Consolidation and Shipping: A Cure for All?

Since the initial collapse of the shipping industry in the second half of 2008, many remedies have been proposed for a market recovery, ranging from pragmatic (slow steaming, etc.) to utopic (accelerated demolitions for older tonnage, shipowner self-discipline and abstinence from newbuildings, etc.). Depending on the point of view, remedies proposed included M&A, market consolidation, selective financing from banks and financiers, etc.

The consolidation theme has been particularly in the news for the last several years, and now five years into the crisis, there is no clear light at the end of the tunnel, consolidation once again has been commanding the headlines. At a recent shipping conference in New York City, eminent institutional shipping investor Wilbur Ross once again re-iterated the need for market consolidation. 

Consolidation definitely has its usefulness as any investment bank can attest to.  An industry with a relatively low number of companies controlling a rather large market share can have a better control of the cost structure, quality, product differentiation and, more importantly, better pricing power than an industry that is fragmented and controlled by numerous small players. Shipping, especially the dry bulk market, has often been offered as an example of perfect competition with minimal barriers to entry, minimal regulatory and taxation concerns (at least until recently). It has also been an internationally open and competitive market; in other words, an industry as antipodean to consolidation as one can get.  

Many ship-lending banks have repeatedly raised the point of market consolidation: supposing that as a lender one has a portfolio of several similar vessels in default with several borrowers, it makes sense to consolidate the borrowers (shipowners) simply from a cost basis benefit. Instead of having to deal with several borrowers and explaining, negotiating, formalizing the same ‘procedure’ several times over, there will be just one discussion with one counterparty. Such an approach not only saves time, overhead and bank resources, but sometimes puts several problems together to form one big problem; the big problem can have solutions not available to many smaller problems of the same kind – critical mass is an obvious benefit of consolidated owner versus the one- or two-vessel special projects.

Still with the ship-lenders’ point of view, a consolidated owner can not only save resources for the lender, but also can economize for their own benefit by spreading the cost of running the business over a bigger pond of vessel ownership. IT, accounting, admin services are the obvious candidates for cost savings, not to mention that savings can be obtained from suppliers and third party providers based on greater purchasing power. And such savings can be detrimental to survival in a market where many vessels are earning at or below operating break-even levels.

A consolidated industry with fewer shipowners also has benefits when dealing with charterers in terms of maximizing revenue and obtaining favorable terms in the charterparty. Larger shipowners can have better control of the market and provide a better orchestrated approach when chartering vessels instead of having to deal on fixture at a time, one vessel at a time, one port at a time, one day at a time.

The benefits of a consolidated market can be best seen in markets that have been ‘sort of consolidated’ based on their nature, such as the markets for large vessels like VLCCs and capes, and niche markets with few players like asphalt carriers, cement carriers, heavylift vessels, etc. Typically in such consolidated segments, not only broad market trends are identifiable – just like in the commoditized shipping industry – but also the cargoes themselves can be identified and accounted for: i.e. Saudi Arabia’s crude oil production is known or very well expected (barring macro-, political events, etc) and since most major exporting crude oil countries use VLCCs (each holding two million barrels of oil), chartering VLCCs is a game of chasing specific cargoes at specific points in time. Thus, an owner with fifty VLCCs under control can optimize the fleet position to access those cargoes versus a shipowner of one VLCC who has to be satisfied with what the market would bear each time their VLCC reaches a loading port in Saudi Arabia.

So far, so good.  Consolidation, then it seems, makes great sense and it almost looks like a panacea for an industry of distress.

There are more than six thousand and five hundred (6,500) handymax and handysize dry bulk vessels in the world, with more than one thousand (1,000) shipowning groups active in this segment worldwide. The top one hundred owners control only two thousand of these vessels (appr. twenty vessels per owner) or less than 30% of the world fleet, with an apparently very long tail of ownership.  As much as consolidation may make sense, it’s impossible to ever get close to a consolidated market from a practical point of view in this market segment.

Lots of these shipowners will fail to see any economic benefit from getting consolidated, amalgamated, merged, acquired or otherwise voluntarily get off of their present equilibrium; not to mention that most of the shipyards can build handymax / handysize vessels for anyone who can afford them (and sometimes cannot afford them). Thus, the market could not stay consolidated for long, even if forced into a consolidation due to poor present dynamics. Furthermore, handymax / handysize vessels effectively can trade any type of dry bulk cargo in the world and can access all the ports of the world, causing an infinite number of cargo and port permutations.

And, we have not talked yet about the charterers of these vessels, which is an equally impressive long tail of charterers. The common denominator among them is their desire for the lowest transport cost for their cargoes - condition of the vessels, wellbeing of seafarers, regulatory environment be damned by a great deal of these charterers – the sorry state of the truth, politically correct or not [this statement is not an opinion or comment in any way, just a sharp-tongued observation]. In certain markets, consolidation seems it is not practically doable given the existing dynamics of the market and the prospects that such dynamics can change in the long run.

And for the markets where consolidation can be feasible, the argument’s prime mover is that larger fleets call for efficiencies, efficiencies ad infinitum according to certain presentations. We all know that life and business are not a straight lines, and a fleet of forty uniform vessels is not twice as efficient as a fleet of twenty vessels, which is not twice as efficient as the fleet of ten vessels, etc. Clearly fleets of fewer than five vessels are completely inefficient, but where does the marginal benefit of adding more vessels to a fleet stop being worthy of the additional consolidation? We are not aware of any academic studies, but empirical evidence from many markets concentrates around the number of thirty vessels. Some publicly listed companies want us to believe that fleets of one hundred vessels are the most efficient, but we are not convinced that the magic number one hundred is the result of business amalgamation rather than a convincing coherent business strategy.

There are so much in savings from IT and admin to be derived and so many synergies and discounts to be obtained, that a lousy freight market can save. A shipping company in a consolidated market segment may have a higher probability of survival in a bad market, but the law of gravity is universal, and when gravity exceeds buoyancy, the result is a downward movement.

Consolidating or not, the shipping industry has proven that it’s not always like other industries; what has worked in other industries is not always applicable to shipping, at least not for the broad ocean of vessel ownership in all markets and corners of the world.