DryShips, Inc. (DRYS)

TheGarcipian (98.67) Submitted: 6/06/08 12:24 AM : Start Price: $91.89 DRYS Score: -46.00

Wow, there’s a lot of disagreement among top-ranked CAPS players regarding DryShips Inc. Before I get into why I think DRYS is a good buy right now, let me explain how I review & pick stocks, if only generally:
(1)   First, I look at the sector and determine if this area is ripe for appreciation, either short-term or long-term. (Sector picks also help diversify my stock portfolio, something I struggle with).
(2)   Second, I look at certain stocks within these sectors, specifically at their financials using mostly Yahoo! Finance and the Motley Fool, but other sources as well (both online and offline).
(3)   If the financials intrigue me, I’ll look at the Profile to make sure it’s in the sector in which I’m interested, then lastly look at the chart.
(4)   By this time, I’ve already decided to buy it (or pick it for CAPS), so I’m reviewing the chart for the purposes of timing the buy.
Generally, this is where I don’t want or like people following in my footsteps because, broadly speaking, market timing implies short-term thinking with short-term goals, and generally, that’s not what I’m aiming for (except in the case of shorting a stock; you never want to stay in a short for very long; it’s much too dangerous). Day-trading doesn’t work, not for me. I’m not good enough to spot extremely short-term trends, and for the amount of time I’d have to invest in it in order to get good at it, I’d have to quit my day job, a very respectable job that I’ve worked years to obtain.

Still, with all that negative energy noted above, I’ve found that I can enhance a purchase by getting it slightly on-sale by watching some chart dynamics. Generally, I’m not into all the mumbo-jumbo Technical Analysis-speak, but I have used the Slow Stochastics and Relative Strength charts successfully to buy near a “local bottom” for that upwardly-trending stock. (Hopefully, I’ve learned from past mistakes to not purchase the stock as it’s falling, but to wait until it starts to rebound after two or more hops upwards).

So, in applying this protocol to DryShips, I can’t help but think the areas pointed out in this video:
http://www.thestreet.com/_yahoo/video/strategysession/10419178.html?cm_ven=YAHOOV&cm_cat=FREE&cm_ite=NA
are going to drive up the demand for this company’s services (and thus drive up the price of this stock). As noted in the video, those three areas are: the coal supply in China, the recent Chinese earthquake, and the current credit crunch. Let’s take them each in turn. Coal in China is, apparently, in high demand. The Chinese do not have enough of it to fully meet their steel and power production; thus, they have to import more and more of it just to keep pace with their expanding demands of the raw material. Dry bulk shippers should profit nicely from this demographic trend in and of itself. But if that weren’t enough, the recent earthquake in China that’s left thousands dead and millions homeless has put a huge burden on reconstruction efforts. All sorts of raw materials are needed now in order that homes and public buildings get rebuilt. The video author Simon Constable notes the need for copper, steel (actually, iron ore, as China is a net exporter of steel), cement(?), grains, etc., can be met from increased imports by dry bulk shippers. (I don’t know if I buy the “cement” argument, but I do agree with the rest of his list if you swap “iron ore” for “steel”). Additionally, the earthquake has destroyed some rail lines, which are often the cheapest method for getting large amounts of raw materials into the country. The slack in supply will have to be picked up by dry bulk shippers, if only for a short time. Finally, the financial crisis in US markets has slowly leaked out to affect the rest of the world in one way or another. In shipping, it has forced the marginal players to, well, the margins as they wrestle with more difficult securitizations and lengthier loan procedures. Thus, there will be an undersupply of shipping vessels. Less capacity, a contained supply of vessels, and increasing demand – that’s a recipe for a good sector bet.

All of these conditions will allow the global dry bulk shippers to raise their day rates even more than they have over the past 3 months. As noted in this article
http://community.investopedia.com/news/IA/2008/Transportation_Stocks_Driving_The_Rally_UNP_CNW_DRYS.aspx?partner=YahooSA
these day rates have steadily increased in 2008, and the Marine Transportation group as a whole gained 16.8% over the past 3 months. To quote the article: “Even after the rally, the average stock in this group is trading at a trailing P/E multiple of 12.1”.

Speaking of multiples and now that we’ve determined this is a good area in which to invest (at least for now), let’s look at the financial aspects of this company and compare them to its competitors’ numbers. All data in the table below is from Yahoo! Finance or the Motley Fool. (Sorry, CAPS pitch areas don’t allow for nicely-formatted tables, but believe me, it was beautiful before I pasted it in here!).

Financial Metrics   DRYS   EGLE   NM   EXM   DSX
Market Cap   $3.95B   $1.59B   $1.25B   $1.05B   $2.59B
Trailing & Fwd PEs   5.9 & 6.7   26.1 & 10.5   4.4 & 5.9   9.5 & 7.9   14.5 & 12.9
PEG Ratio   N/A   0.54   0.17   N/A   0.61
EV/EBITDA   7.766   22.042   8.032   8.115   15.463
Profit Margin   80.1%   43.2%   35.7%   52.6%   71.9%
Operating Margin   69.9%   48.9%   19.0%   53.8%   63.3%
Return on Assets & Equity   15.3% & 56.8%   4.5% & 12.6%   6.2% & 52.0%   10.0% & 29.0%   11.6% & 28.4%
Revenue / MarketCap   18.4%   8.5%   60.7%   20.1%   8.9%
Qrtly Rev. Growth   167.8%   36.3%   501.2%   93.6%   104.8%
Qrtly Earnings Grwth   165.6%   69%   N/A   213.7%   148.1%
Debt/Equity   86.6%   120.6%   79.8%   92.0%   24.4%
Assets / Liabilities   296%   1219.7%   188.3%   440%   147.5%
Inside Ownership   36.04%   0.47%   21.9%   9.7%   24.0%
Yield   0.9%   6.1%   3.2%   1.6%   10.2%
CAPS Stars   2   4   5   5   5

Comparing these numbers, it appears that EGLE is the weakest of the lot, yet it’s ranked above DRYS in CAPS. True, EGLE has got a high net worth in terms of assets to liabilities (the Current Ratio), but it’s probably because their debt load is so great (at 120.6% of their equity). The Profit and Operating Margins for DRYS are quite stunning at 80.1% and 70%, respectively, as are the quarterly Revenue and Earnings Growth values of 168% and 166%. Of the four listed above, DRYS has the highest margins, the highest RoA & RoE figures, the highest inside ownership, and extremely good quarterly revenue & earnings growth. Finally, one of the big risks in the shipping industry is the high amount of leverage typically used to boost profits (remember, it’s a cyclical industry). Here, we see DRYS is right in line with its peers (except for EGLE sporting that huge debt load and Diana Shipping having a much cleaner D/E ratio), so I’m okay with that number (but I’ll never be comfortable with an 87% D/E ratio!).

Yet for all this good news, the CAPS community has slammed DRYS with a star rating of only 2 and lots of negative verbage. Indeed, out of the Top 100 CAPS players who’ve written pitches for or against this stock, 7 have red-thumbed it, while only 2 have green-thumbed it. If I include the Top 250 CAPS players with DRYS pitches, the spread is worse at 10-to-3. To be fair, some of these pitches & picks are quite old though, so I’m thinking things have changed. Because I fully respect the CAPS community and many of the players who’ve written disparaging words, I’ve got to consider this stock as more of a momentum play rather than a long-term buy-n-hold selection (obviously; it’s got a rather pathetic yield too!); thus, my relatively short time frame selection of “3 months”.

Notably, the barriers to entry in this industry are not many, but two of those barriers are hard to meet: (1) raising a tremendous amount of capital via lots of leveraging; and (2) lots of time (months and years, in some cases) are required to build these dry bulk ships. With the credit crunch currently in place and worsening, I don’t think we have to worry about any new competitors (or existing ones) popping up with money to spend on new boats. Regarding the second issue, sure, in 1-3 years, the short-term squeeze between the supply and demand curves will eventually be met (we’re not talking oil here!), and the day rates will fall, probably quite drastically, but you won’t have very many new boats ready by then anyway because shipbuilding takes time. (Caveat: I don’t know what the glut of dry bulk vessels sitting in storage is, however). Yet another factor to consider is harbor crowding. There is only so much dock space. And let’s face it, building more dock space could take as long or longer than building the ships to fill those docks. So, even if new ships suddenly popped into existence, the day rates would probably fall, but the bottom of the bucket would not come out.

For the next few months (maybe a year?), I think DRYS has all the right propulsion to be sailing into a beautiful sunset. In any case, I’m going to keep a tight leash on this one, in 3 month clips.

Have I missed something or is DRYS really turning around? I’m with pytheian here: “I don’t understand why you guys hate this stock?”

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