnings of $300 million.

Following the recent rise in container prices and given ZIM’s significant exposure to the spot market, I expect full-year adjusted EBITDA to be approximately $2.5 billion, with total cash dividend payments likely to exceed $2 per share.

However, this scenario assumes interest rates remain stable throughout August, which does not seem unreasonable.

While demand is likely to decline significantly heading into Q4, I expect continued disruptions in the Red Sea to provide a profitable floor for container rates, even when considering the influx of additional newbuildings throughout the year.

On the other hand, a sudden resolution to the Red Sea crisis would certainly push the industry once again to ramp up production capacity and the resulting red ink. Given this issue, investors should not consider ZIM a buy-and-hold investment.

Apparently, the company’s largest shareholder Kenon Holdings (KEN), an entity controlled by Israeli business tycoon Idan Ofer, came to similar conclusions and decided to strike while the iron was hot (emphasis added by author):

(…) Kenon Holdings Limited (…) announces that it has done so Sale of 5,000,000 ordinary shares of ZIM Integrated Shipping Services Ltd. (“ZIM”) is owned and operated by Kenon I entered into a collar deal With the Investment Bank (…) In respect of an additional 5,000,000 ordinary shares of ZIM held by Kenon.

Prior to these transactions, Kenon had 24,843,478 ZIM shares, representing 20.7% of ZIM’s outstanding shares.

Kennon will receive net proceeds of $110,600,000 from the sale of 5,000,000 shares of ZIM stock.Which will reduce Kenon’s stake to 16.5% of ZIM’s outstanding shares.

The additional 5,000,000 ZIM shares subject to the transaction represent 4.2% of ZIM’s outstanding shares.

A collar transaction involves purchasing a call option from the collar counterparty at an exercise price that represents a discount to yesterday’s closing price and granting a call option to the collar counterparty at an exercise price that represents a premium to yesterday’s closing price. The collar deal has a term of two years with settlement either in cash or ZIM shares.

The collar deal enables Kenon to retain exposure to the potential upside in ZIM shares up to the purchase price, while limiting the impact of a potential decline in the share price. The collar arrangement will provide cash proceeds of approximately US$155 million if the call option is exercised and cash proceeds of approximately US$100 million to Kenon if the put option is exercised., in each case assuming stock settlement. The collar is unfunded, and therefore under the terms of the collar transaction, Kenon will not receive proceeds unless and until the options are exercised at vesting. (…)

In layman’s terms: Kenon sold five million shares of ZIM stock at $22.12 per share and entered into a derivative trade for another five million ZIM shares with strike prices of $20 for the call option and $31 for the put option.

However, the company will remain ZIM’s largest shareholder with a stake of about 12.3%, assuming one of the collar options is exercised.

Please note that Kenon largely missed the opportunity to dispose of its stake in ZIM at several current share price levels two years ago.

While the company was able to sell six million shares at approximately $77 per share in early 2022, Kennon refrained from additional dispositions at that time.

To make matters worse, Citi analyst (who also represented the counterparty in the transactions discussed above) Satish Sivakumar downgraded ZIM shares from ‘neutral“L”He sells“With a price target of $13 amid expectations spot rates will come under pressure later this year.

While this is certainly a valid concern, ZIM’s high spot price and physical exposure across the Pacific will actually make the company a major beneficiary of current market conditions and has been the main driver behind the stock’s recent outperformance versus larger peers Maersk and Hapag-Lloyd ( OTCPK :HPGLY):

Finally, Jim Cramer reportedly advised investors to take profits in ZIM during yesterday’s Mad Money Lightning Round.

Given the ugly combination of massive insider selling, dovish analyst comments and negative media coverage, Thursday’s 19% stock drop can hardly be considered a surprise.

In fact, I tend to agree with the concerns expressed by the Citi analyst and understand the rationale behind Kenon’s decision to take some money off the table after losing billions of dollars in potential sales revenue two years ago.

However, with spot rates likely to remain high over the next couple of months, there are upcoming near-term catalysts for ZIM:

1. Possible near-term guidance increase similar to Maersk this week
2. Much improved Q2 report in August and announcement of increased quarterly earnings.
3. Possibilities of a greater increase in profits in the third quarter.

While the effects of Thursday’s events could bring some additional volatility to the stock next week, investors should consider buying the dip due to the company’s strong near-term outlook.

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A combination of massive insider selling, cautious analyst comments and negative media coverage brought the meteoric rise in ZIM’s common stock to an abrupt end on Thursday.

While there are valid concerns regarding the industry’s long-term prospects, ZIM will be the main beneficiary of the recent rise in container spot prices. Given prices are expected to remain elevated for at least the next two months, ZIM should raise its full-year guidance significantly in the not-too-distant future, with 2024 total cash dividends potentially exceeding $2 per share.

However, like the vast majority of shipping stocks, ZIM is not a buy-and-hold investment, and as such, speculative investors should only consider buying the dip in anticipation of near-term catalysts emerging.