$ZIM: Invest or Speculate Amid Red Sea Disruptions?

The new year didn’t start as investors hoped, with bears closing the major indexes red. The best-performing industries are marine ports & services and shipping.

Considering the different perceptions of the stock, this time TigerPicks chose $ZIM Integrated Shipping Services Ltd.(ZIM)$ to have a fundamental highlight to help users understand it better.

$ZIM Integrated Shipping Services Ltd.(ZIM)$

Israel-based liner company ZIM Integrated Shipping appears to be among the greatest beneficiaries of ongoing disruptions in the Red Sea due to its massive spot exposure.

The Drewry World Container Index has increased by 61% in the past week alone, with spot freight rates from China to certain European destinations increasing by over 100%.

With the situation in the Red Sea unlikely to change materially anytime soon and annual freight contracts up for renegotiation in February, a boost to contract rates seems likely.

As container freight rates are expected to increase further ahead of the Chinese New Year holiday next month, the company's shares might have more room to run, even after the 100%+ rally from recent lows.

Review

In a surprise twist of fate, Israel-based liner company ZIM Integrated Shipping Services Ltd. appears to be among the greatest beneficiaries of the ongoing Houthi attacks on merchant vessels in the Red Sea.

With the majority of boxships now being rerouted around Africa, the Houthis seem to have addressed persistent industry over-capacities single-handedly.

Vessel Re-Routing

Over the past week, the Drewry World Container Index ("WCI") has increased by 61% alone. Since the beginning of the attacks, the index has almost doubled:

WCI

Freight rates from China to certain European destinations increased by more than 100% last week:

Selected Tradelanes

Even trans-Pacific spot rates from China to the U.S. West Coast surged by 30%.

China - West Coast

FreightWaves / Xeneta

Please note that the Red Sea chaos coincides with ongoing drought restrictions in the Panama Canal.

Previously, Asian cargo bound for U.S. East and Gulf Coast ports had been switched from Panama to the Suez Canal but has now ended up being rerouted on even longer voyages around the Cape of Good Hope.

As a result, the much-shorter route from Asia to the U.S. West Coast has become increasingly attractive even when considering the additional costs for cross-country transport in the United States.

While the Western alliance issued a final warning to the Houthi on Thursday, even air strikes against selected targets in Yemen appear unlikely to stop the attacks on merchant vessels as most of the Houthi's weapon systems are mobile with Iran standing ready to quickly replace whatever might be lost or destroyed.

A permanent solution would likely require a ground invasion in Yemen and/or attacking certain targets in Iran to cut off the Houthi from weapon supply.

However, bold action like this would almost certainly be viewed by the Arab and Islamic world as the United States and its Western allies actively entering the Gaza war on the side of Israel.

Given these issues, it is hardly a surprise that the U.S. Department of Defense only reiterated its commitment "to providing a persistent defensive presence in the Red Sea alongside allies and partners" on Thursday and abstained from outlining concrete responses to ongoing Houthi attacks.

But defensive action is not going to stop the attacks and even Thursday's ultimatum doesn't seem to have impressed the Houthis as they launched a sea drone attack on naval and commercial vessels in the Red Sea just hours after the "final warning".

At this point, the Western alliance doesn't seem to have any good options for ending the disruptions in the Red Sea and making the Suez Canal passage sufficiently safe for leading liner companies to literally change course.

Not surprisingly, Drewry expects East-West spot rates to increase even further going into the Chinese New Year holiday week starting February 10.

Please note that annual trans-Pacific container contracts usually run from May 1 to April 30 with negotiations starting in February.

With the Red Sea disruptions not likely to be resolved until next month, annual contract rates might see a very substantial boost thus providing some lasting tailwinds to liner companies for the remainder of the year and beyond.

However, due to its industry leading spot exposure, ZIM is already reaping the benefits from increased container freight rates.

Remember that on the company's Q1/2023 conference call in late May, CFO Xavier Destriau stated that ZIM was already "fully exposed" to the spot market on the key trans-Pacific trade lane and that negotiations with customers on new annual contracts had not yet concluded as the company was not willing to "lock ourselves on revenue that would mean loss-making cargo for us".

Given an assumed 70% spot rate exposure, the company might actually deliver a profitable Q1 vs. analyst expectations for further earnings deterioration from Q4.

But even with the Chinese New Year holiday headwinds ahead, the ongoing rally in container freight rates should be sufficient to boost Q1 earnings and cash generation well above current consensus estimates.

Even better, a host of scheduled newbuild deliveries this year might actually turn from a drag into a major tailwind as these state-of-the-art large and ultra-large vessels are expected to replace less efficient tonnage currently operated at elevated COVID-era charter rates thus reducing unit costs substantially.

Assuming additional support from increased contract rates for the remainder of the year, ZIM's 2024 prospects have improved considerably.

While analysts remain hesitant to fully acknowledge recent changes, market participants appear to be well aware of the company's improved outlook as the stock price has more than doubled from recent lows on very heavy trading volume.

Chart

YCharts

However, with a near-term end to the Houthi attacks being unlikely and container freight rates still on the rise, the stock might have more room to run, particularly given ZIM's estimated $2.8 billion or approximately $23 per share in cash and liquid investments at the end of 2023.

That said, I had similar concerns when I initiated ZIM with "Sell" in September 2022 after the stock had already dropped to $27 from an all-time high of $91 in March.

Please note that this is a highly speculative call due to the fluid situation in the Red Sea. Should the U.S. and its allies find a way to ensure safe passage for all merchant vessels in the near-term, ZIM's shares are likely to take a major hit again.

Bottom Line

In a surprise twist of fate, the Houthis appear to have addressed worldwide containership over-capacities single-handedly, with Israel-based liner company ZIM Integrated Shipping being a prime beneficiary of the ongoing Houthi attacks on merchant vessels in the Red Sea.

With container freight rates expected to increase further ahead of the Chinese New Year holiday next month and resulting potential for a major Q1 earnings surprise, the company's shares might have more room to run even after the 100%+ rally from recent lows, particularly when considering the company's estimated $2.8 billion or $23 per share in cash and liquid investments at year-end.

As a result, I am upgrading the company's shares from "Hold" to "Speculative Buy".

Risk Factors

As stated above already, much depends on the situation in the Red Sea. Should the Western alliance somehow manage to put an end to the attacks in the near term, the industry will face over-capacities again, thus likely resulting in renewed pressure on container freight rates and in turn the company's stock price.

Stock Price Forecast:

Here are the target price forecasts for the next 12 months from analysts.

The 7 analysts offering 12-month price forecasts for ZIM Integrated Shipping Services Ltd have a median target of 8.40, with a high estimate of 14.00 and a low estimate of 5.00. The median estimate represents a -42.39% decrease from the last price of 14.58.

Resource:

https://seekingalpha.com/article/4661278-zim-integrated-shipping-stock-prime-beneficiary-red-sea-disruptions-buy

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