First International

‘There is more trouble ahead for the global shipping industry’

23-03-2010

First International chairman says that a number of factors are conspiring to keep companies in doldrums
Paul Slater

AS WE approach the end of the first quarter of 2010, the state of the global shipping industry continues to worsen.

There are a number of factors that indicate this and suggest that there is more trouble ahead.

Firstly, most of the publicly listed companies that have reported on their results for 2009 show significant reductions in gross revenue compared with the year before and that the second half of 2009 was worse than the first half.

Newbuilding cancellations have been minimal although many have been deferred into 2012 and beyond.

Shipyards have shown no reductions in capacity but prices have dropped sharply since the end of 2007/early 2008 and are likely to remain there for several years.

The freight markets have recovered slightly from the depths of 2009 but are nowhere near the exotic levels of 2007- 2008.

Dry has temporarily stabilised in coal and iron ore but at levels of two years ago, and wet rates in both crude and product remain historically low.

Periodic blips in the Baltic Dry Index cause excitement among some analysts but with China’s future growth slowing and their own controlled fleets expanding the spot market volumes will shrink.

The gap between the income levels needed to fund a newbuilding ordered at 2007-2008 prices has widened significantly, meaning that a large number of bulk carriers and containerships delivered over the last two years or are due to deliver over the next two are significantly overpriced and unlikely ever to trade economically.

With a large number of ships certain to deliver over the next two years, supply will exceed demand for most of the next five years, and beyond if yard capacity continues to grow.

Reduced prices and statistics from secondhand sales will have a significant effect on banks’ loan portfolios and the balance sheets of many shipping companies.

For the past 18 months, the shipping industry has been in denial and avoided bringing its asset values into line with current markets.

Shipowners will now face not only auditor demands, but the banks’ loan covenants now that values can be estab- lished at levels last seen at the end of 2000.

Even the large shipping companies that do not have specific covenants will not be able to sustain their inflated asset values, and we can expect to see more asset impairment provisions in the 2009 end of year accounts.

Bank financing is extremely difficult to source and margins have increased sharply with more equity being required and charter cover demanded. With interest rates set to rise later this year, refinancing of maturing debt will be expensive and not readily available.

Little wonder that a new round of initial public offerings is upon us as owners seek new capital for their apparently insatiable desire to buy more ships.

How many of these will succeed and who will buy the shares is open to debate.

The first two to close are from existing shipowners with a strong track record for timing and delivering shareholder value even though their present public companies are suffering in today's markets.

Interestingly, they both are aimed at the spot markets and have no debt. One attracted institutional support while the other was placed mainly with wealth funds.

These may be the cream of the crop as we now see prospectuses that are heavily leveraged with short-term debt with ships on long-term charters where the base rates will barely cover the debt service and operating costs.

In one case, the auditor’s report in the prospectus raises substantial doubt about the company’s ability to continue as a going concern.

The unacceptable practice of fees and commissions being paid on an ongoing basis to the founders, irrespective of profitably, has reappeared. The founders should only be compensated out of profits after dividends have been paid to the shareholders.

There is no doubt that the industry needs new capital to enable proper restructuring to take place and build com- panies on a sound financial basis to pro- gressively benefit from the recovery of the global economies.

This will not be easily achieved for even the most reputable companies and some will simply fold, but investors should be wary of buying ‘pigs with lipstick on’, as there will be plenty of opportunities to invest in well structured, well managed shipping companies over the next few years.

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