Not a week has passed since we posted an article on the Maritime Executive’s website about moral hazard in shipping, and the shipping world got a big-proportions, real-life case study of the risks in the industry. We argued that when shipowners are over their heads in debt and with little promise of ever recovering any equity, there is precious little they care about financing, operations, trade, safety and even the environment.
Hanjin Shipping, based in South Korea and world’s seventh biggest containership company, filed for protection in S. Korean courts in late August, and subsequently started filing for protection in several jurisdictions worldwide, including in the United States federal bankruptcy court (filing for Chapter 15 restructuring in Newark, NJ). As of the end of second quarter this year in June, the company had outstanding obligations close to US$ 5.5 billion, approximately US$ 900 million of which due by the end of 2017. There were approximately US$ 700 million in equity on the balance sheet. Hanjin stands as the manager of appr. 142 vessels, 98 of which are containerships and 44 are tankers and bulkers. Only one-fourth of Hanjin’s fleet is self-owned, 38 of them owned and the rest chartered in from leasing companies and other financially-minded shipowners. The ownership mix of the tonnage indicates more of a light-asset, trading company rather an asset-heavy, ship-owning balance sheet. The current value of the owned fleet stands at appr. US$ 1.7 billion.
Many details are still too opaque and covered by bilateral non-disclosure agreements, but where several of the counterparties have been publicly listed companies, one can draw certain conclusions: Hanjin had chartered in two 2010-built capsize vessels from publicly listed Navios Maritime Partners (ticker: NNA) MV ‘Navios Luz’ and MV ‘Navios Buena Ventura’ at a daily rate of US$ 29,356 pd each; the average spot capesize market was barely $6,000 pd during the last year, and presuming that Hanjin was trading the vessels on the spot market, they were losing $23,000 every single day for the last year ; of each of the two vessels. That is $16 mil down the drain for the two vessels in just the last year alone; each of the vessels had more than four years of employment remaining with the shipowner, and presuming that the spot capesize market would remain at present levels, Hanjin would had to suffer another $90 mil in losses for just these two vessels. Eight containerships chartered in from Danaos (ticker: DAC) had charter payment obligations of appr. $565 million. Similarly, three neo-panamax containerships from Seaspan (ticker: SSW) had outstanding charter obligations of close to US$ 370 million. These charter obligations add up to close to US$ 900 million, and under present market conditions, reasonable estimates would be for losses of more than US$ 500 million. And these are the calculations based on publicly available information for only thirteen of the 100+ vessels chartered-in, with only three counterparties. There are un-accounted obligations for more than eighty vessels that have been chartered in from other owners.
$23,000 losses every single day in the last year for each of the two capes chartered from Navios. Talk about destruction of value!
What options such a ‘shipowner’ like Hanjin (effectively a structured house of cards) does have under the circumstances? As one would suspect, very few. There is little in matter of equity, there is little in matter of collateral, there is lots of debt, and mostly, most of the debt is in relatively unsecured position since it’s in the form of charter obligations for the vessels that have been contracted on charter arrangements.
Playing the devil’ advocate and ask surreal but economically oriented questions: How much vested interest the shipowner has in the assets and the business? Precious little, at this stage. What are the odds that they will recover any equity? Probably better than hitting the jackpot in a national lottery, which we all know is not a fair proposition. What would any rational economic being would do? Briefly, either ask for the mercy of their creditors, or, having little to lose, just stop paying the creditors and pass the buck to the other side. What we called moral hazard in the previous posting.
Hanjin had been rumored (along with their co-patriot Hyundai Merchant Marine (HMM)) to be facing financial problems and was an accident waiting to happen. HMM, being slicker, and faster, and part of a big chaebol (traditional corporate conglomerate structure in S. Korea, strongly affiliated with family management style and running businesses deemed strategically important to the State, in exchange of the State’s preferential treatment), managed in August to find their way out of their financial ‘pickle’. When Hanjin tried to secure the consent and more financing from their lenders (mostly Korean banks and the state-owned Korean Development Bank), there was little empathy. This would make perfect sense, as their lenders were in relatively preferred senior position, and any new financing would be considered either ‘throwing good money after bad money’ or diluting their position and getting lower on the seniority scale of claimants. It would make economic sense to refuse any new financing and let the un-secured creditors (that is the shipowners of the hundred vessels on charter to Hanjin, like Navios, Diana, Seaspan) accept a less demanding solution. Again, Hanjin and their prime financiers decided to drop the moral hazard bomb to the parties with a lower legal claim, the shipowners of the vessels.
Hanjin Shipping is the seventh containership company in the world but with only appr. 3% market, thus, belonging in the lower tier of containership companies as compared to behemoths like Moeller Maersk, Cosco, MSC and CMA CGM. A default by Hanjin cannot be expected to have a major domino effect on the overall shipping or containership world markets. The majority of Hanjin’s lenders were Korean banks, including the Korean Development Bank (KDB), and the Korean banking system (and the Korean taxpayer, if so required) can absorb the losses without posing a systemic risk to the Korean economy, at least at this stage. Hanjin had been a major carrier for LG electronics, but again, even Hanjin’s demise could not be detrimental to LG and the Korean electronics and manufacturing industries; not to mention, since HMM’s successful restructuring in the summer, now there has been an alternative, an alternative based in Korea itself (subsequent reports state the LG has already been shifting their shipment contracts to HMM). Thus, once the situation was ‘ring fenced’ and a fall-out was determined to be contained, Hanjin and its main creditors stopped paying to the lower standing creditors (other shipowners with charter-in tonnage). An example of moral hazard in all its glory.
Hanjin has filed for restructuring (and not for liquidation) expecting to find a way to save the company as a going concern over the long term. However, owners of vessels on charter to Hanjin, companies like Danaos, Seaspan, Navios and many other smaller, private owners, stand to lose the most. In an oversupplied market of low freight rates, it will be difficult to withdraw their vessels from Hanjin and seek equally profitable charter rates elsewhere in the present market; likely, they will have to accept lower and extended rates that Hanjin will offer them, and possibly some equity upside if and when the company recovers. Otherwise, the shipowners will have to seek legal remedies which are costly and time consuming, and always risky on whether there will be a chance to ever collect. After all, the events of last week have shown that Hanjin is not a systemically important company to the Korean economy, there is little the Korean constituents that can lose, there is little left for Hanjin’s management and shareholders to lose. Heads I win, tail you lose.
A case of moral hazard of the highest caliber.
A better edited version of this article was originally published on The Maritime Executive website on September 6th, 2016 under the title ‘Moral Hazard Case Study: Hanjin Shipping’. This article builds on our essay on the dangers of the moral hazard in a weak freight market posted in early September in this post, when market participants were left with few options and little to lose, so much so that they care little for the outcome or the interests other constituents of the shipping industry.
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