Top 30 Ocean Carriers: Profits at last?

The key indicators followed by the top ocean carrieranalysts are fairly clear: U.S. economic growth—and the improved consumer spending that comes in tow—is on the rise and will result in stronger demand for container shipping.

“The world’s largest economy is getting better by the day, leaving the devastating first quarter GDP setback behind,” says Peter Sand, chief shipping analyst for The Baltic and International Maritime Council in Copenhagen (BIMCO). “For an economy mainly driven by consumer spending, this is good news for shipping. We expect this to positively affect demand for trans-Pacific container shipping as well as increase U.S. East Coast container imports, as containerized goods are predominantly consumer products.”

The Conference Board Consumer Confidence Index (CCI) continued to improve in August, heading up for the fourth consecutive month as surging business conditions and robust job growth helped boost consumers’ spirits. Overall, consumers remain quite positive about the short-term outlooks for the economy and labor market despite having doubts about whether their income will increase over the next six months, say analysts.

Improving economic conditions are also visible in the U.S. housing market. Privately-owned housing starts grew by 15.7 percent in July to a seasonally adjusted 1.09 million unit annual pace, according to the U.S. Commerce Department. The gain reversed two months of consecutive declines.

“Furniture and appliances are among the top categories of imported containerized goods into the U.S. from Far East Asia, which is why we follow the housing market closely,” observes Sand. “BIMCO’s own U.S. West Coast import data show a 4 percent increase for loaded containers during the first seven months of 2014 over same period last year, while U.S. East Coast improved comparably by 8.8 percent during the first six months.”

At the same time, however, Drewry’s second quarter 2014 Container Forecaster highlights that there’s a widening gap between the positive financials of the few carriers that are focused on cutting costs and the rest of the Top 30 as they battle with the pressure of falling freight rates.
Market discipline

Analysts at Drewry forecast that, once again, average freight rates will be lower than in the previous year. The London-based consultancy estimates that on the headhaul trans-Pacific trade alone, carriers have given away in the region of $1.25 billion in annual revenue via the lower annual contracts they signed with shippers in May. They also signed new annual contracts on the Asia-Europe trade earlier in the year at levels of around $150-$200 per forty-foot unit (FEU) container lower than in 2013.

On the positive side, carriers may have secured base cargoes to fill their ships at a low price; however, this puts more pressure on the Top 30 to try and recover revenue from the spot market. Drewry believes that volatility in the spot market will remain high this year.

Analysts further note that while supply and demand remain key drivers of freight rates across all trades, those carriers cutting their costs are also better equipped to offer lower rates. “In real terms, they’re in fact passing back these benefits to shippers,” says Neil Dekker, Drewry’s director of container research.

Industry unit costs per twenty-foot units (TEUs) are forecast to decline by 2.5 percent this year, and strategies such as slow steaming and distribution network re-designing are crucial to this. “Yet, carriers will struggle to make a profit because we’re also forecasting unit revenues to decline by a similar amount,” says Dekker.

The blocking of the P3 Global Alliance (comprising Maersk, Mediterranean Shipping Company, and CMA-CGM) by the Chinese authorities is also disappointing for the industry because it was an excellent opportunity to help stabilize the main trades in terms of capacity management and efficient use of assets, say analysts.

“That chance is now missed,” says Dekker. “A mature debate is required to help balance the benefits of higher economies of scale, alliance consolidation, and the need to control an oligopoly of mega alliances.”

According to Dekker, the huge task of adequately matching supply and demand at the global level and on a consistent basis—which ultimately helps to drive freight rates—is simply beyond the industry. “We do not mean this as a condescending insight,” he hastens to add. “This is an industry where accurate volumes on many trade lanes are unknown, simply because there is no unified and agreed system of accounting.”

Because accurate volume forecasts are difficult to obtain from all but a handful of global shippers, the containerized shipping industry will continue to face daunting challenges, Drewry maintains. “This is an industry where the constant desire to launch bigger ships in order to reduce unit costs can only ever logically be at odds with the aim of matching supply and demand,” concludes Dekker.

Trans-Pacific trends
That trend may be addressed this fall, however, as member container shipping lines in the Transpacific Stabilization Agreement (TSA) attempt to forge an across the board general rate increase (GRI) of at least $600 per FEU to all destinations. Time will tell, however, if the recently imposed hike sticks.

“Lines have made modest revenue gains to date this year, but they continue to struggle in terms of returning to profitability,” says TSA executive administrator Brian Conrad. “In most route segments they are operating at or near full capacity with little room for error in managing assets, so this increase is needed as a cushion to cover costs and assure service choice and reliability.”

Carriers had filed increases in their individual tariffs in late July and subsequently began notifying shippers directly. TSA lines said that the planned GRI follows strong cargo demand and high vessel utilization levels in recent months, which forward bookings suggest will continue through September.

With equipment, inland transport, and other cargo handling costs rising steadily, carriers see higher baseline rates going into 2015 as essential to maintaining adequate service levels over time. Analysts warn that the Far East routes to both the U.S. West and East Coasts seem exposed to a gradual deterioration of freight rates as the peak season passes by and winter service programs for the liner operators picks up. All of this is subject to solid demand growth in their quarter of this year.

But the same shippers who opposed the P3 Alliance are expected to resist value-added pricing, says Chris Welsh, secretary general of The Global Shippers’ Forum (GSF). Based in London, the GSF is an umbrella organization of shippers’ associations such as the National Industrial Transportation League (NITL).

“We intend to leverage our concentration of collective volume to keep additional costs in check,” says Welsh. “These include unsubstantiated shipping surcharges, terminal charges and more than 20 other non-negotiable local charges being imposed on shippers worldwide.”

Carriers onward
Objections by China and international shipper consortia spelled doom for the P3 Alliance, acknowledge industry experts. However, they contend that market forces driving carrier consolidation continue to gain steam.

The carriers of the G6 Alliance—APL, Hapag-Lloyd, Hyundai Merchant Marine, MOL, NYK Line, and OOCL—have extended their cooperation beyond the Asia-Europe trade and into the Atlantic and Pacific, and there’s now speculation that Maersk Line and Mediterranean Shipping Co. could eventually operate ships of up to 19,200 TEUs on east-west trades that touch the U.S. within their planned “2M Network.”

Meanwhile, the formerly “ever independent” Taiwanese carrier Evergreen has teamed up with the CKYH Alliance partners Cosco, K Line, Yang Ming, and Hanjin, thereby becoming the fifth member of what is now the CKYHE alliance. And finally, there’s the retreat of Zim from the Asia-EU trade, and CSAV has announced the sale of its container-shipping operation to Hapag-Lloyd.

So, what does all this mean for shippers? “In these years where the carriers have a strong focus on reducing their costs, it seems significant opportunities are present if they were able to improve their on-time performance,” says Alan Murphy, COO of the Danish consultancy SeaIntel.
“With improved on-time performance, shippers would receive a product more in line with what was promised, and that should hopefully also prove a significant market driver, even in these troubling times.”

“Unbundling” logistics
Alphaliner’s maritime analysts in Paris cite another development worth noting: Carriers are returning to their core competencies by “unbundling” logistics affiliates.

When Sea-Land, APL, and Maersk started to provide cargo consolidation services in the 1970s, the carriers extended their intermodal capabilities beyond the provision of end-to-end container transportation. This led to an increase in demand for integrated supply chain management and third-party logistics (3PL) services, which grew significantly in the last two decades into major independent business units for these carriers—eventually becoming Damco and APL Logistics.

Other carrier affiliated logistics companies, such as Yusen Logistics and MOL Logistics, were formed initially to provide air and ocean freight forwarding services before moving into contract logistics.

“In the last decade, carriers such as Maersk and APL sought to expand the supply chain management capabilities of their 3PL arms to further differentiate their ocean freight services and to increase their competitive advantage through vertical integration with the bundling of logistics services with ocean transportation,” says Stephen Fletcher, CCO and commercial director AXSMarine and Alphashipping. “The logistics activities also provided a more stable source of income than the volatile ocean freight market.”

However, the strategy appears to be unraveling. Damco reported a third consecutive quarter of operating losses last month, while APL Logistics could be divested, according to a statement by parent company NOL. Meanwhile, several other carriers have also disposed of their logistics arms, including the mega carrier Cosco.

Commanding profits
That disposal of their logistics operation is part of a cautionary tale for China Cosco Holdings, which reported losses of $338 million so far this year, thereby gaining the attention of China’s state council, the nation’s governing cabinet.

“Shipping is a key component in economic development and plays an important role in protecting a country’s maritime rights and economy, in promoting exports, and industrial development,” contend state council spokesmen. Analysts add that, given its command economy, China is not about to allow its national commercial fleet to fail. In fact, Cosco is now scrapping surplus vessels and readying itself for a rebound in container volumes.

“China has introduced tax and other regulatory reforms while pushing shipping firms to upgrade and modernize their fleets to build an efficient, safe, and environmentally friendly shipping system by 2020,” observes China expert Rosemary Coates, president of Blue Silk Consulting. “This represents a big advantage that other commercial ocean cargo carriers simply don’t have.”

U.S. shippers may also be aware that the U.S. Federal Maritime Commission (FMC) is unlikely to approve the proposed “2M” alliance between container shipping giants Maersk Line and Mediterranean Shipping Co. before consulting with Chinese regulators.

As for the other Top 30 players, analysts maintain that sustainable service levels must be locked in by the time the next peak season kicks in. This truth was demonstrated by China Shipping Container Lines (CSCL), which moved into the black last June without government assistance or incentives.

And it keeps looking better for CSCL, observe analysts. The carrier plans on joining CMA CGM and United Arab Shipping Corp. (UASC) in yet another a vessel-sharing agreement, this one dubbed “Ocean Three” and representing the last bit of carrier consolidation for 2014.

Shipping analysts are expected to weigh in soon on the potential impact of this latest consolidation effort will have on the marketplace. However, it’s likely that they’ll come to one conclusion: Rates will become firmer as capacity is better utilized. In turn, logistics managers should brace themselves for tougher negotiations in 2015.