Following a number of difficult years, there are some bright spots on the horizon for the shipping industry although many sectors are still affected by overcapacity and pressure on earnings. The global economy is still strong, but geopolitical tensions and the threat of a global trade war are causing uncertainty. The Offshore segment has been particularly problematic for Danish Ship Finance in recent years, and a large number of vessels remain idle.
We are pleased to note that the situation has stabilised so that the company’s loan impairment charges in this segment and on an overall basis were minimal in the first half of 2018. Despite significantly lower loan impairment charges, Danish Ship Finance’s net profit of DKK 139 million for the first half of 2018 was on a par with the level recorded for the same period in 2017. This is mainly due to lower earnings from investing activities compared to the exceptional result in 2017. However, lending is growing, with a continued healthy pipeline, and we expect to enter 2019 with a satisfactorily loan portfolio.
The company anticipates a lower net profit for the year than in 2017, albeit with a positive trend over the last six months of the year. Net earnings from lending are expected to show a positive trend, which will take full effect from 2019, depending on movements in exchange rates. We have taken advantage of the strong bond markets last year and at the beginning of this year to obtain funding at attractive prices, providing a solid foundation for future earnings. The total capital ratio of Danish Ship Finance remains high at 19.2%, resulting in excess capital adequacy of 7.2 percentage points, and the company maintains a strong liquidity position.
Net earnings from lending including fee income declined in the first half of 2018 to DKK 218 million from DKK 280 million in the first half of 2017. The decline in total interest and fee income was mainly due to higher funding costs to maintain excess liquidity in supporting the anticipated lending growth. Excess liquidity has been invested in short-dated bonds, which has had a negative impact on net earnings. The average USD exchange rate for the period was lower than in the same period in 2017, which contributed to the lower interest and fee income. Interest and dividend income from finance activities rose to DKK 90 million in the first half of 2018 from DKK 76 million in the first half of 2017.
In total, net interest income decreased by DKK 55 million. Market value adjustment of securities and foreign exchange for the first half of 2018 was a net expense of DKK 69 million against a net income of DKK 10 million in the first half of 2017, when markets were exceptionally favourable. Market value adjustment for the first half of 2018 included an expense of just under DKK 8 million, reflecting a capital loss related to buybacks of issued bonds for a nominal value of just over DKK 2.2 billion. In connection with these buybacks, new bonds with longer maturities were issued. The capital loss occurred because market prices were higher than the corresponding prices recognised in the financial statements at amortised cost.
Viewed separately, a large proportion of the capital loss will reduce interest expenses in the coming years. Impairment charges on loans and receivables for the first half of 2018 were a net income of DKK 34 million against a net expense of DKK 103 million for the same period in 2017. The positive development resulted from a stabilisation of the credit quality of the loan portfolio in the first half of 2018 compared with the same period in 2017, which was negatively affected by the Offshore segment. Staff costs and administrative expenses totalled DKK 90 million. A number of initiatives resulted in extraordinary expenses of about DKK 15 million in the first half of 2018. These are not expected to recur in the second half of 2018. Otherwise, the cost level is comparable to the level recorded in 2017. Net profit for the period was DKK 139 million, compared with DKK 145 million for the first half of 2017.
OUTLOOK FOR THE SECOND HALF OF 2018
Measured in lending currencies, the loan portfolio is expected to show an increase in the second half of 2018. Measured in DKK, the situation will depend on the trend in exchange rates, particularly for the USD. Margins are forecast to continue their slight upward trajectory. Overall, a positive trend is expected, manifested to some extent in 2018 and taking full effect in 2019. Given the favourable demand for the company’s bonds, Danish Ship Finance decided in the first half of 2018 to raise new liquidity with longer maturities to support the anticipated growth in lending. Consequently, total funding costs will be higher in 2018 than if the company had opted only to fund existing loans.
The level of excess liquidity is expected to normalise in the second half of 2018. With unchanged market conditions, investing activities are likely to yield a markedly lower return than in 2017 and 2016 when the return on investments was exceptionally high owing to the trends in yields and credit spreads. Costs for the full year of 2018 are generally expected to match the level recorded in 2017, adjusted for price changes. Costs will furthermore be negatively affected by various non-recurring items incurred in the first half of 2018 related to changes made to strengthen the company’s organisation and competencies. The company therefore foresees a lower net profit for the year than in 2017, albeit with a positive trend over the last six months of the year. The total capital ratio is expected to be at a high level at the end of the year. Danish Ship Finance cannot provide more specific financial guidance given the potential impact from loan impairment charges, market value adjustments and fluctuations in the USD/DKK exchange rate, which are the principal risk and uncertainty factors facing the company during the remaining six months of the financial year. The company only publishes full-year and half-year reports as it is believed that more frequent reporting would not affect the pricing of the bonds issued.