[Container Insight] A Tale of Two Carriers

By MarEx 2014-04-04 10:41:00

The container industry is a notoriously difficult sector to make any money in, but a few major lines have managed to avoid the red ink while others have toiled. Drewry Maritime Equity Research compares the performances of Asian companies OOIL and NOL for clues behind the varying results and the future direction that the most successful are likely to head.

The last five years have been a stormy period for the global container shipping industry and have affected all big and small players alike. The industry’s boom period of 2003-2008 saw low debt, ample liquidity and healthy balance sheets. That now seems a distant memory as the last few years and in particular 2011-13 saw the industry’s profitability suffer negative cash flows straining industry balance sheets and debt-to-equity ratios spiraling out of control.

Drewry estimates that the industry has collectively made an operating loss of around $2.5 billion in the past three years with the last couple only providing a tiny profit. The outlook for 2014 is not much better. Within those aggregate results are considerable gaps between the best and worst performing lines.

Two closely matched companies that have experienced contrasting results are Singapore-based NOL, parent of APL, and Hong Kong’s OOIL, owners of OOCL. NOL has been part of the struggling club for much of the past half-decade whereas OOIL has managed to keep its financial health in much better condition and managed to ride the cycle better than most.

Figure 1
Financial Performance – Adusted Net Income (US$m)

Source: Companies, DMER

Source: Companies, DMER

Figure 2
Financial Performance – EBIT Margin (%)

Source: Companies, DMER

Source: Companies, DMER

It pays to have costs on your side

Yield maximization and cost optimization go hand in hand. Even as most carriers focus on cost optimization while planning their operations, there is a significant cost difference at play amongst different vessel operators that leads to different results. OOIL’s container arm, OOCL has a low cost base which has helped it post industry leading margins over the previous years. Compared to this, NOL’s liner division has had a rigid cost structure, in part a legacy of company’s acquisition of APL, forcing the company to post consecutive losses. Our analysis suggests the difference in costs between the two is the prime differentiator which translates into higher yields for the former and poor returns for the latter.

Figure 3
Operating Cost per teu (US$)

Note: EBIT and Operating costs have been provided only for Liners segment on an as reported basis. Per teu values have been derived by dividing total values with annual carryings expressed in teu. For OOIL, EBIT and operating costs include for Logistics segment as well due to such reporting by company Source: Companies, DMER

Note: EBIT and Operating costs have been provided only for Liners segment on an as reported basis. Per teu values have been derived by dividing total values with annual carryings expressed in teu. For OOIL, EBIT and operating costs include for Logistics segment as well due to such reporting by company
Source: Companies, DMER

Figure 4
EBIT per teu (US$)

Note: EBIT and Operating costs have been provided only for Liners segment on an as reported basis. Per teu values have been derived by dividing total values with annual carryings expressed in teu. For OOIL, EBIT and operating costs include for Logistics segment as well due to such reporting by company Source: Companies, DMER

Note: EBIT and Operating costs have been provided only for Liners segment on an as reported basis. Per teu values have been derived by dividing total values with annual carryings expressed in teu. For OOIL, EBIT and operating costs include for Logistics segment as well due to such reporting by company
Source: Companies, DMER

NOL’s high fixed costs are driven by greater ship operating expenses, sub optimal vessel size and higher operating lease commitments. The chart below depicts average vessel sizes by carriers on Asia – North America and Asia- North Europe trades, key markets for both APL and OOCL in terms of revenue. APL’s nominal vessel size is significantly smaller on its key trade, almost 10% below than that of OOCL.

Figure 5
Ranking of Operators by Average Ship Size, Asia-North Europe (Teu)

Source: Drewry Maritime Research

Source: Drewry Maritime Research

Figure 6
Ranking of Operators by Average Ship Size, Asia-North America (Teu)

Source: Drewry Maritime Research

Source: Drewry Maritime Research

We strongly believe that NOL’s chances of a turnaround are dependent on lowering its high fixed unit costs as a sustained recovery in freight rates is still a few quarters away. NOL’s asset base has historically been focused on charter-in tonnage leading to higher unit costs. In a bid to significantly lower its cost base, NOL embarked upon a massive fleet renewal program coupled with a major cost savings program in early 2012. The company did manage to cut its costs significantly over the previous years but still lags behind many of its peers. NOL’s current focus is rightly on fleet restructuring where it will expand its owned fleet and points towards increasing asset-intensity driving long-term returns. NOL took delivery of 14 new build vessels in 2013 and will complete its fleet restructuring program this year. Going by the cost savings that will accrue consequent to this fleet renewal program, we believe that NOL will achieve a much needed margin improvement in 2014 buoyed by its cost saving efforts and any modest market recovery.

OOIL, which already enjoys fruits of a relatively lower cost base, has further intensified its cost optimization efforts by introducing mega vessels to its otherwise small sized fleet.

A healthy balance sheet slashes financial risk and lowers steady debt service outflows

Container shipping operators are finding themselves in a perilous position marked by their strained balance sheets and weak operating cash flows. Five years of extremely weak profitability and constrained operating cash flows have seen the industry pile on excessive debt, not only to finance their orderbooks but also raise expensive short-term capital to finance their working capital needs. Drewry estimates that the industry’s total debt has more than doubled in the past five years from $47 billion to just shy of $100bn.

During this period, NOL has seen its balance sheet strained rapidly with net gearing increasing from a meager 11.7% at the start of 2011 to ~182% by end-2013. This has put a severe strain on NOL’s operating cashflows, which are failing to meet rising interest costs. In 2013, NOL reported operating cash flows of $32 million compared to $45 million of financial costs. This aside, NOL’s high net gearing has impacted its long term profitability and put serious strain on its shareholders as NOL failed to generate any return on its capital.

OOIL astutely shielded itself from the burden of high loan repayments with a well-timed asset sale. The company sold its property business at an opportune time in 2010, helping to buffer its cash balances and wither the low cycle environment comfortably. It too though has drifted away from the safe net cash position it had in 2010 to 31% net gearing at end-2013. However, its low debt means that, unlike most of its peers in the industry, it can keep the interest payments to a minimum and still pay out a dividend to shareholders, which is rare in current times.

Figure 7
Net Gearing, 2008-13 (%)

Source: Drewry Maritime Research

Source: Drewry Maritime Research

OOIL fleet mix better suited to its needs

OOIL operates fewer vessels compared to NOL. Its vessels are skewed towards smaller size segments, and have an average age of eight years. The fleet is evenly distributed between owned and chartered vessels giving it necessary flexibility in better managing its operations. OOIL derives more than half the volumes from Intra Asia and close to one fourth from Transpacific.  We believe OOIL’s fleet is ideally spread between different vessel size segments to cater to the diverse needs of the trades it operates upon.

Figure 8
Volume Mix by Trade – OOCL, 2013 (%)

Source: DMER, Company

Source: DMER, Company

Figure 9
Volume Mix by Trade – APL, 2013 (%)

Source: DMER, Company

Source: DMER, Company

NOL has less volume exposure towards the Intra Asia market but a higher number of vessels in the small size segment, which leads to fleet-trade incongruity in our view. Despite NOL’s current focus on fleet restructuring, wherein it is expanding its owned fleet and returning expensive chartered-in vessels, its fleet mix is still skewed in favor of chartered vessels in the ratio of sixty to forty.

Figure 10
Fleet Mix by Size – OOCL (%)

Sources: DMER, Various

Sources: DMER, Various

Figure 11
Fleet Mix by Size – APL (%)

Sources: DMER, Various

Sources: DMER, Various

We anticipate improved results for NOL and OOIL in 2014 as both carriers are making good strides to improve their cost base although at different paces. We believe that flexible cost structures are a major differentiator in carriers’ performance, and will continue to remain critical to operators’ profitability as a sustained recovery in freight rates remains elusive.

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OOIL will continue to post favorable results in 2014, while NOL is moving ahead in that direction by taking the right steps to reduce its cost base, gearing levels and restructure its fleet.

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This article was originally featured in Drewry's Container Insight Weekly. View it here.