A Wishful Port Called Consolidation

The maritime industry has been facing headwinds for almost a decade now: chronic tonnage oversupply, intermittent demand growth, new trading patterns, heightened level of regulations, new technologies and vessel designs, and more recently, the prospect of a global trade war.  It’s not easy being a shipowner, if ever it was.

Besides the obvious “academic” solutions of self-discipline when it comes to newbuilding appetite and accelerated schedule of ship demolitions, little can be done strategically to alleviate the industry’s woes.

Since the early days of the present decade, the concept of consolidation has been mentioned as a solution with the best hope for mitigating the industry’s problems. Conceptually, fewer and bigger owners could better sustain the weak times of the industry by sharing overhead and expenses across larger fleets, by having higher fleet efficiencies, and by affording more competitive access to capital; a market dominated by fewer owners can also employ strategic efficiencies whereby fewer players would be more disciplined at ordering newbuldings and also providing a united front against the demands of charterers.

Notable names of the shipping and the finance worlds have been advocating for industry consolidation for some time now, most conspicuously then-private-equity-shipping-investor and now Commerce Secretary Wilbur Ross. Proponents of consolidation have drawn their conclusions mostly from other industries than shipping, such as the steel industry in the case of Wilbur Ross; and, there is a strong body of academic research and case studies taught at business schools supporting the case of consolidation. On the surface, consolidation has saved the steel industry from chronic losses (although ironically part of the current trade war discussion is driven by the consolidated state of the steel industry having cost thousands of jobs). Likewise, the airline industry, via consolidation (and also chronic waves of bankruptcies), have reached now a point of high utilization and profitability, as any weary traveler can attest to these days.

No doubt there are economic benefits for the players in a market that has undergone consolidation; on the other hand, we think that certain markets and industries are more prone to consolidation than others, for many reasons.

Let’s follow the empirical approach to see what has happened so far in this maritime field:

Wall Street and institutional investors are big proponents for consolidation in the shipping industry. Image credit: Karatzas Images

In the tanker market, after Frontline’s failed effort to acquire DHT, the got critical mass to defend itself by buying the BW VLCC fleet, catalyzing, in turn, Euronav’s acquisition of Gener8 Maritime (itself the product of merger of General Maritime and Navig8 Crude Tankers). There is little merger activity in the rest of the crude tanker market, with the exception of Teekay folding two “daughter” publicly-listed companies into one, and also  acquiring the Principal Maritime crude tanker fleet. In the product tanker market, Scorpio Tankers acquired Navig8 Product Tankers in 2017, while recently BW took a bow with publicly listed Hafnia Tankers. If there is a lesson to be learned from merger activity in the tanker industry is that these are a handful of transactions among already sizeable players who are publicly listed and/or driven by institutional investors or financially-oriented managers behind them. The typical, average tanker owner has been least affected, or bothered, at least so far. However one slices the tanker market, there are almost 15,000 tankers of all sizes with a few thousand shipowner groups worldwide; if all these tankers and owners were to be consolidated into groups of big companies, investment bankers in shipping would be among the richest people on this planet.

In the dry bulk market, Star Bulk, publicly listed and driven by institutional investors, have been growing the size of their fleet by acquiring Augustea, Songa Bulk, and Ocean Bulk in the past. Golden Ocean acquired the Quintana capesize-focused fleet, and potentially the acquisition of the CarVal Investors dry bulk fleet by Good Bulk can be considered a case of consolidation; there are a few more meaningful transactions with privately held companies (most the Angelicoussis and Zodiac groups) acquiring massively, and surgically, shipping assets in the secondary market.  There is no doubt that there has been much more S&P activity in the dry bulk, but nothing to qualify as consolidation. The dry bulk market is often described as the textbook case of perfect competition, and as such, it makes little sense to buy (and retire) dry bulk shipping companies – the companies have little to offer in excess of  the stripped assets. Again, zooming out on the sector, consolidation so far seems to be with mostly sizeable companies, publicly listed, often driven by institutional investors, and almost always payment taking place – at least partially – in shares. There is still a very ‘long tail’ of small shipowners in the sector. And, there are more than 12,000 dry bulk vessels and several thousand shipowners active in the market; once again, investment bankers in shipping should be voted happiest people on earth if consolidation was ever to take hold in this market segment.

Just like consolidation in shipping, the bigger, the better… or, the sky is the limit! Image credit: Karatzas Images

Onto a shipping sector with a more disciplined structure, the containership liner market, it would appear that consolidation has offered a proven solution to this market over time; from almost thirty liner companies in existence in the early 1990’s, the number now stands at fourteen (14), a clear trend of consolidation over the last two decades. Again, there does  seem to be the same consolidation pattern of this market segment: most of these companies were big companies to begin with, often publicly listed or owned / managed by sophisticated investors in a market segment with relatively high barriers to enter; nothing new here. Looking onto smaller regional market players, the market has been much more fragmented, and allegedly ripe of consolidation. Some of these regional players are publicly listed or some of them run by investors and financiers, but it’s hard to discern a consolidation pattern on the surface. Probably the transactions that stand out in this sector are those of KG owners that are driven by shipping banks to consolidate, most notably MPC Container Ships, the Zeaborn and the Claus-Peter Offen groups that have keep absorbing smaller players such as Cido (containers), E.R. Schiffhart, Rickmers Linie, Ahrenkiel, Conti, etc (some of these transactions involved also MPP vessels).  And, there has been the absorption of many more smaller KG houses and vessels that popped up in the last decade jus because of the exuberance of the KG market in Germany. What all these stories of consolidation have in common, in our opinion, is that most of these target companies had their financial base completely wiped out, the management teams had no ‘skin in the game’ but mostly, German shipping bank have effectively forced ‘shotgun marriages’ (read consolidation) in this market. Otherwise, left to its own devices, it’s questionable how much consolidation would had taken place in this segment.

Despite the obvious benefits in the shipping market by a less fragmented ownership distribution, with fewer and more stable players, it’s still a very long way, in our opinion, for the industry to really get to appreciate consolidation. It’s been vividly implied in the discussion above that each segment in the shipping industry is driven by slightly different factors, but it’s abundantly clear that consolidation so far has been driven by a confluence of financial owners (this includes shipping banks) building up on the critical mass of already sizeable companies and where egos can be forced aside by the prospects of economic benefits and payouts, often in the form of paper (shares).

For the several thousands of shipowners worldwide, especially when they are the founders of shipping companies or have some sort of competitive advantage (captive cargo, access to terminals, etc), consolidation would be a tall order. Consolidation favors bigger players, but still smaller players can be shaping the market for longer than hoped for.

Darwinism in known to work, but it takes a notoriously long time; economies of scale make for more efficient shipping companies, but again, this takes time. In Darwinism, let’s not forget, some species become extinct. Probably for some shipowners, unless extinction becomes their only choice, consolidation will be getting little attention. The financial markets and shipping finance can impose their will on shipping forcefully, but likely consolidation in the shipping industry cannot be material in the near future, at least for commodity shipping.


Article originally appeared in Lloyd’s List on September 7, 2018 under the heading “Consolidation Players Go Hungry“.


© 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.

Advertisements

WWIID?

The dry bulk market has been in the doldrums for so long now that talks for a market recovery resemble the biblical story of Lazarus’ resurrection. Probably the news are not deadly bad but again shipping is known to be a very moody industry. On the other end of the spectrum, tankers and containerships are performing fairly well, and definitely they are working miracles as far as the dry bulk market is concerned. No wonder that that there is plenty of confusion and head scratching of what is happening in shipping, and most importantly, how shipping will develop from here.

In a way, we are in unchartered seas; in unchartered seas given shipping banks are leaving the industry en masse, in unchartered territory given that the primary driver of the industry (China) is changing course, in unchartered territory given the excess shipbuilding capacity available, in unchartered territory given the low interest rates and boatloads of money looking for industries to be rolled over.

Whatever the course of the shipping industry in the immediate and intermediate term, one factor will keep having a meaningful impact on the industry, and that factor has been fairly unpredictable: the institutional investors and their interests in shipping. In the last five years, institutional investors have committed to the shipping industry more than $30 billion, whether as private equity or through the public markets, whether in equity or debt. Given the state of the market and information publicly available, it’s safe to say that almost all of the investments in shipping by institutional investors are presently underwater, at least – and thankfully – metaphorically so far. Of course, this is based on the presumption of marked-to-market valuation and immediate liquidation, which may not be the case for those with staying timing and financial capacity to carry the position.

In trying to project how the dry bulk industry and the other market sectors will develop, one cannot create a fair opinion without taking into consideration the future action and reaction of institutional investors. This is not only about the famous Keynesian beauty contest, but also the logic and analysis of the investors that are holding money losing positions and how they will react but also institutional investors that may be tempted to enter the shipping industry given the present state of weak freight rates.

What Would Institutional Investors Do?

Hog Sty Bay_CaymansThe game plan two years ago was for institutional investors to buy ships and otherwise ‘go long shipping’, under the prevailing assumption that the shipping markets were on the crest of a structural recovery; in a matter of a few short years, either the vessels would had been sold at higher prices with the investors walking away from the smaller sized projects at a profit, while for sizeable investments, there have been plans for IPOs and floating the business for a much larger paycheck (for the institutional investors but also the management team as well.) Given the state of the market, unfolding positions of two-years-ago at a profit is not doable, and as far as the hopes for accessing the capital markets, let’s forget about it, at least for now; even for the tanker market where freight rates are respectable, there is little conviction that this may be the early stages of a long term bull market. How institutional investors will react it’s important since they are holding more than $30 billion in shipping investments (investments that were deployed in the last five years); and institutional investors control obscene amounts of money, thus how they could deploy them in shipping could affect the market at large, and the lives of shipowners and shipping banks.

What would be the possible scenarios of institutional investors in shipping?

Doubling down on their shipping investments in order to average down their cost basis; doubling down could be in the form of ordering more newbuildings at lower prices, which could be detrimental to the market. One clear example of such strategy has been WL Ross ordering of a few more Suezmax tankers to add to the Diamond S fleet at a lower cost. If the original plane mandated acquisition of secondhand tonnage, then doubling down could mean buying more ships in the secondary market, which likely is a good scenario for shipping; no additional tonnage is added to the world fleet while shipping asset prices are getting supported (more buyers for ships, high demand.) Doubling down means determination, patience and willingness to put more chips on the table, and it’s the path that makes most sense if there is a strong recovery. The ideal scenario would be for the institutional investors to keep adding more ships to their positions from the secondary market; on the other hand, given the low interest rate environment, low commodity pricing environment and excess shipping capacity, doubling down can easily extend to a new wave of newbuilding orders, a scenario least appealing to shipping in both the short and the long term.

Pirate_CaymansCutting their losses and exiting their positions, at least selectively; it’s not the easiest decision to make and having to realize losses on investments, but on the other hand, when a fund has no specific mandate to be in shipping, the investment is relatively small, and besides the economics of the investment there are additional issues to be considered, then selling sooner and at a loss may be a palatable approach. There have been rumors that several JVs between institutional investors and vessel managers are on a rocky ground and there have been barely contained divergent managerial views, so to speak. Committing more funding to a project already on shaky ground is almost as throwing good money after bad money. There have been sales of shipping assets prematurely and at sizeable loss, such as the sale of newbuildings capesize vessel by Scorpio Bulk in an effort to avoid dilutive equity offerings. Ill-timed sales in a bad market result into losses, result into setting a lower asset market, result into setting an even more depressing market mood, and definitely show the least degree of commitment to the industry or the market, and much more resemble trading and playing the market: sometimes one is right, sometimes one is wrong, just hope to convince your investors that the batting average is favorable over the long term. Untimely sales of shipping assets can definitely have the potential to drive the market lower, much lower than now, and could bring upon the possibility of ‘fire sales’, a wishful scenario much dreamt but rarely materialized in shipping since 2008.

Playing for time, may be the third viable scenario, in the present market, as long as one has the time and the money. Just last week, Star Bulk had another ‘follow on’ to raise additional equity and meet their financial and capital requirements; almost 50% of the offering was subscribed by the company’s three anchor investors; it’s worth noting that the offering took place at approx. $3.2 /share, while shares were trading above $8 a few months ago and the company went public with a double-digit sticker price. Putting more money into the venture whether from the original or additional shareholders seems to be least obtrusive to the shipping markets, as it does not interfere with tonnage supply and demand dynamics and has limited impact on asset pricing. On the other hand, not many institutional investors have deep enough pockets (when asset allocation has to be taken into consideration), the timing or the commitments of the management of the JV.

All in all, institutional investors hold substantial positions in shipping, with allegedly additional appetite for shipping investments; in a market environment that has gotten many players by surprise and patently too unruly to play by the original game plan, these institutional investors can easily move the market in terms of tonnage supply and demand, move the market in terms of asset pricing, and can easily set the tone for the market for the next business cycle, whenever such arrives.

To think otherwise, that the impact of institutional investors on shipping is behind us, and one ought to focus on pure market dynamics, it seems to likely be a miscalculation.

A good question then to be sorted soon is: ‘What Would the Institutional Investors Do?’


© 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.