ZIM Integrated: Market Outlook Is Not As Terrible As It Seems (NYSE:ZIM)

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Container Ship Beneath Bridge

shaunl

In the last five days, ZIM Integrated Shipping Services (NYSE:ZIM) stock price dropped by 16%. Moreover, the ZIM stock price dropped by 41% in the past six months as the container freight rates plunged significantly. However, the freight rates are still higher than their pre-pandemic levels. Also, due to the port congestion driven by COVID-19, the growth rate of new-build vessels, and environmental regulations, ZIM is still well-positioned to benefit from the current market conditions. Furthermore, the company can adjust to changes in the market conditions as 94% of its vessels are chartered. Thus, despite the recent drop in the freight rates, the stock is a hold.

ZIM 2Q 2022 highlights

In its 2Q 2022 financial result, ZIM reported revenues of $3429 million, compared with 2Q 2021 revenues of $2382 million, up 44%. The company’s carried volume decreased from 921000 TEUs in 2Q 2021 to 865000 TEUs in 2Q 2022, down 7%. On the other hand, ZIM’s average freight rate increased from $2341 per TEU in 2Q 2021 to $3596 per TEU in 2Q 2022, up 54%. The company reported a 2Q 2022 net income of $1336 million, up 50% YoY. Moreover, in the second quarter of 2022, ZIM’s adjusted EBITDA and adjusted EBITDA margin increased to $2101 million (up 57% YoY) and 61% (up 500 bps YoY), respectively. The company’s free cash flow increased from $851 million in 2Q 2021 to $1639 million in 2Q 2022. Furthermore, ZIM’s net cash of $509 million on 31 December 2021 turned into a net debt of $630 million on 30 June 2022. For the second quarter of 2022, the company declared a dividend of $4.75 per share, representing 30% of its 2Q 2022 net income and a 10% one-time catch-up from the 1Q 2022 net income. “Due to our conviction in ZIM’s ability to earn sustainable long-term profits, we are increasing our quarterly dividend payout from 20% to 30% of quarterly net income,” the CEO commented. “Despite the backdrop of various challenges, based on our strong performance in the year to date coupled with the spot and contract rates that remain highly profitable, we are reaffirming our 2022 guidance, which would mark another year of record earnings and profitability,” he continued.

The market outlook

Over the past six months, freight rates have been decreasing. Figure 1 shows that from 27 January 2022 to 25 August 2022, Drewry World Container Index dropped from 9420 to 5986. As of 25 August 2022, the index plunged by 39% YoY. Figure 2 shows that freight rates across trade routes from Shanghai are now significantly below their levels a year ago.

Figure 1 – Drewry World Container Index

Figure 1 - Drewry World Container Index

www.drewry.co.uk

Figure 2 – Freight rates across trade routes from Shanghai

Figure 2 - Freight rates across trade routes from Shanghai

www.drewry.co.uk

However, despite macro headwinds, the global demand for containers in the first half of 2022 was higher than in 1H 2019 (see Figure 3). Moreover, global demand for containers at the end of June 2022 was higher than at the end of June 2021. Also, port congestions caused by Covid-19-related operational disruptions will not improve in the short term. According to Figure 4, capacity at the anchorage of USWC ports decreased significantly from the beginning of 2022. Also, despite some improvements, cargo ready dates to destination port departure are still higher than in 2019. Furthermore, the effective capacity of ports is still significantly lower than in 2019 and is not expected to improve into 2023. According to Alphaliner, the container market has a global capacity of around 26 million TEUs. This capacity is expected to increase by 3% and 9% in 2022 and 2023, respectively. However, due to the mentioned port congestion, lacking landside infrastructure, and IMO 2023 environmental regulations, I expect the freight rates to remain high compared to their pre-pandemic levels. Also, 94% of ZIM’s vessels are chartered. This chartering strategy makes ZIM able to adjust its fleet size according to the market condition. It is worth noting that the company has expanded its car carriage activities to diversify its operations. “We believe that this approach will continue to serve us as the market is expected to normalize from peak levels” the CEO explained.

Figure 3 – Global demand for containers

Figure 3 - Global demand for containers

2Q 2022 presentation

Figure 4 – Port congestion continues

Figure 4 - Port congestion continues

2Q 2022 presentation

Figure 5 – Quarterly expected delivery of newbuild capacity

Figure 5 - Quarterly expected delivery of newbuild capacity

2Q 2022 presentation

ZIM performance outlook

Since the last quarter, the company’s cash and equivalents dropped by 31% to $3.3 billion in the second quarter versus its amount of $4.8 billion in Q1 2022 which could be the result of recent lower freight rates. However, it is still well higher than its amount of $1.6 billion in the same quarter last year. As a result of lower cash balances, its net debt increased to now sit at $1.24 billion, which is far above its previous amount of $(511) million in the first quarter of 2022, whilst ZIM’s total equity improved by 23% to $5.24 billion in Q2 2022 compared with its previous amount of $4.26 billion in 1Q 2022. Thankfully, the company’s net debt is well beneath its total equity. Thus, ZIM’s capital structure projects a healthy position and enables the company to pay its debt back (see Figure 6).

Figure 6 – ZIM capital structure (in millions)

Figure 6 - ZIM capital structure (in millions)

Author (based on SA data)

After seeing a moderate start to 2022, which is indicated in a 17% decline in the company’s operating cash flow in the first quarter of 2022, $1.66 billion, compared with its amount of $2 billion at the end of 2021, their operating cash flow increased back to around $1.7 billion in Q2 2022. Furthermore, ZIM Integrated’s capital expenditure declined by around 55% to $81 million in Q2 2022 versus its previous amount of $183 billion in the first quarter of 2022. When all was said and done, the company ultimately generated $1.62 billion of free cash flow during this quarter, rising by 10% versus the free cash flow of $1.47 billion in Q1 2022. ZIM’s free cash flow is well above its year-to-year amount of $849 million in Q2 2021 which provides scope for more distributions (see Figure 7).

Figure 7 – ZIM cash structure (in millions)

Figure 7 - ZIM cash structure (in millions)

Author (based on SA data)

ZIM stock valuation

Updating and analyzing ZIM’s valuation data indicates that based on Q2 2022 data and the company’s reaffirmation of its 2022 guidance, ZIM is expected to generate about $3.5 billion adjusted EBITDA in the second half of 2022. Assuming that its net debt will remain around its first half of 2022, $1.19 billion, I evaluate that the company’s fair value is around $39 per share. Hence, I believe that the stock is a Hold (see Table 1).

Table 1 – ZIM stock valuation

Table 1 - ZIM stock valuation

Author (based on SA data)

Summary

My valuation shows that ZIM stock is worth $39 per share. Thus, at its current prices, the stock is a hold. Due to the port congestion around the world and the low effective capacity of the ports, despite the recent drop in the freight rates, the market outlook for container shipping companies is not as bad as it seems. The company has rewarded its shareholders significantly in the first half of 2022, and my analysis shows that ZIM can do the same in 2H 2022. ZIM’s free cash flow is well above its year-to-year amount of $849 million in Q2 2021, which provides scope for more distributions. The stock is a hold.



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