First International

Look to the skies for a solution

- Tuesday 28 August 2012 -

SUMMER is nearly over, the kids are back in school and winter will be upon us all too soon.

Unfortunately the shipping industry has been stuck in winter for several years and now faces a period that could present the final tipping point for many companies.

Freight markets both wet and dry are now hopelessly over-supplied with ships of a historically young average age, while the demand for cargo movements continues to decline.

Yet still ships are being ordered, with the wet fleet due to grow by another 20% in the next 18 months and the dry by nearly 30%. The largest increase of all is with the large container ships segment, due to grow by more than 60%.

Let us just remind ourselves that shipping serves the global economies. It cannot create demand but by reckless speculation in new ships it can — and has — destroyed its own economic viability.

Meanwhile, the added reality is that its customer bases are in countries that are themselves going through the worst economic recession since the 1930s, making the outlook very grim indeed.

The monetary problems of the euro nations continue to worsen and reflect the problems facing the shipping industry.

Countries buried under vast non-performing debt and growing unemployment are being offered more debt, are required to massively cut overheads — ie, government spending — and are being shown no plan for recovery.

Meanwhile China, the engine of the last boom, is retreating to digest the rapid growth it has created. It is now reformulating its next economic and political movements under new political leadership that will take at least five years to render its plans and another five years to implement them.

Let us not forget that China’s last boom was fuelled by the countries of Europe and the US that benefited from the supply of cheaply manufactured goods and the countries of the Middle East, South America and Australia that supplied the raw materials and energy products.

The serious recessions in Europe and the US have greatly reduced these countries’ demand for Chinese goods. There is a distinct possibility that the US will go into a deeper recession after the presidential election, whoever wins, which again points to a continuing downturn in the demand for shipping.

The freight rates that emerged in the middle of the last decade will not return in this, or the next, decade.

The ships that were ordered in the middle of the boom are worth as little as 50% of their delivered price today and, with so many wet and dry bulk ships trading on the spot markets, they are uneconomic even at those levels.

Slow steaming, reduced maintenance and cheaper crews do not address the problems but ultimately make them worse.

Ships have to operate in what is one of the most hazardous environments in the world and must be designed, maintained and operated by those who understand the risks and can afford to deal with them responsibly.

Things are very different in aviation, the other major transportation industry, in that most airlines today do not own their aircraft, but lease them from well-capitalised leasing companies that order in bulk quantities directly from the manufacturers.

Aircraft are then leased on long-term contracts to various airlines who are obliged to maintain and operate them in their respective services. Invariably airlines competing with each other on various routes lease the same types of aircraft from the same leasing company.

Airlines do not speculate on aircraft orders or in their secondhand values and most modern aircraft operate for 30 years or more. They are usually traded by the major airlines as they continue to modernise their fleets, and the leasing companies often re-lease aircraft to lesser airlines or convert them to carry freight.

Even the largest airlines cannot afford to own, and therefore finance, all the aircraft they need.

The leasing companies do not operate the aircraft but are able to fund the purchase because of their large capital structures and the ability of investors to look at the lease obligations that support them.

Almost every major US airline has been through bankruptcy reconstruction in the last 10 years and the mergers that emerged from this have been made easier by the leasing structures.

There have been some leasing deals, called bareboat charters, in shipping, and indeed time charters that are operating leases, but more needs to be done to restabilise the capital side of the industry.

The equity and debt capital needs to be connected with the end users of the ships and not just the operators or the asset speculators. The container industry is already deeply involved with leasing and the other sectors of shipping need to follow suit.

Paul Slater is chairman of First International.

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