Shipping Finance Elements and Concepts

Following Presentations on Shipping Financing have been found on the internet. They are reproduced here as a matter of convenience for readers interested in the subject of how ships have been financed under different structures and different business models, at present and over time.

MV NEPTUNE THALASSA 13 BMK_5610 @There is debt (senior or first preferred ship mortgage, second lien, junior loans) and equity (owners’ equity or sweat equity, friends-and-family money) for the archetypal structure available to independent (individual) shipowner. Shipping banks over time had been the prime financiers of the shipping industry mostly in  the form of asset-backed financing (mortgage). There is leasing whether operating or financial leases, sale and leaseback, or uniquely structured Japanese Operating Leases (JOL), and financing earned via long-term charters (time charters and long-term bareboat demise charters). Independent shipowners have been dealing with shipping banks and often financed vessels via project finance, and when circumstances fertile, dealt with private equity as well. For owners who sought public equity and underwent an IPO process, the capital markets for equities and for bond (shipping bonds) have offered more alternatives. Shipping finance has been experiencing tectonic changes since 2008 and has moved from relatively self-explanatory terms of vessel valuations and Loan-to-Value (LTV) to terminology to accommodate Basel III with its Tier 1 Capital (CET1) to Risk-Weighted Assets (RAW) and the Capital Adequacy Ratio.

Copyright to the presentations and articles listed herebelow belongs to their perspective owners, and hereby duly acknowledged. Presentations have been found posted freely on the world wide web, and reproduced here as a matter of convenience.


Elements of Ship Finance
Zan Yang and Jian Chen
Department of management, Dalian Maritime University                                                  Last accessed on the internet on July 26, 2016.                              http://www.paper.edu.cn/scholar/downpaper/yangzan-2.html


Risk vs Return for Lenders and the Economics for Borrowers
by R. Philip Bailey, June 2015
Last accessed on the internet on July 26, 2016.

By Allan D. Reiss, Morgan Lewis & Bockius LLP, 2014

Last accessed on the internet on July 26, 2016.

Deloitte, 2011
Last accessed on the internet on July 26, 2016.

Irish Maritime Development Office, 2015
Last accessed on the internet on July 26, 2016.

Shipping Finance: A New Model for a New Market                                                  Citi, 2015                                                                                                                       Last accessed on the internet on July 26, 2016.                                    https://www.citibank.com/tts/trade_finance/financing/docs/citi_ss_v2.pdf


The Impact of the Basel III Capital Accord of Asset Finance
by Angelo L Rosa, 2012
Last accessed on the internet on July 26, 2016.

by Basil M Karatzas, 2010
Journal of Equipment Lease Finance
Last accessed on the internet on July 26, 2016.

Dissertation by Alex Orfanidis, 20014
Last accessed on the internet on July 26, 2016.

Ariff Kamarudin, 2012
Lehigh University
Last accessed on the internet on July 26, 2016.

© 2013 – present Basil M Karatzas & Karatzas Marine Advisors & Co.  All Rights Reserved.

IMPORTANT DISCLAIMER:  Access to this blog signifies the reader’s irrevocable acceptance of this disclaimer. No part of this blog can be reproduced by any means and under any circumstances, whatsoever, in whole or in part, without proper attribution or the consent of the copyright and trademark holders of this website. Whilst every effort has been made to ensure that information here within has been received from sources believed to be reliable and such information is believed to be accurate at the time of publishing, no warranties or assurances whatsoever are made in reference to accuracy or completeness of said information, and no liability whatsoever will be accepted for taking or failing to take any action upon any information contained in any part of this website.  Thank you for the consideration.

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The International Handbook of Shipping Finance

We are excited about the autumn publication of the new, authoritative handbook on shipping finance, The International Handbook of Shipping Finance, edited by Professors Manolis G. Kavussanos & Ilias D. Visvikis, and written by a series of authors with outstanding careers at the frontlines of the maritime industry and shipping finance.

Shipping Finance is a unique segment of finance in practice, given the special nature of the field, at the interface of the maritime industry, the finance and banking industry, and trade, fiscal and monetary policies. Shipping is a capital intense industry, and successful shipowners are often defined by their access to competitively priced cost of capital, and likely, the more plentiful and cheaper the capital, the great the success story – as long as risk management practices are grounded to industry fundamentals and accommodate the well-documented high volatility nature through the business cycles. Financial leverage, and financing in shipping, can be achieved in several forms from plain financial leases to operational leases to structured financing to asset backed lending, via export credit and project finance, through the capital and public markets. Shipping finance had traditionally been obtained based on the quality of the collateral (asset backed financing and first preferred ship mortgages), but both the banking-crisis-post-2008 and the evolvement of the maritime markets have necessitated a deeper understanding of the field. Expertise in the shipping markets (operating and managing ships) now has to be tantamount to the expertise of mastering and optimizing financial performance.

In our daily way of business, we are often approached by young people or new investors  and financiers to shipping asking “Where we can learn more about shipping finance”. Besides recommending (of course!) following our blog (Shipping Finance by Karatzas Marine), we can now heartily recommend The International Handbook of Shipping Finance, as a first port call for someone to get a ground foundation of the maritime industry and shipping finance. Written by practitioners in the field, the book offers more than just academic theory as it delves into the detail of ‘how actually is done’. Masterly edited by well-known Professors of shipping finance, Professors Manolis G. Kavussanos (presently Professor at Athens University of Economics and Business (AUEB) & Ilias D. Visvikis (presently Professor at the World Maritime University (WMU) in Malmö, Sweden), this handbook of shipping finance will serve well future generations of students, new investors, but mostly, we want to think, existing shipowners who now, with many shipping banks closed, will feel the need to getting a deeper understanding of shipping finance.

Basil M Karatzas and Karatzas Marine Advisors & Co have been honored to have been invited to contribute a chapter for The International Handbook of Shipping Finance, on the subject of shipping bonds: ‘Public Debt Markets for Shipping’, Chapter 6 of the book.

On a sampling basis, additional contributors to the book are (in alphabetical order): Stefan Albertijn, with HAMANT Beratungs-und Investitions GmbH, Dimitris Anagnostoulos with Aegean Baltic Bank (ABB), Henriette Brent Petersen with DVB Bank SE, Wolfgang Drobetz with the University of Hamburg, Fotis Giannakoulis of Morgan Stanley, Jan-Henrik Huebner with DNV GL, George Paleokrassas with Watson Farley & Williams, Jeffrey Pribor, with Jefferies LLC, and Manish Singh with V.Group Limited.


The International Handbook of Shipping Finance is a one-stop resource, offering comprehensive reference to theory and practice in the area of shipping finance. In the multi-billion dollar international shipping industry, it is important to understand the various issues involved in the finance of the sector. This involves the identification and evaluation of the alternative sources of capital available for financing the ships, including the appraisal and budgeting of shipping investment projects; legal and insurance aspects of ship finance; the financial analysis and modelling of investment projects; mergers and acquisitions; and the commercial and market risk management issues involved.

Technical where appropriate, but grounded in market reality, this is a “must-have” reference for anyone involved in shipping finance, from bank practitioners and commodity trading houses, to ship-brokers, lawyers and insurance houses as well as to university students studying shipping finance.

Flyer - The International Handbook of Shipping Finance JUL2016_Page_1

The International Handbook of Shipping Finance. An exciting book to read in a swiftly changing shipping finance environment!

THE INTERNATIONAL HANDBOOK OF SHIPPING FINANCE
Edited by Professors Manolis G. Kavussanos & Ilias D. Visvikis

Flyer – The International Handbook of Shipping Finance JUL2016


© 2013 – present Basil M Karatzas & Karatzas Marine Advisors & Co.  All Rights Reserved.

IMPORTANT DISCLAIMER:  Access to this blog signifies the reader’s irrevocable acceptance of this disclaimer. No part of this blog can be reproduced by any means and under any circumstances, whatsoever, in whole or in part, without proper attribution or the consent of the copyright and trademark holders of this website. Whilst every effort has been made to ensure that information here within has been received from sources believed to be reliable and such information is believed to be accurate at the time of publishing, no warranties or assurances whatsoever are made in reference to accuracy or completeness of said information, and no liability whatsoever will be accepted for taking or failing to take any action upon any information contained in any part of this website.  Thank you for the consideration.

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Shipping’s new dislocation: the banking system’s ‘safety trap’

Times for most shipping sectors are very tough, by many standards, even if one takes a long-term historical perspective. The Baltic Dry Index (BDI), the proxy for the broader shipping industry in many ways, is almost 100% up in the last forty days – and still, dry bulk vessels barely achieve operating break-even rates on the spot market.

Dry bulk asset prices, despite the recent rejuvenation of the last two weeks, are very low; bulkers older than ten-year-old typically change hands at multiples of their scrap price. The dry bulk freight market has taken most of the blame, since what kind of buyer would like to buy a vessel – irrespective of attractive pricing – and start losing money from the minute they touch them when the closing and delivery of the vessel is in effect.

No doubt the weakness of the freight market deserves lots of the blame. But, anyone, who has been involved with vessel valuations and shipping investments, knows that vessel asset prices are also materially influenced by several more factors, availability of cheap capital being the primary driver among them.

Dhow boats_Doha_APR2016_BMK_8575 @

Shipping’s Old Model. Image Credit: Karatzas Images

Financing for shipping projects at present is typically rather very expensive. Most shipping banks have already left shipping and a few more have been divesting shipping loan portfolios as fast as practically possible. For the banks still active in shipping, very few and precious, they mostly stay away from soliciting new clients – since their existing clientele can absorb their curtailed availability of funds, and without having to undertake the always challenging KYC approval, etc. For new clients to be considered, they have to be “strategic”, with critical mass of fleet of vessels, sound prospects of business success, and sometimes, already recognizable names from the bank’s private wealth departments. Lending against dry bulk vessels is of no interest to the shipping banks now, tankers older than typically eight years of age are too old to lend against, crude tankers are too risky to touch, containerships need to have long term charters, and offshore is off a cliff for now. In short, for a shipping project to obtain new financing from a shipping bank these days, the ship will have to walk on the water, not just keep afloat!

Obtaining equity for shipping is no much easier, as most funds have lost billions and billions chasing a market recovery in 2013 that never came – or was run over by their exuberance optimism and newbuilding contracts, and now they stay away from the industry. Also, equity funds often invest pro-cyclically, when the market is in recovery, and thus the dry bulk’s negative cash flows are a serious deterrent. There are many funds (credit funds) that provide lending in the shipping industry, and they often charge 6-10% interest rates plus some degree of equity participation. And, the market is so constrained for debt financing, that we know several owners (and actually our firm has arranged such financing for a few more), where shipowners are borrowing at such high terms in order to be able to expand and exploit the present state of the market and the historically low asset prices.

The difficulty of obtaining financing for shipping projects has to do with many factors, some originating from the shipping industry but some not. The excesses of the shipping banks, for example, of the pre-Lehman credit boom still have not worked their way through the banking system. There is still an amazing amount of shipping loan portfolios that are priced close to original cost basis, allowing for little else for the banks but to play for time and hope for a market recovery. There are cases where the ‘non core’ bank is not allowed in any way to assist a potential, legitimate buyer of assets with the ‘core’ department of the same bank – forcing many times deals to be scrubbed or consummated at terms clearly inferior to what could had been achieved if the ‘core bank’ could be engaged; the legal limitations and other considerations for need of lack of coordination between ‘core’ and ‘non core’ are appreciated, but one may be tempted to say that regulators have been overshooting in order to compensate for their undershooting a decade ago.

Hamburg_Cranes Panoramic_Silver Lining_BMK_9721_FEB2016 @

A newer, better model… Image Credit: Karatzas Images

Another interesting observation on misplaced actions by banks (shipping banks in our case) due to regulation is that at a time of low or even negative interest rate policies (NIRP) and still extensive quantitative easing (QE) by the European Central Bank (ECB), banks go for few, selected, concentrated credit risk, especially when such risk is perceived to be superior that would lead to no losses for the bank. As a result, banks (shipping banks) end up chasing a handful of accounts, whether super-major independent shipowners or top-tier corporates, at razor thin margins. Banks these days would rather lend US$ 1 billion at no more than 150 bps spread to an account they deem superior rather make originate several mortgages of US$ 20 mil each, to solid accounts that do not tick all the boxes, at spreads of 500 bps. For the sake of being optically correct and allegedly minimize the probability of originating a loss-making mortgage, banks concede to cut their margins to the bone and accept concentration on a handful of accounts, while 90% of the lending market remains virgin territory. It’s amazing that our office, in our capacity of advisors and private placement agents, habitually is fielding calls these days from American and European and Asian banks desperate for new projects, but always for deals where credit is superior and always at increments of hundred millions. No project finance, no small or medium owners, no private companies: oil companies, large corporates, stand-out clients of private wealth, substantial end users.

We cannot name names but one can peruse the list of serial buyers of modern tonnage, often tonnage unloaded by publicly listed companies and private equity investors, to get an idea who are the clients the banks (shipping banks) want these days as clients. Rumor has it that such names have billion dollar lines with banks at barely higher than 100 bps spread; a ridiculously thin margin and a ridiculously low cost of funding given that interest rates by central banks are at almost all times lows.

Banks seems to have been boxed not by a “liquidity” trap but by a “safety trap” where regulators and central banks demand high credit assets as collateral, pushing banks to do business for what it is considered safe and not necessarily economic (at a price); some say that present policies have even been contributing to stagnant growth overall. Taking a narrow-focused group on shipping, one may wonder whether the banks (shipping banks) are shooting themselves on the foot and whether they are laying the ground for the next bubble: banks prefer to lend US$ 400 mil to one lender for the purchase of ten modern cape vessels at excess 80% leverage and at 150 bps spread, while will not even contemplate doing forty (40) mortgages at 50% leverage at 500 bps spread for ten-year old bulkers priced at 3x scrap value. Over-concentration on one account and asset class and trade at historically low margins (that likely to hurt the banks when interest rates increase) are clearly preferable, in bank’s point of view today, to broader diversification at robust margins that offer better prospects in the long term but also support the shipping market (including the shipping banks themselves in the short term).

In our humble opinion, the shipping finance market is highly dislocated at present (offering many investment opportunities), but more crucially, it seems that the elements of the next crisis are already incipient in the waters.


Article was originally published in the Maritime Executive Newsletter on May 2nd, 2016, under the title: “The Banking System’s “Safety Trap”“.


© 2013 – present Basil M Karatzas & Karatzas Marine Advisors & Co.  All Rights Reserved.

IMPORTANT DISCLAIMER:  Access to this blog signifies the reader’s irrevocable acceptance of this disclaimer. No part of this blog can be reproduced by any means and under any circumstances, whatsoever, in whole or in part, without proper attribution or the consent of the copyright and trademark holders of this website. Whilst every effort has been made to ensure that information here within has been received from sources believed to be reliable and such information is believed to be accurate at the time of publishing, no warranties or assurances whatsoever are made in reference to accuracy or completeness of said information, and no liability whatsoever will be accepted for taking or failing to take any action upon any information contained in any part of this website.  Thank you for the consideration.

Jones Act Financing: A New World

Jones Act Financing: A New World

For those active in the international shipping industry and shipping finance, the new seascape in the market since 2010 has been abundantly clear. A weak freight environment coupled with a tectonic change in the banking system for shipping has serious repercussions for shipowners from how they raise funding to the soft covenants in any agreement.  Almost a year ago, we had penned an article on the subject that was printed in the Cayman Financial Review.

The tectonic changes that have swept the banking industry worldwide have not spared the American banks, and by association, the domestic shipping industry. The so-called ‘Jones Act’ market has already been affected by a market dominated by ever-bigger banks looking for shipowners with critical mass, sizable footprint, vision and plans for growth, and audited and consolidated financials. We recently authored an article on the subject, ‘A new Seascape for Domestic Owners, and a new Course Line for Brown Water Credit’, published in the September issue of the esteemed Marine News magazine, of the MarineLink group. A copy of the article can be accessed by clicking here.

MT EAGLE FORD 14

Jones Act MT ‘Eagle Ford’ with Lower Manhattan backdrop: where shipping and finance meet. Image Credit: Karatzas Photographie Maritime


[Article is copyrighted material, Marine News and MarineLink Group, 2015; reprinted by permission].

2015 09SEP MN A new seascape for domestic owners & a new course line for brown water credit_extract_HL

© 2013 – present Basil M Karatzas & Karatzas Marine Advisors & Co.  All Rights Reserved.

IMPORTANT DISCLAIMER:  Access to this blog signifies the reader’s irrevocable acceptance of this disclaimer. No part of this blog can be reproduced by any means and under any circumstances, whatsoever, in whole or in part, without proper attribution or the consent of the copyright and trademark holders of this website. Whilst every effort has been made to ensure that information here within has been received from sources believed to be reliable and such information is believed to be accurate at the time of publishing, no warranties or assurances whatsoever are made in reference to accuracy or completeness of said information, and no liability whatsoever will be accepted for taking or failing to take any action upon any information contained in any part of this website.  Thank you for the consideration.

The great disconnect for tanker asset prices

This article was first published on October19th, 2015, at the Seatrade Maritime News, The Daily Insight into the Shipping World at this link: “The great disconnect with tanker asset prices”


The tanker market has been enjoying a robust freight environment reminiscent of the days of the great bull market in 2008, with rates for the flagship sector of VLCCs topping $100,000 per diem. The strength of the market is well-deserved, and one is content to see smiling tanker owners after the brutal 2011-2014 bear market when rates barely topped $20,000 pd for the VLCCs, as per Exhibit A.

2015 10OCT15 The great disconnect with tanker asset prices_EXHIBIT A_VLCC Freight Rates

EXHIBIT A: Average VLCC Earnings Worldwide; Karatzas Marine Advisors & Co.

There has been no real catalyst for the change of direction for tanker rates, but many factors have contributed to a better market. First, the shale oil story in the US has been a game changer in the energy industry, and this has cascaded to the tanker market: the US is not the biggest importer of crude oil anymore, and most of the oil now flows eastwards to China, slightly increasing ton-mile, but mainly, by disrupting established trading patterns and bringing more uncertainty to the market – and, we all know that uncertainty is always good to shipping. Second, the brutality of the bear market had caused immense pain to many a shipowner, pain that actually scared some people off and away from newbuilding contracts and investing money in special surveys which led to increased tanker demolitions, bringing some order of balance in the tonnage equation. And, Saudi Arabia’s decision in November 2014 at the OPEC meeting in Vienna to go after share rather than price margins, an action meant against high cost oil producers, effectively guaranteed a strong tanker market for the foreseeable future.

It seems that at least for now, the trade-winds are fairly favorable for the tanker market: rates are respectable throughout the tanker market, both for crude and products tankers, and the trends of oil trading seem to have some time to run, and crucially the tanker tonnage supply is well defined for the next eighteen months – more or less the time that would be required for newbuilding tanker orders to hit the water. Well, under such circumstances, both tanker stock prices and also tanker vessel prices should have been enjoying a rally commensurate to the freight market rally and the present expectations. However, that has not been the case, to the dismay of shipping analysts, ship brokers, investors, shipbuilders, and ultimately the shipowners.

It’s well known that skyrocketing freight rates always pull up with them asset prices, with some small time lapse of one-two months. Volatility in freight rates leads to ‘asset play’, the favorable way of shipowners hitting the jackpot. It’s well known that shipping asset prices can double, treble or quadruple in a matter of a few short years, allowing for enormous paychecks. Actually, this is the reason that many shipowners and investors and private equity funds have been attracted to this industry in the first place.

2015 10OCT15 The great disconnect with tanker asset prices_EXHIBIT B_VLCC Asset Prices

VLCC Tanker Prices. Karatzas Marine Advisors

The present pricing environment for tanker vessels has been a major head-scratcher. While freight rates have more than doubled in the last eighteen months in the VLCC market (Exhibit B), tanker prices have barely moved higher by 10%, or 20% depending on asset class and vessel age profile. The difference in the order of magnitude is just too big to be attributed to ‘statistical error’ or just to a market anomaly or temporary dislocation. Trying to find out the reason behind the disconnect is not a pure academic inquiry; it has commercial value in the short term, to say the least, and it may imply that the market has changed and new expectations / leads / drivers are prevailing now; and the sooner an investor deciphers the meaning of vessel values in the new environment, the sooner one can dodge the troubles of a changing market or the sooner one can position themselves better for the paradigm shift.

Why this big disconnect?

The overall shipping industry, dry bulk, containerships, and now offshore assets, have not been doing well; actually, the dry bulk market has been making headline news for setting all time lows at the beginning of the year, with little improvement to show since then. The dry bulk market has a much wider ship ownership distribution, with many more owners worldwide, all of them bleeding cash for almost two years now; dry bulk owners are based everywhere, they are conspicuous – despite their efforts to keep a low profile, and they are particularly visible in bankruptcy courts. When shipowners in basically all major segments of the shipping industry are doing badly, it’s hard to see how tanker owners and tanker investors can get exorbitantly optimistic and start bidding up prices to the tune of the freight market. By association, tanker owners and investors are pulled down by the malaise of the overall shipping market.

The years between 2011 and 2014 have been awfully bad for tanker owners as well, and many of these shipowners have burned more cash than they cared to; thus, now after three years of major losses, the focus has been on building up some cash, bring their loans current with the banks, and otherwise setting their financial house in order. Since the years 2011-2014 scared some of the tanker owners to bankruptcy, getting aggressive at this phase of the cycle is a bit too premature for many of them. And, accordingly, chasing tankers to buy and bidding up prices has not been the case; it’s understandable.

When the overall shipping market crashed after 2008, many institutional investors rushed to invest in shipping via joint-ventures with shipowners and vessel managers. Lots of money has been invested in shipping, and not a negligible amount of that investments in newbuilding contracts. The truth of the matter is that many of these investments have been under water, so to speak, and many of these institutional investors have been burned with their shipping investments. Thus, now that the tanker market has been performing well, many institutional investors still do not think that it’s time to bet the farm on the tanker market. They are about to book losses in the dry bulk, containership and offshore markets, or know funds with losses from shipping, and now that the tanker has been strong, the rally has been seeing with a great degree of skepticism.

And, the present rally in the tanker market, as delightful as it has been, it could be best described as a big yawn. It has been extremely timid and well-behaved, even exhibiting the classic signs of seasonality with a weak summer and a strengthening in the fall; there is no violent movement, exogenic shocks to the market like disruptions due to natural or political or events of that nature. A pretty boring rally, once again, extremely welcome and desirable, but with no urgency of the type ‘buy tankers now because tomorrow will be too late to buy’.

Most shipping banks have been departing the shipping industry at present, for their own reasons. It’s fair to say, that debt finance in the form of ship mortgages for tankers is tough to obtain, especially for tankers older than eight to ten years of age. Thus, another reason for tanker asset prices failing to follow up the freight market has to do with the state of the banking industry, and the financial markets overall. For institutional investors like hedge funds and private equity investors, the prospects of shipping have faded of recent, thus, taking away any hope for the asset market to sparkle.

Thus, there are collateral reasons that tanker asset prices have not drawn the strength and the inspiration that the freight market would imply; an overall shipping industry in malaise, with tanker owners looking to build their cash positions rather than expand, and the lack of outside investors and bankers to chase up prices.

One however has to wonder whether there are more fundamental reasons that the tanker freight rally has failed to be more inspiring. For starters, despite the fact that tanker newbuilding orders collapsed during the crisis, the world tanker fleet keeps growing at 3-5% annually, not a negligible pace – especially when given that this is the lowest it can get. And, of course, when tanker freight rates moved up, tanker demolitions almost became negligible, thus the tonnage supply and demand balance has started shifting unfavorably, Further, a commanding majority of the world tanker fleet is newer than ten years of age, a fairly young age, given that vessels have 25 years of design life; and, by now, all single-hulls and other poor quality tonnage have already been scrapped, thus the remaining fleet is young and virile. Additionally, the outstanding tanker orderbook stands at approximately 15% of the world fleet overall, while for certain asset classes like VLCCs, Suezmax and Aframax tankers, the outstanding order is higher than 20%, not a negligible number; almost all these vessels will be delivered with two years from now, thus that impact on tonnage supply cannot be ignored without consequences. Today’s rally is great, but there are headwinds expected before asset prices have a chance to pull up the market.

Looking a bit deeper into the market, one can discern the lack of the strong buying interest from ‘smart money’, shipowners and market players who have the reputation for sensing and timing the market over time, and placing the right ‘bets’. Most reference name Greek shipowners have been conspicuously absent from the sale & purchase market, and similarly for names like Fredriksen, Zodiac, etc It seems that the present rally has failed to impress this demanding audience to open up their wallets (some of these owners have bought tankers, true, but on a much smaller scale than their financial appetite would afford to saturate). Most prominent recent transactions in the tanker market have been with OPM (other people’s money) by publicly listed companies like Euronav and Gener8, companies that their stock price trades below their NAV (their net value of their fleet) in the hopes that they will be able to pull the asset market higher and possibly benefit their own shares.

The changing seascape in shipping has affected many fortunes and still will affect many more. There have been many variables and parameters that have been changing since the market crashed in 2008, and the present disconnect between the tanker freight market and the price of tankers has been an interesting conundrum. If tanker asset prices fail to follow the freight market, is this a paradigm shift for future valuations and benchmarking, or just an indication that the tanker rally does not have real steam for a long, full-sail run?


© 2013 – present Basil M Karatzas & Karatzas Marine Advisors & Co.  All Rights Reserved.

IMPORTANT DISCLAIMER:  Access to this blog signifies the reader’s irrevocable acceptance of this disclaimer. No part of this blog can be reproduced by any means and under any circumstances, whatsoever, in whole or in part, without proper attribution or the consent of the copyright and trademark holders of this website. Whilst every effort has been made to ensure that information here within has been received from sources believed to be reliable and such information is believed to be accurate at the time of publishing, no warranties or assurances whatsoever are made in reference to accuracy or completeness of said information, and no liability whatsoever will be accepted for taking or failing to take any action upon any information contained in any part of this website.  Thank you for the consideration.

Low and Dry: For how long?

Since the Baltic Dry Index (BDI) established all-time lows in February this year – as per graph herewith, the ensuing negligible recovery has only driven deeper the belief that the dry bulk market (and likely other shipping sectors) may be in a structural market trough. Rates have marginally improved since February, but the truth of the matter is that most types of dry bulk vessels barely earn their variable cost (operating expense), not to mention financial cost, capital repayment and profit. The market has been terrible for almost a year now, meaning that dry bulk shipowners are just bleeding cash; even at a small operating loss, let’s say at $1,000 pd, that’s $350,00 per annum per vessel, and for an owner of ten dry bulk vessels that’s $3.5 mil. This is before interest expense is factored in, repayment of the ship mortgage, etc While for the publicly listed companies their quarterly reports wash over casually over the computer screen as the Red Sea (or sea of numbers in red), it takes a ‘field trip’ and to ‘feel their pain’ of the private owners.

There is telltale evidence of anxiety about the direction of the market. There is anecdotal evidence that many shipowners have been cutting down on their vessel maintenance expense, spare part inventory on-board, and warm lay-up of the vessels. For the vessels that are inspected, there has been an ever growing concern that many vessels have been neglected and that ‘cheap ships’ may just be that: ‘cheap ships’ in need of keep-up. For the few shipping banks still open for business, the dry bulk market is a ‘do not touch’ market segment, irrespective of the prospects. Cyclical thinking and lack of liquidity has kept many buyers away from the market, further depressing asset prices, which in turn causes more owners to default in this death spiral. Asset prices for dry bulk vessels have declined by 20% to 50%; in a glaring example, a ten-year old panamax dry bulk vessel – as per graph herewith – has declined in value from appr. $21 mil in May last year to appr. $10 mil today, a precipitous drop and a halving on one’s net worth and economic value. Looking back at data for more than two decades, this is as low as that this particular asset class has even been, so at least on absolute terms, this is close to the bottom of the market. It’s hard to fathom that a ten-year old dry bulk vessel was once valued at more than $70 mil in 2008, so, if the market ever returns to its previous glory, theoretically, buyers at today’s levels will make a killing. But again, even a small bounce in the market can be a generous return of capital; asset prices and dry bulk freight rates move about fast, and if for some reason there is an improvement in a depressed market, a 10%+ improvement can take place very easily; at the very least, it will be completely unexpected.

Panamax Bulker 10yr old prices_KMA_JUN2015

Historical Prices for 10yr-old Panamax Bulker (Karatzas Marine Advisors & Co.)

Actually, there are ‘smart money’ out there that are thinking just about that. The dry bulk market is in very bad shape and the mood is terrible; not sure if the proverbial ‘blood in the streets’ describes the present bottom of the market, but definitely it’s a buyer’s market: bad prospects and confidence (for instance, almost nil interest for long term charters, indicating that charterers do not believe in a strong market recovery, etc), more sellers than buyers in absolute terms, more motivated sellers than buyers in ‘soft’ terms, consensus that prospects are terrible, no easily found debt financing or any type of financing, many institutional investors are putting their own pressure on the market as their premature investments in shipping are turning out badly. However, newbuilding orders have come to s screeching stop and fewer than thirty dry bulk vessels were ordered year-to-date. On the other hand, close to two-hundred bulk vessels were scrapped; as per attached graph, so far this year, the world’s dry bulk fleet has gotten smaller as more ships were scrapped than delivered, signifying that actually tonnage supply is contracting which is exactly what this market needs; and tonnage supply is one of the major drivers for asset pricing as we all know from Econ 101.

Tonnage demand and movement of cargo has been increasing all along; of course there have been revisions by OECD that world economic growth is slowing and that China has moved away from stock piling raw material inventories that used to spike the market on occasion. Volumes to be traded are still available and ton-mile is still increasing, thus demand is still there. Thus, the underlying fundamentals are still positive, it’s only a matter of timing that there is a mis-match of tonnage supply and demand.

Dry Bulk Feelt Development_KMA JUN2015

Historical World Dry Bulk Fleet Development (Karatzas Marine Advisors & Co.)

The smart money wonder whether the market swing has moved too much on the ‘half empty’ camp, with owners giving up on hope and charterers being too exposed to the spot market (with little long term coverage, thus making them trigger-happy once the market start moving the other direction). This can become a catalyst to magnify any market move to the upside as charterers will rush in to charter vessels (whether spot or short term) and driving artificially high tonnage demand with pent-up demand. With every weekly report of high demolitions, one can almost feel the collective deep breath of relief as this definitely helps the market find an equilibrium sooner than later; the news that no newbuilding orders are placed is delightful news both in terms of actual constraining of tonnage supply, but also it has the ‘sentimental’ value that at a time of crisis, no new ships are ordered, which is what is supposed to expect in a situation like this (and in 2002-2013, of course, but then between the eco-design and structural recovery and institutional investors rushing in, it didn’t happen). While tonnage supply can definitely increase over long term, at least for the short term, one can see that vessel deliveries are well known and accounted for, and likely to surprise on the downside (as some owners delay accepting delivery or push backward to the delivery deadlines). With every passing week of weak freight rates, more and more owners are making the decision to scrap vessels instead of drydocking and scrapping is not a stigma or more easily justified when the neighbors are doing it as well. Tonnage demand in the interim is constantly there and growing providing a support for the market; and the market has already been discounting bad news, thus leaving more surprises on the positive, that can move the market upwards substantially in the next year, especially if there is an unforeseen event that can drive the market strongly.

Yes, the dry bulk market is terrible. As we mentioned in a previous post, this terrible shape of the market may actually be a good thing over the long term; the smart money have started thinking that this weak market is a good thing in the short term as well.


 

© 2013-2015 Basil M Karatzas & Karatzas Marine Advisors & Co.  All Rights Reserved.

IMPORTANT DISCLAIMER:  Access to this blog signifies the reader’s irrevocable acceptance of this disclaimer. No part of this blog can be reproduced by any means and under any circumstances, whatsoever, in whole or in part, without proper attribution or the consent of the copyright and trademark holders of this website. Whilst every effort has been made to ensure that information here within has been received from sources believed to be reliable and such information is believed to be accurate at the time of publishing, no warranties or assurances whatsoever are made in reference to accuracy or completeness of said information, and no liability whatsoever will be accepted for taking or failing to take any action upon any information contained in any part of this website.  Thank you for the consideration.

Shipping, Private Equity and the Theory of Agency

The involvement of the private equity in the shipping industry has consumed plenty of ink and has rekindled not too little of a hope for an industry in distress; since the collapse of shipping market in 2008, private equity investors (and by extension, institutional investors wholesale-ly) have been accorded a portrait ranging from guardian angels and saviors of the industry to the “locusts” purveying industries in distress. A lot second-guessing can be excused when markets are dislocated and survival takes precedence over form or order. However, seven years after the instigation of the crisis and more than $30 billion in investments in shipping, people have been trying to take stock of what they had, what happened and what they should had. The fact that seven years after the instigation of the shipping market’s collapse still major shipping industry indices are flirting with all time lows does not make attempted assessments about the industry any easier.

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MV ‘Prince Joe’ in Piraeus – Your typical princely ‘Joe’, today in Piraeus, tomorrow on Wall Street… Image credit: Karatzas Photographie Maritime

As a matter of fact, the precipitous drop of the market and the establishment of thirty-year lows for indices like the Dry Baltic Index (BDI) have brought the concern of industry stock-taking to the pages of the mainstream business press. Most prominently, recently the Financial Times run an opinion article on shipping and the involvement of the private equity in shipping, and what it may have gone so awry; after all, the best and the brightest of the industry have poured their greyest of their gray power into alleviating the troubles of the industry. So far, the foray of institutional investors into shipping has not gone as modeled (at least up until now), and the aftershocks of such involvement are widely expected to make waves in an industry used to be dealing with physical waves.

Blame has been laid on the shortcomings of the agency theory as managers may try to put their own interests ahead of those of their principals and investors. The agency theory has been offered as a management or administration class in business schools, but actually applies nicely in the shipping industry, and actually twice. Corporate officers and corporate managers are running the shipping company on behalf of the investors – who are not involved with day-to-day operations, and in their absence, corporate managers may make decisions that have the managers’ best interests at heart instead of the shareholders. The potential conflict is clear.

In a model often adopted in shipping, the vessel management of the company’s fleet is often outsourced to a vessel management company often affiliated with the corporate officers or at least the ‘sponsor’ of the company when the shipping company was IPO-ed. Many shipowners – both operating and financial shipowners – outsource their vessel management to third parties, for many reasons – including benefitting from economies of scale, etc, and there is nothing inherent wrong with outsourcing; however, when the vessel management company is affiliated with the company’s management, and the earnings of the steady, market-neutral cash flows of the vessel management are unilaterally benefiting private the corporate management, then there may be a concern. It’s apparent that the potential for conflict arises twice when the agency theory is applied to shipping.

Now that several publicly listed shipping companies have become ‘penny stocks’, not mentioning several restructurings and bankruptcies and many investments by institutional investors gone sour, the conflicts of interest get front and center attention. It took a shipping cycle of a lifetime to burst in 2008 and a dip to 30-year low for the Baltic Dry Index (BDI) for concerns to be raised, as such in the article in the Financial Times.

The truth of the matter is that it’s unfortunate that conflicts of interest let the managers on occasion get the better end of the deal; it’s part of the human nature that such things happen, and the managerial science has been at work on how best to optimize corporate governance, motivate sufficiently the managers but not at the undue expense of the shareholders. However, this is not the first time that managerial abuse may have taken place, and shipping is not the only industry having such ‘privilege’. Just recently in the news, former CEO of Tyco International Dennis Kozlowski was looking for absolution for the managerial excesses of ice sculptures decorating corporate events in Sardinia of an era past (hopefully).

Lighthouse Point Judith 6

Lighthouse ‘Point Judith’ in Rhode Island; image credit: Karatzas Photographie Maritime

The truth of the matter also is that in reference to managerial excesses in shipping – and mostly when it comes to vessel management – the news about the abuses are often pre-announced and occasionally never exaggerated at all. One only has to peruse the filings and the prospectuses of shipping companies – mandatory information for publicly listed companies – to see that in many cases, there have been a garden variety of excesses and conflicts, including exorbitant vessel management fees. There is no digging, begging, suing, etc to get access to such information; it’s in black and white, publicly filed, and available on any computer with internet access. It only takes a few phone calls to market experts and other vessel management companies to get a sense of the going market rate for vessel management fees, which coincidentally is less than $500 per diem; however, on average for most publicly listed shipping companies, the shareholders are paying more than twice as much to affiliated companies to have their vessels managed; There are actually publicly listed companies that they have proposed as high as $1,800 per diem vessel management fees. Why? Why anyone would accept such without qualifying the service or attempt to negotiate better pricing or shop the market? And of course, vessel management fees is only one form of conflicts and managerial abuse; there are commissions for the sale & purchase of vessels managed, for the chartering and the commercial management of the vessels, for ordering the vessels at the shipbuilders, for supervising the construction, for … for… Back-of-the-envelope calculations for last year’s darling of shipping companies on Wall Street is that the management of the company has earned close to $100 million in fees alone, risk free and captive proceeds effectively for doing their job; and this is before executive compensation and other benefits. And a few years ago, executive compensation for another certain shipping company amounted to $75 million out of $125 million operating profit in the course of a few years. Again, such information has been filed publicly and it is not news, or it should not be news.

We can talk about the excesses of the shipping markets, but as in many things in life, there is the overarching principle of caveat emptor, buyer be aware; pertinent information is made publicly available, and let the investors make their own decision, and let them be prepared to take certain risks, let them benefit or suffer from the consequences. And, shipping is a very volatile industry with lots of inherent risk and meaningful chance of one losing their investment. Heightened management fees and other conflicts have exacerbated the results of the crisis but cannot be blamed for the crisis. And, placing the blame solely on the management teams doesn’t advance the debate about better corporate governance. After all, these prospectuses are primarily filed and intended for institutional investors who are well educated and experienced and compensated to invest money professionally; they should have done their due diligence, they should have checked the market, they should have ‘kicked the tires’ as they say, or in shipping, possibly they should have boarded a vessel or two. The truth of the matter is that sometimes investors are blinded, motivated by deal pressure and the need to deploy their money under management and start earning their own fees, they sometimes think monolithically and chase the same story, and unfortunately, very often, minimizing their due diligence to a box to be checked, and not a real in-depth search of the real events, causes and relationships. Unfortunately, we have seen it too many times in our business life, including most memorably once getting a call from Sydney, Australia from a firm where a US-institutional investor had outsourced their due diligence ‘box’ – the heavily Aussie-accented gent was calling to ask about a Greek shipowner; when the reply was ‘Well, they are not exactly Angelicoussis’, the follow-up question was ‘What’s Angelicoussis?’

Putting the blame solely on managerial abuses and conflicts of interest on the management and sponsors of shipping companies reminds of the joke where a prostitute, failing to collect the earnings after rendering certain services, yells ‘Rape!’ When professional fund and asset managers depend solely on screens and models to make their decisions and fail or turn a blind eye to conflicts in pursue of a quick return to be booked in this quarter, and follow a trend because everybody else is doing it (‘eco design’ newbuildings come to mind), it’s a disingenuous service to the shipping industry and a disingenuous service to the shareholders on behalf of whom institutional investors are acting. When short-termism and herd mentality guides investment decision-making, when due diligence is a box to be ticked, one has to wonder whether shipping will get to see better days soon… or more respectable days…


 

© 2012-2015 Basil M Karatzas & Karatzas Marine Advisors & Co.  All Rights Reserved.

IMPORTANT DISCLAIMER:  Access to this blog signifies the reader’s irrevocable acceptance of this disclaimer. No part of this blog can be reproduced by any means and under any circumstances, whatsoever, in whole or in part, without proper attribution or the consent of the copyright and trademark holders of this website. Whilst every effort has been made to ensure that information here within has been received from sources believed to be reliable and such information is believed to be accurate at the time of publishing, no warranties or assurances whatsoever are made in reference to accuracy or completeness of said information, and no liability whatsoever will be accepted for taking or failing to take any action upon any information contained in any part of this website.  Thank you for the consideration.