Archives for posts with tag: business

Who would have thought it? Nowadays a surprising number of people around the world seem to know about shipbuilding. Even taxi drivers can sometimes tell you there’s been a shipbuilding boom, and they’re right. For two decades the maritime industry watched in awe as shipyard output grew eightfold from 19m dwt in the early 1990s to 166m dwt in 2011.

Nice Steady Investment Story

Then came the crash. Deliveries dropped to 109m dwt in 2013, a big fall, but not the disaster many expected. Somehow the industry bailed itself out, and while lower deliveries grabbed the limelight, the yards were running flat out to keep up with the new investment profile which was throwing them a lifeline. In the run-up to the boom, 42% of estimated investment was in the tanker and container sectors; 50% in bulk and specialised, and 7% in gas. This pattern was largely maintained during the boom. All nice and steady, but then everything changed.

All Change for the Recession

Since 2008, there has been a major re-alignment in market shares, as structural changes in these segments have altered investment patterns. Tankers and containerships have suffered, falling to 22% (the tanker share fell from 24% in the boom years to 12%, and containers from 18% to 10%). Meanwhile, the bulk and specialised share jumped to almost 70%.

Time for Transition

On the tanker side, high oil prices, sluggish OECD growth and greater US energy self-sufficiency have all nibbled at demand. Meanwhile container trade growth has slowed since the boom and the sector is still struggling to absorb overcapacity. No wonder investors are easing back.

Luckily for the shipyards, bulkers and specialised vessels have stepped up to fill the gap. Bulkers have accounted for 25% of investment since 2008, similar to their share during the booming 2000s. This has been helpful for Japan and China, who dominate bulker building. And they have achieved it without taking too much of a cut on prices, which have been edging up in 2013 and 2014.

A Specialised Focus

But the real star is the specialised sector, which has accounted for 43% of estimated investment since 2008, up from 27% in 2003-2008. Cruise did pretty well, but the super-star, especially for the Korean yards, was the boom in offshore investment, including alternative energy like offshore wind farms. Offshore investment jumped from $34bn in 2008 to $47bn in 2012. Really quite exciting, but challenging for the yards.

Where Next?

So there you have it. For the time being the shipyards have struggled through, thanks to this switch in product range. Although tricky, the bulkers are keeping Japan and China busy and specialised was a nice bonus, especially for the big Korean yards. But switching product range is always difficult, and that really is the issue for the future. The first rule of shipbuilding recessions is “you never know what they’ll order next” but it’s often completely different. Have a nice day.

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According to Oscar Wilde, a cynic is a man who knows the price of everything and the value of nothing. He haggles endlessly over a few hundred thousand dollars on a $20 million ship, when its real “value” is nothing like $20 million. Wilde also mentions “sentimentalists” who are seized by ideas like “the world’s biggest ship”, without really grasping the economics needed to make them work.

The “Price” Is Right

In both cases the key distinction is between the cash which changes hands and the value received in return. In shipping cash is exchanged for a ship and investors can easily check that it’s the right price from brokers’ reports. Another price check is to compare the ship price over time (the blue line in the graph plots the price of a 5 year old Panamax bulker) with the price suggested by a model based on spot earnings and newbuilding prices (the red line plots the price calculated by a regression model – the fit is excellent with an R-squared of 0.9). Currently brokers are reporting $24m and the model says $20m, so the market price is a bit high? Or is it?

The “Value” Investment Model

Which brings us to the ship’s “value”. Back at start 1999 when a 5 year old Panamax bulkcarrier cost $12.5m, the “model” suggested that this was a bit expensive, and $10m was more in line with fundamentals. But anyone who paid $12.5m in 1999 was getting astonishing value. By start 2007 the ship, 13 years old, was worth about $31m and over the eight years it had earned about $42m on the spot market. Deduct operating costs and the $12.5m purchase price produces a very handy profit indeed.

That’s value, but for new investors who entered the market in late 2007, the value proposition was reversed. By then the 5-year-old Panamax had a price of $75m, and the model says it should be about $70m. So if you could snap it up for, say, $65m it’s a bargain … not. Unfortunately the future value “premium” proved to be negative and by start 2014 the 11-year-old ship was only worth $17m, a $58m loss. Spot earnings over the 6 years were about $33m thanks to strong markets in 2007/8 but after operating costs the loss is significant. So haggling over a $70m or $75m purchase price was not the issue. It was all about “value”.

Hidden Value Premium

Today the Panamax price is $24m and the model says it should be $20m. But what about its “value”? Is today more like January 1999, late 2007, or something in between? Not many punters would back the January 1999 value premium. Spikes like 2007/8 are far too rare, and with today’s economic problems the fundamentals are against it. But the market is pretty low, so negative value like 2007 seems equally unlikely too.

Cynics In Charge

So there you have it. Maybe shipping investors should be contemplating a fuzzy scenario in which they break even, and maybe make a bit of cash, but not much? Not the excitement they’re used to, but compared with other investments on offer, maybe not such a bad one. In which case, today’s price may be just as important as its value. Have a nice day.

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Last week’s Analysis highlighted the rejection of the ‘P3’ container shipping alliance plans by the Chinese authorities, and how it might relate to the movement of trade by national fleets or otherwise. This week the focus is shifted to examine how liner shipping, ‘P3’ or no ‘P3’, fits within the pattern of consolidation in the key volume shipping sectors.

How Does It Stack Up?

In reality shipping is a relatively fragmented business. Over 88,000 vessels constitute the world fleet across almost 24,000 shipowners, with an average of less than 4 ships per owner. Limiting the analysis to 10,000 dwt and above, the average is still less than 7 ships. When talk of the ‘P3’ first hit the container shipping news, concerns were raised about the potential level of consolidation in shipping. Does that really stack up?

In Bulk, But Not Consolidated

As the graph shows, there has been consolidation of ownership, but over the last 20 years it has actually been fairly gradual. Today the Top 20 tanker owners account for 30% of the tanker fleet compared to 26% in 1994. In the bulker sector the Top 20 owners account for 22% today compared to 15% twenty years ago. In general, larger entities such as industrials have increased their share of the bulk fleets. Both sectors saw a fair amount of consolidation between 1994 and 2004, before a drop in the share accounted for by the Top 20 owners since then. The downturn post-2008 looks to have led to some fragmentation as the distressed position many traditional owners found themselves in created opportunities for new entrants (and new money).

Ticking The Boxes?

Containership ownership, meanwhile, has always been dominated by large, fairly corporate, ‘liner’ companies and some substantial charter owner interests. With ‘strings’ of containerships needed to operate scheduled services, ownership has been consolidated amongst fewer entities, and in 1994 and 2014 the Top 20 owners accounted for just under 60% of overall capacity, a much higher share than in the bulk sectors.

Concentrated Liners

However, liner operation (rather than boxship ownership) is where volume shipping is most highly consolidated. Large liner companies have historically been afforded some protection, first by the conference system and then by the approval of a network of alliances, reflecting the capital intensive nature of running box shipping services and the associated infrastructure. Today the Top 20 lines operate 77% of container capable capacity globally, up from 66% in 2004 and 37% in 1994. This is clearly a highly consolidated part of shipping, ‘P3’ or no ‘P3’ (itself a proposed alliance, not a merger of operators).

Overall, shipping remains quite fragmented despite some gradual consolidation. However, liner shipping, with its heavy operational demands, is generally much more concentrated. It’s certainly not quite Coca-Cola and Pepsi, but even without the ‘P3’ alliance this is where volume shipping is by some distance already at its most consolidated. Have a nice day.

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The film Transporter starring Jason Statham ought to appeal to shipping folk. There’s a big action scene on a containership and the “transporter”, with his computer-like karate skills, has a commercial philosophy which consists of three absolute rules. Rule 1 – “never change the deal”; Rule 2 – “no names”; Rule 3 – “never open the package”. Could these be helpful in our branch of the transport business?

Our Word Is Our Bond

Rule 1 certainly can. Shipping is famous for sticking to its word, and Baltic members will enjoy the opening scene of the movie. Statham is waiting outside a bank, in his impeccable BMW get-away car, when four bank robbers jump in. But the deal was to transport only three, so Statham refuses to move. As police sirens wail, his clients solve the problem by shooting number four and pushing him out of the car. A better solution than arbitration, given the circumstances, but not one the Baltic recommends!

Shipowner With No Name

The Transporter’s second rule is also close to the heart of many shipowners – “no names”. During the 20th century shipping became a rather anonymous business, with the majority of ships flagged out under brass plate companies to avoid unwelcome costs. This practice of giving the ship a different name and nationality from the owner has gained wide acceptance and the “flagged out” fleet grew to 40% of world shipping in the 1980s and over 70% today. But Mr Statham’s “no names” rule is under pressure as the EU and US seek transparency so that the “responsible party” for pollution and terrorism incidents can be traced and apprehended.

P3 Package Poker

Which brings us to the 3rd rule – “never open the package”. The problem this rule addresses is that opening the package can produce unexpected consequences. It happens in the movie when the transporter opens the package and finds a girl and it can happen in business too. Take the recent “P3” package. The world’s three biggest (European) container operators decided that cooperation would give them a cost advantage. They packaged themselves as “P3” and asked for approval from the authorities. The EU agreed, but unexpectedly China did not. Why? One explanation is the balance of fleet ownership. Europe is a massive exporter of shipping services, with a fleet twice its ship demand, whilst China and SE Asia are big importers and exporters with relatively smaller fleets (see graph). To date China and Asia have accepted this imbalance, but maybe the world is changing.

Who Rules The Waves?

So, can the shipping industry learn from Mr Statham’s pithy approach to the transport business? “Never change the deal” is a core market principle and although “no names” does not work so well today as it used to, shipping has something to gain from keeping its head down. But it’s the unexpected consequences of opening the package that drives the film and maybe smart shipping players can learn something from Mr Statham’s error. Stick to the deal, keep your head down and whatever you do, never open the package, however interesting the contents may seem. Have a nice day.

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In the 60s film Carry On Up The Khyber, the Brits were at war in Afghanistan (sound familiar?). Unlike our modern lads, the Highland division had a secret weapon, which they kept under their kilts! But when the dastardly enemy captured Scotsman Private Widdle, he was found to be wearing underpants. Armed with this knowledge they set out to discredit the “secret weapon”.

Shipping’s Secret Weapon

The shipping investor’s “secret weapon” is, of course, the market cycle. Since cycles come in all shapes and sizes, “buy low, sell high” makes a great business strategy for investors who “trade ships not cargo”. This philosophy became popular at the end of the 1980s when there were fortunes to be made on trading distressed assets. For example, a VLCC purchased at $3 million in the 1983 was soon worth $20 million. But it’s a tricky business, and investors need to get comfortable with the real dynamics of the “weapon” they are playing with.

It’s Not a Gift, It’s a Loan

The notoriously cyclical VLCC market shows how dangerously dynamic this mechanism can be. The graph estimates the annual “free cash flow” of a VLCC between 1970 and 2013. The cash flow is calculated from spot market earnings less depreciation (not cash, but ships must be paid for some time), interest at LIBOR plus spread, and OPEX.

The approximate “free cash flow” (in $m pa) displays an astonishingly long cycle. Between 1970 and 1973 the VLCC netted $40 million, a fortune on a vessel purchased, for example, for $18 million in 1966. Then between 1974 and 1995 it lost $94 million. Much of this was in the 1980s, but the vessel did not recover full depreciation until the mid-1990s. Then from 1996 to 2010 the money came back again, with investors grossing $90 million over 15 years. Since 2011 the investment is back in the red to the tune of $13 million. It would have been much more if interest rates had not crashed.

Three Lessons

Lesson 1 from this analysis is that the timing of the mega-investment campaigns in 1973 and 2007 could hardly have been worse, requiring deep pockets and patience to survive. Lesson 2 is that spectacular profits are possible but very tricky to achieve. In 1999 a few courageous VLCC investors were on the verge of bankruptcy and sentiment was at rock bottom. However a VLCC ordered for around $70 million, to be delivered in 2000, would by 2008 have earned over $80 million after expenses and the 10 year old ship value peaked at $135 million. Lesson 3 is that investors who didn’t play the cycle made a pittance. The 1974-95 loss of $94 million was eventually recouped by a profit of $89 million in the 2000s. But over the 44 years the net balance was a miserable $23 million.

Cycles Out of Kilter, Captain?

So there you have it. The choice between trading ships and trading cargo is a real one. Investors who opt for trading cargo must, like military leaders, prepare for a long low margin war. And investors who decide to trade ships had better make sure that they’ve got more than just underpants under their kilts. Have a nice day.

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SIW1112Liner shipping companies are responsible for operating the world’s 5,087-strong containership fleet. They own 52% of the capacity and charter in the rest from independent owners. In principle they then turn a profit on this by transporting containers around the world for cargo shippers.

Up And Down

Recent experience suggests that this can be a difficult business. Freight rates have become very volatile, creating unpredictable earnings. The graph shows a monthly weighted average index of spot freight rates on the peak legs of the two largest mainlane trades, the Far East-Europe and the Transpacific. Long-term historical data is hard to come by but it is possible to estimate an index based on the data available at the time, including CCFI and SCFI indices. Last year the two trades accounted for 28m TEU of cargo, 17% of global box trade and a large slice of income for many major liner companies, for whom volumes carried on both a contract and spot basis are impacted by the rate environment in general.

Shipping in general is a cyclical business, but what is striking is the change in spot rate volatility pre and post credit crunch. The period between 1995 and 2007 saw two big dips and two clear peaks. In the much shorter period since the crash there has been huge volatility and already two clear peaks and three market troughs. That’s more cycles in the the last six years than in the previous twelve, not to mention the fact that the monthly index has moved within a band of $1,148 compared to $593 before 2008.

It Went Crunch

Pre-downturn freight seemed to follow longer cycles. Running capacity was linked to the size of the fleet and when demand was healthy (e.g. when Chinese exports boomed) liners benefitted and when it was weaker (e.g. the end of the dotcom bubble) or they had delivered too much capacity, then lower rates ensued.

Getting Very Bumpy

But in 2009 box trade declined by 9% whilst boxship fleet capacity grew by 6%, creating an almighty surplus and an imperative for lines to manage capacity to support rates, with sitting things through no longer an option. Initially idling slow steaming and redeployment of surplus capacity pushed rates back up, but by 2011 reactivated ca-pacity pushed rates way back down again. Since then volatility has reigned supreme and attempts to rein in capacity have been fighting a tide of supply pushing rates down, all the time with fuel costs at elevated levels. In 2012-13 the index peaked at $1,576, $1,341 and $1,257 before trending back down each time.

So container freight has become spiky, and liner companies could do without the volatility. Whilst overcapacity remains (4% of the boxship fleet is still idle), maybe the message is to ignore the ups and downs and get on with business. Those who have focused on operating vessels efficiently and cutting costs look to be doing the best. If you’re stuck on the roller-coaster, hold on tight and keep your eyes open. Have a nice day.