Categories Earnings Call Transcripts, Industrials

KNOT Offshore Partners LP (KNOP) Q2 2020 Earnings Call Transcript

KNOP Earnings Call - Final Transcript

KNOT Offshore Partners LP (NYSE: KNOP) Q2 2020 earnings call dated Aug. 27, 2020

Corporate Participants:

Gary Chapman — Chief Executive Officer and Chief Financial Officer

Analysts:

Marc Solecitto — Barclays — Analyst

J Mintzmyer — Value Investor’s Edge — Analyst

Jim Altschul — Aviation Advisory Service — Analyst

Robert Silvera — R.E. Silvera & Associates — Analyst

Igor Levi — BTIG — Analyst

Richard Diamond — Castlewood Capital Partners, LLC — Analyst

Ted Lou — Tertiary Oil & Gas Co. — Analyst

Pavel Oliva — RockHill Global — Analyst

Presentation:

Operator

Good day, and welcome to the KNOT Offshore Partners Second Quarter 2020 Earnings Results Conference Call.

[Operator Instructions]

I would now like to turn the conference over to Gary Chapman, CEO. Please go ahead.

Gary Chapman — Chief Executive Officer and Chief Financial Officer

Thank you. Welcome, everybody.

As always, the earnings release and slide presentation are both available through our website. KNOT Offshore Partners owns and operates shuttle tankers, where our ships transport oil from offshore production units to shoreside and are an essential part of the supply chain for our customers, all of whom are large names in the oil and energy markets.

Our call today will include the non-US-GAAP measures of distributable cash flow and adjusted earnings before interest, tax, depreciation, amortization, EBITDA. The earnings release includes a reconciliation of these non-GAAP measures to the most directly comparable GAAP financial measures. And please remember that any forward-looking statements made during today’s call are subject to risks and uncertainties. And these are discussed in our annual and quarterly SEC filings. Actual events and results can differ materially from those forward-looking statements, and the Partnership does not undertake a duty to update any forward-looking statements. And I refer you to Slide 2 and our 2019 20-F for further details.

On to Slide 3, Q1 — Q2 2020 financial highlights and recent events. We continue to operate our fleet without any material disruption as a result of COVID-19 coronavirus, and you’ll find more information in our earnings release related to this topic. I think it’s worth saying that we’re reporting this quarter one of the best sets of results of the Partnership. We generated total revenue of $70.3 million, operating income of $33.4 million and net income of $21.7 million and more comparably quarter-by-quarter adjusted EBITDA of $55.8 million. We ended with distributable cash flow generated of $30.7 million, giving a coverage ratio — distribution coverage ratio at the end of the quarter of 1.70 times, and we again maintained our cash distribution of $0.52 per common unit, returning an annual yield of quite remarkably around 16% based on a $13 unit price.

During the quarter, the fleet operated 99.7% utilization for scheduled operations, and there were no drydocks this quarter and they were non-planned for the remainder of 2020. Shell, in the end, chose not to exercise their option on the Windsor Knutsen. And whilst the vessel is still with Shell today, we expect that it will be redelivered to the Partnership sometime between mid-September and mid-December 2020 in accordance with the redelivery provisions in the charter. The Partnership is currently looking at all options to recharter the vessel, and we’re talking to a number of potential parties, including the sponsor.

On Slide 4, the income statement. For the second quarter of 2020, we recorded total revenues of $70.3 million compared to $67.2 million [Phonetic] for the first quarter of 2020. The increase was almost entirely related to the effect of Raquel Knutsen’s scheduled drydock in the first quarter. Vessel operating expenses for the second quarter of 2020 was $13.1 million, a decrease of $2.5 million over the first quarter of 2020. This decrease was mainly the net result of lower operating expenses across the fleet in the second quarter, and favorable movements in the Norwegian krona US dollar exchange rate.

Depreciation was essentially flat at $22.5 million for the second quarter compared to first quarter at $22.4 million. Similarly, admin and general expenses were $1.3 million compared to $1.4 million in the first quarter. Overall, this caused operating income to rise to $33.4 million in the second quarter compared to $28.4 million in the first quarter of 2020. Interest expense for quarter two was $8.5 million, a decrease of $2 million from $10.5 million in quarter one. The decrease, again, being driven by lower LIBOR on average across all credit facilities that are not hedged. Realized and unrealized losses on derivative instruments were $3.1 million in the second quarter compared to a loss of $23.7 million in the first quarter. The unrealized non-cash element of the mark-to-market was $2.8 million for the second quarter of 2020 compared to a loss of $23.9 million for the first quarter of 2020. Of the unrealized loss for the second quarter of 2020, $3.5 million is related to a mark-to-market loss on interest rate swaps due to a decrease in US dollar rates. And again, of $0.7 million is related to foreign exchange contracts.

Slide 5, adjusted EBITDA. You’ll see an incredibly consistent adjusted EBITDA on this slide. And again, in the second quarter, the Partnership generated adjusted EBITDA of $55.8 million compared to $50.8 million in the first quarter. The difference, again, arising mainly as a result of Raquel Knutsen’s scheduled drydock in the first quarter. Adjusted EBITDA is a proxy for cash flow, referring to earnings before interest, tax, depreciation, amortization and other financial items, and please do refer to the notes at the bottom of this slide.

Slide 6, distributable cash flow, or DCF, is another non-US-GAAP financial measure and another very consistent measure for the Partnership. DCF was $30.7 million in the second quarter in comparison to $24 million in the first quarter and the distribution cover at the end of quarter two, as stated, was 1.70. The increase over the first quarter relates to Raquel Knutsen’s scheduled drydock in that first quarter, but also to our careful management of the business, helped also by some favorable shifts in interest costs and exchange rates. In the quarter, we again maintained our distribution level of $0.52 per unit, equivalent to an annual distribution of $2.08. And again, please do refer to the notes at the bottom of the slide.

Slide 7, on the balance sheet. At the end of the second quarter, the Partnership had $70.1 million in available liquidity, which consisted of cash and cash equivalents of $41.4 million and we still retain $28.7 million of capacity under our revolving credit facilities. The revolving credit facilities mature in August ’21 and September 2023. And otherwise, KNOP had no other refinancing falling due until the end of 2021. The Partnership’s total interest-bearing debt outstanding as of June 30, 2020 was $960 million, down from $984 million at the end of the first quarter of 2020, and the average margin paid on the Partnership’s outstanding debt in this quarter again stayed the same as last quarter at approximately 2.1% over LIBOR.

At the end of the second quarter, the Partnership had entered into various interest rate swap agreements for a total notional amount of $627 million, down from $634 million at the end of last quarter, a hedge against the interest rate risks of its variable rate borrowings. Based on this in the quarter, we received interest based on three or six-month LIBOR and paid a weighted average interest rate of 1.74% under the interest rate swap agreements, which have an average maturity of approximately 3.6 years. We don’t apply hedge accounting, so our financial results are impacted by changes in the market value of these financial instruments. However, cash flow is stabilized by them, mitigating interest rate risk on distributable cash flow.

Slide 8, an update on our long-term contracts. For the Windsor Knutsen as stated at the outset, Shell, in the end, chose not to exercise their option of the Windsor Knutsen, and we expect that the vessel will be redelivered sometime between mid-September and mid-December 2020 in accordance with the flexible redelivery provisions in the charter. These redelivery provisions are typical and just allow the charterer to complete a charter at an appropriate operational time rather than, say, mid-voyage. The Partnership is currently looking at all options to recharter to the vessel, and we’re talking to a number of potential parties, including the sponsor, not just for operations in Brazil, but also potential deployment elsewhere.

Bodil Knutsen is our largest shuttle tanker operating in the North Sea and is still on charter to Equinor until May 2021. Equinor then have three further one-year annual extension options. Torill Knutsen and Hilda Knutsen both operate on the Goliat Field in the Barents Sea. After initial five-year terms on both vessels, the Hilda time charter extended for four more years to 2022 and then has further options to extend the charter by three more one-year periods until 2025.

The charter of Torill has taken two of its one-year extension options to extend the time charter until November 2022 and then has further options to extend the charter by two more one-year periods until 2024. Dan Sabia, Dan Cisne, Fortaleza and Recife Knutsen remain on long-term bareboat charters through to 2023 with Petrobras Transpetro. Carmen Knutsen and Raquel Knutsen are on charter to Repsol Sinopec until 2023 and 2025, respectively, and with options to extend until 2026 and 2030 also, respectively. The Ingrid Knutsen is on time charter until 2024 with Var Energi, with charter’s options to extend out to five more one-year periods. Tordis, Vigdis and Lena Knutsen are on five-year charters to Brazil shipping, a subsidiary of Shell. These will expire in 2022, and the charter has options to extend for up to a further 10 years on each vessel. The Brazil and Anna Knutsen are on charter to Galp Energia until 2022, with charters options to extend up to 2028. At June 30, 2020, the KNOP fleet had an average remaining fixed contract duration of 2.4 years and an additional 3.9 years on average in charters options, as you can see, all with strong credit counterparties.

When the Partnership listed in 2013, charter renewals were a distant issue. But whilst they are now starting to materialize, it’s important to repeat that these renewal decision points are a natural part of our business, and it’s natural that our average remaining fixed contract duration period will come down. This is unfortunately highlighted more right now by the fact that the equity markets are currently not economically available to us to drop down the growing list of new business that our sponsor has contracted as we have done successfully in the past. What works in our favor, however, is our customers’ essential need for these assets as part of their supply chain, our market-leading position, especially in Brazil, our sponsor’s 30-plus year history in this industry, the age of our fleet, the technological stability that we see in the industry right now and into the foreseeable future, plus our willingness and ability to be flexible for our customers’ needs. Contracts in the shuttle tanker market are also still typically measured in years rather than days, weeks or months as compared to many other areas of shipping.

We never give guarantees as to the future, and in particular, the time charter rate for a charters option or a new charter can be open for a level of negotiation, but we want to repeat our point that we believe the Partnership’s risk profile is not the same as a typical shipping company. All of these factors continue to make the Partnership remain positive about the future of our business, and we’ve built up a strong distribution coverage ratio for these times of greater uncertainty.

On Slide 9, the sponsor, KNOT now has seven vessels that we dropped into the MLP beginning from around Q4 2020. These have an average fixed contract period of 5.6 years with an average of a further 8.1 years extension options. The acquisition by KNOP of any dropdown vessels in the future is subject to the approval of the Board of Directors of each of KNOP and the sponsor, KNOT, and there can be no assurance that any potential dropdowns will actually occur. In reality, it is not possible for the Partnership to consider purchasing all of these vessels in today’s market. And indeed, it is too early for some in any case. However, we are exploring options as to how we might be able to purchase one or even two vessels from the sponsor without issuing new common equity and without putting undue strain on the Partnership’s liquidity. More specifically, we’re currently looking at how we can achieve one dropdown in the fourth quarter of 2020, perhaps December, but it remains uncertain at this time whether this will be possible. What is clear is that if the market does begin to change for the better, then the Partnership is well positioned to grow.

On Slide 10. The next following slides are all taken from external sources, which we feel give investors a slightly more independent view than simply presenting information solely prepared by management. This first slide provides some background information on the situation in Brazil and we think demonstrates the resilience of Brazilian market in 2020. And whilst we’ve seen a dampening of output and growth, growth in economic development is still expected. All of this will have a knock-on effect for shuttle tankers in our commercial outlook. And whilst we’re not contractually exposed to oil price, volume or storage risks in our charters, these are some of the kinds of reasons as to why the Partnership remains upbeat about the future.

On Slide 11, the purpose of the slide is to show the estimated oil production development in Brazil for shuttle tankers and how despite some potential delays, the trajectory remains positive. Whilst we believe the number of barrels per day shown for 2021 and beyond are quite conservative, we do agree that the gradient of the red line was quite representative before April 2020, whereas the blue line today is perhaps what we expect across the coming five years. What we also believe is that should the economic situation improve, then not only is Brazil well placed to capitalize, we do not think it would take much of an improvement for the shuttle tanker market to fully tighten again.

Slide 12 shows similar data for the North Sea. And while the levels of growth are lower, we still expect this market to continue to grow over the next three to five years, and the demand for shuttle tankers to remain robust.

On Slide 13. This slide is perhaps best at showing why we feel there are strong mid-to-long-term prospects for shuttle tankers in the Brazilian market. Petrobras is still the dominant player in Brazil, have been selling a whole host of shallow and onshore assets in 2020 and reaffirming their commitment to the deep and ultra-deep wells, which have relatively low costs. We see an increasing FPSO activity, and we’re seeing more involvement of Chinese players in the Brazilian oil market, which opens up a new area of activity. And indeed, our sponsor now has its first shuttle tanker contract with Petro China. We’re not saying there aren’t challenges in the short term with equity markets with a softer economic climate and sentiment towards energy and shipping, but we see the mid-to-long-term growth. And as a business, and a leading and experienced business in this industry, we’re doing all we can to ensure we navigate a stable path through the coming few quarters.

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Slide 14. So in summary, we reported a very strong quarter with a continued stable operating performance at 99.7% utilization of scheduled operations. Distributable cash flow of $30.7 million with coverage of 1.7 giving the Partnership a degree of flexibility to manage potential short to midterm headwinds, we maintained our quarterly distribution of $0.52 for the 20th consecutive quarter. Our operations have remained largely unaffected by coronavirus, and we’ve been taking steps, like many companies, to keep our staff and crew safe whilst working.

We’re not exposed to short-term market turbulence, such as short-term fluctuations in oil prices, volume of oil transported or global oil storage capacity. We’re seriously considering financing options to take one new vessel from the sponsor without issuing new equity to strengthen cash flows in our contracted revenue stream, if we can. And whilst we acknowledge the uncertainty seen in the wider energy market and the higher degree of difficulty in accessing new equity, both of which may continue for some time, we believe the shuttle tanker market is resilient and growth prospects remain strong over the mid-to-long term, particularly in Brazil.

That concludes my short presentation for today, and I’ll open for any questions. Thank you.

Questions and Answers:

Operator

[Operator Instructions]

Our first question comes from Marc Solecitto with Barclays. Please go ahead.

Marc Solecitto — Barclays — Analyst

Hi, good morning. Gary, just wondering if you could help frame the recontracting on the Windsor for us. And maybe more specifically, it sounds like there’s a low likelihood where it goes unutilized in the short term, just given the sponsor’s support. But maybe just if you could comment on the utilization outlook for the vessel, and then also just around rate expectations or what would be an acceptable outcome for the Partnership?

Gary Chapman — Chief Executive Officer and Chief Financial Officer

Sure. Hello Marc. You’re right. We are not considering the Windsor situation as pivotal to the Partnership’s fortunes right now. Shipping and shipping requirements, as you all know, are constantly changing for all of our customers. And we’ve said on prior earnings calls, whilst this rechartering ambiguity is perhaps new for KNOP, it’s not new for our sponsor who’s been doing this quite successfully for over 30 years. So we’re leaving it to our chartering department right now, and we’re waiting to hear what’s next for the vessel. The vessel is a good vessel. It’s approximately 12, 13 years old. It’s performed very well. It’s ice class. It’s a very big shuttle tanker. We don’t consider it difficult to charter it. But you’re right, it depends on the rates.

I think we’ve seen competition coming into the market with new build vessels and new build rates. But as we’ve said before, for a new build vessel, charterers are asked to commit for a minimum of five years. And often, that’s quite a commitment for most charterers. So typically, for a shorter-term charter, we’re able to ask for more than the bottom base rate, new build price. And I think that’s pretty much where we are with the Windsor at the moment. Its current rate isn’t particularly high. We may end up taking a few thousands a day off it in order to recharter it. But as I said at the start of this answer, we’re not really considering that to be a pivotal moment really for the Partnership.

Marc Solecitto — Barclays — Analyst

Got it. Understood. And then assuming if it were to move through a different geographical region, would there be any, like, I guess, capital costs incurred associated with maybe retrofitting the vessel to serve a specific customer, or how should we think about that?

Gary Chapman — Chief Executive Officer and Chief Financial Officer

Generally speaking, I don’t think it will need anything. Obviously, that does depend. The vessel, you may recall, went on charter down to Africa a short time ago when we did the swap with Shell and the sponsor. So we know that it’s perfectly capable of going down there. It’s ice class. So it can operate in the North Sea, no problem. And generally speaking, if a vessel needs specific equipment, then that’s a charterer’s cost.

Marc Solecitto — Barclays — Analyst

Got It. Okay. That’s helpful.

Gary Chapman — Chief Executive Officer and Chief Financial Officer

I think the one extra point just to say is that the cost that we might incur could be a bunkering cost if we need to shift the vessel from Brazil to another region.

Marc Solecitto — Barclays — Analyst

Got it. Okay. And then shifting gears to dropdowns. You mentioned that the Partnership was considering one as early as 4Q of this year. It sounds like — it sounded like there are certain conditions that would have to be made on the Partnership’s end to move forward with that. But you also noted later on, I think, that there might be a way to finance that without going to the public equity market. So just wondering what conditions you’re looking for, we should be looking for, where we could expect you to move forward with a dropdown?

Gary Chapman — Chief Executive Officer and Chief Financial Officer

Yeah. We’ve got two or three things on our table at the moment, which I won’t go into in detail. But it’s largely internally funded. It may have an impact on leverage, but not too much. We’re paying down our debt, we’re overpaying on our debt. We’re paying approximately $80 million a year on our debt repayments. So coincidentally, roughly equal to our distribution. I think what we’re looking for is to make sure that we don’t put undue stress on the rest of the whole Partnership and our business just in order to take a dropdown. We operate to pay out and to pay our distribution and to run the business conservatively and stably. And I think whilst they’re not easy to measure in simple dollar terms, those are the criteria that we’re really looking at.

So although the numbers need to work and the deal needs to stand on its own two feet. If the deal itself risks damaging the Partnership, then we won’t do it just yet. But at the moment, the idea that we’ve got don’t do that. And if we can pull them off, we may be able to do it. But as I said, we’re certainly not there yet. We’re really just at the early to mid-stages of looking at these ideas and putting them in place. But we do have some realistic ideas for internal funding. And as I say, we’ll operate it on a prudent basis. What it doesn’t do is really solve our longer-term problem, but let’s take one ship one step at a time.

Marc Solecitto — Barclays — Analyst

Great. That’s helpful. Thanks for the time.

Gary Chapman — Chief Executive Officer and Chief Financial Officer

Yeah. No problem. I’d just add as well. Obviously, any transaction will go through our conflicts committee. And that organization, that body is designed also to reflect upon the deal as a whole and to make sure we’re making a good decision with the information we have. So I think that’s important to remember.

Operator

Our next question comes from J Mintzmyer with Value Investor’s Edge. Please go ahead.

J Mintzmyer — Value Investor’s Edge — Analyst

Good afternoon, Gary. Thanks for taking my questions, and congrats on a fantastic quarter.

Gary Chapman — Chief Executive Officer and Chief Financial Officer

Thanks, J.

J Mintzmyer — Value Investor’s Edge — Analyst

So first of all, I think we covered it a little bit earlier here with some of the Q&A. But looking at the Windsor Knutsen with the Shell contract coming off in October, that’s going to impact Q4, right? Q3 looks like it’s mostly covered. Is there any sort of sensitivity estimates on EBITDA or coverage that you could share with us? I know it was sort of — you kind of spoke in general terms with the last question, as per the goal of recontracting that. Is that going to be maybe a significant drop in daily earnings, do you think, or is it closer to maybe a 10% or 20% drop?

Gary Chapman — Chief Executive Officer and Chief Financial Officer

J, we didn’t — we debated about press releasing the situation with Windsor. But actually, we, as a Board and as a company, took the decision that actually didn’t think it was material enough to do that. And also at the moment, we’re in the middle of discussions. So if you ask about impacting on Q4, our current best guess is that the vessel will get rechartered. So at the minute, we’re not publicizing, if you like, any negative side of Windsor today. That’s not to say it won’t happen. And obviously, internally, we’ve got those numbers. But I just sort of refer you back to what I said before that right now, we don’t see that the Windsor position is really pivotal to the Partnership right now. Our coverage is quite high and Windsor is just one ship out of 16. So it will or could have an impact if we don’t recharter it while there is a gap. But we feel we’ve got quite a cushion before we have to — before we have to do anything more serious.

J Mintzmyer — Value Investor’s Edge — Analyst

Yeah. Understandable. I figured I’d ask, push for more color, but understandable that you’re in the middle of negotiations, and we’ll hope for the best. Related questions on that. So question one, you have three more Shell-equipped shuttle tankers to Tordis, the Vigdis and the Lena. Are those in a similar position? Or — it looks like those contract structures are significantly longer. Is it — can we read anything into those based on the Windsor, or is it a completely different field and setup there? And then the second question is your next charter extension is the Bodil Knutsen with Equinor, it looks like it comes off in mid-’21. I’m guessing there’s an option they can declare, and I’m just wondering when that sort of time line is for them to declare that next option.

Gary Chapman — Chief Executive Officer and Chief Financial Officer

Sure. I’ll tell you what I know about Shell, or what we know about Shell, which is perhaps not a lot. Shell quite rightly keep their commercial to themselves. I think what we do feel is that Shell has got a chartering strategy. Right now, they’ve got eight, we believe, eight shuttle tankers, seven once the Windsor is dropped. And they’ve got four more on order with AET. So they’ll end up with 11 within the next couple of years.

I think the supply-demand that we’re looking at suggests that they need 11 or 12. But I would say that to answer your question directly, we don’t believe the Windsor and the Tordis, Vigdis, Lena, are particularly linked. I think it’s a completely different situation for Shell in terms of how the vessels are used. I think what I can say is that we are talking to Shell all the time, and we’re talking to them now. So there is a desire for us as a business to fix those vessels as soon as we can. And if we can fix them sooner, then we will. If we can persuade Shell to take options early.

As for the Bodil, that’s with Equinor. We’re talking to them about putting on a VOC recovery plant system, which if that does go ahead, then we think that will necessitate a longer-term contract, because Equinor will have spent significant capital sum on the vessel. It’s currently trading in Brazil. We think it may get transferred to the North Sea at some point. We are in close dialog with Equinor and we may hear something by the end of the year on that, we hope. The firm period ends per the charter contract in May 2021. So we’re hopeful to have some clarity on that vessel before the end of the year.

J Mintzmyer — Value Investor’s Edge — Analyst

Excellent. We’ll hope for some good news there in the Bodil, and yeah, hopefully the Shell ships are not correlated in that sense. Turning a little bit strategically, two strategic questions for you, and then we’ll turn it over. The first one on the financing. You mentioned you’re kind of overpaying debt. Obviously, the LIBOR rates have came way down and we’re seeing a lot of your peers extending their derivative swaps at levels like 0.3%, 0.4% for three, four, five years even. It’s a very friendly interest rate environment. So I guess part one of that is, is it possible to extend the leverage based on those lower interest rates, right, because it would be based on your total financing cost of both interest rates and debt repayment? So first of all, can we increase the leverage to fund dropdowns?

And second of all, what has sort of been the reception I guess on the Board for further dropdowns? I guess you have seven available, and you mentioned maybe one or two. Again, I guess a little bit expanding on that first — the first analyst question, but just looking into what sort of credit market indications can we look for to get those dropdowns coming down.

Gary Chapman — Chief Executive Officer and Chief Financial Officer

I think the short answer is, we are as a company and as a Board, I think we’re comfortable to extend our leverage to fund dropdowns up to a point, obviously. I know there is a strong market desire for leverage to be in the three times brackets rather than the four times bracket. But we tend to feel that that is quite a broad brush approach, which doesn’t necessarily suite every company. I think when you look at our cash flows and the amount of debt that we are paying down, I think we can probably extend our leverage, and some of those internally-financed options that I referred to earlier would probably result in a little bit of increased leverage. But our modeling shows that notwithstanding that, it would come right back down again pretty quickly. And I think provided we message that correctly and we explain what we’re doing and then we show that that’s the case, then I think and we hope that the market will understand that it’s for the greater good in that we will get an extra vessel and with a long-term contract.

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The Board’s view of further dropdowns is very positive. I’ve said before in earnings calls that the Board just really wishes that the market was as it used to be. It worked very well for everybody. The Partnership dropped down 12 vessels after the initial four, and it would like to carry on doing exactly the same. So there’s definitely appetite in the Board to take the vessels, but you’ll fully appreciate the difficulty of where we are at the moment with the unit price and the sentiments in all the things that surround the financing of this business at the moment, not to mention the fact that we’re still an MLP and quite a lot of people and don’t like MLPs anymore. So it’s a very tricky position for us right now, but I think the conclusion of the Board is that we still can wait. Let’s try and do something if we can, and it makes sense, but let’s wait. And we’ve seen $13 unit prices before back in 2015, and then subsequent to that, we were able to raise $200 million and we got back up to $20.

So there is no reason why today’s environment will last forever, and if we can navigate through these periods in these quarters now, as I mentioned in the presentation, we are in a good position.

J Mintzmyer — Value Investor’s Edge — Analyst

Yeah. Thanks, Gary. I appreciate you taking the questions. It’s definitely a challenge with the low unit price and high common yield. We’ll hope for the best going forward. Thanks, Gary.

Gary Chapman — Chief Executive Officer and Chief Financial Officer

Yeah. Thank you, J. Thanks.

Operator

Our next question comes from Jim Altschul with Aviation Advisory Service. Please go ahead.

Jim Altschul — Aviation Advisory Service — Analyst

Good afternoon. Thanks for taking my question.

Gary Chapman — Chief Executive Officer and Chief Financial Officer

Hello Jim.

Jim Altschul — Aviation Advisory Service — Analyst

Can you hear me okay?

Gary Chapman — Chief Executive Officer and Chief Financial Officer

Okay.

Jim Altschul — Aviation Advisory Service — Analyst

Okay. Wonderful. Following up on the Windsor, I don’t want to beat a dead horse, but always wanted to look at the the worst case. First of all, it’s not going to come off charter till October. So there is no — you could say that there is no third quarter impact. Let’s assume the absolute worst case that you’re not able to recharter it at all during the fourth quarter, could you give us even a rough estimate of what the impact on revenues and EBITDA would be?

Gary Chapman — Chief Executive Officer and Chief Financial Officer

Well, first of all, we’re not exactly sure. It’s up to Shell when they give the vessel back to us. It could be as late as mid-December. It really depends on what they operationally want to do. I think, as I say, at the moment, we’re not really modeling publicly anyway the scenario of no charter. We’ve got a number of irons in the fire, not least of which is a charter to the sponsor. So whilst we’re in this position now and there’s ambiguity, our suggestion is that we stick with the optimistic view of that the vessel will be chartered. So until we’ve got more information, I’m afraid that’s probably where we’re going. I think all I can do is repeat a little bit what I said. It’s one vessel out of 16, and we’ve got good coverage right now. So we’re not panicking, and we don’t think it’s pivotal.

Jim Altschul — Aviation Advisory Service — Analyst

Well, I’m glad to hear that. Let me ask the question slightly a different way. And I certainly don’t want you to disclose anything, you don’t want to disclose it. You have disclosed the charter rate on that ship, right, the Windsor? You have disclosed what Shell is currently paying you for it?

Gary Chapman — Chief Executive Officer and Chief Financial Officer

I’m not sure whether we have. No. I think you can work out averages, etc., obviously, but I’m not sure we’ve given away any precise numbers because I think that’s quite commercially sensitive, obviously.

Jim Altschul — Aviation Advisory Service — Analyst

Okay. All right. If you — and you talked about if you had a reposition, there’d be some bunkering costs, about how much would that be?

Gary Chapman — Chief Executive Officer and Chief Financial Officer

Well, obviously, it depends how far away it is, but it might be in the region of $0.5 million. It’s that type of ballpark. It’s not a few hundred. It’s probably more in the region of $0.5 million.

Jim Altschul — Aviation Advisory Service — Analyst

Okay. Different subject, and I apologize, you’ve covered this in the past, but [Indecipherable] past few quarters, you’ve got some pretty substantial charges relating to one line, unrealized and realized depreciation, I guess — I’m sorry, I don’t have the news release in front of me, relating to some of the interest rate swaps. First of all, how much of that is a cash outlay? And second, are we going to see similar charges like this for the remainder of the year, or we’d like to, I mean, assuming interest rates stay where they are?

Gary Chapman — Chief Executive Officer and Chief Financial Officer

You’re talking about the mark-to-market in relative [Phonetic] amounts?

Jim Altschul — Aviation Advisory Service — Analyst

Yeah.

Gary Chapman — Chief Executive Officer and Chief Financial Officer

Because we don’t do any hedge accounting, then we have to reflect changes in the theoretical termination value of our interest rate swaps each quarter. So those charges represent, as I say, the theoretical valuation should we choose to terminate our interest rate swaps on the balance sheet date. So actually, none of them are cash items. There’s obviously a breakdown because inside there, there is an element of realized amounts, which relate to FX, in particular. But the majority of those losses are our paper-based valuations for theoretical termination of the interest rate swaps. So unless we decide tomorrow to — to do that, then actually, those large amounts that you see are nothing more than paper. And over the life of the interest rate swap, they will eventually tend to zero on the balance sheet. So to answer your question, they’re not cash out of the door.

Jim Altschul — Aviation Advisory Service — Analyst

Thank you very much.

Gary Chapman — Chief Executive Officer and Chief Financial Officer

No problem, Jim. Thank you.

Operator

Our next question comes from Robert Silvera with R.E. Silvera & Associates. Please go ahead.

Robert Silvera — R.E. Silvera & Associates — Analyst

Good morning, Gary. And thank you very much for a well-done quarter. Could you give us some color on why you — I know you touched a little bit, but give us some more color on why Shell decided not to extend the option?

Gary Chapman — Chief Executive Officer and Chief Financial Officer

Sure. I’ll tell you what I think we know. Obviously…

Robert Silvera — R.E. Silvera & Associates — Analyst

That’s what I’d like.

Gary Chapman — Chief Executive Officer and Chief Financial Officer

Yeah. We obviously don’t know exactly what Shell are thinking. But our understanding is that next year, Shell just have maybe a dozen less cargoes than they envisaged. And given that the Windsor was next off the block, if you like, in terms of when their next decision came, it was the obvious vessel to cut. So whilst it’s performed very well, we just believe in the short term, Shell had some — I don’t know, this is where I’m guessing, but potentially, they had some production cuts or production delays, or etc., and they just decided to hand the vessel back.

They’re probably the second biggest player in the Brazilian market now after Petrobras, who’s a long way in front. And they’ve got quite a large fleet. So every now and again, they’re going to have these unders and overs. We don’t think, and we’re certainly not led to believe, it’s anything more than that.

Robert Silvera — R.E. Silvera & Associates — Analyst

Okay. It’s not like a drying up platform?

Gary Chapman — Chief Executive Officer and Chief Financial Officer

No. No, not at all. If you look at the E&P outlook for Shell, in Brazil, they are committed to that market, and they’re in a number of fields and licenses.

Robert Silvera — R.E. Silvera & Associates — Analyst

Okay. My second question is, what benefit do you feel it would be to the shareholders to take on the additional dropdown in December other than finding out the — since you won’t do it with equity, with the equity price at around $12.40, right now? It has to be funded through debt, most likely, of some form. And thus, it’s beneficial, as I see it only to bankers. Would it change the dividend flow, what would happen in your minds by taking on the additional dropdown?

Gary Chapman — Chief Executive Officer and Chief Financial Officer

Yeah. I think the main driver for it is the extra security of cash flow. It’s a new seven-year charter for this first vessel that would come into the Partnership. So I think that’s the primary driver to do it. And I think we’re looking at it from the point of view that even if leverage is temporarily bumped up a little bit in order to do this, if we believe the Partnership’s cash flows even taking into account some levels of sensitivity can carry it, then we think we can explain that, and we think we can show that, and that it’s a good move for everybody. And I think it’s helpful for us to show as a business that we are moving to a position where we are just about able to do this. It’s kind of a bit of a holy grail for an MLP like us to be able to do that because we can then grow our business regardless of the markets. And I think that would be good for everybody if we’ve got to that position.

So although we are completely aware of the leverage and the liquidity and the potential for problems in doing this, we do feel the extra cash flow security and the fixed contracting income that that will bring to us is worth it, provided we can do it in a secure manner.

Robert Silvera — R.E. Silvera & Associates — Analyst

Okay. So you’ve been paying down debt at an accelerated rate, you said. And…

Gary Chapman — Chief Executive Officer and Chief Financial Officer

Yes.

Robert Silvera — R.E. Silvera & Associates — Analyst

Are you also then building cash to put you in a position where it could be done internally as far as the dropdown is concerned? So you’re balancing paying debt faster with saving cash for a potential dropdown?

Gary Chapman — Chief Executive Officer and Chief Financial Officer

I don’t think we — sorry, if I understand your question correctly, I don’t think we can do the dropdown using only internal cash. As an MLP, we’re paying out a very healthy distribution, and we’re paying down our debt quicker. And what that leaves us with at the end is a fairly stable cash balance. It hasn’t grown. We’ve had approximately, give or take, $40 million in the bank for quite some time. So we probably do need to take on some form of debt to do a dropdown. [Speech Overlap]

Robert Silvera — R.E. Silvera & Associates — Analyst

Okay. But it would be a reduced amount, perhaps. Okay. Going on then… Go ahead.

Gary Chapman — Chief Executive Officer and Chief Financial Officer

No, no, no, please. You go.

Robert Silvera — R.E. Silvera & Associates — Analyst

A little bit earlier in conversation, you referred to yourselves as dealing with the longer-term problem. Could you give me a little color on what you meant by the longer-term problem?

Gary Chapman — Chief Executive Officer and Chief Financial Officer

Sorry, Robert, when exactly did I say that, what context?

[Speech Overlap]

Robert Silvera — R.E. Silvera & Associates — Analyst

I guess you were talking about dealing with the rechartering of the Knutsen and it was in those conversation — in that conversation that you made the statement that we would have to deal with the longer-term problem. I caught those words, and I wrote it down. So I was wondering what the context in your mind was of what is the longer-term problem for the business.

Gary Chapman — Chief Executive Officer and Chief Financial Officer

Well, honestly, I can’t recall exactly using those words. It’s very possible. But I guess it depends on context. I think the longer-term problem that I see, if you call it a problem, it’s well probably twofold. It’s the unit price and the access to the equity markets to grow. And it’s the longer-term growth of the business that comes from that. I think that’s ultimately the challenge for this MLP because in the long term, without that growth, we’ve got 16 vessels that they’re young today, but in five, 10 years’ time, they’ll be less young. And eventually, obviously, at some point in the distant future, that they won’t be young at all. So you don’t [Phonetic] understand perfectly without some growth at some point — it doesn’t have to be now, it doesn’t have to be next year, but at some point, we have to see some growth.

Robert Silvera — R.E. Silvera & Associates — Analyst

Right. Okay. My last question is this, I guess. I’m trying to understand — I mentioned this on the last conference call and obviously, the Board has not considered yet or executed yet any share buyback when we’re yielding 16%. And as a business, when you can buy a good secure business like ours that’s yielding 16%, I scratched my head, why not, especially with the 1.7% coverage. It’s tremendous performance, and it just doesn’t compute with me why there is no determination on the Board not to buy some stock back in the market at this ridiculously low price. Can you give me their reasoning why they refuse to do it?

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Gary Chapman — Chief Executive Officer and Chief Financial Officer

Well, I think as I’ve said before, Robert, it’s — I think I can see and the Board can see both sides of the argument. And I think the side of the argument is, yes, of course, it’s a high yield, why wouldn’t you? I think the flip side of that is that that’s not our general business. And to make a dent, we’d have to spend quite a bit of money. And at the moment, in the market we’re in, and let’s be clear that the market is softer for everybody today in the world, we’re not sure that — and the Board is not convinced that it’s the best use of funds right now and that’s really the bottom line. So although absolutely economically and on a piece of paper, it makes sense but the real-world often takes over and cash in the bank is important to us.

Robert Silvera — R.E. Silvera & Associates — Analyst

No doubt, Gary. But what I’m looking at from a standpoint of what is the image that is projected by the Board when they do not see their stock as such a gross margin [Phonetic]. And you don’t have to buy millions of shares. You don’t necessarily have to make quote, “a big dent”. But what you do have to do is cast a image that there’s great faith that the Board has in it and that this stock is ridiculously low priced. And every time you take one share off, you put $2.08, so to speak, in the bank.

Gary Chapman — Chief Executive Officer and Chief Financial Officer

Yeah.

Robert Silvera — R.E. Silvera & Associates — Analyst

So it has to do with image as well as the practical implications of taking some cash out of the treasury. You — like you said, you’ve got over $40 million. If you just use the $1 million or $2 million to do some share buyback, casting that image would give a loud message to the marketplace as to what you might do in the future. So anyhow, that’s just my input, and I wish they would reconsider their current position. That’s all [Speech Overlap].

Gary Chapman — Chief Executive Officer and Chief Financial Officer

Yes, Robert. Thank you for that. I hear you.

Robert Silvera — R.E. Silvera & Associates — Analyst

Okay. Good. Speak to them, Gary. I’ve been in the stock back — way back in the days that you talk about when it was over $20 a share. And although the dividends have been steady, steady as a rock, the business is well run, if you take where the principle is right now, I’m just about breaking even with the $2.08 a year over the past four years, five years and the purchase price being over $20 on our company’s purchases.

Gary Chapman — Chief Executive Officer and Chief Financial Officer

Yeah. Understood.

Operator

Our next question comes from Igor Levi with BTIG. Please go ahead.

Igor Levi — BTIG — Analyst

Hey guys. What do you think of the prospect of selling some of your older assets to help fund the drop downs? And especially in the case of, let’s say, the Windsor so you get closer to the recontracting and it still don’t have a contract? Is that something you’ve considered? And how do you think about that?

Gary Chapman — Chief Executive Officer and Chief Financial Officer

Hey Igor, hello. We have spoken about that at the Board and it is an option. I think in all likelihood, the sponsor has a a desire to have first refusal on any of those vessels, first of all. So selling them to the sponsor is also an option, or a vessel swap even, an older vessel for a newer vessel coming in. Those sorts of ideas have been discussed at Board level. They’ve not been ruled out. But at the moment, we don’t see it as a big need to do a transaction like that. That may change. And I think the answer to your question is, yes, it is on the table. But right now, I don’t think we’re anticipating doing it.

Igor Levi — BTIG — Analyst

Okay. And I guess as a follow-up, what kind of a trade-in value do you think you can get with the sponsor? If you bring in three old vessels, can you get a new one, or what’s roughly the the ratio there?

Gary Chapman — Chief Executive Officer and Chief Financial Officer

Igor, an impossible question. I think all I could say to that is it depends on the vessels at the time and the valuations and the situation of the vessels in terms of charter values, presumably, the new vessel coming in would have a charter. And the only reason we would perhaps do it is if the old vessel going out doesn’t have a charter. So there’s all kinds of moving parts in there to suggest — the valuations could fluctuate quite, quite a lot. So I’m going to have to pass on that question, sorry.

Igor Levi — BTIG — Analyst

No problem. All my other questions have been answered. Great quarter, and thank you.

Gary Chapman — Chief Executive Officer and Chief Financial Officer

Thank you.

Operator

[Operator Instructions]

Our next question comes from Richard Diamond with Castlewood Capital. Please go ahead.

Richard Diamond — Castlewood Capital Partners, LLC — Analyst

Yes. Gary, I want to commend you and the Board on the consistency of your policies and operations. And like the other callers, I think the risk-reward is much higher to the rewards than it is the risks. But I think that the story would be helped, if you went out and met with investors, or potential new investors so that they could understand and differentiate the story. Could you talk about any plans that you have in Q4 to virtually meet with investors, or conferences you may attend virtually?

Gary Chapman — Chief Executive Officer and Chief Financial Officer

Richard, thanks. Nice to speak to you. Actually, it’s quite a timely question. We discussed this at the Board yesterday actually. And I think with our changing unitholder base today, I think we recognize that it’s more important than ever that we both seek out potentially new equity unitholders, but also support the ones that have come in more recently on the back of perhaps some of the institutional sellers going out.

So you’re absolutely right, it’s a little early to discuss specifics, but it was on the Board agenda yesterday. We had a good discussion about it. And we have some ideas and plans to take forward in next quarter — well, this quarter, actually, Q3 into Q4. Just as an aside, a slightly different topic, but we’re also working on an ESG publication as well, which at the moment as a business, we don’t have that. We’ve got a lot of data, and we’ve got all the data that we need internally, but we don’t publish it. So we’re doing that as well. So it’s a timely question, and you will see some more in the coming weeks rather than months.

Richard Diamond — Castlewood Capital Partners, LLC — Analyst

Thank you very much. Stay safe.

Gary Chapman — Chief Executive Officer and Chief Financial Officer

Thank you. Thanks, Richard.

Operator

Our next question comes from Ted Lou with Tertiary Oil & Gas. Please go ahead.

Ted Lou — Tertiary Oil & Gas Co. — Analyst

The last commentator from Castlewood, I think, was spot on. It seems to me that you only have one problem, and that’s lack of information going out to the investment community. So if we can get some more solid research analysts following your stock, I think everything else would fall into place. I personally think you’re the best investment that I’m aware of. I’ve only been doing this for 50 years. Thank you so much.

Gary Chapman — Chief Executive Officer and Chief Financial Officer

Thank you, Ted. We’d love to get more research analysts. And typically, the reasons we’re given is that we’re in shipping, or we’re an MLP, or we’re too small. So yeah, you’re right, we need to — and this is partly why we talked about IR and the Board yesterday to get out there more and try and get on people’s radars more. But it’s an uphill task, I’m afraid, but we’re going to do our best.

Ted Lou — Tertiary Oil & Gas Co. — Analyst

Aren’t you taxed as a C corporation?

Gary Chapman — Chief Executive Officer and Chief Financial Officer

Yes, we are.

Ted Lou — Tertiary Oil & Gas Co. — Analyst

I think that needs to be underlined a few hundred times. Thank you.

Gary Chapman — Chief Executive Officer and Chief Financial Officer

Thank you.

Operator

Our next question comes from Pavel Oliva with RockHill Global. Please go ahead.

Pavel Oliva — RockHill Global — Analyst

Hi, good morning. Thank you for taking my question, and thank you for a great quarter. Just — my question is, given where the share price and the disconnect between your cost of debt and cost of equity, I wanted to ask you, like what is the hesitation to add the new dropdowns? And just as an aside, I don’t think marketing a stable Partnership with 16% yield is that difficult. You have a turnover of shareholders that have to sell, and you have an incredible universe of investors that are seeking 2% yields. So you — I don’t understand why the Board has allowed this arbitraged to develop. And this doesn’t seem to me like rocket science to remedy. It’s just you guys have to come out and emphasize to investors, the advantages on the tax side that some of it is a return of capital.

And really it’s really a scorecard for the Board that your cost of equity is 16%, and your cost of debt is 1.5. Can you answer — the other question I would have is — or comment, people ask you what’s the downside if you do not recharter the Shell ship. Why don’t you just say that it would reduce your coverage by X? And so kind of insert some clarity into it, so we know what the worst-case scenario is.

Gary Chapman — Chief Executive Officer and Chief Financial Officer

Pavel, thanks for your questions. I think on the arbitrage between the debt and the equity, we have NYK the Japanese shipping company as part of our sponsor group. And as a result, we have access to Japanese banking lending on the debt side. And so we’ve ended up in a very fortunate position to have incredibly low costs of debt. That sort of pushes us one way. Obviously, the equity is — has gone the other way, but largely driven by the market. If you look around at other companies, they’re in exactly the same position as us. And some of those companies are just as good. Maybe not MLPs, but just as good. You’ve got larger companies, $5 billion companies in the high-single digits on the energy side. It’s a difficult place to be at the moment. We can do more, and I think we recognize that. We do need to come out and do more.

I think where historically, we had institutional holders and a stable financial market, it probably was easy, whereas today, we’re in a different world. So I think the equity has gone one way, swept along by the market in general terms. And the debt’s gone the other way because we’re able to access probably some of the lowest debt costs in the world for the type of company we are. I think we recognize we can do more, and that’s our plan.

Pavel Oliva — RockHill Global — Analyst

Well, one suggestion is, you look at large institutional investors, insurance companies or pension funds that are struggling to meet their 6%, 7% or 8% revenue target. It’s bringing in a few of those would be a very interesting addition besides stable shareholding. It’s something that may be very interesting. And can you maybe also comment on what I ask — can you sort of put towards the downside if you do not recharter it? It’s not that you won’t recharter it, but at least, as investors, we know what the downside is.

Gary Chapman — Chief Executive Officer and Chief Financial Officer

Yeah. I think over the years, the Partnership has not given out huge amounts of forward guidance on sensitivities. It’s probably not needed to. And I think there’s a recognition that things are different today. And potentially, they will stay different in that respect anyway. So I take your point that perhaps we could do more in terms of looking forward with sensitivities. And I think that’s part of the IR story that we’d be looking at, because I do agree with you that the more information we can give, the clearer it is for the unitholders and potential unitholders.

Pavel Oliva — RockHill Global — Analyst

Well, you were a shipping company or MLP before. So it’s not a new situation. And obviously, there has been a huge turnover. A lot of your shareholders were levered and had to sell. Even having some of your sponsors buying some stock, if you can’t buy stock, would be very, very helpful, just saying like they recognize the value. And if the market doesn’t want to buy it, at least the sponsors can?

Gary Chapman — Chief Executive Officer and Chief Financial Officer

Yeah. Noted. Yeah.

Pavel Oliva — RockHill Global — Analyst

Just — I think you guys just need to get a little more aggressive. It’s — increase the urgency a little bit, because the stock is trading like if you’re bankrupt.

Gary Chapman — Chief Executive Officer and Chief Financial Officer

Yeah. I wouldn’t agree with that. I don’t think it’s quite that bad when you look around at the rest of the market. But as I said before, we recognize that there’s more we can do.

Pavel Oliva — RockHill Global — Analyst

Okay. All right. I just want to hear a little more urgency in your voice, that’s all, I guess.

Gary Chapman — Chief Executive Officer and Chief Financial Officer

Yeah, I understand your point. Thank you, Pavel.

Pavel Oliva — RockHill Global — Analyst

Thank you.

Operator

This concludes our question-and-answer session. I would like to turn the conference back over to Gary Chapman for any closing remarks.

Gary Chapman — Chief Executive Officer and Chief Financial Officer

Yeah. Thank you, everybody, and thank you for your questions today. It’s been a good discussion. So thank you very much.

Operator

[Operator Closing Remarks]

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