Moody's Downgrades Overseas Shipholding Group (OSG) to 'B3' Amid INSW Separation

November 29, 2016 12:46 PM EST

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Moody's Investors Service, ("Moody's") downgraded the ratings of Overseas Shipholding Group, Inc. (NYSE: OSG), including its Corporate Family Rating (CFR) to B3 from B2 and Probability of Default Rating (PDR) to B3-PD from B2-PD, in anticipation of the spin-off of its international business/subsidiary, International Seaways, Inc. (INSW), previously named OSG International, Inc. The separation is expected to be completed on November 30, 2016. Concurrently, Moody's downgraded the first lien senior secured bank facility to B2 (LGD3) from B1 (LGD3) and OSG's senior unsecured notes due 2021 and 2024 to Caa2 (LGD5) from Caa1 (LGD6). Moody's also confirmed the Caa1 (LGD5) rating on the company's senior unsecured notes due 2018. The ratings of the first-lien bank credit facilities borrowed by INSW (and guaranteed by OSG prior to the separation) will be withdrawn as those debts will accompany INSW upon separation. The SGL-2 Speculative Grade Liquidity rating was affirmed. The ratings' outlook is negative. These actions resolve the review for downgrade that was initiated for OSG's ratings on October 24, 2016.

RATINGS RATIONALE

The ratings downgrade reflects the combination of the company's higher financial leverage pro-forma for the separation as well as the highly cyclical nature of demand and softening freight environment anticipated in the Jones Act market over the next year. The rating action also considers the smaller size of the post-spin company, as well as the loss of business diversification from the higher margin, albeit more volatile, international operations (INSW), which contributed EBITDA that supported OSG's existing debt obligations.

The B3 corporate family rating reflects Moody's expectation that debt to EBITDA, anticipated at about 4 times (inclusive of Moody's standard adjustments) at separation, will likely deteriorate with earnings and cash flows under pressure as continuing supply-demand imbalances drive lower freight rates at which maturing contracts are renewed or vessels enter the spot market, increasing earnings volatility. Moody's also views the company's largely fixed cost structure and limited asset coverage as tempering factors. Moody's believes that funded debt could increase should the company replace its fleet, which seems likely given the advanced average age of its vessels, particularly the articulated tug barges (ATBs), of which the majority are over 35 years. The rating also considers OSG's leading position in its transportation markets and the relatively stable dynamics afforded by the Jones Act, including high barriers to entry. The company's good liquidity profile and mostly contracted revenue base lend additional support to the ratings, even with new vessels entering the market, at least through 2017. The rating does not anticipate any dividends or new debt at separation, but anticipates that OSG will maintain financial policies and a capital structure that support the B3 CFR.

The SGL-2 rating anticipates good liquidity over the next year, characterized by healthy cash on hand and an undrawn ABL revolver of $75 million (due February 2019). The cash balance of approximately $200 million at separation, includes the proceeds of a $100 million dividend received from INSW in the third quarter ended September 30, 2016, which the company expects to use to address the balance of its senior unsecured notes, the outstanding majority of which ($82 million) are due March 2018. The company is obligated to maintain all accrued and unpaid interest expense in escrow for all of its unsecured notes until their maturity, a condition of the spin-off under the bank facility credit agreement. If the company does not repay the 2018 notes by year-end 2017, the ABL revolver maturity is accelerated. The SGL-2 rating also anticipates the company will generate free cash flow at least in the $70 to $80 million range through 2017, sufficient to cover its financial obligations. Although the senior bank term loan comes due in August 2019, Moody's views refinancing risk as becoming increasingly significant, particularly in an environment of prolonged supply-demand headwinds affecting the company's cash flow generation.

The negative ratings outlook is driven by Moody's expectation of a deterioration in credit metrics, amidst anticipated challenging business conditions in the Jones Act market, and contract renewal risk as charters on certain vessels expire in a market with higher supply. The negative outlook considers the age of the fleet, which reduces the company's competitiveness against players with younger more agile vessels.

The downgrade of the ratings on the senior bank credit facility to B2 and the senior unsecured notes due 2021 and 2024 reflect their estimated recoveries in the liability structure and incorporates the one notch downgrade of the CFR. The Caa1 rating of senior unsecured notes due 2018 also reflects their potential recovery, based on the capital structure, but includes an uplift to reflect Moody's expectation of a reasonable likelihood that these notes will be repaid by year-end 2017, supported by the good liquidity profile.

The ratings could be downgraded if the company's capital structure or financial policy results in lower-than-expected credit metrics, including Debt to EBITDA sustained above 5.75x and FFO + Interest to Interest approaching the mid-low 2.0 times range on a sustained basis. A material decline in revenues and/or a deterioration in the cash flow or liquidity profile, or shareholder-friendly actions that compromise debt-holder interests could also pressure the ratings.

Upward ratings momentum could occur if OSG deploys its cash in a manner that would limit potential increases in debt, such as for fleet investments rather than shareholder returns. Also important to an upgrade would be an improvement in the company's operating environment. A financial profile that results in sustained FFO + Interest to Interest sustained above 3.0 times with a liquidity profile and capital structure that are supportive of higher ratings, could lead to an upgrade. Reductions in leverage via debt repayments will be important to sustaining stronger credit metrics.

Downgrades:

..Issuer: OSG Bulk Ships, Inc.

....Senior Secured Bank Credit Facility, Downgraded to B2(LGD3) from B1 (LGD3)

..Issuer: Overseas Shipholding Group, Inc.

.... Corporate Family Rating, Downgraded to B3 from B2

.... Probability of Default Rating, Downgraded to B3-PD from B2-PD

....Senior Unsecured Regular Bond/Debentures, Downgraded to Caa2 (LGD5) from Caa1 (LGD6)

Outlook Actions:

..Issuer: OSG Bulk Ships, Inc.

....Outlook, Changed To Negative From Rating Under Review

..Issuer: Overseas Shipholding Group, Inc.

....Outlook, Changed To Negative From Rating Under Review

Confirmations:

..Issuer: Overseas Shipholding Group, Inc.

....Senior Unsecured Regular Bond/Debenture, Confirmed at Caa1 (LGD5 from LGD6)

Affirmations:

..Issuer: Overseas Shipholding Group, Inc.

.... Speculative Grade Liquidity Rating, Affirmed at SGL-2

The principal methodology used in these ratings was Global Shipping Industry published in February 2014. Please see the Rating Methodologies page on www.moodys.com for a copy of this methodology.



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